The following Client Bulletins are posted on this page:

• Client Bulletin 9-7-05: Code Section 179 Expense Election
• Client Bulletin 10-1-05: 529 Plans 
• Client Bulletin 2-3-06: 2006 Mileage Rates
• Client Bulletin 2-7-06:  Gulf Opportunity Zone Act of 2005-Hurricane Wilma
• Client Bulletin 5-18-06:  Tax Increase Prevention and Reconciliation Act
• Client Bulletin 8-30-06: Pension Protection Act of 2006 August 30, 2006
• Client Bulletin 10-5-06:  Employees or Independent Contractors?
• Client Newsletter 12-12-06:  Income Tax Update - Winter 2006
• Client Newsletter 12-4-07:  Income Tax Update - Winter 2007
• Client Bulletin 01-16-08:  Retention of Records

Client Bulletin 9-7-05:

Code Section 179 Expense Election

(annual election to claim immediate deductions, instead of deductions in later years, for business property)

Generally, the cost of property placed in service in a trade or business can't be deducted in the year it's placed in service if the property will be useful beyond the year. The cost is "capitalized" and depreciation deductions are allowed for the property, but are spread out over a period of years (a "cost recovery period"). Capitalization delays the tax benefits of business expenditures. For example, you may spend $50,000 on a new computer system today, but must spread your depreciation deductions over a five-year period. That's why the election to take immediate deductions is important.

The expense election is made available, on a tax year by tax year basis, under Section 179 of the Internal Revenue Code (the "Code"), and is often referred to as the "Section 179 election" or the "Code Section 179 election."

Subject to a dollar limit, the election allows you to deduct, in the tax year for which the election is made, the cost of qualifying property (described below) placed in service during the tax year. The deductions allowed are in lieu of depreciation deductions. For tax years beginning in 2005, the dollar limit is $105,000 (up from $102,000 in 2004). Based on the rate of inflation, the limit may be raised higher in future years. However, for tax years beginning after 2007 (i.e., 2008 and later) the dollar limit is scheduled to drop to $25,000. (As discussed below, the dollar limit is reduced, i.e., made more stringent, if more than $420,000 of qualifying property is placed in service during the tax year, or if taxable income from your trade or business is low for the tax year. On the other hand, higher limits apply to certain property used in a qualified business in designated geographic areas, such as the DC Zone and the New York Liberty Zone.)   

Qualifying property. To qualify for the election, the property must be "tangible personal" property. This means that real estate (land, buildings, and their structural components) does not qualify, nor do intangibles such as patent rights. However, for tax years beginning after Dec. 31, 2002 and before Jan. 1, 2008, off-the-shelf computer software qualifies. Also, to qualify, property must be "purchased." Thus, if you acquired the property in a tax-free exchange or from an individual or entity to which you bear a close relationship specified in the Code, the property does not qualify.

Dollar limit. The dollar limit doesn't mean the election can't be made for property costing more than that amount. For example, if you buy a machine for $110,000 and place it in service in a business in a tax year beginning in 2005, you can elect to deduct $105,000 of its cost for that year. The remainder ($5,000) is capitalized and depreciated. Also, you can make the election for two or more separate assets as long as the total cost covered by the election doesn't exceed the dollar limit for that year.

You should be aware, regarding the dollar limit, that if the total cost of qualifying property that you place in service during a tax year beginning in 2005 is over $420,000 (the "phaseout" amount), the dollar limit is reduced by that extra amount. For example, if you place in service $430,000 of qualifying property in a tax year beginning in 2005, you can make the election for no more than $95,000 of property ($105,000 minus the $10,000 excess over $420,000). For tax years beginning in 2004, the phaseout began at $410,000. Based on the rate of inflation, the phaseout amount may be raised higher after 2005. For tax years beginning after 2007, the phaseout amount is scheduled to drop to $200,000. You might consider postponing, to later tax years, or accelerating, into earlier tax years, placing property into service, to take best advantage of the dollar limits (as further limited by the phaseout rule). For example, if you have ordered two items of qualifying property costing $105,000 each, you might want to consider placing only one of them in service in 2005. Doing so will permit you to elect to expense $105,000 in 2005 and $105,000 in 2006 (when the inflation-adjusted amount will be at least $105,000). If both are placed in service in 2005, your expense election for the two items is limited to $105,000.

Taxable income limit. If your taxable income from all of your trades or businesses is less than the dollar limit for that year, the amount for which you can make the election is limited to that taxable income. However, any amount you can't currently deduct because of the taxable income limitation is carried forward and may be deducted in later years (to the extent that the applicable dollar limit, the phaseout rule and the taxable income limit permit).

Recapture. If you dispose of the property, or stop using it in a trade or business, before the end of the cost recovery period that would have applied to the property had you not made the election for the property, all or part of the amount of the deduction you claimed under the election must be taken back into income ("recaptured"). Exactly how much will depend on the type of property and how long you used the property in a trade or business.

The above information covers the essential elements of the Code Section 179 election. Clearly, many considerations go into each decision to acquire business assets, and most involve non-tax factors. However, the election should play a role; accelerated tax benefits may enable you to obtain the property you need earlier and at reduced after-tax costs.

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Client Bulletin 10-1-05:

529 Plans - Qualified Tuition Programs

October 1, 2005

If you have a child (or a grandchild) who is going to attend college in the future, you have probably heard about qualified tuition programs, also known as 529 plans (for the Internal Revenue Code section that provides for them), which allow prepayment of higher education costs on a tax-favored basis.

There are two types of programs: prepaid plans, which allow you to buy tuition credits or certificates at present tuition rates, even though the beneficiary (child) won't be starting college for some time; and savings plans, which depend on the investment performance of the fund(s) in which you place your contributions. You don't get a federal deduction for the amount you contribute to a 529 plan, but the earnings on the account are not taxed while the funds are in the program. You can change the beneficiary or roll over the funds in the program to another plan for the same or a different beneficiary without tax consequences.

Distributions from the program are tax-free if they don't exceed the student's qualified higher education expenses. If the program was established by a private education institution (rather than a state), the distributions are tax-free beginning in 2004.

Qualified higher education expenses include tuition, fees, books, supplies, and required equipment. Reasonable room and board is also a qualified expense if the student is enrolled at least half-time.

Distributions in excess of qualified expenses are taxed to the beneficiary to the extent that they represent earnings on the account. A 10% penalty tax will also be imposed.

Accredited colleges, junior colleges, and area vocational schools are qualified to participate in the tuition program. Accredited post-secondary schools offering credit towards a bachelor's degree, an associate's degree, a graduate or professional degree, or another recognized post-secondary credential, are also eligible to participate, as are certain proprietary institutions and post-secondary vocational schools.

The contributions you make to the qualified tuition program are treated as gifts to the student, but the contributions qualify for the annual gift tax exclusion, which is $11,000 for 2005. If your contributions in a year exceed the exclusion amount, you can elect to take the contributions into account ratably over a five-year period starting with the year of the contributions. Thus, assuming you make no other gifts to that beneficiary, you could contribute up to $55,000 for each beneficiary in 2005 without gift tax. (In that case, any additional contributions during the next four years would be subject to gift tax, except to the extent that the exclusion amount increases.) You and your spouse together could contribute $110,000 per beneficiary, subject to any contribution limits imposed by the plan.

A distribution from a qualified program isn't subject to gift tax, but a change in beneficiary or rollover to the account of a new beneficiary is.

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Client Bulletin 2-3-06:

2006 Mileage Rates

2006 mileage rates announced. For 2006 the optional standard mileage rate drops to 44.5¢ per business mile, down from 48.5¢ for the last four months of 2005. The 2006 rate for computing deductible medical or moving expenses drops to 18¢ a mile, down from 22¢ for the last four months of 2005. A person who uses a vehicle in providing donated services to a charity for relief related to Hurricane Katrina during 2006 computes the charitable mileage deduction by using a standard mileage rate of 32¢ (rather than the usual charitable standard mileage rate of 14¢). Additionally, volunteers may be reimbursed by a charity for the cost of driving their cars for the charity's benefit in connection with providing donated services for Hurricane Katrina relief during 2006. These volunteers may exclude a reimbursement of up to 44.5¢ per mile.

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Client Bulletin 2-7-06: 

Gulf Opportunity Zone Act of 2005-Hurricane Wilma 

The recently enacted Gulf Opportunity Zone Act of 2005 contains a package of tax relief provisions for victims of Hurricane Wilma. These include relaxed restrictions on early withdrawals from retirement plans, increased deductions for corporate charitable contributions, eased casualty loss rules, an employee retention credit, relaxed restrictions on mortgage revenue bonds, boosted deductions for timber reforestation, and increased low-income housing credits. These tax breaks apply in the Wilma GO Zone, which is comprised of those areas of Florida that have been designated by the President as counties warranting individual or individual and public assistance because of Hurricane Wilma. Here are more details on these key relief provisions:

Early withdrawals from retirement plans. The new law allows Wilma affected families to dip into IRAs and pensions without penalty. Specifically, the Act waives the 10% penalty for early distributions from pensions and IRAs if the taxpayer suffered an economic loss because of Hurricane Wilma and the taxpayer's main dwelling on Oct. 23, 2005 was located in the Wilma disaster area. The distribution must be made on or after Oct. 23, 2005 and before Jan. 1, 2007. The income tax can be paid ratably over three years. Amounts repaid to the pension or IRA within the three-year period receive rollover treatment and thus are not subject to income tax. The waiver of the 10% penalty, 3-year income averaging and recontribution provisions for retirement plan withdrawals are limited to $100,000 per individual. Distributions for home purchases which were not finalized because of Hurricane Wilma can also be recontributed to a qualified retirement plan or IRA.

Eased qualified plan loan limits. The limits on the amount of loans that may be withdrawn from qualified employer plans without paying a current tax are increased for Hurricane Wilma victims by doubling the thresholds to the lesser of $100,000 or 100% of the individual's account balance. Additionally, payments due from hurricane victims on qualified plan loans on or after Oct. 23, 2005, and before Jan. 1, 2007, can be deferred, and twelve months can be added to the maximum repayment period of affected loans.

Eased casualty loss rules. The Act allows Wilma affected individuals to fully deduct all of their personal property losses from their itemized federal taxes. Generally, non-business casualty losses are deductible by taxpayers who itemize only to the extent they exceed 10% of adjusted gross income and a $100 floor. The Act eliminates the 10% and $100 floors for casualty losses resulting from Hurricane Wilma in the disaster area, including those claimed on amended returns. The relief applies only for casualty losses arising in the Hurricane Wilma disaster area after Oct. 23, 2005.

Look-back election provided for the earned income credit and the refundable child credit. For the working poor, the Act makes sure that their child and earned income tax credits are not impacted by the disaster. It does so by allowing individuals affected by Hurricane Wilma to calculate their EIC and refundable child credit for 2005 using their earned income from 2004.

Corporate charitable contributions relief. The Act permits unlimited cash donations to be deducted by corporations. The usual cap of 10% of taxable income is disregarded for cash contributions related to Hurricane Wilma for contributions before Jan. 1, 2006.

Employee retention credit. The Act provides an up to $2,400 credit per worker for businesses in the Wilma GO Zone to keep employees on the payroll through the end of 2005. Specifically, the Act provides a 40% tax credit for wages paid up to $6,000 if paid after Oct. 23, 2005, and before Jan. 1, 2006, by employers located in the Wilma GO Zone who continue to pay their employees while their business is inoperable.

Timber industry relief. The Act addresses the hurricane's impact on the timber industry by doubling to $20,000 the deduction for reforestation expenses in the Wilma GO Zone and by permitting timber land owners to carry back certain losses for 5 years instead of the usual 2-year period. However, neither provision applies to publicly traded corporations, real estate investment trusts, or taxpayers that hold more than 500 acres of timber.

Additional low-income housing credits. The Act allows Florida to receive an additional allocation of $3.5 million in low-income housing tax credits to address the housing shortage brought on by the displaced families from Hurricane Wilma. This tax credit offers developers and landlords incentives to provide low cost housing to eligible families, in the communities where they live. Additionally, the Wilma Go Zone will be treated as a difficult development area, allowing investors to calculate credits for a project on an amount equal to 130% of new construction or rehabilitation expenditures.

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Client Bulletin 5-18-06: 

Tax Increase Prevention and Reconciliation Act

AMT relief. In general terms, to find out if you owe alternative minimum tax (AMT), you start with regular taxable income, modify it with various adjustments and preferences (such as addbacks for property and income tax deductions and dependency exemptions), and then subtract an exemption amount (which phases out at higher levels of income). The result is subject to an AMT tax rate of 26% or 28%. You pay the AMT only if it exceeds your regular tax bill. Although it was originally enacted to make sure that wealthy Americans did not escape paying taxes, the AMT has wound up ensnaring many middle-income taxpayers. The reason? Many of the tax figures (such as the tax brackets, standard deductions, and personal exemptions) used to arrive at your regular tax bill are adjusted for inflation, but the tax figures used to arrive at the AMT are not. For 2006 only, the new law provides some relief. It increases the maximum AMT exemption amount over its 2005 level by $4,550 for married taxpayers filing joint returns, and by $2,250 for unmarried individuals. However, after 2006, the maximum AMT exemption amount will drop precipitously to where it was in the year 2000 unless Congress provides another fix.

Another provision in the new law provides AMT relief for those individuals claiming certain “nonrefundable” personal tax credits (such as the credit for dependent care and the Scholarship and Lifetime Learning credits). For 2006, these credits may offset an individual's regular tax and AMT. After 2006, unless Congress acts, these credits will be allowed only to the extent that an individual has regular income tax liability in excess of the tentative minimum tax, which has the effect of disallowing these credits against AMT.

Investor tax breaks extended. An individual's long-term capital gain generally isn't taxed at a rate higher than 15%. It may be taxed at just 5% (0% for tax years beginning after 2007) if the gain would have been taxed at 10% or 15% if it were ordinary income instead of long-term capital gain. Most dividends from domestic corporations (and certain qualifying foreign corporations) also qualify for the same favorable tax treatment as long-term capital gain. These favorable tax rates were set to expire at the end of 2008, but the new law extends the favorable rates through 2010.

Income limit on Roth IRA conversions eliminated, beginning in 2010. A person who makes deductible contributions to a regular individual retirement account (IRA) gets a tax break now for the dollars he puts in and his earnings grow tax free. However, he pays ordinary income tax on every dollar he takes out, and withdrawals are subject to significant restrictions, such as the required minimum distribution rules. A person who makes contributions to a Roth IRA can't get a tax deduction for contributions, but his money grows tax free and there's no tax, and few restrictions, on qualifying withdrawals.

Under current law, only individuals with $100,000 or less in modified adjusted gross income can convert a regular IRA into a Roth IRA. A taxpayer making the conversion generally must pay tax on money he takes out of his regular IRA, but once it's in his Roth IRA, he won't pay tax on the withdrawal of that money or the money it earns (assuming a few relatively simple requirements are met). Generally speaking, Roth conversions appeal to taxpayers who either think their tax rate will go up in retirement, or believe that the value of their account will rise significantly, and thus are willing to make an upfront tax payment when they convert in order to reap large tax savings in later years.

Under the new law, beginning in 2010, taxpayers will be able to convert a regular IRA into a Roth IRA regardless of how high their modified adjusted gross income is. What's more, the new law permits taxpayers who convert in 2010 to spread the income and resulting tax payments on the converted funds over two years—2011 and 2012.

Kiddie tax age limit raised from under 14 to under 18. At one time, wealthy parents could significantly lower their family's tax bill by transferring investment assets to minor children. This tax technique, called income shifting, worked by taking income out of the parents' higher tax bracket and placing it in the lower tax brackets of their children. To curtail the use of this tax technique, Congress enacted the “kiddie tax” rules, which provided that children under 14 who had more than a small amount of unearned (investment) income had to pay tax at their parents' marginal tax rate (the rate of tax on the last dollar earned). The threshold amount at which the kiddie tax kicks in is two times the amount allowed as a standard deduction for a dependent who has only investment income. For 2006, that amount is $850, so the kiddie tax begins to apply when the child has more than $1,700 in unearned income.

Under the new law, the age limit below which a child's income from investments is taxed at the parents' rates is raised from 14 to 18. The new law specifies, however, that the kiddie tax does not apply to a child who is married and files a joint return for the tax year. It also adds an exception to the kiddie tax for distributions from certain qualified disability trusts. The new provisions apply to tax years beginning after Dec. 31, 2005.

Capital gain treatment for self-created musical works. Before the new law came along, literary, musical, or artistic compositions, letters or memoranda, or similar property held by a taxpayer whose personal efforts created the property weren't treated as capital assets. As a result, when a taxpayer sold copyrights he owned in songs he created, gain from the sale was treated as high-taxed ordinary income rather than low-taxed capital gain.

Under the new law, at the election of a taxpayer, the sale or exchange of musical compositions or copyrights in musical works created by the taxpayer's personal efforts is treated as the sale or exchange of a capital asset. This applies to sales in exchanges after the date the Tax Increase Prevention and Reconciliation Act is signed into law by the President, and before 2011.

Changes to the foreign earned income exclusion and housing allowance for U.S. citizens working abroad. The new law makes three changes to the foreign earned income exclusion and housing allowance. First, the income exclusion is indexed for inflation starting in 2006 (rather than 2008 under current law). Second, the base housing amount used in calculating the foreign housing cost exclusion in a taxable year is modified (the new base amount is 16% of the amount of the foreign earned income exclusion limitation). Reasonable foreign housing expenses in excess of the base housing amount remain excluded from gross income, but the amount of the housing exclusion in excess of the base housing amount is limited to 30% of the taxpayer's foreign earned income exclusion. Third, income excluded as either foreign earned income or as a housing allowance is included for purposes of determining the marginal tax rates applicable to non-excluded income.

The above only describes highlights of the new law. If you would like more details on any aspect of this legislation, please contact us.

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Client Bulletin 8-30-06:

Pension Protection Act of 2006

August 30, 2006

The recently passed Pension Protection Act of 2006 is a massive tax bill that overhauls the funding and disclosure rules for defined benefit plans, addresses conversions of pension plans to cash balance plans, carries liberalized payout and rollover rules, and makes a host of other changes relating to pension plans and their beneficiaries. Here's an overview of the key tax changes in this important new legislation:

Reform of the single-employer defined benefit rules

For single-employer defined benefit plans, the Act:

·         requires employers to make contributions to their single-employer defined benefit pension plans over the next seven years in order to make those plans 100% funded. Formerly, a 90% funding level was acceptable;

·         specifies that the discount rate used to calculate the present value of current pension liabilities be based on a segmented yield curve of corporate bonds;

·         triggers accelerated contributions for at-risk plans;

·         reduces the smoothing of interest rates to two years (instead of five for assets and four for liabilities under current law);

·         permits employers to make additional maximum deductible contributions;

·         prohibits further benefit accruals for lump-sum distributions or shutdown benefits from plans funded at less than 60%;

·         restricts the use of deferred executive compensation arrangements for employers with severely underfunded plans;

·         permanently establishes an employer-paid termination premium of $1,250 per participant if a plan sponsor terminates its employee pension plan upon entering bankruptcy; and

·         establishes special rules for airlines.

Reform of the multiemployer pension system

The Act's changes relating to multiemployer plans include:

·         identifying underfunded multiemployer pension plans and establishing quantifiable benchmarks for measuring a plan's funding improvement;

·         providing new notice requirements for underfunded plans;

·         changing the amortization schedule for any plan benefit amendments from 30 years to 15 years;

·         increasing the maximum deductible limit to 140% of current liability;

·         requiring plans trustees to improve the health of the plan by one-third within 10 years if a plan is less than 80% funded or will hit a funding deficiency within seven years; and

·         prohibiting benefit increases if the increase causes the plan to fall below 65% funded status.

New disclosure rules for qualified plans

One of the overarching themes of the Act is that there should be more pension transparency so that workers, regulators and investors can better keep tabs on the financial health of traditional pension plans. To meet this need, the Act:

·         requires both single and multiemployer plans to include more detailed and specific information on their Form 5500 filings;

·         enhances Form 4010 disclosure requirements and makes all Form 4010 information filed with PBGC available to the public, save for sensitive corporate proprietary information;

·         establishes an 80%, at-risk threshold that determines whether plans pose a threat to PBGC and therefore must file Form 4010 information;

·         requires both single and multiemployer pension plans to notify workers and retirees of the funded status of their plan within 120 days after the close of the plan year;

·         prohibits companies from forcing employees to invest any of their own retirement savings contributions in the stock of the employer;

·         makes it clear that companies have a fiduciary responsibility for workers' savings during “blackout” periods, when workers are temporarily barred from making changes to their 401(k) investments; and

·         requires companies to give workers quarterly benefit statements that include information about accounts, including the value of their assets, their rights to diversify, and the importance of maintaining a diversified portfolio.

New investment advice rules

The Act:

·         permits qualified “fiduciary advisers” to offer investment advice to help employees manage their 401(k) and other retirement options;

·         puts in place fiduciary and disclosure safeguards to ensure that advice provided to employees is solely in their best interest;

·         requires fiduciary advisers for employer-sponsored plans to base their recommendations on a computer model that is certified and audited by an independent party; and

·         requires fiduciary advisers for non-employer sponsored plans to charge a flat rate fee for one year (with no computer model).

Liberalized plan payout and rollover rules

Provisions in the Act that liberalize plan payout and rollover rules include the following:

·         after 2007, taxpayers will be permitted to make direct rollovers from qualified plans to Roth IRAs;

·         for purposes of the 401(k) hardship distribution rules, “hardship” includes hardship of a beneficiary under the plan (even if the beneficiary is not a spouse or dependent). This provision is effective on August 17, 2006;

·         members of the National Guard and Reserves called to active duty through 2007 can make penalty-free withdrawals from retirement plans. Withdrawn amounts may be repaid to the IRA or pension plan within two years of the distribution;

·         the 10% early withdrawal penalty for distributions to public safety employees over age 50 (including police, fire, and emergency medical services) who may retire early is waived;

·         effective for post-2006 distributions, nonspouse designated beneficiaries are allowed to make rollovers of inherited amounts in qualified plans, governmental Section 457 plans, or tax-sheltered annuities to their own IRAs (treated as inherited IRAs); and

·         effective for distributions in plan years beginning after 2006, defined benefit plans can make in-service distributions to age-62-or-older participants.

Retirement savings provisions made permanent

The Act makes permanent a number of retirement plan and IRA liberalizations that were added to the tax laws in 2001 but were set to sunset after 2010. By making the 2001 changes permanent, the new law preserves the advantages of higher employee contribution limits for employer plans, higher IRA contribution limits, more flexible plan rules, portability, a catch-up for those over 50, and an increase in employer contribution limits. The new law also makes permanent the saver's credit, which would not have been available after 2006 absent the extension.

Charitable reforms

The Act also contains a package of provisions to help prevent abuse in the charitable sector and provide additional tax incentives for Americans to give more resources to the charitable community. The incentives include:

·         Tax-free distributions from IRAs for charitable purposes. Taxpayers can exclude from gross income certain distributions of up to $100,000 from a traditional or Roth IRA if made to a tax-exempt organization to which deductible contributions can be made. The provision is effective for two years through 2007.

·         Charitable deduction for contributions of food inventory. An enhanced deduction for donations of food inventory which was formerly available only to C corporations is extended to all trades and businesses, effective for two years through 2007.

·         Basis adjustment to stock of S corporation contributing property. If an S corporation contributes property to a charity, an S corporation shareholder only has to reduce his basis in stock of the S corporation by his pro rata share of the adjusted basis of the contributed property, rather than by the amount of the charitable contribution that flows through to him. The provision is effective for two years through 2007.

·         Charitable deduction for contributions of book inventory. The current-law provision that adds public schools to the list of eligible donees for the enhanced deduction for contributions of qualified book inventory by C corporations is extended for two years through 2007.

·         Qualified conservation contributions. The new law raises the charitable deduction limit—from 30% of adjusted gross income (AGI) to 50%—for qualified conservation contributions, as long as it does not prevent the use of the donated land for farming or ranching purposes. The charitable deduction limit is raised to 100% of AGI for eligible farmers and ranchers. Unused contributions can be carried forward for up to 15 years. The provision is effective for two years through 2007.

On the charitable reform side, the new rules:

·         require reports to the Treasury Department on certain life insurance contracts;

·         double the fines and penalties applicable to certain activities by charities, social welfare organizations, private foundations and exempt organization managers;

·         clarify the terms of facade easements in historic districts, and also clarify that the charitable deduction is reduced if a rehabilitation tax credit has been claimed with respect to the donated property;

·         limit the basis for donated taxidermy property and provide that the value of the deduction is equal to the lesser of basis or fair market value;

·         require the recapture of any tax benefit derived from the contribution of property with respect to which a fair market value deduction was claimed if the property is not used for an exempt purpose of the donee organization, effective for contributions made after September 1, 2006;

·         generally prohibit deductions for contributions of clothing and household items unless they are in good used condition or better;

·         require that in the case of a charitable contribution of money, regardless of the amount, the donor must maintain a cancelled check, bank record or receipt from the donee organization showing the name of the donee organization, the date of the contribution, and the amount of the contribution. This is effective for contributions made in tax years beginning after August 17, 2006;

·         lower the threshold for imposing accuracy-related penalties on a taxpayer who claims a deduction for donated property for which a qualified appraisal is required;

·         impose certain requirements on tax-exempt organizations that offer credit counseling services;

·         apply an excess benefits transaction tax on any grant, loan, compensation or other similar payments from a donor-advised fund to a person that with respect to such fund is a donor, donor adviser, or a related person, and from a supporting organization to a substantial contributor or a related person; and

·         require that unrelated business income tax returns of 501(c)(3) organizations be made publicly available.

Charitable giving:

The recently enacted Pension Protection Act of 2006 contains a package of provisions to help prevent abuse in the charitable sector and provide additional tax incentives for Americans to give more resources to the charitable community. Here is a brief overview of those provisions.

Charitable Giving Incentives

The Act contains a charitable giving incentives package designed to encourage charitable donations. The incentives include:

·         Tax-free distributions from IRAs for charitable purposes. The Act permits taxpayers who have reached age 70-1/2, to exclude from gross income certain distributions of up to $100,000 from a traditional individual retirement account (IRA) or Roth IRA which would otherwise be included in income. The charitable distribution must be made to a tax-exempt organization to which deductible contributions can be made. The change is effective for two years through 2007.

·         Charitable deduction for contributions of food inventory. Under the Act, an enhanced deduction for donations of food inventory which was formerly available only to C corporations is extended to all trades and businesses, effective for two years through 2007.

·         Basis adjustment to stock of S corporation contributing property. The Act provides that if an S corporation contributes property to a charity, an S corporation shareholder only has to reduce his basis in stock of the S corporation by his pro rata share of the adjusted basis of the contributed property, rather than by the amount of the charitable contribution that flows through to him. For example, if an S corporation with one individual shareholder makes a charitable contribution of stock with a basis of $200 and a fair market value of $500, the shareholder will be treated as having made a $500 charitable contribution and will reduce the basis of the S corporation stock by $200. The provision is effective for two years through 2007.

·         Charitable deduction for contributions of book inventory. The provision extends the current-law provision that adds public schools to the list of eligible donees for the enhanced deduction for contributions of qualified book inventory by C corporations. The provision is effective for two years through 2007.

·         The tax treatment of certain payments to controlling exempt organizations. Under prior law, rent, royalty, annuity, and interest income paid to a tax-exempt organization by a controlled taxable subsidiary was generally treated as unrelated business income, which was taxable to the tax-exempt parent organization. The new law modifies that rule such that only the portion of such payments which is not regarded as fair market value will be treated as unrelated business taxable income. Exempt organizations are required to report certain amounts received from controlled organizations. The provision is effective for two years through 2007.

·         Qualified conservation contributions. The new law raises the limit on deducting contributions of capital gain property by individuals—from 30% of adjusted gross income to 50%—for qualified conservation contributions. The charitable deduction limit is raised to 100% for qualified conservation contributions by individual and corporate farmers and ranchers, as long as the contribution includes a restriction that the land remain available for farming or ranching. Unused contributions can be carried forward for up to 15 years. The provision is effective for two years through 2007.

It's critical for an enterprise periodically to review the status of its workers and see if they are properly classified. An enterprise must withhold federal income tax, social security taxes, and federal unemployment taxes on wages it pays workers who are employees. It also may have to provide them with the same fringe benefits and retirement plan coverage available to its other employees. There may be state tax obligations as well. By contrast, these responsibilities don't apply for workers who are independent contractors. The business simply cuts them a check for their services and sends them a Form 1099-MISC.

Under the “common law” rules developed by the courts, a worker generally is an employee for federal tax purposes if the employer has the right to control and direct the worker regarding the job he is to do and how he is to do it. The employer doesn't have to actually direct or control how the services are performed; it's enough if the employer has the right to do so. IRS usually applies the following factors to see if the employer has the right to direct and control the worker:

• A worker who must comply with instructions about when, where, and how he or she is to work is ordinarily an employee. This control factor is present if the business has the right to make the worker follow instructions. However, instructions regarding government standards are given little weight, as is the absence of instructions for professionals such as attorneys, who must follow the rules of their profession.
• Training a worker by teaming an experienced employee with the worker, by corresponding with the worker, by requiring him or her to attend meetings, or by using other methods, indicates the business wants the services performed in a particular method or manner. Ongoing training is a particularly strong sign of an employer-employee relationship, but orientation or information programs about company policies aren't.
• Integration of the worker's services into the business operations generally shows the worker is subject to direction and control.
• If the services must be rendered personally, the business probably is interested in the methods used to accomplish the work as well as in the results.
• A business that hires, supervises, and pays assistants for a worker is exhibiting employer-like control over the worker on the job. Conversely, an independent contractor relationship is indicated if a worker is contractually obligated to hire, supervise, and pay assistants.
• A continuing relationship between the worker and the business indicates an employer-employee relationship exists. A continuing relationship may exist where the worker is called in at frequently recurring, although irregular, intervals.
• The fact that a business requires work to be performed on its premises suggests control over the worker (if the work could be done elsewhere). Work done off the premises, such as at the worker's office, indicates some freedom from control. The importance of this factor depends on the type of services involved and whether an employer generally would require employees to do similar work on its premises.
• A business exhibits control over a worker if it requires him or her to perform services in a specific order or sequence.
• A business's requirement that the worker submit regular or written reports indicates a degree of control over the worker.
• Payment by the hour, week, or month generally points to an employer-employee relationship, if this method of payment isn't just a convenient way of paying a lump-sum agreed upon as the cost of a job. Payment by the job or on a straight commission basis generally indicates a worker is an independent contractor.
• A business exhibits characteristics of an employer if it supplies a worker with significant tools, materials, and other equipment, or ordinarily pays the worker's business and/or traveling expenses.
• A worker exhibits independent contractor status if he or she invests in facilities that aren't typically maintained by employees (e.g., renting his or her own office). By contrast, an employee usually relies on the employer to provide the facilities needed to do the job.
• A worker who can realize a profit or suffer a loss as a result of his or her services generally is an independent contractor, but a worker who can't is an employee. The risk that a worker won't be paid isn't factored in.
• A worker who performs more than minimal services for a number of unrelated businesses at the same time generally is an independent contractor. However, a person who works for more than one business may be an employee of each business, especially where the businesses are part of the same service arrangement.
• The fact that a worker makes his or her services available to the general public on a regular and consistent basis indicates an independent contractor relationship.
• The right to fire a worker is a factor indicating that he or she is an employee. An independent contractor on the other hand, can't be fired as long as he or she produces the work that was contracted-for.

There is no litmus test for exactly how many of these factors must be satisfied, nor are these factors uniformly applied. Please call our offices if you would like to arrange for an appointment to see whether your workers are classified properly.

Client Bulletin 12-12-06: