Sometimes the taxpayer is astounded, “How come no one ever told me this before?”  Or maybe they say something like, “This can’t be true.  There must be something wrong.”

The strategies we use are nothing unusual or even in the ‘grey’ area of tax law.  It’s simply applying ALL of the hundred or so strategies we’ve used for 25 years.  Do you have the right business structure?  Can you change the character of your income from active to passive?  Do you have unused losses?  Are your tax returns properly prepared, taking all the elections you should?  Those are the kinds of questions we investigate for you.  Save a thousand here, a thousand there and pretty soon we’re saving our clients significant money.  It’s not magic and it’s not a secret.  It’s a system.

This past week, some Ernst & Young CPAs received jail sentences of 2 years and more for promoting an illegal tax scheme.  They (and their clients) face huge penalties, and in the case of the guilty CPAs, even jail terms.

How do you know if your tax plan is going to put money in your pocket or if it’s going to put you in jail?  Obviously, going with a ‘big’ tax firm isn’t going to save you.  Neither is getting involved in an overly complicated, shady tax shelter that’s a secret no one else can do.  (That’s what happened with Ernst & Young and their ill-fated tax dodge.)

In fact, I’ve heard reports back from our happy clients, after we’ve saved them tens of thousands of dollars, that occassionally they asked their old advisors why this worked and why they’d paid so much in taxes before.  And they hear back, “There isn’t anything special in what Diane and her CPAs do.  In fact, I was thinking about that for you too.”

Of course, thinking and doing are two different things.  There’s nothing magic in how we save our clients money, it’s using a system to get every legal tax break available that makes all the difference.

Recently I reviewed the tax returns for a prospective client.  This is a FREE! service that we do for any business owner or investor who asks.  I personally will look at your past returns to see if there is money you’re leaving on the table.

In this case, the taxpayers had heard about how the C Corporation could save them thousands of dollars and so they set one up for their real estate.  And the real estate was losing money.  There are two problems with this scenario:  (1) If the real estate was going up in value, then you’d pay more taxes holding the appreciating assets inside a C Corporation.  Never put appreciating assets inside a C Corporation. (2) The losses were captured inside the C Corporation.

Don’t know or care whether a C Corporation is right for you?  That’s okay!  As one of our clients at USTax Aid Services, we’ll work with you to create the best strategy and then implement it for you.  Plus, of course we prepare the tax returns and are available for unlimited consulting.  Give us a call!

I can tell you exactly what would have happened if he’d sent in a draft of his return for review two months earlier.  I would have looked at it and stopped it right there.  I would have shown him how we would change his 2008 return so he paid $9,500 less. Plus, we would have then been able to take the loss back 5 years so that he would end up getting a refund of at least $25,000 from past returns.

The problem is that the tax strategy involved an election that had to be made on the original tax return.  It wasn’t made and there was no way to fix it now.

Waiting two months cost him $34,500.  If it seems like you’re paying too much in taxes, you probably are.  Don’t wait!

And many of them have already picked themselves up after the loss and are quickly moving on to bigger and better things.  I spent a couple of days this last weekend with my private clients in a special master mind session.  I was intrigued to see what was different.  What did they see as the secret of their success?

There were three main traits they thought that made the difference:  

Flexibility.  Business isn’t coming back.  It’s moving forward.  The same old thing isn’t going to work next year.  You have to be flexible and ready to adapt to the changing market.

Positive Mental Attitude.  Yep, PMA is back.  It’s the same thing that was popularized in the Great Depression.  You have to put your abundance glasses on and see the opportunities.  They’re not falling in your lap anymore.  If you react with scarcity and pull back, others will react the same.  It’s only if you’re open and ready to help others succeed, that you’re going to win as well.  That’s true with partners, relationships, clients, just life in general.  You get what you give.

Know Your Shortcut.  This one originated with Jorge, owner of LatAmConnect, an Argentinian outsourcing company.  When the recession was just hitting the states, he wrote a memorable post at the TaxLoopholes forum.  Basically he stated that when bad things hit the US, it’s 100 times worse in Latin America.  The good times never last as long and the bad times are much much worse.  There’s no time for fooling around.  You have to act with certainty when the opportunities are there.  

Good advice for all of us I think.  And the proof is certainly there.  These are the people that are making more money then ever before.  Recession?  What recession?

This is where it got confusing.  He said he had a Sole Proprietorship with a partner.  By definition, a Sole Prop means SOLE - just one person.  So, what he really had was a General Partnership.  If you have a partner and no business structure, you default to GP.  That meant he would pay fed and state income tax plus self-employment tax of 15.3% on his share of the income.  

It’s too late to go back and set up a business structure for 2008.  

But, wait, he had losses for years, right?  So that meant he would have Net Operating Loss (NOL) carry-forwards.  Those losses can be used against his income this year.  THEN the tax would be calculated on any income that is still left.

There’s a problem, though.  They were losses so he never bothered to file a tax return. 

We’re now left with three alternatives (1) go back and file amended returns for the years that are still open & create that NOL carry forward, (2) if possible, make this the first year of operation and all the losses would be considered start-up costs to be amortized and create expenses or (3) bite the bullet and just start this year with a lot of income and tax.

Either way, he’s looking at a lot more cost then if he’d filed his loss returns in the years that he had them.  

Losses can be cash in your pocket, but only if you properly account for them.

And others are taking the chance to take advantage of the lull in business activity to busily build for what is inevitably coming.  And that next thing is a big tax attack on the business owners.  Where will it be?  Social security and Medicare taxes on Active Income.

Active income is income you earn through a trade or business.  Some of the proposals are:

(1)  Removing the Social Security wage cap. (That means all earned income will be subject to 15.3%)

(2) Removing the Social Security wage cap, but taxing the next piece at a higher rate.  (Figure 4 - 8%)

(3) Making S Corporation and Limited Partnership distributions subject to Social Security tax.

The only solution left will be to have passive income.  Passive in this case means money you don’t have to work for.  

That’s one of the things I’m working with my clients on right now - how to turn active income into passive income to create multiple streams of passive income and pay less tax.

I keep seeing this deduction missed on new client’s past tax returns.  If you have a business that produces or improves something, chances are you’ve got another deduction coming.  One return I looked at this past year would have saved about $5,000 in taxes if they’d taken this deduction.  Wow!  That’s a lot to leave laying on the table.

We’ll make sure they never miss it again.

The sad fact is that real estate that you own and hold with a loss is a passive loss.  At best, you participate in its management so you can claim a loss of up to $25,000 against your income if it’s less than $100,000 per year.  If you make more than $150,000 per year, you’re out of luck.  That is unless you materially participate (500 hours per year per property) and you are a real estate professional.  It doesn’t end there though, you need to make a special election your tax return to claim the real estate professional status.  And you can aggregate the properties so that you only have to do one stint of 500+ hours (instead of per house).  You need to make a timely election to take the aggregation way out, though.

There is another technique that some are using that is wrong though.  I’m actually seeing it more and more on tax returns I review for free.  I’m not sure if it’s tax preparers that don’t understand the law, tax software that’s doing it wrong and no one is checking, or if it’s a bunch of people trying to get around the law.  Here’s the problem - they are taking the real estate passive loss against active business income.  You simply can’t do that.  But they’re running it all through a Schedule E and, I think, netting it all together in hopes that it’ll sneak under the IRS radar.

I believe you should always set yourself up to pay the least amount of tax legally possible.  But it has to be LEGAL!  Something like this can cause excess tax, penalties and interest.  Worse yet, let’s say you catch it on your return and your preparer corrects it on yours.  He still might be doing it on others and that means he could be considered a targetted preparer.  If the IRS sees he’s making a common mistake, every single one of his clients will get pulled into audit. 

Be very careful here!  If you’re interested in having me review your returns for free, please send them to our secure fax at 602.258.0721.

So, for example, let’s say you have a single member LLC and you just read the announcement on this site that the number of IRS audits of Sole Proprietorships is going up to 1 in 3.  You can avoid all that by electing S Corporate tax treatment.  But you didn’t do it yet for 2008.  It’s not too late.  Make sure you have a qualified tax preparer help you with this, though.

Most of the time when I review past returns for new or prospective clients, I find mistakes that we can fix.  There are a few that we can’t.  I’ve dealt with all kinds of outrage when my new clients discover they have overpaid taxes because some strategies didn’t work or because the return wasn’t properly prepared.  Most of the time we can recoup the expenses in subsequent years.  Sometimes we can’t.

I just reviewed a return for a couple who were struggling to pay their 2007 taxes.  They, like many, had gotten hammered in 2008 with declining business income and upside real estate investments.  Then they got their tax bill and simply couldn’t pay it.  So, they’re on a payment plan.

That’s when I discovered that their previous tax preparer (not a CPA) had somehow overridden the tax software to change the amount of Section 179 deduction taken.  The Section 179 allows you to immediately expense personal property items that you normally would have to depreciate over 5 - 18 years.  The current Section 179 amount is $250,000, but it drops down again to $102,000 + inflation adjustment next year.  In 2007, it was at that $100K ish figure.  (I’d have to look up exactly how much it was)  But for some reason the tax preparer thought the program was wrong and overrode it to allow the taxpayer to only take $25,000 in Section 179.  And this was a year when the client had paid tens and tens of thousands of dollars in improvements to business property.  

Instead of getting the deduction which would have wiped out his taxes for the year, he’s now set up to take the deduction over the next 15 years in the form of depreciation.  

So, in the end, at the end of 15 years, it’ll all be the same.  But try telling that to someone struggling in this economy to just stay in the house he’s got and now is faced with a tax bill he definitely can’t afford!  He could sure have used that deduction this year.