November Chapter Meeting Recap

Demystifying the AMT, Kiddie Tax, & our new Medicare Taxes: Turning Tax Traps into Treasures

Submitted by Jeremy Schmidt...  There have not been many major changes in federal income tax legislation recently, but there are still many tricky planning traps and opportunities to be aware of on behalf of our clients. At the November meeting, Mr. Thomas Brinker, Professor of Taxation at Arcadia University shared some of the most common traps and opportunities created by the complex nature of the Internal Revenue Code (IRC).

The first potential trap discussed had to do with the “kiddie tax”. High income earners may look at transferring income to children at lower tax brackets to reduce the tax burden, but they need to be aware of when and how the kiddie tax may affect those transfers. One lesser known caveat to the kiddie tax is the fact that the tax applies to full-time students up to age 23 if their earned income is less than or equal to ½ of his or her support, and unearned income exceeds $2,000. This provision may cause families to wait until the child is 24 years old before transferring income generating assets. The “kiddie tax” has various nuances that a taxpayer should be aware of before affecting such transfers.

The Housing and Economic Recovery Act (HERA) of 2008 made some changes to the way the gain on the sale of a personal residence is applied. Section 121 of the IRC allows up to $250k ($500k Married Filing Jointly) of gain from the sale of a personal residence to be excluded from income if the taxpayer has owned and occupied the home as a principle residence at least 2 of the 5 prior years. Due to the HERA of 2008, section 121 disallows use of the exclusion on the sale of a principal residence that has been allocated to “non-qualified” use such as use as a vacation home or rental property. This is just one of a list of potential changes to the way section 121 is applied over the last few years. The specific circumstances should be run by a qualified tax advisor to determine the correct filing procedure.

Other items discussed that a financial planner will want to be aware of include the Medicare tax for high income taxpayers. In 2013 an additional Hospital Insurance Tax of .9% was introduced for taxpayers with income in excess of $200k ($250k MFJ) along with the 3.8% Medicare surtax on the lesser of net investment income or MAGI over the threshold amounts ($200k individual; $250k MFJ). And no discussion of tax traps is complete without mentioning the Alternative Minimum Tax (AMT). The point worth noting on AMT is the indexing of income exemption amounts due to the American Taxpayer Relief Act of 2012 which will help lower the number of people being affected by the AMT.

There may not have been any major changes to federal tax regulations in the past year, but taking notice of potential hidden traps and opportunities can go a long way in helping a client steer clear of trouble and reach their goals.
November 2014 Chapter Meeting