Critical Tax Issues and Money Management Ideas for your Growing, Middle Income Clients

• Chapter 1 - Why Today's Environment Demands Effective Tax and Financial Planning
  • Learning Objectives
  • Introduction
  • How Today's Economic Environment Differs from Recent Past
    • What It All Means
    • How You Can Help
  • What Is "Tax Planning"?
  • What Is "Financial Planning"?
  • How Are Tax Planning and Financial Planning Connected?
  • Horror Stories When People Fail to Make the Connection
  • The Federal Income Tax System in a Nutshell
    • Basic Federal Income Tax Data
    • Determining Your Client's Filing Status
    • Impact of Unfavorable Income-Based Phase-out Rules and Limitations
  • What Is Your Client's Real Marginal Tax Rate?
  • The Alternative Minimum Tax
    • AMT Basics
    • AMT Specifics
    • AMT Adjustments and Preferences
    • The Minimum Tax Credit
    • Refundable Minimum Tax Credit
  • Implications for Tax Planning Strategies
  • Assessing the Client's Current Cash-Flow Situation
    • Estimate Cash Income
    • Quantify Unavoidable Expenditures
    • Quantify Voluntary Expenditures
  • Helping the Client Establish Reasonable Financial Goals
    • Short-Term Goals
    • Intermediate-Term Goals
    • Long-Term Goals
    • Prioritizing Goals
  • Creating Financial Discipline with a Budget
    • Assessing Client's Initial Attempt at Developing a Budget
    • Helping Client Develop a Final Budget
    • Monitoring Budget Compliance
    • Annual Budget Reassessment
  • Increasing Client's Cash Flow by Repositioning Assets
  • Summary
  • Questions
• Chapter 2 - Basic Planning for Income, Deductions, and Credits
  • Learning Objectives
  • Introduction
  • Tax-Saving Deals at the Client's Job
    • Health Insurance Premium Only Plan
    • Health Care Flexible Spending Account
    • Dependent Care Flexible Spending Account
  • Should Client's Spouse Work?
    • Federal Income Tax Impact
    • Impact of Other Taxes
    • Other Negative Tax Impacts
    • Impact of Work-Related Expenses
  • Tax Planning for Employer Stock Options
    • Tax Planning Objectives
    • Regular Tax Impact of Acquiring and Selling ISO Shares
    • AMT Impact of Acquiring and Selling ISO Shares
    • Disqualifying Dispositions of ISO Shares
    • Year-end Disqualifying Dispositions to Avoid AMT Hit
    • But Watch Out for This!
    • Acquiring and Selling Nonqualified Stock Options (NQSOs)
    • Federal Employment Taxes and Stock Options
  • Tax Treatment of Education Expenses
    • When Is Tax-Favored Treatment Available?
    • When Education Fails Tax-Law Standards
    • Deducting MBA Expenses
    • Teacher Education Expenses
    • What About Undergraduate Degree Costs?
    • Remember Higher-Education Tax Credits and Deduction
    • Do Not Overlook Section 127 Educational Assistance Programs
  • Claim Hope Scholarship and Lifetime Learning Tax Credits
    • Hope Scholarship Credit
    • Lifetime Learning Credit
    • Rules Applying to Both Credits
    • Beating the System
  • Write Off College Tuition Costs
  • Deduct College Loan Interest
  • Summary
  • Questions
• Chapter 3 - The Home as a Financial Asset and Tax Shelter
  • Learning Objectives
  • Introduction
  • Should Client Rent or Buy?
  • Evaluating How Much Home the Client Can Afford
  • Evaluating Mortgage Financing Alternatives
    • Adjustable-Rate Loan Versus Fixed-Rate Loan
    • 15-Year Loan Versus 30-Year Loan
  • Evaluating Vacation Home and Timeshare Purchases
    • Vacation Homes
    • Timeshare Interests
  • Tax Deductions for Homeowners
    • Home Mortgage Interest Deductions
    • Home Mortgage Points
    • Real Property Taxes
    • Mortgage Insurance Premiums
    • Deduction for Office in the Home
    • Home Office Used for Self-Employed Business
    • Home Office Used for Work as Employee
    • Storage Space for Self-Employed Sales Activity
    • Home Office Used for Investing Activities
  • Tax Rules for Vacation Homes and Timeshares
    • Vacation Homes
    • Timeshares and Fractional Ownership Arrangements
  • Tax Savings from Home Mortgage Refinancing Transactions
  • Using a Home Equity Loan to Consolidate Client's Debts
    • Traditional Home Equity Loan
    • Home Equity Line of Credit (HELOC)
  • Summary
  • Questions
• Chapter 4 - The Home Sale Gain Exclusion Privilege
  • Learning Objectives
  • Introduction
  • Home Sale Gain Exclusion Basics
  • What Qualifies as Principal Residence?
  • Passing Ownership and Use Tests (Or Not)
    • Co-Ownership By Unmarried Taxpayers
    • Claiming Exclusion on Joint Return
    • Claiming Exclusion after Spouse's Death
    • Special Exception for Unmarried Surviving Spouses May Permit Larger $500,000 Gain Exclusion
    • Periods of Ownership and Use Need Not Be Concurrent
  • Meeting Anti-Recycling Rule (or Not)
  • Excluding Gain from Sale of Land Next to Residence
  • Excluding Gains in Marriage and Divorce Situations
    • Sale After Marriage
    • Sale Before Divorce
    • Sale in Year of Divorce or Later
    • When "Nonresident Ex" Continues to Own Home Long after Divorce
  • Claiming Exclusion for Home Used Partly for Business or Rental
  • Claiming Reduced Exclusion for "Premature" Sales
    • Premature Sale Due to Employment Change
    • Premature Sale Due to Health Reasons
    • Premature Sale Due to Certain Unforeseen Circumstances
    • Premature Sales in Other Situations
    • Premature Sale of Property Used for Business or Rental
    • Reduced Gain Exclusion after Marriage
  • "Electing Out" of Gain Exclusion
  • Other Tax Planning Implications of Gain Exclusion Privilege
  • Impact on Client Recordkeeping
  • Understanding the Tax Implications of Personal Residence Short Sales and Foreclosures and the New Exclusion for Cancellation of Debt Income from Principal Residence Mortgages
    • Tax Rules for Cancellation of Debt Income
    • What If the Lender Forecloses?
    • New Exception for Principal Residence Mortgage Debt Discharges
  • Summary
  • Questions
• Chapter 5 - Strategies for Investments and Retirement Accounts
  • Learning Objectives
  • Introduction
  • Appropriate Asset Allocation Strategies
  • Impact of Rate of Return
    • Relationship between Investment Risk And Asset Allocation
    • Sample Asset Allocation Strategies
    • Laddered Approach to Asset Allocation
  • Mutual Funds and Taxes
    • Who Made a Sale? Not Me!
    • Mutual Fund Share Basis
    • Shares Acquired Via Dividend Reinvestment Programs
    • When Mutual Fund Makes Return of Capital Distribution
    • The Ex-Dividend Date Dilemma
    • Foreign Income Taxes on International Funds
  • Inflation-Protected Investments from the U.S. Government
    • Treasury Inflation-Protected Securities (TIPS)
    • Series I U.S. Savings Bonds (I Bonds)
  • The Wonderfulness of Roth IRAs
  • Evaluating the Roth IRA Conversion Option
    • Direct Retirement Plan Rollovers into Roth IRAs Allowed in 2008 and Beyond
    • Tax Rates on Income Triggered by Conversion
    • Nondeductible IRA Contributions
    • Source of Cash to Pay Conversion Tax Bill
    • Expectations about Future Tax Rates
    • Client's Expected Retirement-Age Financial Position
    • Expected Future Rates of Return
    • Ill-Advised Conversions Can Be Unwound
  • Planning for Retirement Account Rollovers
    • Avoid 20% Withholding Rule
    • Liberalized Rollover Rules
  • Sample Filled-Out Retirement Planning Worksheets
  • Summary
  • Questions
• Chapter 6 - Planning with Life Insurance, Disability Insurance, Long-Term Care Insurance, and Health Savings Accounts
  • Learning Objectives
  • Introduction
  • Basic Risk-Management Considerations
  • Planning for Adequate Life Insurance Coverage
    • Tax Considerations
    • Life Insurance Policy Alternatives
    • Other Important Life Insurance Considerations
  • Planning for Adequate Disability Insurance Coverage
    • How Does Policy Define Disability?
    • What Is Policy's Waiting Period?
    • What Is Policy's Benefit Period?
    • What Is Policy's Qualification Period
    • Is Policy Renewable?
    • Does Client Have Option to Increase Coverage?
    • How Much Does Policy Cost?
    • Taxation of Disability Insurance Benefits
  • Evaluating Long-Term Care Insurance
    • Long-Term Care Insurance Basics
    • Tax Treatment of Benefit Payments
    • Deduction for Premiums
    • Bigger Deductions for Small Business Owners
    • How Much Does Long-Term Care Coverage Cost?
  • Health Savings Accounts (HSAs)
    • HSA Basics
    • Clients Can Rake In Major Tax Savings over the Years
    • Those 55 And Older Can Make Larger Contributions
    • Eligibility Rules
    • FSA/HRA Rollover Privilege
    • IRA Rollover Privilege
    • Employer-Funded HSAs
    • How to Set Up an HSA
    • Conclusions on HSAs
  • Summary
  • Questions
• Chapter 7 - Developing a Personalized Financial Game Plan for the Client
  • Learning Objectives
  • Introduction
  • Comprehensive Checklist to Identify Strategies and Action Items
    • From Chapter 1
    • From Chapter 2
    • From Chapter 3
    • From Chapter 4
    • From Chapter 5
    • From Chapter 6
  • Blank Worksheets from Chapter 1
  • Blank Worksheets from Chapter 2
  • Blank Worksheets from Chapter 3
  • Blank Retirement-Planning Worksheets from Chapter 5
  • Blank Worksheets and Checklist from Chapter 6
  • Summary
• Chapter 8 - Ethics Focus: Taxation
  • Ethics Overview
  • Recent Developments
  • Spotlight on Independence in Tax Services
  • Key Ethical Dilemmas and Judgment Calls
  • Addressing Ethical Dilemmas
  • Available Resources
• Chapter 9 - Latest Developments

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Chapter 1 - Why Today's Environment Demands Effective Tax and Financial Planning

Learning Objectives
After completing this chapter, you should be able to

• Understand why the current economic environment dictates that your clients must implement appropriate tax and financial planning strategies in order to reach their financial goals.
• Explain to clients what tax planning and financial planning really mean and how they relate to each other.
• Understand the basics about how our federal income tax system works.
• Assess each client's current financial position and assist in developing realistic financial goals.
• Help clients put together realistic annual budgets.

Introduction
As a tax professional, you often hear and use the terms "tax planning" and "financial planning." But what do they really mean? That is what this chapter is all about. In addition, we will make the connection between "tax planning" and "financial planning" crystal clear. While you already understand the connection, you may sometimes have difficulty explaining it to clients. After finishing this chapter, that will no longer be the case.

This chapter also covers the basics on how our federal income tax system works. This essential background information is necessary to identify and implement specific tax-saving strategies for various client scenarios you will encounter in your practice.

Finally, this chapter covers how to assist clients in developing realistic financial goals and budgets. Without financial self-restraint in the form of goals and budgets, most clients will tend to spend essentially everything that comes in every month, regardless of the amount. When that happens, it is impossible to make any progress towards achieving long-term financial goals.

How Today's Economic Environment Differs from Recent Past

You have heard the phrase "The more things change, the more they stay the same." While this is often true, we would probably all agree it is definitely not true in the context of tax and financial planning now versus 25 or 30 years ago.

Think about the scenario faced by the "typical" 40-year-old "middle-income" individual a generation or so ago. Compare that to what a client in similar circumstances faces now.

• In the "good old days," the client might have expected to continue working for the same company until age 62 or 65. The really adventurous client might have believed he/she would work for two companies before retiring. In today's economic environment, such expectations would be considered unreasonable.
• Many people in our parents' generation were covered by employer-funded defined benefit pension plans that guaranteed a predictable level of income for the rest of one's life after retirement. These days, defined benefit plans are largely a thing of the past. Most clients must now self fund their retirement plan benefits to a large extent, for example, via a 401(k) plan.
• Twenty five or thirty years ago, many (if not most) employees expected to receive company-subsidized health insurance coverage for as long as they worked and perhaps even after retirement too. These days, your client is lucky to have any employer-subsidized health benefits, even while he/she is working. Company-provided health benefits after retirement are rapidly becoming a thing of the past. Even worse, the cost of health insurance - whether paid for by the employer or not - is zooming. (Costs for small employers tend to increase more rapidly than for all employers.) Naturally, employers are reacting by shifting an increasing percentage of the cost of health benefits to workers. This worrisome situation is not expected to get much better anytime soon.
• A generation or so ago, Social Security was considered rock solid. No politician would have dared to suggest cutting benefits or increasing the age when payouts commence. In today's environment, the age that one begins receiving Social Security benefits depends on his/her date of birth, and a 40-year-old person has every reason to question whether he/she will ever actually recover a dime from the system. This is despite annual increases in the Social Security wage base that greatly exceed the inflation-adjusted increases in Social Security benefit payments.
• Our imaginary 40-year-old client can also expect to live quite a bit longer. According to the National Commission on Retirement Policy, the life expectancy for women is projected to reach 81.2 years by 2020, up from the 2000 figure of 79.7. (In 1940, female life expectancy was only 65.7 years.) By 2020, the life expectancy for men is projected to reach 75.3 years, up from the 2000 figure of 73.0. (In 1940, male life expectancy was only 61.4 years.) While this is good news, it also means that your client must accumulate more money for retirement, because he/she can expect to live longer than someone a generation ago.
• On a much more recent note, the hope that investing in stocks would compensate for a multitude of financial sins has been completely dispelled. While it seems laughable today, it was only a few years ago that many otherwise-rational individuals firmly believed stock investments would generate annual returns in the mid-to-high double digits for eternity. (Twenty or so years ago, many people thought real estate investments were the absolutely foolproof way to go.)
• Finally, it is now more difficult than ever for individuals to understand how our federal income tax system works, much less figure out legitimate ways to reduce their tax burdens. Why? Because the rules today are very complicated (and getting more so every year), and many tax-saving maneuvers have been shut down by Congress over the years.

As you can see, things have really changed. While increased life expectancy is a favorable development, all the other trends mentioned above adversely affect your client's financial security.

Key Point. Back in the day, tax and financial planning were mainly for the "rich." The average middle-income person expected to reach his/her financial goals by simply riding the wave of America's increasing prosperity. All that was required for success was avoiding outright stupidity and bad luck. At least, that is what many thought. In today's economic environment, the middleincome client who believes his/her goals can be achieved without careful tax and financial planning is obviously hallucinating.

What It All Means
In today's environment, it is crystal clear that clients must depend mainly on themselves to reach their financial objectives. Why? Because employers and government programs cannot be relied upon as much as in the past. Nor can clients count on blistering stock market returns to make up the difference. Finally, since today's clients will live longer, they must build a stronger financial base than previous generations.

Key Point. Today's clients must be more financially disciplined than ever before. They must save more money, and they must invest it wisely. Of course, the objectives of saving more and investing intelligently are completely consistent with the concept of tax planning. Income taxes are an expense. To the extent they can be reduced or avoided with appropriate planning strategies, the client's financial position is improved by that amount.

To you, the tax professional, much of the preceding is obvious. However it is far from obvious to many clients, even those who consider themselves financially astute. In today's extremely challenging environment, therefore, your role as the client's trusted financial adviser is more important than perhaps even you think.

How You Can Help
This part is easy. You can help your clients achieve their financial goals in today's daunting circumstances by delivering high-quality tax and financial planning advice. As a tax professional, you are uniquely positioned to help clients identify and implement coordinated tax and financial planning maneuvers (strategies that are synergistic rather than at odds with each other). In fact, the whole purpose of this course is to set you up to deliver such advice.

What Is "Tax Planning"?

While the term "tax planning" is frequently used, it is not necessarily well-understood. Here is how to explain to clients what tax planning really means.

It is the art of arranging one's financial affairs in ways that postpone or avoid taxes. In the context of this course, we are talking about federal income taxes. By employing effective tax planning strategies, the client can increase his/her cash flow. That means more money to save and invest. Or more money to spend however the client chooses.

Put another way, tax planning means deferring and flat out avoiding income taxes by taking advantage of beneficial tax-law provisions, increasing and accelerating deductions and credits, and generally making maximum use of all relevant breaks and favorable exceptions available under our beloved Internal Revenue Code.

While the federal income tax rules are now more complicated than ever before, the benefits of good tax planning are perhaps more valuable than ever before. In many cases, professional assistance is required to take full advantage, which is good for you.

Key Point. In general, the client should not change his/her basic financial behavior solely to avoid taxes. Truly effective tax planning strategies are those that permit the client to "do what he/she wants to do" while reducing his/her tax bills along the way.

What Is "Financial Planning"?

Financial planning is the art of identifying and implementing strategies that facilitate reaching one's financial goals, be they short-term or long-term in nature. Gee, this concept is really simple! However, the execution of the concept is not so simple. If it were, almost everyone would be rich!

How Are Tax Planning and Financial Planning Connected?

Tax planning and financial planning are inextricably linked, because taxes are such a large expense item as the client goes through life. In fact, if the client becomes really successful, he/she will no doubt find taxes to be his/her biggest single expense over the long haul. Therefore, planning to reduce taxes is a critically important piece of the overall financial planning process. As the client moves into more rarified financial heights (with your invaluable assistance), tax planning will almost certainly become the most important piece.

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