May 2012 Issue
A monthly publication of J. P. Kane & Co., LLC
REPORTING BARTER TRANSACTIONS
Bartering is one of the most ancient forms of commerce and involves the trading of a service or product
for another. While our ancestors may have traded corn for eggs, today we might barter an auto repair for
lawn service. Another example would be trading home improvement work for dental services. Typically,
no cash is exchanged in the transaction, and business owners can save cash by bartering to get the
products and services they need. In any case, the fair market value of the goods and services exchanged
must be reported as taxable income by both parties.
Bartering may be done informally on a one-on-one basis between individuals or businesses, or it can take
place on a third-party basis through a barter exchange company. Barter exchange companies increase the
scope and customer base for anyone wishing to barter goods and services from one company to another
within the membership base. Income from bartering is taxable in the year the exchange is made, and
taxpayers may be liable for income, self-employment, and excise taxes. Barter transactions can result in
ordinary business income, capital gains and losses, or nondeductible personal losses.
(Continued on Page 2)
EDUCATION TAX CREDITS
We continually hear and read reports on the escalating cost of higher education. However, two tax credits
are available to provide some relief for taxpayers who are paying these education costs for themselves or
family members. The American Opportunity Tax Credit and Lifetime Learning Credit are available in 2012
to help students and parents cover the cost of higher education. When they qualify, taxpayers will
generally use the American Opportunity Tax Credit, as opposed to the Lifetime Learning Credit, since it
will yield a greater monetary benefit.
The American Opportunity Tax Credit is a per student credit that may be claimed in the first four years of
college education per eligible student pursuing an undergraduate degree or other recognized education
credential. The student must be enrolled at least half-time for one academic period to qualify for the
credit. (Continued on Page 3)
IS THIS A HOBBY OR BUSINESS?
As tax professionals we have encountered the client who can't quite distinguish that fine line between a
hobby and business. We can help explain the rules and, in many cases, help the client position what could
be called a hobby so it can be considered a bona fide business activity in the eyes of the IRS.
(Continued on Page 4)
Disclaimer: Any tax advice contained in the body of this newsletter was not intended or written to be used, and cannot be used, by the recipient for the
purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions.
REPORTING BARTER TRANSACTIONS (Continued from Page 1)
Barter or trade dollars from a barter exchange company are identical to real dollars for tax reporting. If taxpayers
barter products or services through a barter exchange, they should receive Form 1099-B (Proceeds from Broker
and Barter Exchange Transactions) showing their barter transaction proceeds, which are generally reportable as
income on their tax return. If taxpayers directly barter a product or service for another’s product or service, they
will have to report the fair market value of the products or services received on their tax return.
Example:
Alex, a painting contractor, requires legal representation for a lawsuit. He engages Alice as legal counsel to
represent him during the litigation. Alice charges Alex $5,000 for her work on the case. Being short of cash,
Alex agrees to paint Alice’s office building in exchange for her $5,000 fee. Both Alex and Alice must report
$5,000 of taxable gross income during the year the exchange took place. In the case of Alex he must report the
$5,000 of revenue from painting and would be entitled to a $5,000 legal expense resulting from the barter
transaction.
In summary, taxpayers should treat barter income as they would any other income, report any taxable
transactions, and keep accurate records to support those transactions.
TAX RAMIFICATIONS OF OWNING A SECOND HOME
Many taxpayers own or plan to purchase a second home. If you are among these taxpayers, you may be viewing
your second home either for personal pleasure or as an investment for tax benefits and appreciation. Perhaps you
are somewhere in between. But, regardless of how you view your second home, planning for its tax implications
will enable you to either own the property in the most tax-efficient way possible or, if your purchase is somewhat
tax driven, maximize the allowable deductions the property generates. A second home can fall into one of three
categories for tax purposes, depending on how it is used: personal residence, vacation home, or rental property.
A property used for personal purposes more than 14 days during the year, or more than 10% of the rental days if
that number is greater, is considered to be a residence. If this residence is rented for fewer than 15 days during the
calendar year, it is considered to be a personal residence. As such, the downside is you are not entitled to deduct
any rental expenses, but on the plus side, rental income received is not taxable. However, interest expense (to the
extent it is qualified residential interest) and real estate taxes are fully deductible subject to the overall limitation
on itemized deductions.
If the property is used as a residence (see above) and is rented more than 14 days during the calendar year, it is
considered to be a vacation home, and the reporting of income and deductions is subject to limitations. In this
situation, interest, taxes, and casualty losses are normally fully deductible. Other property-related expenses are
deductible to the extent of rents received, but only after first considering the interest, taxes, and casualty losses
previously mentioned.
Where personal use does not exceed 14 days (or 10% of rental days, if greater) and the property is rented for at
least 15 days, the second home is considered to be rental property. For second homes classified as rental property,
interest, taxes, casualty losses, and other operating expenses are fully deductible. However, these expenses must be
prorated for any period of personal use. In addition, the property is subject to the passive activity loss rules and atrisk limitations, meaning net losses may have to be deferred to a future tax year and not currently recognized.
If all this sounds technical and confusing, it is. But, the proper treatment of second homes is extremely important at
tax time. So, please contact us if you have questions on how to handle income and expenses related to your second
home.
We always appreciate your comments on our work, these newsletters, the web site, or anything else concerning
our services. Please email us at [email protected] to let us know your feelings and comments.
EDUCATION TAX CREDITS (Continued from Page 1)
The maximum American Opportunity Tax Credit is $2,500 per student in 2012 based on 100% of the first $2,000
and 25% of the next $2,000 of the qualified tuition and related expenses paid during the tax year for education
furnished to an eligible student. Qualified expenses include tuition and fees and course-related books, supplies, and
equipment. Forty percent of the credit is refundable, which means that you may be able to receive up to $1,000
even if you owe no taxes. This credit does phase out, but is generally available to eligible taxpayers whose modified
adjusted gross income is less than $80,000, or $160,000 for married couples filing a joint return.
Unlike the American Opportunity Tax Credit, the Lifetime Learning Credit is a per taxpayer (per return) credit,
rather than a per student credit. It is available for all years of postsecondary education, including graduate level
degree work, and for courses to acquire or improve job skills (e.g., work-related community college courses). The
student does not have to be pursuing a degree or other recognized education credential to obtain the credit.
For 2012, the maximum Lifetime Learning Credit allowed is $2,000 (20% of up to $10,000 of the aggregate
qualified tuition and related expenses paid during the tax year for education furnished to an eligible student during
any academic period). Qualified expenses include tuition and fees and course-related books, supplies, and
equipment, but only if required by the eligible education institution for enrollment. The maximum credit is limited
to the tax you must pay on your return—the credit is nonrefundable. (Special rules apply for AMT.)This credit does
phase out, but the full credit is generally available to eligible taxpayers whose modified adjusted gross income is
less than $52,000, or $104,000 for married couples filing a joint return in 2012.
Although several of the rules and requirements are the same for both education credits, taxpayers can elect to
claim only one of these credits for the same student in a tax year. However, this does not prevent a taxpayer from
claiming a different credit (or the same credit) for different students in the same tax year.
IS THIS A HOBBY OR BUSINESS? (Continued from Page 1)
The standard hobby loss rule requiring a profit in three out of five years is an excellent starting point for
distinguishing a business from a hobby. But there's much more going on behind the scenes when the IRS makes a
determination about the real nature of a business venture. The nine factors traditionally used to distinguish a
business from a hobby are:
• The manner in which the taxpayer carries on the activity.
• The expertise of the taxpayer or his or her advisors.
• The time and effort expended by the taxpayer in carrying on the activity.
• The expectations that assets used in the activity may appreciate in value.
• The success of the taxpayer in carrying on other similar or dissimilar activities.
• The taxpayer's history of income or losses with respect to the activity.
• The amount of occasional profits, if any, which are earned.
• The financial status of the taxpayer.
• Any elements of personal pleasure or recreation
QuickBooks® Corner QuickBooks® is a registered trademark and/or registered service mark of Intuit, Inc.
Intuit added a new “Bounced Check” procedure in QuickBooks 2012. If a customer paid their balance with a check,
and the check bounced, with past versions we had a complicated procedure to record the bounced check in the
check register and re-invoice the customer for the amount of the check plus bank fees. Now, with the 2012 version,
we have a simple button to push. Just pull up the original customer payment, click the “Bounced Check” button, and
you get a screen that allows you to enter the bank fee (or you can enter a higher/lower fee that you want to charge
the customer), and then QuickBooks does the rest. The original payment is stamped as a “bounced check,” the
original invoice is changed to unpaid status, and a new invoice is created to bill the customer for the bank charge.
How easy is that?
If you are ready to update to the 2012 version, you can get a discount through a link on our website. Go to the
Resources section and choose “QuickBooks.” Then click the banner to receive up to 20% off your purchase of
software or supplies.
ROTH IRAS FOR KIDS
If you have a child who works, consider encouraging the child to use some of the earnings for Roth IRA
contributions. All that is required to make a Roth IRA contribution is having some earned income for the year. Age
is irrelevant. Specifically, for 2012 your child can contribute the lesser of: (1) earned income or (2) $5,000.
By making Roth IRA contributions for just a few years now, your child can potentially accumulate quite a bit of
money by retirement age. Realistically, however, most kids will not be willing to contribute the $5,000 annual
maximum even when they have enough earnings to do so. Be satisfied if you can convince your child to contribute
at least a meaningful amount each year. Remember, if you are so inclined, you can make the Roth IRA contribution
for your child.
Here’s what can happen. If your 15-year-old contributes $1,000 to a Roth IRA each year for four years starting now,
in 45 years when your child is 60 years old, the Roth IRA would be worth about $33,000 if it earns a 5% annual
return or $114,000 if it earns an 8% return. If your child contributes $1,500 for each of the four years, after 45
years the Roth IRA would be worth about $50,000 if it earns 5% or about $171,000 if it earns 8%. If the child
contributes $2,500 for each of the four years, after 45 years the Roth IRA would be worth about $84,000 if it earns
5% or a whopping $285,000 if it earns 8%. You get the idea. With relatively modest annual contributions for just a
few years, Roth IRAs can be worth eye-popping amounts by the time your child approaches retirement age.
For a child, contributing to a Roth IRA is usually a much better idea than contributing to a traditional IRA for
several reasons. The child can withdraw all or part of the annual Roth contributions—without any federal income
tax or penalty—to pay for college or for any other reason. (However, Roth earnings generally cannot be withdrawn
tax-free before age 59½.) In contrast, if your child makes deductible contributions to a traditional IRA, any
subsequent withdrawals must be reported as income on his or her tax returns.
By encouraging kids with earned income to make Roth IRA contributions, you’re introducing the ideas of saving
money and investing for the future. Plus, there are tax advantages. It’s never too soon for children to learn about
taxes and how to legally minimize or avoid them. Finally, if you can hire your child as an employee of your
business, some additional tax advantages may be available.
THE “BUFFETT RULE”
The Buffett Rule is named for billionaire Warren Buffett, who has argued the wealthy should be required to pay
higher tax rates, famously citing the example of his secretary who pays a higher tax rate than he does. Democrats
and President Obama, in what many pundits considered to be an opening round election-year salvo on the
economy, have lobbied for a version of this legislation since 2011, in an effort, they argue, to shatter the basic
inequality of the American tax system.
That basic inequality between wealthy Americans and the remainder of the taxpaying public exists, they say,
because many wealthy Americans benefit from tax deductions and lower tax rates on capital gains and investments
which are taxed at a maximum rate of 15 percent.
The April 16 vote was mainly cast along party lines. Fifty-one senators – fifty Democrats and one Republican –
voted to keep the bill alive, while forty-five senators voted not to proceed with the bill. The measure needed sixty
votes to advance.
Before the vote, Democratic lawmakers said they were willing to force repeated votes on the Buffett Rule to press
their case. Republicans called the measure little more than an election year "gimmick" designed to stir class
resentments instead of solving the true faults in the economy.
However, some CPA analysts question whether the Buffett Rule, if ever enacted, would make any significant impact
on the federal budget. The bottom line is this is not going to be a major factor in reducing the deficit.
We would recommend to clients to keep vigilance. The best approach is to make your feelings known to the
lawmakers.