WASHINGTON TAX UPDATE

Transcription

1 WASHINGTON TAX UPDATE SEPTEMBER 21, 2011 Welcome to Washington Tax Update, where you will find useful information about taxes, including current events in our nation s capital, as well as informed opinions and predictions about what is expected to happen. Tax Look Inside Tax Planning Tip of the Week IRS Courts What s New from the IRS What s New from the Courts It Bears Repeating Tax Laughs Congress

2 tax planning tip of the week Are deductions for state and local sales and use taxes coming to an end? This year may be the last year that itemizers can elect to deduct state and local sales and use taxes instead of deducting state and local income taxes. This option, often used by residents of states with no income tax, is scheduled to expire Dec. 31, 2011, although it could be extended. As shown below, even residents of states with an income tax could, in certain circumstances, benefit from the sales tax deduction. If you choose the sales tax deduction, you have two options: Deduct the actual sales and use taxes you pay during the year, or Use tables published by the IRS and add to the table amount your actual sales taxes for certain big-ticket items, such as motor vehicles, boats, aircraft, homes (including mobile and prefabricated homes) and home building materials. Most people who itemize and live in states that have both income and sales taxes will deduct income taxes.

3 Here are two examples showing a potential benefit: 1. Alan lives in a state with no income tax. His itemized deductions amount to $5,000. As a single person, Alan will claim the standard deduction of $5,800 for If he purchases a car by Dec. 31, 2011, and pays $2,000 of sales tax, his itemized deductions will total $7,000 and exceed his standard deduction amount. If he waits until 2012 to purchase the car, the sales tax deduction may not be available, or he may not have enough itemized deductions to exceed his standard deduction. 2. Betty lives in a state with an income tax. She expects to pay $5,000 in state income taxes during Earlier in 2011, Betty bought a boat and paid a sales tax of $3,500. Based on the IRS tables, assume Betty will be able to deduct $1,000 in sales and use taxes in addition to the sales tax paid on the purchase of the boat. Betty s expected sales and use tax deduction in 2011 is $4,500, $500 less than her state income taxes. If Betty is also planning to buy a car in the near future and the sales tax will exceed $500, she may benefit from completing her purchase before Dec. 31, tax planning tip of the week

4 what s new from the IRS Tax treatment changed for employer-provided cell phones The IRS has revised the way it looks at employer-provided cell phones as well as employee-owned cell phones used for business purposes. When an employer provides employees with cell phones primarily for business reasons, neither the business nor personal use of the phone results in income to the employee, and no record keeping of usage is required. And in most instances, an employer s reimbursement to employees who provide their own cell phone for bona fide business use will not be taxable. This new guidance applies for all tax years after Dec. 31, By way of background, the tax law allows no deduction for listed property without substantiation of the amount of the expense, the business use of the property, the business purpose of the expense and the business relationship to the taxpayer of persons using the property. Cell phones used to be classified as listed property, but for tax years beginning after Dec. 31, 2009, the Small Business Jobs Act of 2010 removed cell phones and other similar telecommunications equipment from the listed property category. But the act was silent as to the consequences of personal use of an employer-provided cell phone or an employer s reimbursement for business use of an employee-provided cell phone.

5 Now, in Notice , the IRS states that an employer is treated as having provided an employee with a cell phone primarily for noncompensatory business purposes if there are substantial reasons the employee needs the phone for business. Examples include contacting the employee for work-related emergencies, the employee s availability to speak with clients when away from the office or need to call clients in other time zones after normal business hours. However, a cell phone provided to promote employee morale or goodwill, to attract prospective employees or to provide additional compensation to employees is not considered to be provided primarily for noncompensatory business purposes. When an employee is provided with a cell phone primarily for noncompensatory business reasons, the IRS will treat the employee s personal use of the cell phone as a de minimis or minor fringe benefit. However, the employee must maintain the type of cell phone coverage that is reasonably related to the needs of the business, and the reimbursement must be reasonably calculated so as not to exceed expenses the employee actually incurred in maintaining the cell phone. Additionally, the reimbursement for business use of the employee s personal cell phone must not be a substitute for a portion of the employee s regular wages. Click here to read Notice

6 what s new from the courts Tax Court ruling addresses employee vs. independent contractor issue A recent Tax Court decision deals with the differences between an employee and an independent contractor when it comes to an adjunct college professor. The issue in the case revolved around the professor s deduction for business expenses. William Schramm was an adjunct professor at Nova Southeastern University who taught online courses in economics. The university paid Schramm a fixed amount for each course. A separate contract covered each class section that he taught, and the period of each contract ran for six weeks. The university required Schramm to follow various employment policies, including a sexual harassment policy, a drug policy and a conflict of interest policy. The university provided Schramm with a syllabus that specified the material that was to be covered. He prepared a more detailed syllabus, setting out specifics such as assignments and examinations. He established his own work hours and was able to work from any location via a computer with an Internet connection. The university set the course dates, supplied the website interface and provided the services necessary to register and enroll students. At the completion of each course, Schramm submitted a grade report to Nova Southeastern.

7 The university withheld federal income taxes and employment taxes from Schramm s wages and issued him a Form W-2, on which it did not check box 13 to indicate that he was a statutory employee. Schramm reported the amounts he received as business income on Schedule C. He also claimed business expenses related to his teaching on Schedule C. At issue was Schramm s employment classification. The court looked at his employment arrangements with the university to make a determination. A common-law employee defined as anyone who performs services for you if you can control what will be done and how it will be done may deduct business expenses as miscellaneous itemized deductions to the extent the expenses exceed 2 percent of adjusted gross income (AGI). In general, the factors used to determine if an individual is a common-law employee are: The degree of control exercised by the principal The party s investment in work facilities used by the individual The opportunity of the individual for profit or loss The principal s authority to discharge the individual Consideration of whether the work is part of the principal s regular business

8 The permanency of the relationship The relationship the parties believed they were creating The provision of employee benefits An independent contractor is entitled to deduct business expenses on Schedule C and is not subject to the AGI limitation imposed on miscellaneous itemized deductions. A statutory employee is an independent contractor who is specifically required by the tax law to be treated as an employee for certain employment tax purposes, such as withholding of taxes. A statutory employee is not considered an employee for this purpose and may deduct business expenses on Schedule C. After analyzing the eight factors for common-law employee status, the Tax Court found that all factors, except for the provision of employee benefits, supported an employee classification. The Tax Court concluded that Schramm was a common-law employee and therefore not a statutory employee. His business expenses had to be reported as miscellaneous itemized deductions and were deductible only to the extent that they exceeded 2 percent of his AGI. (William E. Schramm, et al. v. Commissioner, TC Memo , Aug. 30, 2011)

9 it bears repeating IRS changes its mind on employer-provided clothing The IRS has done an about-face without offering an explanation for its change of mind. In 2010, the IRS had concluded that certain items of clothing given to employees did not result in income to the employees because the clothing was a de minimis fringe benefit. De minimis fringe benefits are excluded from the recipient s gross income. (See IRS private letter ruling ) A de minimis fringe benefit is any property or service with a value so small that accounting for it is unreasonable or administratively impracticable, taking into account the frequency with which similar fringe benefits are provided by the employer to its employees. Now the IRS has reversed its position and revoked the earlier ruling. The new private letter ruling ( ) addresses a list of work-related articles of clothing and accessories, including tee shirts, polo shirts, sweaters, jackets, swimsuits, socks, sweatshirts, coats, pants, jeans, shorts, gloves, hats, fanny packs, belts, clip-on ties and equipment bags. Most of the items displayed the employer s logo or other information identifying the individual as an employee. Employees were required to wear the clothing items while working. The IRS gave no explanation for its change of view. It may have been that the IRS was provided with new facts. In any event, the new ruling did not address whether the value of the items in question was, in fact, de minimis. Private letter rulings apply only to the taxpayer requesting the ruling. They cannot be cited as precedent by other taxpayers. However, private letter rulings provide insight into how the IRS thinks about a particular subject.

10 tax laughs No one would doubt that Luis Bulas is a tax expert. He has a master s degree in accounting. He worked for the IRS for seven years, and he has run his own tax preparation business out of his home for more than 25 years. Bulas operates his business out of a spare bedroom, where he regularly meets with clients. Since he presumably knows the tax rules, it seems safe to say he is aware that, to claim a deduction for the business use of a portion of your home, the area must be used exclusively on a regular basis as your principal place of business or as a place of business used by patients, clients or customers in meeting or dealing with you in the ordinary course of business. When the IRS challenged his home office deduction, Bulas appealed to the Tax Court. Judge Haines agreed with Bulas that the bedroom met the test for a deduction. However, the judge balked at allowing a similar deduction Bulas claimed for a bathroom and the hallway leading to it. Apparently, Judge Haines thought the hallway and bathroom were used for something other than exclusively business. (Luis Bulas v. Commissioner, T.C. Memo , Aug. 17, 2011) The bes est me asur ure of a man s hon ones ty isn sn t his inco come tax retur n. It t s the zero adj ust on his ba thro room om scale le. Art hur C. Cla lark e

11 Courts Tax IRS Congress The technical information in this newsletter is necessarily brief. No final conclusion on these topics should be drawn without further review and consultation. Please be advised that, based on current IRS rules and standards, the information contained herein is not intended to be used, nor can it be used, for the avoidance of any tax penalty assessed by the IRS CPAmerica International