Monthly Archives: August 2015

Start your retirement savings with an IRA

Are you new to retirement saving? If so, the choices can be overwhelming and you may be wondering where to start. One place to look: a 41-year-old option known as an individual retirement account or IRA.

  • What is an IRA? An IRA is a savings account that you establish with a bank or investment company. In most cases, you can complete the application on-line and set up automatic withdrawals from your bank account to fund your contributions.

    IRAs come in two general types, traditional or Roth. You can establish more than one IRA, and you can contribute to IRAs of more than one type.

    The differences between traditional and Roth IRAs are mainly tax-related. For example, contributions to a traditional IRA generally give you a current year deduction. Your earnings inside the account are not taxed until you begin taking withdrawals. The withdrawals are taxable and you may have to pay a penalty if you take money from your account before age 59½.

    Contributions to a Roth IRA are not deductible. Earnings growth is tax-free and qualified withdrawals are generally not taxable.

  • How much can you contribute? For 2015, the maximum contribution to all your IRAs is the lesser of your taxable compensation or $5,500. When you’re age 50 or older (or will be by the end of the year), you can add $1,000 to your contribution.

IRAs can offer many benefits, including a federal income tax credit for making contributions. Let Carl Heinemann, your Chattanooga CPA, help you determine what type of retirement account is the best choice for you.

Know how inherited savings bonds are taxed

With the most recent announcement of low savings bond interest rates — zero percent for the fixed portion of Series I bonds — you may have little incentive to buy these investments. Add an electronic-only purchase requirement and the potential end to the election to purchase bonds with your tax refund, and you might never own savings bonds unless you inherit them.

If you do inherit, what’s the income tax consequence? The answer depends on whether or not the original owner of the bond was reporting the interest income each year.

If the bond owner was reporting the interest, you’ll report the amount of interest earned after the date of death on your return. Current-year interest prior to that date is reported on the owner’s return.

If the bond owner was not reporting the interest each year, you have a choice. One option is to include the interest through the date of death on the bond owner’s return. Then you’re only responsible for the interest earned going forward. This can be a smart move if the bond owner is in a lower tax bracket than you are.

Alternatively, you can report all interest earned since the bond issuance on your own tax return. Generally, you’ll report the income — and pay the resulting tax — in the year you sell or convert the bonds. Under certain circumstances, you may also be able to take a deduction for part of the federal estate tax paid.

Do you have questions about inherited savings bonds? Give Carl Heinemann, your Chattanooga CPA, a call. We’re here to help with the answers.

Get familiar with these tax-saving terms

As you’re working on your midyear tax planning, refresh your memory on the meanings of terms that can save you money. Here are three.

  • Exclusion. Exclusions are items that would generally be included on your return, but are specifically excluded by a tax law provision. For example, gifts and inheritances you receive are excluded from your income — you simply don’t report them on your federal tax return.
  • Deduction. By definition, a deduction means an amount is subtracted from your income. Tax deductions fit into four general categories.

    Above the line deductions such as alimony paid can be claimed even if you don’t itemize.

    Itemized deductions are a specific group of expenses, including amounts you pay for certain taxes, medical costs, charitable donations, mortgage interest, and disaster losses.

    The standard deduction is a simplified substitute for itemized deductions. It’s a flat amount you can use to reduce your gross income instead of itemizing each allowable expense.

    Business deductions are the ordinary and necessary expenses required for carrying on your trade or business.

  • Credit. Income tax credits are subtracted from the tax you owe. Note the difference from the definition of deductions, which reduce your income and indirectly reduce your final tax bill.

    Tax credits can be refundable, meaning you’ll get money back if the credit exceeds the amount of tax you owe. Nonrefundable credits can only reduce your tax to zero.

Call Carl Heinemann, your Chattanooga CPA, for details on each of these tax-savers and how including them in your midyear planning can benefit you.

Plan for your required minimum distributions

Are you ready to begin taking required minimum distributions from your traditional IRA this year? Here are three facts to plan for.

  • Required withdrawals. The rule is this: To avoid a penalty, you’re required to take a minimum amount from your traditional IRA once you reach age 70½. You determine the dollar figure by dividing the balance in your account at the end of last year by the life expectancy for your age per IRS tables.

    As long as you meet your minimum required withdrawal, you’re free to take any additional amounts from your IRA. Just remember the excess does not count toward next year’s required minimum distribution — and that IRA withdrawals are taxable income in the year you receive the money.

  • The tax effect. IRA withdrawals are treated as ordinary income, so you’ll pay tax at your regular federal income tax rate. That’s true even if the amount you withdraw includes what usually would be treated as capital gain, such as when you sell appreciated stock held inside your IRA in order to provide the cash to make your withdrawal.
  • Your basis. Nondeductible contributions to your traditional IRA, as well as certain rollover contributions, are considered basis. Those amounts are not taxed when you take withdrawals. However, you can’t simply withdraw the nontaxable portion of your IRA. Instead, part of each withdrawal will be taxable and part will be nontaxable. Use “Form 8606, Nondeductible IRAs,” to calculate and report your basis and the taxable portion of your current withdrawal.

Let us help you plan for distributions from your IRA. We’ll be happy to answer your questions and explain the rules.

Annuities: What to know before you invest

You’re approaching retirement and sales representatives want to sell you a bewildering array of investment products — including annuities that offer a guaranteed source of income. But before you sign on the dotted line, make sure you understand the basics. Simply put, an annuity is an investment product created by an insurance company. Major types of annuities include the following:

  • Immediate annuities. With this investment, you pay a lump sum to the insurance company. In return, you get a steady stream of income that may be for a fixed term (say, 60 months) or for life. Because of their simplicity, commissions on these products tend to be relatively low.
  • Fixed annuities. Like a certificate of deposit (CD) at a bank, these annuities allow an investor to lock in a rate of return. Unlike CDs, however, they generally have longer terms (three, five, and seven year terms are common). Of course, if interest rates rise you may be locked into an investment with a low rate of return. Your annuity payments may not keep up with inflation.
  • Variable annuities. Commissions on these products tend to be higher than other types of annuities (approaching 6% for some products), so sales people have an incentive to push them. Variable annuities have characteristics similar to a mutual fund portfolio, though the insurance company may offer a guaranteed investment return.

    Of course, insurance companies are in business to make money and all of these annuities have associated costs. These may include commissions, investment fees, surrender charges, annual contract fees, and other charges — some of which may not be obvious or even disclosed to the consumer. In addition, annuity withdrawals can have significant tax implications for you and your heirs.

    For folks without a traditional pension, an annuity may make sense. In essence, the annuity would serve as a replacement for a defined benefit plan. Others may want to pair a fixed income annuity with a low-cost mutual fund. Still others may want to avoid annuities altogether or wait until later in their retirement before signing up. Those who can count on a traditional pension may want to keep at least a portion of their funds in a 401(k) plan or IRA for greater liquidity and the potential for higher returns.

Bottom line: Annuities can be confusing and complex. So proceed with caution. To discuss annuities or other retirement options, give Carl Heinemann, your Chattanooga CPA, a call.

Hiring tips

Garnering a good return on investment isn’t limited to retail products, raw materials, equipment, and real estate. The people you hire are an investment as well. If they provide excellent customer service, produce quality products, and care about what’s best for the company, your return can far exceed the cost of hiring and employing them. Bad employees, on the other hand, can drag a business down and sully a reputation built over many years. That’s why the hiring process is so important. Do it right and you can expect substantial dividends. Do it wrong, and trouble awaits. Here are three tips for hiring outstanding employees.

  • Conduct a solid interview. That means being prepared, knowing the questions you’ll ask, the type of employee you’re seeking, and the most important aspects of the position for which you’re hiring. Common interviewing mistakes include being overly influenced by advanced degrees versus real world experience and hiring people who look and think like you do. A company filled with clones of the owner may not bring fresh perspectives. Without folks who are willing to challenge established norms and perceived limitations, big problems may go unsolved and opportunities may be missed.
  • Check the facts. The best con artists are great liars. No matter how comfortable you feel during the interview, be sure to check a candidate’s references and work history as presented in the resume. Hire an engineer who lacks the requisite skill and training, and product design and quality may suffer. If you bring on board an accountant with a shady work history, fraud may later surface. It’s prudent to maintain a healthy degree of skepticism in the hiring process.
  • Hire for fit — not just skills. All your employees may not look the same or hold the same political beliefs. But they should agree with your vision and values. They should also come to the job with solid communication skills and an ability to work well in a team. If you hire smart people with strong foundational skills, they will often develop sufficient expertise to perform at a high level. On the other hand, folks who can’t get along with peers or who lack basic skills can engender staff dissatisfaction, which can lead to increased employee turnover and management stress.

Take the time and exert the effort to recruit and hire the best employees. They’re often your best investment.