What tax records can you throw away?

Posted on October 14, 2020October 14, 2020 by CCG

October 15 is the deadline for individual taxpayers who extended their 2019 tax returns. (The original April 15 filing deadline was extended this year to July 15 due to the COVID-19 pandemic.) If you’re finally done filing last year’s return, you might wonder: Which tax records can you toss once you’re done? Now is a good time to go through old tax records and see what you can discard.

The general rules

At minimum, you should keep tax records for as long as the IRS has the ability to audit your tax return or assess additional taxes, which generally is three years after you file your return. This means you potentially can get rid of most records related to tax returns for 2016 and earlier years.

However, the statute of limitations extends to six years for taxpayers who understate their adjusted gross income (AGI) by more than 25%. What constitutes an understatement may go beyond simply not reporting items of income. So a general rule of thumb is to save tax records for six years from filing, just to be safe.

Keep some records longer

You need to hang on to some tax-related records beyond the statute of limitations. For example:

Keep the tax returns themselves indefinitely, so you can prove to the IRS that you actually filed a legitimate return. (There’s no statute of limitations for an audit if you didn’t file a return or if you filed a fraudulent one.)
Retain W-2 forms until you begin receiving Social Security benefits. Questions might arise regarding your work record or earnings for a particular year, and your W-2 helps provide the documentation needed.
Keep records related to real estate or investments for as long as you own the assets, plus at least three years after you sell them and report the sales on your tax return (or six years if you want extra protection).
Keep records associated with retirement accounts until you’ve depleted the accounts and reported the last withdrawal on your tax return, plus three (or six) years.

Other reasons to retain records

Keep in mind that these are the federal tax record retention guidelines. Your state and local tax record requirements may differ. In addition, lenders, co-op boards and other private parties may require you to produce copies of your tax returns as a condition to lending money, approving a purchase or otherwise doing business with you.

Is your business inadvertently paying a shell company?

Posted on October 13, 2020October 13, 2020 by CCG

Not all shell companies are dishonest. Despite their often-sinister reputation, these paper-only companies may be used legitimately to hold another business’s assets. Or they may be the “empty container” left after a company downsizes or is acquired. That said, some fraud perpetrators use shell companies to embezzle funds, evade taxes, dodge debts and commit other illegal acts.

For many businesses, the biggest threat posed by illegitimate shell companies is that unscrupulous employees will use them to perpetrate billing fraud. Here’s how to spot a shell scheme in your midst.

Under cover

Employee-perpetrated shell company schemes take one of two forms. In the first, an employee sets up a shell company to send out — and collect on — fictitious bills. Perpetrators don’t have to send the bills for nonexistent goods and services to the company for which they work. But it’s easier, and can help them evade detection, if they do.

Consider, for example, an accounting staffer who knows that his company rarely scrutinizes invoices for less than $3,000. He applies for a “doing business as” (DBA) certificate from his state for a fictitious business and opens a business account at a local bank. Now he can bill his employer for services that cost less than $3,000 per invoice.

In the second type of scheme, an employee sets up a shell company to sell products to his or her employer at a marked-up price. Because the employee’s shell company has no overhead or expenses, the employee can pocket the proceeds.

Invoices contain clues

Shell company schemes can go undetected for a long time, particularly if the fraudsters are savvy enough to attempt to cover their tracks and don’t get too greedy. Most perpetrators, however, leave a paper trail of invoices that, when scrutinized, is suspicious.

For example, invoices may vaguely define their products or services, arrive more than once a month and show an increased number of purchases over time. Addresses are important. Fake companies usually use a post office box as a return address. But less clever (or more arrogant) thieves may use their actual home address.

Shell company scams work only if the crooked employee can pay the invoices or get the shell company authorized as a legitimate vendor. A quick credit check on a new vendor will reveal whether it has an operating history and deserves greater scrutiny. Job rotation, mandatory vacations and a strict separation of duties in critical areas, such as your accounting department, can help prevent financial losses from shell company schemes.

Investigating suspicions

Contact us if you think an employee is committing fraud with a shell company. We can examine invoices and other records, interview suspects and witnesses, and review your internal controls to get to the bottom of any suspicions.

Is a noncharitable purpose trust right for you?

Posted on October 9, 2020October 9, 2020 by CCG

There are two trust types that don’t require one or more human beneficiaries: charitable trusts and noncharitable purpose (NCP) trusts. A charitable trust is the more common of the two, but an NCP trust could also be a formidable tool to help achieve your estate planning goals.

Defining an NCP trust

Historically, trusts were required to have human beneficiaries. Why? Because, for a trust to be valid, there must be someone to enforce it. Charitable trusts were the exception: The attorney general of the relevant jurisdiction was authorized to enforce the trust in the public interest.

Over the years, however, many U.S. states and a number of foreign jurisdictions have enacted legislation (including provisions of the Uniform Probate Code and the Uniform Trust Code) that authorizes NCP trusts.

These trusts may be used to achieve a variety of purposes, such as caring for a pet or other animal (including its offspring); maintaining a gravesite; providing for future graveside religious ceremonies (often referred to as “honorary” trusts); maintaining art collections, antiques, automobiles, jewelry or other personal property; and funding or otherwise sustaining a family business.

A trust may be an NCP trust even if the grantor’s children or other heirs will ultimately receive trust property as “remaindermen.” Suppose, for example, that you create an NCP trust to maintain and exhibit your art collection. After a specified time period — let’s say 20 years — the trust terminates and the collection is distributed to your children. The fact that your children will receive the art once the trust has fulfilled its purpose doesn’t change its character as an NCP trust. Nor does it render the trust valid or enforceable absent an applicable NCP trust statute.

To be valid, an NCP trust must meet certain requirements. Most important, it must 1) have a purpose that’s certain, reasonable and attainable, 2) not violate public policy, and 3) be capable of enforcement. Typically, an NCP trust is enforced by a designated “enforcer” — someone whose job it is to ensure that the trust’s purpose is fulfilled and who has the authority to bring a court action — and/or a “trust protector,” who’s empowered to modify the trust when its purpose has been achieved or is no longer relevant.

Choosing the right jurisdiction

The permitted uses of NCP trusts, as well as their duration, vary significantly from state to state, as do the powers of a trust protector or enforcer. Some states, for example, allow only pet trusts, honorary trusts or both. Other states authorize NCP trusts for most purposes, so long as they don’t violate public policy. Most states limit an NCP trust’s duration to a term of 21 years, although some permit longer terms or even “dynasty” NCP trusts of unlimited duration. Contact us for additional information.

There may be relief from tax liability for “innocent spouses”

Posted on October 6, 2020October 6, 2020 by CCG

If you file a joint tax return with your spouse, you should be aware of your individual liability. And if you’re getting divorced, you should know that there may be relief available if the IRS comes after you for certain past-due taxes.

What’s “joint and several” liability?

When a married couple files a joint tax return, each spouse is “jointly and severally” liable for the full tax amount on the couple’s combined income. That means the IRS can come after either spouse to collect the entire tax — not just the part that’s attributed to one spouse or the other. Liability includes any tax deficiency that the IRS assesses after an audit, as well as penalties and interest. (However, the civil fraud penalty can be imposed only on spouses who’ve actually committed fraud.)

When are spouses “innocent?”

In some cases, spouses are eligible for “innocent spouse relief.” This generally involves individuals who didn’t know about a tax understatement that was attributable to the other spouse.

To be eligible, you must show that you were unaware of the understatement and there was nothing that should have made you suspicious. In addition, the circumstances must make it inequitable to hold you liable for the tax. This relief may be available even if you’re still married and living with your spouse.

In addition, spouses may be able to limit liability for a tax deficiency on a joint return if they’re widowed, divorced, legally separated or have lived apart for at least one year.

How can liability be limited?

In some cases, a spouse can elect to limit liability for a deficiency on a joint return to just his or her allocable portion of the deficiency. If you make this election, the tax items that gave rise to the deficiency will be allocated between you and your spouse as if you’d filed separate returns.

The election won’t provide relief from your spouse’s tax items if the IRS proves that you knew about the items when you signed the tax return — unless you can show that you signed it under duress. Also, liability will be increased by the value of any assets that your spouse transferred to you in order to avoid the tax.

What is an “injured” spouse?

In addition to innocent spouse relief, there’s also relief for “injured” spouses. What’s the difference? An injured spouse claim asks the IRS to allocate part of a joint tax refund to one spouse. In these cases, one spouse has all or part of a refund from a joint return applied against certain past-due taxes, child or spousal support, or federal nontax debts (such as student loans) owed by the other spouse. If you’re an injured spouse, you may be entitled to recoup your refund share.

Whether, and to what extent, you can take advantage of the above relief depends on your situation. If you’re interested in trying to obtain relief, there’s paperwork that must be filed and deadlines that must be met. We can assist you with the details.

Also, keep “joint and several liability” in mind when filing future tax returns. Even if a joint return results in less tax, you may want to file a separate return if you want to be responsible only for your own tax.

The easiest way to survive an IRS audit is to get ready in advance

Posted on October 5, 2020October 5, 2020 by CCG

IRS audit rates are historically low, according to the latest data, but that’s little consolation if your return is among those selected to be examined. But with proper preparation and planning, you should fare well.

In fiscal year 2019, the IRS audited approximately 0.4% of individuals. Businesses, large corporations and high-income individuals are more likely to be audited but, overall, all types of audits are being conducted less frequently than they were a decade ago.

There’s no 100% guarantee that you won’t be picked for an audit, because some tax returns are chosen randomly. However, the best way to survive an IRS audit is to prepare for one in advance. On an ongoing basis you should systematically maintain documentation — invoices, bills, cancelled checks, receipts, or other proof — for all items to be reported on your tax returns. Keep all your records in one place. And it helps to know what might catch the attention of the IRS.

Audit hot spots

Certain types of tax-return entries are known to the IRS to involve inaccuracies so they may lead to an audit. Here are a few examples:

Significant inconsistencies between tax returns filed in the past and your most current tax return,
Gross profit margin or expenses markedly different from those of other businesses in your industry, and
Miscalculated or unusually high deductions.

Certain types of deductions may be questioned by the IRS because there are strict recordkeeping requirements for them — for example, auto and travel expense deductions. In addition, an owner-employee salary that’s inordinately higher or lower than those in similar companies in his or her location can catch the IRS’s eye, especially if the business is structured as a corporation.

Responding to a letter

If you’re selected for an audit, you’ll be notified by letter. Generally, the IRS doesn’t make initial contact by phone. But if there’s no response to the letter, the agency may follow up with a call.

Many audits simply request that you mail in documentation to support certain deductions you’ve taken. Others may ask you to take receipts and other documents to a local IRS office. Only the harshest version, the field audit, requires meeting with one or more IRS auditors. (Note: Ignore unsolicited email messages about an audit. The IRS doesn’t contact people in this manner. These are scams.)

Keep in mind that the tax agency won’t demand an immediate response to a mailed notice. You’ll be informed of the discrepancies in question and given time to prepare. You’ll need to collect and organize all relevant income and expense records. If any records are missing, you’ll have to reconstruct the information as accurately as possible based on other documentation.

If the IRS chooses you for an audit, our firm can help you:

Understand what the IRS is disputing (it’s not always clear),
Gather the specific documents and information needed, and
Respond to the auditor’s inquiries in the most expedient and effective manner.

The IRS normally has three years within which to conduct an audit, and often an audit doesn’t begin until a year or more after you file a return. Don’t panic if you’re contacted by the IRS. Many audits are routine. By taking a meticulous, proactive approach to how you track, document and file your company’s tax-related information, you’ll make an audit much less painful and even decrease the chances that one will happen in the first place.

Reinforce protection of your company’s mobile devices

Posted on October 2, 2020October 2, 2020 by CCG

Whether it’s a smart phone, tablet or laptop, mobile devices have become the constant companions of today’s employees. And this relationship has only been further cemented by the COVID-19 pandemic, which has thousands working from home or other remote locations.

From a productivity standpoint, this is a good thing. So many tasks that once kept employees tied to their desks are now doable from anywhere on flexible schedules. All this convenience, however, brings considerable risk.

Multiple threats

Perhaps the most obvious threat to any company-owned mobile device is theft. That could end a workday early, hamper productivity for days, and lead to considerable replacement hassles and expense. Indeed, given the current economy, thieves may be increasing their efforts to snatch easy-to-grab and easy-to-sell technological items.

Worse yet, a stolen or hacked mobile device means thieves and hackers could gain possession of sensitive, confidential data about your company, as well as its customers and employees.

Amateur criminals might look for credit card numbers to fraudulently buy goods and services. More sophisticated ones, however, may look for Social Security numbers or Employer Identification Numbers to commit identity theft.

5 protective measures

There are a variety of ways that businesses can reinforce protections of their mobile devices. Here are five to consider:

1. Standardize, standardize, standardize. Having a wide variety of makes and models increases risk. Moving toward a standard product and operating system will allow you to address security issues across the board rather than dealing with multiple makes and their varying security challenges.

2. Password protect. Make sure that employees use “power-on” passwords — those that appear whenever a unit is turned on or comes out of sleep mode. In addition, configure devices to require a power-on password after 15 minutes of inactivity and to block access after a specified number of unsuccessful log-in attempts. Require regular password changes, too.

3. Set rules for data. Don’t allow employees to store certain information, such as Social Security numbers, on their devices. If sensitive data must be transported, encrypt it. (That is, make the data unreadable using special coding.)

4. Keep it strictly business. Employees are often tempted to mix personal information with business data on their portable devices. Issue a company policy forbidding or severely limiting this practice. Moreover, establish access limits on networks and social media.

5. Fortify your defenses. Be sure your mobile devices have regularly and automatically updated security software to prevent unauthorized access, block spyware/adware and stop viruses. Consider retaining the right to execute a remote wipe of an asset’s memory if you believe it’s been stolen or hopelessly lost.

More than an object

When assessing the costs associated with a mobile device, remember that it’s not only the value of the physical item that matters, but also the importance and sensitivity of the data stored on it. We can help your business implement a cost-effective process for procuring and protecting all its technology.

Why it’s important to plan for income taxes as part of your estate plan

Posted on October 1, 2020October 1, 2020 by CCG

As a result of the current estate tax exemption amount ($11.58 million in 2020), many estates no longer need to be concerned with federal estate tax. Before 2011, a much smaller amount resulted in estate plans attempting to avoid it. Now, because many estates won’t be subject to estate tax, more planning can be devoted to saving income taxes for your heirs.

While saving both income and transfer taxes has always been a goal of estate planning, it was more difficult to succeed at both when the estate and gift tax exemption level was much lower. Here are some strategies to consider.

Plan gifts that use the annual gift tax exclusion. One of the benefits of using the gift tax annual exclusion to make transfers during life is to save estate tax. This is because both the transferred assets and any post-transfer appreciation generated by those assets are removed from the donor’s estate.

As mentioned, estate tax savings may not be an issue because of the large estate exemption amount. Further, making an annual exclusion transfer of appreciated property carries a potential income tax cost because the recipient receives the donor’s basis upon transfer. Thus, the recipient could face income tax, in the form of capital gains tax, on the sale of the gifted property in the future. If there’s no concern that an estate will be subject to estate tax, even if the gifted property grows in value, then the decision to make a gift should be based on other factors.

For example, gifts may be made to help a relative buy a home or start a business. But a donor shouldn’t gift appreciated property because of the capital gain that could be realized on a future sale by the recipient. If the appreciated property is held until the donor’s death, under current law, the heir will get a step-up in basis that will wipe out the capital gain tax on any pre-death appreciation in the property’s value.

Take spouses’ estates into account. In the past, spouses often undertook complicated strategies to equalize their estates so that each could take advantage of the estate tax exemption amount. Generally, a two-trust plan was established to minimize estate tax. “Portability,” or the ability to apply the decedent’s unused exclusion amount to the surviving spouse’s transfers during life and at death, became effective for estates of decedents dying after 2010. As long as the election is made, portability allows the surviving spouse to apply the unused portion of a decedent’s applicable exclusion amount (the deceased spousal unused exclusion amount) as calculated in the year of the decedent’s death. The portability election gives married couples more flexibility in deciding how to use their exclusion amounts.

Be aware that some estate exclusion or valuation discount strategies to avoid inclusion of property in an estate may no longer be worth pursuing. It may be better to have the property included in the estate or not qualify for valuation discounts so that the property receives a step-up in basis. For example, the special use valuation — the valuation of qualified real property used for farming or in a business on the basis of the property’s actual use, rather than on its highest and best use — may not save enough, or any, estate tax to justify giving up the step-up in basis that would otherwise occur for the property.

The tax rules for deducting the computer software costs of your business

Posted on September 30, 2020September 30, 2020 by CCG

Do you buy or lease computer software to use in your business? Do you develop computer software for use in your business, or for sale or lease to others? Then you should be aware of the complex rules that apply to determine the tax treatment of the expenses of buying, leasing or developing computer software.

Purchased software

Some software costs are deemed to be costs of “purchased” software, meaning software that’s either:

Non-customized software available to the general public under a non-exclusive license or
Acquired from a contractor who is at economic risk should the software not perform.

The entire cost of purchased software can be deducted in the year that it’s placed into service. The cases in which the costs are ineligible for this immediate write-off are the few instances in which 100% bonus depreciation or Section 179 small business expensing isn’t allowed or when a taxpayer has elected out of 100% bonus depreciation and hasn’t made the election to apply Sec. 179 expensing. In those cases, the costs are amortized over the three-year period beginning with the month in which the software is placed in service. Note that the bonus depreciation rate will begin to be phased down for property placed in service after calendar year 2022.

If you buy the software as part of a hardware purchase in which the price of the software isn’t separately stated, you must treat the software cost as part of the hardware cost. Therefore, you must depreciate the software under the same method and over the same period of years that you depreciate the hardware. Additionally, if you buy the software as part of your purchase of all or a substantial part of a business, the software must generally be amortized over 15 years.

Leased software

You must deduct amounts you pay to rent leased software in the tax year they’re paid, if you’re a cash-method taxpayer, or the tax year for which the rentals are accrued, if you’re an accrual-method taxpayer. However, deductions aren’t generally permitted before the years to which the rentals are allocable. Also, if a lease involves total rentals of more than $250,000, special rules may apply.

Software developed by your business

Some software is deemed to be “developed” (designed in-house or by a contractor who isn’t at risk if the software doesn’t perform). For tax years beginning before calendar year 2022, bonus depreciation applies to developed software to the extent described above. If bonus depreciation doesn’t apply, the taxpayer can either deduct the development costs in the year paid or incurred or choose one of several alternative amortization periods over which to deduct the costs. For tax years beginning after calendar year 2021, generally the only allowable treatment will be to amortize the costs over the five-year period beginning with the midpoint of the tax year in which the expenditures are paid or incurred.

If following any of the above rules requires you to change your treatment of software costs, it will usually be necessary for you to obtain IRS consent to the change.

Contact us

We can assist you in applying the tax rules for treating computer software costs in the way that is most advantageous for you.

Don’t procrastinate if you plan to transfer ownership of your life insurance policy

Posted on September 24, 2020September 24, 2020 by CCG

Generally, the proceeds of your life insurance policy are included in your taxable estate. You can remove them by transferring ownership of the policy, but there’s a catch: If you wait too long, your intentions may be defeated. Essentially, if ownership of the policy is transferred within three years of your death, the proceeds revert to your taxable estate.

Eliminating “incidents of ownership”

The proceeds of a life insurance policy are subject to federal estate tax if you retain any “incidents of ownership” in the policy. For example, you’re treated as having incidents of ownership if you have the right to:

Designate or change the policy’s beneficiary,
Borrow against the policy or pledge any cash reserve,
Surrender, convert or cancel the policy, or
Select a payment option for the beneficiary.

You can eliminate these incidents of ownership by transferring your policy. But first you need to determine who the new owner should be. To choose the best owner, consider why you want the insurance, such as to replace income, to provide liquidity or to transfer wealth to your heirs.

Understanding the ILIT option

An irrevocable life insurance trust (ILIT) can be one of the best ownership alternatives. Typically, if you transfer complete ownership of, and responsibility for, the policy to an ILIT, the policy will ― subject to the three years mentioned above ― be excluded from your estate. You’ll need to designate a trustee to handle the administrative duties. It might be a family member, a friend or a professional. Should you need any additional life insurance protection, it would work best if it were acquired by the ILIT from the outset.

An ILIT can also help you accomplish other estate planning objectives. It might be used to keep assets out of the clutches of creditors or to protect against spending sprees of your relatives. Also keep in mind that, as long as the policy has a named beneficiary, which in the case of an ILIT would be the ILIT itself, the proceeds of the life insurance policy won’t have to pass through probate.

The sooner, the better

If transferring ownership of your life insurance policy is right for you, the sooner you make the transfer, the better. Contact us with any questions regarding life insurance in your estate plan or ILITs.

Using lifestyle analysis to find hidden income and assets

Posted on September 23, 2020September 23, 2020 by CCG

Forensic accountants have many tools to help them find evidence of hidden assets or fraud. But one of the most effective, particularly in divorce matters or legal disputes with former business partners, is a lifestyle analysis. This method involves developing a financial profile of a subject and then examining mismatches between the person’s known resources and lifestyle.

Financial profiling

Forensic accountants develop a financial profile of a subject by examining:

Bank deposits. The expert reconstructs the subject’s income by analyzing bank deposits, canceled checks and currency transactions, as well as accounts for cash payments from undeposited receipts and non-income cash sources, such as gifts and insurance proceeds.

Expenditures. Here, the expert analyzes the subject’s personal income sources and uses of cash during a given time period. If the person is spending more than he or she is taking in, the excess likely is unreported income.

Assets. Experts assume that unsubstantiated increases in a subject’s net worth reflect unreported income. To estimate net worth, an expert reviews bank and brokerage statements, real estate records, and loan and credit card applications.

Tracing income

Proving that a person has unreported income is one thing. Tracing that income to assets or accounts that can be used to support a legal claim or enforce a judgment is another story. To do this, forensic accountants may scrutinize the assets noted above, as well as insurance policies, court filings, employment applications, credit reports and tax returns.

Tax returns can be particularly useful because people have strong incentives to prepare accurate returns. For example, they may fear being charged with tax evasion if they lie to the IRS. As a result, tax return entries often reveal clues about assets or income that someone is otherwise attempting to conceal. Another potentially fruitful strategy is to interview people with knowledge about the subject’s finances, such as accountants, real estate agents and business partners.

Note that building a financial profile of someone other than a spouse in a divorce matter or a former business partner in a legal dispute can be challenging. In the case of occupational fraud suspects, experts may know the individual’s salary and have access to publicly available information such as real estate sale and purchase records and court filings. But they need a court’s authorization to request bank and tax records and other personal data.

Can’t fool the experts

The good news is that people who try to conceal income and assets usually can’t fool experienced fraud investigators. Contact us to conduct a lifestyle analysis.