The Internal Revenue Service has cut the amount of time it spends auditing large companies by a third since 2005, while reducing the number of large companies audited by 22%, according to a new study. In fact, last year the IRS audited only one in four corporate returns reporting assets of $250 million or more, says the study, which was conducted by the Transactional Records Access Clearinghouse (TRAC), a research organization sponsored by Syracuse University.

While IRS audits of large companies dropped by 1,000 to 3,675 between 2005 and 2009, audit rates fell even faster, says TRAC (see chart below). In 2005 the agency audited 43 out of every 100 big-company returns, but by 2009 the audit rate had fallen to 25 out of every 100. The downward trend isn’t new: 20 years ago, two out of every three large corporations were audited by the IRS.

What’s more, TRAC data shows that large-company audits declined even as the number of IRS revenue agents grew, jumping by 6% since 2005, to about 13,000. (Some of those agents likely were temporarily reassigned to handle tax issues associated with last year’s economic stimulus bill.)

The recent cutbacks were made despite evidence that IRS audits of big companies uncover the largest dollar amounts of tax underreporting. For instance, viewed on an hourly basis, audits of large companies exposed $9,354 of underreported taxes per auditor hour in 2009, while audits of small and midsize companies revealed only $1,025 per hour. Meanwhile, collection of underpaid taxes has decreased by 2% since 2005, dropping to $17.4 billion.

One reason for the audit drop may be a "perverse quota system," say the study’s authors. The TRAC report explains that the IRS regularly establishes monthly audit goals for revenue agents as a way of measuring performance. The goals may be a factor in determining which companies to audit, says TRAC, noting that auditors and their managers may look less productive if they focus on more time-consuming audits.

The IRS declined to comment on the TRAC study. However, an IRS press statement summing up the 2007 fiscal year noted that the agency had audited partnership and S corporation returns, reflecting that the agency was placing "more emphasis in the growing area of these flow-through returns." The IRS said that while audits of large corporations were down, it had increased its focus on midmarket corporations, those with assets between $10 million and $50 million. "In times of flat budgets, the agency cannot increase activity across the board but must address the areas where there is growth and potential risk," noted the press statement. (Flat budgets may not be a concern for long: the 2010 omnibus spending bill signed into law by President Obama included $12.2 billion for the IRS, which plans to spend a record $5.5 billion this year on enforcement efforts.)

Why is the IRS ramping up audits of smaller companies? One reason is "the drumbeat regarding the ‘tax gap,’" the difference between taxes owed and actually collected, says Dean Zerbe, national managing director of tax consultancy Alliantgroup. "The IRS has stated repeatedly that smaller businesses are the core of the tax-gap problem," he says. Alvin Rabushka, a senior fellow at Stanford University’s Hoover Institute, puts the size of the gap at $400 billion and rising.

While Zerbe says it is "difficult" to speculate on the decline in large-company audits, he points out that sustention rates (the ratio of agreed-on and upheld tax deficiencies to proposed tax deficiencies) may have something to do with the shift. Historically, sustention rates pertaining to large companies have been very low, says Zerbe. While the IRS may seek a high dollar amount based on underreported taxes, "the number drops like a stone" when the case gets to court and wends its way through the appeals process, he says.

Smaller companies also see the amount of tax they owe reduced in court, but "not nearly as dramatically," notes Zerbe. That’s because they may not have the resources to challenge the IRS and are therefore more likely to settle. As a result, the IRS may see a better "bang for the buck" pursuing smaller companies, says Zerbe.

But targeting smaller companies may be bad for the economy on the whole, since audits consume the time and attention of business owners, adds Zerbe. "While politicians in Washington love to give speeches touting how small businesses are the engines for job growth, revving up IRS audits of small business is like putting sugar in the gas tank," he says.

Tax audits of big companies have declined as the Internal Revenue Service shifts its attention to smaller businesses.
Marie Leone, CFO.com | US
April 28, 2010

http://www.cfo.com/article.cfm/14493089/?f=rsspage

By Nancy Mann Jackson, contributing writer

March 29, 2010: 9:31 AM ET

(CNNMoney.com) — If your business uses independent contractors, get ready for new scrutiny. Hoping to boost tax revenue, the IRS and many state governments are cracking down on how companies classify their workers.

When employers report wages for independent contractors on IRS form 1099, rather than a W-2, they aren’t required to pay unemployment insurance, worker’s compensation insurance or payroll taxes for them. But the rules governing which workers are genuinely “independent” are strict — and often flouted.

The Internal Revenue Service launched a program last month that will randomly examine 6,000 companies over the next three years for employee misclassifications. The federal government estimates it will raise $7 billion over the next 10 through tighter enforcement.

The IRS audit program is just the beginning of what will be “a new era of compliance,” says Gene Zaino, president and CEO of MBO Partners, a services firm that specializes in the independent contractor market. “Most states are now sharing data with the IRS, and many have set up task forces specifically [to address] misclassification. It used to be that if a business ran into trouble with a state labor department or with the IRS, the issue was isolated. Now, any kind of audit or compliance finding can set off a domino effect where the other agencies will get in on the action. “

Getting audited can be scary even for businesses that keep everything by-the-book. Chris Daly, co-owner of Kinespirit fitness studios in New York City, got an audit notice in January from the New York State Department of Taxation’s Unemployment Insurance Division, which wanted to probe Kinespirit’s use of contractors. Like more than 30 states, New York has run out of money in its unemployment compensation fund and is borrowing from the federal government to keep paying claims.

“We knew we were doing it right but that doesn’t mean we weren’t concerned,” Daly says. “We understand the situation states are in; unemployment insurance is a needed tool, and we understand the need to fund that tool. And there are companies out there that don’t want to fund their share.”

Kinespirit classifies its managerial and administrative staff as employees and its fitness trainers and instructors as contractors. The audit process was exhaustive, but the company emerged clean.

Following the rules: So what’s the correct definition of an independent contractor? It depends on who you ask.

Some business advisors say a true independent contractor is employed by a separate corporation or legal entity, either one they own or a third-party firm. That rules out freelancers who don’t formally set up a business structure to house their 1099 income.

But hewing to that definition didn’t work for Mega Builders, a Chicago-area construction company that got hit with a $328,500 state fine in December on the grounds that it had misclassified 18 of its employees as independent contractors. The company allegedly forced its workers to incorporate, even though they didn’t operate bona-fide businesses, says Jeffrey Risch, an attorney familiar with the case and a partner at the St. Charles, Ill., firm SmithAmundsen.

In his audit, Daly says the state examiners seemed most interested in whether his so-called independent contractors were able to control their own schedules and the manner in which they perform their work.

But for 352 Media Group, a Gainesville, Fla.-based Web development firm that recently reorganized the way it handles independent contractors in order to ensure compliance, one of the important issues was where the work is completed and who owns the equipment used.

“We used to have contractors working in our office on regular schedules and using our equipment, which was cause for concern,” says Geoff Wilson, 352′s president and CEO. “Thankfully, when we hired a new HR director, she discovered this problem and worked with our contractors to either convert them to employees or make sure they were doing the proper things to maintain their contractor status.” That included using their own equipment, working out of their own home or office and taking on jobs for other clients.

While the IRS publishes guidelines for determining worker classification, the IRS factors are “similar, but not identical, to tests relied upon by other agencies, such as worker compensation and unemployment insurance agencies,” says Susan Bishop, attorney at Campbell, Calif.-based Pratt & Associates. “Factors from all applicable agencies should be considered when making a decision.”

If you’re not sure whether your independent contractors are properly classified, review the appropriate guidelines from your state and the IRS, or — better still — consult a local tax attorney or accountant to help you sort it out. You can request a determination by the IRS by filing Form SS-8, Bishop notes. Third-party firms like MBO Partners also advise employers on contractor issues for negligible fees.

Like Mega Builders, firms that are audited and found to be incompliant can face steep fees. The best course of action is to examine your worker classifications now, before a government entity gets involved.

“Using contractors offers a lot of benefits, but you have to make sure you’re doing it right,” says 352 Media’s Wilson. “You don’t want the government to come calling and decide you owe a lot of back taxes for classifying contractors incorrectly. Be vigilant about reading the government’s contractor classification guidelines and make sure your contractors actually fall within them.”

http://money.cnn.com/2010/03/29/pf/taxes/employee_audit_crackdown.smb/index.htm

Elizabeth Blackwell

03/12/10 – 05:00 AM EST

CHICAGO (TheStreet) – It’s the ultimate nightmare scenario for many business owners: a letter from the Internal Revenue Service informing them they’re being audited.

Statistically speaking, it’s highly unlikely you’ll be subjected to a tax audit this year. But if you are, it doesn’t have to be a traumatic experience if you have the right preparation and expectations.

Here’s what you need to know:

1. DON’T flip out: Make sure your business is being audited. The IRS’ document-matching computer system searches for discrepancies in tax returns and generates letters to taxpayers whose documentation is inconsistent. Receiving one of those written requests for clarification does not mean you’re being audited. Provide what the IRS asks for, and you’ll probably never even talk to an agent.

If you do receive a letter informing you of an audit, you’ll be asked to call and make an appointment for an agent to visit your office. Remember that an audit means the IRS needs to reconcile what they think you owe with what you’ve paid. Being audited doesn’t necessarily mean you’ve done anything wrong or that you’re facing penalties. As long as both sides act reasonably and rationally, tax issues are usually resolved with a minimal fuss.

2. DO provide what the IRS asks for — and no more: Before your scheduled appointment with the IRS agent, you’ll get a written request for certain documents.

“The IRS tells you what they’re looking for,” says accountant Brad Jones, a partner with PBGH in Fredericksburg, Va. “You should provide exactly what they ask for, and be complete. Make sure all your receipts and invoices reconcile with your tax return. You don’t want to create a situation where the agent is uncomfortable enough with your records to expand what they’re looking at.”

At the same time, resist the urge to show off your stellar recordkeeping. The goal is to get the agent to move through your case quickly, not get distracted with irrelevant paperwork.

3. DON’T assume you’ve done anything wrong: The IRS occasionally does compliance audits for particular industries, looking for patterns of misrepresentation. Such audits can be time-consuming and drag on for several months. But companies in those industries are mostly chosen at random. Being picked doesn’t mean the IRS has concerns about your business in particular.

If, on the other hand, you’ve been fudging numbers or making shady deductions, you’ll need all the help you can get. Which leads to the next point:

4. DO make sure you’re properly represented: Why do the vast majority of criminal defendants choose not to represent themselves in court? Because they know their interests will be better served by a lawyer who understands the language and rituals of the justice system.

The same goes for an IRS audit. You have the right to request that you accountant be present during the audit, and your can authorize him or her to speak for you.

“An IRS agent can ask questions that seem innocuous, but have ramifications you’re not aware of,” Jones says. Often it’s a matter of terminology: for example, an “investment” expense could mean one thing to a business owner, and another to the IRS. A casual chat about spouses and children could transition into a sticky discussion of tax implications for a family-run business.

Conversation is crucial to an audit because numbers on a tax form don’t always reflect the true state of your business. But owners can end up unintentionally hurting themselves. “You don’t want to confess your sins as soon as the agent walks in the door,” Jones says.

5. DO get organized: Many problems with tax returns come down to simple disorganization. Maybe you forgot to submit the correct backup documents, or kept only haphazard records of your expenses.

Showing up prepared and organized for an audit gives you an advantage from the minute the agent walks in. The better your documentation and the easier it is to sort, the sooner the agent will be able to finish your audit and move on.

You may even emerge from with the ultimate prize: a letter stating that no change is necessary to your tax payment. That’s a piece of IRS mail any business owner would be happy to get.

– Reported by Elizabeth Blackwell in Chicago.

http://www.thestreet.com/story/10700322/1/the-dos-and-donts-of-business-tax-audits.html

By Mary Beth Franklin

March 10, 2010

Rising medical costs seem to be on everyone’s mind these days as lawmakers continue to battle over health-reform legislation. Although the tax code provides a deduction for some medical costs, only 7% of taxpayers claimed it for 2008.

That’s because you can deduct only those out-of-pocket medical and dental expenses that exceed 7.5% of your adjusted gross income. So if your AGI is $50,000, for example, and you have $4,000 in unreimbursed health-care costs, you would be able to deduct a skimpy $250 as an itemized deduction on Schedule A.

Medical expenses include payments for doctors and dentists, hospital fees, insurance premiums (including Medicare and long-term-care insurance), prescription medications, medical equipment, and supplies that are not reimbursed by health insurance or a flexible spending account. You cannot deduct expenses for your general health, such as vitamins. But you can deduct a doctor-prescribed weight-loss program. For details on other deductible expenses, from acupuncture to X-rays, see IRS Publication 502, Medical and Dental Expenses.

If it looks as though your medical expenses are approaching the tax-deductible threshold, make sure you add up all related costs for you, your spouse and your dependents. (And for future planning, try to bunch elective medical procedures into years that you’ll qualify for a medical deduction.) You may even be able to deduct medical expenses that you paid for a family member who doesn’t qualify as your dependent, such as an elderly parent or an adult child, as long as you paid more than half of their support. Don’t forget to include miles driven for medical purposes. For 2009, you can deduct 24 cents per mile, plus parking fees and tolls.

Special cases

If your income took a hit last year due to temporary unemployment or reduced hours, your lower AGI may be the ticket to deducting some medical expenses, even if you haven’t been able to deduct them in the past. The lower your income, the more of your medical expenses you’ll be able to deduct (assuming your total itemized deductions are more than you could claim with the standard deduction for your filing status).

And while in most cases, filing jointly offers married couples the biggest tax saving, you may want to file separately if one spouse has significant medical costs. Be aware that some tax credits, such as child, dependent-care and higher-education credits, aren’t available if you file separately. But if those special situations don’t apply to you and one spouse has lower income and high medical costs, you may be able to deduct significantly more than you could filing a joint return.

If you are subject to the alternative minimum tax, a parallel tax system that does not permit many of the usual exemptions and deductions allowed under normal tax rules, you have to meet an even tougher test: Deductible medical expenses must exceed 10% of your adjusted gross income.

If you are self-employed and pay health-insurance premiums, you can deduct 100% of the cost. (That means this deduction is not subject to the 7.5% AGI limitation that other medical expenses are.)

Flex your savings

Considering how difficult it is to deduct medical costs on a tax return, most workers are better off contributing to their employer’s flexible spending account to pay for their out-of-pocket health-care bills. Because the money that goes through the flex account is not taxed, the effect is the same as allowing you to deduct medical costs — without worrying about the 7.5% limit.
This page printed from: http://www.kiplinger.com/columns/taxtips/archive/deducting-medical-expenses.html

All contents © 2010 The Kiplinger Washington Editors

New York (CNN) — Tax time can be a painful time for many of us, and it’s especially tough for people without jobs. If you’re unemployed, there are a few twists and turns in the tax code that can work to your benefit.

Even if you didn’t work last year, you probably still have to pay taxes. Unemployment benefits are taxed. Plus, if you received a W2 form and made at least $9,350 (as a single person), you are required to file a return, says tax analyst Mark Luscombe of CCH.

If you freelanced or started a business, you’ll have to file a tax return if you made more than $400 in profit. If you are anticipating a tax refund, you must file, even if you didn’t work at all.

1. Take advantage of new benefits

Traditionally, every penny of unemployment insurance is taxed. But with 8.4 million job losses since the start of the recession, that rule is changing this year.

If you received unemployment checks last year, you can exclude the first $2,400 from your return. You have to remember to do this math yourself, since the documents from your state employment agency won’t exempt it. This benefit won’t be around next year.

You can avoid a “penalty tax” on IRA and 401(k) withdrawals if you took the money out to pay for medical expenses.

Also, if you’ve been laid off and you’re 55 years or older, you can take money out of your 401(k) without penalty.

2. Deduct your job hunting expenses

If you itemize, you can deduct job-hunting expenses. But there are rules. All of your deductions must exceed 2 percent of your adjusted gross income. Here are some things you can deduct: resume printing costs, postage, long-distance calls and faxes and travel expenses, including airfare, taxis or tolls. Make sure to hold onto all your receipts.

And don’t forget that you can also deduct your medical expenses, if those expenses exceed 7.5 percent of your adjusted gross income. That used to be a high hurdle. But, if your income plunged because of unemployment, you may very well be able to deduct your medical expenses — so hold onto drugstore receipts, prescription orders and co-pay information.

http://www.cnn.com/2010/LIVING/03/08/tax.tips.unemployed/index.html?section=cnn_latest

Laid off workers also gain in a stunning district court decision.

By Joan Pryde
March 5, 2010

Good news for businesses that are downsizing or already have: You may be due money back from the IRS. A district court has ruled that severance pay given to terminated workers is not subject to Social Security and Medicare taxes. Workers who had taxes deducted from their severance could also get that money back.

Don’t go spending your refund yet, however. The IRS is certain to appeal the ruling, so the fight on this issue is far from over. But you can protect your interests by filing what’s known as a protective refund claim, using IRS Form 843. The IRS will set these claims aside until after all appeals are decided. Claims can be filed by firms that paid severance to laid off workers within the three-year statute of limitations for tax returns. Acting quickly is especially important for businesses that paid severance back in 2006 because the statute-of-limitations window for them will run out next month, on April 15.

The case in question involves a retailer that closed all its stores and let its staff go, paying them severance. The retailer challenged IRS’ finding that Social Security and Medicare taxes were owed on the payments, and the U.S. District Court for the Western District of Michigan sided with the store. The court noted that the tax code specifically requires employers to treat severance paid to laid off workers as if it were wages for income tax withholding purposes. In the court’s view, this indicates that severance pay is not otherwise to be treated as a payment of wages, and thus is exempt from payroll tax. The court also disagreed with the IRS’ position that severance pay avoids the tax only if that pay is tied to receipt of unemployment benefits.

If the IRS loses all appeals, employees also would get back their portion of Social Security and Medicare taxes. Employers and employees are both responsible for half of the tax that must be deducted from paychecks and remitted to the government. Employers can choose to file a protective refund claim just for their half, but they may opt instead to file for the employee’s half, too. In the latter case, they could file one of two ways: They could either remit the employee half to the worker before filing a claim and then keep the entire amount of the refund when and if it ultimately comes. Or they could get written consent from workers to file for their half and agree to remit that portion to workers after receiving the funds from IRS. Employees can file protective refund claims on their own for their half of the tax if they don’t want their former employer to file for them.

For companies considering downsizing in the future, watch the court proceedings carefully, but keep paying your taxes. Until the appeals process is exhausted, IRS still has the right to demand timely payment of Social Security and Medicare taxes on severance pay.

http://www.kiplinger.com/businessresource/forecast/archive/a-tax-win-for-downsizing-firms.html

By Tami Luhby, senior writerFebruary 9, 2010: 10:48 AM ET

NEW YORK (CNNMoney.com) — Employers are getting hit with a massive tax hike at a time when they can least afford it.

Companies in at least 35 states will have to fork over more in unemployment insurance taxes this year, according to the National Association of State Workforce Agencies.

The median increase will be 27.5%. And employers in places such as Hawaii and Florida could see levies skyrocket more than ten-fold.

Many of these hikes happened automatically as prolonged joblessness triggered state laws governing their unemployment insurance systems. But at least seven states voted to raise their taxable wage bases, the level of income subject to unemployment tax. And another 10 are looking at upping the wage bases or tax rates.

The states are scrambling to restore their unemployment insurance trust funds, which cover claims.

State trust funds have been decimated by the Great Recession, forcing a record 26 states to borrow a total of more than $30 billion from the federal government. The numbers are expected to grow to 40 states borrowing $90 billion by 2012, said George Wentworth, policy analyst at the National Employment Law Project.

"States are going to be facing higher unemployment tax rates for some period of time," Wentworth said.

In addition, employers pay federal unemployment taxes. If states don’t repay their federal loans, businesses could see their federal tax go up as well in coming years, said Rich Hobbie, executive director of the National Association of State Workforce Agencies.

Higher taxes, however, dampen employers’ ability to hire new workers, crimping any nascent economic recovery. Companies pay taxes on each employee on the payroll.

"There’s no doubt it discourages hiring," said Douglas Holmes, president of UWC-Strategic Services on Unemployment and Workers’ Compensation, an employers’ trade group. "In fact, it leads to increased unemployment."

Cognizant of this, some states are looking to soften the blow through legislation that would delay the hikes.

States suffering

Texas is one of the hard-hit states. Though its unemployment rate is a relatively low 8.3%, jobless claims have soared. In December, Texas paid 330,000 residents a total of $325.7 million, up from 228,000 people claiming $216.8 million a year earlier.

The state began borrowing from the feds in July to pay unemployment benefits and now owes Washington $1.6 billion, said Ann Hatchitt, spokeswoman for the Texas Workforce Commission.

So employers in the Lone Star State will have to pay at least $64.80 in tax per worker this year, up from $23.40 a year ago. This is the highest rate in 20 years.

"After having a period of high demand on the unemployment trust fund and rising unemployment, we had to set the rates for 2010 to replenish the trust fund," Hatchitt said.

Employers in some other states could face even steeper hikes, unless their legislatures act quickly.

In Hawaii, taxes automatically increased from an average of $90 per worker in 2009 to $1,070 this year. Part of the problem stems from the fact that the state was generous to businesses during prosperous times. In fact, lawmakers lowered the tax rate in 2007, when unemployment did not exceed 3.1%. The state’s jobless rate now stands at 6.9%.

Concerned that this hike will crush local businesses, Republican Gov. Linda Lingle is urging lawmakers to limit the increase to 60% of the proposed hike.

"We believe strongly that anything beyond this 60% threshold will cause large job losses," Lingle said last month.

Florida, meanwhile, has increased its minimum payroll tax to $100.30 per employee this year, up from $8.40. About half of the state’s employers pay the minimum. The state also raised the taxable wage base to $8,500, from $7,000.

When lawmakers approved an increase in unemployment taxes a year ago, they didn’t realize what the impact would be, said Rep. Dave Murzin, who heads the state’s Economic Development & Community Affairs Policy Council. The state’s unemployment rate was 7.6% at the end of 2008, versus 11.8% in December.

Now that lawmakers see the numbers, they are working to minimize the effect on businesses. The council plans to take up legislation this week that would restore the taxable wage base level to $7,000 and allow companies to pay the tax in installments over the next two years.

This means the Sunshine State’s trust fund won’t return to solvency until 2015, instead of 2012. But the governor and lawmakers feel this deal will keep more workers on company payrolls.

"It’s still going to be an increase, but it won’t be as dramatic an increase and it won’t hit as hard," Murzin said. "You tell businesses to pony up and write a big check and that puts more people out of business."

http://money.cnn.com/2010/02/09/news/economy/unemployment_taxes/index.htm?section=money_news_economy&utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+rss%2Fmoney_news_economy+%28Economy+News%29&utm_content=My+Yahoo

By KELLY GREENE

Investors and financial advisers are preparing to take advantage of a new tax law that makes it easier to gain access to Roth IRAs—even if it means breaking a sacrosanct rule about Roth conversions.

Starting, Jan. 1, the $100,000 income limit disappears for converting traditional individual retirement accounts and employer-sponsored retirement plans to Roth IRAs, one of the biggest changes on the IRA landscape in years. Roths, of course, have long been viewed as one of the best deals in retirement planning; after investors meet holding requirements, virtually all withdrawals are tax-free.

Just how many investors will make the leap is unclear. Converting to a Roth can be expensive; it requires paying income tax on all pretax contributions and earnings included in the amount converted. What’s more, financial advisers have long argued that converting makes sense only if an investor can pay the tax from funds outside the IRA itself – an admonition that seemingly limits the strategy to the very wealthy.

That said, some financial advisers say growing numbers of their clients are leaning toward a Roth conversion, even if they have to tap their traditional IRAs to pay the taxes. The primary reasons: new, contrarian analyses of taxes and conversions—and a desire to gain more control over nest eggs in the years ahead. With a traditional IRA, investors must begin tapping their accounts after reaching age 701/2, which increases taxable income. With a Roth, there are no required distributions, giving retirees more flexibility in managing their investments and cash flow.

For many investors, "the required minimum distribution makes them sick," says John Neyland, president of JCN Financial Group in Baton Rouge, La. "They don’t want the government to tell them when to take the money out."

Although only 5% of the country’s $3.7 trillion IRA assets currently are held in Roths, about 13 million households holding more than $1.4 trillion in retirement assets will become newly eligible next month for conversions, says Ben Norquist, president of Convergent Retirement Plan Solutions LLC, a Brainerd, Minn., consulting firm. Vanguard Group predicts that 5% of its customers will do Roth conversions in 2010, up from a typical 1.5% rate. Charles Schwab & Co. found that 13% of 400 households with adjusted $100,000-plus incomes are considering converting at least part of their IRAs.

The income tax due on assets being moved to a Roth from a traditional IRA is a non-starter for many people, because few—including those with incomes of $100,000 or more—have the assets outside their tax-deferred accounts to pay the Internal Revenue Service. Others, who do have the money, are reluctant to part with it; such funds, often, are set aside for emergencies.

But some financial planners, after running projections involving retirement savings, withdrawals and taxes in coming decades, have concluded that it’s worthwhile for many in this group to convert at least some of their IRA assets to a Roth—and pay the tax with funds inside the IRA.

"I have a case where my client is 60, and I was surprised to find that she comes out ahead whether she pays the tax with cash \[outside the IRA\] or the assets inside the IRA," says Deborah Linscott, a financial adviser in Dublin, Ohio.

Here’s why: Even though individuals who convert and who decide to pay the tax bill with funds inside their IRA are lowering their overall IRA balance, their new Roth account eliminates the requirement to make taxable withdrawals after age 701/2. For some people, that means they can stay below the threshold at which much of their Social Security checks would be taxed. Others can avoid higher Medicare premiums (which are tied to income levels). And a few could wind up leaving larger legacies down the road, since inherited Roth IRAs aren’t subject to income tax, either.

Bob Phillips, a 64-year-old retired engineer in suburban Cleveland, plans to covert his traditional IRA valued at $552,000 to a Roth. He has only about $8,000 in cash, so he plans to pay the tax from his IRA assets, which will reduce his retirement savings. But when Mr. Phillips turns 701/2, he won’t have to make any taxable withdrawals, meaning the $35,000 in Social Security benefits that he and his wife receive annually shouldn’t become taxable.

If the Phillipses can avoid losing about 20% of their Social Security to taxes, their Roth withdrawals—should they need them—will be smaller, as well. That, in turn, gives the Roth a better chance to grow with time, says Mark Tepper, the couple’s investment adviser.

Mr. Tepper used 10,000 "Monte Carlo" simulations (designed to estimate the odds of reaching financial goals) and found that, without doing a Roth conversion, they have only a 50-50 chance of making their funds last across their life expectancies. With a Roth conversion, even using assets from the account itself to pay the tax, they have an 88% chance of not outliving their savings.

Some additional points to consider:

— Investors weighing Roth conversions may want to run their plans by a local accountant: At least one state, Wisconsin, didn’t drop the $100,000 income limit, meaning unwitting residents over that limit face a penalty for Roth conversions.

— IRA owners with Medicare Part B who convert to a Roth may subject themselves for a year or two to higher premiums (which, again, are tied to income).

— Investors under age 59 1/2 who convert to a Roth would pay an early-withdrawal penalty on IRA assets used to pay tax.

— Using IRA assets to pay the tax man reduces the amount you could later "recharacterize": If the converted Roth assets fall in value, you are allowed to recharacterize the account as a traditional IRA and no longer owe the tax. "But if you take $100,000 out of your IRA and you only roll $80,000 into a Roth, you only have $80,000 to recharacterize, not the whole thing," says Ed Slott, an IRA consultant in Rockville Centre, N.Y.

http://online.wsj.com/article/SB10001424052748704201404574590302275262012.html?mod=rss_Taxes

A Maryland nurse accomplished two rare feats in her battle with the Internal Revenue Service: She defended herself against the agency ‘s  lawyers and won, and she got a ruling that could help tens of thousands of students deduct the cost of an M.B.A. degree on their taxes.

The U.S. Tax Court handed Lori Singleton-Clarke her victory last month, saying the 47-year-old Bryantown, Md., woman had properly deducted nearly $15,000 in business school tuition. The Tax Court ruling should make it easier for many other professionals to deduct the expense of a Master in Business Administration degree.

After getting word of the court decision, “I nearly yelled the roof off the house,” Ms. Singleton-Clarke says. “I still can hardly believe it.”

The IRS’s rules on deducting work-related tuition are complicated and onerous, ultimately preventing most students from deducting their tuition. But this case clarifies the rules and will likely lead to more taxpayers taking the deduction, tax experts say.

Few taxpayers decide to go toe to toe with the IRS as Ms. Singleton-Clarke did, arguing her case without a lawyer. For good reason: In 2009, individuals won only about 10% of about 300 such cases, according to data from Tax Analysts. Ms. Singleton-Clarke fought her case in Tax Court, a venue where taxpayers don’t have to pay the contested tax before going to trial. The court has a special procedure for small cases.

Some of the losers, such as several dozen tax protesters who defended the filing of frivolous returns, were tilting at tax windmills. Others were simply on the wrong side of the law, including a horse enthusiast who wanted to deduct his hobby losses, an unsuccessful comedian who tried to classify his expenses as business losses, and an attorney who claimed over $100,000 in medical deductions for his visits to prostitutes.

Of the few who did prevail against the IRS, nearly half came to court on a single issue: requests for “innocent spouse” treatment that decouples a spouse from a partner who is a tax cheat. This provision has been used mostly to protect unknowing wives against their husbands’ tax misdeeds. One of the spouses granted relief last year was formerly married to an investment banker who didn’t pay his taxes after his bonus didn’t come through.

Ms. Singleton-Clarke’s encounter with the tax system shows what it can take for one individual to prevail over the IRS against the long odds: favorable facts, obsessive organization, and fearlessness. She says she didn’t have a lawyer because she couldn’t afford one.

Her odyssey began in 2006, when she filed her 2005 return. It showed just over $50,000 of income, several smaller deductions, and one large one—for $14,787 of expenses for an M.B.A. from the University of Phoenix, an online school. Ms. Singleton-Clarke deducted the tuition because her tax preparer told her she met the law’s narrow definitions.

When the IRS audited the return in late 2006, she conceded all the IRS’s challenges to her deductions but one. She dug in her heels on the tuition deduction because, after looking at a complex diagram in IRS Publication 970, she believed she qualified for it.

The audit process first involved several rounds of confusing IRS correspondence. “At one point I had three requests for the same records, each with a different contact name. I had to spend hours calling to figure out who needed what,” says Ms. Singleton-Clarke, a steely but soft-spoken woman.

After that she was summoned to an IRS office in downtown Washington where she had to provide more copies of her résumé, a job description, and other records. She felt overwhelmed and intimidated.

Both the IRS’s actions and her reactions are typical, says Christopher Bergin, president of Tax Analysts, a group that fights for tax-system transparency and since l972 has won a series of freedom-of-information cases against the IRS. “Without doing anything illegal, they muscled her. That’s what they do. The pressure can be terrifying,” he says.

A spokesman for the IRS says that it never comments on issues with specific taxpayers.

As Ms. Singleton-Clarke held fast to her conviction that she deserved the deduction, she drew on skills she developed as a nurse responsible for dealing with doctors who may have infringed hospital rules. That was why she studied for her M.B.A., she says: “I didn’t want to feel outmatched by surgeons who didn’t want to talk to me.”

When the IRS again denied her deduction by mail after her meeting with the agent, Ms. Singleton-Clarke wound up going to Tax Court to set a trial date. But when she came to court in November 2008, it seemed that everyone else had settled their cases: “There was just me by myself at one table and the [IRS] tax team at another in a big courtroom.”

The tax team consisted of two attorneys and several assistants or paralegals. Ms. Singleton-Clarke had been told to bring copies of her documents in triplicate, including a time line of her career. Judge Stanley Goldberg questioned her closely and complimented her on her record-keeping during the hour-long trial. “The whole time,” she says: “I was thinking, here is this god-like man who is going to make an important decision for me. But he wasn’t a bully. I had met with the bullies before.”

Reached Friday by phone, Judge Goldberg said: “I remember the case well because Ms. Singleton-Clarke was so articulate and well-prepared. Too many taxpayers are not.”

Ms. Singleton-Clarke’s victory came when the ruling was issued a year later. It is unusual in that it helps not only her but others as well. Decisions in small cases aren’t allowed to be cited as precedent. “But everyone uses them,” says Melissa Labant, a tax expert with the American Institute of CPAs. “This case definitely provides a road map others can use, especially M.B.A. students.”

http://online.wsj.com/article/SB10001424052748703535104574646582965101664.html?mod=rss_Taxes

For small business, the current economic climate has been challenging and addressing those challenges means reassessing processes and coming up with new ways to accomplish more for less.  We can’t do much about factors external to our businesses, but we often have full control over what we may do internally.

One of the areas that many small businesses tend to overlook is the use of technology to increase efficiency of service delivery while reducing the related costs.  Using technology, I’ve created a virtual workplace for my practice with the primary results being the following:

• More enjoyment and flexibility.  Work can fit around life rather than the other way around.
• More efficiency, higher productivity and higher levels of client service.
• A reduction in the cost to deliver the services.  Depending upon the specific technologies deployed, the savings can be significant.

In the next 10-20 years, if not sooner, office space will become obsolete as virtual workplaces become the norm.  If anything, the current economic conditions will accelerate this trend as space costs tend to be the second largest expense for most businesses after wages. Larger corporations are already moving towards remote workplaces, while small businesses lag in adopting this mainly because they lag in the usage of technology.

The types of businesses where the virtual office setup works very well are generally CPA firms, law firms, engineering firms, architects or any other business where one uses technical expertise with computer systems.   These sorts of businesses tend to be paper intensive, which happens to lend itself well to a virtual office setup once there’s a decision made to go paperless.  Also, most of these businesses maintain office space to three reasons: a place to work, a place to store client files and a place to meet clients.  With the virtual office setup, you only need an office to meet clients and that alone means space costs can be substantially reduced.

Going virtual means far more than just having e-mail and internet access.  You have to figure out a way for normal office functions to be accessible to you wherever you may be.  The main things that you need to be accessible are:

• Telephone answering and call screening.
• Faxes
• Your remote desktop
• Your work files.  For me, these are my client documents

There are many technologies that are inexpensive to deploy and that I’ve used in by own business to set up the virtual workplace for me and my staff. Here are the specific technologies I’ve deployed and the related costs the technology has reduced:

I have a couple of employees who work remotely as well and I’ve deployed some additional technologies to manage my small remote workforce.   Here’s what I’ve found about managing remote workers:

• Remote workers love it and they’re more productive as a consequence as they can integrate their work life with their personal life.  You will need to carefully screen who you do this with however, as not everyone likes to work independently.  Folks who just have to have the water cooler conversation aren’t good candidates.  The same applies to those who can’t work with the technology.
• Less supervision and less unscheduled interruptions.  My work style is such that I dislike a lot of unscheduled or unnecessary meetings or discussions.  The remote workplace I deployed virtually eliminates this and I manage the people and projects using a project management platform that’s deployed over the internet.  This means that I respond to questions when I schedule it rather than the “fire drill” situation of dealing with client calls and questions from staff at the same time.
• Expanded recruitment pool.  My firm prepares the sorts of tax returns that require well experienced and knowledgeable CPA’s.  As the need is seasonal, it’s difficult to find the people.  Moreover, there’s a shortage of these individuals generally and more so in the Lehigh Valley.  Since the workplace is remote, my recruitment pool is expanded which addresses the shortage problem.

In summary, the virtual office setup for my firm has revolutionized how I work, has reduced operating costs and has made my business far more enjoyable to operate.  I highly recommend it.  As with most things like this, it must be led from the top to be effective, so the big challenge in deploying this for most small businesses is the lack of commitment from the top, particularly if management is wedded to the old way of doing things.