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IRS Provides Relief for Credit Card Sales Reported on 1099-K

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Beginning in 2011, credit card companies were required to report business’ credit card sales to the IRS via Form 1099-K.  This form reported a business’ total credit card sales for the year, and the form broke that sales figure down into monthly totals.

A substantial problem with this form was that the credit card sales reported on the 1099-K included sales tax and employee tips.

Example:  JoJo’s Restaurant has credit card sales (excluding sales tax) of $600,000 for 2011.   At the end of the year, JoJo’s Restaurant received Form 1099-K showing credit card sales of $731,400.  The reason the sales on the 1099-K is much larger than the actual credit card sales is because it includes sales tax of $36,000 plus tips of $95,400 (assuming a 15% tip rate).

Since the sales reported on Form 1099-K will almost certainly exceed actual sales, businesses were required to reconcile the sales reported on Form 1099-K with their actual sales.  The above example was a fairly simple one—imagine if those sales included carry-out sales on which tips are not paid.  A point of sale system should be able to capture this information, but for restaurants using cash registers, it will be very, very difficult to gather this information.

Recognizing the hardship this would cause on businesses (plus the hardship on the IRS to actually audit this information), the IRS waived the reconciliation requirement for 2011 tax returns.  Based on a recent letter from the IRS deputy commissioner for services and enforcement, Steven Miller (not the singer), to the National Federation of Independent Businesses, the IRS is extending indefinitely the waiver of the reconciliation requirement.  Mr. Miller stated, “There will be no reconciliation on the 2012 form, nor do we intend to require reconciliation in future years. (emphasis added)”

Good news!  However, credit card companies will continue to issue Form 1099-K.  If the sales amount on these forms differ substantially from sales reported on tax returns, you may still want to conduct an informal reconciliation (not included on any tax filings) in case of an audit.

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.

Any tax advice contained in the body of this post was not intended or written to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions. Any information contained in this post does not fall under the guidelines of IRS Circular 230

How to Avoid the 10% Penalty on Early Retirement Account Distributions

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One issue with investing money in a 401k or IRA is that you generally cannot access the funds until you reach age 59½.  If you withdraw funds from these retirement accounts before that age, you will be subject to a 10% penalty on the amount distributed.  This penalty is in addition to the federal and state income taxes you’ll pay on the distribution.

Fortunately, the IRS will waive the 10% penalty in certain circumstances.  However, even if you meet one of these exceptions, you’ll still have to pay federal and state income taxes on the distribution even if the 10% penalty is waived.

The exceptions are:

  • Distributed funds that are rolled over into an IRA or other qualified plan
  • Distributions upon death or disability of the account owner
  • Distributions that are part of a series of substantially equal periods payments over the life of the account owner or the joint lives of the participant and beneficiary
    • Translated into English: when you have a balance in a retirement account, you can calculate an annuity based on the amount in the account payable over your life expectancy (there are a few ways to calculate this annuity).  These annuity payments are exempt from the 10% penalty.  The annuity has to last through the later of:
      • When the account owner turns 59½
      • Five years after the date annuity payments began
  • Distributions after the participant’s separation from service (i.e., quitting/laid off/fired), provided the separation from service occurred during or after the year the participant reached age 55 (or age 50 for government plans to a retired police officer, firefighter, or emergency medical services provider).
    • This exception applies only to qualified plans, it does NOT apply to IRAs
  • Distributions to a former spouse under a Qualified Domestic Relations Order (QDRO)
    • Pension benefits are often divided during divorce.  To properly comply with pension plan rules, retirement accounts can only be split up pursuant to a QDRO.  Otherwise, the plan will have made a disallowed distribution to a nonparticipant.  This could jeopardize the tax-advantaged status of the pension plan.
    • Once a retirement account has been divided pursuant to a QDRO, the nonparticipant spouse can receive distributions without incurring the 10% penalty.  However, the nonparticipant spouse is still subject to the pension plan rules and isn’t entitled to any type or form of benefits that aren’t available in the plan.
    • IRAs do not require QDROs to be divided in divorce.  The division of the IRA does not cause a distribution; however, amounts withdrawn from the IRAs by either spouse will not be exempt from the 10% penalty if it is a disqualifying distribution.
  • Distributions to the extent of deductible medical expenses
    • Medical expenses are reduced by 7.5% of adjusted gross income to arrive at deductible medical expenses.  Early distributions equal to this amount can be distributed free of penalty.
  • Distributions made on account of the IRS’ levy of retirement accounts

The following exceptions apply only for IRAs:

  • Distributions equal to medical insurance premiums for workers who have received federal or state unemployment benefits for 12 consecutive weeks.  The reduction for 7.5% of adjusted gross income does not apply.
  • Distributions used to pay for qualified higher education expenses (college) for the account owner, owner’s spouse or child/grandchild.
  • Distributions up to $10,000 for first time homebuyers.
    • “First time” doesn’t literally mean “first time.”
    • First 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

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.

Any tax advice contained in the body of this post was not intended or written to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions. Any information contained in this post does not fall under the guidelines of IRS Circular 230.
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Payroll Tax Cut Extended

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Quick Background on Payroll Taxes

The Federal Insurance Contributions Act (FICA) imposes two taxes on employers, employees, and self-employed people.  One tax is the Old Age, Survivors and Disability Insurance (OASDI, commonly known as the Social Security tax).  The other tax is for Hospital Insurance (more commonly known as Medicare A).  The Social Security tax has been 6.2% and the Medicare tax has been 1.45%.  An employee pays the 6.2% Social Security Tax on her first $110,100 of wages (this wage base changes periodically), and pays the 1.45% Medicare Tax on all wages without limit.  The employer must match employees’ Social Security and Medicare Tax contributions.  Therefore, the employee pays a combined Social Security and Medicare tax rate of 7.65% of wages and the employer matches this 7.65% contribution for a combined FICA rate of 15.3%.

Self employed people pay both employer and employee portions of the tax on their self employment income.  The self-employment rate has been 15.3%.  There are two adjustments that self employed people make that are related to self employment tax:

  • The first adjustment is to multiply self-employment income by 0.9235. This adjustment basically allows the employer portion of FICA taxes to be deducted from self employment income.  Notice that the 0.9235 number is equal to 1 – 7.65%.  7.65% representing the employer portion of FICA

Example:  Joan has $100,000 of self employment income from her proprietorship.  She multiplies this income by 0.9235 and the product is $92,350, which is equal to her $100,000 self employment income less the employer portion of 7.65%.  The self employment tax rate of 15.3% is then multiplied by $92,350 to arrive at self employment tax of $14,129.

  • The second adjustment is a deduction equal to one-half of the self employment tax on the self employed person’s tax return.

On Joan’s personal tax return, she would be allowed an above the line deduction of $7,064.50 (one half of the $14,129 self employment tax).

What’s New

During 2011, the employee portion of Social Security was reduced to 4.2% from 6.2%.  The Social Security tax for self-employed individuals was 10.4% (6.2% employer portion plus 4.2% employee portion).  In December 2011, when Congress couldn’t agree on how to fund a full-year extension of the payroll tax cut, it passed the Temporary Payroll Tax Cut Continuation Act of 2011 that provided a two month extension of the 4.2% employee Social Security rate.  On February 17, Congress passed the Middle Class Tax Relief and Job Creation Act of 2012.  This new law extended both the 4.2% Social Security employee portion and the 10.4% Social Security portion of self employment tax until December 31, 2012.

The maximum savings for 2012 will be $2,202 (2% of $110,100) per taxpayer.  If both spouses earn at least as much as the wage base, the maximum savings will be $4,404.

An additional change is made for the above the line deduction for self employment tax.  The deduction is normally one half of the self employment tax to reflect the half that represents the employer portion of the tax.  However, the employee portion of the Social Security tax is 4.2% while the employer portion of the Social Security tax is 6.2%.  Thus, the deduction for Social Security tax is now 59.6% [6.2% employer portion divided by combined employer and employee Social Security tax of 10.4%].  The deduction for the Medicare portion of the self employment tax remains at 50% since the 2% reduction applied only to the Social Security Tax.

Example:  It is now 2012 and Joan still has $100,000 in self employment income.  The first adjustment is still to multiply her $100,000 income by 0.9235.  The product of $92,350 is multiplied by the Social Security portion of self employment tax of 10.4% to arrive at $9,604.40.  The $92,350 is also multiplied by the Medicare portion of self employment tax of 2.9% to arrive at $2,678.15 for a total self employment tax of $12,282.55.  Notice that the self employment tax is less than the first example by $1,846.45.  This difference is due to the 2% reduction in the Social Security portion of self employment tax times the self employment income of $92,350.

To calculate Joan’s above the line deduction:

  • multiply the Social Security portion of self employment tax by 59.6% ($9.604.40 times 59.6% equals $5,724.22)
  • multiply the Medicare portion of self employment tax by 50% ($2,678.15 times 50% equals $1,339.08)
  • Joan’s total above the line deduction for self employment tax is $7,063.30.
Thus, Joan has to cut a check for $12,282.55 to cover self employment tax.  The $7,063.30 above the line deduction for self employment tax is multiplied by her individual tax rate to determine its value.  If Joan is in the 30% bracket, the $7,063.30 deduction will reduce her income taxes by $2,118.99.

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.

Any tax advice contained in the body of this post was not intended or written to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions. Any information contained in this post does not fall under the guidelines of IRS Circular 230.

 

Changes to Federal and Michigan Unemployment Taxes for 2012

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There have been a number of changes to federal and state unemployment taxes over the past year.  This post will describe some of those changes.

Federal Unemployment Tax

As you may have noticed on your Form 940 (Federal Unemployment Tax) for 2011, there were two federal unemployment tax rates during 2011.  A 0.8% rate applied to wages through June 30, and a 0.6% rate applied to wages paid from July 1 to December 31.  This 0. 2% FUTA tax reduction was due to the repeal of the FUTA surchage.  The 0.2% surcharge was originally added to the FUTA tax rate in 1976 to shore up the federal unemployment tax system.  The surcharge is not tied to unemployment benefits workers receive, so the elimination of the surcharge will not affect unemployment benefits.  The FUTA tax rate for 2012 remains at the lower 0.6% FUTA tax rate.

State Unemployment Tax

As of last year, the State of Michigan owed $3.267 billion to the federal government to finance unemployment tax payments to the unemployed.  To help pay off this federal debt, the State imposed a 0.75% increase in state unemployment taxes.  Additionally, when a state is unable to repay federal debt used to finance unemployment benefits, businesses located within that state have to pay a higher FUTA tax rate.  Since Michigan was one of those states in 2011, it had to pay an additional 0.9% FUTA tax rate.  This 0.9% rate was in addition to the 0.8% and 0.6% tax rates explained above.

The 0.75% Michigan solvency tax was insufficient to repay the federal debt.  As a result, the State of Michigan issued $3.323 billion in bonds in December 2011 to repay the federal debt.  Since the federal debt is now repaid, the additional 0.9% FUTA rate will no longer apply in 2012.  Additionally, the 0.75% Michigan solvency is also repealed.  However, the Michigan solvency tax has been replaced with an Obligation Assessment which will be used to repay the Michigan bonds that were used to repay the federal debt.  This Obligation Assessment will be an increase to your state unemployment tax rate beginning in 2012.  In Michigan, 100% of unemployment insurance is employer-funded, so Michigan employers will be responsible to repay the bond issue.  The Obligation Assessment is based on your current state unemployment tax rate and will be roughly one-half to three-quarters of a percent.  Bottom line:  the Obligation Assessment will be roughly equal to the state Solvency Tax, but employers are slightly better off because the additional 0.9% FUTA tax rate will no longer apply.

There are other changes (i.e., tax increases) to Michigan unemployment taxes as a result of the bond issue:

  • the tax base is increased from $9,000 to $9,500 (In 2011 employers paid state unemployment taxes on the first $9,000 of wages.  Starting in 2012, employers will pay state unemployment taxes on the first $9,500 of wages.)  However, if the state Unemployment Trust Fund reaches a certain surplus amount, the tax based will be lowered to $9,000.
  • The part of your unemployment tax rate that is based on your employees’ unemployment claims is changing.  Prior to 2012, the tax rate was based on the past 5 years of unemployment claims.  In 2012, the unemployment claims experience component of your tax rate will be based on 4 years of unemployment claims and in 2013, 3 years of unemployment claims.

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.

Any tax advice contained in the body of this post was not intended or written to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions. Any information contained in this post does not fall under the guidelines of IRS Circular 230.

Reporting Unclaimed Property

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As a business owner, you’ve probably received a notice from the Michigan Department of Treasury advising you to report and turn over to the state any unclaimed property you have.  Many businesses have unclaimed property resulting from normal operations.  Some examples include uncashed payroll checks, uncashed vendor checks, credit balances on accounts receivable, etc.  Any of these assets must be reported and turned over to the state if they remain unclaimed for a certain period of time.  For example, uncashed payroll checks must be reported and turned over to the state after one year and uncashed vendor checks must be reported and turned over to the state after three years.

The due date for filing the unclaimed property annual report is July 1, 2012 for property reaching its dormancy period (e.g., one year for uncashed payroll checks) as of March 31, 2012.

Example:  You issue two paychecks.  The first paycheck is issued March 27, 2011 and the second is issued April 3, 2011.  The March 27 paycheck is dormant for one year on March 31, 2012, and must be reported and turned over to the state by July 1, 2012.  The second paycheck issued on April 3, 2011 has not been dormant for one year on March 31, 2012 and must not yet be reported.  If this paycheck remains unclaimed on March 31, 2013, it must be reported and turned over by July 1, 2013.

Penalties for Not Filing or Turning over Unclaimed Property

Penalty and interest may be assessed as follows:

  • interest at 1% over prime per month on the property or the value of the property from the date the property should have been paid and/or
  • penalty at 25% of the value of the property that should have been paid

If the state audits a business for compliance with unclaimed property reporting, the state can go back 10 years.  A concern is that the state is outsourcing its audit function to third party auditors who are paid on a contingency basis based on the amount of unclaimed property they find.  Additionally, third party auditors may only audit a recent period, then extrapolate the value of any unreported unclaimed property over the ten years.  This could result in substantial penalties and interest.

If You Don’t Have Unclaimed Property

If you are certain you don’t have unclaimed property to report and pay over, you can file Form 4305, Attestation of Compliance with Unclaimed Property Reporting, by January 31, 2012.

Voluntary Compliance Agreement

The state is providing businesses that have not previously reported or have underreported unclaimed property in the current and past four years with an opportunity to comply with the reporting and payment requirements by entering into a Voluntary Disclosure Program by filing Form 4869.  The program will waive all penalty and interest on property voluntarily submitted to the state.  The deadline to enter into this agreement is January 31, 2012.

Questions…

There is some uncertainty about whether the Department of Treasury has the authority to enter into these Voluntary Compliance Agreements or to require business to report when they DO NOT have unclaimed property.  The State Bar of Michigan issued an email to its members this past week questioning the Department’s ability to impose these requirements.   The State Bar issued a letter to the Department of Treasury regarding the uncertainty of these requirements.  The State Bar has not yet heard back from the Department.

So…if you have any questions regarding this issue please feel free to contact us.

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