Mexico tax issues and planning part two:

Structures for US companies operating in Mexico:  If you plan on having members of your company operate in Mexico or you plan to set up a physical business in Mexico it’s very important that you know about the different structures that US companies operating in Mexico can take on. These structures are important to consider as each of them will have their very own tax rate which could lead to a significant chunk of your income being lost.

Some of the standard structures for US companies that are commonly taxed in Mexico include:

Companies with manufacturing agreements

Standalone physical operations

Regional clusters or agents

Owned or leased warehousing facilities

Corporate tax rates in Mexico:

If you are a corporation that plans on operating within Mexico you may be interested to know that it has one of the highest corporate tax rates available in the world. Corporate tax rates in Mexico range between 28% to 30% but a payroll taxes also issued as a credit meaning that any of the employees that you need to regularly pay to work in Mexico could count as a credit against your total profits or income.

If one of your employees operates within Mexico for 183 days within a 12 month period, you could be subject to paying not only this 28 to 30% tax rate but also a tax rate in your home country about race or the country where your main headquarters are located. Be sure to consider these corporate tax rates when doing any type of business throughout Mexico.

Mexican taxation of dividends, interest and royalties:

If you are earning money off of loan interest, dividends or cash royalties in Mexico there is also a chance that you will need to pay some form of taxation. Just like any good company, investment experts and individuals will be forced to pay taxes on any of the money that they may or while they are a resident of Mexico. If you receive royalties or investment income from Mexico you may also be subject to withholding taxes.

A good example of this holding tax comes with royalties. Any royalty paid out to a nonresident of Mexico could be subject to a 25% tax or a 30% withholding tax on patents and trademarks. Unless a tax treaty is put in place and the rate is reduced, any leasing of machinery or royalties are subject to this fee. Companies that distribute dividends to nonresidents may also be responsible for paying a 10% withholding tax within Mexico. Unlike some North American nations Mexican entities aren’t subject to any type of tax treatment on capital gains but interest taxation to nonresidents could be also subject to withholding taxes. The withholding tax rate on interests ranges between 4.9% and 30%. It’s very important to keep these ideas in mind to keep your finances in order if you plan on doing business within Mexico or staying within Mexico as you work worldwide.

 

2015 Social Security Benefits Announced

Category image

The Social Security Administration recently announced monthly social security and supplemental security income benefits (SSI) will increase in 2015 by 1.7%. This increase is based upon the Consumer Price Index over the past 12 months ending in September 2014. In addition, other figures based on the national average wage index will also be changed. A recap of the key amounts is outlined here:

2015 Key Social Security Benefits

2015 Social Security Benefits

What does it mean for you?

  • Up to $118,500 in wages will be subject to Social Security Taxes (up $1,500 or $93 in additional Social Security tax per employee and per employer)
  • The average Social Security retirement beneficiary will receive an additional $264 in 2015.
  • For all retired workers receiving Social Security retirement benefits the average monthly benefit of $1,306/mo. in 2014 will become $1,328/mo. in 2015.
  • SSI (Supplemental Security Income) is the standard payment for people in need. To qualify for this payment you must have little income and few resources ($2,000 if single/$3,000 if married).
  • A full-time student who is blind or disabled can still receive Supplemental Security Income (SSI) benefits as long as earned income does not exceed the student exclusion amounts listed above.

Social Security & Medicare Rates

After temporary payroll tax rate cuts that ended in 2012, the rates do not change from 2014 to 2015.

2015 Withholding Limits

Note: The above tax rates are a combination of 6.20% Social Security and 1.45% for Medicare. There is also a Medicare .9% wages surtax that began in 2013 for those with wages above $200,000 single ($250,000 joint filers) that is not reflected in these figures. Please recall that your employer also pays Social Security and Medicare taxes on your behalf. These figures are reflected in the self-employed tax rates, as self-employed individuals pay both halves of the tax.

US-Mexico tax issues and planning:

Deferral of Mexican income from US tax:

If you are planning on making a living in Mexico or setting up a new business in Mexico it’s important to recognize that any of the income that you make in Mexico can still be taxed under US taxation especially if you are a resident of the United States or your initial location is in the United States.

The nice part about the deferral of Mexican income from the US taxes that you can start paying each taxable year after income taxes deferred. This means that in six taxation years you can defer your Mexican income from the US tax so that you no longer have to pay the extra taxation fees. Although this can be a little more expensive upfront this is one of the best ways that you can enjoy less taxes on your living in Mexico. Starting off with 25% in the first two years, 20% in the third year and then 15 in the fourth and fifth year you can reduce your income taxes substantially differing your US taxable income and ensuring greater income potential.

Permanent establishment in Mexico:

Creating a permanent establishment or permanent business implores a whole new set of taxation rules. Even if your company doesn’t have a physical office or location in Mexico, if you’re performing a number of business activities there on behalf of the company you could be recognized as a permanent establishment. Any permanent establishment is required to pay taxes in Mexico.

In order to condone a permanent establishment for your business and individual working for your company will need to be staying and working within Mexico for 183 days within a 12 month period. This rule also applies if companies are sending multiple employees for the same number of days. It’s important that companies prepare for this as all income that they earn within Mexico could be heavily taxed under Mexican taxes as well as US taxes.

US foreign tax credit rules:

When it comes to making a living in a different country, any employee will fall under foreign tax rule especially when they work for a number of days or experience a certain amount of gains for their business.

Gen. foreign tax credit rules assume that if you accurate any foreign taxes, a foreign source of income or you paid any type of foreign taxes you are also subject to paying US taxes on the same income. The nice part about these taxes however is that you can receive a reduction in US taxable income which is taken as a credit because you have already paid a substantial amount of tax to another nation. While you still will have to pay some form of US tax, the credits that you receive can sometimes balance out to an overall reduction in your US taxable assets and income.

Missing a Form? Not an Excuse.

Category image

If you don’t receive a W-2 or 1099, is this a defense to protect yourself from not reporting the income during an audit?

In short, the answer is no. You are required to report your income whether your employer or customer filed the correct form or not. So what can you do to ensure you do not find an audit surprise in your future due to a simple omission of income from a report you did not receive? Here are some tips:

  • Keep good records. Do not depend on someone else’s records to file your taxes. Keep your own records and then use them to ensure the information on your tax return is accurate.
  • Make a list. Start making a list of your employers and others you believe should be sending you a W-2, 1095-A, 1098, 1099 or other tax form. Put the list in a file and check off each name when you receive their form. Use last year’s tax return to help you create your initial list.
  • Double check. When you receive the forms, review your records to see if you agree with the information reported to you. Use your last paycheck stub to check your wage reporting, use your bank statement to confirm interest income, use your investment statements to confirm stock and mutual information and use invoices to confirm miscellaneous income.
  • Take charge. If you are missing a form or the form received is in error, contact the firm supplying you the information and get it corrected as soon as possible. If tax filing due dates are approaching, you may need to file an extension while waiting for the corrected form.
  • Record the correct information, no matter what. Record the correct information on your tax return, even if you lack the required form. Not receiving a tax form is not a workable audit defense.

If you receive a notice from the IRS regarding a possible missing item, consider filing an information request to see what the IRS has on file for you. It may help better identify the area of mismatch.

Reducing the Savings Account Tax Burden

Category image

Money you place in traditional savings accounts is already taxed by both the Federal and State governments. These after-tax deposits lower the amount you have available for savings. Lower deposit amounts also mean lower earnings potential. Then Interest earned on your savings is also taxed. What can you do to lessen this tax burden?

1. Leverage tax-advantaged retirement accounts. Use 401(k), 401(b) and similar programs to deposit pre-tax money into retirement accounts. This way your initial deposits are larger because they have not yet been subject to income tax. This will provide higher earnings on your savings because of the pre-tax contributions. The downside? Your benefits and contributions will be taxed when you withdraw the funds.

2. After-tax savings deposits – no tax on earnings. There are a number of options that eliminate the extra tax on earnings within your savings accounts. The most common are Roth IRAs, Coverdell ESAs, and 529 College Savings Plans. As long as you follow the rules, your earnings within these accounts won’t be subject to additional taxation.

3. Shift the savings. Use gifts to shift the savings balances to someone with a lower tax rate. Earnings in a child’s savings account are taxed at a lower rate than most parents’ tax rate as long as the earnings are below kiddie tax thresholds ($2,000 in 2014).

4. U.S. Savings Bonds. Interest income on some U.S. Savings Bonds are deferred until the bonds are redeemed. In addition, the Saving Bond interest can be omitted if the proceeds are used for qualifying educational expense.

5. Municipal Bonds. While Municipal Bonds have fallen out of favor recently, they are another means of making earnings on savings more tax efficient. Most municipal bonds earnings are federal tax-free. It may also be free from state taxation if the bond is from your state of residence. This tax-free status applies to earnings only. Remember, bonds might also be subject to capital gains tax and ordinary income tax based on values when they are bought or sold.

While there are numerous alternatives to make your savings more tax-efficient, do not overlook the changing landscape of interest rates. Most financial experts believe interest rates will once again pick up as the economy strengthens.

Surprise! The Mutual Fund Tax Trap

Category image

Too often taxpayers receive a tax surprise at year-end due to actions taken by a mutual fund they own. What can add insult to injury is the unsuspecting taxpayer who recently purchases the shares in a mutual fund only to be taxed on their recent investment. How does this happen and what can you do about it?

Tax surprises

Towards the end of each year, many mutual funds pay a dividend to the holders of record as of a set date. The fund might also distribute funds deemed as capital gains based upon buying and selling activity that takes place in the fund throughout the year. This can create many problems:

  • Right back at you. If you purchase shares in a mutual fund just before a distribution of dividends, part of your purchase includes the dividends that are effectively paid right back to you. Not only will the asset value of your recently purchased shares in the mutual fund go down after the distribution, but you will owe tax on a distribution that is effectively your own money!
  • Kiddie tax surprise. Many taxpayers use mutual funds in their child’s name to take advantage of their lower-tax rates. By keeping their child’s unearned income below $1,000 – $2,000 the tax is low or non-existent. A surprise dividend or capital gain could expose much of this unearned income to the parent’s higher tax rate.
  • The $3,000 loss strategy. Each year you may take a net of up to $3,000 in investment losses. With correct tax planning your losses can offset high rates of income tax. But first these losses need to offset capital gains. If you receive a surprise capital gain, you could be reducing the effectiveness of this tax strategy.

What to do

Here are some ideas to help reduce this mutual fund tax surprise.

  • Limit year-end activity. Plan your mutual fund moves with this year-end surprise in mind. Consider reviewing and rebalancing your funds at the beginning of the year to avoid fund purchases just prior to dividend distributions.
  • Research your mutual funds. If you wish to avoid a year-end surprise do a little research on your mutual funds to anticipate what will happen with the fund. Check out the historic trends of your funds to determine which are most likely to issue a surprise 1099 DIV or a 1099 B (capital gain/loss).
  • Use the knowledge to your benefit. If you like a fund and it has a practice of creating taxable events each year, consider investing in these funds within a retirement account. That way the tax implications can be part of your retirement planning.

No one likes a surprise at tax time. The best course of action regarding your mutual funds is to consult with an expert who can help you navigate the options that are best for you.

I Need a Copy of My Tax Return

Category image

Retaining copies of your federal tax return is important. Not only will you need the return in case of audit, but the tax return is often used to secure student aid, obtain loans, purchase a home or business, plus much more. What can you do if you cannot find a copy of your tax return?

Bullet Arrow E-filed tax returns have their data stored in software. One of the benefits of e-filed tax returns means there is a digital copy of your tax information. If necessary another digital copy could be produced.

Bullet Arrow IRS requested transcript. The IRS can provide you with a transcript of your current tax return or transcripts from the prior three years. To request a transcript from the IRS using their online tool go to www.irs.gov and search for their order a transcript tool. Information will be provided to you within approximately 5 to 10 business days.

Bullet Arrow Request an actual copy. If you require an actual copy of your tax return, one can be provided for $57 by filling out Form 4506. But plan accordingly, as it can take up to 60 days to process your request.

Bullet Arrow Copies of informational returns. If you are missing a W-2 or 1099 you can also contact the company that originally issued the tax form. They will have these forms on record for their own audit purposes.

Bullet Arrow Copies sent to third parties. Your request for transcript can also be sent to a third party with your authorization. If you wish to take this route, please note that you may lose some control as to who has this personal information.

Bullet Arrow Understand the different transcripts. When making a request for a transcript from the IRS you need to understand what you are requesting.

  • Return transcript. This includes most of the lines of your tax return as originally filed.
  • Account transcript. This is the status of your tax account. It includes the balance owed on your account, any record of any payments, and adjustments after the return was filed.
  • Record of account. This is a combination of the return transcript and the account transcript.

If need be, you can also request a verification of non-filing of a tax return.

The Coverdell ESA “Education Savings Account”. Lost in the mix?

Category image

The tax code is filled with tax breaks to offset the cost of education. This includes programs like the Lifetime Learning Credit, the American Opportunity Credit, the Saver’s Credit, student loan interest destructibility, and the on-again off-again Tuition Deduction. Lost in all these options is the long-standing Coverdell Education Savings Account (ESA). Is it worth considering in your educational funding mix?

Coverdell ESA defined

The Coverdell account is a savings account that can be set up for the benefit of a student. After-tax contributions of up to $2,000 per student are available in any given year until the student is age 18. As long as the funds pay for qualifying educational expenses, any earnings made on the contributions are tax-free. The funds must be used by the time the beneficiary reaches the age of 30. If not, the funds must be given to another qualified student or the account holder must pay the tax on the earnings.

Coverdell advantages

While many think there are better savings options than the Coverdell ESA, here are some of the benefits of the account versus the popular 529 College Savings Plan and other educational savings alternatives.

Investment flexibility. Similar to Roth IRAs, Coverdell ESA’s have tremendous investment flexibility. This includes investing in stocks, bonds, mutual funds and regular bank products. Each state’s program manager limits Investment options within a particular 529 college savings plan.

Institution flexibility. Unlike most other educational tax programs, Coverdell ESA funds may also be used to pay for qualified elementary school and high school expenses. Other programs restrict use to post-secondary programs.

Broad qualified expenses. In addition to tuition, fees, books and classroom supplies, qualified expenses also include room and board when there is at least ½ time enrollment.

Great fill-in. The Coverdell ESA can be used for qualified educational expenses not covered by other programs. Coverdell ESA funds can not used to pay an expense already covered by another benefit.

Rollover flexibility. You can roll over unused funds to other qualified students. These rollovers are usually made to younger siblings.

The downsides

Funding limits. Coverdell ESA contributions are limited versus 529 College savings programs. Here are the major differences;

  Coverdell ESA 529 College Savings Plan
Annual contribution $2,000 per student Fairly unlimited; generally
$14,000 per contributor
per beneficiary
Income phase-out
No contribution if income over:
$110,000 single
$220,000 joint
No income limits
to contribute funds
Age limits
Funding:   until age 18
Use:   until age 30
No age limits

Ownership. Coverdell ESA balances can impact the amount of financial aid your student may receive. Contribution formulas weigh a student’s assets more heavily than a parent’s when determining aid. In addition, when the Coverdell ESA beneficiary reaches the age of 18, the funds are legally theirs. This lack of control means the funds might not be used for education. The same does not occur with the custodial nature of 529 Savings plans. Rollover strategies may be used to limit some of this risk.

Complicated planning. Given the age, limited annual contribution, and income limitations, a Coverdell ESA can make educational tax planning more complex. The lower account balance may make this exercise not worth the effort.

Is a Coverdell ESA an option worthy of your consideration? Perhaps. More important is starting your educational savings accounts early enough to benefit from earnings growth over time.

Lifestyle Audits. A thing of the past?

Category image

The word “audit” is enough to raise anyone’s blood pressure. If the IRS agent then tells you they want to see bank accounts and personal records you may need a heart monitor. Should this happen to you, you could be in a process known as a lifestyle audit.

Background

The lifestyle audit was a tool used by auditor’s to ascertain if the income you claim on your tax return can support how you live.

As an extreme example, perhaps you claim $30,000 in taxable income, but drive a Ferrari and you have a $700,000 mortgage. Most of us would have a hard time believing the income claimed on this tax return could support this lifestyle.

Historically, tax returns that have a history of cash transactions would be a target for lifestyle audits. So if you ran a small business (schedule C) or worked in an industry like construction, fishing, and retail you could experience this lifestyle audit.

Reason first

As you might imagine, being the subject of a lifestyle audit is stressful. It could be a more involved process than responding to a letter from the IRS questioning part of your tax return. The best defense for this type of review is good record-keeping. Here are some tips:

Understand your lifestyle risk. Do you think you can substantiate how you live with the level of claimed income on your tax return? Most of us can, but if you inherited money that allowed you to buy a new house, car or other luxury items it might raise questions. If this is the case, keep copies of documentation that supports the event.

Awareness of gift limits. Remember, you may receive up to $14,000 in gifts from any individual in any given year without tax consequences. If you receive gifts from someone, please keep record of the event.

Sales receipts. For every small business deposit in your bank account have a supporting document that substantiates the deposit’s source.

Separation. Keep separate business and personal bank accounts and credit cards. It is easier to substantiate your lifestyle spending when you do this.

Ask why. The passing of the 1998 IRS Restructuring and Reform Act limits the ability of IRS agents to conduct lifestyle audits. In current practice, a lifestyle audit may only be undertaken if the IRS agent has a reasonable cause to conduct the review. The cause might be based on information provided on your tax return or based upon information reports it has received from others. It is reasonable for you to ask for clarification from the auditor as to why they believe a lifestyle audit is in order. Perhaps proper documentation may be all that is required to answer the auditor’s questions.

Ask for help. Remember, should you receive notice by the IRS with questions regarding your tax return, ask for assistance. The same is true with notices from any other taxing authority. You are not going to be as well versed in the tax code as your auditor, so why not ask for help from someone who is.

IRS Takes Steps to Reduce Fraud

 

Category image

In its ongoing effort to tackle the increase in fraud and identity theft at the IRS, there are a number of security enhancements announced to deal with the problem.

Limiting direct deposits into a single account

The problem: Would be thieves set up a deposit account at a local bank. They then file numerous tax returns claiming refunds early in the tax filing season. The tax returns request the refunds be sent to this single bank account. The account is then electronically drained of the stolen funds and the thieves are long gone.

The solution: Effective in early 2015, the IRS is limiting refund deposits into any single bank account to a total of three times. Any additional requests to deposit funds into the same account will automatically reject and a paper check will be issued to the taxpayer.

Matching account names with the taxpayer

The problem: The financial institution account holder may not necessarily match the name on the filed tax return. This could be the case with a parent filing for a child or stepchild. Unfortunately, it is also the case with massive tax fraud rings.

The solution: The IRS will now try to match the bank account holder to the name on the tax return.

TIN and SSN security

The problem: The publishing of Social Security Numbers (SSN’s) on documents creates an identity risk as thieves target mailboxes to obtain these key numbers. Tax Identification Numbers (TINs) also have the same problem.

The solution: Fewer documents will show the entire SSN or TIN. In addition, there will be an effort to inactivate unused identification numbers.

Use of Personal Identification Numbers (PINs)

The problem: When the IRS opens a case of identity theft for a taxpayer, what steps are taken to ensure your filed tax return is accepted and not the one created by identity thieves?

The solution: If you are a victim of identity theft, be prepared to file your tax return in paper format. The IRS has also created a Personal Identification Number (PIN) system to provide an added level of tax identification for those impacted by the theft of their personal information. In this case you must fill in your IRS PIN in addition to your Social Security Number.

Additional steps are being taken as well. Please remember that the IRS never asks for personal information via email or telephone. If you are ever approached in this fashion, you should be wary that these thieves are trying to make you their next victim. To find out more or to report suspicious behavior please visit the irs web site at: http://www.irs.gov/uac/Report-Phishing