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Category: IRS

Corrected 1099’s and Back Door Roth Contributions

As we find ourselves in the midst of tax season, I want to highlight crucial guidance on two areas prone to mistakes on tax returns. These errors can lead to audits, penalties, or overlooked tax advantages. My goal is to help you navigate these complexities, ensuring your 2023 tax return is both accurate and fully optimized. Understanding and addressing these common pitfalls can significantly impact your financial health and tax outcomes. Let’s explore these essential areas to ensure your tax preparation is as accurate and beneficial as possible.

Corrected 1099’s:

  1. Over the years, we have observed that brokerage firms, including Charles Schwab, often issue corrected 1099 forms. These 1099 forms provide you with investment income, dividends, and capital gains amounts that are crucial for accurate tax reporting. During the 2022 tax return season, Schwab issued corrected 1099s as late as March 23, 2023. This trend is not uncommon in the financial industry due to the complexity of reporting requirements and the reconciliation of year-end account statements. Therefore, you should expect that even though your account custodian issues initial 1099 forms in January, you may receive corrected forms throughout the tax filing season.
  2. Why This Matters for Your Tax Return Filing
  • Filing your tax return before receiving corrected 1099s can lead to income discrepancies on your tax return. If you file based on the initial 1099 received and a corrected version is issued later, you may need to file an amended tax return.
  • This is not only cumbersome but might also lead to additional tax preparer fees and potential issues with the IRS.
  1. Our Recommendations:
  • To avoid the need for amended tax returns, we recommend waiting to file your return until approximately March 25th each year. This approach is in line with best practices for financial and tax planning, helping to ensure that your tax return accurately reflects all your investment income and transactions for the year.  Although no one can guarantee that you will not receive corrected forms, the later you wait to file, the greater the possibility that you will not have to file an amended return. 
  1. Your Next Steps:
  • Monitor Your Mail and Email: Keep an eye out for any communications from Schwab or other financial institutions regarding your tax documents.
  • Review Your Documents: Once you receive your 1099s, please review them thoroughly. If you notice any discrepancies or have questions, do not hesitate to contact us.
  • Provide corrected tax documents to your tax preparer as soon as received. This will ensure the corrected 1099s are included in your tax return data.

Back Door Roth Contributions:

  1. Before delving into the workings of Back Door Roth Contributions, it’s crucial to discuss a common scenario I’ve observed in the tax returns of clients who’ve utilized this strategy. The process typically unfolds as follows:
  • The client converts a Non-Deductible IRA contribution into a Roth IRA.
  • They receive a Form 1099-R from their custodian, which indicates in Box 2a that the distribution appears taxable.
  • Unfortunately, this form lacks clear indication that the distribution was a conversion from a non-deductible IRA contribution, which should not be taxable.
  • The client fails to inform their tax preparer that the conversion involved a non-deductible IRA, leading to the assumption that it’s taxable.
  • Consequently, this oversight necessitates filing an amended tax return to rectify the situation.
  1. What is a Back Roth Contribution?
    1. A backdoor Roth IRA contribution is a strategy used by individuals to contribute to a Roth IRA even if their income exceeds the limits set by the Internal Revenue Service (IRS) for direct Roth IRA contributions. Roth IRAs offer the potential of tax-free growth and tax-free withdrawals in retirement, making them highly attractive for retirement planning. However, there are income limits that restrict higher-income earners from contributing directly to a Roth IRA.
    2. Here’s how a backdoor Roth contribution works:
  • a. Make a Nondeductible Contribution to a Traditional IRA: The first step involves contributing to a traditional IRA. Unlike Roth IRAs, traditional IRAs do not have income limits for contributions, but the ability to deduct these contributions on your taxes does have income limits. For the backdoor Roth strategy, the contribution is made with after-tax dollars (nondeductible).
  • Convert the Traditional IRA to a Roth IRA: After making the nondeductible contribution to the traditional IRA, the individual converts the traditional IRA to a Roth IRA. This conversion is not limited by income levels. Taxes may be due on any earnings and pre-tax contributions converted, but since the original contribution was nondeductible (made with after-tax dollars), it should not be taxed again.
  • Tax Implications: The key tax consideration is that if you have any other IRAs with deductible contributions (pre-tax money) and earnings, the IRS requires the use of the pro-rata rule when calculating taxes owed on the conversion. The pro-rata rule considers all IRAs to determine the taxable portion of the conversion, which could result in a higher tax liability than expected if the conversion was thought to be only of after-tax contributions.
  • No Income Limits for Conversions: The IRS does not impose income limits on who can convert a traditional IRA to a Roth IRA, which is why the backdoor Roth IRA strategy is viable for high-income earners.
  • This strategy can be particularly beneficial for high-income earners who are looking for ways to save for retirement in a tax-efficient manner. However, it’s essential to consider one’s overall financial situation, including existing IRA balances and their potential tax implications, before proceeding. Consulting with a financial or tax advisor, especially someone experienced with the nuances of retirement and tax planning, is advisable to navigate the complexities and ensure compliance with IRS rules.

We understand that timely filing of tax returns is important to you. However, ensuring the accuracy of the information reported to the IRS is paramount. Our goal is to assist you in navigating these complexities and to provide guidance that aligns with your financial well-being.

If you would like to further to discuss this article, please email LRobinson@capsouthpartners.com   To learn more about CapSouth and how we can help, please visit our website at https://capsouthwm.com/what-we-do/

Lewis Robinson, CPA

Director of Advanced Planning

 

Investment advisory services are offered through CapSouth Partners, Inc, dba CapSouth Wealth Management, an independent registered Investment Advisory firm. Information provided by sources deemed to be reliable. CapSouth does not guarantee the accuracy or completeness of the information. CapSouth does not offer tax, accounting, or legal advice. Consult your tax or legal advisors for all issues that may have tax or legal consequences. This information has been prepared solely for informational purposes, is general in nature and is not intended as specific advice.

 

Inflation Reduction Act: What You Should Know

The Inflation Reduction Act, signed into law on August 16, 2022, includes health-care and energy-related provisions, a new corporate alternative minimum tax, and an excise tax on certain corporate stock buybacks. Additional funding is also provided to the IRS. Some significant provisions in the Act are discussed below.

Medicare

The legislation authorizes the Department of Health and Human Services to negotiate Medicare prices for certain high-priced, single-source drugs. However, only 10 of the most expensive drugs will be chosen initially, and the negotiated prices will not take effect until 2026. For each of the following years, more negotiated drugs will be added.

Starting in 2025, a $2,000 annual cap (adjusted for inflation) will apply to out-of-pocket costs for Medicare Part D prescription drugs.

Starting in 2023, deductibles will not apply to covered insulin products under Medicare Part D or under Part B for insulin furnished through durable medical equipment. Also, the applicable copayment amount for covered insulin products will be capped at $35 for a one-month supply.

Health Insurance

Starting in 2023, a high-deductible health plan can provide that the deductible does not apply to selected insulin products.

Affordable Care Act subsidies (scheduled to expire at the end of 2022) that improved affordability and reduced health insurance premiums have been extended through 2025. Indexing of percentage contribution rates used in determining a taxpayer’s required share of premiums is delayed until after 2025, preventing more significant premium increases. Additionally, those with household incomes higher than 400% of the federal poverty line remain eligible for the premium tax credit through 2025.

Energy-Related Tax Credits

Many current energy-related tax credits have been modified and extended, and a few new credits have been added. Many of the credits are available to businesses, and others are available to individuals. The following two credits are substantial revisions and extensions of an existing tax credit for electric vehicles.

Starting in 2023, a tax credit of up to $7,500 is available for the purchase of new clean electric vehicles meeting certain requirements. The credit is not available for vehicles with a manufacturer’s suggested retail price higher than $80,000 for sports utility vehicles and pickups, $55,000 for other vehicles. The credit is not available if the modified adjusted gross income (MAGI) of the purchaser exceeds $150,000 ($300,000 for joint filers and surviving spouses, $225,000 for heads of household). Starting in 2024, an individual can elect to transfer the credit to the dealer as payment for the vehicle.

Similarly, a tax credit of up to $4,000 is available for the purchase of certain previously owned clean electric vehicles from a dealer. The credit is not available for vehicles with a sales price exceeding $25,000. The credit is not available if the purchaser’s MAGI exceeds $75,000 ($150,000 for joint filers and surviving spouses, $75,000 for heads of household). An individual can elect to transfer the credit to the dealer as payment for the vehicle.

Corporate Alternative Minimum Tax

For taxable years beginning after December 31, 2022, a new 15% alternative minimum tax (AMT) will apply to corporations (other than an S corporation, regulated investment company, or a real estate investment trust) with an average annual adjusted financial statement income in excess of $1 billion.

Adjusted financial statement income means the net income or loss of the taxpayer set forth in the corporation’s financial statement (often referred to as book income), with certain adjustments. If regular tax exceeds the tentative AMT, the excess amount can be carried forward as a credit against the AMT in future years.

Excise Tax on Repurchase of Stock

For corporate stock repurchases after December 31, 2022, a new 1% excise tax will be imposed on the value of a covered corporation’s stock repurchases during the taxable year.

A covered corporation means any domestic corporation whose stock is traded on an established securities market. However, the excise tax does not apply: (1) to a repurchase that is part of a nontaxable reorganization, (2) with respect to certain contributions of stock to an employer-sponsored retirement plan or employee stock ownership plan, (3) if the total value of stock repurchased during the year does not exceed $1 million, (4) to a repurchase by a securities dealer in the ordinary course of business, (5) to repurchases by a regulated investment company or a real estate investment trust, or (6) to the extent the repurchase is treated as a dividend for income tax purposes.

Increased Funding for the IRS

Substantial additional funds are provided to the IRS to help fund operations and business systems modernization and to improve enforcement of tax laws.

If you like to further discuss the provisions of the Inflation Reduction Act, contact an advisor at CapSouth Wealth Management.

To learn more about CapSouth Wealth Management, visit our website at www.capsouthwm.com or https://capsouthwm.com/what-we-do/ or call 800.929.1001. Click to Schedule a Discovery Call.

CapSouth Partners, Inc, dba CapSouth Wealth Management, is an independent registered Investment Advisory firm. This material is from an unaffiliated, third-party and is used by permission. Any opinions expressed in the material are those of the author and/or contributors to the material; they are not necessarily the opinions of CapSouth. Information provided by sources deemed to be reliable. CapSouth does not guarantee the accuracy or completeness of the information. CapSouth does not offer tax, accounting or legal advice. Consult your tax or legal advisors for all issues that may have tax or legal consequences. This information has been prepared solely for informational purposes, is general in nature and is not intended as specific advice. Any performance data quoted represents past performance; past performance is no guarantee of future results.

Tax News and Updates

By: P. Lewis Robinson, CPA

1. Due Date of 2020 Federal Income Tax Returns:

  • The Treasury Department and Internal Revenue Service announced that the federal income tax filing due date for individuals for the 2020 tax year will be automatically extended from April 15, 2021 to May 17, 2021. The IRS will be providing formal guidance in the coming days.
  • Individual taxpayers can also postpone federal income tax payments for the 2020 tax year due on April 15, 2021 to May 17, 2021 without penalties and interest, regardless of the amount owed. This postponement applies to individual taxpayers, including individuals who pay self-employment tax. Penalties, interest, and additions to tax will begin to accrue on any remaining unpaid balances as of May 17, 2021. Individual taxpayers will automatically avoid interest and penalties on the taxes paid by May 17, 2021.
  • Individual taxpayers do not need to file any forms or call the IRS to qualify for this automatic federal tax filing and payment relief. Individual taxpayers who need additional time to file beyond the May 17 deadline can request a filing extension until October 15, 2021 by filing Form 4868 through their tax professional, tax software or using the Free File link on IRS.gov. Filing Form 4868 gives taxpayers until October 15, 2021 to file their 2020 tax return but does not grant an extension of time to pay taxes due. Taxpayers should pay their federal income tax due by May 17, 2021 to avoid interest and penalties.
  • This relief does not apply to estimated tax payments that are due on April 15, 2021. These payments are still due on April 15. Taxes must be paid as taxpayers earn or receive income during the year, either through withholding or estimated tax payments. In general, estimated tax payments are made quarterly to the IRS by individuals whose income is not subject to income tax withholding, including self-employment income, interest, dividends, alimony or rental income. Most taxpayers automatically have taxes withheld from their paychecks and submitted to the IRS by their employer.

2. State tax returns:

  • The federal tax filing deadline postponement to May 17, 2021 only applies to individual federal income returns and tax payments (including tax on self-employment income); it does not apply to state tax payments or deposits or payments of any other type of federal tax. State filing and payment deadlines vary and are not always the same as the federal filing deadline. The IRS urges taxpayers to check with their state tax agencies for those details.

3. Up to $10,200 of 2020 unemployment compensation per worker may be tax-free:

  • Section 9042 of the American Rescue Plan includes another potential benefit for individuals who received unemployment compensation for all or part of 2020. More specifically, if a taxpayer’s AGI is less than $150,000, then up to $10,200 of unemployment compensation received in 2020 may be tax free.
  • There are, however, a number of important nuances to consider with respect to this provision, including the following:
  • It appears that the $150,000 AGI limit applies uniformly to all filing statuses.
  • It appears that the $150,000 AGI limit is a true cliff threshold: the American Rescue Plan appears to indicate that a taxpayer with $149,999 of AGI can exclude up to $10,200 of unemployment compensation from their gross income; however, if that taxpayer earns just a single dollar more and has $150,000 of AGI, the full amount of the unemployment compensation received in 2020 will be taxable.
  • It appears that, in the case of joint filers, each spouse can receive up to $10,200 of unemployment compensation tax-free, permitting up to $20,400 for the household (as long as the household remains below the $150,000 AGI limit).
  • The $150,000 AGI limit includes all unemployment compensation. Under this provision, determining a taxpayer’s actual AGI involves a bit of a circular calculation. That’s because, in order to determine whether the taxpayer is eligible to exclude up to $10,200 of 2020 unemployment compensation, that compensation must first be included in an initial AGI calculation!

4. Extension and expansion of the above-the-line charitable deduction 2021:

  • For 2021, there is a $300 above-the-line charitable deduction for single filers who do not itemize deductions.
  • For 2021, this above-the-line deduction increased to $600 for married couples filing jointly who do not itemize tax deductions.
  • As in 2020, this deduction applies only to qualified cash contributions and does not apply to cash contributions made to private foundations, donor advised funds or supporting organizations, or to split interest trusts like charitable remainder and lead trusts. It also does not apply to carry-over contributions.

5. Extension of the charitable contribution limitation:

  • The temporary suspension of the 60 percent charitable contribution deduction limitation has been extended into 2021 for qualified cash contributions.
  • In 2021, individual taxpayers who itemize tax deductions and who contribute cash to a public charity, or to a limited number of private foundations, may deduct up to 100 percent of their adjusted gross income after taking into account other contributions subject to charitable contribution limitations.
  • Individual taxpayers can continue to carry forward any excess charitable contributions for five years, but the enhanced 100 percent deduction limitation expires after 2021.

To learn more about CapSouth, visit our website at www.capsouthwm.com

CapSouth Partners, Inc., dba CapSouth Wealth Management, is an independent registered Investment Advisory firm. CapSouth does not offer tax, accounting or legal advice. Consult your tax or legal advisors for all issues that may have tax or legal consequences.

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