From health deductions to mortgages, WalletPop experts answer your questions
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Feb 5th 2010 1:00PM
Updated Feb 5th 2010 8:50AM
Calculating taxes has become so complicated that it's not surprising many of us turn to professionals for help. According to the IRS' national tax advocate, more than 80% of individual taxpayers pay others to prepare their taxes. But that still means we have to get our paperwork together. With W-2s and 1099s on hand or in the mail, there's no excuse to procrastinate. To help you, WalletPop experts have answered some of your urgent questions about health insurance, dependent credits and IRA conversions.
Question:
I run a small business as a Sub S. Is it better to run my personal health insurance through the company or pay for it out of personal funds?
-- Robert Clark, 48, Atlanta
Answer from Outright.com
S-Corp Shareholders should always have the S-Corp pay for health insurance directly. The insurance premiums are considered a fringe benefit, which is subject to federal income tax, but is exempt from FICA, Medicare and federal unemployment tax. That means if you pay the premium yourself, you will effectively have to use after-tax dollars to pay for the insurance -- you and the corporation pay additional employment taxes on that money. Leave it to the S-Corp to cover the cost.
Question:
Question:
Divorced, I claim one child and my ex-husband claims one child. If my ex owes $3,555 in child support and has not filed taxes in three years and the children live with me 24/7, can I claim both children?
The answer pivots on who actually provides more than half of the support for the child. The income tax law is very cash-based. In other words, many features of the income tax code (for individuals) hinge on who makes cash payment.
Since the second child lives with you, I assume you provide more than one-half of the actual outlays for support of the child. If so, you are probably entitled to claim the personal exemption for the child, even though legally the ex-husband has custody rights on the child. This situation is not as unusual as you might suspect. A qualified tax preparer, such as a CPA or the local H&R Block office, could provide a final answer on this question. More important, the preparer would advise you how to claim the exemption on your tax return so it will not be questioned by the IRS.
Question:
Since the second child lives with you, I assume you provide more than one-half of the actual outlays for support of the child. If so, you are probably entitled to claim the personal exemption for the child, even though legally the ex-husband has custody rights on the child. This situation is not as unusual as you might suspect. A qualified tax preparer, such as a CPA or the local H&R Block office, could provide a final answer on this question. More important, the preparer would advise you how to claim the exemption on your tax return so it will not be questioned by the IRS.
Question:
My wife and I, both age 48, are considering making Roth conversions ($15,000 and $12,000) from our traditional IRAs. I also have a large 457 plan act, just over $200,000, which I plan to draw on at 60. I receive a lifetime NYC tax-free disability pension. Does it make sense to convert my IRA, or my wife's? My wife currently works but thinks about retiring soon. I will continue to fund both existing IRAs to use as estate planning for my child.
-- Vincent Aversa, Staten Island, NY
Answer from Gary Lesser, author of Roth IRA Answer Book and Quick Reference to IRAs
-- Vincent Aversa, Staten Island, NY
Answer from Gary Lesser, author of Roth IRA Answer Book and Quick Reference to IRAs
Everything else being equal, there is no difference mathematically between investing in a traditional IRA or a Roth IRA. It makes no difference whether taxes are paid now (as in a Roth IRA) or later (as in a traditional IRA). For example, let's assume a tax rate of 25%, an investment of $7,500 ($10,000 less taxes of 25%) in a Roth IRA, and $10,000 (deductible) in a traditional IRA. Over time, the accounts double in value. After taxes are paid on the traditional IRA distributions, $15,000 ($20,000 minus taxes of $5,000) remains; the same amount ($15,000) as in the Roth IRA, which can be withdrawn tax-free.
Only when other factors are introduced (changes in the status quo), can one argue that a Roth contribution is better or worse than a non-Roth contribution. The Roth IRA, however, has several features that may make it more desirable than a traditional IRA.
If you expect tax rates during retirement to be higher, a Roth IRA may be better. In your case, you wish to pass as much benefit on to heirs as possible. In a traditional IRA, required minimum distributions must commence at age 70 1/2. Because a Roth IRA does not require distributions be made during the owner's lifetime, amounts in a Roth IRA will accumulate until death. Assuming age 90, that is an extra 20 years of accumulation, which would not be possible in a traditional IRA. Thus, a Roth IRA will pass more benefit to heirs. Paying taxes on a Roth conversion would initially lower the value of your taxable estate; however, over time, your estate would recover and likely be larger with a Roth IRA.
Other factors to consider: Although the conversion amount isn't that large, the conversion income still has the potential to reduce or eliminate credits, exemptions, deduction, and more, which are based on adjusted gross income (e.g., first-time homebuyer's credit, financial aid, and passive activity loss deduction, to name a few). In general, by converting to a Roth IRA, you would be giving up the "known" for the "unknown." Will Congress change the taxation rules for Roth IRAs, as it did with Social Security? Will tax rates be higher or lower when distributions are made? Getting advice from a competent tax advisor should also be considered before making a conversion.
Question:
Only when other factors are introduced (changes in the status quo), can one argue that a Roth contribution is better or worse than a non-Roth contribution. The Roth IRA, however, has several features that may make it more desirable than a traditional IRA.
If you expect tax rates during retirement to be higher, a Roth IRA may be better. In your case, you wish to pass as much benefit on to heirs as possible. In a traditional IRA, required minimum distributions must commence at age 70 1/2. Because a Roth IRA does not require distributions be made during the owner's lifetime, amounts in a Roth IRA will accumulate until death. Assuming age 90, that is an extra 20 years of accumulation, which would not be possible in a traditional IRA. Thus, a Roth IRA will pass more benefit to heirs. Paying taxes on a Roth conversion would initially lower the value of your taxable estate; however, over time, your estate would recover and likely be larger with a Roth IRA.
Other factors to consider: Although the conversion amount isn't that large, the conversion income still has the potential to reduce or eliminate credits, exemptions, deduction, and more, which are based on adjusted gross income (e.g., first-time homebuyer's credit, financial aid, and passive activity loss deduction, to name a few). In general, by converting to a Roth IRA, you would be giving up the "known" for the "unknown." Will Congress change the taxation rules for Roth IRAs, as it did with Social Security? Will tax rates be higher or lower when distributions are made? Getting advice from a competent tax advisor should also be considered before making a conversion.
Question:
We bought our new home in 2007 for $1,100,000 and, with additional time/costs before closing, we were not able to afford to do the work on our old house to sell or rent it. The new mortgage is $960,000 and the old mortgage is $340,000, so I have to do the calculation to limit my interest deduction on schedule A. Is there any relief or change in the limit for this situation? I'm down to my last few months of payments before it all hits the fan.
As more and more Americans are learning, affluent taxpayers are subject to the loss of many tax benefits otherwise available to other taxpayers. This is not a political statement, but a reflection of reality. It's important to understand this as you do tax planning, which you have done.
You are correct that the deduction for mortgage interest may be limited. There is one limit for loans used to buy or build a residence (home acquisition debt) and another one not used to buy or to build a residence (home equity debt). All loans secured by your main home or your second home are subject to the same overall limitations. In your case, you cannot deduct interest on more than $1 million of debt for your main and secondary homes.
Your situation will serve as an example. Since your $1.3 million combined debt exceeds the $1 million threshold, your mortgage interest is limited. If we assume your mortgage interest totals $78,000, you may only deduct $60,000 ($1.0 million / $1.3 million x $78,000). The worksheet on page 9 of Publication 936 can help you calculate your allowable mortgage deduction. This is a great question, and we have tax and tech experts live on Twitter to help all season long @TeamTurboTax.
You are correct that the deduction for mortgage interest may be limited. There is one limit for loans used to buy or build a residence (home acquisition debt) and another one not used to buy or to build a residence (home equity debt). All loans secured by your main home or your second home are subject to the same overall limitations. In your case, you cannot deduct interest on more than $1 million of debt for your main and secondary homes.
Your situation will serve as an example. Since your $1.3 million combined debt exceeds the $1 million threshold, your mortgage interest is limited. If we assume your mortgage interest totals $78,000, you may only deduct $60,000 ($1.0 million / $1.3 million x $78,000). The worksheet on page 9 of Publication 936 can help you calculate your allowable mortgage deduction. This is a great question, and we have tax and tech experts live on Twitter to help all season long @TeamTurboTax.
