Individual Tax

Tax Liabilities of a Decedent

Because this is not often encountered, a number of tax practitioners are doubtful whenever they are asked to prepare the decedent’s final illness tax form. Often times, tax practitioners do this differently compared to how a living client would do it. They determine who signs the return especially in the stead of the decedent.

In this situation, it is better that the patient takes control of the situation and then make the form for decedent’s final illness be effective especially when planning the post-mortem. Practitioners can also aim to confidently access the Final Form 1040 and then calculate the tax savings for the family of the decedent.

Here are some necessary information about tax planning as well as preparation for decedent’s final illnesses.

Stop concluding an estimate of tax payments

When a taxpayer dies, this individual is no longer required to make tax payments, especially those that are estimated. There are family members that continue to submit the quarterly estimated tax vouchers especially during their final illness but truth of the matter is, this is not a requirement. In fact, when this is done, funds are taken out of the investment portfolio of the individual. If they do not do this, they could be earning income and growing their business instead.

Another thing to note is that no joint estimate of the tax payments can occur after the death of the decedent. The estate is also not liable to make payments. The tax year of the decedent finishes on the day he dies so the only income that is received until that date is reported on the Final Form 1040. If the deceased paid an amount every quarter in order to cover a tax liability that is expected of him, then he would no longer need to even generate those payments even after the end of that particular tax year. However, the spouse that survives the decedent has to make an estimate of the payments for tax liability of his or her own.

If the taxpayer is already deceased and took advantage of the safe harbor tax in the prior year then he can make estimated payments. The Form 1040 can then end up with balance that is due later that year as long as the tax preparer eliminates the filing of the Form 2210. This is Underpayment of Estimated Tax by Individuals, Estates and Trusts.

Who Signs?

The surviving spouse that files the joint return does not have to do anything in particular. Instead, the spouse signs on the departed’s behalf. If someone aside from the behalf is appointed by any court to administer the affair of the decedent, that personal representative or executor must sign this return and then attach copies of the certificate which clearly shows that an appointment was officially made.

If the return has an overpayment of taxes then it is clearly not a joint return associated with the surviving spouse. There is also no court-appointed personal representative or executor. The Statement of Person Claiming Refund Due to a Deceased Taxpayer of Form 1310 must then be filed and attached is the return that a refund must be obtained.

Cases of a Refund

If the decedent has incurred medical expenses during the illness and departed early during the year, this reports to a less substantial income. The family of the policy holder must then consider a separate filing because this would save taxes and let medical expenses exceed the gross income threshold. It creates an overall result for the loved ones of the policy holder.

Savings Bond Interest is Taxable to the Holder of the Bond

Here is a planning strategy for post-mortem. Savings bonds used to be popular among the older generation. Decedents have bonds that contain accrued interest and roll them into bonds that have been converted. These kinds of bonds accrue interest until the policy matures. This accrued interest that has not been taxed will eventually be taxed when the policy holder of the bond cashes this.

There is an exception that lets the accrued bond interest be reported on the final illness Form 1040. This saves the tax and carries these over the beneficiaries of the child’s marginal tax rate. This rate depends if the interest is cashed with the bonds.

It is very important to consider the reporting. The interest that is accrued through the day the decedent passes away is listed on the Final Form 1040. Afterwards, the beneficiaries then cash these bonds. They will then receive Forms 1099-INT or what is called Interest Income. The interest that they receive will be more than what is reported by the decedent final illness. This also continues as a form of accruement on bonds.

Those who have been listed as beneficiaries by the policy holder must report interest on personal returns in order to avoid duplicates from IRS. On the next line that is indicated Schedule B and with the subject Interest and Ordinary Dividends, beneficiaries must deduct it as negative income items with explanations that interest is also reported by the decedent. This is under Sec 454 of the policy. Bonds must also be cashed as quickly as possible. If these are cashed out five to ten years after the passing away of the decedent, it is easy to lose track of the accrued interest. The date of the decadent’s passing away must also be reported so that it can be taxed.

If the decedent turns out to be the beneficiary of the said bond, then this is for the best. When preparing Form 1041 or what is called the US Income Tax Return for Estates and Trust, the one filling up the tax or referred to as tax practitioner controls the process and reports the interest of the bond. The estate eventually reaches the possible rate of the federal tax.

However, if the decedent’s final Form 1040 is of a love tax rate, the family can definitely save from the taxes. It still depends on the value of the bond interest. They can also save if they report the interest of the bond and list this on Final Form 1040.

Allocating the income between pre-and-post death reporting

When a loved one passes away, they list the date of death and then most of the beneficiary, or family members, cannot obtain the federal ID for the estate. They also call the brokers and open new accounts and make sure that this is listed under the estate’s name. Then they transfer the decedent’s assets to those accounts that were newly created. This cannot be completed immediately due to the legal processes especially the appointment of the personal representative or executive. This takes times. The Forms 1099 that is strictly for investment earnings especially for the year when the decedent passed away is messy. This is usually included in activities that have taken place after the day the decedent passed away. It may also include the sales of securities and the basis that it has been adjusted to the values of the date of death.

The income that has been earned prior to the death of the decedent must be allocated to the Form 1040. Any earnings that have been accumulated after the decedent’s death must then be reported on Form 1040 to report this to the estate or to the return of the beneficiary. If this is an asset or a title that must be immediately transferred on the time of the decedent’s death, then the post-death earnings must be considered and reported to the surviving spouse.

Usually, the surviving spouse files jointly alongside the decedent. If this is the case, then this must be moved to a post-death income so that the Form 1041 can let the expenses incur even after the decedent passes away. The administrative expenses that have been incurred because of the policy holder’s death, along with the administrative expenses can also be incurred due to death. The administrative expenses can also be incurred due to death and to the offset of the post-death income. This is to consider the cost that is prepared and listed on Form 1041 that can be used by the expenses and for the income to be offset.

Medical Expenses concerning the Decedent’s Final Illness

Medical expenses can be deducted from the Final Form 1040 or in the form of debt and the federal estate return. This is also called Form 706 or United States Estate Tax Return. This is also Generation-Skipping Transfer. Here, the greatest benefit can be derived. When this is deducted and listed on Form 1040, then any expense that have been paid from that year is also deducted. It does not matter if it was paid before or even after the death of the decedent.

Medical expenses are eligible for the deduction on the Form 706 and the ones that have been paid are only after the decedent’s death. Medical expenses will not and can never be deducted from the Form 1041.

Federal Estate Tax is Not Deductible and State Estate Tax is Deductible

The federal as well as the state estate tax are deducted on the tax return of the federal income. However, beneficiaries can also be entitled to receive itemized deductions for the estate and also use this as what they call the generation-skipping tax that is transferred and eventually attributed to the income tax. This is due respect to the decent (IRD) and then placed on the individual income tax returns allocated for the year that is included in the income. Funeral expenses cannot be deducted on the income tax return.

Federal Income Tax Is Deductible

Amounts that are indebted on the final ITR or income tax return can be deducted as debt on the estate return. This is also called the Form 706. Meanwhile, income tax refunds can also be taxable to estate in the form of accounts receivable.

There is an option that is regarded as the deathbed conversion and moving it to Roth IRA. If the tax is then converted to the IRA and then it reduces the over-all size of the federal and taxable estate and then it leads to less income tax and then allocate this to the beneficiaries whenever they take withdrawals. This is what can benefit the loved once. By cashing the IRA as a whole before the decedent passes away, then the beneficiaries can lose the tax-free growth in the account balance which occurs over the expectancy of one life.

Think about taking the IRA withdrawals when the decedent is closing in to his or her final illness. If the beneficiary is near death, then it is enough that his or her income can be quite low and much to the withdrawal of the IRA. This would then proceed and fall to lower tax brackets. By taking that large IRA withdrawal and getting the amount then the resultant federal income tax can also be reduced to the assets of the estate when the decedent passes away. It can also be deducted to  what is already owed to the estate which then leads to the same low figure.

Extending Form 1040 to Facilitate the Planning During Post-Mortem

Form 706 or what is also called the federal estate tax return can also be due nine months after the decedent passes away. Form 1041 or what is called the estate income tax return is also used as a fiscal year end that can also be accepted on the last day of the month which falls in the next year before the month the decedent passed away. Form 1041 is due the 15th days of the fourth month after the end of tax year.

It is often preferred that the Final Form 1040 be extended and then prepared these returns so that all the angles are considered. Form 1040 is due every April 15 and when the decedent or the taxpayer passes away then there is a six month extension that can be received when the Form 4868 is filed. Taking the extension can then provide flexibility in determining that things that have been reported and then obtained to the over-all tax of the family.

Lifetime Learning Credit at a Glance

Due to the rising cost of further education, there are taxpayers who wish that it is possible to offset their school expenses. There is also the option to get the LLC on the federal income tax return. This credit can reduce the tax bill on the dollar-for-dollar basis is the portion of the fees and tuition that the individual pays for themselves.

Lifetime Learning Credit is the qualified tuition as well as related expenses that have been paid for the benefit of eligible students who are enrolled in an educational institution that is deemed eligible. This credit assists students in paying for professional degree courses along with graduate and undergraduate programs. These courses once acquired can improve the job skills of the individual. It is important to take note that there is no limit on the duration of the study and claiming the credit. It amounts to $2,000 for every tax return.

The LLC is provided and made available to tax payers. This credit can be claimed by any student or a family who pays taxes, as long as the student is attending classes at least on a part time basis. The credit is then claimed for the educational costs that have been incurred by the student.

Critics often complained that there are restrictions and complexity when it comes to the eligibility and qualifications. It makes the actual benefits for every student pursuing their post-secondary studies much lower than what is regarded as the theoretical maximum. Even with higher education and tax credits, there is still a remainder of tax-disadvantaged individuals compared to those who turn to these investments.

Who claims the LLC?

 In order to claim LLC, there are three requirements:

The dependent is willing to pay for the qualified education expenses toward higher learning.

  1. The dependent can pay the education expenses for a student who is eligible and is enrolled at an educational institution that is also qualified.
  2. The dependent is listed on a tax return.

 Who are the eligible students for the Lifetime Learning Credit?

 In order for the student to qualify for the LLC, he or she must:

  • Be listed, signed up on enrolled in taking courses at an educational institution that is deemed eligible.
  • Taking higher education classes or courses in order to get a degree or an education that is recognized in order for the individual to learn more and also improve the skills required for the job.
  • Be enrolled for one academic period at least and in the commencement of the current tax year.

Take note that academic period means semesters, quarters or trimesters, depending on the school session of the eligible educational institution. The school determines how the academic periods would be. Schools that resort to credit hours and not academic terms, the payment process is treated as if it were an academic period.

Calculating Lifetime Learning Credit

 The individual can include the fees, tuition and any supplies or books that are a requirement in purchasing directly from the educational institution. This also depends if this is an enrollment or a condition. If the professor suggests and recommends that they purchase textbooks and can enroll in the class even without this, this is not included in the credit.

Filling Out Form 8863

 By the end of the tax year, educational institutions must send them Form 1098-T that also includes the eligible costs. In order for individuals to claim this Lifetime Learning Credit, then these figures must be entered on Form 8863. When this form is prepared, the individual must only complete parts 3 along with parts 6 and then calculate this credit amount that they are eligible for. By transferring this credit amount to the income tax return then make sure that this is attached to Form 8863 before this is sent to the IRS.

TurboTax prepares the calculation for individuals to make filling up the form easier. By answering simple questions regarding the individual’s education expenses, the form can be completed in no time.

No Double Benefits Allowed

 It is not possible for the taxpayer to claim the Lifetime Learning Credit as well as a tuition deduction when he or she has already claimed the American Opportunity credit. The IRS only lets tax reduction for every student every year. However, before the individual can claim the LLC, they should also determine whether they are qualified and eligible enough for the American Opportunity Credit.

For a number of students who are taking four years of further studies, the American Opportunity credit offers more tax savings because the minimum credit that they can get is $2,500. TurboTax is also another tool that can be used to calculate this. It can also determine which credit would give the individual the biggest benefit.

What are the Income Limits for LLC?

 In order to claim the complete credit, the modified adjusted gross income or the MAGI must also be around $65,000 or the below. It can also be $131,000 or less if the individual is married and is also filing jointly.

  • If the MAGI ranges between $55,000 and $65,000. This is between $111,000 but also below $131,000 for couples who are married and filing jointly).
  • If the MAGI is beyond $65,000, the individual is not eligible for Lifetime Learning Credit.

The Modified Adjust Gross Income is the amount of the Adjusted Gross Income that appears on the tax return. This is located on Form 1040A which is the AGI on line 22. This is similar to MAGI. IF the individual files the Form 1040, then the AGI can be found on line 38. It also includes the following:

  • Foreign housing exclusion
  • Income that is excluded from the official residents from Puerto Rico or American Samoa
  • Foreign earned income that is excluded
  • Foreign housing deduction

If the adjusted gross income must be adjusted further in order to locate the MAGI, there are worksheets that can assist the individual to do so.

How to Claim Lifetime Learning Credit

 Usually, students receive the Tuition Statement or what is called Form 1098-T by January 31. This very statement helps in figuring out how much the student gets credit from LLC. The form then has the amount listed on either Box 1 or Box 2 to show that the amounts have been billed or received for the duration of that tax year. However, this amount cannot be the very amount that the individual has access to or can claim.

How Much Is Lifetime Learning Credit Worth?

 The usual amount of the LLC is 20% of $10,000 that is first earned is directed to the qualified education costs. It can also be the maximum of every $2,000 for each return. Take note that Lifetime Learning Credit cannot be refunded. Individuals can also turn to the credit to use this as a form of tax payment that they owe. However, they cannot receive the credit as a form of refund.

Qualifying Expenses

 The qualified tuition as well as the related expenses is also defined as the fees and tuitions that have been paid by the individual at most universities and colleges for the enrollment and attendance of the taxpayer. These expenses that qualify do not include athletic fees, room and board expenses, insurance costs and student activity fees.

Limitations

 The LLC has limitations. A taxpayer cannot have both the Lifetime Learning Credit and the Hope Credit for one student in a given year. The credit is also subject to limitations that have been designed and reserved in order to benefit the low to moderate income taxpayers. The credit is also gradually phased out when the taxpayer’s MAGI or modified adjusted gross income goes beyond $55,000. Those numbers also exceed $65,000. These numbers are also increased for those who file and amount between $110,000 and $130,000.

Tax Credits and Tax Deductions

 As a form of quick refresher, tax credits have a tendency to gain more benefit than deductions because it also reduces that tax liability on a dollar to dollar basis. Deductions, as opposed to tax credits, can reduce the amount of the individual’s income that is subjected to taxes.

Here is a situation. If the individual is eligible for $2,000 tax, then there is a deduction to a $2,000 from what the individual owes the IRS. This then saves the individual $2,000. If the student gets a deduction, he or she can also get an exempt in the amount from the income that is generated in the taxes. If the tax rate is effective at 25%, then the deduction can also translate to $500 as a form of tax savings. It is also possible for the individual to claim the deductions and the credits as long as they are eligible. The more rack up, then the less tax that they can pay.

 

Breaking Down the Lifetime Learning Credit

 

The IRS also provides tax breaks for students. An example is the Lifetime Learning Credit. If the individual claims this, then he or she can get it to $2,000 that is on the taxes for that year. Specifically, credits are calculated to 20%. This is from the first $10,000 that they incur in related expenses along with the qualified tuition. These related expenses incur supplies, books, equipment for studies and mandatory student fees.

 

Make the Most out of the Lifetime Learning Credit

 Any taxpayer who has already paid for the educational expenses for the duration of the year can get a breakthrough the LLC. There may be some strict guidelines as well as rules on how to go about it, but the individual can definitely explore this in order to get the best deal out of his money. It also means that it is possible to reduce the amount that is owed on taxes and even amount to $2,000 in the process.

We recommend consulting with a professional to check all the options and then choose the best that fits the situation of the taxpayer. These offerings from the government definitely cushion the blow of all the tuition costs and can also assist in paying the individual for their education or that of their child’s.

Lifetime Learning Credit Facts

Remember that when calculating the amount of the Lifetime Learning Credit, grants, employer reimbursements and scholarships are deducted from the amount, and then whatever is left is calculated. This is done in order for the IRS to know how much to give to the individual.

Paying for 2 or More Post Secondary Students

 The LLC has a strict rule of one for every household tax credit. If the individual pays for more than a single student who is attending post-secondary education, then the maximum amount for this calculation remains at $10,000 despite the total cost. If the taxpayer is paying for the education of the dependent, then he or she cannot claim the expenses under that particular tax credit.

Income Phaseouts

 The LLC sometimes go through what is regarded as the phase-out range. This means that the taxpayer has a MAGI or what is known as the Modified Adjusted Gross Income. The IRS tool can also confirm the eligibility of this amount. If it is minimum or in excess of the phase out amount, then the taxpayer cannot claim the tax credit.

Forms Needed to File for Tax Credit

 In order to claim the tax credit, the individual must have a Form 1098-T. This shows the amount that is billed and also received for the tuition. This is the form that must be filled out in order for the individual to claim the credit and then also attach the tax forms that the individual files.

Other educational tax credits to consider

 If the individual is not eligible to claim Lifetime Learning Credit on taxes, he or she can still check if she is eligible for the other educational tax credits such as Fees Deduction and American Opportunity Credit. The individual must do as much research as possible in order to lessen the fee that they would have to shoulder and take out of their own pockets. As long as they are eligible for that scholarship, grant or loan, they should go for it.

Interest of US Savings Bond

Interest on US Savings bonds are the low-risk savings products that usually have to be paid interest for a maximum of 30 years. The individual purchases these bonds though an electronic form care of Treasury Direct. These US savings bond are no longer issued in paper form. When the individual is an account holder of these US Savings bond, he or she can buy, manage and also redeem these interest on US savings bond directly from their browsers.

Purposes of US Savings Bonds:

  •  To finance an individual’s education
  • To supplement retirement
  • To give as a gift

 Rates and Terms of US Savings Bonds

  •  These savings bonds earn an interest at a fixed rate.
  • These savings bonds have interests added to them and they can be paid through cash when the bond is paid.
  • The bonds that have been sold at half the face value is then paid at a rate of $25 for every $50 bond that has been paid.
  • These electronic bonds that have also been purchased are then sold at a face value.

 Redemption Information of US Savings Bonds

  •  The individual must have a minimum term of ownership for 1 year
  • The individual must also have an interest-earning period of 30 years
  • There are early redemption penalties that are either a) before the 5th year with the forfeit of the interest from the 3 most recent months b) after the 5th year, there is no penalty.

 Tax Considerations

 The savings bonds are then exempt from the taxation by the State and the political subdivision of a State except for the purposes of inheritance or estate taxes.

Interest earnings are obviously subject to the Federal income tax

Interest earnings are also excluded from the Federal income tax when the bonds are eventually used to refinance the education. Check the education tax exclusions as well as the restrictions that apply.

US Savings Bonds Rates and Terms: Calculating Interest Rates

 What interest rates can the individual get if he or she buys the bond right now?

 The composite and usual rate for the US Savings Bonds that are issued between May 1, 2017 and October 31, 2017 is 1.96%. The rate that applies for the first six months allow the individual to essentially own the bond.

How do US Bonds Earn Interest?

 US Savings Bonds earn the interest monthly and it begins on the very first day of the month that it has been issued. The interest then accrued and eventually added to the bond and lasts for a maximum of 3 decades.

  • The interest is then compounded on a semi-annual basis. For every six months that the bond has been issued, all the interest that the bond has accumulated in the previous months is the new principal value of the bond. The interest is then earned on the new principal for the six months that follow. In this situation, in the seventh moth, the interest is eventually earned at the original price at the rate of the six months of the interest. On the 13th month, the interest is eventually earned and accumulated on the original set price at 12 months of the interest. (Note that the values that are displayed on the Savings Bond Calculator for the US Savings Bonds are less than five years. These should not be included in the last three months of the interest. These values also reflect the interest penalty of the amount.) If the individual holds the bond for less than five years, when this is cashed and redeemed, the whole amount of the bond is then received and also earned including the amount that was already paid.
  • It is possible to redeem the US Savings Bond after a year. However, if the individual does this before the bond even becomes five years old, then he or she loses the remaining three months of the interest.

 

How Does Treasury Figure the US Savings Bond Interest Rate?

 The interest on these US Savings Bond is a combination of the following:

  • An inflation rate
  • A fixed rate

In order to determine the current value of the individual’s bonds, he or she is advised to turn to the Savings Bond Calculator. When this tool is used in order to look up the total value of the US Savings Bonds that are usually less than 5 years, the individual must take note that these values usually do not over the remaining three months of the interest. However, it is also important to remember that the Savings Bond Calculator show the amount that these bonds fail to reflect due to the interest penalty.

Fixed Rate

 The fixed rate of the interest will let the individual get the bond once it has been bought. This fixed rate also does not change during the entire lifespan of the bond. The US treasury also has announced that the fixed rate for the US Savings Bond is set every six months. This usually falls on the first business days of both May and November. The fixed rate also then applies to every US Savings Bond that have been issued for the next six months of that time period.

The fixed rate of the US Savings Bond is an annual rate. Note that the compounding is eventually semi-annual.

Inflation rate

 Unlike the fixed rate that does not change for the remaining of the bond, the inflation rate usually and can change, especially every six months. The inflation rate is usually set every six months (as mentioned, it falls on the first business days of both May and November), depend it on the changes of the non-seasonal adjusted Consumer Price Index for every Urban Consumers. This is also called the CPI-U and applies to each item, including energy and food.

However, the change is then applied to the bond for every six months upon issuance of the bond. These dates are then changed and it may not fall on May 1 and November 1.

Combining the Two Rates

 In order to get both the actual rate (which is also called the earnings or composite rate), the inflation rate and the fixed rate are combined.

  • The combined rate should not be less than zero – ever. On the other hand, the combined rate can also be lower than what the fixed rate is. If the inflation rate amounts to something that is negative (due to the deflation and not inflation), it is possible to offset a portion of the fixed rate.
  • If the inflation rate amounts to something negative, then it would just take more from the fixed rate. This is not the ideal scenario. It is just important to stop at zero.

 

US Savings Bonds Tax Considerations

 Is US Savings Bond Interest Taxable?

 Individuals must know that the interest of their savings bond is also subject to:

  • A federal estate, excise task, gift or any other state estate and inheritance tax
  • Federal income tax that is not associated to the local income tax as well as the state tax

Using the money solely for higher education also keeps the individual from paying the required federal income tax on the bond interest of the savings. It is possible to use the US Savings Bond for Education.

Who owes the Tax from the US Savings Bond

 If you are the sole owner of the bond, you owe the tax. If you use the money in order to buy the US Savings Bond and then put it in both your name alongside a co-owner, you owe the tax. If you purchase the bond and someone else is listed, then the person whose name is listed owes the tax. If you and another person purchase the US Savings Bond together and both of you have put money in order to pay it and are named as both the owners, then you and that person must file a report and pay for the interest in proportion to how much was paid by each of you. If you and your husband or wife live in a community proper state and also purchase the bond which is regarded as a community property and then you eventually file for separate income tax returns on a federal level, then you and your spouse pay half of the interest.

In terms of re-issuing and changing ownership:

 If you surrender the ownership of the bond and then the bond is eventually re-issued, then you owe the tax of the bond that is earned until the day that it’s been reissued. If you are the new and current owner of the bond that has been reissued. You owe the tax on the interest that the bond has earned after it has been re-issued but only when or after this has been redeemed. It also shows that the interest is earned on the date that it has been issued and also includes the interest that has been earned before it has been re-issued.

When must the individual report the interest on his or her tax form?

 The individual has a choice. He or she can report the accumulated interest annually or defer or put off the report of the interest until a federal income tax return has been filed for that year in which these following events have occurred:

  • The individual has redeemed the cash from the US Savings Bond and also received the whole worth of the bond that includes the interest.
  • The individual has given up ownership of the said bond upon the re-issuing of the bond.
  • The individual has stopped earning interest because it has reached the final maturity.

 Reporting the Interest Toward the End

 A number of people defer filing and reporting the interest. They also put this off until they get to the point of filing the federal ITR for that said year. There they receive the worth of the US Savings Bond which also includes the interest.

When this stops earning interest, then these are automatically redeemed and then the interest that has been earned is eventually reported and filed to the IRS. It is possible to see the interest alongside the IRS Form 1099-INT.

  • If the financial institution covers and pays for the bond, then the individual receives what is called the 1099-INT from that financial institution right after the bonds have been redeemed which is usually around the first two months toward the end of the year.
  • If the US Savings Bonds have been redeemed, then this will be made available through the account.

 Reporting the US Savings Bond Interest Annually

 It is possible to choose to report the said interest on an annual basis. Those who do this often find it quite an advantage that they report this and file it under the name of their child. The child can then eventually pay taxes at lower rates even after the maturity of the bond.

The individual as well as the child on the bond do not receive the interest every year if they report it in that method. The interest that this bond eventually earns is then reported on 1099-INT after the redeeming and encashment of the bond or the reissuance in order to reflect that there is a change in taxes and ownership. This same form also shows the interest that the bond has been earned through the years.

Once the individual starts reporting the interest on a yearly basis, then the individual must also continue doing the same process year in and year out – especially for the savings bonds as well as future acquisition. The 1099-INT also shows the interest that the bond has accumulated through the years. For the individual to know more about the Interest non US Savings Bonds, they are advised to go to Publication 550 of Investment Income and Expenses to see the instructions in order for them to know how they can report the interest they can get in the coming years. Once he or she starts reporting the interest obtained per year, they can continue doing this in the following years for all their bonds and not just this one.

The Basics of Health Savings Account

An HAS is a kind of savings that lets the employer and the employee put aside some money as a pre-tax in order to pay for eligible medical expenses. It is important to note that an HAS can only be used if the employee has a HDHP or what is also known as the High Deductible Plan.

The HAS is also a medical savings that has a tax-advantaged made available to all taxpayers in the US. The over-all funds that are in the account may not be subjected to federal tax especially during the time of the deposit. The difference between the FSA or what is known as the Flexible Spending Account, is that the HAS can carry over and also accumulate every year if this has not been spent. The reason for this is because the HAS is owned by the employee, therefore setting it apart from the HRA or the Health Reimbursement Arrangement which is owned by the company. This is also an alternate source for tax-deductible funds. Both, however, are paired with standard health plans or the HDHPs.

HSA funds can also be used for eligible medical costs that have no liability or even penalty on federal taxes. Starting early 2011, the medications that are purchased over the counter can no longer be paid using the HSA if there is no prescription from the doctors. The withdrawals for these non-medical costs are also regarded in the same way as those of the IRA or the individual retirement accounts. This is because they can provide the tax advantages if these are taken after they retire. They can also incur penalties when these are taken earlier. These accounts are components of health care that is specifically targeted to consumers.

The HSAs and its proponents believe that these are necessary reforms that can reduce the increase in expenses regarding health care as well as the effectivity of the system. According to these proponents, the HSA can encourage people to save for their unexpected future health care as well as the expenses that go along with it. This allows patients to obtain the necessary care and there is no gatekeeper involved. Usually the gatekeepers determine what the individual can receive as benefits. Consumers are now more responsible when it comes to their own choices in their health care all because of the HDHP.

As for those who do not find the HSA necessary and are opponents of this, they believe that it makes the medical system worse. Health care in the US cannot improve through the HSA because individuals may even hold back on their expenses. They may also spend it in unnecessary circumstances simply because it has already accumulated the penalty taxes just by withdrawing it. Those who have problems in their health have annual costs that are predictable and choose to avoid the HSA so that the costs can be paid by their insurance. There is a current ongoing debate about the satisfaction of the customers who hold these plans.

These usually have lower monthly premiums than most plans that have low deductibles. Using the untaxed funds in the Health Savings Account allows the employee to pay for the medical costs even before the deductible has been reached. This also includes other deductibles such as copayments which are usually payments done from the employee’s pockets. This eventually reduces the over-all value of health care expenses.

The funds from the employee’s HSA carries or rolls over to the next year if it has not been spent in the year it was allocated. The HAS can also earn interest. It is possible for employees to open the HSA through their banks or financial institutions that they have access to.

History of the HSAs

 The Health Savings Accounts were established in compliance with the Medicare Prescription Drug, Improvement and Modernization Act. This is also the enactment of the Section 223 of Internal Revenue Code. This was signed on December 8, 2003 by President George Bush. They were also developed so that it can replace the account system for the medical savings.

Deposits of the HAS

 Deposits to the HSA fund can be made by any individual who holds the policy, as long as this also comes with a HDHP or the high deductible health plan care of the individual’s employer. If the employer makes the deposit to the plan for all his employees then everyone must be regarded equally. This is covered in the non-discrimination rules that is also stated in the act. If the contributions have been made via the plan stated in Section 125 then the rules for non-discrimination also do not apply. Employers have to treat the part time and the full time employees differently. Employers can also treat the family and individual participants n different manner. The treatment of the employees who have not been enrolled in the eligible and high deductible health plan covered by the HAS is not also considered solely for non-discrimination purposes. Employers can also contribute more than usual for the employees who have not been compensated as highly as the others.

The contributions from the employer and to the employee’s HSA can also be made on the pre-tax basis, depending on the preference of the employer. If the said option is not considered by the employer then these contributions are made on post-tax basis and also used to reduce the GTI or gross taxable income on the Form 1040 of the following year. The pre-tax contributions of the employer are also not subject to the Medicare Taxes as well as Federal Insurance Contributions Tax Act. It is important to note that the pre-tax contributions of the employee that were not made via the cafeteria plans cannot be subject to Medicare and FICA taxes. No matter what the method used or tax savings associated regarding the deposit, these can be made by persons that cover the HAS-eligible and high deductible plan that does not include coverage way beyond what is qualified and eligible for the health care coverage.

The maximum deposit on the annual HAS is also the lesser compared to the deductible or what is specified in the limitations of the Internal Revenue Service. Over time, Congress has then abolished this particular limit, basing this on the set statutory and deductible that limits the contributions to its maximum amount. Every contribution that is sent to the HAS, no matter the source, can also be included in the maximum annual amount.

The catch up and statute provision can also apply for the participants of the plan who are aged 55 and older. This allows the IRS to limit the increase. In the income tax year 2015, the limit to the contribution is $3,350 for single individuals and it is $6,650 for married individuals. There is an additional $1,000 increase for those who are older than 55.

Every deposit that is made to HSA can ultimately become the possession of the plan holder, no matter where the deposit comes from. The funds that have been deposited and are not withdrawn can be carried over to next year. Plan holders who also discontinue their qualified insurance coverage from the HSA can deposit even more funds, and the funds that are already placed in the individual’s HSA can still be used.

On December 20, 2006, the Tax Relief and Health Care Act was signed and put into law. It also added another provision that allowed the roll-over of all IRA assets for just one time so that it can equally fund up and amount to a maximum contribution for the HSA that is set for a year. However, the tax treatments on the HSA for every state varies. There are three states that do not let HAS contributions be deducted from the tax earnings or the state income taxes. These are Alabama, New Jersey and California.

Investments on the HAS

 The funds in the HSA can also be invested in the same manner as that of investments that have been done for the IRA or the individual retirement account. The investment earnings that have been sheltered from the taxation until the point that the money has been withdrawn can also be sheltered at that time.

Similar to the IRA that is self-directed, the account for health savings can also be treated as such. A usual HSA custodian offers investments like stocks, mutual funds, bonds, financial institutions and CDs. These also provide the accounts that offer alternatives on investments which can also be made through the HAS. The Section 408 of Internal Revenue Code does not prohibit the investment in collectibles and life insurance but HSAs can also be used to invest in various assets which also include precious metals, real estate notes, private and public stocks and more.

HSAs can roll over from one fund to another and HAS cannot roll into the IRA or the 401k. Funds from these investment vehicles can also be rolled into the HAS, except for the IRA transfer that is done one time as mentioned in the previous paragraph. Unlike the contributions to the 401k plan, the HAS contributions that belong to the plan holder, no matter the deposit source, is already his or her possession. An individual that is contributing to the HSA has no obligation whatsoever to contribute to the HSA that is sponsored by his or her employer. However, employers require payroll contributions be made to the HSA plan that is sponsored.

Withdrawals for HSA

 Policy holders of the HSA do not have to get the advance approval are of the trustee of the HSA or the medical insurer for them to withdraw their funds. Funds are not also subject to taxes if these are for eligible medical costs. The costs include expenses for items and services that have been covered by the plan but is also subject to the cost-sharing of the company like coinsurance, copayments and deductible. This can also over the expenses that are not included in the medical policies. These are vision, dental, chiropractic care as well as the medical equipment that should last for a long time, specifically hearing aids and eyeglasses. Transportation that is connected to medical care are also included in this health plan.

There are many ways to fund the HSA can be obtained. There are HSAs that come with a debit card. There are others that give the policy holders checks so that this can be used. Some have reimbursement processes that is close to having a medical insurance. A number of HSAs also have a number of possible methods for withdrawal of the HSA. The methods that are available vary from one HSA to another. The debits and checks cannot be made payable to provider of the health plan. The funds can also be withdrawn for this reason. Withdrawals are not documents when it is not a qualified and eligible medical costs. These are subject to taxes with a penalty of 20%. This is waived for individuals who are aged 65 and older and have unfortunately become disabled during the time when the withdrawal is done. The only tax that is paid in this situation is taken into effect when the account has already become tax-deferred, somehow similar to the IRA. Medical expenses remain to free of taxes.

The account holders are also required to retain their documentation to show the qualified medical costs. The failure to do this and to show documentation can also cause Internal Revenue to rule out the withdrawals that have not been qualified for the medical expenses along with the over-all costs and subject to the additional penalties of the taxpayer.

Self-reimbursements have no deadline for qualified medical costs that are incurred after HSA has been established. The participants can also make the most of paying for these medical costs fresh from their pockets and also retain the receipts as long as their accounts are tax-free. Money can also be withdrawn for reasons to the value of the recipients.

COBRA – Continuation Health Coverage

Are You Covered?

Congress passed the Consolidated Omnibus Budget Reconciliation Act that has health benefit provisions since 1986. This law amends Employee Retirement Income Security Act, Public Health Service Act and Internal Revenue Code. The goal of COBRA is to continue health coverage for groups that must be terminated otherwise.

COBRA has provisions giving former retirees, employees, dependent children and former spouses the right for temporary continuation of coverage on health insurance plans in terms of group rates. However, the coverage can only be made available when this is lost because of specific needs. The Group health plan coverage for participants in COBRA is more expensive than the health coverage of employees who are currently active. Usually, it is the employer that pays the portion of the premium for the employees who are currently working while the COBRA participants pay the full premium themselves. Surprisingly, it is less expensive than the usual health policies.

Employers who have 20 or more individuals in their company are required to provide COBRA coverage for them. It is also their responsibility to notify the employees that this coverage is available. COBRA also applies to the health plans that have been maintained by the employers in the private sector as well as those that are sponsored by local governments and most state.

Who are entitled to COBRA benefits?

There are three qualifications for COBRA benefits. In fact, COBRA has already established specific and clear data for the policy plans, qualifying events and qualified beneficiaries.

Plan Coverage: Employers who have 20 employees under their wing for more than half of the typical business days in the year before are required to be under COBRA. Both the part time and full-time employees are included in the tally of determining whether the health plan is more suitable for COBRA> Every part-time employee is a fraction of the other employee, therefore what one gets is equal to what the others guest, if they share the same number of rendered hours. The calculation is the hours that part time employee rendered divided by hours that the employee will work if he will be rendering full time hours in the future.

Qualified Beneficiaries: To be considered as a qualified beneficiary, the individual must be covered by a health plan for groups on the very day before an even that is considered to be qualifying by either the employee, the spouse of the employee or the dependent child of the employee. There are cases wherein the retired employee or the spouse of retired employee and dependent children of retired employee are also qualified beneficiaries. Aside from this, a child that was born or placed through adoption with an employee who is covered during COBRA coverage is also regarded as a beneficiary that is qualified. Independent contractors, agents and directors who are part of the health care for groups can also be eligible beneficiaries.

Qualifying Events: As mentioned earlier, these are events that cause the employee to lose or discontinue his health coverage plan This kind of qualifying event can also determine who among them will be qualified beneficiaries as well as the time duration that the plan will be offered to cover them through COBRA. The plan, using its discretion, can also provide a longer period of coverage that will continue for a long time.

These are qualifying events specifically for employees:

  • Voluntary termination as well as involuntary termination of the individual’s employment due to reasons aside from gross misconduct.
  • Reducing the total hours of the individual’s employment.

These are qualifying events specifically for the spouses of the employees:

  • Voluntary termination as well as involuntary termination of the individual’s employment due to reasons aside from gross misconduct
  • Reducing the total hours that are worked by the employee who is covered by the plan
  • The individual who is covered by COBRA is entitled to get Medicare
  • The legal separation or divorce of the individual who is covered
  • The death of the individual who is covered

Qualifying events for the dependent children of the individuals who are covered are similar to that of the spouse but has this addition:

  • Losing the status of being a dependent child as listed in the rules of the specific plan.

 What are the Benefits Covered Under Cobra?

 The qualified individuals and beneficiaries must also receive a coverage that is similar and available to those who are situated in the same beneficiary as those not receiving the coverage of COBRA. In general, this is the similar coverage that an eligible beneficiary has as immediately as possible before he or she has qualified for a coverage that continues. If there is a change in benefits due to the specifics of the plan for an employee who is currently working, this will still apply to the beneficiaries who qualify. Qualified beneficiaries can also make similar choices that are offered to the individuals who are not under COBRA, like periods of enrollment in the plan in an open setting.

Who is charged for the COBRA coverage?

The beneficiaries are required to pay for the coverage under COBRA. This premium may not go beyond the 102% of the total cost of the plan especially for individuals who are similarly situated but have no incurred the qualifying events as specified. This also includes the portion that is covered by the employees as well as the portion that the employer has already paid for even before the event that qualifies, atop the 2% rendered to cover the administrative costs.

For beneficiaries who qualify, they receive the 11-month disability that is the extended duration of the coverage. This is also the premium targeted for the additional months that can also increase to as much as 150% for the total cost and coverage of the health plan.

COBRA premiums can also increase if there are costs to the said plan that also increases but these can also be fixed when set in advance for every premium cycle of 12 months. The plan can also let the qualified beneficiaries pay the premiums indicated on monthly basis if they requested for this. The plan can also let them make the payments in other intervals, the choices are weekly basis and quarterly basis.

The initial payment of the premium can also be made during the 45 days after the COBRA election date of the qualified beneficiary. The payment can also cover the coverage period after the COBRA election date that is retroactive to the loss of coverage date because of the event that is considered to be qualifying. The premiums for successive coverage periods are due and set on the date that is stated and mentioned in the plan coverage with 30-day minimum for grace period payments. Payment is also considered to be made accordingly on the specific date that is directly sent to the plan coverage.

If the premiums have not been paid on the first day of the coverage period, then the plan can opt to cancel the coverage until the payment for this has been received and immediately reinstate the coverage as retroactive to the start of the coverage period.

If the amount of payment that was made to the coverage was conducted in error but not significantly lower than the amount due, then the plan requires to be notified by the beneficiary that is qualified and report it as a deficiency. The individual will then be granted a period that is reasonable, which is usually 30 days, to pay for the difference. The plan coverage is also not required to send the individual monthly notices of the premium.

The COBRA beneficiaries stay as subject to the rules especially to the plan and must also satisfy the costs that are related to deductibles and co-payments. These are also subject to benefit limits.

The Federal Government and COBRA

The continuing coverage of COBRA as administered by the several agencies like Department of Treasury and Department of Labor have jurisdiction especially on the private-sector and health group plans. Meanwhile, Department of Health and Human Services also administers the coverage as it continues because it has an effect on the plans for the health of the public sector.

The regulatory and interpretative responsibility of the Labor Department can be limited to the notification requirements and disclosure of COBRA. If further information is needed about ERISA in general, then the individual can just write to the office of EBSA that is nearest to him or her. It is also possible to consult the US Department of Labor as well as the US Government for the listing in the phone directory of the office near them. EBSA is Employee Benefits Security Administration under US Department of Labor.

The Department of Treasury as well as the IRS has also issued regulations on the provisions of COBRA that is related to the coverage, eligibility and premiums. Both the Department of Treasury and the Department of Labor share the jurisdiction for enforcing the said provisions.

COBRA coverage and the Marketplace

When the individual loses the insurance that is received from his job, then he is also offered the continuation coverage of COBRA by his or her former employer, if the latter opts to do so.

If the individual chooses not to take the coverage of COBRA any longer, then he or she can just enroll in the Marketplace plan. Losing the coverage from the job-based health premium lets the individual qualify for the Special Enrollment Period. This is a period of 60 days that allows the individual to enroll the health plan and this can be done even if it is outside the Open Enrollment Period.

Is it possible to change from COBRA to a Marketplace Plan?

If the individual’s COBRA is running out, he or she can still change during Open Enrollment. It is also possible to change outside Open Enrollment as long as the individual qualifies for the Special Enrollment Period.

If the individual is ending his or her COBRA coverage earlier than expected, he or she can still change to the Marketplace plan during Open Enrollment. It is however a different case outside Open Enrollment. The individual can no longer change from Cobra to Marketplace in this scenario. He or she has to wait for the COBRA to run out and for him or her to qualify for the Special Enrollment Period in one way or another.

If the COBRA costs have changed because the individual’s former employer have also stopped contributing and is required to pay the full cost of the coverage, the individual can still change to the Marketplace Plan during Open Enrollment. It is the same during outside Open Enrollment. He or she can still change especially when he qualifies for the Special Enrollment Period.

More information on COBRA

COBRA also qualifies as the health coverage or what is also regarded as the minimum essential coverage. That being said, if the individual has the COBRA coverage, then he or she does not have to pay the complete fee that other people who are not covered by COBRA are required to pay.

If the individual has already signed for COBRA coverage but then eventually finds the premium and payments to be too expensive, his or her options depend entirely on whether it is the Open Enrollment Period. He or she can change to the Marketplace but that can cost him or her more than usual because he or she has to opt out of the coverage.

As for people who are wondering if it is possible to switch to Medicaid from their COBRA coverage but outside the period of Open Enrollment, it is important to note that it is also possible to apply for as well as enroll to be covered by Medicaid at any time. The process is to drop the COBRA coverage earlier than expected and to check if the individual qualifies for both Medicaid and CHIP. This is done by people who leave the employers and those who find the COBRA coverage more expensive than expected.

Child Support and Taxes: Non-Custodial and Custodial Parent FAQs

Child custody arrangements and income are two factors that are very important when determining child support and income tax return. Generally, the non-custodial parent of the child (the parent who takes care of the child for less than half) pays child support to the custodial parent (the one who primarily cares for the child every day.) Custody, child support and income are connected, therefore the responsibilities due to child support also affect the tax returns of the non-custodial parent.

Income affects Child Support orders

When a child support order is established, a judge follows specific guidelines from the state. Those guidelines are “income driven.” This means that the support amount is determined by the income of both parties involved. Income also goes beyond salary and wages. Nonetheless, it is also important for parents to comprehend the funds that are defined us “income” when talking about the guidelines of child support. Take this for example, the new spouse’s income, if the income is deducted from the expenses of the custodial parent, then it is regarded as the income for child support.

The IRS does not consider child support as income

According to the IRS, payments from child support cannot be considered as income that is taxable. This means that child support payments will not be deducted by the noncustodial parent (the payer) and not taxable to the custodial parent (payee). When calculating for the gross income to check if the payer and payee are qualified for filing of tax return, one must not include the payments received from child support.

 Form 8332 affects the Child Tax Credit

Certain individuals can claim tax credit for their children, as long as they have been claimed as dependent. Only the tax paying parent can use the dependency tax exemption when claiming the Child Tax Credit. A parent who is custodial can use Form 8332 and release the exemption for the parent who is non-custodial. Based on the circumstance, the latter can qualify for the dependency exemption and the Child Tax Credit. For explanation on the qualification for Child Tax Credit and its calculation, there are Instructions for Form 1040 as well as Instructions for Form 1040 index for Child Tax Credit.

The non-custodial parent cannot be eligible for EIC even if he or she has received permission from the custodial parent to claim the tax return.

The Earned Income Credit is tax credit for who work and earn income that is less than a specific amount. There are rules that individuals must meet in order to qualify for an EIC. There are some parents who can receive EIC if their child is considered to be a qualifying child. Generally, non-custodial parents have no claim for the EIC because the children do not live with them. This means they do not qualify and pass the residency test. Since the custodial parents meet the requirements, then he or she can claim the EIC.

Child Support is not Tax Deductible

The person paying for child support cannot deduct payments on the tax return. Neither is child support included in the income of the person in charge of making those payments.  IRS states that Child Support payments are not deducted from the payer and not taxable for the payee. Furthermore, when calculating the gross income, child support payments that have been received are not included. The reason behind this is that two tax laws work together in determining the tax for child support. On one hand, it can be said that child support is taxable because of the rule that gross income is all income from the source. However, there is an important qualifier. This is ruled that if it is stated in the subtitle, gross income pertains to any source. Therefore, this includes amounts that have been received as separate maintenance payments or alimony.

But there is also a general rule for exceptions for child support.  Any payment, in terms of divorce or separation as a sum can be considered as payable for Child Support of the payor’s spouse.  In other words, Child Support cannot be regarded as gross income of the recipient of the funds.

The person paying can deduct amounts that qualify as alimony. However, because child support is not regarded as alimony, then the person who is paying child support cannot reduce the payments as part of any tax deduction or alimony. In order to qualify as child support, there are payments that must be designated as such in a separation agreement or divorce.

Child Support in Arrears

The Treasury Department re-directs federal tax refunds from those who have not been paying their child supports.  As mentioned in Treasury Offset Program, the government pays the tax refund money to the child support agency of the state and they then get the funds to the child. There are a number of single parents who are not sure how child support can impact their tax bill. This also holds true to parents who have been receiving the child support for their children as if they were the ones who were paying it monthly.

Child Support is Not Taxable

The parents who are receiving child support must know that money does not affect the taxes that they need to pay. The commonly asked questions are “Will I owe more taxes this year? And “Is child support taxable?” These are nagging questions and the US government does not regard child support as taxable income in whatever form.

While individuals regard child support as part of their income because these checks arrive monthly, the government does not see this the same way. Here’s the truth: people pay income tax on their income. On the other hand, child support is the money that is received for the kids. For the government, it is not income so there are no taxes. Therefore, for single parents, these make it easier for them.

For those who are on the receiving end, this is what they can take away from it: Any money that has been received as child support for the income tax year is not regarded as taxable income and they won’t pay federal or state taxes from it. They will not pay for it today, nor will they pay for it tomorrow.

As mentioned earlier, child support is not deductible. It is actually two fold. The payments from child support cannot be deducted. A lot of parents ask this because they do not miss a single payment of child support. There are tax breaks for single parents but this is not counted as one. If parents pay child support to their children, they cannot reduce this from their total income so that they can adjust their taxable income. However, they must not forget that providing financial support to their children is a contribution to the well-being of their lives and therefore is a meaningful act. They must keep doing it even if they will not receive any deduction in doing so.

Another upside is that parents who pay child support can declare their children as dependents, and this in turn, provides them with the tax benefits that they are requesting for. If the children are living with them for more than six months, then they can file the income taxes as Head of Household status and also regard them as dependents. The money for child care can then be qualified for Child and Dependent Care Tax Credit.

If kids haven’t been living with the tax payer for more than six months, they should consider that in some cases there are parents who have a right to claim the children as their dependents but opt not to do so. If this is the case and it is alright with the ex-spouse, then the tax payer can pay a Form 8332 with the IRS or the Internal Revenue Service, then they can claim their children as their dependents in their place. If this is the case, the ex-spouse should be the one to file the form first because the children cannot be claimed as the dependent of both parents. This might make the taxpayer vulnerable to an audit conducted by the IRS.

The IRS treats the payment as child support when the child is still a minor. It may come in amounts in the form of fluctuating income and childcare needs. These qualifying childcare expenses and specific healthcare costs for minors, school expenses, and college tuition can have deductions but these are not often discussed. Tuition and Fees Deduction and the American Opportunity Tax Credit can allow that payers to deduct a total of $8,500 from these.

The Tuition and Fees Deduction can also reduce payments that the tax payers made for the tuition and fees of their dependents. Total deduction is $4,000 annually and this is for a single filer with income that amounts to as much as $65,000. It reaches up to $130,000 for those who filed jointly. It’s $2,000 for a single filer who earns between $65,000 and $80,000 (It’s between $130,000 and $160,000 for those who filed jointly.)

The American Opportunity Tax Credit is also regarded as refundable credit for those who qualify for graduate expenses like tuition, school supplies and books. These are pretty much for the tax payers who earn more than $80,000. If they file jointly, it’s $160,000. The payor can also claim his or her own expenses of that of the dependents, like the child’s.

The credit is $1,000 for the first $2,000 from the expenses that have been paid and what follows is an additional 25% from the $2,000 that follows, therefore generating a potential of $2,500 credit. 40% of the whole $4,000 is also refundable so that is more than $1,000 that will come back to the tax payer.

Paying child support for dependent children who do not live with the tax payers mean the taxpayer cannot claim the children as their dependents.

As mentioned previously, there is no child support tax deduction that is available in this setup. Also, for the child to be qualified as dependent, he or she must not be providing for his or her own child support for the income tax year. The child must have also been residing with the tax payer for more than six months. So, for the child of separated or divorced parents, the qualifying child is declared of the parent who is living with the child. According to the tax law, this person is regarded as the custodial parent.

For the non-custodial parent, the child can be a qualifying child if these requirements are met:

  • One or both parents have provided for more than half of the total support of the child for the year.
  • One or both parents have the custody of the child for more than six months.
  • The parents are legally separated or divorced and have been living apart the whole time for the past six months.

If this is the case, then the noncustodial parent takes the dependency exemption:

The custodial parent has given up the exemption and signed the Form 8332 which is Release Revocation of Release of Claim to Exemption for Child by Custodial Parent. The noncustodial parent then attaches this specific form to his income tax return.

The noncustodial parent also attaches that the agreement has taken effect. He must declare:

  1. That the noncustodial parent claims the child without any condition, specifically payment of support
  2. The years that the noncustodial parent is eligible to claim the child
  3. That the custodial parent will not claim the child during mentioned years

In a nutshell, child support does not affect taxes as much as alimony does:

  • If the taxpayer pas child support, this cannot be deducted. The tax payer just has to report their actual income and not decrease the amount of the payments they make for child support.
  • If they receive child support, then they should not include that in taxable income. They also cannot regard this as earned income for them to qualify for an EIC.

Discussion About EITC or Earned Income Credit

The EITC or EIC, also known as the Earned Income Tax Credit is what working people with low up to moderate income acquire as a benefit. However, there are qualifications to get this. They must meet specific requirements and also file their tax return. EITC also deducts the amount of tax that the taxpayers owe and can give them a refund.

The amount of the benefit from the EITC depends on the taxpayer’s income as well as the total number of children. For the individual to claim one or more EITC per qualifying child, there must be requirements like a relationship, shared residency and age, and these three must be met. Taxpayers with no child and earn income below the standard that is stated by the IRS receive a small amount of EITC benefit. The US tax forms 1040A, 1040 and 1040EX are used to claim EITC for those who do not have qualifying children as their dependents. Taxpayers with qualifying children can claim their credit by filling up forms 1040 and 1040A.

EIC phases slowly and has a medium-length plateau. After this, it phases slower than before because it constantly phases in. For example, if the credit phases at 21% for taxpayers that have more than one qualifying child, it has 16% of taxpayers who have one qualifying child. Therefore, taxpayers must always choose one more dollar of their actual wages or salary and increase this by fifty-dollar increments. It is also preferred to allot extra fifty-dollar increment per wages and salary by considering just the EITC. However, if the EITC is combined with other tested programs such as Temporary Assistance for Needy Families or Medicaid, the Marginal Tax Rate exceeds 100% in some circumstances. It depends on the state of residence of the tax payer. Under these circumstances, net income rises faster than the increase in the taxpayer’s wage due to the phasing in of the EITC.

History of the EITC

The EITC was enacted in 1975. It was created with the intention that it expanded by the tax legislation on certain occasions, which included the publicized Tax Reform Act of 1986. It was then expanded in the years 1990, 1993, 2001 and finally 2009, even though the act raised taxes in general (specifically 1990 and 1993) and lowered the taxes in 2001. It also eliminated the other credits and deductions in 1986. Nowadays, EITC is one of the largest anti-poverty tools that Americans turn to. However, it is important to note that most income measures that also includes the poverty rate, do not account this credit.

A qualifying child, when defined, can be the taxpayer’s son, daughter, adopted child, stepchild or foster child or even any descendent. It can also be the taxpayer’s sister, brother, half-brother, half-sister, stepsister, stepbrother or other descendants like nephew, niece, great nephew, great niece. A qualifying child can also be an adopted child provided that he or she has been placed lawfully in the home of the taxpayer.

When the taxpayer is claiming for the EIC from a qualifying child, he or she must be older than the latter. The only exception for this is if the qualifying child is classified as totally and permanently disabled for that specific income tax year. A qualifying child can be as old as 18. A qualifying child is also a full-time student who can be as old as 24. A qualifying child with no age limitation are individuals who are disabled. Taxpayers who are parents claim their child or children as their dependents unless they are also waiving the credit for that year to another family member who is an extended relative with a higher AGI. It is also important to note that there is no support test for Extra Income Credit. There is just the six month plus one day shared residency test.

When Are Refunds Expected?

If the taxpayer claims the EITC as well as the ACTC (which is additional tax credit) on the tax return that they filed, the IRS must hold onto the refund of the taxpayer – even if the portion does not have anything to do with the ACTC or the EITC.

Qualifications for Earned Income Credit

To qualify for the EITC, the taxpayer must have income because he has worked or he is running his firm or business and can meet the standard rules.

How to Claim EITC

Taxpayers must have filed a tax return before they can claim EITC. They need to submit the required documents and be on the lookout for the common errors that are made on filling up the forms. They should also be aware of the consequences when they file an EITC return, and an error was discovered. They should also be knowledgeable on how they can get help preparing for their return as well as what they should do just in case the EITC was denied. Most importantly, they need to know how they can claim the credit for previous tax years.

Why did I receive a letter from IRS regarding EITC?

IRS sends letters out regarding EITC because they are suggesting the taxpayer to claim their EITC because, upon careful review of their taxes, they qualify for this. They also ask the taxpayers to follow up on the additional information and send these to the IRS so that their claim can be verified. IRS also calls to gather more information about the claim.

Who claims the credit and how to get the EITC

The taxpayer or his or her spouse (if a joint return was filed) and others listed as the dependents must all have SSNs that are valid and required for their employment and issued before the due date of the return. This is one of the requirements to claim the credit and also qualify for an ETIC. The taxpayers must also have enough earned income by working for a company or a business or running or owning his own.

If married, the IRS should not be filed separately. The taxpayer must also be a US citizen or a resident alien.  It is very important that the taxpayer is not a qualified dependent (whether qualified child or qualified relative) of another taxpayer.  He or she must also have met the earned income, investment income limits and AGI for the specific tax year.

If these requirements are all met, then the taxpayer is qualified for EITC. The next step is to file the tax returns with the IRS even if the taxpayer owes no tax or not required to file in the first place.

If IRS denied the taxpayer an EITC last year and he or she is qualified in the current income tax year, the taxpayer must attach the completed Form 8862 or what is also known as the Information to Claim Earned Income Credit After Disallowance to claim EITC. Taxpayers need not file Form 8862 if the IRS has decided to reduce or not allow the taxpayer to receive an EITC  due to intentional disregard or recklessness concerning EITC rules.

Earned income also includes wages and taxable income that the taxpayer obtains from working for a company or running or owning his firm or business.

Taxable earned income covers the following:

  • Salaries, wages, tips
  • Benefits from union strikes
  • Disability benefits that the taxpayer receives before reaching the minimum age for retirement
  • Net earnings from self-employment

Combat Pay

Taxpayers can choose to include their nontaxable combat pay in their earned income that is taxable to get the EITC. They either have to include it or not include it at all. If they choose to do this, then they have to check if they can include this whenever the taxable increases the refund or deducts the amount of tax that is owed. If the spouse of the taxpayer is also eligible for nontaxable combat pay, then both of them can opt for one that is best. The amount of the nontaxable combat pay is shown on the Form W2 in box 12 with the code Q.

How is credit calculated?

After the taxpayer determines that he or she does qualify for EITC, there are two choices to calculate the credit:

  1. Let the IRS do the work. Follow the instructions stated on Line 64 on Form 1040. It is found on Line 38a on the Form 1040 as well as on Line8a on Form 1040EZ.
  2. They can calculate the credit themselves. They must use the EIC Worksheet and follow the instructions stated in the booklet for Forms 1040, 1040A and 1040EZ as well as the EIC Table. They can also use online tools such as the EITC Assistant Tool which is available in both the English and Spanish language.

If taxpayers are prohibited to claim their EITC for years and the year after that due to an error from reckless or intentional disregard of the rules for EITC, then the taxpayer is prohibited to claim EITC for two years. If the error was because of fraud, they could not claim EITC for the next decade. The date that IRS denies the EITC of the taxpayer and the date on which the taxpayer files the return affects the next time frame of 2 to 10 years, then they will be barred from ever claiming their EITC.

Other Requirements for EITC

  • The investment income cannot be more than what is stated in the income tax year.
  • The taxpayer must be a US citizen or a resident alien. If he or she is married and is filing jointly and one is a citizen, and one is not, then the taxpaying couple must regard the non-resident partner as a resident who then concludes that their entire income would be subject to taxes. Only then will they be able to qualify for EIC.
  • Files with or without children that are qualified should have lived in the 50 states or District of Columbia for more than six months and one day. The Northern Mariana Islands, American Samoa and Puerto Rico are not included. However, a taxpayer who is on an extended military duty is still considered to have met the requirement of the duration of his stay even if he or she is serving time away.
  • Taxpayers who do not have a qualifying child must be 25 to 64 years old. Married couples without a qualifying child must only have one spouse within that age range. A single individual with a qualifying child has no age requirement, aside from the fact that he is not the qualifying child or dependent of another taxpayer. A married couple with one qualifying child is classified as claimable by a qualifying relative, and the couple must also have earned income before once can qualify for an EIC.
  • All taxpayers and qualifying children must have valid social security numbers. This includes the SSN cards that have “Valid for work only with DHS authorization” and “Valid for work only with INS authorization.”
  • For Single, Qualifying Widows, Qualifying Widowers, Heads of Households and Married but Filing Jointly taxpayers, they must have valid filing status for the EIC. It still depends on the total income of both the husband and the wife. Married couples who file jointly can have a better advantage depending on the phase out. A legally married couple can also file jointly despite that act that they have lived apart for the entire income tax year and even if they do not have any expenses or revenues that they share throughout the income tax year. As long as both the husband and wife agree to file together, then they can do so.

Finally, another important note to look at is that it phases out by the adjusted gross income or the greater of the total earned income. For example, a married couple whose overall income amounts to $21,500 but has $3,100 investment income is eligible for the maximum credit, depending on the number of their qualifying child. That investment income cannot get any greater than $3,100. They also receive zero EIC. There are some incomes that range beyond this, depending on the increase of dollar investment as well as the result of the losses after dollars that have been taxed.

A Closer Look on Personal Exemptions in Regards to Deductions and Tax Breaks

As stated in the tax law of United States, “personal exemption” is the amount that resident taxpayers can claim as a form of tax deduction alongside their income whenever taxable income and federal income tax are calculated. It can decrease the income tax payable to the point of it reaching a level that is tax-free. However, it will never lead to a tax refund. It must be noted that the amount of personal exemption depends on the inflation of that year. For example, in 2016, the exemption was $4,050. The year before, which was 2014, it was $50 less ($4,000).

Exemptions consist of personal exemptions for taxpayers that are calculated individually. It can also include family or dependents whenever the situation is appropriate. To determine this, they must check the Internal Revenue Code. The liability of income tax can be calculated by associating the proper tax rate to the income that is taxable. This is also stated in the Internal Revenue Code.

Overview

 To elaborate more on the Internal Revenue Code, it is under Section 151 that personal exemptions from taxes are stated. This was put into action in August 1953. “Personal Exemptions” allowed a particular level of income and was not subjected to federal income tax. The purpose of this exemption was to insulate from the whole process of taxation one way or another. It intends to reach the very minimum amount of cash that someone can get to a level that is extremely subsistence. This means the amount requested is just enough for necessities, such as clothes, food, shelter. Some exemptions are always adjusted to go with inflation and sometimes it is inadequate for the law-abiding citizen who pays taxes. It can be so low that it is not enough to subsist on it. Aside from personal exemptions, taxpayers can also claim deductions that can deduct the income level that is critical for taxation.

All in all, personal exemptions are claimed by the taxpayer along with their dependents (but they have to be qualified.) The spouse of the individual can also claim this under the following conditions: 1. the couple applied separately and individually, 2. the spouse does not have a gross income and, 3. the spouse is not listed as a dependent of the individual. As for the taxpayers who have filed joint returns with their spouses, it is stated in the IRS Regulations that two personal exemptions are possible.

If the taxpayer is the dependent of another taxpayer (whether there are claims or not), this taxpayer cannot file for a personal exemption.

Who Can Be Exempted?

 The taxpayer is allowed one exemption. If he or she is married, he may have one exemption for his or her spouse. These are “personal exemptions.” Taxpayers can take exemptions for themselves. It is also possible to be claimed as the dependent of another tax payer. If the other taxpayer is eligible to claim another as dependent, then the latter cannot take an exemption for himself or herself even if the former does not claim the other as their dependent. However, it should be clear that the spouse is never considered as the dependent – immediately upon filing.

There is also the difference between Joint Return and Separate Return. On joint returns, taxpayers claim one exemption for himself/herself and the spouse. For separate returns, taxpayers claim exemptions for themselves and their spouse if there is no gross income, not filing for returns and these two individuals are not dependent on the other. This holds true even if one taxpayer does not claim that the spouse is his/her dependent.

Exemptions for the spouse can be claimed if he/she is a non-resident alien. However, the qualifications are they must not have any gross income that is for US tax purposes, they must not have filed any return, and they are not dependent on the other taxpayer.

If the spouse died sometime during a particular year when the joint return was filed for the taxpayer and the deceased taxpayer, then the surviving taxpayer can claim the spouse’s exemption under rules that have been mentioned here, in the definition of a Joint return. If the filing was made under a separate return for that year, then the surviving taxpayer can claim the exemption of the spouse under the rules that have also been stated here, in the definition of a Separate Return.

If taxpayers remarried during that year, then they can take exemptions for the spouse that passed away.

If they are a surviving spouse with no gross income and they remarry in the same year that the spouse passed away, then they can claim as the exemption on the separate return of the spouse that passed away. If taxpayers file joint returns with the current spouse, then they can claim as the exemption on that return.

For divorced or separated spouses, taxpayers can obtain the final decree of the separation or divorce maintenance in the year that this was filed. They also cannot take the exemptions of the former spouse. This can also apply even if the former spouse has provided the support.

Exemptions for Dependents

 Taxpayers are allowed to have one exemption for every individual that they can claim as their dependent. They can claim the exemption for the dependent even if the latter has filed a return. Dependent when defined means either a qualifying child or a qualifying relative. These terms are elaborated later on in this article.

Phase Out

Personal Exemptions started phasing out when the Adjusted Gross Income has exceeded the threshold amount of the personal exemptions. For example, the threshold in 2014 tax returns for individuals listed as single was $254,000 while it was $305,050 for joint returns.

If the taxpayer is the dependent of another taxpayer (whether there are claims or not), this taxpayer cannot file for a personal exemption.

Whenever taxable income is calculated, taxpayers can claim personal exemptions that they are eligible for as stated under Section 151 and decrease this amount from the AGI which is also known as the adjusted gross income.

Using 2014 as an example, the personal exemption at that time was $3,950, and it started phasing out once it reached the maximum phase out.

The beginning of phase out and the maximum phase out of AGI varies based on the filing status of the individual. These are grouped together as married individuals who are filing for joint returns, the heads of the households, single individuals and married individuals who are filing separately. Married Individuals filing joint returns have the highest AGI whereas married individuals who are filing separately have the lowest.

Who Can File as Dependent?

 Section 152 of the Internal Revenue Code has requirements that should be met before taxpayers claim another individual as a dependent that can get a personal exemption. The general rule is personal exemptions can be taken for dependents that qualify – either a child or a relative. There are still lots of exceptions nonetheless.

Taxpayers who claimed as dependents of others will not be able to file for personal exemptions for their dependents who qualify, as stated in Section 152. Married individuals who also filed joint returns will not be able to claim themselves as dependents of other taxpayers, also stated in Section 152. Non-US Citizens like permanent residents or nationals from foreign countries cannot also claim themselves as dependents. Taxpayers who are US citizens can claim a child or children who live in the same residence as the taxpayer and is part of the family of the taxpayer.

Children as Qualified Dependents

 Qualifying children must be children, as stated in section 152. “Children,” as defined, also include those who are adopted, foster children and step children. As mentioned above, qualifying children should be living in the same house as that of the taxpayer for a given time, which is more than six months.

Individuals can also include children, siblings, half-siblings, step siblings, or descendants of the tax payer as long as they are not yet 19. If they are studying, then the case is different, and they are considered to be qualified until they turn 24. The exemption to this limitation in the age of children is if they are totally or permanently disabled.

Children cannot qualify as dependents on multiple tax returns. The IRS code contains a series of rules that make sure that this does not happen. It limits taxpayers who are eligible to only the parents of the child. If the parents are not available, then the non-parental taxpayer with the highest gross income after adjustments can file for them.

Qualifying Relatives as Dependents

 Relationships that are allowed and considered to be eligible for the relative of the taxpayer to be considered as a dependent are innumerable. These are allowed for as long as the local law is not violated. As mentioned earlier, relatives can include siblings, step siblings, half-siblings, descendants of children, ancestors of parents, father, mother, nieces, nephews, step parents and even in-laws for as long as they are under the same roof as the tax payer.

Overview of Rules for Claiming Personal Exemptions for Dependents

 This section makes it easier for you to view the rules that have been mentioned in this article. It is pretty much the gist of what has been discussed throughout.

  1. Taxpayers cannot claim any dependents if they are claimed as a dependent of another taxpayer.
  2. They cannot claim a married person who is also filing a joint return himself/herself as a dependent unless the said joint return has been filed with the intention of claiming a refund or withholding income tax or an estimation of paid taxes.
  3. They cannot claim another individual as their dependent unless this person is a US citizen, a resident alien, a national, or a Canadian or Mexican citizen.
  4. They cannot claim the individual as their dependent unless this person is eligible to be considered a qualifying child or a qualifying relative.

For the Child to be Qualifying

  1. He or she must be the direct descendant, foster child, stepchild, sister, brother, half-sister, half-brother, step sister or step brother.
  2. He or she must be below 19 at the end of the year when this was filed and also younger than the taxpayer who is filing for him or her. If the child is a student, then he or she must be under the age of 24. There are no limitations on the age of the qualifying child if the individual is totally and permanently disabled.
  3. He or she must have resided with the taxpayer for more than six months.
  4. He or she must not have provided for his or her financial support for the specific year.
  5. He or she must not have filed a joint return for that year unless that return has been filed for the sole purpose of receiving a refund of withheld or estimated income tax.

If he or she met the rules to be eligible and regarded as a qualifying child of more than one taxpayer, only one taxpayer can declare the child as his or her qualifying child.

For the Relative to be Qualifying

  1.  He or she cannot be the qualifying child or that of another taxpayer.
  2. He or she must be your relative and must have lived with you for a year in the household that you have stated in your tax returns.
  3. His or her gross income for that year is less than $4,050.
  4. The taxpayer must be paying for more than half in the form of support for the individual for a duration of the year.

These are the terms and requirements and everything you need to know to understand personal exemptions alongside tax and deductions better. It may be a bit overwhelming to comprehend at first, but once you get the gist and the requirements for the eligibility, then you will have the 411 on the matter.

Treatment of Transportation Expenses When Not Traveling Away from Tax Home

When you ride a cab or get in your own car to do business somewhere, have you ever thought of your transportation costs and how much of it you can actually write off? So many materials have been written about deductible expenses when people travel away from their tax homes for business, but those that tackle deductible expenses when not traveling away from home are scarce.

Here, let’s focus on your transportation costs when you are technically not traveling away from home. But before we go to your expenses, remember first that you are considered traveling away from home if you meet the following criteria:

  • Your business or job requires you to be away from your tax home considerably longer than your ordinary day at work.
  • You need to sleep to meet the demands of your work.

If you don’t meet the above mentioned criteria, then you are not traveling away from home so this chapter is for you.

You probably know that the law mostly does not allow deductions for personal expenses, so we’re talking about business expenses here.

Transportation Expenses

By definition, transportation expenses cover your cost of transportation– may it be by rail, bus, taxi or air, as well as the cost of maintaining and driving your own car.

According to the IRS rule, these expenses include all ordinary and necessary costs of the following:

  • Going from one location to another while conducting business or performing your profession, as long as you are traveling within the general area of your tax home.
  • Visiting your customers or clients.
  • Going to a business meeting that is not within the area of your regular workplace.
  • Temporarily going from your home to a workplace when your business or job requires you to have more than one regular place of work. Here, it doesn’t matter whether your temporary workplaces are within the general area of your tax home or not.

Remember that generally, the transportation expenses that will be discussed in this chapter do not include those that you incur when you travel away from your tax home overnight, though the rules here apply when you use your own car to travel away from home overnight as this will cover car expense deductions.

Basically, the transportation expenses that you incur daily when traveling from your home to one or more of your regular workplaces are considered nondeductible. That means that if you ride a bus to travel from your home to one of your regular workplaces, you are generally not allowed to write off the commuting expenses that you incur. However, there are certain exceptions to this rule.

If you go between your home and your temporary workplace outside the general area of your residence, you are allowed to deduct the transportation expenses that you incur. You can also deduct your daily transportation expenses in the following situations:

  • If you have at least one regular work location away from your home.
  • If your home is your regular workplace or place of business and you incur transportation expenses when you go to your home and another work location. However, that work location should fall in the same industry or business, regardless of the distance and regardless of whether the work you do there is permanent or temporary.

When Transportation Expenses are Deductible

Before we go into the finest details, here is a summary of the key locations you should consider and the instances when you can and cannot deduct your transportation expenses:

  • This home is not necessarily your tax home but the place where you live. The transportation expenses that you incur when you travel to and from your regular or main place of work are considered personal commuting expenses and are therefore nondeductible.
  • Regular or Main Job. This refers to your main place of work or business. In the event that you have more than one job, you can determine which of your workplaces your main workplace is by considering the time you spend at each, as well as the activities you have at each and the income you earn at each. While your transportation expense from your main job to your home are nondeductible, your expenses from your main work location to your temporary work location or second job and vice-versa are always deductible.
  • Temporary Work Location. Your temporary work location is any place where you are expected to perform your job in a year or less. You can only write off your transportation expenses to your temporary work location if it is not within your metropolitan area, unless you have a regular workplace or place of business.
  • Second Job. You are allowed to deduct your transportation expenses when you get from one workplace to another if you have more than one job and are required to regularly work in more than one place in a day. Whether or not your two or more jobs are for the same employer, your transportation expenses are always deductible. However, you cannot deduct your transportation expenses if you’re coming from your home going to your second job. Remember that you have to go directly from your first job to your second job for your transportation expenses to be deductible. If you go somewhere else after leaving your first job, the amount you spend for your transportation going to that place is nondeductible.

The above-mentioned rules apply when you incur transportation expenses since you have a regular job away from your home. If your main workplace or place of business is your home, do not use the rules for reference.

How to Know if Your Work Location is Temporary

 If your regularly incur commuting expenses because you have more than one regular work location in the same business away from your residence, you can write off the transportation expenses that you incur for your daily round trip between your home and your temporary workplace, regardless of how near or far that workplace is from your home.

In case you are expected to complete your employment at a particular workplace in a year or less, then your employment is considered temporary. Your employment is not considered temporary if your employment at a work location is expected to last for more than a year.

But what if your employment was initially expected to last for less than a year, but due to unavoidable circumstances, you are suddenly expected to work for more than a year?

In that case, your employment will be treated as temporary and same rules on tax deductions apply. If your temporary workplace is not within the general area of your regular workplace and you stay there overnight, then you are considered traveling away from home and the treatment of your transportation expenses depends on the rules under the Traveling Away From Home section of the IRS Publication 463.

 If You Do Not Have a Regular Place of Work

 If you do not have a regular place of work but usually works in the metropolitan area of your residence, you can write off your daily transportation expenses between your home and temporary workplace that goes beyond that metropolitan area. The IRS defines this metropolitan area as the area which covers the area within the city boundaries, as well as the outskirts of the city.

Keep in mind that you cannot write off your daily transportation costs if your temporary workplace is located just within the metropolitan area because these expenses are considered nondeductible.

When You Have Two Places of Work

 Some people have more than one job in a day, and therefore have to go to two work locations in a day. If you are one of them, you are allowed to deduct your transportation expenses when you get from your first work location to the other and vice-versa. That is regardless of whether or not your two jobs are for the same employer.

But what if for some personal reason you fail to go directly from your first work location to the next?

In that case, you are not allowed to deduct your transportation expenses because the rule states that you cannot write off more than the amount it costs you to go directly from your first workplace to the next.

For instance, it’s your day off from your main job and you incur transportation expenses when you go between your home and your part-time job, such costs are considered commuting expenses and are therefore nondeductible.

When You are a Member of the Armed Forces Reserve Unit

 Specific laws are set in place for people who are members of the Armed Forces reserve unit.

Say you have a meeting in that unit. If that meeting is held on a day when you are not off from your main job, then the venue of the meeting is considered as a second place of business and the transportation expenses you incur in getting there from your main workplace are deductible.

However, if the meeting is held on a day when you don’t work at your regular job, your transportation expenses become nondeductible.

The story is different if the place where the meeting is held is temporary and you have more than one regular place of work.

Say you regularly work in a certain metropolitan area but not at any specific location in that area, and the meeting is temporarily held outside that metropolitan. In that case, you are allowed to deduct your travel expenses.

Your transportation expenses also become deductible if your being a reservist requires you to travel more than 100 miles away from your residence. If you travel that distance in connection with your performance as a reservist, you can deduct some of your costs not as itemized deductions but as an adjustment to your gross income.

Commuting Expenses

 Generally, commuting expenses are the transportation costs you incur when you commute from your home to your main place of work and vice-versa. The costs of taking a trolley, bus, taxi or subway between your home and your regular work location are nondeductible since the law sees them as personal commuting expenses.

Regardless of how far your residence is from your regular place of work, you cannot deduct your transportation expenses.

You may ask, what if you still work during the commuting trip?

Performing your job during your commuting trip does not change your commuting expenses from personal to business expenses.

Take this as an example. You use your phone to make business calls while commuting. Or you have your own car and colleague rides with you on your way home. During you travel, you engage in a business discussion. In both cases, your transportation expenses remain personal and nondeductible.

When you commute to and from work, your taxi fare usually is not the only cost covered by your transportation. Take a look at these accompanying commuting expenses:

  • Parking Fees. When you bring your own car to work and pay to park your car at the parking lot of your business location, the parking fee is nondeductible. The only parking fee that is considered deductible is that which you pay for when you visit a client.
  • Advertising Display on Car. Just because you put display material advertising your company does not necessarily mean that your car is for business use, so the expenses you incur for putting such displays on your car are all nondeductible.
  • Car Pools. When you use your car in a nonprofit car pool, you still cannot write off the cost of doing that. You should not include the payments that you receive from your passengers in your income. However, you may do otherwise if you operate a car pool for a profit. In that case, you may include their payments in your income and then deduct your car expenses.
  • Hauling Tools or Instruments. Hauling instruments in your car when you are commuting to and from work does not make your transportation expenses deductible.

 When Your Home Qualifies as a Principal Place of Business

 If you consider the place where you live as your main place of work or business, your daily transportation costs between your home and your other work location are deductible. Take note, however, that the work you do in your home and in the other workplace must be in the same business.

All things considered, it is safe to say that nothing in tax law is straightforward, no matter how easy you may find identifying deductible transportation expenses is.

Where is Your Tax Home?

If your job requires you to travel from time to time, some of the expenses that you incur while traveling away from home may be entitled to tax deductions. In this sense, however, home does not necessarily refer to the place where you live but the place where you work. This is what the Internal Revenue Service (IRS) refers to as your tax home.

Determining where your tax home is is the first and most fundamental thing that you need to do if you want to determine if you are really traveling away from home.

Basically, your tax home refers to the general area of your workplace, regardless of where you actually live. So, if you work in New York, your tax home is New York.

Do not be confused if the place where you work is different from the place where you lay your head at night, because your tax home designation has nothing to do with where you live. In fact, you may travel miles from your permanent residence to your workplace every day, but your workplace will still and always be your tax home.

 Why You Need to Determine Your Tax Home

Often, when you attend a cocktail party and are asked where your home is, your answer is your current place of residence. However, that is not necessarily the case if the one asking you is from the IRS.  While their tax home is the same as their personal home for some taxpayers, the story is different for those who frequently travel for work or business. Don’t think that your tax home doesn’t deserve a thought, because it does matter especially for taxpayers like you.

According to the IRS, your travel can be considered deductible if your work or business requires you to be away from home longer than your normal work hours. Given that, it is clear that the key criterion in determining if your travel expenses are deductible is if your travel takes you away from your tax home.

Differentiating your tax home from your personal home is crucial because only those expenses incur while you are away from your tax home are considered by the law as deductible.

Your Tax Home, As Per the IRS

 IRS’ definition of tax home is plain and simple—Your tax home is your regular place of business or post of duty, regardless of where you maintain your family home.

Basically, your tax home covers the general area or the entire city where your business or workplace is located. If your office is somewhere in Cortlandt Street in New York, then your tax home is New York. If you travel to Louisville every week for your business but return to your permanent residence in Nashville on weekends, your tax home is still Louisville even if you call Nashville home.

 Why Your Workplace Must Be Your Tax Home

There is a reason the IRS requires every taxpayer to know their tax home, and there is a reason the tax home designation exists in the IRS law. The purpose of the tax home designation is for the deduction of travel expenses associated with work or business. This explains why in the eyes of the tax-collecting agency, your workplace is your home and not your apartment.

Imagine living miles outside Louisville but working in the city. If there is no tax home designation, then you must also be counting your house in Nashville out as your tax home. If that is the case, then theoretically, you can declare each and every expense you spend in Nashville as a business or work-related expense. The IRS is wise enough not to fall for such tricks.

When You Have More Than One Regular Place of Business

 Some taxpayers find it hard to determine their tax home because they have multiple places of business. Should that be your case, then your tax home must be your main place of business or the place where you conduct majority of your business. So, if you have offices in Nashville, Louisville and Franklin, then you must declare the place where you do most of your work as your tax home. In this case, the IRS expects you to consider the following in determining your tax home:

  • How much is the total time that you normally spend in each workplace?
  • How much work do you usually accomplish in each workplace?
  • How much money do you make in each workplace? Is the income you earn from conducting business there significant or insignificant?

Of the above mentioned criteria, the first one is the most important since the IRS states that the place where you conduct most of your business should be your tax home. Logically, the workplace where you spend most of your time is the same place where you conduct majority of your business.

Take this as an example. You reside in Birmingham since you have a seasonal job there for nine months each year. Annually, you earn around $50,000 from your seasonal job there. For the rest of the year which is equivalent to three months, you work in Atlanta where you earn $20,000. In that case, you may consider Birmingham as your main place of business since you spend most of your time there and you earn most of your significant income there.

When You Do Not Have a Regular or Main Place of Business

 Taxpayers who have more than one regular place of business and those who do not have a regular or main place of business usually have the same dilemma in determining their tax home. According to the IRS, for taxpayers whose nature of work causes them to not have a regular or main place of business, their tax home must be the location of their residence or where they regularly live.

Say you are a freelance web designer and do not have a regular office where you conduct business. Since your job requires you to visit offices of your clients to discuss business with them, and since you do not really have a workplace of your own, then your tax home is your house.

Freelance workers and travel bloggers are perfect examples of taxpayers who do not have a regular workplace, since they do not have a fixed place where they conduct business. In this case, you do most of the work at home so your tax home may be your actual home or your personal residence.

Take a look at these factors which the IRS considers in determining your tax home if you do not have a regular place of business:

  • You at least perform part of your business in the area of your personal residence and use it for lodging while conducting business.
  • There are living expenses in your personal residence that you are compelled to duplicate because your job or business needs you to travel away from home.
  • You do not abandon the area of both your place of lodging and personal residence are located, members of your family live with you in that residence, and you use that home for lodging most of the time.

Remember that you need to meet all the three criteria so you can consider your personal residence as your tax home. If you meet all the three factors, then any travel expense that you may incur away from your personal home can be considered deductible since they meet the “away from home” requirement for business travel deductions.

Unfortunately though, if you only meet one of the three factors, then the IRS can consider you as not having a true tax home so you can write off none of your travel expenses.

For example, your family residence is located in Indianapolis. In that city, you work 15 weeks a year. For the rest of the year, you work for the same employer in Cincinnati, where you dine in expensive restaurants and sleep in a rented apartment. For you, it doesn’t really matter whether you are in Indianapolis or in Cincinnati because your salary is the same whether you are in one city or the other. However, since you conduct most of your business in Cincinnati, that city is considered your tax home. That means that even if your expenses there are bigger than when you are in Indianapolis, you cannot deduct any of your expenses for meals and lodging while you are there. When you return to your family home in Indianapolis, you are away from your tax home so you can deduct the cost of your round trip between Indianapolis and Cincinnati, as well as part of your family’s living expenses for meals and lodging while working in your personal home.

When You Do Not Have a Fixed Workplace and a Fixed Home Address

 In determining your tax home, there is something much worse than having more than one regular workplace or not having a regular workplace at all– Not having a regular place of business or post of duty and no personal residence at the same time.

While determining your tax home is not that easy if you have more than one regular workplace, it becomes easy when you finally determine which among your workplaces is your tax home. And while determining your tax home is not that easy when you do not have a regular workplace, it becomes easy when you have a personal residence which you can call your tax home.

However, things become a bit complicated when you do not have a regular place of business and you do not have a place where you regularly live at the same time. In that case, the IRS considers you as an itinerant.

The IRS law states that the tax home of an itinerant or a transient is wherever he works. If you belong to this category, then you are not entitled to travel expense deductions because no matter where you work, you are never considered to be traveling away from home.

Since as an itinerant, everywhere you work is your tax home, you are never really away from home, which means that you cannot write off any of your travel expenses.

An outside salesman is an example of an itinerant. Say you are an outside salesman whose sales territory covers different states. The main office of your employee is in Memphis but you do not work or conduct any business there. Your work assignments are relatively temporary and you have no idea about the locations of your future assignments. Your sister is renting out a room somewhere in Saint Louis so you stay there for a couple of weekends each year, but you do not conduct any business in that area. You do not pay for your accommodation there either. Since you do not satisfy any of the previously mentioned factors that will make your regular home your tax home, then you are considered an itinerant and therefore have no deductible travel expenses.

 When Traveling is Considered Traveling Away from Your Tax Home

 Regardless of which of the abovementioned categories you fall under, all the said criteria boil down to the fact that determining your tax home is critical in determining your tax liability when traveling. Once you have already identified your tax home, it will become easier for you to know which of your travel expenses you should write off and which you should not.

It is also worth mentioning that these tax home rules are the same whether you are an employee or a self-employed individual, although there are certain instances when the degree to which you can write off your business travel expenses may differ.

For instance, employees can only deduct work-related expenses that they have not reimbursed from their employers, while self-employed individuals can deduct the full amount of their travel expenses as long as they are incurred away from their tax homes. In any case, remember to keep well-organized records like receipts, checks and other documents to support your deduction claims.