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Tax Planning In The US

Peter DeGregori, Managing Partner of Vertical Advisors LLP, talks to Finance Monthly about the variations in federal tax, the use of offshore trusts for tax mitigation and keeping up to date with new legislation.

Is it fair to say that most HNWIs and SMEs pay more tax than is necessary? How would individuals and companies be alerted to this scenario?
In our experience, we see individuals and privately held companies paying too much income tax and not having a good understanding of the strategies and options that are available. If a taxpayer files a tax return and feels they are paying too much income tax, they should stop and get a second opinion. In our experience most tax preparers are not tax strategists.

Are there particular state or federal taxes that could easily be reduced with timely professional advice?
Each business is slightly different but there are a lot of similar strategies that privately held businesses can utilize. Surprisingly, we are seeing that tax returns are not prepared correctly and just that error creates an audit risk, which can consume time and money. We also see that businesses are not utilizing Research and Development Credit, the Domestic Production Activity Deduction and many other tax strategies that are available.

In your experience, what are the typical problems that small businesses have regarding their accounting and income tax?
When we meet with a new client, we first focus on their accounting and financial reporting. In our experience, this is the most critical piece of their business. This data provides the company with information to help them run their business, and make better business decisions. Too often we find that the accounting function isn’t running properly and we must fix that first. Good accounting is not only needed for management to run the business but it can be an integral component for tax planning, employee compensation, banking, government examination, and potential sale or IPO.

Offshore trusts that are used for the purposes of tax mitigation have received bad press in recent years – what is your view on trusts used as a vehicle to offer lower taxes?
It is a tool that can be part of a strategy if it makes sense for the taxpayer. Too often we see a professional suggesting an offshore trust or a complex strategy when we don’t feel it is necessary.

How can tax saving initiatives be kept up to date, especially in light of changing legislation? What happens if a current tax plan is no longer viable because of legislative changes?
Unfortunately, tax laws change often. Most tax strategists keep up on the tax law changes so they can perform their job well. We review our client’s tax strategy at a minimum annually. If there is a big tax change, then we review with each affected client.

Many companies and individuals may wish to minimize tax liabilities, but are put off by potentially being challenged by the IRS? In reality is this the case? Is there increased risk by undertaking a tax mitigation plan?
Certain tax treatments can increase the change of an examination. However, if the tax strategy is done correctly, then we suggest it as it is the law and we build each client file to be prepare for a government examination.

Is tax mitigation more possible in the context of federal taxes?
Yes, depending on the state(s) you reside or have business activity in, income taxes can cost up to 50% of profits. We feel this is very high, and we are passionate about creating customized tax strategies to help our clients legally mitigate income tax.

Are there certain industry sectors that benefit from tax breaks in the US?
There are typically tax strategies that any industry can use. However, some of the more typical strategies that can be used are for US manufacturers, real estate, farming, and any business that spends a good amount of money in R&D. However, there are tax strategies which are not dependent on the type of industry.

Bitcoin – The IRS stated it is taxable. Now what?

BitcoinOn March 25, 2014, the Internal Revenue Service (IRS) released Notice 2014-21 stating that virtual currency is treated as property. In English, this means that virtual currency like Bitcoin will be subject to income tax just like it is treated as cash or property.  The taxability will depend on the type of transaction and how it is received.  The type of tax treatment will be similar based on current transactions dealing with cash and existing tax laws.  Let’s look at three common examples:

Employment & Independent Contractor Relationship:  We all know, that if you work for someone as either a employee or independent contractor and you are paid in cash, that the cash amount is taxable as compensation or income.  Thus if you work for someone and they pay you in Bitcoin or another virtual currency, the IRS is now stating that transaction is taxable based on the fair market value (FMV) on the day of receipt (assuming the taxpayer is using the cash basis of accounting).  If a taxpayer is using the accrual method of accounting, income would be triggered differently.  Thus the employee or contractor would be taxed just like they received cash.  Some items to consider are:  (1) Will you receive a W-2 or 1099-k?, (2) The income most likely would be subject to self-employment tax, or Federal and state withholding, payroll tax and don’t forget additional Medicare tax (AKA Obamacare), (3) Tracking the income at the date of receipt will provide a tax basis / cost, (4) Tracking a gain or loss on the date of conversion from Bitcoin to cash or property.  Thus, there are many things to consider.  The fact that virtual currency will eventually be converted into cash or property creates an additional step not generally created if paid in cash.

Mining Operation: If you own or are a partner in a mining operation then the mining operation will generate income when a Bitcoin or virtual currency is mined.  Depending on the entity structure type  (i.e. sole-proprietorship,  C Corporation, S -Corporation, Partnership, LLC) the taxability of the income will be treated differently.  When a business is in the business to generate a profit, then expenses to run the business can be deductible against the income.  Side note, there are exceptions if the business is deemed illegal.  Anyway, thus in a virtual mining operation, the hardware, software, utilities and other operating expense can be used to reduce the taxable income.  Then depending on the entity structure, the income will be taxed differently.  The mining operation taxability is similar to any other for profit business, but again, another step is created due to a virtual currency being used.  Since virtual currency mining isn’t like normal manual labor mining, the tax issue of this business being active or passive is more relevant.  This again, can change the tax results.  For example, will Net Investment Income Tax (NIIT) / (AKA: Obamatax) be due?

When the virtual currency is mined, the FMV of that currency will generate income.  That currency value on that date should be tracked as it will generate income and also create a tax basis for the currency.  If the virtual currency is exchanged into US dollar, then the transaction has ended and income is generated.  However, if the virtual currency is held for a period of time, then the business should keep track of the FMV on the date it was mined and generated income.  Later when the virtual currency is exchanged into US currency, that transaction will create another taxable transaction based on currency exchange tax laws.  Thus tracking the virtual currency from mined date to exchange date is very important.  As with any business it is also important to make sure the business is properly tracking and supporting expenses and chooses the entity structure wisely.  For example, an S Corporation structure can generate less tax than a sole proprietorship or partnership / LLC.  Entity structures need to be throughly reviewed  based on the business operation and consideration of the partners / shareholders.

Let’s discuss an example.  A mining operation generates three (3) bitcoins.  The value of those bitcoins on the day they are mined is $700 a coin, so income under the new IRS ruling would be  $2,100 for that week. If the bitcoin is exchanged into cash on the mining date, then the income step is over. However, if the bitcoin isn’t exchanged into dollars on the mining date then the company needs to track the bitcoin and later when it is exchanged into cash at $800 a coin, there would be $300 of additional income.  However, if the exchange rate  is $600 a coin, there would trigger a $300 loss.  The mining income and exchange income should be tracked separately due to various tax laws.

If you are part of a pool mining operation, then the above still needs to be considered and then other tax items like, passive versus non-passive come up slightly differently.  Also, the pooling operating agreement should have an operating agreement, explanation about tax ramifications and who is the tax matters partner.  All these items discussed come up with any business.

Investing in Virtual Currency:  If an individual invests in virtual currency, then the transaction should be treated just like any other investment.  For example, buying a stock.  The opportunity to be taxed at the lower long term capital gains rate is possible.  The long term capital gains tax rates are generally either 15% or 20%, and then one must not forget the Net Investment Income Tax (NIIT) / (AKA Obamatax).  The individual will need to track their cost basis / tax basis, the date of purchase, the date of sale and the sales price.  The holding period will determine if the transaction will qualify for the reduced long term capital gains rate or not.

In summary, now that the IRS has taken the position that they will treat virtual currency like property from a tax law perspective, income tax now becomes an issue that virtual currency holders didn’t really have to worry about in the past.  It will be interesting to see any debate about the IRS notice and to see how the community will deal with the IRS notice.  Will the community provide the IRS with W-2’s, and 1099’s, or not?  Will the community report virtual currency holdings or not?  It is hard for the IRS to track transactions if they are not reported, but this IRS notice is telling the taxpayer, the law, and the taxpayer would need to comply.

If we look at how aggressive the IRS has been over the last five years regarding offshore bank accounts then one could argue that this taxation on virtual currency is here to stay. The community and network of virtual currency has also provided support that the currency is valuable and easily converted into good and world currencies.  So, if you are involved with virtual currencies, now is the time to speak with your tax advisor and create a plan on how to deal with the taxation and create a strategy just like any other successful business.

The IRS notice can be found at as of today.  However, if the link doesn’t work, go to and search the website for Notice 2014-21.  Please feel free to ask questions and comments.  Please contact us if we can be of assistance.

7 IRS Triggers

As we have written previously, IRS audits have significantly increased.  Having an audit is not fun.  It can consume a lot of ones time and money if you hire a professional to represent you.  We seen a lot of audits which in our opinion shouldn’t have been triggered but because the tax return has a certain trigger the taxpayer has to deal with it.  To often we see sloppy mistakes that taxpayers and tax preparers make which triggers the audit.  So review these items and consider if your tax return should be done differently or by a different person if you have any of these items.

  1. Loss from a flow through (S Corporation, Partnerships, LLCs):  We have seen an significant increase in audits in which the tax return is taking a deduction for a loss from a flow through.  The loss may be justified, but the IRS is looking for these attributes more often and they are finding mistakes.  Once selected, they will look for a calculation that should be part of the tax return that shows that the taxpayer has adequate tax basis to take the loss.  There must be tax basis to take the loss.  Too often we have seen that the tax preparer has not prepared the proper tax basis calculation and thus triggered the audit.  Most of the taxpayers didn’t know that the tax preparer didn’t’ prepare all the necessary forms.  So, if you have losses from flow through, double check with your tax preparer.  This issue can also be expanded to the flow through and all the shareholders or partners and for multiple years.
  2. Large decreased in taxable income:  Even though most of the country has just came out of the recession, and most of us had to work harder and earned less, the IRS is still pulling tax returns for audit when the taxable income as decreased significantly.  If your taxable income decreased significantly, please make sure you take extra care that your tax return is correct, so if you are audited, it will go smoother.
  3. Real Estate Professional:  Real Estate professional is a tax status that if met can allow a taxpayer to use that loss against other non rental income.  Typically rental losses are considered a passive activity and outside of some minor rules, is only able to be offset against other passive income.  So, if a taxpayer has rental losses, and has other non passive income, certain rules have to be met to net the amounts together and thus pay tax on the net.  The real estate professional status continue to be a hot audit item.
  4. Not reporting income:  The IRS computers receive information on taxpayer that typically deals with income and certain deductible items like mortgage interest.  If the IRS computers show a larger amount of income than reported on your tax return, your chances of an audit have significantly increased.  If the amount is small, the IRS may just send you a letter, but if the amount is large, you will probably have to deal with an audit.  So, make sure you review all your W-2’s, 1099, even including your investment transactions. Even if the amount reported isn’t fully taxable your tax preparer should be aware of the income and properly report it to agree with the IRS computers.
  5. Being Self-Employed (Sole Proprietorship):  The IRS audits self employed taxpayers more often than others.  They have statistics that these taxpayers as a whole try to reduce taxable income illegally.  They also have seen that these taxpayers typically don’t’ have the best records, so they audit them and find more tax dollars to send back to Washington D.C.  If you are self employed that is fine, make sure you have good accounting records.  Try using a simple program like Quick Books to keep track of your income, expense, and liabilities which include credit cards.  We highly recommend that self employed set up a DBA bank account and have separate credit cards for just the business.  This makes it easier to track business transactions.  Our opinion is that if your net income is approaching $100,000 or larger, you should consider incorporating and electing S Corporation.  Generally your income tax can be decreased, you can create some asset protection and your audit risk should be reduced.
  6. Foreign Bank Accounts:  The IRS is still allocating a lot of resources to find taxpayers that have foreign bank accounts and haven’t properly reported them. If a taxpayer has a foreign bank account or even signature authority they need to properly complete the proper forms to disclose them.
  7. Research Credit:  The tax code allows tax credits for money spent on research costs.  The government wants to create an incentive for the US taxpayer to strive to create new or better technology.  However, too often have we seen that the company didn’t properly follow the rules to support the research credit.

A lot of audits could have been alleviated if the tax return was prepared properly.  Also, the taxpayer needs to be prepared for an audit.  This means one must keep organized records.  We recommend using an accounting software program that is appropriate for your business.  Depending on the type of business you have, you will need to create some best practices to be more organized in accounting.  For example, if you purchase goods or services with cash, make sure you keep the receipts.  Taxpayers that have organized books and records can complete an examination much quicker.  So be prepared if you are audited.

The IRS isn’t the only one taxpayers need to be prepared for.  Depending on your business, make sure you are prepared for state audits, sales tax audits, and payroll audits.  All the government agencies are out there looking for more tax revenue.

Obamacare Tax Update

Obamacare – 2013 Tax Impact Review

The Affordable Care Act, commonly known as Obamacare was enacted on March 23, 2010. Although both sides of the aisles have debated its constitutionality and long term viability, one thing is certain, it will tax consequences for each and everyone of us. Below I set out to guide you through the Affordable Care Act, devoid of any political discussion, focusing solely on its tax impact on you.

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2012 / 2013 Income Tax Planning / Tax Changes

Happy New Year!

This memo is a revision / update to our December 31, 2012 memo as Congress has concluded on some additional items. So if you haven’t read our previous one, you can delete it and read this one. The 2012 tax return process will be delayed due to these last minute changes. The law must be written, then the IRS must update the forms.


I wrote most of this memo on December 21, 2012 and we are still here. So, now we will see how 2013 turns out. As you will read, our view based on working with our clients and listening to various economists, is that 2013 will be a growth year, but 2014 / 2015 might be slightly challenging as Congress will have to deal with the debt ceiling and spending cuts. Global competition still is a large factor for labor costs and states are getting even more competitive with income taxes and incentives to get more businesses in their states. We are telling our clients to be conservatively optimistic. We feel growing ones business and finances conservatively will be the best option due to the uncertainty ahead of us. And if we are wrong, our clients should end up with just more money in their banks.

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2012 Winter Tax and Business Newsletter

Inside this Issue

  • IRS tax notes
  • Consider the pros and cons of dollar cost averaging
  • Put taxes on your 2012 year-end checklist
  • Develop a system for problem accounts

Does your business have this vital document?

Every business should give serious consideration to how the company would deal with the death, disability, or departure of one of the owners.

Like a will, a buy/sell agreement (also known as a business continuity contract) spells out how assets and other business interests will be distributed should an owner quit, become disabled, or die.

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How long to keep your income tax records?

Audits (or as the IRS calls them examinations) have been up over the past five years.  I’m sure someone in goverment has told the IRS to find more money as we all know the Federal government has a lot of debt to pay down.  So, if a taxpayer wants to be prepared for an audit, how long should they keep their documents?   Our general answer is four years.  In general, the IRS has three years (the regular statue of limitation) from the filing date to audit a tax return.  Most states have four years to audit as they want time to see if the IRS audits a return.  If the IRS audits a tax return and there are changes which require a taxpayer to pay more tax rest assured that the Federal government will tell the state(s). Then it is the states turn.

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Identity Theft with US Tax Returns

It is amazing and shocking to see how our identity can be stolen.  We have noticed over the past five years, that there has been an increase of income tax return problems because of identity theft.  Generally we as a CPA firm first notice there is a problem when our firm electronically files a tax return and the government computers tell us the return has already been filed.  We immediately inform our clients, and proceed in filing out a lot of paper work with the IRS and state governments.  This can cause the taxpayers some real problems.  First if there is a refund, the refund is held up typically for six months or longer.  Yes, the IRS will pay you interest, but you don’t have your money.  Next, if the taxpayers are trying to get a loan, the mortgage company will not be able to verify the tax return with the IRS as the return is in a state of flux.

Identity theft is all over the place.  We have seen clients have their credit cards and bank account information stolen, and recently health insurance.  Here is a short article that speaks about the tax return identity theft.  One can also search the Internet for many more articles.  Identity theft can really cause headaches and require people to spend a lot of time and money to fix any problems.  So, try to protect yourself.  Yes, you can monitor your credit, minimize your disbursement of confidential information, but who has the time to do all of these steps?

There are many companies that claim they have the best identity theft protection, and we have tried a couple.  However, in my personal experience, I have found that Legal Shields “Identity Theft Shield” to be one of the best.  I personally use this.  When my credit is run, I typically get an email within an hour of it being run.  The company also provides me with monthly updates even if there is no activity.  The program also offers identity restoration, which provides the customer with assistance to restore damage done due to the identity theft.  The protection isn’t perfect, but it generally is a great protection.  To sign up for the identity theft protection service go to .  The cost is a typically only about $15 a month.  Clients that have the service feel more comfortable and protected.

Tax Tips for Recently Married or Divorced Taxpayers

Most individual tax returns are electronically filed.  If your name and social security number doesn’t match, the IRS computers will not accept the electronically filed tax return.  Name mismatches cause problems with refunds also.  The Social Security Administration (SSA) should be notified of a name change resulting form marriage or divorce by filing form SS-5 which is available at

Tax Deduction for Meals

Typically  business expenses  for meals and entertainment are only 50% deductible for income tax purposes pursuant to IRC section 274(n).  This is because the government feels that the taxpayer receives some enjoyment, so only 1/2 is deductible.  But for financial statement purposes, 100% is an expense.

However, there is a special rule all business owners should be aware of.  Meals furnished to employees can be 100% deductible pursuant to IRC 274(e) if they furnished to employees on the employers facility.    We discuss this law with our clients all the time.  These sorts of meals should be tracked separately on the taxpayers general ledger.  So meals that our brought into the business or delivered and the food is for the employees would qualify as 100% deductible.  Don’t forget this one when you are preparing your tax returns.