Tax Benefits for your Charitable Generosity

With the season of giving almost upon us, let's take a look at receiving a tax deduction for charitable contributions.  Taxpayers who qualify to itemize deductions are eligible to deduct certain donations.  There are two essential components for taxpayers to consider: the receiving organization and the taxpayer's substantiation.  First, with regards to organizations, it should be a non-for-profit and operated only for charitable, religious, scientific, educational or certain other philanthropic purposes.  Such organizations register with the IRS under various sections of tax law permitting them to receive tax-deductible donations—the most common of which is section 501(c)(3).  However, if it is unclear, taxpayers can utilize this tool for further information on organizations.  There are certain donations that are never deductible.  For instance, political donations, raffle tickets, or donations to individuals do not qualify.

The second component is the taxpayer's substantiation.  Regardless of value, the IRS requires documentation for each donation made.  For monetary amounts under $250, this documentation can be a bank record or a written record from the organization, which states the organization name, date, and fair market value.  For amounts over $250, bank records do not suffice, and the written record from the organization must also include a description of the donation and state whether any goods or services were exchanged for the gift.

For noncash donations, the thresholds and substantiation is the same for cash contributions up to $500.  If the total noncash donations exceeds $500, you will have to report the date, amount, and organization on your tax return for each noncash donation.   For noncash donations exceeding $5,000, more rules come in to play depending on the good donated, and an independent appraisal may be required.

For more information on the various rules, consult your tax professional.


New Investment Opportunities for MN Businesses and Individuals

As of June 20, 2016, Minnesota businesses may use crowdfunding to find investors and raise capital.  The new law MNvest provides a limited exemption from federal and state security laws, making small business investments more accessible to a greater number of investors and investees.

Several qualifications must be met under the new law:

  1. The business must be an entity formed under Minnesota law, and have their principal office located in the state. Additionally, at least 80% of an entity's assets and income must be located/earned in Minnesota.
  2. The investor must be a Minnesota resident, and can invest a maximum of $10,000 in any given offer through MNvest.
    • This limit does not apply to accredited investors.
  3. The transaction must be conducted via a 'MNvest portal', which is registered with the Minnesota Commerce department. A prospective business must complete a notice filing and pay the $300 fee associated.
  4. A business can receive a maximum of $2 million in a 12-month period if a certified public accountant has audited or reviewed the company financial statements.
  5. A business can receive a maximum of $1 million in a 12-month period if no audit or review has been conducted.

For more information, visit


Angel Tax Credit

The Angel Tax Credit is a refundable income tax credit on your Minnesota Tax Return created as an incentive for investors to lend money to small business in certain industries primarily in Minnesota.  The credit is 25% of the investment into the qualified business, however it is limited to $125,000 per individual or $250,000 if you file jointly with your spouse.

For a business to qualify to receive funds subject to the Angel Tax credit they must meet certain criteria.  The eligibility criteria includes:

  1. Headquartered in Minnesota
  2. Focus on high technology or new proprietary technology
  3. Fewer than 25 employees
  4. Been operational for fewer than 10 years
  5. Certified by the Minnesota Department of Employment and Economic Development (DEED) before qualifying investments are made

For a full list of criteria see the (DEED) website at

To claim the credit, investors must obtain certification from the Minnesota Department of Employment and Economic Development (DEED) before making their investment.  The DEED will issue certificates that should be used in filing for the credit by Mid-February of the year following the investment.

Investors must also meet certain criteria to qualify for certification by the DEED before making their investment.  The requirements include:

  1. Net worth in excess of $1,000,000
  2. Are not an officer, principal, 20% owner in the business or a family member of such
  3. A minimum investment of $10,000

A full list of investor criteria can be seen on the DEED website.

It is not required that the investor live in the state of Minnesota, however to receive the tax credit a Minnesota Tax Return is required to be filed.  Because the credit is refundable, you are not required to have a Minnesota tax liability to receive the benefit.

Investors who receive the Angel Tax Credit will have additional tax considerations.  The Minnesota Department of Revenue will issue investors a 1099-Misc that will be required to be reported on the investors federal and state tax returns as income for the year the credit was received.  The credit is considered Minnesota sourced, therefore Minnesota filing requirements will need to be considered for any non-resident investors.

If all the eligibility requirements are met, the Angel Tax Credit could be a nice opportunity for tax savings.  If you are considering making a qualifying investment please consult your financial and tax advisors for specific consideration on your personal financial and tax situation.


Olympic Medalists & Taxes

US athletes who win medals in Rio may have to pay income tax on their prize winnings as well as the value of their medals.  The International Olympic Committee pays medalists $25,000 for gold, $15,000 for silver, and $10,000 for bronze.  This is included in the athletes' income for tax purposes.  The value of the medal itself is also taxable income under current law.  That could all change soon.  The Senate has passed a bill that will exempt these winnings from income tax.  The House will vote on it in September when they return from their current break.  Bills like this have been brought up in the past but have never made it into law.

Most athletes  may not actually pay any income tax on these winnings, even under current law.  They are allowed deductions for ordinary and necessary expenses if they treat their participation in their sport as a business.  Even as a hobby, they can take deductions against the winnings to reduce income tax on them.

For now, we will have to stay tuned for the final decision.


Household Employees

If you hire someone to do household work you may have what the IRS refers to as a household employee.  A key issue is whether the worker is actually your employee or a self-employed contractor.  Per the IRS, "The worker is your employee if you can control not only what work is done, but how it is done."  Another point is whether the worker offers their services to the general public.  For example, a landscaping company mowing your lawn is not your employee but a full time nanny is.

Some examples of household work include:

  1. Babysitter/nanny
  2. House keeper
  3. Driver
  4. Maid
  5. Private nurse
  6. Yard worker

If the worker qualifies as your employee and you pay them over $2,000 throughout the year you need to pay employment taxes such as social security and Medicare.  Social security and Medicare both have an employee and an employer component totaling 15.3% – 7.65% from the employee and 7.65% from the employer.  If you pay wages of more than $1,000 in any calendar quarter you also need to pay federal unemployment tax.  The federal unemployment tax rate is 6% of the first $7,000 of wages but depending on your state’s laws you may also be subject to state unemployment tax, which can reduce the federal rate.  In our home state of Minnesota state unemployment insurance for household employees is required.  It can range from 1.59% to 8.44% of the first $31,000 of wages.  The good news is that paying MN unemployment will reduce the federal rate to 0.6%, so the most you will pay into federal unemployment is $42.

In addition to paying the employment taxes there are other tasks that need to be completed when you are a household employer.

  • You must obtain an employer identification number from the IRS – this can be your social security number.
  • You must issue your employee(s) W-2 Wage and Tax statements by January 31 of the following year. The W-2(s) must also be filed with the Social Security Administration and likely with your home state.
  • When you file your individual income tax return you will document your household employee(s) on Schedule H.

You are not required to deposit the employment taxes throughout the year but the balance is due when you file your individual income tax return.  The additional balance due may cause you to be subject to estimated tax penalties if you do not have enough withheld or pay enough in quarterly estimates.

Most payroll processing companies offer a reduced fee arrangement for household employees.  If you utilize one of these services you may only need to submit wages.  All the filings and tax deposits are completed for you.  They also will prepare a Schedule H that you can provide to your tax preparer or use when preparing your own taxes.

This can seem like an issue that is subject to a lot of nuances.  A quick discussion with your tax advisor should answer your questions and make this seem less daunting.


Do I need to report gifts on my taxes? The answer and other facts about taxable gifts.

Recipients of gifts have often wondered if the receipt of the gift is taxable and reportable on their individual tax return. The answer is typically no.  Depending on the property received and in general, the recipient of a gift is not required to pay tax or report the gift on their individual tax return.

On the other hand…

The giver of a gift is sometimes required to pay tax and file a specific Gift Tax Return after making a gift.  The following types of gifts are non taxable:

  1. Gifts that in total are valued at less than $14,000. This $14,000 threshold is known as the annual exclusion and is subject to change from year to year. The giver may gift up to $14,000 per person in 2016 without being subject to gift tax or filing requirements.
  2. Tuition paid directly to an educational institution.
  3. Medical expenses paid directly to a medical institution.
  4. Gifts to your spouse.
  5. Gifts to charities.
  6. Gifts to political organizations.

A gift can also be non-taxable if spouses decide to combine their annual exclusions. In essence the gift would be considered to be half from one spouse and half from the other.  With this strategy, couples can gift up to $28,000 in 2016 without causing a gift to be taxable.  Any time a couple splits a gift there is a reporting requirement, even if the gift is non taxable.

Other situations that trigger a filing requirement:

  1. Gifts over the annual exclusion that are not specifically excluded.
  2. Gifts of a future interest that can't be possessed, used, or produce income until a later date. (Spouses excluded)
  3. Gifts of property to spouses that will expire due to an event in the future.

Gifts that are taxable or trigger a filing requirement must be reported on Form 709, United States Gift (and Generation-Skipping Transfer) Tax Return by April 15th of the year following the gift. The state of Minnesota does not have a gift tax, so there is no filing requirement in Minnesota.

Even if you are required to file a gift tax return, each person has a lifetime limit of $5,450,000 (in 2016) that they may gift before paying tax.  However the $5,450,000 lifetime exemption is for both gift and estate tax so any amount that you use on your gift tax return will reduce the amount that you may use on your estate return in the future.

Gift giving can be tricky once the dollar amount begins to rise and different situations have different outcomes. For example, a personal loan or debt that is forgiven could be considered a gift but when a parent throws a wedding for a child, the party may not be a gift.  If you are considering giving a gift over the annual exclusion contact your tax preparer and discuss any tax consequences. Or at a minimum, make sure to tell your tax preparer about any large gifts during the tax year so they may advise you on any filing requirements.


Second Quarter Estimated Tax Payment Due- June 15

If you are required to pay quarterly estimated tax payments to the IRS or state, your second payment is due on or before June 15, 2016.

If you are not sure about your need to pay in quarterly tax estimates for the current year, here is some more information.

All taxpayers must pay a “required annual payment” to the IRS as their income is earned.   This payment in total is equal to the lesser of 90% of tax shown on their current year return, or 100% of tax shown on their prior year return.  (Taxpayers with an adjusted gross income of greater than $150,000 must pay the lesser of 90% of tax shown on their current year return, or 110% of tax shown on their prior year return). It is due in 25% installments by Apr. 15, June 15, Sept 15, and Jan 15, to avoid underpayment penalties.

Most taxpayers receiving the majority of their income through wages will satisfy these requirements through tax withheld on their paycheck by their employers.  However taxpayers involved in flow through entities such as sole proprietorships, partnerships, S corporations, or trusts and estates need to be proactive in paying these installments in full and in a timely manner.

Failure to make these required payments may result in underpayment penalties.  The penalty is the interest rate charged by the IRS (currently an approx 3.52%), multiplied by the amount underpaid.

Penalties can be avoided if you meet specific exemptions:

The first exception to avoid penalties is Small Balance Due.  If the tax due after reducing federal withholding is less than $1,000 then no penalty will be incurred.

A taxpayer will avoid a penalty with the second exception if there was no tax liability in the prior year.

The third exception to the penalty is if the taxpayer paid, through withholding and estimated tax payments, 100% of their prior year tax liability (110% for those with an AGI above $150,000).

The fourth exception would be to pay, through withholding and estimated tax payments, 90% of the current tax liability.  This would be most commonly done with a tax projection and making estimated tax payments based on the projected liability.

For taxpayers who do not receive their income evenly throughout the year, an annualization option is available.  This would most commonly affect taxpayers with businesses of a seasonal nature.  An annualization exception comprises of a calculation to determine what estimated tax is due by quarter based on income as earned. The calculation will still compute the total amount to be the same as the lesser of 90% of tax shown on their current year return, or 100% of tax shown on their prior year return in a more reasonable distribution.  Taxpayers that think this might apply should consult their tax preparer to calculate the appropriate payment per quarter.

Do not forget that the same rules apply to the Minnesota Department of Revenue for your state tax liability.

It is important that taxpayers make their payments to both the IRS and Minnesota Department of Revenue in full and on time.  An overpayment in a later quarter does not eliminate underpayment penalties for previous quarters.  Penalties are computed from the date the quarterly payment was due until it is paid.

If you are unsure whether or not you need to make estimated tax payments or what amount you should pay, please contact your tax advisor.

IRS Penalties

Paying taxes and filing the annual tax return is not most people's favorite activity.  Sometimes life gets a little crazy and taxpayers forget their obligation to file or pay the tax due on their return.  However understandable this situation may be, it is not without consequences. There are two penalties that apply to a late or unpaid return.

Late Filing Penalty

April 15th is normally the deadline to file a personal tax return, however taxpayers can file for a 6-month extension if necessary.  Should a taxpayer fail to file by April 15th without filing an extension, or exceed the extension by filing after October 15th, they will be subject to a late filing penalty.  The penalty for failing to file your tax return is normally 5% of your unpaid tax for each month or part of a month that the return is late.  There is a limit to the penalty and it will not exceed 25% of the unpaid tax.  However, if the return is more than 60 days late the minimum penalty is the lesser of $135 or 100% of the unpaid tax.

For example, Carlton did not file for an extension and did not file his tax return until April 30th.  The total unpaid tax was $500.  His failure to file penalty would be $25 ($500 x 5% x 1 Month). If Carlton had not file his return until June 30th his failure to file penalty would be $135.  Because he filed the return more than 60 days after the due date, penalty minimum rules apply. If there was not a minimum rule his penalty would have been $75 ($500 x 5% x 3 Months).

If a taxpayer does not have a balance due, then even if the return is late, there is no late filing penalty.

Late Payment Penalty

Even if a taxpayer files an extension, if they owe tax on their return they may be subject to a late payment penalty on any unpaid tax after April 15th.  An extension gives a taxpayer more time to file NOT more time to pay the tax.  The late payment penalty is .5% per month or part of a month that the tax is unpaid.  It is limited to 25% of the unpaid taxes. If a taxpayer requests an extension and has paid 90% of the total taxes owed, they may not be subject to the penalty.

Let's assume in our above scenario that Carlton did file an extension and then filed his return with a payment for the unpaid tax on April 30th.  The late payment penalty would be $3 ($500 x .5% x 1 Month rounded up). IF his unpaid tax was $3,000 and he paid on June 30th his penalty would be $45 ($3,000 x .5% x 3 Months).

Our example, only includes the penalty for a late payment. Be aware that late payments will also be subject to interest.

If a taxpayer owes both the failure to file and the failure to pay penalty, the maximum amount charged in those months is 5%.

It is recommended that taxpayers make sure to file on time even if they cannot pay the tax.  The failure to file penalty is 10 times more than the failure to pay penalty.  If a taxpayer cannot pay the whole amount of tax due they should pay as much as they can to reduce penalties.  After their initial payment, taxpayers may use IRS online resources to apply for a short extension to pay, set up an installment agreement, or suggest an offer in compromise.  If you can show reasonable cause for late filing and payment the IRS may waive your penalties.

No one likes to pay penalties, so it is a good idea to stay organized and plan ahead.  If you think you may owe tax and want to avoid surprises or start planning for any additional tax due, consider contacting your tax preparer for a tax plan.  A little time and money now could save you a lot latter.


What to do if you receive an IRS letter

First of all don't panic, the IRS sends millions of notices and letters to taxpayers every year.  An IRS notice will typically be about your federal tax return or tax account.   Most of the letters will ask you to address a specific issue, however they may also send a letter requesting additional information.

If an IRS letter informs you that they have made a change or correction on your tax return, it is important to review the change carefully and it may even be necessary to discuss the matter with your tax advisor.  Typically, if you agree with the change, then you should follow the instructions in the letter if they guide you to take action.  If you do not agree with the change, then you or your tax advisor should write a letter to explain why you disagree.  You should also include any documents that support your conclusion.  There should be an address on a tear off portion of the IRS letter that will help you to send your response to the right location.

Most notices will not require a trip to the IRS or even a phone call.  If you have a question and wish to call them there should be a phone number in the upper right hand corner of the notice with the phone number of the correct department.

Please note that it is unlikely that the IRS will call you without sending a letter first. They will not contact you by email or social media to ask for personal or financial information.  If you are contacted and you are unsure if the request is legitimate you should contact your tax advisor before giving out any personal or financial information.  If you and your advisor deem that the contact is suspicious you should report the suspicious activity based on the IRS guidance here.

Remember that receiving an IRS letter does not automatically mean you did something wrong.  Take the time to carefully read the notice and most importantly follow up, as requested, in a timely matter.  Don't be afraid to utilize your tax advisor and make sure to send them a copy of any letters when you receive them.


S-corporations and the Home Office Deduction

When you are a shareholder of an S-corp but also work for the company you are considered an employee.  Having employee status means that any home office deductions must be reported on Schedule A which requires that the deduction be greater than 2% of your adjusted gross income in order to have any tax benefit. This is generally not the case.  However there is another way to get a business deduction for the cost of your home office.   If you are not aware if you are eligible for the home office deduction please see our article “Work from Home? A Possible Deduction…

For S-Corp owners that are eligible for the home office deduction, the IRS allows the S-Corp to reimburse the owner and employees for ordinary and necessary business expenses including expenses directly related to keeping an office in their home as a "working condition fringe benefit."

The following steps must be followed to take advantage of this reimbursement plan and business deduction:

  1. The employer must adopt an accountable plan for business expense reimbursements and follow the substantiation rules.  Example
  2. The employee must provide an accounting (expense report with supporting documents) of the following expenses and apply a business use percentage based on the square footage of the area used exclusively for business to the entire home.

The following expenses are allowed (subject to the business use "square footage" percentage):

  1. Utilities
  2. Insurance
  3. Repairs and maintenance

The following "direct" expenses are allowed 100%:

  1. Office supplies
  2. Computer equipment
  3. Cell phone charges

The following expenses are NOT allowed for reimbursement:

  1. Depreciation of home
  2. Mortgage interest
  3. Property taxes

Mortgage interest and property taxes may be deductible elsewhere on your personal tax return so they do not qualify for reimbursement by the employer.  If you rent your home, you may also be able to deduct the business percentage of the rent paid as well.  Please contact your tax advisor if you have any questions and to discuss your specific situation.

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