Category Archives: Individual

Are scholarships tax-free or taxable?

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COVID-19 is changing the landscape for many schools this fall. But many children and young adults are going back, even if it’s just for online learning, and some parents will be facing tuition bills. If your child has been awarded a scholarship, that’s cause for celebration! But be aware that there may be tax implications.

Scholarships (and fellowships) are generally tax-free for students at elementary, middle and high schools, as well as those attending college, graduate school or accredited vocational schools. It doesn’t matter if the scholarship makes a direct payment to the individual or reduces tuition.

Tuition and related expenses

However, for a scholarship to be tax-free, certain conditions must be satisfied. A scholarship is tax-free only to the extent it’s used to pay for:

  • Tuition and fees required to attend the school and
  • Fees, books, supplies and equipment required of all students in a particular course.

For example, if a computer is recommended but not required, buying one wouldn’t qualify. Other expenses that don’t qualify include the cost of room and board, travel, research and clerical help.

To the extent a scholarship award isn’t used for qualifying items, it’s taxable. The recipient is responsible for establishing how much of an award is used for tuition and eligible expenses. Maintain records (such as copies of bills, receipts and cancelled checks) that reflect the use of the scholarship money.

Award can’t be payment for services

Subject to limited exceptions, a scholarship isn’t tax-free if the payments are linked to services that your child performs as a condition for receiving the award, even if the services are required of all degree candidates. Therefore, a stipend your child receives for required teaching, research or other services is taxable, even if the child uses the money for tuition or related expenses.

What if you, or a family member, is an employee of an education institution that provides reduced or free tuition? A reduction in tuition provided to you, your spouse or your dependents by the school at which you work isn’t included in your income and isn’t subject to tax.

Returns and recordkeeping

If a scholarship is tax-free and your child has no other income, the award doesn’t have to be reported on a tax return. However, any portion of an award that’s taxable as payment for services is treated as wages. Estimated tax payments may have to be made if the payor doesn’t withhold enough tax. Your child should receive a Form W-2 showing the amount of these “wages” and the amount of tax withheld, and any portion of the award that’s taxable must be reported, even if no Form W-2 is received.

These are just the basic rules. Other rules and limitations may apply. For example, if your child’s scholarship is taxable, it may limit other higher education tax benefits to which you or your child are entitled. As we approach the new school year, best wishes for your child’s success in school. And please contact us if you wish to discuss these or other tax matters further.

© 2020 Covenant CPA

Conduct a “paycheck checkup” to make sure your withholding is adequate

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Did you recently file your federal tax return and were surprised to find you owed money? You might want to change your withholding so that this doesn’t happen next year. You might even want to do that if you got a big refund. Receiving a tax refund essentially means you’re giving the government an interest-free loan.

Withholding changes

In 2018, the IRS updated the withholding tables that indicate how much employers should hold back from their employees’ paychecks. In general, the amount withheld was reduced. This was done to reflect changes under the Tax Cuts and Jobs Act — including an increase in the standard deduction, suspension of personal exemptions and changes in tax rates.

The tables may have provided the correct amount of tax withholding for some individuals, but they might have caused other taxpayers to not have enough money withheld to pay their ultimate tax liabilities.

Review and possibly adjust

The IRS is advising taxpayers to review their tax situations for this year and adjust withholding, if appropriate.

The tax agency has a withholding calculator to assist you in conducting a paycheck checkup. The calculator reflects tax law changes in areas such as available itemized deductions, the increased child credit, the new dependent credit and the repeal of dependent exemptions. You can access the IRS calculator here: https://bit.ly/2OqnUod.

Changes may be needed if…

There are some situations when you should check your withholding. In addition to tax law changes, the IRS recommends that you perform a checkup if you:

  • Adjusted your withholding in 2019, especially in the middle or later part of the year,
  • Owed additional tax when you filed your 2019 return,
  • Received a refund that was smaller or larger than expected,
  • Got married or divorced, had a child or adopted one,
  • Purchased a home, or
  • Had changes in income.

You can modify your withholding at any time during the year, or even multiple times within a year. To do so, you simply submit a new Form W-4 to your employer. Changes typically go into effect several weeks after a new Form W-4 is submitted. (For estimated tax payments, you can make adjustments each time quarterly estimated payments are due. The next payments are due on July 15 and September 15.)

Good time to plan ahead

There’s still time to remedy any shortfalls to minimize taxes due for 2020, as well as any penalties and interest. Contact us if you have any questions or need assistance. We can help you determine if you need to adjust your withholding.

© 2020 Covenant CPA

After you file your tax return: 3 issues to consider

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The tax filing deadline for 2019 tax returns has been extended until July 15 this year, due to the COVID-19 pandemic. After your 2019 tax return has been successfully filed with the IRS, there may still be some issues to bear in mind. Here are three considerations.

1. Some tax records can now be thrown away

You should keep tax records related to your return for as long as the IRS can audit your return or assess additional taxes. In general, the statute of limitations is three years after you file your return. So you can generally get rid of most records related to tax returns for 2016 and earlier years. (If you filed an extension for your 2016 return, hold on to your records until at least three years from when you filed the extended return.)

However, the statute of limitations extends to six years for taxpayers who understate their gross income by more than 25%.

You’ll need to hang on to certain tax-related records longer. For example, keep the actual tax returns indefinitely, so you can prove to the IRS that you filed a legitimate return. (There’s no statute of limitations for an audit if you didn’t file a return or you filed a fraudulent one.)

When it comes to retirement accounts, keep records associated with them until you’ve depleted the account and reported the last withdrawal on your tax return, plus three (or six) years. And retain records related to real estate or investments for as long as you own the asset, plus at least three years after you sell it and report the sale on your tax return. (You can keep these records for six years if you want to be extra safe.)

2. You can check up on your refund

The IRS has an online tool that can tell you the status of your refund. Go to irs.gov and click on “Get Your Refund Status” to find out about yours. You’ll need your Social Security number, filing status and the exact refund amount.

3. You can file an amended return if you forgot to report something

In general, you can file an amended tax return and claim a refund within three years after the date you filed your original return or within two years of the date you paid the tax, whichever is later. So for a 2019 tax return that you file on July 15, 2020, you can generally file an amended return until July 15, 2023.

However, there are a few opportunities when you have longer to file an amended return. For example, the statute of limitations for bad debts is longer than the usual three-year time limit for most items on your tax return. In general, you can amend your tax return to claim a bad debt for seven years from the due date of the tax return for the year that the debt became worthless.

We can help

Contact us if you have questions about tax record retention, your refund or filing an amended return. We’re not just available at tax filing time — we’re here all year!

© 2020 Covenant CPA

Some people are required to return Economic Impact Payments that were sent erroneously

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The IRS and the U.S. Treasury had disbursed 160.4 million Economic Impact Payments (EIPs) as of May 31, 2020, according to a new report. These are the payments being sent to eligible individuals in response to the economic threats caused by COVID-19. The U.S. Government Accountability Office (GAO) reports that $269.3 billion of EIPs have already been sent through a combination of electronic transfers to bank accounts, paper checks and prepaid debit cards.

Eligible individuals receive $1,200 or $2,400 for a married couple filing a joint return. Individuals may also receive up to an additional $500 for each qualifying child. Those with adjusted gross income over a threshold receive a reduced amount.

Deceased individuals

However, the IRS says some payments were sent erroneously and should be returned. For example, the tax agency says an EIP made to someone who died before receipt of the payment should be returned. Instructions for returning the payment can be found here: https://bit.ly/31ioZ8W

The entire EIP should be returned unless it was made to joint filers and one spouse hadn’t died before receipt. In that case, you only need to return the EIP portion made to the decedent. This amount is $1,200 unless your adjusted gross income exceeded $150,000. If you cannot deposit the payment because it was issued to both spouses and one spouse is deceased, return the check as described in the link above. Once the IRS receives and processes your returned payment, an EIP will be reissued.

The GAO report states that almost 1.1 million payments totaling nearly $1.4 billion had been sent to deceased individuals, as of April 30, 2020. However, these figures don’t “reflect returned checks or rejected direct deposits, the amount of which IRS and the Treasury are still determining.”

In addition, the IRS states that EIPs sent to incarcerated individuals should be returned.

Payments that don’t have to be returned

The IRS notes on its website that some people receiving an erroneous payment don’t have to return it. For example, if a child’s parents who aren’t married to each other both get an additional $500 for the same qualifying child, one of them isn’t required to pay it back.

But each parent should keep Notice 1444, which the IRS will mail to them within 15 days after the EIP is made, with their 2020 tax records.

Some individuals still waiting

Be aware that the government is still sending out EIPs. If you believe you’re eligible for one but haven’t received it, you will be able to claim your payment when you file your 2020 tax return.

If you need the payment sooner, you can call the IRS EIP line at 800-919-9835 but the Treasury Department notes that “call volumes are high, so call times may be longer than anticipated.”

© 2020 Covenant CPA

What qualifies as a “coronavirus-related distribution” from a retirement plan?

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As you may have heard, the Coronavirus Aid, Relief and Economic Security (CARES) Act allows “qualified” people to take certain “coronavirus-related distributions” from their retirement plans without paying tax.

So how do you qualify? In other words, what’s a coronavirus-related distribution?

Early distribution basics

In general, if you withdraw money from an IRA or eligible retirement plan before you reach age 59½, you must pay a 10% early withdrawal tax. This is in addition to any tax you may owe on the income from the withdrawal. There are several exceptions to the general rule. For example, you don’t owe the additional 10% tax if you become totally and permanently disabled or if you use the money to pay qualified higher education costs or medical expenses

New exception

Under the CARES Act, you can take up to $100,000 in coronavirus-related distributions made from an eligible retirement plan between January 1 and December 30, 2020. These coronavirus-related distributions aren’t subject to the 10% additional tax that otherwise generally applies to distributions made before you reach age 59½.

What’s more, a coronavirus-related distribution can be included in income in installments over a three-year period, and you have three years to repay it to an IRA or plan. If you recontribute the distribution back into your IRA or plan within three years of the withdrawal date, you can treat the withdrawal and later recontribution as a totally tax-free rollover.

In new guidance (Notice 2020-50) the IRS explains who qualifies to take a coronavirus-related distribution. A qualified individual is someone who:

  • Is diagnosed (or whose spouse or dependent is diagnosed) with COVID-19 after taking a test approved by the Centers for Disease Control and Prevention (including a test authorized under the Federal Food, Drug, and Cosmetic Act); or
  • Experiences adverse financial consequences as a result of certain events. To qualify under this test, the individual (or his or her spouse or member of his or her household sharing his or her principal residence) must:
    • Be quarantined, be furloughed or laid off, or have work hours reduced due to COVID-19;
    • Be unable to work due to a lack of childcare because of COVID-19;
    • Experience a business that he or she owns or operates due to COVID-19 close or have reduced hours;
    • Have pay or self-employment income reduced because of COVID-19; or
    • Have a job offer rescinded or start date for a job delayed due to COVID-19.

Favorable rules

As you can see, the rules allow many people — but not everyone — to take retirement plan distributions under the new exception. If you decide to take advantage of it, be sure to keep good records to show that you qualify. Be careful: You’ll be taxed on the coronavirus-related distribution amount that you don’t recontribute within the three-year window. But you won’t have to worry about owing the 10% early withdrawal penalty if you’re under 59½. Other rules and restrictions apply. Contact us if you have questions or need assistance.

© 2020 Covenant CPA

If you’re selling your home, don’t forget about taxes

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Traditionally, spring and summer are popular times for selling a home. Unfortunately, the COVID-19 crisis has resulted in a slowdown in sales. The National Association of Realtors (NAR) reports that existing home sales in April decreased year-over-year, 17.2% from a year ago. One bit of good news is that home prices are up. The median existing-home price in April was $286,800, up 7.4% from April 2019, according to the NAR.

If you’re planning to sell your home this year, it’s a good time to review the tax considerations.

Some gain is excluded

If you’re selling your principal residence, and you meet certain requirements, you can exclude up to $250,000 ($500,000 for joint filers) of gain. Gain that qualifies for the exclusion is also excluded from the 3.8% net investment income tax.

To be eligible for the exclusion, you must meet these tests:

  • The ownership test. You must have owned the property for at least two years during the five-year period ending on the sale date.
  • The use test. You must have used the property as a principal residence for at least two years during the same five-year period. (Periods of ownership and use don’t need to overlap.)

In addition, you can’t use the exclusion more than once every two years.

Larger gains

What if you have more than $250,000/$500,000 of profit when selling your home? Any gain that doesn’t qualify for the exclusion generally will be taxed at your long-term capital gains rate, provided you owned the home for at least a year. If you didn’t, the gain will be considered short term and subject to your ordinary-income rate, which could be more than double your long-term rate.

Here are two other tax considerations when selling a home:

  1. Keep track of your basis. To support an accurate tax basis, be sure to maintain complete records, including information on your original cost and subsequent improvements, reduced by any casualty losses and depreciation claimed based on business use.
  2. Be aware that you can’t deduct a loss. If you sell your principal residence at a loss, it generally isn’t deductible. But if a portion of your home is rented out or used exclusively for your business, the loss attributable to that part may be deductible.

If you’re selling a second home (for example, a beach house), it won’t be eligible for the gain exclusion. But if it qualifies as a rental property, it can be considered a business asset, and you may be able to defer tax on any gains through an installment sale or a Section 1031 like-kind exchange. In addition, you may be able to deduct a loss.

For many people, their homes are their most valuable asset. So before selling yours, make sure you understand the tax implications. We can help you plan ahead to minimize taxes and answer any questions you have about your home sale.

© 2020 Covenant CPA

Seniors: Can you deduct Medicare premiums?

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If you’re age 65 and older, and you have basic Medicare insurance, you may need to pay additional premiums to get the level of coverage you want. The premiums can be costly, especially if you’re married and both you and your spouse are paying them. But there may be a silver lining: You may qualify for a tax break for paying the premiums.

Tax deductions for Medicare premiums

You can combine premiums for Medicare health insurance with other qualifying health care expenses for purposes of claiming an itemized deduction for medical expenses on your tax return. This includes amounts for “Medigap” insurance and Medicare Advantage plans. Some people buy Medigap policies because Medicare Parts A and B don’t cover all their health care expenses. Coverage gaps include co-payments, co-insurance, deductibles and other costs. Medigap is private supplemental insurance that’s intended to cover some or all gaps.

Many people no longer itemize

Qualifying for a medical expense deduction may be difficult for a couple of reasons. For 2020 (and 2019), you can deduct medical expenses only if you itemize deductions and only to the extent that total qualifying expenses exceeded 7.5% of AGI.

The Tax Cuts and Jobs Act nearly doubled the standard deduction amounts for 2018 through 2025. As a result, fewer individuals are claiming itemized deductions. For 2020, the standard deduction amounts are $12,400 for single filers, $24,800 for married couples filing jointly and $18,650 for heads of household. (For 2019, these amounts were $12,200, $24,400 and $18,350, respectively.)

However, if you have significant medical expenses, including Medicare health insurance premiums, you may itemize and collect some tax savings.

Note: Self-employed people and shareholder-employees of S corporations can generally claim an above-the-line deduction for their health insurance premiums, including Medicare premiums. So, they don’t need to itemize to get the tax savings from their premiums.

Medical expense deduction basics

In addition to Medicare premiums, you can deduct various medical expenses, including those for dental treatment, ambulance services, dentures, eyeglasses and contacts, hospital services, lab tests, qualified long-term care services, prescription medicines and others.

There are also many items that Medicare doesn’t cover that can be written off for tax purposes, if you qualify. In addition, you can deduct transportation expenses to get to medical appointments. If you go by car, you can deduct a flat 17-cents-per-mile rate for 2020 (down from 20 cents for 2019), or you can keep track of your actual out-of-pocket expenses for gas, oil and repairs.

We can help

Contact us if you have additional questions about Medicare coverage options or claiming medical expense deductions on your personal tax return. We can help determine the optimal overall tax-planning strategy based on your situation.

© 2020 Covenant CPA

Did you get an Economic Impact Payment that was less than you expected?

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Nearly everyone has heard about the Economic Impact Payments (EIPs) that the federal government is sending to help mitigate the effects of the coronavirus (COVID-19) pandemic. The IRS reports that in the first four weeks of the program, 130 million individuals received payments worth more than $200 billion.

However, some people are still waiting for a payment. And others received an EIP but it was less than what they were expecting. Here are some answers why this might have happened.

Basic amounts

If you’re under a certain adjusted gross income (AGI) threshold, you’re generally eligible for the full $1,200 ($2,400 for married couples filing jointly). In addition, if you have a “qualifying child,” you’re eligible for an additional $500.

Here are some of the reasons why you may receive less:

Your child isn’t eligible. Only children eligible for the Child Tax Credit qualify for the additional $500 per child. That means you must generally be related to the child, live with them more than half the year and provide at least half of their support. A qualifying child must be a U.S. citizen, permanent resident or other qualifying resident alien; be under the age of 17 at the end of the year for the tax return on which the IRS bases the payment; and have a Social Security number or Adoption Taxpayer Identification Number.

Note: A dependent college student doesn’t qualify for an EIP, and even if their parents may claim him or her as a dependent, the student normally won’t qualify for the additional $500.

You make too much money. You’re eligible for a full EIP if your AGI is up to: $75,000 for individuals, $112,500 for head of household filers and $150,000 for married couples filing jointly. For filers with income above those amounts, the payment amount is reduced by $5 for each $100 above the $75,000/$112,500/$150,000 thresholds.

You’re eligible for a reduced payment if your AGI is between: $75,000 and $99,000 for an individual; $112,500 and $136,500 for a head of household; and $150,000 and $198,000 for married couples filing jointly. Filers with income exceeding those amounts with no children aren’t eligible and won’t receive payments.

You have some debts. The EIP is offset by past-due child support. And it may be reduced by garnishments from creditors. Federal tax refunds, including EIPs, aren’t protected from garnishment by creditors under federal law once the proceeds are deposited into a bank account.

If you receive an incorrect amount

These are only a few of the reasons why an EIP might be less than you expected. If you receive an incorrect amount and you meet the criteria to receive more, you may qualify to receive an additional amount early next year when you file your 2020 federal tax return. We can evaluate your situation when we prepare your return. And if you’re still waiting for a payment, be aware that the IRS is still mailing out paper EIPs and announced that they’ll continue to go out over the next few months.

© 2020 Covenant CPA

There’s still time to make a deductible IRA contribution for 2019

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Do you want to save more for retirement on a tax-favored basis? If so, and if you qualify, you can make a deductible traditional IRA contribution for the 2019 tax year between now and the extended tax filing deadline and claim the write-off on your 2019 return. Or you can contribute to a Roth IRA and avoid paying taxes on future withdrawals.

You can potentially make a contribution of up to $6,000 (or $7,000 if you were age 50 or older as of December 31, 2019). If you’re married, your spouse can potentially do the same, thereby doubling your tax benefits.

The deadline for 2019 traditional and Roth contributions for most taxpayers would have been April 15, 2020. However, because of the novel coronavirus (COVID-19) pandemic, the IRS extended the deadline to file 2019 tax returns and make 2019 IRA contributions until July 15, 2020.

Of course, there are some ground rules. You must have enough 2019 earned income (from jobs, self-employment, etc.) to equal or exceed your IRA contributions for the tax year. If you’re married, either spouse can provide the necessary earned income.

Also, deductible IRA contributions are reduced or eliminated if last year’s modified adjusted gross income (MAGI) is too high.

Two contribution types

If you haven’t already maxed out your 2019 IRA contribution limit, consider making one of these three types of contributions by the deadline:

1. Deductible traditional. With traditional IRAs, account growth is tax-deferred and distributions are subject to income tax. If you and your spouse don’t participate in an employer-sponsored plan such as a 401(k), the contribution is fully deductible on your 2019 tax return. If you or your spouse do participate in an employer-sponsored plan, your deduction is subject to the following MAGI phaseout:

  • For married taxpayers filing jointly, the phaseout range is specific to each spouse based on whether he or she is a participant in an employer-sponsored plan:
    • For a spouse who participated in 2019: $103,000–$123,000.
    • For a spouse who didn’t participate in 2019: $193,000-$203,000.
  • For single and head-of-household taxpayers participating in an employer-sponsored plan: $64,000–$74,000.

Taxpayers with MAGIs within the applicable range can deduct a partial contribution. But those with MAGIs exceeding the applicable range can’t deduct any IRA contribution.

2. Roth. Roth IRA contributions aren’t deductible, but qualified distributions — including growth — are tax-free, if you satisfy certain requirements.

Your ability to contribute, however, is subject to a MAGI-based phaseout:

  • For married taxpayers filing jointly: $193,000–$203,000.
  • For single and head-of-household taxpayers: $122,000–$137,000.

You can make a partial contribution if your 2019 MAGI is within the applicable range, but no contribution if it exceeds the top of the range.

3. Nondeductible traditional. If your income is too high for you to fully benefit from a deductible traditional or a Roth contribution, you may benefit from a nondeductible contribution to a traditional IRA. The account can still grow tax-deferred, and when you take qualified distributions, you’ll only be taxed on the growth.

Act soon

Because of the extended deadline, you still have time to make traditional and Roth IRA contributions for 2019 (and you can also contribute for 2020). This is a powerful way to save for retirement on a tax-advantaged basis. Contact us to learn more.

© 2020 Covenant CPA

Do you have tax questions related to COVID-19? Here are some answers

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The coronavirus (COVID-19) pandemic has affected many Americans’ finances. Here are some answers to questions you may have right now.

My employer closed the office and I’m working from home. Can I deduct any of the related expenses?

Unfortunately, no. If you’re an employee who telecommutes, there are strict rules that govern whether you can deduct home office expenses. For 2018–2025 employee home office expenses aren’t deductible. (Starting in 2026, an employee may deduct home office expenses, within limits, if the office is for the convenience of his or her employer and certain requirements are met.)

Be aware that these are the rules for employees. Business owners who work from home may qualify for home office deductions.

My son was laid off from his job and is receiving unemployment benefits. Are they taxable?

Yes. Unemployment compensation is taxable for federal tax purposes. This includes your son’s state unemployment benefits plus the temporary $600 per week from the federal government. (Depending on the state he lives in, his benefits may be taxed for state tax purposes as well.)

Your son can have tax withheld from unemployment benefits or make estimated tax payments to the IRS.

The value of my stock portfolio is currently down. If I sell a losing stock now, can I deduct the loss on my 2020 tax return?

It depends. Let’s say you sell a losing stock this year but earlier this year, you sold stock shares at a gain. You have both a capital loss and a capital gain. Your capital gains and losses for the year must be netted against one another in a specific order, based on whether they’re short-term (held one year or less) or long-term (held for more than one year).

If, after the netting, you have short-term or long-term losses (or both), you can use them to offset up to $3,000 ordinary income ($1,500 for married taxpayers filing separately). Any loss in excess of this limit is carried forward to later years, until all of it is either offset against capital gains or deducted against ordinary income in those years, subject to the $3,000 limit.

I know the tax filing deadline has been extended until July 15 this year. Does that mean I have more time to contribute to my IRA?

Yes. You have until July 15 to contribute to an IRA for 2019. If you’re eligible, you can contribute up to $6,000 to an IRA, plus an extra $1,000 “catch-up” amount if you were age 50 or older on December 31, 2019.

What about making estimated payments for 2020?

The 2020 estimated tax payment deadlines for the first quarter (due April 15) and the second quarter (due June 15) have been extended until July 15, 2020.

Need help?

These are only some of the tax-related questions you may have related to COVID-19. Contact us if you have other questions or need more information about the topics discussed above.

© 2020 Covenant CPA