Monthly Archives: June 2015

Tax Rules for Exchange Traded Funds (ETFs)

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ETFExchange-traded Funds (ETFs) have been around for about 20 years and are similar to mutual funds. Like mutual funds, ETFs are an investment structure that pools the assets of its investors and uses professional managers to invest the money to meet the investors’ objectives, such as current income or capital appreciation.

Unlike mutual funds, ETFs are traded like stocks.  All the buying and selling methods available to stock investors are also available to ETF investors.  These buying and selling methods include market orders, limit orders, stop orders, and buying on margin.  These methods are not available for mutual fund investments.

What is an ETF?

An ETF is created when an institutional investor deposits securities into a fund in exchange for shares.  Once the institutional investor acquires the ETF shares, some or all of the ETF shares may be traded and priced throughout the day on a stock exchange.  Individuals do not purchase shares in an ETF directly from the fund; instead, individuals purchase ETF shares on the stock exchange in the same manner they would when they purchase stock shares.

ETFs have the following characteristics:

  • no sales loads (although brokerage commissions apply)
  • they can be bought and sold throughout the day; mutual funds can only be redeemed at the end of the day
  • ability to buy on margin (not available for mutual funds)
  • ability to sell short (not available for mutual funds)
  • relatively low management fees (typically from 0.15% to 1.0%)
  • instant exposure to a diversified portfolio of stocks

ETF Tax Benefit Not Available to Mutual Funds

Because of the way ETFs are structured, they offer an advantage that mutual funds do not.  When mutual funds are redeemed, the mutual fund will sell securities to cover the cash paid to the investor.  When this happens, the sold securities generate capital gains which are taxed to the mutual fund investors.

With ETFs, redeeming investors do not receive cash.  Instead of cash, they receive the underlying securities that the ETF invests in.  Therefore, the ETF does not have to sell securities to cover redemptions and there is no capital gain generated.  When ETF investors want to cash out, they simply sell the ETFs shares on a stock exchange.

ETFs can invest in commodities; however, these ETFs are subject to special rules.

Precious Metal ETFs Organized as Grantor Trusts

An investment in a precious metals ETF may be treated as a direct investment in a collectible.  Collectibles are subject to the higher capital gains tax rate of 28%.  Additionally, collectibles generally are not allowed for IRA investments.  If an IRA invests in certain precious metals, the investment will be treated as a taxable distribution (potentially subject to the 10% penalty).

Foreign Currency ETFs Organized as Grantor Trusts

Generally, foreign currency gain or loss is considered ordinary income so the favorable capital gains tax rates do not apply.

If you have questions on how this relief applies to you, give us a call at 248-538-5331.


Avoid the 10% Penalty on Early Retirement Distributions

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penaltyThere is a penalty for receiving distributions from retirement plans (such as qualified plans and IRAs) prior to reaching age 59½.   The penalty is 10% of the amount withdrawn, and is in addition to federal, state, and local income taxes.  Fortunately, there are situations where the 10% will not be imposed.  Unfortunately, even if the 10% penalty is avoided, the taxpayer will still be liable for income taxes on the distribution.  There are exceptions that apply to both qualified plans and IRAs, exceptions that apply only to qualified plans, and exceptions that apply only to IRAs.

Exceptions to the 10% Early Withdrawal Penalty for Both Qualified Plans and IRAs

Distributions made on or after the account owner’s death

Distributions attributable to the account owner becoming disabled

Distributions that are part of a series of substantially equal payments (an annuity) for the life of the account owner or the joint lives of the account owner and a designated beneficiary.

Basically, if the retirement account is annuitized over the life of the account owner, the account owner will not be subject to the 10% penalty.  While the annuity is calculated over the life expectancy of the account owner, the annuity will only have to last through the later of (1) five years after the annuity begins or (2) the date the account owner reaches age 59½.  For qualified plans, this exception only applies after the account owner separates from service.

Distributions to the extent of deductible medical expenses

If the account owner paid medical expenses during the year and the medical expenses exceeded 10% of AGI (7.5% of AGI for taxpayers age 65 or older through 2016), the distributions equal to the excess of medical expenses over the 10% of AGI won’t be subject to the penalty.

Distributions made on account of an IRS levy on the retirement plan

If the IRS directly levies a retirement account, the levy (distribution) will not be subject to the penalty.  This exception does not apply if the account owner receives a distribution in order to pay the IRS balance—the IRS must directly levy the account.

Qualified reservist distributions

There is an exception for distributions to reservists (Army National Guard, Army Reserve, etc.) who are ordered or called to active duty for a period of more than 179 days or for an indefinite period, and where the distribution was made no earlier than the date of the order or call to active duty and no later than the close of the active duty period.

Exceptions to the 10% Early Withdrawal Penalty for Only Qualified Plans

Made to an employee after separation from service after reaching age 55.

This exception only applies if the account owner separates from service (quits, gets fired, etc.) after reaching age 55.  It would not apply, for example, if the employee separates from service at age 54 and receives a distribution after reaching age 55.

Paid to an alternate payee under a Qualified Domestic Relations Order.

Qualified plans can be divided in divorce.  When the spouse of the account owner receives a portion of the qualified plan, the spouse can receive distributions from the qualified plan without being subject to the 10% penalty.  The account owner (employee) will still be subject to the 10% penalty on premature distributions he/she receives.

Exceptions to the 10% Early Withdrawal Penalty for Only IRAs

For first time homebuyers (up to $10,000)

First time homebuyer doesn’t literally mean first timeFirst time homebuyer is defined as not having an ownership interest in a principal residence during the two year period ending on the date the new home is acquired

Used to pay higher education expenses

Distributions equal to medical insurance premiums for workers who have received federal or state unemployment benefits for 12 consecutive weeks.

Under this rule, the 10% of AGI limitation does not apply.

If you have questions on how this relief applies to you, give us a call at 248-538-5331




IRS Rewards Whistleblowers

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In 2006, the IRS revamped its whistleblower award program.  The program had been a discretionary program where the IRS could provide an award for a whistleblower, but it was not required to do so.

The federal government achieved great success with its whistleblower program related to the False Claims Act (where people/companies are subject to penalties for defrauding government programs).  Whistleblower claims under the False Claims Act brought in approximately $42 billion between 1986 and 2006, compared to $340 million brought in by the IRS whistleblower program between 2001 and 2005 (about $1.36 billion adjusted for the difference in measurement periods).

In 2006, Congress decided to revamp the IRS whistleblower program.

The Revamped IRS Whistleblower Award Program

The key provisions of the IRS whistleblower reward program are:

  • the whistleblower has a right to an award. Payment is mandatory, not discretionary as it had been in the past
  • a floor and ceiling have been provided for rewards. The floor is 15% of the government’s revenue and the ceiling is 30%.  There is no dollar cap on the whistleblower’s reward
  • the whistleblower has a right to appeal to the Tax Court on any award decision by the IRS (e.g., the whistleblower wants to dispute the amount of the award)
  • a whistleblower office has been created at the IRS, reporting directly to the Commissioner.

The whistleblower program applies only to disputes involving more than $2 million (including taxes, penalties, interest, and additional amounts).  If the target is an individual, the individual’s gross income must exceed $200,000 for any tax year at issue.  As you can see from these amounts, the IRS is focused on going after bigger dogs.

What Information Needs to be Submitted?

Whistleblowers report the information to the IRS on Form 211.  Whistleblowers should file Form 211 as soon as possible.  If the IRS takes action before this form is filed, the whistleblower will not qualify for a reward.

The form requires the whistleblower to identify the target by providing name, address, and, if known, date of birth and taxpayer identification number.  Whistleblowers must describe the facts,  name the relevant players in the issue, explain the relevant law, and describe the available documentation to support the claim as well as who has custody of the proof.

Whistleblower’s Identity is Protected (but not always)

The IRS protects the whistleblower’s identity.  However, the protection is not absolute.  In practice, the IRS will work closely with the whistleblower on potential disclosure of the whistleblower’s identity and strongly seek to avoid disclosure unless absolutely necessary (e.g., grand jury disclosure).

A good claim involves ongoing or recent tax issues, and does not cover years that are closed under the statute of limitations.

Patience, Patience

Finally, it is important to remember that even if the IRS pursues a whistleblower claim, it is a long, long road, including review, examination, taxpayer response, appeals, etc.  It can be several years until the process is complete and the whistleblower receives an award.

If you have questions on how this relief applies to you, give us a call.


Buzzkill Disclaimer:  This post contains general tax information that may or may not apply in your specific tax situation. Please consult a tax professional before relying on any information contained in this post.

Hiring Someone? You Must Have Employees Fill Out These Forms.

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Most employers know that when they hire a new employee, they must have the employee fill out a Form W4 so the employer can determine the amount of taxes to withhold from the employee’s paycheck.  Unfortunately, there are other forms new employees must fill out or the employer could be subject to penalties.  This post will describe those other forms.

Form I-9

Form I-9 is required to document verification of the identity and employment authorization of each new employee (both citizen and noncitizen) to work in the U.S.  Employers are responsible for completing this form and retaining the form.

Newly hired employees must complete and sign Section 1 of the form no later than the first day of employment.  Under this section, the employee states his citizenship/residency status under penalty of perjury.  The employer must then obtain documentation that verifies the employee’s identity and employment authorization.  This can be done by obtaining a copy of the employee’s driver’s license and Social Security Card, although other forms of documentation may be obtained.

Michigan New Hire Reporting Form

Federal law requires employers to report information about newly hired and rehired employees to a state agency within 20 days of the hire/rehire.  The information on this form is matched with state and national data to help collect child support through income withholding and reduce fraudulent unemployment and workers’ compensation payments.

A copy of the Michigan New Hire Reporting Form can be obtained here.

Affordable Care Act Notices

This requirement came into existence two years and is described in more detail here.  An employer covered by the Fair Labor Standards Act must provide each of its employees (part-time and full-time) with a notice informing the employees of their right to enroll in health insurance coverage through a state insurance marketplace (exchange).

Employers who have at least 1 employee engaged in commerce and who have gross annual sales of $500,000 or more are covered by the Fair Labor Standards Act.  So many employers are subject to this requirement.

The Department of Labor has two model forms employers can use to give to their employees.  If you already provide health coverage for your employees, use this model form.  If you do not provide health coverage for your employees, use this model form.

Form W-4

Finally, employees fill out Form W-4 so their employers can determine how much estimated tax should be withheld from the employees’ paychecks.   If an employee’s allowances under state income tax differ from the number of allowances under the Federal Form W-4, the employee may fill out a Form MI-W4 to claim a different number of allowances for state income tax purposes.

If you have questions on how this relief applies to you, give us a call.



Buzzkill Disclaimer:  This post contains general tax information that may or may not apply in your specific tax situation. Please consult a tax professional before relying on any information contained in this post.


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