Tag Archives: planning

Tax Planning

September 1, 2014 | By: Robert A. Green, CPA

Recent tax acts don’t change trader tax status (TTS), Section 475 MTM accounting, wash-sale losses on securities, or the tax treatment on financial products, including futures (Section 1256 contracts) and cryptocurrencies (intangible property).

It’s helpful to consider IRS inflation adjustments in income and capital gains tax brackets, various income thresholds and caps, retirement plan contribution limits, standard deductions, and more. See the article, IRS Provides Tax Inflation Adjustments for Tax-year 2023 (https://tinyurl.com/irs-inflation). The IRS increase for 2023 is about 7%.



TTS traders with a Section 475 election might incur ordinary business losses for 2023. Before the Tax Cuts and Jobs Act (TCJA) started in 2018, a TTS/475 trader could carry back a net operating loss (NOL) for two years, generating a tax refund. TCJA introduced an “excess business loss” (EBL) limitation, with the excess being an NOL carryforward. TCJA repealed NOL carrybacks (except for farmers) and limited NOL carryforwards to 80% of the subsequent year’s taxable income. CARES suspended TCJA’s EBL and NOL changes for 2018, 2019, and 2020 and allowed five-year NOL carrybacks (i.e., a 2020 NOL carryback to 2015). TCJA’s EBL and NOL carryforward rules apply for tax years 2021 through 2028.


Consider deferring income and accelerating tax deductions if you don’t expect your taxable income to decline in 2024.

Traders eligible for TTS in 2023 should consider accelerating trading business expenses, such as purchasing business equipment with first-year expensing using Section 179 or bonus depreciation.

Consider delaying sales of investments to defer capital gains. Defer bonuses at work.


A TTS trader with substantial Section 475 ordinary losses should consider accelerating income to soak up the EBL. Try to advance enough income to use the standard deduction and take advantage of lower tax brackets. Stay below the threshold for unlocking various AGI-dependent deductions and credits. A higher income can lead to an Income-Related Monthly Adjustment Amount (IRMAA) adjustment raising Medicare premiums.


Those who have reached the SALT cap don’t need to prepay 2023 state-estimated income taxes by Dec. 31, 2023 (a strategy before TCJA). Taxpayers should pay federal and state estimated taxes owed by Jan. 15, 2024, and the balance by April 15, 2024.

Many traders skip making quarterly estimated tax payments during the year, figuring they might incur trading losses later in the year. They can catch up with the Q4 estimate due by Jan. 17, 2024, but might still owe an underpayment penalty for Q1 through Q3 quarters. Some rely on the safe harbor exception to cover their prior year’s taxes. (See Traders Should Focus On Q4 Estimated Taxes Due Jan. 18, https://tinyurl.com/yeys4fh6.)

For more information, see Green’s Trader Tax Guide, Chapter 9, Tax Planning. 

A major tax reform bill in 2014 is unlikely, and “tax extenders” may be history, too

January 9, 2014 | By: Robert A. Green, CPA

Postscript: Jan. 13, 2014 TaxAnalysts “Piecemeal Reform of Financial Products Tax Unlikely, JCT Economist Says.” “Congress is unlikely to pass a stand-alone financial products tax reform bill without enacting broader tax reform legislation, Joint Committee on Taxation economist Karl Russo said January 9 at the Practising Law Institute’s taxation of financial products and transactions seminar in New York.”

Tax-writing Congressional leaders — Rep. Dave Camp (R-MI), chairman of Ways and Means and Sen. Max Baucus (D-MT), chairman of the Senate Committee on Finance — worked on a tax reform bill last year that included closing many tax loopholes and tax expenditures. Due to gridlock over ObamaCare and the government shutdown, they weren’t able to present the bill, so they punted tax reform to 2014.

Budget-writing Congressional leaders – Rep. Paul Ryan (R-WI), chairman of the House Budget Committee and Sen. Patty Murray (D-WA), chair of Senate Budget Committee — forged a last-minute budget deal enacted into law. While it was a small deal — leaving out the extension of expiring unemployment benefits and “tax extenders” — it did break the paralyzing gridlock.

On Jan. 8, TaxAnalysts published “Camp Remains Focused on Comprehensive Tax Reform, Not Extenders.” Camp is pushing forward in 2014 on completing his tax reform bill, and he doesn’t want to undermine it and get side tracked with budget-busting tax extenders in a separate clean bill. If you want tax policy like tax extenders, then include it, and pass the entire tax reform bill. Kudos to Camp. It will be hard to attach tax extenders to a deficit-ceiling vote coming up soon, since tax extenders cost $50 billion per year. Same reason Ryan left it out of his budget vote.

There is another path to retroactive renewal of “tax extenders”
After Ryan and Murray omitted tax extenders from their year-end budget bill — probably because they would have broken their bank — Senate Majority Leader Harry Reid (D-NV) sponsored a “clean bill” to continue all tax extenders for another year. Perhaps Reid will push it soon on the Senate floor.

While it’s hard to imagine Republican leaders balking at a clean bill for tax breaks, in my view, it would interrupt all tax and budget leaders work toward budget and tax reform. Republicans voted against extending expiring payroll tax cuts a few years back to make a bigger political point. In my opinion, extending tax loopholes and corporate welfare like R&D tax credits undermines concrete efforts underway toward meaningful tax reform. Are separate “clean bills” for extending unemployment insurance benefits and tax extenders meant to embarrass the other party or are they for realistic enactment?

One tax extender that may affect traders and investment managers the most is a significant reduction in Section 179 expensing. For 2014 the maximum Section 179 expense deduction for equipment purchases decreases to $25,000 of the first $200,000 of business property placed in service during 2014. The bonus depreciation of 50 percent is gone, as is the accelerated deduction, where businesses can expense the entire cost of qualified real property in the year of purchase.

Tax reform is unlikely in 2014
Tax reform as contemplated by Camp and Baucus will continue to be highly contested by many lobbyists in Washington campaigning to retain valuable tax breaks for their clients and industries. That’s just the half of it. Even more controversial is the partisan divide over the underlying goals of tax reform. Democrats want to raise revenue and Republicans want it to be revenue neutral.

Will Congress pass tax reform in pieces in 2014? President Obama has continued to campaign on closing the carried interest tax break for investment managers of hedge funds. It’s hard to envision hedge fund managers being sacrificed alone, with Wall Street’s Sen. Charles Schumer (D-NY) representing their interests and Chicago exchange’s Sen. Dick Durbin (D-IL) also in leadership — second and third behind Reid.

While Baucus is expected to leave his chair soon – President Obama nominated him for the next U.S. ambassador to China – Camp has expressed interest to finish his year as chairmain, and run for another one year term. Camp remains dedicated to completing his hard work on tax reform pushing for passage in 2014, no matter the political headwinds.

Camp’s proposals on investments
It is interesting to consider some of the tax reform changes promoted by Camp in connection with investments. He proposed using mark-to-market accounting more than it’s used now — in Section 1256 contracts and with business traders who elect 475 MTM and dealers. This would do away with complex provisions and opportunities for income deferral and tax rate arbitrage.

Camp also proposed connecting entities with their owners for wash-sale loss calculations, and he confirmed that is not the case under existing tax law. IRS Pub. 550 mentions individuals and their controlled entities are connected for wash-sale purposes. We agree with Camp that separate tax filing entities are not connected with individuals under current tax law for purposes of wash sale calculations. It’s important to note that IRS publications are not authoritative tax law.

Bowles-Simpson goes further than Camp
The Bowles-Simpson 2010 Plan (National Commission on Fiscal Responsibility and Reform) suggested one tax rate to do away with a material difference between ordinary income and long-term capital gains tax rates. While that change would surely simplify the tax code in a huge way, Republicans won’t agree to it unless Democrats agree to lower that individual tax rate to around 23% to 25%, which is highly unlikely.

Business traders seem on safe ground
There are no current indications that business traders should fear losing their current trader tax breaks. Of course, business traders are regular individual taxpayers, too, and Congress may further limit their itemized deductions. Trader tax status is more valuable than ever, turning investment expenses into business expenses, which are unlimited.

We have not heard of proposals to repeal Section 475 MTM ordinary gain or loss treatment for business traders, and again we feel it’s positive that Camp favors MTM.

Some progressive Democrats want to repeal lower 60/40 tax rates on futures and other Section 1256 contracts. In a July 11, 2011 New York Times article (An Addition to the List of Tax Loopholes), I defended 60/40 while Warren Buffett argued for its repeal. Will Durbin stand by to watch 60/40 be repealed by Congress? Infamous Rep. Dan Rostenkowski (D-IL) won 60/40 treatment for Chicago futures exchanges. President Obama was a Senator from Illinois, too.

Tax reform goals will certainly be political campaign fodder and platforms for the 2014 midterm election in November and perhaps for the 2016 Presidential election. With continued political infighting over ObamaCare, it’s hard for me to envision Congress enacting a meaningful tax reform in 2014. The November election doesn’t have consequence until the new Congress takes office in January 2015.

ObamaCare tax on investment income
Not all tax change has been favorable to traders and investment managers. The Affordable Care Act’s 3.8% Medicare tax on unearned income — otherwise called the net investment tax (NIT) on net investment income (NII) — takes its first bite out of your apple on 2013 tax returns. New IRS Form 8960 for the NIT will be a nasty surprise for taxpayers with AGIs over $250,000 joint and $200,000 single, providing they have NII. The IRS published instructions for Form 8960 in early January. We are satisfied that the IRS repaired some glaring problems in their proposed NII regulations, making it much more favorable for business traders and investment managers that it otherwise would have been in the proposed regulations. See our Dec. 4, 2013 blog “IRS final regulations for Net Investment Tax help traders.”

Bottom line
Tax breaks for business traders and investment managers are still alive and well.

Year-end tax planning for 2013

October 31, 2013 | By: Robert A. Green, CPA

While traders should consider general year-end planning strategies like deferring income and accelerating expenses, they should also be aware of special strategies.

For each of the past few years, Congress passed “tax extenders” and the AMT patch for another year. While Congress patched AMT in January 2013 with the fiscal cliff deal, they haven’t dealt with “tax extenders” yet. The debt ceiling and CR fiscal mess was punted to year-end, so perhaps there’s a window of opportunity to pin more tax extenders on that donkey. Make sure to get your tax extender break while it’s still hot. Here’s the list of tax extenders expiring in 2013.

Currently, 2014 tax rates match 2013 rates. Generally, that means it’s a good idea to defer income and accelerate business expenses and itemized deductions. There are some situations where it’s better to accelerate income and defer expenses, such as if you happen to be in a very low tax bracket in 2013 due to trading losses and loss of other types of income. Why not take advantage of tax rates up to 28%?

One good way to generate income is with a Roth IRA conversion. You can break up an IRA into pieces in order to convert the amount you like. You can always re-characterize the conversion in 2014 if it doesn’t work well — for example, if you lose the money in the Roth account and prefer a do over.

Smart investors, business traders and investment managers spend December identifying and avoiding potential wash sale losses on “substantially identical positions” (i.e., between Apple stock and Apple options at different strike prices). Don’t wait until you receive broker-issued Form 1099-Bs in February to find out you have a huge tax problem with wash sale loss deferrals which might increase your 2013 tax bill significantly.

Run TradeLog software before year-end to calculate and avoid wash sales, handle cost-basis reporting correctly and generate Form 8949 for tax filings. Keep running it through the end of January for wash sale loss calculations. The latest version of TradeLog has a Potential Wash report, which you should use for year-end planning to avoid wash-sale loss surprises.

Don’t forget to run TradeLog on your individual IRA accounts, too as that is the IRS rule. Avoid permanent wash sale losses between individual taxable accounts and IRAs. Don’t trade substantially identical positions between taxable and IRA accounts. Once you spot a potential wash sale, sell all open positions before year-end and don’t buy it back for 31 days. Or, start trading in a separate entity on Jan. 1 to disconnect your trades under a different taxpayer ID number. A SMLLC disregarded entity doesn’t work here; you need a partnership or S-Corp return.

“Tax loss selling” is a popular phrase in the financial media at year-end. If you have capital gains for the year, why not sell a few more open positions, ones showing unrealized losses in order to reduce your capital gains and related tax bill? But don’t rush to buy back the positions with a January rally as that can cause a wash sale loss deferral at year-end 2013, thereby defeating the purpose of tax loss selling.

Investors, business traders and hedge fund managers seek holding open securities positions with unrealized gains at year-end in order to defer taxes and perhaps achieve lower long-term capital gains rates up to 20%. Hedge fund managers using carried-interest tax breaks to get their allocation of long-term capital gains, too.

Business traders should learn about Section 475 MTM business ordinary gain or loss treatment. If they don’t have Section 475 in 2013, they can elect it for 2014 by April 15, 2014. That 2014 election converts unrealized business trading gains and losses at the end of 2013 into ordinary gains or losses on Jan. 1, 2014 – that’s the required Section 481(a) adjustment. A negative Section 481(a) adjustment on Jan. 1 is far better than a capital loss carried over from 2013 to 2014. In some cases, wash sales are good because they are part of a Section 481(a) adjustment, rather than being a capital loss carryover. Traders generally have a hard time using up large capital loss carryovers.

Hedge fund managers often skip making Section 475 MTM elections because they have a hard time following the rules for “contemporaneous” segregation of investments vs. business trading positions. They also don’t want investors paying taxes on open positions, as investors often request redemptions to pay the tax bill while managers have cash funds tied up in those open positions.

Active retail traders and hedge fund managers should assess qualification for trader tax status before year-end. Sole proprietors and hedge funds can claim TTS after they assess the facts and circumstances of meeting our golden rules. Section 475 MTM is not allowed after the fact; it had to be elected with the IRS by April 15, 2013 for 2013, or within 75 days of a “new taxpayer” new entity filed in the entity books and records (an internal election).

Forex Section 988 opt-out “capital gains” internal elections on major forex going into Section 1256g lower 60/40 tax rates had to be filed “contemporaneously” during the year on a “good to cancel basis.” Otherwise, Section 988 is ordinary gain or loss treatment.

Cash-basis business traders should accelerate business expenses in 2013, and using credit cards on the last days of the year counts. They may not qualify for TTS in 2014, triggering far less beneficial investment expense treatment. Get business deductions while you still can, including our firm’s advance payments for tax compliance services made with credit cards. Investment expenses exclude home office, education and startup costs. (Business expenses allow them.)

A trading entity provides more tax breaks for business traders. Set up a trading entity in early November 2013 to enjoy many trader tax breaks through year-end. Break the chain on wash sales in your individual and IRA accounts, by continuing trading in an entity which has a different taxpayer ID number — thereby disconnecting the trading for wash sales with your individual accounts. In the entity, capitalize a reasonable amount of Section 195 startup costs going six months back before the entity commencement date. Generate trading gains in the entity and pay yourself an administration fee to unlock 100% AGI deductions for health insurance premiums and retirement plans. Don’t wait until December, it’s too narrow a window of opportunity in the eyes of the IRS. If you miss the boat on forming the entity now, try to start your entity on Jan. 1, 2014 for a clean year of trading in 2014, without the added complication of trading individually as well.

Business traders should open an Individual 401(k) plan before year-end — otherwise, you will miss the boat on the best retirement plan choice for most traders. The 401(k) elective deferral of $17,500 is 100% deductible, plus it’s paired with a 20% profit-sharing plan allowing a total contribution up to $51,000. There’s also a catch-up contribution for taxpayers aged 50 and over of $5,500. Make sure to pay administration fees or salaries before year-end — or reclassify other payments to administration fees — to execute these AGI deduction strategies. High income traders still have time to consider a defined benefit plan where you can contribute much higher amounts per year. Consider different options for your retirement plan contributions, and whether you have sufficient cash flow to maximize this tax deduction. Can you afford a Roth contribution too? See retirement plan limits for 2013 on the IRS site here.

Focus on accounting before year-end to get a proper handle on tax planning. New entities need an accounting solution like excel worksheets, or QuickBooks – if set up properly – to set up a proper balance sheet and profit & loss statement, and to track capital, fixed assets, intangible assets like software, startup costs, organization costs and more. Additions and withdrawals to capital (basis) need to be tracked as well. This will make tax compliance (preparation) much easier, more effective and less costly. In many cases, we’ve seen clients use QuickBooks, but botch the accounting.

Execute expense reimbursements before year-end — a requirement in S-Corps and suggested in partnerships.

Learn how to handle the health insurance premium AGI deduction, which is tricky with S-Corps. AGI deductions determine the amount of administration fees or officer’s salaries needed to unlock those deductions. S-Corps should consider using salaries in December and engaging a payroll processing firm — we recommend paychex.com.

Try to manage your income thresholds for the Obama-era tax hikes on modified AGI of $250k married/$200k single, household income for ACA health insurance mandate tax credit subsidies, navigating between the marginal tax brackets, other types of tax credits and more.

Consider the GreenTraderTax strategies to avoid Obama-era tax hikes on the upper income. Use a C-Corp to house intellectual property, charging your trading entity royalties for usage. Or, the C-Corp can charge the trading entity for administration fees. This takes advantage of lower C-Corp tax rates on the first $50,000 of net income. A medical reimbursement plan (MRP) is a good way to pay for high deductible ACA-compliant health insurance plans. You can use a middleman S-Corp for receiving the administration fee first. S-Corps help reduce both self-employment (SE) taxes and ObamaCare Medicare taxes on unearned income. Read about these strategies in Green’s 2013 Trader Tax Guide, which is on promotion now.

Don’t forget to get caught up with your 2013 estimated income taxes. Many traders underpay during the year, considering the underestimated tax penalty like a low-cost margin loan. The Q4 estimate is due Jan. 15, 2014, so you can see where you stand at year-end first. Consider paying the state(s) before year-end for another 2013 tax deduction, unless you trigger AMT and don’t get that benefit.

Bottom line
If you want a tax reduction, then you must attend to year-end planning. There is only so much you can do after the year closes.

Here’s an excellent “Year-end tax planning client letter” from our tax research service RIA.

Watch the related Webinar recording.

Bill de Blasio’s tax-the-rich plan

September 15, 2013 | By: Robert A. Green, CPA

New York City mayoral front-runner Bill de Blasio invoked “tale of two cities” rhetoric — including a tax-the-rich plan — to win the Democratic primary. That almost assures him of winning the election in the heavily Democratic city.

Some high-income NYC residents are considering an exodus. Everything is already very expensive, including rents, condos, private schools, services and especially taxes. But before you rush to rebalance your work and lifestyle to tweak your days spent in NYC, understand there are many myths about quick fixes and most fail in practice. Learn the NYC residency rules and respect the might of tax authorities in interpreting the rules in their own favor.

NYC is the highest taxed city in America already!
As the biggest U.S. city with quite a security-budget requirement, you can imagine it costs plenty of money to run, even with Mayor Bloomberg at the controls. A recent report indicated that 50% of the residents are under the poverty line. But NYC is no Detroit and there are Wall Street multi-millionaires living in towers all over Manhattan and Brooklyn. In 1975 NYC also faced bankruptcy, before Wall Street’s ascension to fame and fortune.

For NYC residents making over $500,000 per year, the top marginal income tax rate is 3.876%. Bill de Blasio’s tax plan is to raise that rate to 4.41%. A married couple making around $500,000 may not have any savings left at year-end after paying for expensive private schools for their children and other high-priced services.

If you own a business in NYC, there’s an additional “unincorporated business tax” (UBT) of 4% on pass-through entities and sole proprietorships. Corporations are assessed a “general corporation tax” of 8.85%. New York state’s “flat tax rate” on corporations is 7.1%. (A trading business is exempt from UBT, as that is portfolio income.)

Very few U.S. cities assess individual income taxes and/or business income taxes. (Pennsylvania and Ohio have local school taxes on earned income but the rates are fairly low, except in Philadelphia.) Most cities and towns collect tax revenue from property taxes, real estate taxes and sales and use tax.

Gov. Cuomo already passed a “tale of two cities” plan in 2011
New York’s Gov. Andrew Cuomo said he was “not thrilled” with de Blasio’s tax plan. I’m skeptical because in 2011, Cuomo raised rates on the wealthiest residents to 8.82% — temporarily through 2014 — while cutting taxes on married couples earning less than $300,000 a year. Technically, that’s a tale of two cities tax plan. First, candidate Cuomo campaigned on allowing the temporary “millionaires tax” to expire as scheduled, but he later flip flopped as governor to extend the millionaires tax.

NYS/C’s combined top tax rate after these tax hikes is 13.23%; factoring in the 4% UBT tax on business puts the rate at 17.23%. An investment manager relocating to Florida saves all these NYS/C taxes. Many investment advisers and professionals moved their residences and businesses to Connecticut where the top tax rate is 6.5%, saving 10% of their highest-marginal income.

President Obama passed a similar plan
In the hotly debated fiscal cliff deal forged at the last minute of 2012, President Obama passed a “tale of two cities” tax-the-rich plan. President Obama didn’t sacrifice his long-held position to stop Bush-era tax cuts for the upper 2% of taxpayers making over $300,000 married and $250,000 single. The top tax rate returned to the Clinton-era 39.6%, plus the agreement phased-out itemized deductions and personal exemptions, effectively raising the rates even higher. Bush-era tax cuts continued for 98% of American taxpayers. President Obama passed other middle-class and small-business tax cuts, too.

“Progressivity” is widening with these tax-the-rich plans
Even without Occupy Wall Street succeeding in its mission, it’s pretty evident now that there’s a trend among Democrats for invoking “tale of two cities” rhetoric, including tax-the-rich plans. It’s good politics (and they believe more fair) to advocate tax hikes for the rich, tax cuts for the middle class and transfer payments and subsidies like ObamaCare for the poor. This is not a political statement but a new reality on the ground.

What’s an upper-income family in a high tax area to do? Embrace income tax hikes coming to your state and/or city soon, pay them with a smile and enjoy your city’s great lifestyle, diversity and culture. Or, consider rebalancing your affairs to successfully become a non-resident of your high-tax state and city.

How easy is it to change your tax residence?
Don’t fool yourself; it isn’t easy. Unless you pack your bags and move your possessions out of NYC, give up a “permanent place of abode” and stop coming on most days, you will probably remain “domiciled.”

Many other high-tax states have similar rules and concepts on residency, so read them carefully online. The days of fooling states are over — they’re much more sophisticated now and the burden of proof is on you.

Exiting a state or city is easier than exiting the U.S.
Simply “move out” of NYS/C and you are a non-resident as of the date of your move. You may have some leftover NYS source income such as from the sale of real property. Non-residents of NYS owe state taxes on NYS source trade or business income, not portfolio income.

It’s far harder to escape the IRS, as it has you bound as a tax indentured servant for 10 years. You can surrender your green card at your foreign consulate and move out of the U.S. entirely. But the IRS “exit tax” or “expatriation tax” applies for 10 years after you leave on long-term residents and citizens.

State rules to avoid double taxation
Just because you can show you are domiciled in another state, doesn’t mean NYS/C can’t argue that you are really a NYS/C “domiciled resident” or qualify as a “statutory resident.”

Most states have a system to get tax relief for double state taxation. For example, NYS residents can deduct state income taxes paid in another state and they usually get full relief since NYS tax rates are higher than most states. Conversely, a Florida resident has zero income taxes and they won’t get any relief for taxes paid to NYS.

There is no double taxation relief for NYC taxes paid.

NYS/C “domicile residency”
NYS Tax Department’s definition states “Your domicile is: the place you intend to have as your permanent home; where your permanent home is located; the place you intend to return to after being away (as on vacation, business assignments, educational leave, or military assignment). You can only have one domicile. Your New York domicile does not change until you can demonstrate that you have abandoned your New York domicile and established a new domicile outside New York State…”

It’s where your roots are in the ground on all fronts, including economic, financial, family and community.

There are plenty of good resources on the Internet on NYS/C residency, like this one from the NYS Society of CPAs.

NYS/C “statutory residency”
The NYS Tax Department also defines a “statutory resident” as follows: “Your domicile is not New York State but you maintain a permanent place of abode in New York State for more than 11 months of the year and spend 184 days or more in New York State during the tax year.”

If you work in NYC, you will probably spend 184 or more days in the city. Renting an apartment for two years will subject you to NYC resident taxes, whereas short-term stays in a hotel or furnished apartment for only a few months will not. Non-resident commuters get off scott free. That nice pied-a-terre you have in mind just won’t fit the family budget after you factor in another 4% income tax and perhaps more if business taxes apply.

There are countless cases you can read online about taxpayers trying every angle to avoid domicile or statutory resident designation. For example, you can’t rent an apartment in your child’s name, since you will have “key access” and have to “maintain” it, which are the rules that count.

The 184 day rule feels more like 100 days
Don’t just figure 184 days is half a year; it’s not easy staying under 184 days, as you need to count partial days.

For example, visiting your NYC apartment for just one night counts as two days. Try to maximize your day count by spending longer blocks of time. Be prepared to be stingy with your days in NYC, and carefully plan what you devote them to in terms of seeing people, clients and coming to events. It can be a pain and hindrance.

Are you really going to save much?
Don’t forget to factor in the cost of maintaining your new domicile and travel costs, too. Don’t make this move on principle alone — run pro-forma tax returns to see the actual concrete tax savings vs. other costs incurred. You should factor in the risk of NYS/C audit and disagreement, including back taxes, penalties and interest. States rarely abate penalties.

The burden of proof of residency is on the taxpayer
Don’t even dream of fudging the numbers. You have to prove your residency and you need to cobble together an assortment of different methods to do it, including: Easy Pass records for driving over toll roads, bridges and tunnels; credit card and ATM transactions; cell phone tower records if you can get them; and internet access through IP tracking to your server if you can get this complex information; landline phone records. Also, some smartphone apps track your daily GPS whereabouts, but they often crash or have cessation of service.

One famous hedge fund manager fought with NYC over just one day, as it would tip the balance to cause residency and trigger a NYC tax bill of tens of millions of dollars.

Consider an example of a married couple interested in exiting from the NYC tax regime. The wife has a long-term job making around $250,000 per year on a W-2. The husband recently converted from being an employee to an independent contractor reporting 1099-Misc. non-employee compensation of $300,000 on a Schedule C. They trigger the top NYC marginal tax rate of close to 4% and the husband also owes NYC UBT tax of an additional 4% on his net Schedule C income.

For several years, the couple traveled to their country home outside of NYC on weekends. They raised their family in NYC in a large condo which they purchased decades ago. They have been domiciled residents of NYS/C for decades and they have averaged well over 200 days per year in the city.

How can they rebalance their lives to exit the NYC tax structure? This couple may be tempted to tweak their work and lifestyle a bit, spending more nights in their country home vs. their NYC apartment. But, that’s highly unlikely to convince NYC they “abandoned” their NYS/C domicile, even if they vote in the country and move car registrations and more technicalities as well.

To safely accomplish abandoning domicile in NYS/C, this couple should sell their condo and not have any place of abode in NYC for a few years, while they establish a replacement domicile outside of NYC. Downsizing to a small NYC apartment is not enough, especially since these are still very high priced and the couple is maintaining significant economic and personal connections in NYC. (This couple can benefit from the $500,000 exclusion of income on the sale of their primary residence.)

After moving to Florida for a few years, this couple can get a place of abode in NYC again. At that juncture, they can probably safely claim a domicile change to Florida. Then, only “statutory residence” should be a consideration. It now becomes a question of counting days and they need to stay under 184 days in NYC per year. Each year is assessed separately.

For statutory residency calculations, a husband and wife should count their days in NYS/C separately, as they can file a joint federal return and separate NYS/C returns.

Will NYS/C let them go? No one likes to lose a good customer, especially high-tax states. NYS and NYC have huge tax departments and they spend the majority of their resources on residency audits. Many residents try to game the tax system and once audited, many are busted with back taxes, interest and penalties. They try all sorts of failed angles. You shouldn’t bother with those.

Consult a state and city tax expert
Don’t rely on a tax advisor in the low-tax state that wants your business; make sure you get advice from a CPA or tax attorney with excellent experience and practice in the state you seek to exit from.

State residency rules and nexus are complex, nuanced and often vague. States increasingly are looking at economic nexus and intangibles, rather than just focusing on technical facts like where you register to vote, register your cars and get your driver’s license. States look at where your family conducts its affairs like attending school, seeing friends, community activities and much more.

States are hungry for tax revenues and they don’t like losing their tax base, especially when in fact they haven’t lost them, but rather the taxpayer in question feigns non-residence.

Bottom line
The next mayor of NYC may raise taxes in a material fashion on the upper income. Many of these taxpayers don’t appreciate that and they are in a position where they can move out of the city. They can still enjoy the NYC lifestyle and do some business using temporary hotel stays, which is not a place of abode. In a year or two, they can get a pied-a-terre in NYC, and only pay sales and property taxes, not income and business taxes.

Maybe lowering NYC taxes would invite more rich residents to call the city their home and it could then benefit from huge growth in business and overall tax revenues.

How will active traders make out with coming tax changes?

August 1, 2011 | By: Robert A. Green, CPA

The current debt-ceiling battle between Democrats and Republicans promises to include meaningful tax reform. 

To slow growth of the deficit, Democrats agree to cut some spending, but only if the government agrees to significantly raise revenues too, and that means collecting more taxes. Democrats don’t want to raise taxes though, as tax hikes are a political third rail. Instead, they suggest “cleaning up the code” by closing tax loopholes (untaxed offshore corporate profits, big oil and hedge fund tax breaks, among others), ending tax expenditures (most itemized deductions and some credits), and getting tougher on enforcement. 

The sore spot of tax change for Democrats, including President Obama, is finally allowing the Bush-era tax rates (and cuts) to end as originally scheduled for upper-income taxpayers. But President Obama wanted to extend these tax breaks for taxpayers’ making under $250,000 per year. He avoided havoc in the last lame duck session of Congress by crafting a two-year extension for these tax breaks until Dec. 31, 2012, which is just after the next election. Will tax reform wait until 2013? It may or may not be dragged into ongoing debt-ceiling procedures and commissions sooner. 

I expect Tea Party Republicans to continue their efforts in blocking material tax increases of any kind. “Taxed Enough Already” (TEA) means no tax hikes. The Tea party argues that we have a spending problem and governments should significantly cut spending.

The political center found a way out of the debt-ceiling standoff, calling for tax reform rather than tax hikes. When Republicans hear the term “tax reform,” they think of the Deficit Commission’s findings suggesting a significant reduction of income tax rates, as a trade-off to closing tax loopholes and breaks. Democrats focus on closing tax loopholes with a less-aggressive reduction in tax rates. Republicans forecast tax revenue growth through tax reform supply-side economics. Democrats hope tax reform raises tax revenues by preventing corporations and individuals from continuing to game the tax system. Obviously, this will be another battle. 

A major overhaul of the tax code has been due for some time. It’s undeniably a monstrosity of pork-barrel politics, filled with carrots and sticks handed out by government officials – otherwise politely referred to as “fiscal policy.” Will stripping down the code strip politicians of their political power to hand out breaks and influence political donations? 

Let me now forecast what may happen with tax reform and explain how it may affect traders. 

Are lower 60/40 tax rates on futures in jeopardy?
I’ll start with my blog dated July 12. Here’s an excerpt. 

Andrew Ross Sorkin of the New York Times interviewed me about the history and future status of lower 60/40 tax rates. Read his article “An Addition to the List of Tax Loopholes” published July 11. Mr. Sorkin quoted me and used some content from a draft version of this blog, which I sent to him while he worked on his article. While our articles are similar in content, we reach an opposite conclusion. 

Mr. Sorkin told me that some in Congress are looking at the Section 1256 60/40 tax rates, which implies to me they are thinking about getting rid of them. He mentioned they saw a recent CFTC report showing that 80 percent of trading volume on commodities exchanges are short-term trading. Which begs question: Why do futures traders receive the 60 percent long-term capital gains benefit? The remaining 40 percent is subject to short-term capital gains rates — the higher ordinary income tax rates. Why should futures traders and commodities exchanges enjoy this tax break, when securities traders and exchanges don’t? 

The President’s Deficit Commission recommends tax reform, simplifying the tax code and repealing many special tax breaks. It suggests one reduced tax rate applied to all types of income, not distinguishing between ordinary and long-term capital gains. This would mean a repeal of 60/40 tax breaks. But, the Deficit Commission’s recommendations overall are good for traders because the Commission suggests a top marginal tax rate of 23 percent, which is the current 60/40 top blended tax rate now. In effect, securities traders could get a tax cut, using the same tax rate that futures traders use now. Yes, investors would lose many itemized deductions in order to flatten the tax code so rates can be reduced, but business traders would still be able to keep their business tax deductions. Although the Deficit Commission didn’t gain much traction to start, it seems to be getting its rightful consideration now as part of the intense debt ceiling and deficit stand-off. 

What does “flattening” of the tax code mean?
If Congress flattens the tax code as part of Tax Reform, then many types of itemized deductions may be repealed. Popular itemized deductions include state and local income taxes, real estate taxes, mortgage and investment interest, charitable contributions, investment expenses, employee-business expenses and tax preparation fees. 

I expect a firestorm from taxpayers and industry lobbyists crying bloody murder of their precious tax breaks. The politics on this battle will be at odds too. State and local taxes are higher in Democratic-leaning states, and real estate taxes and mortgage interest deductions are integral to the real estate industry, which remains in dire condition. Government austerity will hurt the poor and charity will be more important than ever, so repealing that deduction may not be wise either.

Many itemized deductions are already restricted with the nasty alternative minimum tax (AMT) second tax regime. Tax reform proposals include a repeal of AMT, but repealing itemized deductions may have the same effect anyway.

Trader tax status with business expense treatment should remain the best ticket
I’ve always pointed out that business traders are much better off tax-wise vs. investors, because unlimited business tax deductions are far better than restricted investment expenses. Business expenses include many items that investment expenses do not, including home-office, education, seminars, start-up costs and more. Investment expenses are limited to 2 percent of adjusted gross income (AGI) and the amount over that threshold is an AMT preference — in other words not deductible for AMT tax calculations.

I expect that tax reform will increase the relative tax benefit of business tax status. Tax reform may repeal most or all investment expenses, while safeguarding business deductions. 

Congress may tinker with depreciation and other expensing rules, like extending useful lives — a la the corporate jet brouhaha during debt-ceiling negotiations — and reduce accelerated depreciation tables. However, I expect that Congress will be reluctant to de-stimulate business and jobs. Remember, President Obama improved “expensing rules” as part of his stimulus legislation. 

Will the lower long-term capital gains tax rate survive?
The Deficit Commission suggested an aggressive reduction of income tax rates to 23 percent. The Commission proposed one tax rate to make its math work as well as simplify the tax code — another important element of tax reform. That does away with lower long-term capital gains tax rates.

The Commission argues that more than one rate muddies up the tax code. The long-term rate carrot is offset with tax sticks including the puny $3,000 net capital loss limitation. Wash sales, straddles, and offsetting position loss deferral rules are also a stick, but they have more to do with deferral of unrealized gains and losses on securities.

I doubt Congress will ultimately agree on one tax rate. Republicans are pushing for zero taxes on capital gains and at a minimum they will insist on keeping a lower tax rate on long-term capital gains. I also doubt Democrats will agree on lowering tax rates to 23 percent. President Obama seems bent on insisting — out of fairness — that upper-income taxpayers finally surrender their Bush-era tax rates. It would seem odd to raise upper-income taxpayers to 41.6 percent (with phase-outs) and then lower them to 29 percent under tax reform. For this reason, it makes more sense discussing tax reform sooner rather than later and not arguing over the contentious Bush-era tax rates separately. 

Other tax savings ideas for traders under tax reform
If Congress repeals most itemized deductions under tax reform, taxpayers should try to reclassify or restructure itemize deductions as business expenses. First, you need to have a business, and many Americans are interested in a new business anyway – either as a side business or to replace a fleeting job. 

Trading can be a business, but you need to qualify for trader tax status, and that’s not easy. Learn all about trading businesses in our content, including Green’s 2011 Trader Tax Guide. 

Some CPAs and tax attorneys are starting to argue that some state income taxes might be associated – in other words deducted – with a sole proprietorship Schedule C business. After all, the business income is the income that triggers those state income taxes. More work needs to be done here, so don’t take this deduction without checking with a professional.

You can follow similar logic with interest deductions. Why not convert a higher-interest rate mortgage loan (say 4 to 5 percent) into a materially lower interest rate home-equity loan, which could be just more than 2 percent (many HELOCs are at one point under prime rate). You need to use the loan proceeds for your business activity, in order to then deduct business interest expenses without restriction. Check with a professional on this too. 

Home office deductions should survive tax reform, and they include real estate taxes and mortgage interest too. 

Bottom line
Significant tax reform and changes are expected soon and traders should position themselves as best they can. Hopefully, Congress will start on the fringes and not mess with business tax rules, as that is the cornerstone of our economy. Stay tuned.