Posts by Joseph W. Cunningham, JD, CPA

November 2014 : Estimated Tax Payments Part II: Requirements for Spousal Support Recipients to Make Payments–Trap for the Unwary

Posted by Joseph W. Cunningham, JD, CPA
Michigan Family Law Journal : TAX TRENDS AND DEVELOPMENTS Feature

by Joseph W. Cunningham, JD, CPA

Excerpt:

Last month’s column covered the need for divorce attorneys to appropriately “capture” as a marital asset estimated taxes paid or withheld in excess of the actual tax liability for the final year of the marriage, or part of a year, as the case may be.

There is also a need for spousal support recipients to be aware of requirements to make federal and state estimated tax payments on alimony income. Unlike with wages and salaries, tax is not withheld on spousal support payments. And, it is not uncommon for newly divorced spousal support recipients to be unaware of the obligation to make estimated tax payments on alimony income.

For federal, state, and, where applicable, city income tax purposes, estimated tax payments are due by April 15, June 15, September 15, and January 15 of the succeeding year. Forms 1040ES and MI 1040ES are used for this purpose for federal and Michigan estimates.

A consequence of not making required estimated tax payments is an underpayment penalty. In addition, of course, it may also result in an unexpectedly large tax liability when April 15 rolls around.
Two exceptions to the imposition of the underpayment penalty are:

  1. The total of tax withheld and timely made estimated tax payments exceeds 90% of the current year’s tax liability.
  2. The total of tax withheld and timely made estimated tax payments exceeds 100% of the prior year’s tax liability.

Example 1 – 90% of Current Year Tax Exception

  • W has annual W-2 earnings of $30,000 and receives spousal support of $4,000 a month.
  • Withholdings of $3,500 more than cover the tax on her $30,000 W-2 income (after reducing same by the standard deduction and exemptions). But, her federal income tax on the $48,000 of alimony income is $10,000 (all taxed at a higher bracket).
  • W should make federal estimated tax payments of $2,500 quarterly to avoid being subject to the underpayment penalty. She should do the same with respect to her state tax on the alimony income, and her city income tax, if applicable.
  • If she does, her $13,500 combined federal tax withheld and timely made estimated tax payments will exceed 90% of her current year tax liability.

Example 2 – 100% of Prior Year Tax Exception in First Year After Divorce
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Continued in PDF file below… “Estimated Tax Payments Part II: Requirements for Spousal Support Recipients to Make Payments–Trap for the Unwary”
View / Download November 2014 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

Read More “November 2014 : Estimated Tax Payments Part II: Requirements for Spousal Support Recipients to Make Payments–Trap for the Unwary”

October 2014 : Estimated Tax Payments and Taxes Withheld During Pendency of Divorce Proceedings

Posted by Joseph W. Cunningham, JD, CPA
Michigan Family Law Journal : TAX TRENDS AND DEVELOPMENTS Feature

by Joseph W. Cunningham, JD, CPA

Excerpt:

It is generally accepted that income earned during marriage–including, absent an agreement to the contrary, income earned during the pendency of divorce proceedings–is marital.

Thus, quarterly estimated income tax payments made and income taxes withheld on salary/wages during marriage consist of marital funds applied to current year federal and state income tax obligations.

This aspect of divorce often receives scant attention from family law attorneys. Particularly when one party is in a position to “manipulate” estimated tax payments and/or taxes withheld, counsel for the other party should not overlook the possibility his/her client could be meaningfully short-changed.

Example 1

H owns a company (ABC) that operates as an LLC. Thus, ABC’s income “passes through” and, accordingly, is taxable to H on his personal income tax return. Thus, H makes quarterly estimated income tax payments to cover the taxes on the ABC pass-through income. Though both his and W’s names and SSNs are on the estimated tax forms he files, the tax payments will be credited to his SSN.

They have reached a divorce settlement and entered a judgment on September 30, 2014. ABC’s income and corresponding estimated income tax payments are as follows:

  • H’s ABC pass-through income for 2014 is projected at $120,000.
  • His federal and state income tax on the $120,000 is projected at $36,000.
  • H, with the divorce in mind, made estimated tax payments of $15,000 in each of April, June, and September 2014 – a total of $45,000.

Here’s how this plays out:
(Table shown in PDF file below)

……

Continued in PDF file below… “Estimated Tax Payments and Taxes Withheld During Pendency of Divorce Proceedings”
View / Download October 2014 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

Read More “October 2014 : Estimated Tax Payments and Taxes Withheld During Pendency of Divorce Proceedings”

Aug / Sept 2014 : Court of Appeals Rules on Division of 401(k) Funded Largely Before Marriage – CHENEY V CHENEY, Mich App No. 311555 (4/29/14)

Posted by Joseph W. Cunningham, JD, CPA
Michigan Family Law Journal : TAX TRENDS AND DEVELOPMENTS Feature

by Joseph W. Cunningham, JD, CPA

Excerpt:

Facts

  • At the time of the divorce trial in September 2011, H’s Ford 401(k) account balance was $315,862.
  • When the parties married in September 1999, the balance was $208,942.
  • Contributions were made to the account during the marriage.
  • The trial court determined that the entire Ford 401(k) was marital and awarded W $157,931.
  • The Court’s rationale was that the pre-marital funds in the account were commingled with contributions made during marriage and, hence, were marital.
  • H appealed, claiming the entire 401(k) account was separate property because (1) most of the account was funded before marriage and (2) he was the sole contributor during marriage.
  • Alternatively, he claimed that the $208,942 premarital balance was his separate property.

Court of Appeals Opinion

  • The COA rejected H’s claim that the entire account was separate property because, pursuant to MCL 552.18(1), retirement benefits accrued during marriage “shall be considered part of the marital estate subject to award by the court.”
  • However, the Court agreed with H’s alternative claim that the pre-marital balance of $208,942 was his separate property.
  • The Court cited McNamara v Horner, 249 Mich App 117 (2002) and Reeves v Reeves, 226 Mich App 490 (1997) in support of its decision.

Comments on the Case
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Continued in PDF file below… “Court of Appeals Rules on Division of 401(k) Funded Largely Before Marriage – CHENEY V CHENEY, Mich App No. 311555 (4/29/14)”
View / Download August/September 2014 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

Read More “Aug / Sept 2014 : Court of Appeals Rules on Division of 401(k) Funded Largely Before Marriage – CHENEY V CHENEY, Mich App No. 311555 (4/29/14)”

June / July 2014 : Designation of Payments as Nontaxable/ Nondeductible

Posted by Joseph W. Cunningham, JD, CPA
Michigan Family Law Journal : TAX TRENDS AND DEVELOPMENTS Feature

by Joseph W. Cunningham, JD, CPA

Excerpt:

General

As indicated by a recent case on which the author was consulted, many attorneys are unaware of IRC Section 71(b)(1) (B) which enables divorcing parties to expressly designate payments from one to the other as nontaxable/nondeductible. In that case, the parties had agreed that one would pay the other after-tax installment payments for a period of years to balance their divorce settlement. Their tax brackets were approximately the same so there was no advantage to converting the after-tax payments to taxable/deductible Section 71 payments.

The question to me was, essentially – Can we structure payments as nontaxable/nondeductible and be assured they will be so treated for tax purposes?

The answer is “yes,” pursuant to IRC 71(b)(1)(B). Just as it is important to include a “tax intent” provision when payments are intended to be taxable/deductible, the same is advisable when they are intended to be nontaxable/nondeductible. Tax intent provisions prevent misunderstandings down the road. Sometimes a tax preparer may suggest payments are deductible by the payer when such was not intended. A tax intent provision avoids this possibility.

The following is sample generic language for a nontaxable/nondeductible tax intent provision:

“Defendant’s payments of [property/spousal support] to Plaintiff provided in paragraph [ ] are hereby designated by the parties, pursuant to IRC Section 71(b)(1)(B), as not includable in Plaintiff’s income under IRC Section 71 and, correspondingly, not deductible by Defendant under IRC Section 215. Plaintiff and Defendant agree that neither will file an income tax return on which subject payments are reported inconsistently with their expressly designated nontaxable/nondeductible status.”

Other Uses

Lump-Sum Payable on Death of Payer – ……

Continued in PDF file below… “Designation of Payments as Nontaxable/ Nondeductible”
View / Download June/July 2014 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

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May 2014 : Selected Tax Provisions Related to Children of Divorce – Part 2

Posted by Joseph W. Cunningham, JD, CPA
Michigan Family Law Journal : TAX TRENDS AND DEVELOPMENTS Feature

by Joseph W. Cunningham, JD, CPA

Excerpt:

The following presents basic information regarding two additional federal income tax provisions applicable to divorced or legally separated parents with one (or more) dependent child. Two other such provisions were presented in the April 2014 column.

Earned Income Credit

General Rule

IRC Section 32 provides for a refundable tax credit for taxpayers (1) with adjusted gross incomes (AGIs) under certain limits and (2) who have earned income. As indicated below, the credit increases significantly for taxpayers with one or more qualifying children.

To qualify, a taxpayer’s 2014 AGI must be less than:

  • $14,590 ($20,020 if married filing jointly) with no qualifying children
  • $38,511 ($43,941 if married filing jointly) with one qualifying child
  • $43,756 ($49,186 if married filing jointly) with two qualifying children
  • $46,997 ($52,427 if married filing jointly) with three or more qualifying children

The credit begins to phase out for taxpayers with one or more qualifying children who have a 2014 AGI of $17,530 or more and an AGI of $7,970 or more if no qualifying children. e phase-out continues from these AGIs through the amounts shown above.

Also, a taxpayer’s investment income – interest, dividends, capital gain, etc. – cannot exceed $3,350 in 2014.

The maximum credit for 2014:

  • $496 with no qualifying children
  • $3,305 with one qualifying child
  • $5,460 with two qualifying children
  • $6,143 with three or more qualifying children

The requirements for “qualifying child” are essentially the same for claiming a dependency exemption for a child.

“Earned income” includes salaries, wages, other forms of employee compensation, and self-employment income.
e IRS will calculate the credit. For taxpayers who want to calculate the credit, there are tables included in both 1040 and 1040A instructions.

Example

John and Mary, who file jointly, have:

  • Earned income of $25,000.
  • Investment income of $1,000
  • Two qualifying children

Because their $26,000 AGI is less than the $49,186 limit and their $1,000 investment income does not $3,350, they are entitled to the earned income credit (EIC). They refer to the EIC table in the 1040A instructions and find their credit is $4,813.

Practice Pointers
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Continued in PDF file below… “Selected Tax Provisions Related to Children of Divorce – Part 2”
View / Download May 2014 Article – PDF File

Complete Michigan Family Law Journal available at: Michigan Bar website – Family Law Section (subscription required)

Read More “May 2014 : Selected Tax Provisions Related to Children of Divorce – Part 2”