Bad News From Your Friend at the IRS

You may not realize it, but you have a friend at the IRS. Her name is Nina Olson, and she's the "Taxpayer Advocate." Olson and her 2,000-person staff are an independent organization within the IRS, charged with cutting through IRS red tape when the Service can't get the job done itself. Are you stuck between cogs in the IRS machine? Have you experienced a delay of more than 30 days to resolve your issue? Have you not received a response or resolution to your problem by the date the IRS promised? If so, Nina Olson and her 1,400 Case Advocates throughout the IRS are waiting to help.

Earlier this month, Olson released her 762-page Annual Report to Congress. And it's not pretty. In fact, it probably reads a lot like what your report on the IRS might read if your job was to dig up problems:

• The tax system is a mess. It's nearly 4 million words long, with over 4,680 changes since 2001 — an average of one per day. Complying with tax laws consumes the equivalent of 3 million full-time workers annually. And only 16% of Americans think the tax code is "fair." (That puts the tax code slightly above Congress, at 9%, but still lagging Donald Trump, cockroaches, brussel sprouts, and NFL replacement refs.) That 4-million word code tops the problem list — her report calls for overhauling the tax laws, eliminating "sunset" clauses like the expiration of the Bush tax cuts that led to the recent "fiscal cliff" crisis, and eliminating phase-outs that deny benefits as your income increases.
  
• The Alternative Minimum Tax, a parallel tax system originally introduced to make sure that high-income taxpayers don't take advantage of too many deductions and credits to skate by without paying their fair share, is an even bigger mess. The AMT was never indexed for inflation until this month's "fiscal cliff" bill, so Congress repeatedly had to "patch" it to keep it from reaching even further into the middle class. The result, Olson writes, "is one law that grants popular tax benefits (the regular tax code), another law that eliminates the benefits (the AMT), and then yet a third law that undoes the elimination of benefits (the patches), usually at the last minute — a legislative Rube Goldberg contraption of unnecessary complexity." Her recommendation? Scrap it.
• "Customer service" is a disgrace. Telephone and correspondence services have deteriorated over the last decade. Online services are primitive. "Processing flaws" and service delays are undermining taxpayers' rights to representation. In some cases, IRS rules actually discourage taxpayers from complying with the law. For example, the Offshore Voluntary Disclosure Program, which lets taxpayers who failed to report foreign financial accounts come clean, actually scares folks who inadvertently failed to report them and keeps them from 'fessing up.
• Finally, the IRS is underfunded. (Yeah, we didn't think you would be as happy with this one.) Olson likens the IRS to the government's "accounts receivable" department, and reports that they bring in seven dollars for every extra dollar they spend. “It is ironic and counterproductive that concerns about the deficit are leading to cuts in the I.R.S. budget, when those cuts are making the deficit larger,” says Olson. “No business would fail to fund a unit that, on average, brought in $7 for every dollar spent. Shareholders would rebel and bring lawsuits, or at least oust the management or board of directors.”

Are you thoroughly depressed yet? It gets worse. That's because these are essentially the same recommendations Olson has made in every Annual Report she's filed with Congress since 2001. And yet, we still have an offensively complicated tax code, a ridiculously ineffective Alternative Minimum Tax, and hideous thickets of bureaucracy that just drain taxpayers' souls.

The solution for you, of course, is a proactive plan takes advantage of the code's hidden opportunities, steers clear of its hidden shoals, and keeps you out of the bureaucracy. If you don't have a plan yet, isn't it time you get one?

The Best Investment in Today's Economy

Investing isn't easy these days. Bank savings accounts and money market funds earn next to nothing. Bond yields are at historic lows. The stock market is at a recent high, but full of volatility. And alternative investments like real estate and private equity can be illiquid or bring with them other drawbacks.

If you're a corporate treasurer, you might consider investing in a Washington lobbyist. Back in 2009, three professors conducted a study revealing that companies who helped lobby for one particular tax break earned a staggering 22,000% return on every dollar they invested in lobbying! (For those of you who didn't major in accounting, that's $220 dollars coming back on every dollar going in.)

Back in 2004, when Congress was considering the American Jobs Creation Act, an ad-hoc group calling itself the Homeland Investment Coalition lobbied for it to include a "tax repatriation holiday." Multinational corporations often structure their operations to earn profits overseas, then leave those profits overseas to avoid U.S. tax. The repatriation holiday cut the regular tax rate on those profits from 35% to just 5.25%, which encouraged them to bring those profits back home. The stated goal, naturally, was for those companies to reinvest those profits and create new jobs.

More than 800 companies ended up celebrating the "holiday." Together, they saved an estimated $100 billion in tax, which certainly sounds worth celebrating! Winners included pharmaceutical and technology companies (Pfizer, Johnson & Johnson, and Merck), technology companies (Hewlett Packard and IBM), and financial services (Citigroup, J.P. Morgan Chase, Morgan Stanley, and Merrill Lynch). Not all of those companies "invested" in lobbying for the law, but even those that did, won big. For example drug maker Eli Lilly reported spending $8.5 million to lobby for the tax break in 2003 and 2004 — and saving more than $2 billion in tax. Not a bad "ROI"! (The jury is still out on whether the law actually created any jobs — many of its beneficiaries actually cut jobs after the tax break, and most of the money went to stock buybacks or dividends.)

Of course, not every lobbying "investment" pays off. Sometimes lobbyists strike out. And successful lobbying is harder in today's hyper-partisan gridlocked Congress. But shrewd lobbying still pays off. The New York Times reported earlier this week that lobbyists representing Amgen, the world's largest biotechnology firm, completed a "Hail Mary" pass by tucking language into the recent "fiscal cliff" bill. The provision delays a set of Medicare price restraints on a category of drugs that that includes Amgen's own Sensipar. This legislative goodie is estimated to benefit Amgen and other drug makers by $500 million over the next two years. And it comes just two weeks after Amgen pled guilty to marketing another one of its drugs illegally, agreeing to pay a record $762 million in fines and penalties! And while the new law isn't a tax provision, p er se, it still illustrates the power of lobbying.

Individual taxpayers like you and me can't lobby for millions in tax breaks. But we can take advantage of the hundreds of tax breaks that somebody else has already created. The key, of course, is research to find those breaks and planning to take advantage of them. That's why we focus so much effort on proactive planning.

Consider this as the 2013 tax season approaches. Any competent tax preparer can put the "right" numbers in the "right" boxes on the "right" forms. But then, most of them pretty much call it a day. They really just help you record history. Our job is much broader and much more valuable. So call us when you're ready to start writing your own history! And remember, we're here for your family, friends, and colleagues, too.

Her Majesty, the Snoop

Getting audited by the IRS is rarely any one's spot of tea — unless, of course, you're the auditor. But at least our IRS "plays fair" and uses your actual return to decide whether to audit you. Not so for the folks at Her Majesty's Revenue and Customs Service across the pond!

Here in the former colonies, the IRS uses statistical analysis to find most of their audit targets. Every return gets a super-secret score called a Discriminant Information Function, or "DIF." The higher your DIF, the more potential the IRS sees for bringing in additional taxes in an audit. So, with limited resources available for auditing returns, the IRS naturally strives to audit the higher-scoring returns first. (It's like why Willie Sutton robbed banks — because that's where the money was!) Generally, small businesses organized as sole proprietorship's face the greatest chance of audit — as high as 4% or more — because they have the greatest opportunity to under report income and overstate deductions.

But back in the old country, HMRC is getting a little more aggressive. They're not just looking at tax returns. They've just announced a new program to use credit checks to find suspected tax cheats. The plan is to cross-check details of the income people report on their return against their actual spending, to identify those at risk of both legal and illegal tax avoidance. Officials have just finished a pilot program involving 20,000 people — but they expect to expand it to as many as two million. Blimey!

The program sounds straightforward enough. Let's say you operate Ye Olde Cock & Bull Pub in a small town somewhere outside London. You report £20,000 in income. But your credit file shows you spending closer to £30,000. Now ye olde tax authorities have reason to believe you're not reporting all those pints of Boddingtons you've served — and they have actual evidence to make their case.

The problem, of course, comes when the program finds stashes of suspicious but legitimate assets. Let's say you're Robert Crawley, the 6th Earl of Grantham. Your own family money, which dated back to the Wars of the Roses, is long since gone. So you marry an American heiress. You make a genteel living managing Downton Abbey and occasionally sitting in Parliament. But if HMRC reviews your credit file, they're likely to find spending way out of line with your stated income! You can explain it, of course, as part of your wife Cora's inheritance. But who wants to have to explain that sort of thing to the tax man, even if you are paying your fair share?

Of course, the program also raises enormous privacy concerns. It's fashionable to say that in today's Internet age, privacy is a relic of the past. But it's also hard to see a program like that flying here in the United States — at least not without howls of protest.

We all know that proactive planning is the key to paying the least amount of tax allowed by law. But did you know that planning can also cut your chance of getting audited? Reorganizing your sole proprietorship as a partnership or subchapter-S corporation, for example, can cut your risk of audit by as much as 90%. So call us when you're ready for a plan that lets you pay less tax and attract less attention!

More Than Meets the Eye

We usually try and keep these dispatches light and entertaining. We know you'd rather read about "Tax Strategies for Somali Pirates" than, say, the latest regulations governing domestic international sales corporations. But every so often it's time to put on our serious face, and this is one of those times.

By now, of course, we all know that Congress spent their New Year's crafting a last-minute deal to avoid a "fiscal cliff" disaster. The "American Taxpayer Relief Act of 2012" extended the Bush tax cuts, permanently, for incomes up to $400,000 for single filers and $450,000 for joint filers. Ordinary income above those thresholds will be taxed at 39.6%; corporate dividends and long-term capital gains will be taxed at 20%. The Alternative Minimum Tax is "patched" for good, and the estate tax is eliminated for estates under $5 million.

If your income isn't quite that high, you may think you've just dodged a bullet. But the sad reality is, you're probably already paying more tax, even if your income is nowhere near $400,000:

• The fiscal cliff legislation includes provisions phasing out personalized exemptions and itemized deductions for singles earning over $250,000 and joint filers earning over $300,000. You'll lose 2% of your personal exemptions for every $2,500 over the threshold. And you'll lose $3 of your itemized deductions, up to 80% of the total, for every $100 of income above the thresholds.
  
• The 2% payroll tax "holiday" that we enjoyed in 2011 and 2012 is over, and won't be coming back.
• Finally, the new Medicare tax provisions of the Affordable Care Act take effect. Medicare taxes on earned income go from 2.9% to 3.8% on incomes above $200,000 ($250,000 for joint filers). And there's a new "unearned income Medicare contribution" on "Investment income" (interest, dividends, capital gains, rents, royalties, and annuities) above those same thresholds.

Here's the bottom line. If you woke up on January 2, read the headlines, saw "$400,000," and thought you were safe, think again.

On the bright side, fiscal cliff legislation extends all sorts of tax breaks that were in danger of expiring. These include expanded first-year expensing and bonus depreciation deductions for business equipment, tax-free charitable gifts from IRA accounts, expanded student loan interest, and even the above-the-line deduction for educator expenses. The bill even extends a critical break for NASCAR track owners, letting them write off land improvements and support facilities over just seven years instead of fifteen! (If you happen to own a "motorsports entertainment complex," you really need to call us for planning!)

The tax provisions of the fiscal cliff legislation run over 80 pages. Even the Senate explanation takes up 15 pages. So we're still doing our homework and sorting out all the opportunities. But we can promise you that we're here to help make the best of the new law. And remember, we're here for your family, friends, and colleagues, too!

Dying to Save Taxes?

2013 is here, and after months of post-election sound and fury, we took a quick "test leap" off the dreaded "fiscal cliff." Look out below!

By this point, we're all familiar with the income tax consequences of the cliff. The Bush tax cuts expired, as scheduled, on December 31, sending everyone's taxes up. The 2% payroll tax holiday expired at the same time, with no hope of resuscitation. The Alternative Minimum Tax (AMT), which up until this week had never been indexed for inflation, still hadn't been "patched" for 2012, meaning it would catch 27 million more Americans in its claws. There are even new Medicare taxes and a 3.8% "unearned income Medicare contribution" on earned income and investment income for individuals earning over $200,000 and joint filers earning over $250,000. (Okay, those new Medicare taxes aren't technically part of the "fiscal cliff" — but they don't give upper-income earners much reason to cheer 2013, either!)

But the fiscal cliff also threatened some dramatic estate tax changes as well. Taxpayers dying on December 31 could leave a tax-free $5.12 million "unified credit" to their heirs, and pay a 35% rate on any balance above that amount. On January 1, however, that unified credit shrank to just $1 million — and the tax itself jumped to 55%. Die on December 31 with a $3 million estate and owe Uncle Sam nothing. Die just one day later, and pay a $1.1 million tax. That's one awfully expensive day!

Of course, Washington spent New Year's Day scrambling its way back from the cliff. As we now know, we'll keep the Bush tax rates on incomes up to $400,000 ($450,000 for joint filers) and get a permanent AMT fix. As for estate taxes, the unified credit stays the same and the rate climbs to 40%.

So, here's an awkward question, moot as it now may be. With such large estate taxes at stake, would millionaires choose to die early to spare their heirs the risk of higher taxes?

You probably won't be shocked to learn that determined patients can literally will themselves to delay death past important dates like birthdays, holidays, and anniversaries. Hospitals saw death rates drop significantly in the last week of 1999, only to increase by similar amounts in the first week of 2000. That suggests that patients were determined to catch at least a peek at the new millennium.

A similar but happier phenomenon can occur when it comes to giving birth. In 2004, the Australian government gave taxpayers a $3,000 new baby bonus, starting on July 1. A 2009 study found that as many as 1,000 births were delayed to take advantage of that windfall.

But dying early to save estate taxes? Really . . . ?
Well, believe it or not, yes. A 2003 study published in the The Review of Economics and Statistics by two economics professors asked if changes in estate tax rates affected mortality rates — and found that for individuals dying within two weeks of a tax reform, a $10,000 change in estate taxes increased the chance of dying in the low-tax period by 1.6%. This is hardly surprising when living longer let people claim the savings. But the authors even found evidence of people dying sooner to avoid the increases. (That's especially ironic considering that, by definition, nobody gets to enjoy saving tax on their own estate!)

We've said all along that proactive planning is the real key to paying less tax. And smart tax planning lets you pay less and even live to enjoy it! So, we're glad that you're reading these words, and we promise we're here to answer all your questions on the "American Taxpayer Relief Act of 2012"!