Friday, April 29, 2011
Mishpacha: Keeping a White Collar Clean
I am very thankful to those who are the eyes and ears of this blog and a special thank you to reader rosie. Mishpacha has run an article in the recent edition titled Keeping a White Collar Clean. I need to get my hands on a copy of the magazine and plan to buy a copy later this week so I can write some though. Rosie summed up some of the reasons below (underlined) and I am very grateful for the summary as the information is enhancing from a professional standpoint. Below the summarized reasons, I've put some of my own notes and hopefully this post will serve as a reminder to me to get on the ball and take some time to write about some tax and personal finances topics that I've wanted to write about but need to clarify my thoughts in order to share valuable information.
1. Foreign bank accounts and not paying taxes on them.
Foreign bank accounts are a hot tax topic lately. In the past, such accounts were often ignored and in 2004 the government enacted a penalty for those who did not report foreign accounts--owned or signature authority--totaling $10,000 or more during the calendar year. More requirements on the FBAR are available at the IRS website. I'm not an expert on FBAR reporting requirements, nor do I have any foreign accounts of my own or intentions of opening foreign accounts.
The bottom line is that all income, no matter where it is sourced, must be claimed on the 1040 (in converted American dollars). Failure to claim the income can open the door to taking credits that the taxpayer is not eligible for. Foreign income can be excluded under certain circumstances (form 2555 or 2555EZ) or a tax credit can be claimed for foreign tax paid.
2. Business that often commit fraud such as the mortgage business.
3. Due to parental support, people with homes and cars get IRS attention because they claim no income.
It is important to understand that audits are mostly triggered based on ratios. When the "numbers don't add up" it arouses suspicion. People can't be spending all their money on mortgages, business expenses, medical expenses, etc. They still need to eat and wear clothing.
Excessive itemized deductions in comparison to income is a red flag, especially for years on end. I found a reference to the ratios through a firm: for itemized deductions 45% is the ratio and for Schedule C (business income or loss), expenses exceeding 60% of income is the trigger. Mortgage interest, taxes (real estate and state income taxes), and charitable donations are the big three itemized deductions. I checked our ratios and was please to be well under the audit trigger for both schedules.
I once had a Shabbat lunch with someone whose ratios had triggered an audit and the IRS examiner asked him "what do you live on?" I don't think "G-d provides" is the answer the auditor wants to hear. So if your ratios are excessive, it makes sense to have an answer. When my parent's tax return was flagged for audit, they were able to sufficiently explain to the examiner the market trend and never had to undergo the arduous process of a full blown audit as the explanation was reasonable and easily verifiable.
4. Larger than average charitable contribution deductions getting IRS attention.
I believe the IRS tracks average charitable deductions by taxpayer income. I recall reading somewhere that the average American donations between 3 and 5% of AGI (adjusted gross income). Exceeding the average is fine, but donations need to be well documented. In recent years documentation requirements have tightened. All cash donations need a receipt. A letter stating no goods or services received is required should a donation be $250 or greater. Cancelled checks or credit card receipts will suffice for donations under $250.
5. Money borrowed from gemachs that allows people to live with more than they make but attracting the attention of the IRS.
This clearly plays into the discussion of ratios above. I'd like to learn more about all of these money gemachs I keep hearing about. Out of town, we tend towards lending gemachs: simcha wear, children's clothing, baby equipment, and the like. An issue I can see arising should an auditor be presented with a bank register and out of wack numbers would be if the loans are really income, rather than loans and/or tzedakah (see the domino effect, #8 below).
6. Large checks over $10,000 hitting the banks or smaller checks that follow a pattern, alerting the government.
7. Jews incriminating other Jews during plea bargains or because they are involved in business or divorce disputes.
8. The domino effect when one fraudulent businessman is investigated and those who did business with him are investigated as well.