The taxman cometh and he's packed some surprises for you. Very few people enjoy tax time and even fewer know exactly what to expect. Some times you're thrown a curve ball and it's not pretty. We turned to Barron Barnes, CPA of Capital Accounting & Tax LLC to find out some of the most common tax surprises and how you can deal with them. Capital Gains on Investments
Some investment decisions kick off capital gain distributions. As defined by Investopedia a capital gain is "an increase in the value of a capital asset (investment or real estate) that gives it a higher worth than the purchase price. The gain is not realized until the asset is sold." Some times people are caught off guard when this happens after they sell off some investments such as stocks. To avoid any unexpected hits, Barron suggests you consult with your investment broker around year end to see what overall investment income is. You can then send in an estimated tax payment if necessary.
Many tax credits and benefits begin to phase out at certain income levels. Taxpayers that think they have enough withheld through their paycheck end up owing a lot more tax. Individuals with AGI (adjusted gross income) over $250k single, $310k married start to lose personal exemptions for themselves, their spouse and their dependents. Also, start to lose itemized deductions by 3% of the amount your AGI. If you believe you will be affected by this you should plan to send in estimated payments or look into other tax planning options.
Many taxpayers who are self-employed don't realize they have to pay both sides of the SE tax (15.3%). The self-employment tax is the Social Security and Medicare tax paid by self-employed individuals. When you work for someone your employer pays half of your FICA and Medicare but self-employed individuals pay the full amount on top of their income tax. If you are self-employed you are, however, able to deduct the taxes you pay on FICA and Medicare.
Some tax payers aren't aware that some of their retirement distributions are taxed at their normal income rate. Withdrawals from tax-deferred accounts such as an IRA or 401(k) are taxed as ordinary income (i.e. your top tax bracket). Additionally, if you collect Social Security plus other income, as much as 85% of those benefits are subject to tax. To figure out just how much in taxes your Social Security might cost you, you can use the worksheet found in your tax Form 1040 or 1040A.
Believe it or not, money received from unemployment is considered income and thus, taxed as such. The best way to avoid this is to have federal income tax withheld from your unemployment checks, similar to the way you would your regular payroll.
Similar to unemployment, money received from alimony payments are also taxed as regular income. However, alimony is separate from child care, which is not taxed. If your divorce settlement includes an amount for childcare and an amount for alimony, you are only taxed on what you received in alimony payment.
Good news though if you're the spouse that pays alimony. Your spousal support payments are deductible.
Forgiveness of Debt
Did a creditor forgive some or all of one of your outstanding debts? Don't get too excited. While it might be great for your cash flow the IRS still wants its cut. Generally any amount the creditor writes off will be treated as income. You should expect 1099-C or similar statement detailing the debt forgiveness as miscellaneous income from the debt holder.
If you are sent a tax form that you didn't expect, Barron recommends contact the company that sent it to get more detail and then consult with a CPA to see what your options are. If you can't pay an unexpected tax bill all at once set up an installment agreement (Form 9465) to avoid the IRS levying bank accounts or assets.
In the month of February, Wela is teaming up with Barron Barnes, CPA of Capital Accounting & Tax LLC to write about taxes. Barron has extensive experience in business consulting and financing as well as corporate, partnership and individual income tax planning. He has been involved in both the audit and tax planning work for manufacturing and real estate companies and has clients in many different industries including real estate, architecture, interior design, equipment sales and leasing, printing, lumber manufacturing, advertising, film production and wholesale supply. If you have tax related questions, you can reach out to Capital Accounting & Tax at (404) 947-7400.