June 20, 2023
There are some potential tax benefits of either taking the medical expense deduction or paying medical expenses through a Health Savings Account (HSA), Flexible Spending Account (FSA), Archer Medical Savings Account (MSA), or Health Reimbursement Account (HRA). These accounts will typically be available to you at work, so check with your employer’s human resources department. If you are self-employed, talk to me about your options for paying medical expenses.
Medical expenses can be claimed as a deduction only to the extent your unreimbursed costs exceed 7.5% of your adjusted gross income (AGI). Medical expenses are deductible only if you itemize, which means that your itemized deductions must exceed your standard deduction. However, you can pay your medical expenses through one of the accounts in the previous paragraph regardless of income or whether you itemize.
Qualifying medical costs, which include many items other than hospital and doctor bills, often amount to a much larger figure than expected. Here are some items you should take into account in determining your medical costs:
Health insurance premiums. The cost of health insurance is a medical expense. This item, by itself, can total thousands of dollars a year. Even if your employer provides you with health coverage, you can deduct the portion of the premiums that you pay. Long-term care insurance premiums are also included in medical expenses, subject to specific dollar limits based on age.
Transportation. The cost of getting to and from medical treatment is a medical expense. This includes taxi fares, public transportation, or the cost of using your own car. Car costs can be calculated at 22¢ a mile for miles driven in 2023, plus tolls and parking. Alternatively, you can deduct your actual costs, such as for gas and oil, but not your general costs such as insurance, depreciation, or maintenance.
Therapists, nurses, etc. Services provided by individuals other than physicians can qualify as long as they relate to a medical condition and aren’t for general health. For example, costs of physical therapy after knee surgery would qualify, but not costs of a fitness counselor to tone you up. Amounts paid to a psychologist to treat a diagnosed medical illness are deductible medical expenses, but an amount paid for marital counseling is not. Amounts paid for certain long-term care services required by a chronically ill individual also qualify as deductible medical expenses.
Physical exams. The cost of a physical exam is a medical expense, because it provides a diagnosis of whether a disease or illness is present.
Eyeglasses, hearing aids, dental work. Deductible medical expenses include the cost of eye exams, glasses or contact lenses, hearing aids, dental exams and dental work (but not tooth whitening), and other ongoing expenses in connection with medical needs. Purely cosmetic expenses don’t qualify, but certain medically necessary cosmetic surgery is deductible.
Prescription and nonprescription drugs. Prescription drugs (including insulin) may be deducted or reimbursed under one of the health plans. Different rules apply to nonprescription drugs, such as aspirin. These don’t qualify for the deduction even if a physician recommends their use. However, both prescription and nonprescription drugs may be paid or reimbursed through an HSA, HRA, Archer MSA, or medical FSA.
Drug-abuse, alcoholism, and smoking-cessation programs. The costs of programs to treat alcoholism or drug addiction are deductible expenses because the programs treat a disease (substance abuse disorder). Amounts paid for participation in a smoking-cessation program and for prescribed drugs designed to alleviate nicotine withdrawal are deductible medical expenses. However, non-prescription nicotine gum and certain nicotine patches aren’t deductible.
Weight-loss and nutrition expenses. A weight-loss program is a deductible medical expense if undertaken as treatment for a disease diagnosed by a physician. The disease can be obesity itself or another disease, such as hypertension or heart disease, for which the doctor directs you to lose weight. It’s a good idea to get a written diagnosis before starting the program. Deductible expenses include fees paid to join the program and to attend periodic meetings.
Food or beverages purchased for weight loss or other health reasons are deductible only if all of the following are true: (1) the food or beverage does not satisfy normal nutritional needs, (2) the food or beverage alleviates or treats an illness, and (3) the need for the food or beverage is substantiated by a physician. The deductible (or reimbursable) medical expense is limited to the amount by which the cost of the food or beverage exceeds the cost of a product that satisfies normal nutritional needs. However, the cost of low-calorie food that you eat in place of your regular diet isn’t deductible.
The costs of nutritional supplements are a medical expense only if the supplements are recommended by a medical practitioner as treatment for a specific medical condition diagnosed by a physician. Otherwise, the cost of nutritional supplements is not a medical expense.
General health improvements/gym memberships. The costs of exercise for general health improvement are not health expenses, even if recommended by a doctor.
However, a gym membership may be a medical expense if the membership was purchased for the sole purpose of affecting a structure or function of the body (such as a prescribed plan for physical therapy to treat an injury) or the sole purpose of treating a specific disease diagnosed by a physician (such as obesity, hypertension, or heart disease). Otherwise, the cost of a gym membership is for the general health of the individual and is not a medical expense.
Dependents and others. You can deduct the medical costs that you pay for your dependents, such as your children. Additionally, you may be able to deduct medical costs you pay for an individual, such as an elderly parent or grandparent, who would qualify as your dependent except that he or she has too much gross income or files jointly. In most cases, the medical costs of a child of divorced parents can be claimed by the parent who pays them, regardless of who gets the dependency exemption.
Illegal expenses. Amounts paid for operations or treatments that are illegal under federal law (such as marijuana) are not medical expenses, even if permitted under state law.
Overall, medical costs are broadly defined for deduction and reimbursement purposes. If any of these examples apply to you, please contact us. We want you to get every deduction for which you are eligible.
June 22, 2023
Have you ever wondered how social security benefits fit into your taxes? How much they are taxed, or whether they are taxed at all, depends on your other income. In the worst-case scenario, 85% of your benefits would be taxed. (This doesn’t mean you pay 85% of your benefits back to the government in taxes—merely that you would include 85% of them in your income subject to your regular tax rates.)
To determine how much of your benefits are taxed, you must first determine your other income, including certain items otherwise excluded for tax purposes (for example, tax-exempt interest). Add to that the income of your spouse, if you file jointly. To this add half of the Social Security benefits you and your spouse received during the year. The figure you come up with is your total income plus half of your benefits. Now apply the following rules:
For married taxpayers, filing jointly:
1. If your income plus half your benefits is not above $32,000, none of your benefits are taxed.
2. If your income plus half your benefits exceeds $32,000 but is not more than $44,000, you will be taxed on (1) one half of the excess over $32,000, or (2) one half of the benefits, whichever is lower.
Example (1): S and D have $20,000 in taxable dividends, $2,400 of tax-exempt interest, and combined Social Security benefits of $21,000. So, their income plus half their benefits is $32,900 ($20,000 plus $2,400 plus 1/2 of $21,000). They must include $450 of the benefits in gross income (1/2 ($32,900 − $32,000)). (If their combined Social Security benefits were $5,000, and their income plus half their benefits were $40,000, they would include $2,500 of the benefits in income: 1/2 ($40,000 − $32,000) equals $4,000, but 1/2 the $5,000 of benefits ($2,500) is lower, and the lower figure is used.)
For single taxpayers:
1. If your income plus half your benefits is not above $25,000, none of your benefits are taxed.
2. If your income plus half your benefits exceeds $25,000 but is not more than $34,000, you will be taxed on (1) one half of the excess over $25,000, or (2) one half of the benefits, whichever is lower.
Example (1A): S has $20,000 in taxable dividends, $2,400 of tax-exempt interest, and Social Security benefits of $9,000. So, S’s income plus half S’s benefits is $26,900 ($20,000 plus $2,400 plus 1/2 of $9,000). S must include $950 of the benefits in gross income (1/2 ($26,900 − $25,000)). (If S’s Social Security benefits were $3,000, and S’s income plus half S’s benefits were $30,000, S would include $1,500 of the benefits in income: 1/2 ($30,000 − $25,000) equals $2,500, but 1/2 the $3,000 of benefits ($1,500) is lower, and the lower figure is used.)]
For either married or single taxpayers:
In many cases, If your income, plus half your benefits exceeds the limits listed above ($44,000 for married, or $34,000 for single taxpayers], the computation grows far more complex. Generally, however, unless your income plus half your benefits is fairly close to $44,000 [$34,000 for single taxpayers], if you fall into this category, 85% of your Social Security benefits will be taxed.
Caution: If you aren’t paying tax on your Social Security benefits now because your income is below the above floor, or are paying tax on only 50% of those benefits, an unplanned increase in your income can have a triple tax cost. You’ll have to pay tax (of course) on the additional income, you’ll also have to pay tax on (or on more of) your Social Security benefits (since the higher your income the more of your Social Security benefits that are taxed), and you may get pushed into a higher marginal tax bracket. This situation might arise, for example, when you receive a large distribution from a retirement plan (such as an IRA) during the year or have large capital gains. Careful planning might be able to avoid this stiff tax result. For example, it may be possible to spread the additional income over more than one year, or liquidate assets other than an IRA account, such as stock showing only a small gain or stock whose gain can be offset by a capital loss on other shares. If you expect a large increase in your income, or you should need a large amount of cash for a specific purpose, please contact us before liquidating any assets. We can determine just what your additional tax cost will be and potentially reduce this cost with some planning.
If you know your social security benefits will be taxed, you can voluntarily arrange to have the tax withheld from the payments by filing a Form W-4V. Otherwise, you may have to make estimated tax payments.
If you’d like us to run some specific numbers for you, or if you would like to discuss this matter further, please call.
Taxpayers can transfer substantial amounts free of gift taxes to their children or other donees each year through the proper use of this annual exclusion.
The statutory exclusion amount ($10,000) is adjusted for inflation annually, using 1997 as the base year. The amount of the exclusion for 2022 is $16,000, and for 2023 is $17,000.
The exclusion covers gifts an individual makes to each donee each year. Thus, in 2023, a taxpayer with three children can transfer a total of $51,000 to his or her children every year free of federal gift taxes. If the only gifts made during a year are excluded in this fashion, there is no need to file a federal gift tax return. If annual gifts exceed $17,000, the exclusion covers the first $17,000 and only the excess is taxable. Further, even taxable gifts may result in no gift tax liability thanks to the unified credit (discussed below). (Note, this discussion is not relevant to gifts made by a donor to his or her spouse because these gifts are gift tax-free under separate marital deduction rules.)
Gift-splitting by married taxpayers. If the donor of the gift is married, gifts to donees made during a year can be treated as split between the spouses, even if the cash or gift property is actually given to a donee by only one of them. By gift-splitting, therefore, up to $34,000 in 2023 can be transferred to each donee by a married couple because their two annual exclusions are available. Thus, for example, a married couple with three married children can transfer a total of $204,000 in 2023 to their children and the children’s spouses ($34,000 for each of six donees).
Where gift-splitting is involved, both spouses must consent to it. Consent should be indicated on the gift tax return (or returns) the spouses file. IRS prefers that both spouses indicate their consent on each return filed. (Because more than $17,000 is being transferred by a spouse, a gift tax return (or returns) will have to be filed, even if the $34,000 exclusion covers total gifts. Please contact me regarding the preparation of a gift tax return (or returns), if more than $17,000 is being given to a single donee in 2023.)
The “present interest” requirement. For a gift to qualify for the annual exclusion, it must be a gift of a “present interest.” That is, the donee’s enjoyment of the gift can’t be postponed into the future. For example, if you put cash into a trust and provide that donee A is to receive the income from it while A is alive and donee B is to receive the principal at A’s death, B’s interest is a “future interest.” Special valuation tables are consulted to determine the value of the separate interests you set up for each donee. The gift of the income interest qualifies for the annual exclusion because enjoyment of it is not deferred, so the first $17,000 (in 2023) of its total value will not be taxed. However, the gift of the other interest (called a “remainder” interest) is a taxable gift in its entirety.
Exception to present interest rule. If the donee of a gift is a minor and the terms of the trust provide that the income and property may be spent by or for the minor before he or she reaches age 21, and that any amount left is to go to the minor at age 21, then the annual exclusion is available (that is, the present interest rule will not apply). These arrangements (called Code Sec. 2503(c) trusts because of the section in the Internal Revenue Code that permits them) allow parents to set assets aside for future distribution to their children while taking advantage of the annual exclusion in the year the trust is set up.
“Unified” credit for taxable gifts. Even gifts that are not covered by the exclusion, and that are thus taxable, may not result in a tax liability. This is so because a tax credit wipes out the federal gift tax liability on the first taxable gifts that you make in your lifetime, up to $12,060,000 in 2022 and $12,920,000 in 2023. However, to the extent you use this credit against a gift tax liability, it reduces (or eliminates) the credit available for use against the federal estate tax at your death. Feel free to contact us if you wish to discuss this area further or have questions about related topics.
Are you planning on going into business for yourself, as a sole proprietor? There are several important rules that you should be aware of:
(1) For income tax purposes, you’ll report your income and expenses on Schedule C of your Form 1040. The net income will be taxable to you regardless of whether you withdraw cash from the business. Your business expenses will be deductible against gross income (i.e., “above the line”) and not as itemized deductions. If you have any losses, the losses will generally be deductible against your other income, subject to special rules relating to hobby losses, passive activity losses, and losses in activities in which you weren’t “at risk.”
(2) You may be eligible for the pass-through deduction. To the extent your business generates qualified business income, you will be eligible to take the 20% pass-through deduction, subject to various limitations. The deduction is taken “below the line,” so that it reduces taxable income, rather than being taken “above the line” against your gross income. However, you can take the deduction even if you don’t itemize deductions and instead take the standard deduction.
(3) You may be able to deduct office-at-home expenses. If you’ll be working from an office in your home, performing management or administrative tasks from an office-at-home, or storing product samples or inventory at home, you may be entitled to deduct an allocable portion of certain costs of maintaining your home. And if your office is in your home, you may be able to deduct expenses of traveling from there to another work location.
(4) You’ll have to pay self-employment taxes. For 2023, you’ll pay self-employment tax (social security and Medicare) at a 15.3% rate on your net earnings from self-employment of up to $160,200 ($147,000 for 2022), and Medicare tax only at a 2.9% rate on the excess. An additional 0.9% Medicare tax (for a total of 3.8%) will be imposed on self-employment income in excess of $250,000 for joint returns; $125,000 for married taxpayers filing separate returns; and $200,000 in all other cases. Self-employment tax is imposed in addition to income tax, but you can deduct half of your self-employment tax as an adjustment to income.
(5) You’ll be allowed to deduct 100% of your health insurance costs as a trade or business expense. This means your deduction for medical care insurance won’t be subject to the rule that limits your medical expense deduction to amounts in excess of 7.5% of your adjusted gross income.
(6) You’ll have to make quarterly estimated tax payments. We can work with you to minimize the amount of your estimated tax payments while avoiding any underpayment penalty.
(7) You’ll have to keep complete records of your income and expenses. In particular, you should carefully record your expenses in order to claim the full amount of the deductions to which you are entitled. Certain types of expenses, such as automobile, travel, entertainment, meals, and office-at-home expenses, require special attention because they’re subject to special recordkeeping requirements or limitations on deductibility.
(8) If you hire any employees, you’ll have to get a taxpayer identification number and will have to withhold and pay over various payroll taxes.
(9) You should consider establishing a qualified retirement plan. The advantage of a qualified retirement plan is that amounts contributed to the plan are deductible at the time of the contribution, and aren’t taken into income until the amounts are withdrawn. Because of the complexities of ordinary qualified retirement plans, you might consider a simplified employee pension (SEP) plan, which requires less paperwork. Another type of plan available to sole proprietors that offers tax advantages with fewer restrictions and administrative requirements than a qualified plan is a “savings incentive match plan for employees,” i.e., a SIMPLE plan. If you don’t establish a retirement plan, you may still be able to contribute to an IRA. If you’d like any additional information regarding the tax aspects of your new business, or if you need assistance in satisfying any of the reporting or recordkeeping requirements, please give us a call.
You might be able to dispose of appreciated real property without being taxed on the gain by exchanging it rather than selling it. You can defer tax on your gain through the “like-kind” exchange rules.
A like-kind exchange is any exchange (1) of real property held for investment or for productive use in your trade or business (relinquished property) for (2) like-kind investment real property or trade or business real property (replacement property). For these purposes, “like-kind” is very broadly defined and most real property is considered to be like-kind with other real property. However, neither the relinquished property nor the replacement property can be real property held primarily for sale. If you are unsure whether the property involved in your exchange is eligible for a tax -free like-kind exchange, please call and we can discuss the matter.
Assuming the exchange qualifies, here’s how the tax rules work:
If it’s a straight asset-for-asset exchange, you will not have to recognize any gain from the exchange. You will take the same “basis” (your cost for tax purposes) in the replacement property that you had in the relinquished property. Even if you do not have to recognize any gain on the exchange, you still have to report the exchange on Form 8824.
Frequently, however, the properties are not equal in value, so some cash or other (non-like-kind) property is tossed into the deal. This cash or other property is known as “boot.” If boot is involved, you will have to recognize your gain, but only up to the amount of boot you receive in the exchange. In these situations, the basis you get in the like-kind replacement property you receive is equal to the basis you had in the relinquished property you gave up reduced by the amount of boot you received but increased by the amount of any gain recognized.
Example. Ted exchanges land (investment property) with a basis of $100,000 for a building (investment property) valued at $120,000 plus $15,000 in cash. Ted’s realized gain on the exchange is $35,000: he received $135,000 in value for an asset with a basis of $100,000. However, since it’s a like-kind exchange, he only has to recognize $15,000 of his gain: the amount of cash (boot) he received. Ted’s basis in his new building (the replacement property) will be $100,000: his original basis in the relinquished property he gave up ($100,000) plus the $15,000 gain recognized, minus the $15,000 boot received.
Note that no matter how much boot is received, you will never recognize more than your actual (“realized”) gain on the exchange.
If the property you are exchanging is subject to debt from which you are being relieved, the amount of the debt is treated as boot. The theory is that if someone takes over your debt, it’s equivalent to his giving you cash. Of course, if the replacement property is also subject to debt, then you are only treated as receiving boot to the extent of your “net debt relief” (the amount by which the debt you become free of exceeds the debt you pick up). Like-kind exchanges are an excellent tax -deferred way to dispose of investment or trade or business assets. If you have additional questions or would like to discuss the topic further, please call.
UPDATE: The IRS has further extended the deadline to October 16, 2023: Disaster-area taxpayers in most of California and parts of Alabama and Georgia now have until October 16, 2023, to file various federal individual and business tax returns and make tax payments, the Internal Revenue Service announced on Friday. Previously, the deadline had been postponed to May 15th for these areas. See IR-2023-33, Feb. 24, 2023 for further details.
The IRS has provided disaster tax relief to victims of California storms that began on January 8, 2023. According to the IRS, storm victims who live or have a business in the disaster area now have until October 16, 2023, to file various federal individual and business tax returns and to make tax payments.
Disaster area. The disaster area includes the following counties: Alameda, Colusa, Contra Costa, El Dorado, Fresno, Glenn, Humboldt, Kings, Lake, Los Angeles, Madera, Marin, Mariposa, Mendocino, Merced, Mono, Monterey, Napa, Orange, Placer, Riverside, Sacramento, San Benito, San Bernardino, San Diego, San Francisco, San Joaquin, San Luis Obispo, San Mateo, Santa Barbara, Santa Clara, Santa Cruz, Solano, Sonoma, Stanislaus, Sutter, Tehama, Tulare, Ventura, Yolo, and Yuba.
Postponed deadlines. The IRS has postponed various tax filing and payment deadlines that occurred beginning on January 8, 2023. As a result, individuals and households who live or have a business in the disaster area will have until October 16, 2023, to file returns and pay taxes that were originally due during this period.
This tax relief includes business returns due on March 15 and business and individual returns due on April 18, 2023. In addition, farmers who forgo making an estimated tax payment in January and normally file their returns by March 1, now have until October 16, 2023, to file their 2022 return and pay any tax due.
The October 16, 2023, deadline also applies to:
In addition, penalties on payroll and excise tax deposits due on or after January 8, 2023, and before January 23, 2023, will be abated if the tax deposits are made by January 23, 2023.
Relief is automatic. The IRS will automatically apply this tax relief to any taxpayer with an address in the disaster area (“affected taxpayers”). However, affected taxpayers that receive a penalty notice from the IRS for a return that has a due date falling within the postponement period (January 8, 2023, to October 16, 2023) should call the phone number on the notice to have the penalty abated.
In addition, taxpayers who live or have a business outside the disaster area but whose tax records are in the disaster area and workers assisting in disaster relief activities should call the IRS at 866-562-5227 to ask for this tax relief.
Disaster losses. Victims in the disaster area who suffered uninsured or unreimbursed disaster-related losses can choose to claim them on either the current year (2023) or prior year 2022 return. Taxpayers claiming disaster losses should write the FEMA declaration number—3691-EM—on any return claiming such a loss.
As of this posting, California has not conformed to this extended relief however, we expect they will shortly.
Please keep in mind that this relief doesn’t apply to information returns such as Forms W-2, 1094, 1095, 1097, 1098 or 1099 series; to Forms 1042-S, 3921, 3922 or 8027. These forms still have their normal due dates.
We recommend that you still submit all 2022 documents to our firm for completion of your return as soon as possible and use this relief as an opportunity to pay any tax as late as October 16th
Trying to figure out whether you and your spouse should file a joint tax return or separate returns? As is often the case with tax questions, the answer depends on your particular tax picture.
In general, your decision will depend upon which filing status results in the lowest tax. But bear in mind that, if you and your spouse file a joint return, each of you is jointly and severally liable for the tax on your combined income, including any additional tax that IRS assesses, plus interest and most penalties. This means that IRS can come after either of you to collect the full amount. Although there are provisions in the law that offer relief from joint and several liability, each of those provisions has its limitations. Thus, even if a joint return results in less tax, you may choose to file a separate return if you want to be certain of being responsible only for your own tax.
In most cases, filing jointly offers the most tax savings, particularly where the spouses have different income levels. The “averaging” effect of combining the two incomes can bring some of it out of a higher tax bracket. For example, if one spouse has $75,000 of taxable income and the other has just $25,000, filing jointly instead of separately for 2023 can save $1,972.50 in taxes.
Note that filing separately doesn’t mean you go back to using the “single” rates that applied before you were married. Instead, each spouse must use the “married filing separately” rates. These rates are based on brackets that are exactly half of the married filing joint brackets but are still less favorable than the “single” rates. This means the “marriage penalty” (which requires some marrieds to pay at a higher tax rate on the same total income than they would pay if each filed as a single) isn’t eliminated by filing separate returns. Although Congress has provided relief from the marriage penalty in the tax rates, those changes don’t provide a complete solution.
There is a potential for tax savings from filing separately, however, where one spouse has significant amounts of medical expenses. Medical expenses are deductible only to the extent they exceed 7.5% of adjusted gross income (AGI).
If a medical expense deduction is isolated on the separate return of a spouse, that spouse’s lower (separate) AGI, as compared to the higher joint AGI, can result in larger total deductions. For example, if one spouse has $19,500 in medical expenses and the spouses’ joint income is $260,000, then the jointly filing spouses can’t deduct any of the medical expenses, because 7.5% of $260,000 is $19,500 (and $19,500 − $19,500 = $0). But if the separate income of the spouse with the medical expenses is $140,000, the deduction increases to $9,000 on a separate return, because 7.5% of $140,000 is only $10,500, and $19,500 − $10,500 equals $9,000.
Other tax factors may point to the advisability of filing a joint return. For example, the child and dependent care credit, adoption expense credit, American Opportunity tax credit, and Lifetime learning credit are available to a married couple only on a joint return. And you can’t take the credit for the elderly or the disabled if you file separate returns unless you and your spouse lived apart for the entire year. Nor can you deduct qualified education loan interest unless a joint return is filed. You may also not be able to deduct contributions to your IRA if either you or your spouse was covered by an employer retirement plan and you file separate returns. Nor can you exclude adoption assistance payments or any interest income from series EE or Series I savings bonds that you used for higher education expenses if you file separate returns.
In addition, social security benefits may be more heavily taxed to a couple that files separately. The benefits are tax-free if your “provisional income” (your AGI with certain modifications plus half of your social security benefits) doesn’t exceed a “base amount.” The base amount is $32,000 on a joint return, but zero on separate return (or $25,000 if the spouses didn’t live together for the entire year).
The decision you make for federal income tax purposes may have an impact on your state or local income tax bill, so the total tax impact has to be compared. For example, an overall federal tax saving by filing separately might be offset by an overall state tax increase, or a state tax saving might offset a federal tax increase.
Unfortunately, we can’t give you any hard and fast rules of thumb for when it pays to file separately. The tax laws have grown so complex over the years that there are often a number of different factors at play for any given situation. However, there is one approach guaranteed to come up with the correct decision. We can simply calculate your tax bill both ways: jointly and separately. Then the approach that leads to overall tax savings could be used. We are happy to run the numbers for you to make sure you pay the minimum amount of taxes possible. Call us to arrange for a consultation or if you have any additional questions.
The recently passed Inflation Reduction Act of 2022 includes changes to the credit available for electric vehicles. The changes are complex, and phase in over time. If you are in the market for an electric vehicle, we should review the new rules to help you maximize the credit you are allowed.
North American assembly requirement. One of the new rules is in effect right now. To qualify for the electric vehicle credit, final assembly of the vehicle must take place in North America. You can check whether a particular vehicle meets this requirement by entering its vehicle identification number (VIN) into the VIN decoder at https://afdc.energy.gov/laws/inflation-reduction-act or https://www.nhtsa.gov/vin-decoder. There is also a list of makes and models that generally should meet the requirement at https://afdc.energy.gov/laws/inflation-reduction-act, but you should double-check for any particular vehicle by using the VIN decoder.
Manufacturer limitation. The good news is that, effective as of January 1, 2023, the manufacturer limitation is going away. Under the manufacturer limitation, once a manufacturer had sold 200,000 electric vehicles, a taxpayer’s ability to take a tax credit for vehicles produced by that manufacturer began to phase out. Taxpayers are currently prevented from taking the electric vehicle credit for automobiles manufactured by General Motors and Tesla. Starting at the beginning of 2023, taxpayers will be able to take the credit for GM vehicles and Teslas once again, but see the manufacturer’s suggested retail price (MSRP) limits below.
Calculation of the credit. The way the credit is calculated is changing later this year. We do not know when the rules are changing yet, but it will be as soon as the IRS issues regulations implementing the new rules. Under the previous rules, the base amount of the electric vehicle credit is $2,500 per vehicle. The allowable credit increases to $7,500 per vehicle based on a formula which increases the credit by $417 for every kilowatt hour of battery capacity in excess of five.
Under the new rules, the amount of the credit will be based on two separate requirements, each one based on where the vehicle’s battery is sourced:
Taxpayers also can get a $3,750 credit for satisfying the battery component requirement (which requires that a minimum percentage of the value of the components of the battery be manufactured or assembled in North America.
Taxpayers can satisfy either or both requirements, for either a $3,750 credit (if only one requirement is satisfied) or a $7,500 credit (if both requirements are satisfied).
The new rules are designed to encourage electric vehicle manufacturers to move their battery supply chains from China to North America or countries with which the United States has better relations than China.
New qualified fuel cell motor vehicle. Effective January 1, 2023, the credit will also be available for new qualified fuel cell motor vehicles. New qualified fuel cell motor vehicles are vehicles propelled by power derived from one or more cells that convert chemical energy directly into electricity by combining oxygen with hydrogen fuel, and that meets certain additional requirements. New qualified fuel cell motor vehicles have to meet the North American final assembly requirement. They can qualify for either a $3,750 or $7,500 credit based on whether they satisfy one or both of the critical minerals requirement and battery components requirements.
Modified adjusted gross income limitation. Starting on January 1, 2023, your ability to take the electric vehicle credit will be limited based on your modified adjusted gross income (MAGI). MAGI is adjusted gross income (AGI) with adjustments for income received from U.S. territories. For most taxpayers, MAGI will be equal to AGI. You may not take the credit if your MAGI exceeds the threshold amount. The threshold amount is:
These amounts are not adjusted for inflation. If your MAGI exceeds this amount, you should buy the electric car before the first of the year.
MSRP limitation. Also starting on January 1, 2023, vehicles will not be eligible for the credit if they exceed an MSRP limit: $80,000 for vans, pickup trucks, and sport utility vehicles; $55,000 for other vehicles. This means that if you are looking at a higher-end electric vehicle, you need to act by the end of December.
Unfortunately, the manufacturer limitation (see above) will not go away until January 1, so you will not be able to claim the credit for higher-end GM and Tesla vehicles that exceed the MSRP limits.
Transition rule. Finally, if you had a binding contract to purchase an electric vehicle as of August 15, 2022, or earlier, you can choose to apply the old rules.
Call us today with any questions you might have about your electric vehicle purchase.
Are you planning to refinance the mortgage on your home and wondering about the tax rules regarding the refinancing? This article will discuss whether you can deduct the interest you will pay on your new mortgage, the points that you pay, and other fees that you may pay in connection with the refinancing.
Interest deduction on refinanced mortgage. Interest on a refinanced mortgage will be deductible, within the limits discussed, if it falls into one of the following categories:
Your old mortgage was taken out after Dec. 15, 2017. Debt that results from the refinancing of debt that was incurred after Dec. 15, 2017 to buy, build, or substantially improve your main or second home, and that is secured by that home. But interest on this debt is deductible only to the extent that the amount of the debt from refinancing doesn’t exceed: (a) the amount of the original debt that has been refinanced, and (b) $750,000 ($375,000 for married taxpayers filing separately).
Your old mortgage was taken out after Oct. 13, 1987, but before Dec. 16, 2017. Debt that results from the refinancing of debt that was incurred after Oct. 13, 1987, but before Dec. 16, 2017, to buy, build, or substantially improve your main or second home, and that is secured by that home. But interest on this debt is deductible only to the extent that the amount of the debt from refinancing doesn’t exceed: (a) the amount of the original debt that has been refinanced, and (b) $1 million ($500,000 for married taxpayers filing separately). Note that for the $1 million ($500,000) limit to apply, the refinancing debt has to be incurred before the expiration of the term of the old debt.
Your old mortgage was taken out before Oct. 14, 1987. Debt that results from the refinancing of debt that was incurred before Oct. 14, 1987-no matter how the proceeds of the mortgage were used-and that is secured by your first or second home. All of the interest you pay on this debt is fully deductible, as long as the term of the old mortgage hasn’t expired, and the amount of the debt resulting from the refinance doesn’t exceed the amount of principal remaining on the old debt immediately before the refinancing.
Interest on refinanced “home equity loans” isn’t deductible, 2018 – 2025. “Home equity debt,” as specially defined for purposes of the mortgage interest deduction, means debt that: (1) is secured by the taxpayer’s home, and (2) wasn’t incurred to acquire, construct, or substantially improve the home). From 2018 through 2025, there’s no deduction for the interest on home equity debt, no matter when the home equity debt was incurred. And interest on debt resulting from the refinancing of such home equity debt isn’t deductible.
Beginning with 2026, home equity debt will be deductible, as will the debt resulting from a refinancing of home equity debt. However, the interest that can be deducted will be limited to loan amounts of the lesser of $100,000 ($50,000 if your filing status is married filing separately) or your equity in the home.
Points. In general, points that you pay to refinance your home aren’t fully deductible in the year that you paid them. Instead, you can deduct a portion of the points each year over the life of the loan.
To figure your deduction for points, divide the total points by the number of payments to be made over the life of the loan. Then, multiply this result by the number of payments you made in the tax year.
For example, if you paid $3,000 in points and you will make 360 payments on a 30-year mortgage, you can deduct $8.33 per monthly payment. For a year in which you make 12 payments, you can deduct a total of $99.96 ($8.33 × 12).
However, you may be entitled to a larger first-year deduction for points if you used part of the proceeds of the refinancing to improve your home and you meet certain other requirements. In that case, the points associated with the home improvements may be fully deductible in the year they were paid.
For example, say that you refinance a high-rate mortgage that has an outstanding balance of $80,000 with a new lower-rate loan for $100,000. You use the proceeds of the new mortgage loan to pay off the old loan and to pay for $20,000 of improvements to your home. Since 20% of the new loan was incurred to pay for improvements, 20% of the points you paid can be deducted in the year of the refinancing.
If you’re refinancing your mortgage for the second time, the portion of the points on the first refinanced mortgage that you haven’t yet deducted may be deductible at the time of the second refinancing.
Penalties and fees. A prepayment penalty that you pay to terminate your old mortgage is deductible as interest in the year of payment.
However, fees paid to obtain the new mortgage aren’t deductible, nor can you add them to your basis in your home to reduce the gain when you sell it. Examples of such nondeductible fees are credit report fees, loan origination fees, and appraisal fees.
Give us a call today to go over these rules with you in greater detail!
Income that you generate conducting your business as a sole proprietorship (or through a wholly-owned limited liability company (LLC)) is subject to both income tax and self-employment tax. The self-employment tax is imposed on 92.35% of self-employment income at a 12.4% rate for social security up to the social security maximum ($142,800 for 2021; $147,000 for 2022) and at a 2.9% rate for Medicare. An additional 0.9% Medicare tax is imposed on income exceeding $250,000 for married couples ($125,000 for married persons filing separately) and $200,000 in all other cases. No maximum tax limit applies to the Medicare tax. Similarly, if you conduct your business as a partnership in which you are a general partner, in addition to income tax you would be subject to the self-employment tax on your distributive share of the partnership’s income. On the other hand, if you conduct your business as an S corporation you will be subject to income tax, but not self-employment tax, on your share of the S corporation’s income.
An S corporation is not subject to tax at the corporate level. Instead, the corporation’s items of income, gain, loss, and deduction are passed through to the shareholders. However, the income passed through to the shareholder is not treated as self-employment income. Thus, by using an S corporation, you can avoid self-employment income tax.
There is a problem, however, in that IRS requires that the S corporation pay you reasonable compensation for your services to the S corporation. The compensation is treated as wages subject to employment tax (split evenly between the corporation and the employee), which is equivalent to the self-employment tax. If the S corporation does not pay you reasonable compensation for your services, IRS may treat a portion of the S corporation’s distributions to you as wages and impose social security taxes on the deemed wages. There is no simple formula regarding what is reasonable compensation. Presumably, reasonable compensation would be the amount that unrelated employers would pay for comparable services under like circumstances. There are many factors that would be taken into account in making this determination.
Give us a call today to discuss the practical aspects of conducting your business through an S corporation and how much the S corporation would have to pay you as compensation.