Investors with offshore accounts must be familiar with the filing requirements of the FBAR and IRS Form 8938.

FBAR

Any U.S person with offshore accounts that had more than $10,000 in them any time during the year must file Form TD F 90-22.1, the so-called FBAR (Report of Foreign Bank and Financial Account).  A U.S. person includes individuals, partnerships, corporations and estates and trusts.  This form must be received (not postmarked) by the U.S. Treasury Department by June 30, 2012.  There is no extension of time to file this report.  Unlike individual income tax returns, this form can’t be filed electronically.  It must be mailed in.  Failure to file this report on time may result in penalties being assessed. Civil penalties start at $10,000 and go up from there.

IRS Form 8938

The IRS came out with a new income tax form this past year, Form 8938, Statement of Specified Foreign Asset. Unlike the FBAR, this form is filed with your individual federal income tax return, form 1040.

This form is required for a married couple filing a joint return if the value of the foreign asset was $100,000 on the last day of the year or $150,000 at any point during the year.  For single taxpayers these amounts are half of this, $50,000 and $75,000 respectively. Some foreign assets may be difficult to value.  If this is the case an extension to file the individual income tax return should have been filed.  This will allow until October 15, 2012 to file the 2011 return.

The penalty for failure to file this form starts at $10,000 and is a maximum of $50,000.

Conclusion

The federal government has gotten very serious about investors complying with disclosing offshore accounts.

Will they eliminate the FBAR in the future?  Perhaps, much of the information required is similar.  The threshold for filing the FBAR is much lower however.  For now however investors with offshore accounts may need to file both.

ACTION ITEM: Investors with offshore accounts must be familiar with the requirements to file the FBAR and IRS Form 8938.

Thomas F. Scanlon, CPA, CFP®
 

A Roth Conversion is when funds are taken out of an IRA and converted into a Roth IRA. This conversion results in taxable income. Here are 4 Reasons to do a Roth Conversion:

1) You've Got the Cash From Another Source to Pay the Income Tax- When a Roth Conversion is done, the money coming out of the IRA is taxable. To make a Roth Conversion work, you really need to have cash from another source to pay the income taxes. This can be a stumbling point for many that are considering a conversion.

2) You're Young- Young here of course is a relative term. Someone under the age of 30 should strongly consider a Roth Conversion. Generally speaking, they won't have accumulated as much in a 401(k) plan or IRA and typically their tax bracket is more modest. It is much more difficult for someone in their 60's to consider a conversion. They typically have more assets in their tax-deferred accounts and have a higher tax bracket. People in this situation may want to consider a partial conversion. Another alternative is to look at your employers' retirement plan. While many employers offer a 401(k) plan, more are beginning to offer the Roth 401(k) plan option. If your employer offers this plan, see if it is appropriate in your circumstances.

3) You Think Tax Rates will be Higher in Retirement- We have all been educated to defer taxes into the future. This was usually done by using either a 401(k) plan an IRA or both. This allowed for tax-deferred investing. Don't pay taxes currently; let the account grow tax-deferred and pay taxes only when there are distributions in the future. The assumption was that your tax bracket would be lower in retirement. This may or may not, be a valid assumption for some people now. The Federal and State Governments need revenue. So far, the Federal Government has held off on any income tax increases due to the challenging economy. The State of Connecticut however enacted its largest income tax increase in 2011. The highest income tax rate in Connecticut is now 6.7%.

4) You Don't 'Need' the Money- Tread lightly here. The word 'need' is in quotes. For people with a significant net-worth, the Roth IRA becomes an excellent wealth transfer vehicle. One of the big advantages of the Roth IRA is that there are no Required Minimum Distributions ("RMD") on the account owner or their surviving spouse. This allows the account to continue to grow over time. A non-spousal beneficiary, like a child, will however have the RMD requirement.

ACTION ITEM: People with IRA's should look carefully at a Roth Conversion. Depending on your situation, it may make sense to do a conversion.

Thomas F. Scanlon, CPA, CFP®

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Asset Sale

With an asset sale, the buyer is buying the assets of the business. These assets will be identified in the purchase and sale agreement. They may include accounts receivable, inventory and fixed assets including office furniture, machinery and vehicles. Additionally they may include intangible assets like customer lists, work force in place, goodwill and a non-compete agreement. Most buyers would prefer an asset sale as:

• The buyer (generally) won't take on any of the seller’s liabilities. Unless specified in the purchase and sale agreement, the buyer is usually just buying assets. This gives the buyer some level of additional comfort as they are not taking on any.

• The buyer will be allowed to take depreciation and / or amortization expense on the assets purchased. Caution must be exercised as both the buyer and the seller will be required to complete IRS Form 8594, Asset Acquisition Statement. This document will allocate the purchase price among the assets and will be filed with both the buyers and the seller’s income tax return. This allocation is binding on both the buyer and the seller. Interestingly enough however, it is not binding on the IRS. Even though the buyer and seller agreed to the allocation, the IRS can challenge it. This is why it is important to have an independent appraisal of the assets done.

A seller may pay higher income taxes in an asset sale. Depending on how the price is allocated among the assets, the seller may have to pay taxes at ordinary income tax rates on some of the assets sold.

Stock Sale

With a stock sale, the buyer is buying the stock in the company. As part of this, the buyer assumes responsibility for all of the liabilities of the company. Additionally, the buyer will not be entitled to any depreciation and / or amortization deductions like they would have received in an asset deal as they are buying stock. Both of these attributes should cause a buyer to be cautious when considering a stock purchase. Sellers naturally would prefer a stock sale as this will be a capital gain to them.

ACTION ITEM: Buyers and sellers of closely held businesses need to be aware of the differences between an asset sale and a stock sale. Buyers and sellers need to work closely with their CPA to review the tax consequences and their attorney to draft the appropriate contracts and documents.

Thomas F. Scanlon, CPA, CFP®

C Corporation

While a C Corporation is a separate legal entity, it is also a separate taxable entity. The corporation will pay income taxes on any taxable income reported.

With a C Corporation there is more flexibility with regards to selecting a tax year end. A C corporation can pick any month it wants as its year end. This may be important for a seasonal business that wants a year end other than December.

Another advantage with a C Corporation is that health care premiums paid are currently treated as a tax free fringe benefit to the employees. Additionally, long term care premiums can be paid and can also be a tax free fringe benefit.

The biggest downside to a C Corporation is the likely double tax on sale of the business. Many buyers do not want to buy the stock (shares) of a company. This is because of the liability attached with it. Additionally the buyer would not get any depreciation or amortization if they bought the stock. Therefore many transactions become asset purchase agreements where the buyer buys the assets of the company. This results in a corporate tax on sale and a tax when the proceeds are distributed to the stockholders. It is for this reason that many growing businesses elect Subchapter S Status.

S Corporation

Although an S Corporation is a separate legal entity, it is not a separate taxable entity. The profits and losses of the company 'flow-through' to the stockholders of the corporation.

An S Corporation is generally not as flexible as a C Corporation. As a practical matter, most S Corporations have selected a December year end as their tax year.

An owner of an S Corporation will receive a W-2 for any wages they earn in their capacity as an employee. Additionally, stockholders of S corporations will receive a K-1 which documents their portion of the profits and losses of the company. These will be reported on their individual income tax return.

The biggest advantage to a Subchapter S corporation is the prospect of a single tax on sale of the business.

ACTION ITEM: Business owners need to understand the difference between a C Corporation and a Subchapter S Corporation.

Thomas F. Scanlon, CPA, CFP®

Due Date

The federal income tax returns are normally due on April 15th. This year, the 15th falls on a Sunday, so the due date should be Monday the 15th. However, Monday the 16th is Emancipation Day so the due date is Tuesday 17th. Some people aren't prepared to file. Others may be waiting for Form K-1's from their investments. Either way, if the return is not filed on time, an extension will need to be filed.

Federal Extension

An extension is filed by completing Form 4868. The extension will allow six months, or until October 15th to file the return. The extension will extend the time to file the return, it does not extend the time to pay the tax. Any tax that is due needs to be paid by April 17. Failure to pay by the due date will result in penalties and interest being assessed.

Connecticut Extension

Connecticut taxpayers that need an extension will also need to file form CT-1040-EXT. Like the federal extension This is also due on April 17, it will allow an additional six months to file and the tax needs to be paid then.

Final Thoughts

Taxpayers that want to fund an IRA or a Roth IRA need to fund this by April 17. Self-employed people that want to fund a Simplified Employee Pension ("SEP") have until the due date of the return, including extensions to fund this vehicle. Caution should be exercised when completing these tax forms. One year, a taxpayer owed both the Federal Government and the State of Connecticut. He put his checks in and sent off the extensions. Unfortunately, he enclosed the federal check with the Connecticut extension and the Connecticut check with the federal extension. It took us a while, but we were finally able to sort this out.

As with other forms of communication with the tax authorities, we recommend these forms be filed Certified Mail, Return Receipt Requested.

ACTION ITEM: Taxpayers that can't file by April 17th, need to file an extension.

Thomas F. Scanlon, CPA, CFP®

2) Check the returns for completeness. Most returns today are prepared using a computer which handles all of the calculations, which is fine. What you need to review however is whether all of the income and deductions are declared.

3) Fund your IRA or Roth IRA. These can be funded up to April 17, 2012 for the 2011 returns. Both of these retirement vehicles are awesome and appear to be underutilizied by many taxpayers.

4) If you are married, see if married filing separate returns makes sense. You will have to run the numbers to see if this is appropriate.

5) Carefully review any offshore accounts or investments. First review the questions at the bottom of Schedule B, Interest and Ordinary Dividends. You may be required to file Form TD F 90-22.1, Report of Foreign Bank Account and Financial Accounts. Additionally, you may have a new filing requirement this year. Form 8938, Statement of Specified Foreign Assets may also need to be filed. Failure to file these forms will result in huge penalties.

6) Carefully review the use tax. Connecticut retailers charge and collect the Connecticut sales tax. If however, you purchase goods and services for which a sales tax was due but not charged, you will owe a use tax. This tax is self-assessed, which means you will need to calculate and disclose this tax. These transactions tend to be purchases that were made either online or through a catalog for which a tax may be due.

7) Start planning for 2012. Now that 2011 is in the books, it's time to start planning for 2012. Paying estimated taxes, adjusting withholding, or increasing your contribution to your 401(k) plan are just some of the items to review. The time to get on these is now before too much of the year goes by.

ACTION ITEM: Connecticut taxpayers should take these seven steps before filing their income tax return.

Thomas F. Scanlon, CPA, CFP®

Field, Office and Correspondence Audits

The first thing a taxpayer needs to understand is The Difference Between an IRS Field Office and Correspondence Audit. If it is a correspondence audit, it doesn't matter how you are dressed. All of the communication with the IRS will be done through the mail. It appears that more audits will be correspondence audits due to the IRS wanting to allocate its resources. Depending on the situation, this may not be in the taxpayer's best interest. They may actually prefer to meet with the IRS to, "tell their story." You should carefully review your situation with your CPA to see if meeting the auditor would make more sense.

Power of Attorney

If it's either a Field or Office Audit, then you should understand Why You Should Not Represent Yourself in an IRS Audit. By giving your Power of Attorney to your CPA you will not be required to be present during the audit. As a taxpayer, there is a tremendous advantage to this. Being audited can be, well, stressful. By not having to attend the audit, the taxpayer should have less stress. Additionally, by not attending, they can't answer any questions that aren't asked. This is key!

Audits From Hell

Unfortunately with some audits you're going to need to know How to Survive the Audit From Hell. These may require a taxpayer to attend for a portion of the audit. Again, it may be appropriate to provide some more background.

ACTION ITEM: Taxpayers that are being audited need to think twice about how they present themselves in front of the IRS.

Thomas F. Scanlon, CPA, CFP®

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Do the Math

Here are the approximate tax rates a self-employed person in Connecticut would face in 2012: Federal Income Tax 25% Social Security Tax (up to $110,100) 15.3% Connecticut Income Tax 5% Add it up and the marginal tax bracket is over 45%. The good news for the self-employed in Connecticut is that there are states with higher tax rates!

What can a Connecticut self-employed taxpayer do?

• Open an IRA – Taxpayers under age 50 can contribute up to $5,000. Taxpayers age 50 or older can contribute another $1,000 or up to $6,000.

• Fund a Simplified Employee Pension ("SEP") - Self-employed taxpayers can contribute up to 20% of their net income not to exceed $49,000 in 2011 and $50,000 in 2012.

• Fund a Connecticut Higher Education Trust ("CHET") 529 plan – A married couple filing a joint return can deduct up to $10,000 on their Connecticut income tax return for amounts funded into a CHET.

• Hire their spouse- At the very least, the spouse may then become eligible for an IRA or, perhaps, participate in a SEP.

• Hire their children under age 18 - Children under age 18 that work for their parents unincorporated business do not pay social security tax on their earnings. Just to be clear…the children need to actually work however.

• Consider incorporating and making a Subchapter S Corporation – Taxpayers may want to consider becoming an employee of their corporation. A more detailed analysis would need to be done to see if this is appropriate in your particular situation.

ACTION ITEM: To avoid being The Biggest Loser, the self-employed in Connecticut need to be vigilant about their income tax planning.

Thomas F. Scanlon, CPA, CFP®

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2) Call the Department at (800) 382-9463 (within Connecticut but outside Hartford area) or at (860) 297-5962 (from anywhere) from 8:30 AM to 4:30 PM

3) Visit the Department in Hartford

4) Go to local public libraries, town halls and post offices during tax season

ACTION ITEM: Connecticut taxpayers have several sources to access the forms they may need. Better act fast…April 17 will be here before you know.

Thomas F. Scanlon, CPA, CFP®