Employee Classification by Karla Hopkins

The likelihood of your business being involved in a worker classification or employment tax audit has increased recently because the IRS is aggressively attempting to reduce the “tax gap,” (the annual shortfall between taxes owed and taxes paid). The IRS entered into agreements with state unemployment agencies in 29 states, including Massachusetts, to share the results of employment tax examinations. This means that if your company is audited by a Massachusetts state agency, the IRS will be notified of the results so that they may come in to review the company's employee-employer relationships. In addition, for the 2008 through 2010 tax years, the IRS plans to examine 6000 randomly selected employers’ Forms 941, Employer’s Quarterly Federal Tax Return. Remember, the IRS can go back three years (and sometimes more) during an examination.

Indeed the focus on classification has intensified such that The IRS launched a program that will enable employers to resolve past worker classification issues by voluntarily reclassifying their workers. The program will allow employers the opportunity to get into compliance by making a minimal payment covering past payroll tax obligations rather than waiting for an IRS audit. Full details, including frequently asked questions, are available on the Employment Tax pages of www.IRS.gov , and in Announcement 2011-64

Because the existing worker classification rules are complex and ambiguous, there is uncertainty surrounding their interpretation and application. Understanding the difference between an employee and an independent contractor is very important. If you are an employer, you are required to withhold and contribute a matching amount of FICA and Medicare taxes from your employee’s income. However, if your workers are independent contractors, you are only required to report payments of $600 or more on Form 1099-MISC. Failing to make the right classification could cost you money.

The most often used test for classifying someone as an independent contractor is: Do the workers make substantial financial investments in their own tools, equipment, or a place to work, or undertake some entrepreneurial risks? If so, they are probably independent contractors. However, when you control and direct the workers who perform services for you as to the end result and how it will be accomplished, you are probably involved in an employer-employee relationship.

Unless there is a reasonable basis for treating your employees as independent contractors, failing to withhold income and employment taxes from their wages can result in severe penalties and interest, in addition to the back taxes owed. Your benefit plan may also be in jeopardy if any eligible employees have been misclassified as independent contractors. The misclassification means that these employees have been excluded from plan participation, and thus your retirement plan may lose its tax-favored status.

It is important when you enter into agreements with worker's to define their classification immediately and comply with the current tax laws. Documentation of duties and even having a written contract for services could protect you in the long run against a reclassification of an independent contractor to an employee.

For more information and clarification on employee vs. independent contractor classification visit irs.gov or contact your tax provider for assistance.

Mandated Health Insurance in Massachusetts by Carolyn Flaherty

Right, wrong or indifferent the citizens of Massachusetts are mandated to have health insurance by the 2006 Massachusetts Health Care Reform Act. The goal, as stated by the MA Department of Revenue is to "ensure that virtually all Massachusetts residents have affordable, comprehensive health insurance...". This is old news, right? Well, the answer is yes and no. The Act may have just had its 5 year anniversary, however the political figure and potential republican presidential nominee, Mitt Romney (who signed the Act into law), is bringing the topic back into the news forefront and he's not hollering it's praises from the rooftops.

Just how much does the average person know about the Act, how have they been impacted, and has MA healthcare reform been a success or a failure?

Whether the reform has been a success or a failure is largely subjective. The goal as stated is somewhat vague. Facts show that more than 98% of MA residents now have insurance and this includes 99.8% of all children. In fact MA has the lowest rate of uninsured people in the United States. That sounds a lot like success. However, we must note that before the reform took effect, 94% of MA residents already carried health insurance.

Another factor of the goal states "affordable, comprehensive health insurance." According to the independent group Massachusetts Taxpayer Foundation the program has been relatively affordable for the state; accounting for a net increase in spending of just 1% in 2010. Again, we must frame that 1% in reference to the fact that it represents approximately $1.8 billion. Note that in addition, the state receives federal aide for the program.

If the goal is referring to affordable for the private sector, the rate of private spending per insured member has been increasing double digits. For example, as reported by ABC News, the median health insurance premium for a policy holder in MA was $442 in 2009, which was a 21% increase from 2005 median premiums. Moreover, BCBS published a survey in April of 2011 estimating per capita health care spending in MA to nearly double by 2020. Also interesting and perhaps significant, bankruptcy filings due to medical costs increased by more than 1/3 from 2007 to 2009, (according to The American Journal of Medicine).

As to the "comprehensive health insurance," a BCBS survey stated that 88% of doctor's feel that the Act improved or did not affect the quality of their care. Massachusetts has always had exemplary medical facilities and therefore, it would seem that this remains true.

Whether you feel the reform is a success or a failure is your call, yet two out of three adults in the state support the law.

How has the average MA resident been affected? Remember, before the act went into play, 94% of us were already insured. Though I can not speak for all of Massachusetts, for me the direct impact has been making sure I file the 1099HC so I avoid penalty and in my tax practice, making sure I seek out those forms from my clients. Besides paperwork, I have noticed a trend of rapidly rising co-pays and premium costs that may or may not be related to the reform.

THE FACTS:
What does it mean if you do not have health insurance? Self insurance is not an option in MA and your assertion of infringement on your civil liberties is not a listed exemption. Exemptions from mandatory coverage must be applied through the Connector's office and a Certificate of Exemption indicated on Schedule HC. For more information visit: https://www.mahealthconnector.org/portal/site/connector/menuitem.a6bd9ea72595da2ea87b5f57c6398041/?fiShown=default

Exemptions:
• Affordability is determined and published in an annual schedule that can be found in the instructions to MA Form HC at http://www.mass.gov/Ador/docs/dor/health%20care/2011/sch_HC_wksht_tables.pdf

• Religious belief must be asserted by filing a sworn affidavit with your personal tax return.
• Hardship can be claimed even if the worksheets for Schedule HC show that the taxpayer could have afforded insurance. Hardship appeals are requested on the income tax return by completion of MA Schedule HC-A.

If you do not fall under one of these exemptions, a penalty will be assessed for EACH of the months you did not meet the requirement of creditable coverage. The Commissioner publishes annually a penalty schedule. The 2011 schedule can be found at the following link:

http://www.mass.gov/?pageID=dorterminal&L=7&L0=Home&L1=Businesses&L2=Help+%26+Resources&L3=Legal+Library&L4=Technical+Information+Releases&L5=TIRs+-+By+Year(s)&L6=2010+Releases&sid=Ador&b=terminalcontent&f=dor_rul_reg_tir_tir_10_25&csid=Ador

Note that penalties under the mandatory health care requirements are due as of the ORIGINAL due date of the return without regard to extension and that interest and penalties accrue in the same manner as applied to unpaid taxes.

CORPORATE PENALTIES - Carriers, employers or other sponsors of health plans are required to provide Form MA 1099-HC annually before January 31. Any who fail to provide the written statements to covered individuals will be assessed a penalty of $50 per individual up to $50,000 per year.

Home Mortgage Interest Deduction Limited by Karla Hopkins

Did you know that the home interest deduction taken on Schedule A of your personal income tax return is limited? There is one limit for loans used to buy or build a residence -- called "home acquisition debt." And there is another limit for loans not used to buy or to build a residence -- called "home equity debt." All loans, whether secured by your main home or your second home, are subject to the same overall limitations and are cumulative (i.e. debt must be aggregated to determine if you are limited).

As the cost of real estate rose over the last 10 to 15 years, and as people acquired second homes, many taxpayers face Home Mortgage Deduction Limitations. Another common scenario in the current real estate market is a taxpayer that has relocated, purchased a new home, and not sold their original house. Therefore, the taxpayer is faced with two mortgages and could easily exceed the debt limits discussed.

In addition, as more and more taxpayers use their home's equity to finance home improvements and other expenses, they are faced with an Alternative Minimum Tax Impact.


Home Acquisition Debt
In general, a joint filer may not deduct interest on more than $1,000,000 of home acquisition debt for their main home and secondary residence. Home acquisition debt means any loan whose purpose is to acquire, construct, or substantially to improve a qualified home.

For example, you borrowed $800,000 against your primary residence and $400,000 against your secondary residence. Both loans were used solely to acquire your residences. The loan amounts add up to $1,200,000. Since your loan amount exceeds the $1 million limit for home acquisition debt, your mortgage deduction is limited. Let's say both loans have a fixed interest rate of 6% and your total interest paid for the year was $72,000. You would only be able to deduct $60,000, which is the interest on the first $1 million of home acquisition debt.

Home Equity Debt
A joint filer may not deduct interest on more than $100,000 of home equity debt for your main home and secondary residence. Home equity debt means any loan whose purpose is not to acquire, construct, or substantially to improve a qualified home, or any loan whose purposes was to substantially improve a qualified home but exceeds the home acquisition debt limit. Your deduction for home equity interest may also be reduced even below the $100,000 limit if your indebtedness exceeds the fair market value of your home. This happens frequently during economic downturns such as we have recently faced.

For example, assuming you had no existing mortgage and you borrowed $300,000 in a home equity line of credit, and the amount you borrowed did not exceed the fair market value of your house. You used $150,000 to add a new family room to your house. You spent the remaining $150,000 to pay for college tuition. Half of the loan is treated on home acquisition debt (the amount used to substantially improve your home). The other half is treated as home equity debt (the amount not used to improve your home). You would be able to deduct interest only up to the $100,000 limit on home equity debt portion of the loan. Assuming you paid $21,000 interest on the loan, the amounts you can deduct would break down like this:
$10,500 - Fully deductible home acquisition debt (half the loan)
$7,000 - Deductible home equity debt (two-thirds of the home equity portion of the loan)
$3,500 - Non-deductible home equity debt (the interest paid on the home equity debt exceeding $100,000)
In addition, this taxpayer would have to report $7,000 as an AMT adjustment.

Furthermore, interest paid on home equity debt is an adjustment for Alternative Minimum Tax which was discussed in a prior Blog. You should understand whether you will be able to deduct interest on a home equity line of credit before your borrow.

For most taxpayers, figuring out the home mortgage interest deduction is straight-forward: add up the interest paid as reported to you on Form 1098, and put that total on your Schedule A. However, for others the computation can become much more complicated. It is always a good idea to check with a tax professional when you buy, sell, or finance property during the year.

Business Interruption Insurance: Protecting your Business by CarolynFlaherty

As a Wrentham resident where 5 days after hurricane Irene blew through town, approximately 20% of home owners and a significant percentage of business were still without electricity and many without water, the idea of business interruption insurance has been on my mind.

In fact, while visiting a fortunate local business that was up and running; I was conversing with the owner about an ice cream shop that likely lost all its product and whose doors were still closed. I mentioned that the shop was probably covered by business interruption insurance. The business owner I was speaking with did not even know such a thing existed. Which caused me to realize that perhaps many of the small business owners in the area were experiencing substantial financial loss.

Therefore, perhaps a day late and more than a dollar short for this go around, I thought I would take the time to explain a little bit about how to protect your business from loss of income.

While most business have property insurance policies that cover damage to their buildings and equipment, what about the profits lost should your business doors be shut due to damage, power outages etc.? In a catastrophic storm, a business could be closed for a significant period of time while pending repairs.

Interruption insurance covers estimated profits you would have earned had your property not been damaged by a covered disaster as well as operating expenses that are incurred while business is closed, (for example rent or electricity). Some policies even cover expenses incurred to operate from a temporary location, (referred to as "extra expense insurance"). Extra expense insurance is usually paid if it helps to decrease the business interruption costs.

Business interruption insurance can not be purchased as a stand alone policy, but is available as an add on to your property insurance policy or included in a package policy such as a business owner's policy. Rates and options vary based on the amount of coverage you select as well as your location, nature of business etc. Most policies require a 48 hour waiting period before coverage begins.

Taking the time to evaluate your insurance needs should be part of you annual financial “check up.” Consider all changes to your business and growth that may have occurred during the year to ensure you are adequately covered. And please consider business interruption insurance because not having this form of protection can compound an already unfortunate situation.

SHAREHOLDER LOANS TO A SMALL BUSINESS by Karla Hopkins

Business owners are often faced with providing financing to their businesses especially during difficult economic times. The intent generally, is for the company to pay the owner's monies back "at some point in the future" before the business terminates. However, sometimes the loan to the business cannot be paid back and becomes a bad debt. Bad debts can be either business bad debts which are deducitble against other income or, nonbusiness bad debts which can be deductible only in certain specific circumstances.

A business bad debt occurs when the debt is related to the lender's trade or business. Case law has established that a corporation's business is not always the business of the owner simply because of the corporation-shareholder relationship. Being an employee, however, is a trade or business so if the business owner is compensated as an employee, there may be an opportunity for the bad debt to be fully deductible.

The owner/employee must show that the main purpose for making a loan to their business is to protect their EMPLOYMENT. Unlike a loan from a shareholder which is generally classified as investment related, an employee loan could be considered to be made to protect the employee's trade or business, i.e. their paycheck.

The following four items indicate that protecting a paycheck was the primary purpose for a loan by a shareholder/employee.

• The employee's net pay was much larger that his investment in the company
• The employee had minimum other sources of income indicating dependence on the salary from the company
• The time spent in an employee role was substantial
• The value of the shareholder's investment in the company was insignificant when the loan was made

When shareholder loans are a regular form of fincancing for a business, it is beneficial to review the position of the debt in terms of collectibility, and purpose on an annual basis.