How to Prevent Tax Identity Theft

The start of a new year is a time for fresh starts and new goals, but it’s also the beginning of the oft-dreaded tax season, which means Tax identity thieves are on the lookout for information they can use in order to create fraudulent tax returns. Here are some tips to help protect yourself from tax identity theft during tax season.

File Early to Prevent Tax Identity Theft

Tax-related identity theft most commonly occurs from February to early March because thieves want to beat real taxpayers to the punch by filing fraudulent returns before legitimate ones. Because the IRS allows only one tax return per Social Security number per year, your best defense against identity theft is to file your taxes as early as possible.

Use E-File Instead of Postal Mail

An e-filed tax return arrives instantly at the IRS, which then sends back an acknowledgement receipt. At this point you’ll be notified if there’s any suspicious activity, such as possible identity theft. The quicker you know, the quicker you can deal with it. Before you e-file, however, be sure that your firewall, antivirus, and anti-spyware software are all up to date. If you do send your tax return in by post, think about taking it directly to the post office rather than letting it sit in your mailbox.

Don’t Fall for Scams

The IRS will not contact you by phone, email, or text to ask for personal or financial information. Never give out your Social Security number, passwords, PINs, and credit card or bank information to someone who reaches out via these channels. Official correspondence from the IRS is issued in the form of a letter and sent through the mail. However, scammers are getting increasingly clever, and sometimes phony links can look just like the real IRS website. If you ever have questions about the legitimacy of an IRS related query, your best bet is to call the IRS at 800-829-1040.

Protect Your Financial Accounts

Start by using a different password for each of your financial accounts, preferably one that combines letters, numbers, and special characters. It’s also wise to use a two-factor authentication when available, which requires you to verify your login—typically a code sent via call or text.

How to Report Tax Identity Theft

If you’re a victim of tax-related identity theft, you’ll find out when you try to file your return and learn that a return has already been filed with your Social Security number, or you’ll receive a letter from the IRS stating that a suspicious return using your Social Security number has been identified. If either of these happen, you should do the following:

  • Complete a paper return. As shocking as it is to learn that you’ve been the target of identity theft, you still need to file your tax return. In order to avoid tax penalties or late fees, submit a paper return by the filing deadline.
  • Go to IdentityTheft.gov to file a report with the FTC and IRS.
  • File an Identity Theft Affidavit (Form 14039). Fill out and attach this form to your paper return. It will make its way to the Identity Theft Victim Assistance Organization, which will work on your case. Be prepared to submit various forms of documentation proving your identity.
  • Contact the three major credit bureaus—Equifax, Experian, and TransUnion—and ask them to place a fraud alert on your credit records. You should also consider asking them to freeze your credit in case the thief should try to open new credit accounts in your name.
  • Request a copy of the fraudulent return via Form 4506-F. Seeing the fraudulent return will help you determine the specifics of the theft, such as what family information has been compromised.
  • As a precaution, delete any stored credit card numbers from shopping sites and change saved passwords to online accounts.

 

If you have questions on tax identity theft or would like to discuss your 2019 tax return, please feel free to email me at dkittell@mkrcpas.com or call 317.549.3091.

Break Bad Financial Habits and Make Your Money Work for You in 2020

Even those of us who have the best intentions with our money can fall victim to bad financial habits, which can cause unnecessary stress and anxiety. Some of the most common bad habits we fall into include:

  • Impulse spending
  • Not budgeting (or not sticking to a budget)
  • Spending more than you earn
  • Relying on credit cards
  • Falling into the trap of convenience

Breaking bad financial habits takes time, intention, and effort. Below are some ideas for starting better habits to get your money to work for you.

Start an Emergency Savings Account

This isn’t anything you haven’t been told before, but if you want to quit the cycle of credit card debt, you’re going to need a savings account to fall back on in times of financial hardship or unforeseen costs. Start with a goal of saving $1,000 specifically for emergencies, so next time your car needs work, for example, you’ll have the funds to pay for it rather than sinking farther into credit card debt.

Budget

Nothing says “taking control of my money” like creating a budget that works for you. When you assign a purpose to every dollar, not only are you actively monitoring your income and spending habits, but you’re avoiding debt and reaching your financial goals more quickly. The trick is sticking to it. It’s important to track your spending monthly, and revisit your budget at the beginning of each month, adjusting as needed with the goal of spending less than you bring in. If you know you have a bigger expense coming up later that month, or even in a few months, you’ll have a big picture of your finances and you can begin to make a plan for saving. You can also decide what your priorities will be for that month, and start saving toward your goals.

Make a Plan to Get Out of Debt

Credit cards, student loans, and car payments eat into your budget, and limit the amount of money you can put toward retirement and other financial goals. In short, debt limits your choices.

One popular and time-tested method of getting out of debt is often referred to as the snowball method. You start by paying off the smallest debt, then once that’s paid off, you add that monthly payment toward the next smallest debt until that one’s paid off. For example, if your smallest debt is a doctor bill for $200 and you make arrangements to pay $50 per month until it’s paid off, for the next four months you’ll pay that $50 to your doctor’s office while paying the minimum on every other debt. Once the doctor bill is paid in full, you add that $50 to the monthly payment of your next smallest debt while continuing to pay the minimum on your other larger debts. As each debt is paid off, you’re adding more to the next debt and building momentum until even your largest debt is paid off.

Save for the Future and Start Investing

Once you set up an emergency savings account and pay off your debt, you can begin to save more aggressively. The first step is to bulk up your emergency savings fund to the equivalent of six months of living expenses so you’ll have something to fall back on in case of a major unexpected life event, such as a job loss. Once this is accomplished, you can grow your wealth by investing your money. You’ll need to work with a financial planner to help advise you in investments and diversify your portfolio.

Stay Focused

It’s easy to get off track and lose focus when paying off debt, keeping on track with your budget, and saving for the future, so it helps to have some goals in mind. Whether your goals include a vacation home on a tropical island, paying for you child’s college education, or achieving early retirement (or maybe all three), keep these goals at the forefront of your mind whenever you lose steam. You can even create a vision board and put it someplace where you’ll see it every day, reminding you that good financial habits will pay off in the end.

If you have questions on setting healthy financial goals or would like to discuss your 2019 tax return, please feel free to email me at pmcallister@mkrcpas.com or call 317.549.3091.

Essential Year-End Tax Tips

As the clock winds down to the end of the year, there are a few last-minute money moves to make in order to lower your tax bill.

Maximize Your 401(k) and HSA Contributions

While tax deductible contributions can be made to traditional and Roth IRA accounts until April 15 of 2020, the deadline for 401(k)s and HSA accounts is December 31 of this year. You can contribute up to $19,000 to a 401(k), 403(b), most 457 plans, and federal Thrift Savings Plans (plus $6,000 in catch-up contributions for those who are 50 or older). As for HSA accounts, the maximum contribution for 2019 is $3,500 for individuals and $7,000 for family coverage. And if you’re 55 or older you can contribute an additional $1,000.

Start Thinking About Retirement Contributions for 2020

Retirement contributions to 401(k)s have increased for 2020. Individuals can contribute $19,500 next year, and those 50 or older can contribute an additional $6,500. If you prefer to spread out your contributions evenly throughout the year, you’ll need to adjust your monthly contribution amounts by January.

Take Advantage of Your Flexible Spending Account

Funds in a flexible spending account revert back to the employer if not spent within the calendar year. Some companies might provide a grace period extending into the new year, but others end reimbursements on December 31.

Prevent Taxes on an RMD with Charitable Donations

After seniors reach age 70 ½ they must take a required minimum distribution each year from their retirement accounts (an exception to this rule is a Roth IRA account). Seniors who aren’t dependent on this money for living expenses should consider having it sent directly from the retirement account to a charity as a qualified charitable distribution, effectively preventing the money from becoming taxable income.

Consider a Roth Conversion

Because withdrawals from traditional IRAs are taxed in retirement while distributions from Roth IRAs are tax-free, you might think about converting some funds from a traditional IRA to a Roth IRA. Just be sure this move doesn’t tip you into the next tax bracket. You’ll need to pay taxes on the initial conversion, but the money will then grow tax-free in the Roth IRA.

Take Stock of Losses

Sell any losses in stocks for a deduction of up to $3,000, but be aware that purchasing the same or a substantially similar stock within 30 days of the sale would violate the wash-sale rule. If that happens your capital loss would be deferred until you sell the new shares.

Meet with a Tax Advisor

If you’re unsure whether or not you’re ending the year in a favorable tax bracket, check in with an advisor who can identify actionable steps to reduce taxable income through retirement contributions or itemized deductions.

The Difference Between Tax Credits and Tax Deductions

When doing your taxes, the goal is to maximize the tax credits and deductions for which you’re eligible. But tax credits are worth more than deductions with the same value, so knowing the differences between the two will help you save money on taxes.

Key Difference

Both credits and deductions lower your tax bill but in different ways and with different outcomes. Tax credits lower your tax liability while tax deductions reduce your taxable income. For instance, someone who’s in the 25% tax bracket with a $100 tax credit will save $100 dollars in taxes, but if that same person has a $100 deduction, they will only save $25 in taxes (25% of $100).

Tax Credits

Tax credits are a dollar-for-dollar reduction on your tax bill, regardless of tax rate, which explains the $100 savings with a $100 tax credit in the previous example. Taking advantage of eligible tax credits after applying all deductions will help to slash your taxes due. Some of the more popular tax credits include:

  • Earned Income Tax Credit (EIC or EITC)
  • Child Tax Credit
  • Child and Dependent Care Credit
  • American Opportunity Tax Credit
  • Lifetime Learning Credit
  • Adoption Credit
  • Saver’s Credit
  • Residential Energy Tax Credit

Refundable Tax Credits vs. Non-Refundable Tax Credits

Some tax credits are refundable while others are not. When you claim a refundable tax credit that exceeds your total tax liability, the IRS will send you the difference. For example, if your tax liability is $1,000 and then you apply your EITC, which is $2,500, you would use that $2,500 to pay your liability and the remaining $1,500 would be refunded to you. By contrast, a non-refundable tax credit can reduce your federal income tax liability to zero, but any leftover balance from the credit will not be refunded.

Tax Deductions

There are two types of tax income deductions, which reduce the amount of income you’re taxed on: itemized deductions and above-the-line deductions.

Itemized Deductions

Itemized deductions are certain tax-deductible expenses that you incur throughout the year. For some taxpayers, those expenses add up to be greater than the standard deduction amount, in which case, they should itemize their tax returns rather than take the flat-dollar standard deduction. Keep in mind that if you plan to itemize, you should accurately track your spending throughout the year, and keep supporting documentation (receipts, bank statements, check stubs, insurance bills, etc.) in the instance that IRS would ask for proof.

Common itemized deductions include:

  • Medical expenses
  • State and local income taxes
  • Property taxes
  • Mortgage interest
  • Charitable contributions

The standard deduction is a fixed amount that varies in consistency to your filing status. For 2019 returns, the standard deduction is:

  • $12,200 for single filers and married filers filing separately
  • $24,400 for married filers filing jointly
  • $18,350 for heads of household

Above-the-Line Deductions

If you claim the standard deduction, you can use “above-the-line” deductions, which reduce your adjusted gross income (AGI), to lower your tax bill. Some of these deductions are:

  • Health savings account (HSA) contributions
  • Deductible contributions to IRAs
  • The deductible portion of self-employment taxes
  • Contributions to self-employed SEP-IRA, SIMPLE IRA, and other qualified plans
  • Self-employment health insurance premiums
  • Penalties on early savings withdrawals

Above-the-line deductions typically aren’t as valuable as tax credits, but they help to lower your AGI, which can slash your tax liability and qualify you for other tax breaks based on income limits.

Holiday Spending: Make a Financial Plan and Avoid Going into Debt

With fall in full swing, it’s the perfect time to start drafting a financial game plan for the holidays in order to avoid overspending, plunging into debt, and piling stress on top of an already stressful season. Here’s how you can hatch a holiday plan for this year and start saving for next year.

Create a Holiday Budget

You’ll first need a solid understanding of your financial situation. How much do you have in savings, and how much of that can be allocated to holiday spending? Or maybe you don’t have enough in savings, or you don’t want to dip into savings, preferring to rely on your discretionary income after monthly bills have been paid? Once you have a full picture, create a budget that works with your current financial circumstances.

It also helps to be mindful of optional spending over the next couple of months. For example, cut back on dining out and retail therapy. You could even cancel some monthly subscription services until after the holidays.

Next, using your budget as a guide, make a list of the items that you’d like to get for everyone on your list along with a set price point for each item. This might take a little research, but having a specific gift in mind and knowing the average market price will help to avoid making impulse purchases. This will also help to cut through the noise of holiday ads and promotions and hone in on sales and discounts for only the items on your list.

Don’t Lose Sight of Additional Holiday Spending

Keep in mind that gifts aren’t the only expense that will cut into your budget. Plan to be frugal with holiday meal shopping, including extra treats and baked goods. Don’t purchase something simply for the sake of tradition and try instead to tailor your holiday meal planning around the actual likes of the people who will be attending your get-togethers. This cuts back on both food waste and money waste. Other often overlooked expenses include gift wrap, holiday cards, mailing costs, and travel expenses.

Make a Plan for Next Year

To make a plan for next holiday season, start by tracking your spending during this holiday season to get a blueprint for average expenses. Then, decide on which strategies you’ll employ for next year’s savings. Here are a few suggestions:

  • Open a holiday savings account. These are typically offered by credit unions, and they are often locked so you can’t access them until the holiday season.
  • Set aside a portion of every paycheck specifically for holiday spending. You can even set up automatic transfers into a separate savings account, building the habit of saving in a “set it and forget it” way.
  • Try the popular 52-week savings challenge. Start by saving $1 the first week of December, then $2 the next week, $3 the following week, and so on. By next holiday season you’ll have nearly $1,400 saved.

With a little foresight and preparation, holiday expenses don’t need to add stress to the festivities of the season.

How to Maximize a 529 Plan Amidst Increasing College Costs

Enrolling in a 529 plan is the first step toward conscious planning for your child’s college education, but don’t stop there. With college costs rising steadily — over 168 percent over the last 20 years, according to U.S. News — it’s important to maximize the value of your plan to ensure you reach your college savings goals.

First, it’s important to know the specifics of 529 plans. For instance, there are two different types of these state-sponsored plans available:

  • Probably the most well-known, the college savings plan allows your money to be invested in a variety of ways, such as mutual funds and the like, and it will compound interest over time. The account will go up or down in value based on the performance of the investment options.
  • A pre-paid tuition plan allows savers to purchase units on a credit-based system to put toward tuition and fees for campus living, excluding secondary expenses such as room and board. Because prepaid plans allow you to lock in current tuition prices, if budgeting is a priority, this plan might be the best fit. Just be sure to check which colleges and universities participate in the plan because not all do.

Start early

Because 529 plans compound tax-free over time, starting early gives you an advantage. The longer the money is in the account, the more time it has to grow.

Take Advantage of Automatic Contributions

Automatic contributions to 529 plans can commonly be withdrawn from a linked checking or savings account. This makes it easier to stay on track to reach your goal. If financial situations change, account holders can adjust this setting in their account and continue to make contributions when it’s practical.

Be Mindful of Rules and Fees

Like IRAs, you make yourself vulnerable to penalty fees if you withdraw earnings from a 529 plan too soon, like withdrawing funds before the beneficiary’s tuition bill is due, which could incur a 10% penalty fee. Likewise, withdrawing more than allotted for qualifying expenses that year will prompt a fee. Though non-qualifying expenses, like medical bills, will provoke a penalty fee, there are some exceptions to this rule, such as if the beneficiary receives a scholarship or another type of educational assistance.

Both prepaid and college savings plans typically include enrollment and administrative fees when you withdrawal funds, but college savings plans may also add an assessment management fee.

Cut the Middle Man—You

An effective way to use your 529 funds to ensure that you’re not taking out more than your expenses, and thereby causing a tax liability, is to have the plan pay the costs directly to the school with direct payment.

Know How Your State Operates

Individual states make their own rules for 529 plans, so in whichever state you set up your 529 plan, it’s important to understand that state’s benefits, drawbacks, rules, and fees. State income tax deductions will also vary by state.

Withdraw from the Correct Fund

If you have more than one 529 plan, be sure you’re not just randomly withdrawing from any of them, or simply withdrawing from the account with the highest balance. Gauge each plan’s growth potential to determine which one has the best investment growth rate, and tap into those savings to receive the best tax breaks.

Involve Extended Family

Relatives have the ability to contribute to or open a 529 plan to help alleviate the burden for parents and students, and the contributor is eligible to take a deduction as long as it’s offered by that state.

Knowing the ins and outs of a 529 plan can be complex, but the simplest way to maximize your plan is to start early, allowing the funds to accumulate over time.