October 29, 2008
Tax Lesson - Let's put TAX CUTS in terms everyone can understand.
Suppose that every day, ten men go out for beer and the bill for all ten comes to $100. If they paid their bill the way we pay our TAXES, it would go something like this:
The first four men (the poorest) would pay nothing.
The fifth would pay $1.
The sixth would pay $3.
The seventh would pay $7.
The eighth would pay $12.
The ninth would pay $18.
The tenth man (the richest) would pay $59.
So, that's what they decided to do. The ten men drank in the bar every day and seemed quite happy with the arrangement, until one day, the owner threw them a curve. 'Since you are all such good customers,' he said, 'I'm going to reduce the cost of your daily beer by $20.' Drinks for the ten now cost just $80.
The group still wanted to pay their bill the way we pay our taxes so the first four men were unaffected. They would still drink for free. But what about the other six men - the paying customers? How could they divide the $20 windfall so that everyone would get his 'fair share?'
They realized that $20 divided by six is $3.33. But if they subtracted that from everybody's share, then the fifth man and the sixth man would each end up being paid to drink his beer.
So, the bar owner suggested that it would be fair to reduce each man's bill by roughly the same amount, and he proceeded to work out the amounts each should pay. And so:
The fifth man, like the first four, now paid nothing (100% savings).
The sixth now paid $2 instead of $3 (33%savings).
The seventh now pay $5 instead of $7 (28%savings).
The eighth now paid $9 instead of $12 (25% savings).
The ninth now paid $14 instead of $18 (22% savings).
The tenth now paid $49 instead of $59 (16% savings).
Each of the six was better off than before. And the first four continued to drink for free. But once outside the restaurant, the men began to compare their savings.
'I only got a dollar out of the $20,'declared the sixth man. He pointed to the tenth man,' but he got $10!'
'Yeah, that's right,' exclaimed the fifth man. 'I only saved a dollar, too. It's unfair that he got ten times more than I!'
'That's true!!' shouted the seventh man. 'Why should he get $10 back when I got only two? The wealthy get all the breaks!'
'Wait a minute,' yelled the first four men in unison. 'We didn't get anything at all. The system exploits the poor!'
The nine men surrounded the tenth and beat him up!
The next night the tenth man didn't show up for drinks, so the nine sat down and had beers without him. But when it came time to pay the bill, they discovered something important. They didn't have enough money between all of them for even half of the bill!
And that, boys and girls, journalists and college professors, is how our tax system works. The people who pay the highest taxes get the most benefit from a tax reduction. Tax them too much, attack them for being wealthy, and they just may not show up anymore. In fact, they might start drinking overseas where the atmosphere is somewhat friendlier.
David R. Kamerschen, Ph.D.
Professor of Economics
University of Georgia
For those who understand, no explanation is needed. For those who do not understand, no explanation is possible.
April 25, 2008
New IRS Form for Mortgage Forgiveness Income
Here is the IRS Announcement and their new form for reporting income under the Mortgage Forgiveness Debt Relief Act of 2007. Surprisingly, the IRS will permit the new law to apply to refinance debts even though, by its terms, the Act applies to the discharge of "qualified principal residence indebtedness" which means "acquisition indebtedness."
December 23, 2007
10 Year Tax Collection Limitation Tolled During Bankruptcy per Tax Court Decision
Severo v. I.R.S., 129 T.C. No. 17 (U.S. Tax Court, November, 2007)
Issue: Is the 10 year statute of limitations for IRS collection tolled during a bankruptcy filing?
Holding: Yes, at least during the period the automatic stay protecting the debtor is in effect, i.e., until the discharge is entered, plus six months thereafter
The debtor owed income taxes for the year 1991 which were not discharged in his 1994 bankruptcy case, a chapter 11 later converted to chapter 7. “[B]ecause of the above automatic stay provided by the Bankruptcy Code, under subsections (b) and (h) of section 6503 the 10-year collection period of limitations relating to Federal taxes owed by a debtor in bankruptcy is suspended generally during part or all of a bankruptcy proceeding.”
“Section 6503(b) provides that the collection period of limitations is suspended for the period of time in which a taxpayer's assets are in the custody or control of any court plus an additional 6 months.”
“[S]ection 6503(h)(2) provides more specifically that the 10-year collection period of limitations on Federal income taxes also is suspended for the period of time that respondent is prevented from collecting taxes by reason of a pending bankruptcy proceeding, plus 6 months.”
The Tax Court ruled that 6503(h)(2) is not limited by 6503(b) because (h)(2) specifically refers to bankruptcy. The Tax Court also ruled that the tolling extended to post-petition assets acquired by the debtor since the IRS was prevented by the stay from proceeding against those assets, at least until the discharge was entered which terminates the stay as to the debtor.
November 10, 2007
IRS Standards Announcement
This came from the IRS Newswire:
WASHINGTON — On October 1, 2007, the Internal Revenue Service issued the 2007 allowable living expense standards.
Allowable living expense standards, also known as collection financial standards, are used to determine the ability of a taxpayer to pay a delinquent tax liability. For purposes of federal tax administration the standards are effective Oct. 1, 2007.
This year the standards have been redesigned to incorporate:
• a new category for out of pocket health care expenses
• the elimination of income ranges for national standards for food, clothing and other items
• a nationwide set of tables for national standard expenses, eliminating separate tables for Alaska and Hawaii
• an expanded number of household categories for housing and utilities
• an allowance for cell phone costs in housing and utilities
• equal allowances for first and second vehicles under transportation expenses
• fewer Metropolitan Statistical Areas for vehicle operating costs
• a separate nationwide public transportation allowance
The Allowable Living Expense standards rely on data from the Bureau of Labor Statistics, the Medical Expense Panel Survey and other governmental surveys of actual consumer expenditures and provide a basis for allowances. The IRS adjusts survey data for inflation according to the Consumer Price Index.
Expense information for use in bankruptcy calculations can be found on the Department of Justice U.S Trustee Program Web site. For bankruptcy purposes, the effective date for the new standards will be Jan. 1, 2008.
September 28, 2007
Taxation of Foreclosure Sales
This is a post from my friend Dennis McGoldrick in Torrance, Cal. Dennis is a former chapter 7 trustee, a certified bankruptcy specialist and one of the best bankruptcy lawyers I know. The issue of who is taxed on the gain on the foreclosure sale when a bankruptcy has been filed can get complicated. As I tell my students over and over, know when to call a specialist! This is a complicated area. Do not depend on this short summary. Make sure you have all the facts, etc. etc.
"Taxation of foreclosure sales is one of the toughest questions. The entity who/which owns the property at the time of the sale is the entity who/which is responsible for the tax on the gain. If a foreclosure sale occurs before the bankruptcy, the debtor is liable for the tax, as the sale is really a debtor sale of the property. The Foreclosure Trustee sells the property under a power of sale given by the debtor.
In order to avoid tax in this situation, the bankruptcy must be filed before the sale, and must not close before the sale. Under section 541, the filing of the bankruptcy creates an estate and the estate then is the owner and seller of the property (the power of sale would also inure to the estate). The estate is responsible for its own taxes and files its own tax return. Trapping the foreclosure sale in the estate is therefore paramount when there is a taxable gain. Under section 349, the closing of a bankruptcy gives (abandons) all of the unadministered property of the estate back to the debtor. As a result, a foreclosure sale after a bankruptcy would be taxable to the debtor. If the debtor does not live in any of the properties to be foreclosed, the debtor will not be able to claim the $250,000 tax free gain (requires living in the property for 2 years). So you must trap the sales of properties which will generate a gain in the estate. If there is no other asset to administer, the trustee will not take notice of the foreclosure as the trustee will have no real income and cannot pay any tax, so no tax return for the estate is ever filed. The real problem comes when/if the trustee has another asset to administer. A competent trustee will realize the foreclosure sales will generate a tax, so the trustee will move to abandon the foreclosure properties back to the debtor."