News & Tech Tips

Strategies for investors to cut taxes as year-end approaches

The overall stock market has been down during 2022 but there have been some bright spots. As year-end approaches, consider making some moves to make the best tax use of paper losses and actual losses from your stock market investments.

Tax rates on sales

Individuals are subject to tax at a rate as high as 37% on short-term capital gains and ordinary income. But long-term capital gains on most investment assets receive favorable treatment. They’re taxed at rates ranging from 0% to 20% depending on your taxable income (inclusive of the gains). High-income taxpayers may pay an additional 3.8% net investment income tax.

Sell at a loss to offset earlier gains

Have you realized gains earlier in the year from sales of stock held for more than one year (long-term capital gains) or from sales of stock held for one year or less (short-term capital gains)? Take a close look at your portfolio and consider selling some of the losers — those shares that now show a paper loss. The best tax strategy is to sell enough losers to generate losses to offset your earlier gains plus an additional $3,000 loss. Selling to produce this loss amount is a tax-smart idea because a $3,000 capital loss (but no more) can offset the same amount of ordinary income each year.

For example, let’s say you have $10,000 of capital gain from the sale of stocks earlier in 2022. You also have several losing positions, including shares in a tech stock. The tech shares currently show a loss of $15,000. From a tax standpoint, you should consider selling enough of your tech stock shares to recognize a $13,000 loss. Your capital gains will be offset entirely, and you’ll have a $3,000 loss to offset against the same amount of ordinary income.

What if you believe that the shares showing a paper loss may turn around and eventually generate a profit? In order to sell and then repurchase the shares without forfeiting the loss deduction, you must avoid the wash-sale rules. This means that you must buy the new shares outside of the period that begins 30 days before and ends 30 days after the sale of the loss stock. However, if you expect the price of the shares showing a loss to rise quickly, your tax savings from taking the loss may not be worth the potential investment gain you may lose by waiting more than 30 days to repurchase the shares.

Use losses earlier in the year to offset gains

If you have capital losses on sales earlier in 2022, consider whether you should take capital gains on some stocks that you still hold. For example, if you have appreciated stocks that you’d like to sell, but don’t want to sell if it causes you to have taxable gain this year, consider selling just enough shares to offset your earlier-in-the-year capital losses (except for $3,000 that can be used to offset ordinary income). Consider selling appreciated stocks now if you believe they’ve reached (or are close to) the peak price and you also feel you can invest the proceeds from the sale in other property that’ll give you a better return in the future.

These are just some of the year-end strategies that may save you taxes. Contact us to discuss these and other strategies that should be put in place before the end of December.

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Computer software costs: How does your business deduct them?

These days, most businesses buy or lease computer software to use in their operations. Or perhaps your business develops computer software to use in your products or services or sells or leases software to others. In any of these situations, you should be aware of the complex rules that determine the tax treatment of the expenses of buying, leasing or developing computer software.

Software you buy

Some software costs are deemed to be costs of “purchased” software, meaning it’s either:

  • Non-customized software available to the general public under a nonexclusive license, or
  • Acquired from a contractor who is at economic risk should the software not perform.

The entire cost of purchased software can be deducted in the year that it’s placed into service. The cases in which the costs are ineligible for this immediate write-off are the few instances in which 100% bonus depreciation or Section 179 small business expensing isn’t allowed, or when a taxpayer has elected out of 100% bonus depreciation and hasn’t made the election to apply Sec. 179 expensing. In those cases, the costs are amortized over the three-year period beginning with the month in which the software is placed in service. Note that the bonus depreciation rate will begin to be phased down for property placed in service after calendar year 2022.
If you buy the software as part of a hardware purchase in which the price of the software isn’t separately stated, you must treat the software cost as part of the hardware cost. Therefore, you must depreciate the software under the same method and over the same period of years that you depreciate the hardware. Additionally, if you buy the software as part of your purchase of all or a substantial part of a business, the software must generally be amortized over 15 years.

Software that’s leased

You must deduct amounts you pay to rent leased software in the tax year they’re paid, if you’re a cash-method taxpayer, or the tax year for which the rentals are accrued, if you’re an accrual-method taxpayer. However, deductions aren’t generally permitted before the years to which the rentals are allocable. Also, if a lease involves total rentals of more than $250,000, special rules may apply.

Software that’s developed

Some software is deemed to be “developed” (designed in-house or by a contractor who isn’t at risk if the software doesn’t perform). For tax years beginning before calendar year 2022, bonus depreciation applies to developed software to the extent described above. If bonus depreciation doesn’t apply, the taxpayer can either deduct the development costs in the year paid or incurred, or choose one of several alternative amortization periods over which to deduct the costs. For tax years beginning after calendar year 2021, generally the only allowable treatment is to amortize the costs over the five-year period beginning with the midpoint of the tax year in which the expenditures are paid or incurred.

If following any of the above rules requires you to change your treatment of software costs, it will usually be necessary for you to obtain IRS consent to the change.

We can help

Contact us with questions or for assistance in applying the tax rules for treating computer software costs in the way that is most advantageous for you.
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Adopting a child? Bring home a tax break too

Two tax benefits are available to offset the expenses of adopting a child. In 2022, adoptive parents may be able to claim a credit against their federal tax for up to $14,890 of “qualified adoption expenses” for each child. This will increase to $15,950 in 2023. That’s a dollar-for-dollar reduction of tax.

Also, adoptive parents may be able to exclude from gross income up to $14,890 in 2022 ($15,950 in 2023) of qualified expenses paid by an employer under an adoption assistance program. Both the credit and the exclusion are phased out if the parents’ income exceeds certain limits.

Parents can claim both a credit and an exclusion for expenses of adopting a child. But they can’t claim both a credit and an exclusion for the same expenses.

Qualified expenses

To qualify for the credit or the exclusion, the expenses must be “qualified adoption expenses.” These are the reasonable and necessary adoption fees, court costs, attorney fees, travel expenses (including meals and lodging), and other expenses directly related to the legal adoption of an “eligible child.”

Qualified expenses don’t include those connected with the adoption of a child of a spouse, a surrogate parenting arrangement, expenses that violate state or federal law or expenses paid using funds received from a government program. Expenses reimbursed by an employer don’t qualify for the credit, but benefits provided by an employer under an adoption assistance program may qualify for the exclusion.

Expenses related to an unsuccessful attempt to adopt a child may qualify. Expenses connected with a foreign adoption (the child isn’t a U.S. citizen or resident) qualify only if the child is actually adopted.

Taxpayers who adopt a child with special needs are deemed to have qualified adoption expenses in the tax year in which the adoption becomes final, in an amount sufficient to bring their total aggregate expenses for the adoption up to $14,890 for 2022 ($15,950 for 2023). They can take the adoption credit or exclude employer adoption assistance up to that amount, whether or not they had those amounts of actual expenses.

Eligible child

An eligible child is under age 18 at the time a qualified expense is paid. A child who turns 18 during the year is eligible for the part of the year he or she is under age 18. A person who is physically or mentally incapable of caring for him- or herself is eligible, regardless of age.

A special needs child refers to one who the state has determined can’t or shouldn’t be returned to his or her parents and who can’t be reasonably placed with adoptive parents without assistance because of a specific factor or condition. Only a child who is a citizen or resident of the U.S. is included in this category.

Phase-out amounts

The credit allowed for 2022 is phased out for taxpayers with adjusted gross income (AGI) over $223,410 ($239,230 for 2023) and is eliminated when AGI reaches $263,410 ($279,230 for 2023).

Note: The adoption credit isn’t “refundable.” So, if the sum of your refundable credits (including any adoption credit) for the year exceeds your tax liability, the excess amount isn’t refunded to you. In other words, the credit can be claimed only up to your tax liability.

Get the full benefit

Contact us with any questions. We can help ensure you get the full benefit of the tax savings available to adoptive parents.

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How inflation will affect your 2022 and 2023 tax bills

The effects of inflation are all around. You’re probably paying more for gas, food, health care and other expenses than you were last year. Are you wondering how high inflation will affect your federal income tax bill for 2023? The IRS recently announced next year’s inflation-adjusted tax amounts for several provisions.

Some highlights

Standard deduction. What does an increased standard deduction mean for you? A larger standard deduction will shelter more income from federal income tax next year. For 2023, the standard deduction will increase to $13,850 for single taxpayers, $27,700 for married couples filing jointly and $20,800 for heads of household. This is up from the 2022 amounts of $12,950 for single taxpayers, $25,900 for married couples filing jointly and $19,400 for heads of household.

The highest tax rate. For 2023, the highest tax rate of 37% will affect single taxpayers and heads of households with income exceeding $578,125 ($693,750 for married taxpayers filing jointly). This is up from 2022 when the 37% rate affects single taxpayers and heads of households with income exceeding $539,900 ($647,850 for married couples filing jointly).

Flexible spending accounts (FSAs). These accounts allow owners to pay for qualified medical costs with pre-tax dollars. If you participate in an employer-sponsored health Flexible Spending Account (FSA), you can contribute more in 2023. The annual contribution amount will rise to $3,050 (up from $2,850 in 2022). FSA funds must be used by year end unless an employer elects to allow a two-and-one-half-month carryover grace period. For 2023, the amount that can be carried over to the following year will rise to $610 (up from $570 for 2022).

Taxable gifts. Each year, you can make annual gifts up to the federal gift tax exclusion amount. Annual gifts help reduce the taxable value of your estate without reducing your unified federal estate and gift tax exemption. For 2023, the first $17,000 of gifts to as many recipients as you would like (other than gifts of future interests) aren’t included in the total amount of taxable gifts. (This is up from $16,000 in 2022.)

Thinking ahead
While it will be quite a while before you have to file your 2023 tax return, it won’t be long until the IRS begins accepting tax returns for 2022. When it comes to taxes, it’s nice to know what’s ahead so you can take advantage of all the tax breaks to which you are entitled.

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You may be liable for “nanny tax” for all types of domestic workers

You’ve probably heard of the “nanny tax.” But even if you don’t employ a nanny, it may apply to you. Hiring a house cleaner, gardener or other household employee (who isn’t an independent contractor) may make you liable for federal income and other taxes. You may also have state tax obligations.

If you employ a household worker, you aren’t required to withhold federal income taxes from pay. But you can choose to withhold if the worker requests it. In that case, ask the worker to fill out a Form W-4. However, you may be required to withhold Social Security and Medicare (FICA) taxes and to pay federal unemployment (FUTA) tax.

 

2022 and 2023 thresholds

In 2022, you must withhold and pay FICA taxes if your household worker earns cash wages of $2,400 or more (excluding the value of food and lodging). The Social Security Administration recently announced that this amount will increase to $2,600 in 2023. If you reach the threshold, all the wages (not just the excess) are subject to FICA.

However, if a nanny is under age 18 and childcare isn’t his or her principal occupation, you don’t have to withhold FICA taxes. So, if you have a part-time student babysitter, there’s no FICA tax liability.

Both an employer and a household worker may have FICA tax obligations. As an employer, you’re responsible for withholding your worker’s FICA share. In addition, you must pay a matching amount. FICA tax is divided between Social Security and Medicare. The Social Security tax rate is 6.2% for the employer and 6.2% for the worker (12.4% total). Medicare tax is 1.45% each for the employer and the worker (2.9% total).

If you want, you can pay your worker’s share of Social Security and Medicare taxes. If you do, your payments aren’t counted as additional cash wages for Social Security and Medicare purposes. However, your payments are treated as additional income to the worker for federal tax purposes, so you must include them as wages on the W-2 form that you must provide.

You also must pay FUTA tax if you pay $1,000 or more in cash wages (excluding food and lodging) to your worker in any calendar quarter. FUTA tax applies to the first $7,000 of wages paid and is only paid by the employer.

 

Making payments

You pay household worker obligations by increasing your quarterly estimated tax payments or increasing withholding from wages, rather than making an annual lump-sum payment.

As an employer of a household worker, you don’t have to file employment tax returns, even if you’re required to withhold or pay tax (unless you own your own business). Instead, employment taxes are reported on your tax return on Schedule H.

When you report the taxes on your return, include your employer identification number (not the same as your Social Security number). You must file Form SS-4 to get one.

However, if you own a business as a sole proprietor, you include the taxes for a household worker on the FUTA and FICA forms (940 and 941) that you file for the business. And you use your sole proprietorship EIN to report the taxes.

 

Keep careful records

Keep related tax records for at least four years from the later of the due date of the return or the date the tax was paid. Records should include the worker’s name, address, Social Security number, employment dates, dates and the amount of wages paid and taxes withheld, and copies of forms filed.

Contact us for assistance or questions about how to comply with these requirements.

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