As the clock counts down to the November elections, Congress is busy introducing many new tax proposals but the chances of these bills becoming law are slight. Both parties are pushing small business tax breaks, including credits for hiring, income exclusions, and extension of bonus depreciation. I discuss these proposals in more detail below. I also highlight for you new IRS rules, including annual reporting of employment taxes, rules for implementation of the Obama health care plan, and a description of tax benefits for higher education. Finally, please see the client advisory section regarding the increasing problems of identity theft and of the IRS contacting you without authorization.






The IRS Commissioner Douglas Shulman recently gave a brief review of tax filings and IRS operations to a subcommittee in the House of Representatives. In fiscal year 2011, the IRS collected $2.4 trillion in taxes, processed 144.7 million individual tax returns, and issued $345 billion in refunds. This tax season, the IRS had 5,000 fewer employees, and this caused delays in refunds and in hold times on IRS tax helplines. Repeating a theme from prior years, Commissioner Shulman warned Congress that it must address expiring tax provisions before the end of this year to avoid delays in next year’s filing season. The Bush tax cuts will expire at the end of 2012, along with the 2% payroll tax cut. Shulman warned that if Congress does not act until late in the year, the IRS will not be able to open the 2013 filing season on time.




Officials at the IRS have offered the public a vision of a “real-time tax systems” where the IRS would use information reporting forms, such as your Form W-2 and your Form 1099, as an initial screen of reported income on your tax returns before accepting them. Under this preliminary audit system, the IRS would match your third-party income data against your initial tax filing to find discrepancies. It then would give you the opportunity to fix the tax return before final acceptance if it contains data that does not match IRS records.


IRS Commissioner Douglas Shulman said the real-time system would move away from the traditional “look back” model of auditing, and instead would allow the IRS to scrutinize returns when they are first filed. By contrast, today

the IRS analyzes tax returns much later in the process. It is not uncommon for a taxpayer to receive notice of a tax return problem 12 to 18 months after a tax return is filed. The IRS has held a series of public hearings on the idea, with most participants in favor of the plan. Still, as your tax professional, I have some concerns, including how it could affect filing deadlines. However, this is a long-term project for the IRS and is not likely to be implemented in the near future.




For the third year in a row, the IRS has increased its audit rate for millionaires, examining 12.48 percent of returns with $1 million or more in income in fiscal year 2011. The rate in 2010 was 8.36 percent of returns in that category.

The IRS attributed the increase to more compliance done on offshore accounts, where many high-wealth taxpayers have holdings. On the other hand, the audit rate for individuals with less than $200,000 in income was 1 in 100 for

the same period. For taxpayers above $200,000, about 1 in 25 was audited in 2011. The audit rate also increased for corporations with more than $250 million in assets to 27.6 percent, up from 25.3 percent in fiscal year 2010.


The IRS’s 2011 audits brought in over $55 billion last year as the overall audit rate for all individuals stayed at 1.1 percent. The audit rate for small companies (with assets less than $10 million) increased slightly to 1.02 percent in fiscal year 2011.




The IRS has set July 27, 2012 as the deadline for taxpayers to file requests for a Telephone Excise Tax Refund. The refunds are available for excise taxes paid on nontaxable services that were billed after February 28, 2003, and before August 1, 2006. You may be entitled to this refund. If so, you have to file an amended return for 2006. If you did not have to file a return in 2006, you can still file for an excise tax refund. Please contact my office to find out if you qualify for this benefit.






One thing both parties in Congress can agree on is that it is important for them to be perceived as supporters of small business by the time of the November elections. To that end, the House has passed a small business tax cut

bill sponsored by House Majority Leader Eric Cantor, R-Va., to give a 20 percent tax deduction for the domestic activities of small businesses. H.R. 9, the Small Business Tax Cut Act, was approved by the House of Representatives in mid-April. The deduction would be available to businesses employing fewer than 500 workers.

The bill does not require any new hiring, but rather would reduce taxes on small business profits from domestic activities. Cantor has estimated that the bill will impact nearly 22 million small businesses throughout the country.


Senate Democrats Offer Plan


Not to be outdone, the Senate Democrats have offered the Small Business Jobs and Tax Relief Act, S. 2237, sponsored by Senate Majority Leader Harry Reid, D-Nev. The bill proposes a 10 percent tax cut of up to $500,000 for small businesses that increase payrolls in 2012. The bill also incorporates an extension of 100

percent bonus depreciation for 2012. The 100% bonus depreciation expired at the end of 2011. For tax year 2012, bonus depreciation is only allowable at 50% and is abolished completely thereafter. The Obama Administration backs the Senate legislation.


Outlook: While it is doubtful that any tax legislation will be passed by both houses of Congress before the November elections, the most likely scenario would be a compromise on bonus depreciation and some form of small business tax cut along the lines contemplated in these two proposals. As your tax professional, I will be watching these developments closely to best advise you on whether or not you should be making further business property investments before the end of the year.




Congress and the President put aside their differences and managed to pass a full-year extension of the 2% payroll tax cut, through 2012. The reduced tax is reflected in your withholdings for the rest of the year, but will expire at the end of December. If Congress had not acted, the popular tax break was set to expire on February 29, 2012. The extention was signed by the President just short of that deadline. The Middle Class Tax Relief & Job Creation Act represents a $1000 per year tax cut for the average worker. The $150 billion legislation also extended unemployment benefits but cut their duration to between 63 and 73 weeks, depending on the unemployment

rate in the employee’s state.




As a backdrop for his reelection campaign, President Obama has proposed a 30 percent minimum tax rate on high-wealth taxpayers along with tax disincentives for U.S. companies outsourcing jobs overseas. Although most of

the proposals likely will not make it through a divided Congress during this election year, the proposals reflect the President’s tax platform. The Administration issued a report saying that nearly one-quarter of earners with an Adjusted Gross Income of more than $1 million had a lower effective tax rate than millions of middleincome taxpayers. The Joint Tax Committee estimates that implementing the “Buffet Rule” would raise about $46.7 billion over a 10-year period. Republicans were quick to criticize the measure, saying it would do nothing to improve the economy or help struggling families.


Anti-Outsourcing Provisions


On the business side, the Administration also has put forth anti-outsourcing tax proposals that would provide incentives for businesses to move operations back to the United States while denying deductions for moving operations out of the country.


Republicans Would Cut Top Rate to 25 Percent


The President’s plan was met with a swift reaction from Congressional Republicans who believe it represents a substantial tax increase on individuals and businesses. Senate Finance Committee ranking member Orrin G. Hatch,

R-Utah, said that the bottom 51 percent of all U.S. households are paying no federal income tax while households making more than $1 million pay an average of 29.1 percent of their income in federal tax.


The Republican-controlled House of Representatives passed its own tax measures as part of the budget. House Budget Committee Chairman Paul Ryan, R-Wisc., devised a plan which would replace the current tax rate schedule with two individual tax rates of 25 percent and 10 percent. It also would lower the top corporate rate to 25 percent and shift the U.S. to a territorial tax system. Ryan would pay for the tax cuts by eliminating other tax benefits which are not specified in the budget legislation. Ryan’s budget was passed by the House in March, but has little chance in the Senate.


Outlook: The introduction of these measures is essentially political maneuvering by both parties and both Houses of Congress. The players are lining up for the 2012 elections, and citizens can use the votes on these proposals to decide which side to support. For now, the competing tax plans provide an interesting preview of the direction tax policy may take after the November elections.




The health care law is under scrutiny from all sides. Earlier this year, the Supreme Court concluded three days of oral argument in a case challenging the constitutionality of the individual mandate in the health care law. A decision is expected before the Court recesses in June. Meanwhile, because much of the law will be administered by the IRS, House Ways and Means Committee Chair Dave Camp, RMich., and Oversight Subcommittee Chair Charles W. Boustany Jr., R-La., have written to IRS Commissioner Douglas Shulman asking for details on the amount of money and additional employees that may be required. The request comes after reports surfaced that the Obama Administration will give the IRS half a billion dollars to implement the health care law. In the letter, Rep. Camp specifically asked how many employees are being hired and which of the many tax increases in the health care law the new IRS employees will be working on. Camp points to a study by the Congressional Budget Office that the IRS could need up to $10 billion to implement the law over the next decade.






The 2012 standard mileage rate for computing the deductible costs of business automobiles is 55.5 cents per mile for 2012. The standard mileage rate for charitable miles is 14 cents per mile, set by Congress and unchanged from

2011. The standard mileage rate is 23 cents per mile for use of an automobile for medical care or moving.


If you use the deduction for business vehicles, you must treat a portion of the standard mileage rate as depreciation and reduce the basis of your vehicles. The basis of the vehicle is the cost of the vehicle, and your basis provides the measure for how much income you will have if you sell the property. Gain is determined by subtracting the basis of the property from the sales price.


A business vehicle’s basis must be reduced 21 cents per mile for 2008 and 2009, 23 cents per mile for 2010, 22 cents per mile for 2011, and 23 cents per mile for 2012. For purposes of computing the allowance under a Fixed and Variable Rate plan, the standard automobile cost may not exceed $28,000 for automobiles or $29,300 for trucks and vans.


You may not use the business standard mileage rate for a vehicle after you have used any depreciation method under the Modified Accelerated Cost Recovery System (MACRS) or after claiming an immediate expensing deduction for that vehicle. In addition, the business standard mileage rate cannot be used for more than four vehicles used simultaneously.


You do not have to use the standard mileage rate to take vehicle deductions. You always have the option of calculating the actual costs of using your vehicle rather than using the standard mileage rates given above.




The IRS has released limits on depreciation deductions for owners of passenger vehicles first placed in service in 2012. Separate tables are provided for trucks and vans. The new limitations reflect inflation adjustments.

For passenger vehicles that are not trucks and vans, the limit is $ 3,160 per vehicle. For trucks and vans, the limit is $ 3,360. Both limits do not take into account bonus depreciation. (Note that 100% bonus depreciation expired after 2011. Bonus depreciation for 2012 is 50%.)




After years of controversy, the IRS has issued new rules that relax the restrictions on passive loss deductions by LLC members who participate in the management of their businesses. Under the old rules, the IRS treated LLC members as “limited partners” presuming that they could not actively participate in managemen. This had the effect of disallowing loss deductions by LLC members by making it more difficult for them to prove that they “materially participated” in their business. Under the passive loss rules, if a taxpayer cannot prove material participation in a business activity, passive losses can only offset passive income and may not be used against other income on the return.


In the last three years, the IRS lost four court cases on this issue, as the courts concluded that LLC members are more like general partners because of their ability to participate in the management of the business. In response to those cases, the IRS now will look at an LLC member’s right to participate in management of the entity. If the LLC member has the right to manage the entity “at all times during the entity’s taxable year” under state law and under the LLC agreement, then the LLC member will not be treated as strictly a passive investor. The practical effect of this change is to allow LLC members to avoid the passive loss limitations and deduct any losses against other income. This may be welcome news for you, if you do business through an LLC or are contemplating

forming an LLC. If so, I would be happy to consult with you on the new rules.




The IRS has finalized the 2008 rules on reporting employment tax liability on annual Form 944 instead of quarterly reporting on Form 941. The new rules explain that participation in the annual reporting program is voluntary. The eligibility threshold for participation is if the employer has $1,000 or less in employment tax and withholding liability. Employers can opt out of the annual program.


While some employers find it is easier to file annually than quarterly, it is important that employers follow the rules carefully to avoid penalties. Employers may not file Form 944 until they receive written notice from the IRS that

they may participate in the program. Once an employer is in the program, the employer may not switch to quarterly filing until the employer gets notice from the IRS that the employer’s filing requirement has been changed to quarterly.


Given these complexities, I will be glad to help you select the reporting period that works best for your business.




Canceled debt is normally taxable, but there are exceptions. One of those exceptions is available to homeowners whose mortgage debt is partly or entirely forgiven during tax years 2007 through 2012. This debt will not be income to you if the debt is on your principal residence, but the debt must be under $2 million. Mortgage debt forgiveness generally occurs when a property is foreclosed (or is subject to a short sale) and the bank does not require you to pay any deficiency in the amount owed on the home.




Under the new health care law, employers must report the cost of group health insurance coverage to their employees on Form W-2. Employers are required to give their employees this information by January 31 of each year for the preceding calendar year. This reporting requirement took effect in 2011, for employers that file 250 or more Forms W-2. Employers that are required to file fewer than 250 Forms W-2 in 2011 are not subject to the reporting requirement for 2012. However, this threshold will be lowered in future years. I will be watching the

IRS rules on this reporting requirement closely to let you know about any change in the reporting threshold.




Beginning this year, you may receive a rebate on amounts you spent on health insurance premiums. Under the new health care law, a health insurer whose medical loss ratio does not meet minimum requirements must provide annual

rebates to its policyholders. Medical loss ratios essentially reflect an insurer’s profit margin. These rebates may be taxable to you. If in 2011 you deducted premiums paid for a health insurance policy as either an itemized deduction or as a self-employed health insurance deduction, any rebate may have to be included in your 2012 gross income. This treatment applies whether you received the rebate in cash or as a premium reduction. If you did not deduct the premiums, the rebate is not subject to federal income tax.




The IRS has set the inflation-adjusted limits for Health Savings Accounts for calendar year 2013. The annual limitation on deductions for an individual with self-only coverage under a high deductible health plan is $3,250. For calendar year 2013, the annual limitation on deductions for an individual with family coverage under a high deductible health plan is $6,450. A “high deductible health plan” is defined as a plan with an annual deductible that is $1,250 for self-only coverage or $2,500 for family coverage, and the annual out-of-pocket expenses (such as deductibles and copayments) do not exceed $6,250 for self-only coverage or $12,500 for family coverage.




If you are a farmer who had a futures trading account with MF Global, you may be eligible for penalty relief if you did not receive Forms 1099 from MF Global or its court-appointed trustee in time to file your 2011 calendar year tax return. Generally, farmers can avoid an estimated tax penalty if they file their returns and pay the full amount of tax shown on their return by March 1, 2012. An individual is considered a farmer if two-thirds of the individual’s total gross income for the taxable year or the preceding taxable year is from farming. Fishermen also qualify for this relief. The relief is necessary because the company MF Global filed for bankruptcy on October 31, 2011, after revealing that hundreds of millions of dollars in customer money was missing.


If you are a farmer or a fisherman, you can request a waiver of the estimated tax penalty. If you filed a return and an estimated tax penalty has been assessed, I can contact the IRS on you behalf to assist in getting your penalty abated.




For the past three years, the income limit for contributing to Social Security was $106,800. For 2012 it has increased to $110,100. This makes the maximum Social Security amount $6,826.20 ($110,100 x 6.2%) contributed by the employee and employer for 2012. For selfemployed individuals the maximum amount is $13,654.40 ($110,100 x 12.4%). The Medicare contribution base has no maximum amount for either the employer or employee.




The IRS has launched a new tool on its website to allow potential donors to check an organization’s exempt status. The “Select Check” allows you to search for organizations that are eligible to receive tax-deductible charitable

contributions or have had their tax-exempt status revoked. The Select Check data will be updated on the third Monday of each month for automatically revoked organizations and organizations eligible to receive deductible contributions. This service can be useful for you in determining whether your contribution to an organization will be eligible for a charitable contribution deduction. To access the service, see




Studies show that taxpayers have misconceptions about taking deductions for charitable contributions. To take charitable deductions, the documentation requirements are strict. You must keep good records throughout the year.

Here are some reminders to help you qualify for this important tax benefit.


• Only individuals who itemize deductions may claim a charitable deduction. If you do not itemize, you cannot get the deduction. You would only itemize your deductions if they are in excess of the standard deduction. For 2011, the standard deduction amounts were:


Single $5,800

Married Filing Jointly $11,600

Head of Household $8,500

Married Filing Separately $5,800

Qualifying Widow(er) $11,600


The standard deduction amounts are indexed for inflation each year.


• For a contribution of cash, check, or other monetary gift, you must have a bank record or a written communication from the organization containing the name of the organization, the date of the contribution, and the amount of the

contribution. This rule applies regardless of the amount you give.


• Clothing and household items donated must be accompanied by a receipt or statement of proof including: charity name, date, and description of property donated.


• Donated property worth more than $500 in value must be appraised and included on a special Form, 8232.

The tax rules have become very strict with regard to charitable contribution deductions, so make sure you keep these rules in mind when you make your donations.




The IRS is offering expanded relief to taxpayers who cannot pay their bills. Under its “Fresh Start” initiative, taxpayers can get penalty relief, enter into installment agreements or can file an offer in compromise under relaxed eligibility rules. Here are descriptions of the new options:


Penalty Relief: The initiative relieves some unemployed taxpayers from failure-to-pay penalties. The Fresh Start Penalty Relief Initiative gives eligible taxpayers a six-month extension to fully pay 2011 taxes. Interest still applies on the 2011 taxes from April 17, 2012 until the tax is paid, but the taxpayer will not face failure-topay penalties if the tax, interest and any other penalties are paid in full by October 15, 2012.


The penalty relief is available to two categories of taxpayers:


• Wage earners who have been unemployed at least 30 consecutive days during 2011 or in 2012 up to this year’s April 17 tax deadline.


• Self-employed individuals who experienced a 25 percent or greater reduction in business income in 2011 due to the economy. To qualify for this penalty relief, the taxpayer’s adjusted gross income must not exceed $200,000 if married filing jointly or $100,000 if the taxpayer’s filing status is single, married filing separately, head of household, or qualifying widower. The 2011 balance due cannot exceed $50,000.


Installment Agreements: The Fresh Start provisions give more taxpayers the ability to use streamlined installment agreements to catch up on back taxes and also more time to pay.


The new threshold for requesting an installment agreement has been raised from $25,000 to $50,000. The time period for full payment has been increased from 60 months to 72 months. This option requires that you give to the IRS limited financial information. The maximum term for streamlined installment agreements has been raised to six years from the current five-year maximum.


If your debt is more than $50,000, you can pay the balance down to $50,000 or less to qualify for this payment option. Interest continues to accrue on the outstanding balance. To qualify for the new expanded streamlined installment agreement, you must agree to monthly direct debit payments.


Offers in Compromise: The IRS also has expanded the Offer in Compromise program to cover more struggling taxpayers. An Offer in Compromise is an agreement between a taxpayer and the IRS that settles the taxpayer’s

tax liabilities for less than the full amount owed. Generally, an offer will not be accepted if the IRS believes that the liability can be paid in full as a lump sum or through a payment agreement. The IRS looks at the taxpayer’s income

and assets to make a determination regarding the taxpayer’s ability to pay.




There is a confusing array of tax benefits available to help you pay the cost of higher education. In recent years, the requirements for these tax benefits have changed while the amounts have increased. Two federal tax credits can go a long way to helping you pay for the rising costs of a college education for yourself or your dependents.

These are the American Opportunity Credit and the Lifetime Learning Credit. Here is a run-down of the rules for these credits.


To qualify for either credit, you must pay tuition and fees for yourself, your spouse or your dependent. The credit may be claimed by either the parent or the student, but not both. If the student was claimed as a dependent, the student cannot claim the credit.


For each student, you may claim only one of the credits in a single tax year. You cannot claim the American Opportunity Credit (maximum of $2,500.00) to pay for part of your daughter’s tuition charges and then claim the Lifetime Learning Credit for $2,000 more of her school costs. However, if you pay college expenses for two or more students in the same year, you can choose to take credits on a per-student, per-year basis. For example, you can claim the American Opportunity Credit for your sophomore daughter and the Lifetime Learning Credit for

your spouse’s graduate school tuition.


Here are some key facts about these valuable education credits:


The American Opportunity Credit


• The credit can be up to $2,500 per eligible student.

• It is available for the first four years of postsecondary education.

• Forty percent of the credit is refundable, which means that you may be able to receive up

to $1,000, even if you owe no taxes.

• The student must be pursuing an undergraduate degree or other recognized educational credential.

• The student must be enrolled at least half time for at least one academic period.

• Qualified expenses include tuition and fees, course related books, supplies, and equipment.

• The full credit is available to eligible taxpayers whose modified adjusted gross income is less than $80,000 or $160,000 for married couples filing a joint return.


Lifetime Learning Credit


• The credit can be up to $2,000 per eligible student.

• It is available for all years of postsecondary education and for courses to acquire or improve job skills.

• The maximum credited is limited to the amount of tax on your return. It is not a refundable credit.

• The student does not need to be pursuing a degree or other recognized education credential.

• Qualified expenses include tuition and fees, course related books, supplies, and equipment.

• The full credit is available to eligible taxpayers whose modified adjusted gross income is less than $60,000 or $120,000 for married couples filing a joint return.




FAFSA. An acronym that strikes fear in the heart of college students and their parents. This form, the Free Application for Federal Student Aid, must be submitted to the Department of Education to get almost any kind of financial assistance for higher education. The form requires detailed income information from the student and the parents, which largely comes from their individual tax returns. Now the IRS has developed an automatic tool that transfers tax information directly onto the FAFSA form.


Here are some tips on using the IRS Data Retrieval Tool:


• Benefits. The IRS Data Retrieval tool is a way to access and transfer tax return information directly onto the FAFSA form, saving time and improving accuracy. Also, the increased accuracy reduces the likelihood of your being selected for income verification by the school’s financial aid office.

• Eligibility Criteria. Taxpayers who wish to use the tool to complete their 2012 FAFSA form must:

• have filed a 2011 tax return;

• possess a valid Social Security Number;

• have a Federal Student Aid PIN (individuals who do not have a PIN will be given the option to apply for one through the FAFSA application process);

• have not changed marital status since December 31, 2011.


• Exceptions. If any of the following conditions apply to the student or parents, the IRS Data Retrieval Tool cannot be used for the 2012 FAFSA application:

• an amended tax return was filed for 2011;

• no federal tax return for 2011 has been filed ;

• the federal tax filing status on the 2011 return is married filing separately;

• a Puerto Rican or other foreign tax return has been filed.


• Alternatives. If the IRS Data Retrieval Tool cannot be used and if the college requests verification documents, it may be necessary to obtain an official transcript from the IRS. Let me know if you need to order tax returns or tax account transcripts from the IRS and I can assist you with this process.


To access the FAFSA application and new IRS tool, go to this web address: students/english/index.jsp







Identity theft occurs when someone commits fraud or other crimes using the victim’s personal information (name, Social Security number, etc.) without their permission. When it comes to federal taxes, you may not be aware that you have become a victim until you receive a letter from the IRS stating that more than one tax return was filed with your information. If you receive a notice from the IRS indicating identity theft, you must follow strict instructions if you want assistance from the IRS in securing your tax account.


Over the past year, the IRS has developed a comprehensive identity theft strategy that is focused on preventing, detecting and resolving identity theft cases as soon as possible. This includes using new identity theft screening filters

that improve the IRS’s ability to spot false returns before they are processed and before a refund is issued. The IRS also places identity theft indicators on taxpayer accounts to track and manage identity theft incidents.


I cannot stress enough how important it is to safeguard your personal information and to act quickly if you suspect that your identity has been stolen for fraudulent tax purposes.


Remember, the IRS never contacts taxpayers by e-mail asking for personal information. Be wary of any unsolicited letters, e-mails, or phone calls promising tax benefits.




According to a recent report by a Treasury watchdog, IRS representatives violated legal guidelines concerning direct contact with taxpayers in a small but significant number of reported cases. IRS employees are required by

law to:


• Stop a taxpayer interview whenever a taxpayer asks to consult with a representative.


• Obtain the immediate supervisor’s approval to contact the taxpayer instead of the representative if the representative is responsible for unreasonably delaying the completion of an audit or investigation.


The most common complaints involved IRS employees contacting taxpayers instead of their designated representatives, insisting on interviewing the taxpayer who had representation, or threatening to issue a summons in the beginning stages of an audit to compel the taxpayer to appear.


You should be aware that after a valid power of attorney is filed, the IRS must recognize and work through your chosen representative. Therefore, if the IRS contacts you directly and I am acting as your representative, tell them

that you are represented and that they should contact me to discuss your situation. Get the name and phone number of the person who calls you. Then, call me immediately with this information and I will follow up through the proper channels.


Thank You for Your Business


As your tax professional, I assure you that I will be keeping a watchful eye on Congress and on IRS actions which may affect your business and your tax filings in the New Year. I will be happy to address any concerns and answer questions you have about any of the issues covered in this newsletter. Thank you for the opportunity and privilege of allowing me to serve as your tax professional.


Best regards,

Stephen W. McKown


© 2018 Tax Center of Cary and Morrisville · 1103 Grace Park Dr., Morrisville, NC 27560 · Phone 919-380-0073