09.11.2009 Business, Payroll, Retirement, Taxes, Uncategorized Comments Off

Exercising an Incentive Stock Option?

How to avoid the alternative minimum tax (AMT)

In general, when you buy stock by exercising an incentive stock option (ISO) and don’t sell that stock in the same year, you could be subject to AMT. For regular tax purposes, no income is recognized when an ISO is exercised. However, additional income is recognized for AMT purposes equal to the excess of the stock’s FMV on the date of exercise over the exercise price. Therefore, you may be taxed on income you haven’t even received (phantom income). 

Don’t be caught off guard and end up with an unexpected tax liability when you go to file your tax return. If you exercised an ISO early in the year and the stock has been rapidly declining ever since, consider selling the stock before the end of the year. There is no AMT adjustment when stock that was acquired by exercising an ISO is sold in the same year, so you can avoid paying tax on phantom income. Otherwise, if you want to hold onto the stock and don’t want a big tax liability at year-end, you can make estimated tax payments. Also, the additional tax triggered by the AMT adjustment for ISOs generates a minimum tax credit (MTC) that may reduce your regular tax in future years.

Note: If you owed AMT attributable to the exercise of ISOs for 2007 or any prior year, the amount still owed as of October 3, 2008, was abated. However, your MTC must be reduced accordingly. In addition, any unpaid interest and penalties with respect to such unpaid AMT as of October 3, 2008, were abated. If you already paid such interest and penalties, you can increase your MTC. You should have received a Letter 2719C from the IRS detailing the amount of tax, interest, and penalties that were abated.

DISCLAIMER:  All information on this post is the opinion of the author and is not offered as legal advice.  Please consult the appropriate authoritative laws, codes, rulings, cases, etc. for the most accurate and timely information.  This firm offers valuable professional tax advice only as part of prepaid engagements.

22.03.2009 Resources, Retirement, Taxes, Uncategorized Comments Off

What Is Taxable Income?

What exactly is taxable income and who needs to file a tax return and who doesn’t?

As I reviewed a client’s tax return this week, the client commented that she wasn’t sure if her mother needed to file a tax return or not.  She wasn’t sure just what was taxable and if a return was required.  To answer the question of what is taxable, let’s first look at what is not taxable.

Some common examples of items that are not taxable and included in your income are:

• Economic Stimulus Payments received in 2008 or 2009
• Child support payments
• Adoption expense reimbursements for qualifying expenses
• Inheritances, gifts and bequests
• Meals and lodging for the convenience of your employer
• Welfare benefits
• Cash rebates from a dealer or manufacturer
• Workers’ compensation benefits
• Unemployment benefits up to $2,400 in 2009 (sorry, its all taxable in 2008)
• Deferred contributions to qualified retirement plans are not taxable until withdrawn in most cases
• Health Savings Accounts (HSA) are often not taxable income if handled correctly

Income may be taxable under certain circumstances, but not taxable under others.  Examples of items that may or may not be included in your income are:

• Social Security benefits.  How much, if any, of your social security benefits are taxable depends on your total income and marital status.  Generally, if social security benefits are your only income, your benefits are not taxable and you probably do not need to file a federal income tax return.  If you received income from other sources, your benefits will not be taxed unless your modified adjusted gross income (total of all other taxable income) is more than the base amount set by the IRS for your filing status.  You can do the following to determine whether some of your benefits may be taxable:

1. Add 1/2 of the total social security you received to all your other income, including any tax exempt interest and other exclusions from income

2.  Compare this total to the base amount for your filing status.  If the total is more than your base amount, some of your benefits may be taxable.

For 2008 the base amounts are:

• $32,000 for married couples filing jointly

• $25,000 for those filing single, head of household, qualifying widow/widower with a dependent child, or married individuals filing separately who did not live with their spouses at any time during the year

• $0 for married persons filing separately who lived together during the year

• Life insurance.  If you surrender a life insurance policy for cash, you must include in income any proceeds that are more than the cost of the life insurance policy.   Life insurance proceeds paid to you because of the death of the insured person are not taxable unless the policy was turned over to you for a price.
• Scholarship or fellowship grant.  If you are a candidate for a degree, you can exclude amounts you receive as a qualified scholarship or fellowship. Amounts for room and board do not qualify.
• Canceled debts.  Generally, if a debt you owe is canceled or forgiven, other than as a gift or bequest, you must include the canceled amount in your income.  If you are insolvent, the forgiven debt may not be taxable but will need to be reported correctly to the IRS.
• Sale of personal residence. Sale of your home can be excluded from income if you meet the two out of three year rule of occupancy.

So what is reportable income?  The answer is pretty much everything else not specifically excluded by law.  Taxable income includes:

• Wages, salaries and tips.  Any money or tender received for services rendered is taxable. This is often reported to the IRS in the form of W-2 wages, 1099 income or K-1 income from a business or investment.
• Bartering. Bartering or exchanging property or services is taxable income. The fair market value of the goods and services exchanged is fully taxable and must be included in income.
• Sick pay.  Sick pay is taxable income.
• Back Pay awards.  If you are awarded a settlement or judgment for back pay it is taxable income.  These include payments made to you for damages, unpaid life insurance premiums and unpaid health insurance premiums.
• Below-market loans.  A below-market loan is a loan on which no interest is charged or on which the interest is charged at a rate below the applicable federal rate.  If you make a below-market gift or demand loan, you must include the forgone interest (at the federal rate) as interest income on your return.
• Bribes.  If you receive a bribe, you are obligated to report the income.

These are the more common types of income and items effecting most individual’s taxable income.  If you have a question regarding your situation, give us a call.  We would be happy to assist you with your needs.