With this in mind, I have two wishes for you and your household. The first is a blessed Christmas, Hanukkah, and Holiday Season and a happy, healthy, and prosperous New Year!

My second wish? If you’re a business owner, it’s to distract you long enough (just a moment, promise) to remind you that tax cutting must happen before the year ends. And - as you know - little is more festive than trimming one of your most significant expenses - TAXES!

To this end, I have composed a list of seven deductions designed to keep more of your hard-earned income where it belongs – in your pocket!

1. Section 179 Deduction: The title of this expense references the portion of the tax code allowing it. Through the Section 179 expense, business owners can deduct a selected amount of qualified assets purchased (and placed in service) during the year. In other words, owners can minimize tax and influence certain income-based credits by choosing the optimum Section 179 deduction amount.
   
   Qualified assets include most property used in a business, such as tools and equipment - pretty much any purchase not categorized as real estate. Like many sections of the tax code, however, there is a special carveout for improvements made to the interior portions of leased commercial real estate that will qualify for Section 179. This carveout is called Qualified Improvement Property. There is also another, albeit riskier, way to bypass the real property restriction through a tool called the segregation analysis (I’m not going to elaborate – some players abuse it).
   
   Many Vehicles Have Limits: It’s worth noting that although vehicles qualify for the Section 179 deduction, many passenger vehicles have limits, so make sure you do a little research before making the purchase.
   
   Used Assets Qualify: Qualifying assets must be new to your business, but they do not have to be brand new. Used tools, equipment, and vehicles can qualify.
   
   Deduction & Purchase Limits: There are annual limits on the Section 179 deduction. For 2023, this limit is $1,160,000. There are also restrictions on the amount of Section 179-qualified assets placed in service during the year. For 2023, this limit is $2,890,000. Once a business exceeds this limit, the allowed Section 179 Deduction is reduced dollar-for-dollar.
   
   Section 179 & Losses: The Section 179 Deduction can reduce business income to zero but cannot generate a loss. Any excess gets carried over to the following year. This loss limitation is confusing because business income can include W2 wages, which may cause the deduction to create a business loss after all.

2. Bonus Depreciation: Bonus Depreciation (also called the Special Depreciation Allowance) is similar to the Section 179 expense in that it allows businesses to depreciate a large portion of an asset’s cost in the year of purchase/placement-in-service. For several years, this percentage was 100% asset cost. However, for 2023, the bonus amount is 80%, and the rate decreases by 20% each consecutive year until it reaches zero in 2027 (or Congress changes the law, which is likely).
   
   Assets that qualify for bonus depreciation are very similar to those allowed for Section 179 (including used property). Vehicles may also have limits, even when combined with the 179 Expense, so research before purchasing. Here are a few other differences worth noting:
   
   Bonus is Mandatory (kind of): Bonus depreciation is mandatory for qualifying assets placed in service during the year. The only way to avoid it is to opt-out by attaching a statement to your tax return. When electing out of bonus depreciation, you must elect out for an entire class of assets for the year. Assets sharing a class have the same depreciable life (number of years over which they get depreciated).
   
   Bonus Can Cause Losses: Unlike Section 179, Bonus Depreciation can and will generate a loss when depreciation plus other expenses exceed income.
   
   Warning: Although creating a loss to offset other nonbusiness income is tempting, it may not be in your best long-term interest. Income rates are marginal (increase as income rises), and the self-employment tax (FICA for business owners) can be 15.3% of business income. Because of these two variables, having the depreciation available in future years may save a lot more tax than taking it all at once.

3. No Employees (except you)? Consider a SEP: SEP stands for Simplified Employee Pension. It allows employers to contribute and deduct up to 25% of employee W2 earnings toward retirement up to $66,000 for 2023. The allowed contribution is a percentage of profit, not wages, for those self-employed (not employees of their own companies). For these individuals, the calculation is more complex. It’s still 25% after deducting 1/2 of the self-employment tax and the SEP contribution. You need an IRS table or calculator to determine your exact percentage, but the maximum is 20% of profit instead of 25%.
   
   Another benefit, in addition to the high contribution limit, is that – for those who are self-employed - your contribution can be calculated after your income and tax is determined. So, you can use it to influence the tax you end up paying for the year. Also, contributions do not have to be made until the due date of your return, including extensions if one gets filed. Plus, you can have a 401k at your W2 job and contribute to your SEP through your business!
   
   Having Other Employees: If you have employees other than yourself, consider whether a SEP is financially viable. Why? Because, once employed for a specific period (generally three years), you must contribute the same percentage of their earnings to all SEP accounts, yours and theirs.
   
   Of course, this article provides only general information regarding the SEP (and there are many plans to choose from). Be sure you talk with a retirement professional before establishing any retirement plan.

4. Pay Expenses in Advance: This may seem an obvious tip, but many owners fail to utilize it. Paying future costs before the year’s end can create significant savings, at least for one year. After that, maintaining the tax cut must become an annual tradition. The process is as simple as it sounds. As the year’s end approaches, stock up on supplies you know you will need over the following months – paper, folders, lightbulbs, etc. Advance payments on contracts and services are also allowed – rent, advertising, cell phones, and utilities (as long as advance payment is allowed). Remember – every $100 business deduction can save up to $40 in taxes!
   
   But remember the twelve-month rule when doing so: The business must consume stockpiled supplies and pre-paid costs within twelve months or the end of the following year, whichever comes first.

5. Don’t Forget the Kids! If you have children old enough to perform light duties around the house (in the old days, these were called chores), consider hiring them in your business. Hiring the kids is simple, especially if you already have employees.
   
   Hiring your progenies creates several tax-cutting and saving opportunities. First, the Standard Deduction increased substantially after the passage of 2017’s Tax Cut and Jobs Act. For 2023, it’s $13,850. Then it jumps to $14,600 in 2024. That’s the amount your children can earn completely federal tax-free! Here are a few pointers, highlights, and guidelines:

   Avoid FICA & Other Taxes: If your business is a sole proprietorship or a partnership, the wages are not subject to social security, Medicare, or federal unemployment (likely state as well). Those who own C or S corporations cannot save these taxes, but the income tax savings will likely offset the cost.
   
   Note - You cannot avoid FICA and unemployment by hiring your grandchildren, regardless of your business structure.

   Income Not Subject to the Kiddie Tax: This tax applies to unearned income (such as interest, dividends, and capital gains), not earned income from wages.

   Allows Saving for a ROTH IRA: As soon as your child (or grandchild) has earned income, they can start saving for retirement. If they have $20,000 to $25,000 in a ROTH in their early 20s, the magic of compound interest can transform that small nest egg into over a million dollars when it’s time for them to retire!

   Section 529 Savings: Your hardworking kiddos can even set aside some of their earnings to save for college in their own 529 plans and, if they owe state tax, maybe even get a deduction.

   Pay Must Be Reasonable: The IRS knows it’s tempting to shift $13,000 of taxable income to each child each year to cut the parent’s bill. That’s why the pay must reflect the value of the work completed. Use your state’s minimum wage laws as a baseline gauge and track each child’s hours and responsibilities.

   Follow Child Labor Laws: Also, tasks performed must reflect the child’s age and skill. Federal and state laws govern the hours young people can work and duties that may be off-limits. Be sure to follow them.

6. Turn Donations into Advertising: Many business owners must support religious organizations and local charities. They do not contribute to get a tax deduction, but it’s nice when it happens. Unfortunately, the same standard deduction that allows tax-free earnings for our children makes such charitable tax savings increasingly rare. But – there’s a tax-cutting alternative –you’re your contributions into deductible business expenses.
   
   When a business makes charitable donations, there is (and should be) an ulterior motive - establishing goodwill and promoting itself to the community. That sounds a lot like advertising because it is. But, as discussed in my book - The Real Estate Agent Tax-Cut Library - be sure to trade each donation for a tangible business benefit. How? Get your business in front of the public through an advertisement, banner, plaque, sign, or something that turns the donation into public recognition and advertising. It’s a Win-Win!

7. Subtractions from Adjusted Gross Income: The last tip on our list is to remind you of tax savings many business owners overlook. These deductions are not on your business return. These adjustments appear on page two of Schedule One. They reduce your Adjusted Gross Income and, therefore, federal (and often state) tax. As you will see if you click the link above, quite a few adjustments exist. Here are the ones most commonly overlooked by business owners:
   
   Health Savings Account Deduction – if you have a high deductible health insurance plan (many of us do, unfortunately), see if it qualifies and establish one.
   
   Deductible Part of Self-Employment Tax – if you’re a sole proprietor or in a partnership, you pay self-employment tax (social security and Medicare). Half of it gets deducted here.
   
   Self-Employed SEP, Simple, and Other Qualified Retirement Plans – We discussed the SEP above, but there are other plans the self-employed may be able to contribute to.
   
   Self-Employed Health Insurance – Business owners can deduct the cost of health insurance paid through a business-owned/sponsored plan (which is broadly defined).
   
   IRA Contributions – If you don’t have a SEP or other retirement plan, you may qualify for a traditional IRA deduction. Note - income limits and special rules exist if you (or your spouse) have another retirement plan. If eligible, you can contribute up to $6,500 for 2023 ($7,500 if 50 or older) and $7,000 for 2024 ($8,000 if 50 or older). Contributions are deductible up until your return’s non-extended due date.

Wrap’in It Up: So, there they are, seven tax-cutting business tips. For most business owner, their most significant single expense is taxes. Remember these tips as you develop a (legal) tax-cutting mindset. They’ll help keep some of your hard-earned income in your pocket.

Want to learn more about tax-cutting and growing your business? Check out our courses at Overnight Accountant. Need help with your taxes? Reach out to us at Real Estate Tax Pros.

1. Start saving money for the child each month as early as you can. As little as $75 per month for 15 years will result in over $20,000 if it averages 7% earnings.

2. As soon as the child has earned income (required to fund a ROTH) from a part-time job, open and start transferring money to the ROTH up to the annual limit.

3. Don’t tell them about the ROTH. If you have to, downplay it so they forget it’s there.

Section 529 Interplay: We will revisit this topic as a stand-alone newsletter article later. The new 529-ROTH rollover rules may make it even easier to achieve current tax-advantaged savings to fund the ROTH while protecting the funds from the beneficiary’s youthful-priority looting.

What many are not aware of is a PERSONAL (NOT real estate) Property Tax Rebate created by the same law. The rebate/credit was a compromise to provide relief without amending the state constitution (a resolution that failed in the previous election). The credit also keeps property tax local - in your county’s hands to fund schools and local services.

The rebate takes effect in 2024 as a credit on that year’s income tax return (filed in 2025). In this newsletter, I’ll tell readers what they need to know to maximize their savings.

[Note - There is also a new non-vehicle business personal property tax credit which I will discuss in a separate newsletter]

The Motor Vehicle Property Tax Adjustment Credit

Yep, that’s what it’s called, and it’s a broad rebate of tax paid on a variety of vehicles (including non-motorized trailers) by a wide swath of individuals and organizations. Here are answers to some common questions:

How Much is the Credit? The credit (rebate for those not filing a tax return) equals 100% of the vehicle personal property tax paid during the tax year. That’s right, 100%!

To qualify, the tax must be paid by its due date. Late-paid and delinquent taxes do not qualify.

Also, the Credit is Refundable - this means that if the credit amount exceeds your tax due, you will get the difference paid to you as a refund. Even corporations can receive a refund.

When Does the Credit Become Available? The law takes effect on January 1st, 2024, so tax timely paid in 2024 qualifies for the credit. And here’s the kicker - the rebate continues until changed or repealed - 2025 and beyond.

Which Vehicles Qualify? As mentioned earlier, the credit encompasses a variety of personal property residents pay tax on, including ATVs and trailers.

Here’s a list of vehicle classes that qualify.

• Class A - Cars and Trucks: Passenger cars and trucks with a gross weight of 10,000 pounds or less
• Class B - Trucks: Trucks, truck tractors, or road tractors with a gross weight of 10,001 pounds or more
• Class G - Motorcycles: Every motorcycle, including motor-driven cycles and mopeds, has a saddle and no more than three wheels
• Class H - Buses: Every motor vehicle designed for carrying more than seven passengers or transportation of persons for compensation, excluding taxicabs
• Class T - Trailers: Trailers, boat trailers, or semitrailers of a type designed to be drawn by Class A vehicles with a gross weight of less than 2,000 pounds
• Class V - Antique Motor Vehicles: Antique motor vehicles are at least 25 years old
• Class X - Farm Trucks: Used exclusively for the transportation of farm products and supplies by a farmer
• ATVs - W. Va. Code § 20-15-2: All-Terrain Vehicles - Any motor vehicle designed for off-highway use and to travel on not less than three low-pressure tires, having a seat designed to be straddled by the operator and handlebars for steering control and intended by the manufacturer to be used by a single operator or by an operator and no more than one passenger

Which Vehicles Do NOT Qualify?

• Class C - Trailers and Semi-Trailers: For example, larger trailers not designed to be carried by Class A Cars and Trucks. They also weigh more than 2,000 pounds.
• Class J - Taxi Cabs: Motor vehicles used for transporting persons for compensation. Note: If you work part-time for Uber, your vehicle is likely still a Class A.
• Class M - Mobile Equipment: Self-propelled vehicle not designed for transporting persons or property over the highway, even if it incidentally travels between job sites. This includes farm equipment, implements of husbandry, well-drillers, cranes, and wood-sawing equipment.
• Class R - Travel Trailer Vehicles: Recreational Vehicles —vehicles designed to provide temporary living quarters for recreation, travel, or camping use.

As you can see, this is an extensive selection of qualifying assets (sorry - your RV didn’t make the cut). What is especially surprising is that individuals and businesses qualify for the credit!

Who Qualifies for The Credit? Individual taxpayers qualify, So do Partnerships, S-Corporations, LLCs (sole proprietorships), and C-Corporations.

Partnerships and S-Corporation will likely pass the credit on to partners and shareholders who will claim the credit on their personal returns.

Even vehicle leasing companies qualify. But, they must pass the savings on to the lessee of the vehicle as a discount or refund. This may prove an administrative challenge, so stay on top of them to ensure you receive it.

Note: If you have a flow-through business (Partnership or S Corp), make sure your preparer knows about this credit.

How Do I Apply? There will be a line added to your 2024 WV Income Tax Return(s). There will also be a form created that attaches. Additionally, be prepared to send us receipts, as we’ll likely have to scan and attach them to your return.

Those who do not have to file returns (primarily due to their income being non-taxable) will also be able to receive the credit through a separate process - likely, mailing a separate form and receipts directly to the state tax department.

Tip: Do NOT Pay the Second Half of Your 2023 Personal Property Tax Bill Until Early 2024

If you’re in the habit of paying for your entire year’s personal property taxes as soon as you receive the bill, make 2023 an exception. Only half of the bill is due in 2023. Make sure you only pay that half. If you pay for the second half before its due date in 2024, you will get it back as a tax credit when you file your 2024 income tax return in 2025. Here’s what else you’ll get back—ALL OF THE PERSONAL PROPERTY YOU TIMELY PAY IN THE FALL OF 2024!

We’ll review these changes in later articles. Today, I’d like to set the stage by reviewing the tax implications of three retirement-saving options: 1) Traditional IRAs and other tax-deferred retirement plans, 2) Skipping retirement plans and purchasing appreciating assets, and, finally, 3) ROTH IRAs and ROTH-like savings vehicles. The difference is significant, and you may be surprised by the results.

Option One: Traditional IRA & Tax-Deferred Retirement

Most of us are familiar with Traditional IRAs (Individual Retirement Accounts) and other tax-deferred retirement plans (SEP IRAs, SIMPLE IRAs, and 401K-like plans). IRA contributions get deducted as an adjustment on Form 1040 or a different return depending on the type of IRA and the owner’s business structure. SIMPLE IRAs, 401Ks, 403-Bs, and other tax-deferred retirement plan contributions are pretax deductions from your paycheck. These plans operate similarly – you put money into them, and the amount gets removed from taxable income. Plus, if your employer contributes on your behalf, it is tax-free to you, and they get a deduction.

[Note 1: If your employer contributes to your 401K, their contributions are 100% free money to you! If you have access to a 401k and want to minimize your tax liability, don’t ask your tax pro for tricks until you max it out – at least to the limit of your employer’s free-money match.]

So, with tax-deferred retirement, every $1,000 you contribute saves between $200 and $350 tax, depending on your state and federal tax rates. Plus, interest, dividends, and capital gains compound completely tax-free!

Does the government allowing income accumulation without taking a cut sound too good to be true? Yep – it is. Tax-deferred retirement has a catch:

When you finally retire, the whole kit and kaboodle get TAXED as ordinary income!

How much tax will you pay? Let’s use John as an example to analyze the taxation of tax-deferred retirement. We’ll then compare the cost of other retirement options.

John – The Hardworking Linesman: John’s a hardworking utility linesman. When he’s forty-two, he realizes he must start saving for retirement. John invests $1,000 in a traditional IRA and uses the money to buy some mutual funds inside the IRA. By doing so, he can deduct the $1,000 contribution on his tax return, saving John $220 because he’s in the 22% marginal federal tax bracket. Let’s assume John’s $1,000 investment grows at a 5% compounding rate for twenty years. So, when John’s ready to retire twenty years later, his $1,000 investment is worth $2,654!

Also, because John got his act together and effectively planned, his income did not drop much in retirement, and he’s in the 22% tax bracket.

[Note 2: The assumption that you will be in a lower tax bracket when you retire is often false.]

John withdraws the entire $2,654 from his IRA in the first year he retires, and the whole distribution gets taxed as ordinary income. John pays $584 in income tax. He is, essentially, paying back the $220 initially saved plus an additional $364 on the earnings!

Option Two: Non-Deferred - Investing in Appreciating Assets

A seminar instructor once said something quite profound about retirement plans, something I have never forgotten. He said, “What’s the big deal about putting all this money into tax-deferred retirement plans? People think they’re getting away with something, like beating the tax man. Do you know what’s really happening? They’re converting capital gains taxed at 15% into ordinary income taxed at a higher rate!”

With this in mind, let’s assume John skips tax-deferred retirement plans altogether. He surrenders the immediate tax deduction and invests his retirement funds in an appreciating asset, such as vacant land or growth stocks. How much tax would John pay when he retired? Let’s take a look.

John doesn’t invest the $1,000 in an IRA. Instead, he purchases some growth stock with after-tax money. John doesn’t get the $1,000 deduction and must pay the $220 on the $1,000 earned to invest. The stock pays no dividends, so he had no income to tax as the stock’s value grew at the same 5% annual rate. Twenty years later, the stock is worth the same $2,654 when John sells it. How much tax does he owe on the proceeds?

The stock is now worth $2,654. John paid $1,000 for it, generating a long-term capital gain of $1,654. Because it’s long-term, the tax rate is $15%, and John owes $248 on the profit.

What’s John’s total tax bill? He paid $220 on the $1,000 initially invested, then $248 on the increased value. That’s a total of $468.

Remember, John would have paid $584 when he took the same $2,654 as an IRA distribution because of his 22% marginal income tax bracket. So, he saved $116 because he didn’t use a tax-deferred account! That’s a tax savings of 19.8%, increasing John’s after-tax retirement income by almost 12 percent!

[Note 3: Other non-deferred investment options are rental real estate and collectibles such as precious metals, antiques, or art, which are taxed differently. Rental properties must be depreciated and may generate “recapture” when sold, generally taxed at 25%. Collectibles typically get taxed at 20%.]

Some may argue that John’s $220 in tax twenty years ago was worth far more than today. I agree, but so was the $1,000 he invested, which makes it a hair-splitting moot point. In fact, in 2003, John’s $1,000 had a purchasing power of over $1,600 today.

Luckily, there’s a way to avoid such time-value arguments altogether. What if I told you there’s a way save for retirement, allow the earning to accumulate and compound, then take distributions completely tax-free? Would you believe there’s a legitimate way to beat half of the proverb related to Death and Taxes? Before you stop reading in disbelief, allow me to introduce the ROTH IRA.

Option Three – The ROTH IRA

The ROTH IRA was birthed in the late 1990s by the Taxpayer Relief Act 1997. A few years later, the ROTH 401K arrived (which, for reasons I’ll discuss in a later article, is a bit of a hassle to manage).

Unlike the Traditional IRA, participants do not get a tax deduction when they invest in a ROTH, so – continuing with our example - John pays income tax on the $1,000 he earns to contribute. Like the traditional IRA, the ROTH earnings accumulate tax-free. But, unlike tax-deferred retirement (here’s THE MIND-BLOWING PART), when John retires, distributions from his ROTH are entirely tax-free! That’s correct. No Tax. Zero. Nada.

So, how does the ROTH tax bill compare to the other retirement options? Let’s take a look.

As you may recall, in option one, John’s tax-deferred Traditional IRA cost him $584 in the $2,654 distribution. When he bypassed tax-deferred plans in option two and invested directly into grown stocks, it cost him $468 in income tax on the income invested and the capital gain generated by the sale.

How about a ROTH IRA, option three? As the rules currently stand, John pays ZERO TAX on the $2,654 distribution! But he has to pay tax on the $1,000 he earned to invest. Because John was in the 22% tax bracket, that’s $220. Even though he’s in the same tax bracket when he takes the distribution, John pays NO TAX on the $2,654.

Here’s a comparative snapshot of taxes owed on the $2,654 under various arrangements:

• Traditional IRA: John pays $584 in income tax upon distribution and has $2,070 left to pay bills and travel.
• Appreciating Assets: $468 total tax - $220 on the income invested (twenty years prior) and $248 Capital Gain when sold, leaving John $2,406.
• ROTH: $220 income tax on earnings invested. Zero tax gets paid in the year distribution occurs. John keeps the entire $2,654. The US Treasury takes zero!

[Note 4: The fact remains that John pays $220 on the income earned to invest in both appreciating assets and the ROTH IRA, which is a factor to consider. However, my experience is that the $220 is - generally - an ancient sunk cost. Retirees, especially those who retain the same tax bracket, are more concerned with how much of their savings remain theirs, not the government’s. And ROTH retirement vehicles provide an answer most of us would like to hear.]

A ROTH Word of Caution

You may have noticed that I italicized the following statement regarding the ROTH taxation - “As the rules currently stand.” Why? Well, your econ-wonky author is concerned (to say the least) that the federal government’s penchant for deficit (debt-funded) spending will not cease anytime soon. Also, the fiscal motive of the SECURE Act 2.0’s ROTH is to reduce the amount of money going into tax-deferred plans. Why? To increase current tax revenue to pay for increased spending!

Eventually, if the current trajectory continues, a fiscal crisis will make continued borrowing impossible, and Congress will eye any viable source of tax revenue. The forbidden fruit sitting in ROTHs likely may prove irresistible. Remember – Social Security benefits payments began in 1940 and were tax-free until 1984. Now, most retirees pay income tax on 85% of benefits.

Take Away

Today, we reviewed the tax implications of three basic retirement options: Tax-deferred retirement plans, investing in appreciating assets, and ROTH retirement plans. The key point I hope to leave you with is that ROTH plans can substantially increase one’s after-tax income in retirement.

By utilizing a ROTH (assuming distributions remain completely tax-free), John ends up with 22% more after-tax income than a Traditional IRA (or other tax-deferred plans) and 15% more than investing in appreciating assets. For every $10,000 distributed, John would have $2,200 more disposable income with a ROTH than a Traditional IRA and $1,500 more than selling an appreciated asset

I wrote this article as both a primer on how retirement gets taxed and as an intro to discussing some significant retirement plan changes made by the SECURE Act, which we’ll discuss in an upcoming piece.

Media Hype & The Audit Myth

The media has played an instrumental role in planting April 15th Stress Disorder into the American psyche. Publicizing the date remains an annual ritual, attracting eyes, ears, and advertiser dollars. Headlines count down the days to the Taxman’s arrival like some dystopian Santa.

Although the headlines and stories remain, coverage was far more sensational before electronic filing. Reporters hung around post offices as midnight approached, interviewing scores of last-minute filers - each clutching a clumsily stuffed envelope and rushing to obtain an April 15th postmark.

Media-induced panic gathers attention and makes money. Their stories fuel barbershop, barroom, and kitchen table discussions about taxation and government theft. It also contributed to ASD by triggering nightmarish speculation regarding the fate of any poor soul who misses the deadline.

You’ll also notice something else about media coverage - they never share the ease and benefits of filing an extension!

The Extension-Audit Myth: Let’s start with this - Tax returns have never, nor are they now, flagged solely because of the date filed. It’s complete nonsense. But, like most fireside tales, the myth may be rooted in two grains of coincidental truth that predate electronic filing.

First, before E-filing started got adopted early 2000’s, the IRS primarily processed returns by hand. It was a daunting and stressful task – wading through growing mountains of envelopes mailed before April 15th. IRS employees had one mission with regard to early filers – shrink the pile! There was little time to double-check math and spot strange deductions. But, a month or so after April 15th, the mountain shrank to a small hill. Workflow became manageable. IRS employees had more time to perform their duties with critical eyes. So, there was a higher chance they would notice errors and anomalies.

Here’s the second grain of coincidental fact. In the early decades of hand-completed tax returns, whose taxes were most likely to go on extension? Business owners and investors. High-earners with inch-thick, super-complex, manually calculated returns. Such returns are more likely to contain unreported income, misapplied deductions, and mathematical errors. It only makes sense that they would also garner more attention.

In either case, filing an extension is not the direct cause of increased scrutiny. Additionally, any correlation went out the window decades ago - when electronic filing and computer algorithms replaced human hands and eyeballs.

Among many tax professionals, a prevailing counter-myth has replaced those of the pre-eflile era. Their speculation holds that filing an extension may reduce audit risk. Why? Because, at some point during the year, IRS attention shifts from current year processing to preparing for next year’s filing season. Programmers are busy writing new code and creating new algorithms; their focus has moved away from the previous tax year. Do these professionals have solid evidence to back up this assertion? Nope.

That’s it – that’s the whole 1955 1040 Tax Library. A total of four forms and schedules:

1. Form 1040,
2. Schedule C for the self-employed,
3. Schedule F for farmers, and
4. Schedule SE for calculating Social Security and Medicare for business owners and farmers.

Here’s a brief history of Form 1040’s due date. In 1913, ratifying the 16th Amendment (the irony surrounding its passage is quite interesting) established the income tax. State approval occurred surprisingly fast and hung on some familiar rhetoric – it would only apply to the rich who would “finally pay their fair share” back to society. At first, only married couples earning over $4,000 per year and single individuals earning over $3,000 had to file and pay income tax. Such income levels in the early 1900s’ placed filers among society’s elite. For perspective, consider the following: A highly paid union worker in 1923 (ten years after enactment - the earliest year I could find records) earned about $50 per week, or $2,600 per year. Additionally, two-earner households were rare. The result: Only 1% of Americans filed a tax return in the early years of Form 1040’s existence.

The original due date was March 1st, then quickly became March 15th. The reasoning for a March due date was two-fold. First, it gave the filers ample time to collect their materials and complete the simple form. Second, and most interestingly, Congress wanted their returns (and money) before they fled to their summer homes or left the country for vacation.

Now, let’s fast forward to 1955, when the due date changed to April 15th. Because of World War I, the Great Depression, and World War II, the size of government ballooned into a miniature horror of what it is today. Spending and debt soared. Someone needed to pay for it. Who would it be? If you guess the middle class, congratulations.

By 1955, actual (inflation-adjusted) incomes had increased substantially along with the standard of living. As income increased, the Form 1040 filing threshold decreased. The percentage of households required to file returns became close to what it is today. [I have not done the research but am willing to bet that, due to social welfare payments running through today’s 1040, a higher percentage of Americans paid income tax in 1955.]

By 1955, Form 1040 had also become a much-simplified version of today’s tax return. It was only four pages but included sections for types of income, itemized deductions, and personal exemptions. It referenced tables used to calculate tax. Only two credits appeared: One for dividends and another for retirement income. Completing Form 1040 now required math skills and interpreting cross-eyed instructions, making it complex enough to hire professional assistance.

So, why did Congress claim they gave filers an additional month to meet their civil obligation? FORM 1040 HAD BECOME TO DANG COMPLICATED. A secondary reason (which may be the primary reason if the concern for voting taxpayers was feigned) for changing the due date is that the IRS was overwhelmed by the growing number of returns filed. Employees needed additional processing time before the law required Congress to pay interest on refunds.

But, if we accept the premise that Congress cared about voters and changed the due date from March to April 15th due to increased complexity, why has the date remained the same for 60+ years? Considering: 1) the exponentially higher difficulty of today’s tax return vs. 1955’s and 2) The current state of the Internal Revenue Service (if you haven’t noticed, let me tell you - it’s a mess), why hasn’t the April 15th due date changed to June or July? Why hasn’t the IRS worked to dispel these extension myths and promote its role in reducing fraud, errors, and the need for amending returns?

These are legitimate questions. Until they are answered, all we can do is educate filers about the importance of filing extensions and draw the following conclusion:

Conclusion - Change the Date! In 1955, Form 1040’s due date was changed from March 15th to April 15th because of the burden complexity placed on filers and IRS employees. Let’s put this burden into perspective. In 1939, the entire US tax code was 504 pages long. By 1955, it had grown to roughly 14,000 pages. Form 1040, including all schedules, was four pages long, plus an additional form for business owners and farmers. By 2014 (nearly a decade ago), the US tax Code had grown by over 500% since 1955 to over 70,000 pages! According to the Tax Foundation, the code now contains over 1 million words. For perspective, the King James Bible contains 788,280 words, Tolstoy’s War and Peace has 560,000 words, and the ENTIRE Harry Potter Series has just over a million.

If you’re a visual learner, the following graph (also borrowed from the tax Foundation) may help illustrate the growing burden Congress has placed on taxpayers and the tax-pro community. Note - The graph itself is over a decade old!

Common sense, fairness, and effective tax administration all point to one conclusion: The April 15th deadline no longer makes sense and needs to change. I’ll let Congress haggle about the exact date, but June 15th has a nice ring. Until then, I hope my efforts have helped readers understand that filing an extension is the easiest way to cope with this antiquated and arbitrary date. They are nothing to fear and provide a mountain of benefits with minimal downside.

In 2020 and 2021, Congress made the treasury department instrumental in advancing relief checks to citizens. These payments got reconciled on 2020 and 2021’s tax returns. Congress also enacted temporary tax provisions that increased financial assistance to individuals and families. Many were short-lived and expired at the end of 2021. My job is to inform you of tax changes that may impact your financial picture. So, to this end, I’ve compiled a brief list of changes that may affect your 2022 taxes.

2022 Expired Items & Notable Tax Changes

• Child Tax Credit Reduced: The one-year-only increase in the Child Tax Credit expired at the end of 2021. For 2022, the maximum credit reverts to $2,000 per child. For 2021, it was $3,000 per child and $3,600 for children under five. Many may not have noticed the 2021 increase because they received half of the credit in advance monthly payments. The advance reduced tax refunds for many and even caused some to owe taxes.
  
  The age of a qualifying child also changes back to under age 17. In 2021, children under 18 qualified.
  
  In 2021, the credit was fully refundable, meaning you received the entire amount even if you owed no tax. For 2022, the refundable amount maxes out at $1,400 per child.
• Significant Reduction in Dependent Care Credit: The one-year increase in the dependent care credit expired at the end of 2021. For most parents, the credit for 2022 reverts to 20%, even though it starts at 35%. For 2021, the credit was 50%. The income phaseout also returns to the low AGI of $15,000. From here, the credit drops from 35% and reaches 20% when AGI hits $43,000. Additionally, qualified expenses for calculating the credit return to $3,000 for one child and $6,000 for more than one child. For 2021, qualifying expenses maxed at a whopping $8,000 for one child and $16,000 for more than one.
• Charitable Non-itemizer Deduction Gone: For 2021, individuals who did not itemize could add $300 of qualified charitable contributions to their standard deduction. Married couples filing together could add $600. Unless Congress acts, this bonus tax-saver is gone for 2022 and beyond.
• Earned Income Credit Reduced: In 2021, there was a substantial increase in the number of filers without children who qualified for the Earned Income Credit. The lower age limit dropped from 25 to 19, and the upper limit, age 64, got removed entirely. The maximum credit for these individuals also nearly tripled to $1,502. We had a surprising number of clients qualify for this expanded credit – both young and retired working part-time. These changes disappeared at the end of 2021.
  
  A significant change that has not expired is the investment income a filer can earn and still qualify for the Earned Income Credit. Allowed investment income increased to $10,000 (adjusted for inflation) in 2021. The previous limit had been $3,650. The irony of the increase is somewhat amusing. The purpose of the credit is to help struggling single parents make ends meet. At the same time, having $10,000 of investment income represents quite an emergency fund!
• AGI Charity Limit Returns: For 2021, taxpayers could deduct certain qualified charitable deductions on Schedule A (Itemized deductions) up to 100% of their adjusted gross income. For 2022, the limit returns to 60% of adjusted gross income.
• Some Energy Credits Expired: The credit for nonbusiness energy property expired at the end of 2021. I’m primarily referring to the residential energy efficiency credit for qualifying HVAC systems, water heaters, etc. - the one with the $500-lifetime limit that has been around for over a decade (and no one can if they’ve taken it in the past). Also, the Alternative Fuel Refueling Credit for 30% expired at the end of 2021. The most important aspect of this credit was reimbursement of electric vehicle charger installation (up to $1,000) at a primary residence.
  
  At some point, I have a sense these credits will get extended. As of today, however, they have not.
• Mortgage Insurance: The itemized deduction for mortgage insurance premiums expired at the end of 2021. Sorry!
• Reminder - Required minimum distributions from retirement accounts now start at age 72, not 70 ½.
• Child Care Benefit: In 2022, tax-free cafeteria plan deferrals for child care revert to $5,000 from 2021’s $10,500.

This list is not all-encompassing. It contains changes that will impact most individuals and families. Because this is an election year, I hope we don’t see a flurry of last-minute, retroactive tax changes for 2022. Unfortunately, I am not so optimistic about 2023!

As always, thank you for reading my articles. If you need some tax/business training or information, please check out OvernightAcountant.com. Need some help with your taxes? You can reach me through RealEstate-TaxPro.com.

Quick Links

1 April 15th Stress Disorder & the Out-Dated Deadline

2 ASD Roots & Symptoms

3 ASD’s Impact on Tax Professionals

The Month Long Catch-22

Tax Professional Tipping Point

4 Why tax season became unbearable

Mind-Bending Complexity

Form 1040 Changing Function

Tax Professional Fraud Auditors

The Shrinking Tax Season

5 How You Can Help Fight April 15th Stress Disorder

Understand The History of April 14th

Recognize the Media’s Manipulation

Debunk the Extension-Audit Relationship

6 -WhyExtensions are Your Friends

Elimination of the Late Filing Penalty

More Time to Gather Materials

Avoiding IRS Notices

Avoid Amending Returns

7 -The Only Extension Downside
8 -Conclusion: Change the April 15th Due Date

April 15th Stress Disorder & the Out-Dated Deadline

Every year, from late March until mid-April, tax professionals are overwhelmed by clients experiencing April 15th Stress Disorder, also known as ASD. Most Americans have never heard of ASD, and even fewer know they have it. In this article, I will discuss the symptoms and prevalence of April 15th Stress Disorder and how it endangers the tax profession - just when expertise is most needed. I’ll also share a brief history of the April 15th due date and make a (hopefully successful) argument as to why it’s time for a change.

ASD Roots & Symptoms

ASD is the irrational fear of filing one’s tax return after its original due date, generally April 15th. Its most common symptom is anxiety (and related ailments). Apprehension grows as the day approaches.Symptoms commonly manifest asfilers realize it’s a few weeks away. Some haphazardly gather their materials and rush to tax professionals’ offices. Others contact their proto check their return’s status, pressing (in various ways) for completion before the dreaded date. Those experiencing more acute ASD lash out if timely completion seems unlikely.

ASD’s Impact on Tax Professionals

Tax professionals suffer from April 15th Stress Disorder, although they are generally not directly afflicted. Instead, their maladies stem from clients experiencing ASD. High blood pressure, insomnia, and depression are widespread. Sadly, hearing of a colleague’s stress-induced hospitalization (or even demise) in the closing days of tax season is not uncommon. A few years ago, your author was affected by ASD and rushed to the emergency room due to uncontrolled high blood pressure – the lack of sleep, stress, and coffee had taken its toll.

The Month-Long Catch-22: It is difficult for many clients to understand the havoc April 15th has had on the tax community. Imagine the weeks before the deadline - dozens of clients simultaneously experiencing ASD and complaining, “but you’ve had my materials for weeks.” The worst part – you are helpless to meet their demand. Why? Because the entirety of each day gets consumed by one of four tasks: 1) Meeting with clients, 2) Responding to their emails, texts, and phone calls, 3) Organizing documents delivered by clients who suddenly realize the April 15th is approaching, and 4) Filing extensions to ensure no client gets hit with the Late Filing Penalty. Preparing returns is not a primary activity.

The exact timing varies from firm to firm. For many, functional workflow disintegrates in the third week of March. By April 10th, most of us ride a wave of loosely reigned chaos. Every free moment gets used for one thing - filing extensions and ensuring no one gets missed.

Tax Professional Tipping Point:Unfortunately, the stress related to April 15th has increased steadily over the past ten-to-fifteen years, causing many accountants to leave the tax world. Others have reduced their client load. Those who can afford retirement are doing just that. When young accountants experience tax season, few decide to make it a career path. Who can blame them? Accounting is a broad field experiencing a shortage of talent. According to Bloomberg, the US has experienced a17% declinein the number of accountants. Demand for the profession, however, has not decreased, giving accountants significant leverage over employers and their careers. Why would a highly skilled individual endure the stress of tax season with so many other options?

Why Tax Season Became Unbearable

There are four primary reasons:

1. Mind-Bending Complexity:The Tax Code’s ever-growing complexity has made return preparation much more time-consuming (and annual training more necessary and expensive). And Congress has not helped – they are not only responsible for making taxes more complex. Sweeping, often retroactive, changes to taxation laws have become common. The moment you have a good grip on the rules, they change them!

Taxation is unlike any other area of law. Most legislation has sensical grounding - rooted in fairness, equity, and logic. Criminal attorneys don’t have to worry about repeated seismic changes to their profession. Lawyers specializing in real estate don’t face an entirely new set of rules every few years.

Taxation, however, has no logical foundation other than, perhaps, the concept of economic gain. Tax bills are (predominantly) drafted by lobbyists and special interest groups. Then, elected non-accountants grind them into formal legislation. Once signed into law, few tax rules are permanent. Those impacting most filers are routinely scrapped and rewritten by the political whims of Congress.

Sweeping tax changes used to occur once every decade or so. Today, they happen every two to three years and are often retroactive – meaning changes impact prior years (even as returns are completed and filed for that year)!

Worse yet, treasury regulations, which tell professionals how the IRS interprets the laws, arrive long after a bill becomes law. So, tax pros are left to guess, speculate (and argue) about the rules while preparing returns impacted by those rules!

2. Form 1040 Changing Function:The primary purpose of your individual income tax return, Form 1040, has changed. It used to be a tool focused on calculating and collecting income tax. Today, its primary purpose is social welfare distribution – taxation is secondary. The reason for the shift is pretty simple. Form 1040 is the single signed (under penalty of perjury) document individuals and families must file annually with the federal government, making it the perfect vehicle for income-based welfare administration. Below are a few examples of programs facilitated via Form 1040.

Form 1040 distributes money to Americans considered “low income” via theEarned Income Credit. Daycare subsidies get paid to income-qualified parents via the Dependent Care Credit. The Child Tax Credit offsets the cost of raising children. Education (American Opportunity and Lifetime Learning) credits reimburse qualifying filers for college & vocational school expenses. The Retirement Credit helps low-income individuals save for retirement. In 2014, the Affordable Care Act even placed the IRS and Tax Professionals in charge of financing health insurance for millions of Americans!

Each credit represents a separate income-based social welfare program. If not for Form 1040, imagine the resources each program would require to screen applicants and distribute benefits. Instead of further bloating bureaucracy, Congress has made tax professionals unsung social workers responsible for administering these programs. They are required to understand each benefit - who qualifies and how to apply. They must also keep up with each program’s ever-changing rules and ensure filers are not gaming the system, which segues to our next point.

3. Tax Professionals are NowFraud Auditors:Utilizing Form 1040 to administer federal welfare programs may appear efficient on the surface, but it has a cost. As programs have grown in scope, so has cheating. Tax credit fraud runs rampant. Although all credits invite cheating, the Earned Income Tax Credit (EITC) is the largest culprit.

The EITC has been around for decades. Initially enacted in 1975, its intended purpose was to reduce welfare rolls by rewarding work. Unfortunately, as happens with so many government solutions, the opposite happened. Instead of reducing the number of welfare recipients, decades of tinkering and expansion made the EITC a mammoth welfare program (and most who receive the credit still qualify for other welfare benefits). Today, the credit distributes over $65 Billion ($65,000,000,000) taxpayer dollars annually to over 26 million recipients. That’s a lot of free money for simply filling out a form, which is why the program is rife with fraud. The IRS estimates that between 20% to 26% ($14 to $17 billion every year) of EITC payments are fraudulent.

So, whose responsibility has it become to protect government funds? Yep, Tax Professionals. Each year, the IRS requires pros to collect additional documentation to ensure clients are not cheating (or face disciplinary action). Pros must gather this information for the Earned Income Credit AND each abovementioned subsidy. What does being a welfare administrator take? Time. A lot more time.

4. Shrinking Tax Season:Another reason April 15th has become unrealistic (and filing extensions critical) is that, as tax complexity increases, the amount of preparation time – the length of the traditional tax season has collapsed.

Traditional tax season used to last about three months, from mid-January to mid-April. Today, it lasts a few short weeks. Fifteen years ago, many filers received everything needed to complete their taxes by mid-January. What did they have? Their employment W2 and interest earned by a savings account. Nearly everyone else received their materials by January 31st. Today, most are not ready to file until at least early March, four-to-five weeks later.

So what changed? Several things, but one of the most is the growing prevalence of personal investment accounts. In the early 2000s, investors generally used a broker or financial planner to buy and sell securities. Few filers had investments other than their homes, retirement, and, occasionally, rental property. Those utilizing brokerage services generally only had one broker – one account. Their information returns were delivered timely, were generally correct, and reasonably simple.

Those days are gone. Today, individuals of all ages and income levels can quickly and inexpensively invest in stocks, bonds, calls, puts, and municipal securities via dozens of internet-based brokerages. Small investors can participate in dollar-bundling businesses that loan money to others for a profit. Those who want to invest in commodities can buy shares in an oil well, wheat futures, corn, or other staples. Want to jump in the latest IRS-infuriating craze? Trade Bitcoin or another virtual currency. Why not all of them!?
Each investment and trade generates a taxable event (hopefully income). And as the prevalence of investment firms has grown, so has the information they must collect and report to the IRS. The volume of data processed at the close of each tax year is staggering. Brokers must track the tax basis (investment) and the gain and loss generated by near-every traded security. About a decade ago, the IRS also added six separate forms (ironically all on a single document called Form 8949) to report capital gains and losses. Brokers must calculate the profit or loss from every sale and tell clients where each trade gets reported on their tax returns.

Brokerages must send investors this information by February 15th - a deadline few can meet. Most investors receive their tax documents in late February or early March. [Worse yet, initial reporting often contains errors. When brokers discover mistakes, they send corrected information returns, often in May or June.]

Most clients now have at least one online brokerage account. Three is surprisingly common, as are twenty-plus pages of trades to report on various Forms 8949. As our new financial reality has collapsed tax season, the burden of additional 1040 reporting requirements has increased the time needed to prepare returns.

Growing complexity, the changing purpose of Form 1040, fraud detection/minimization, and America’s evolving financial landscape work together to make the April 15th tax deadline obsolete. Filing an extension has become increasingly necessary, if not wise, for an unprecedented number of filers. Although the IRS has been late to realize it, helping filers overcome April 15th Stress Disorder has become vital for effective tax administration.

How You Can Help Fight April 15th Stress Disorder

Don’t Be A Victim:Knowledge is power. Hopefully, this article has helped you recognize the signs of ASD and the increasing strain the disorder puts on tax professionals. Understanding the origins of the April 15th deadline and the media’s role in stigmatizing the date helps many filers overcome ASD. I’ll share this information below and clarify some lingering misbeliefs regarding extensions and the benefits of filing one.

Understand the History of April 15th:The April 15th deadline (for non-extension filers) has existed for over sixty years. It is an arbitrary date invented by Congress in 1955 when they changed it from March 15th (the original date was March 1st). In 1955, the entire tax return,Form 1040 (click to see the return), including itemized deductions and credits, was a whopping total of four pages. Instructions totaled 16 pages. Now, add two more pages if you own a business or four if you own a farm (including self-employment tax).

That’s it – that’s the whole 1955 1040 Tax Library. A total of four forms and schedules:

1. Form 1040,
2. Schedule C for the self-employed,
3. Schedule F for farmers, and
4. Schedule SE for calculating Social Security and Medicare for business owners and farmers.

Here’s a brief history of Form 1040’s due date. In 1913, ratifying the 16th Amendment (the irony surrounding its passage is quite interesting) established the income tax. State approval occurred surprisingly fast and hung on some familiar rhetoric – it would only apply to the rich who would “finally pay their fair share” back to society. At first, only married couples earning over $4,000 per year and single individuals earning over $3,000 had to file and pay income tax. Such income levels in the early 1900s’ placed filers among society’s elite. For perspective, consider the following: A highly paid union workerin 1923 (ten years after enactment - the earliest year I could find records) earned about $50 per week, or $2,600 per year. Additionally, two-earner households were rare. The result: Only 1% of Americans filed a tax return in the early years of Form 1040’s existence.

The original due date was March 1st, then quickly became March 15th. The reasoning for a March due date was two-fold. First, it gave the filers ample time to collect their materials and complete the simple form. Second, and most interestingly, Congress wanted their returns (and money) before they fled to their summer homes or left the country for vacation.

Now, let’s fast forward to 1955, when the due date changed to April 15th. Because of World War I, the Great Depression, and World War II, the size of government ballooned into a miniature horror of what it is today. Spending and debt soared. Someone needed to pay for it. Who would it be? If you guess the middle class, congratulations.

By 1955, actual (inflation-adjusted) incomes had increased substantially along with the standard of living. As income increased, the Form 1040 filing threshold decreased. The percentage of households required to file returns became close to what it is today. [I have not done the research but am willing to bet that, due to social welfare payments running through today’s 1040, a higher percentage of Americans paid income tax in 1955.]

By 1955, Form 1040 had also become a much-simplified version of today’s tax return. It was only four pages but included sections for types of income, itemized deductions, and personal exemptions. It referenced tables used to calculate tax. Only two credits appeared: One for dividends and another for retirement income. Completing Form 1040 now required math skills and interpreting cross-eyed instructions, making it complex enough to hire professional assistance.

So, why did Congress claim they gave filers an additional month to meet their civil obligation? FORM 1040 HAD BECOME TO DANG COMPLICATED. A secondary (and likely more accurate) reason for changing the due date to April 15th is that the IRS was overwhelmed by the growing number and complexity of returns filed. Employees needed additional processing time before the law required them to pay interest on refunds.

If Congress changed the due date from March to April 15th due to increased complexity, why has the date remained the same for 60+ years?Considering: 1) the exponentially higher difficulty of today’s tax return vs. 1955’s and 2) The current state of the Internal Revenue Service (if you have not noticed, it’s a mess), why hasn’t the April 15th due date changed to June or July? Why hasn’t the IRS worked to dispel these extension myths and promote its role in reducing fraud, errors, and the need for amending returns?

Recognize Media Manipulation:The media has played an instrumental role in planting April 15th Stress Disorder into the American psyche. Publicizing the date remains an annual ritual, attracting eyes, ears, and advertiser dollars. Headlines count down the days to the Taxman’s arrival like some dystopian Santa. Although the headlines and stories remain, coverage was far more sensational before electronic filing. Reporters hung around post offices as midnight approached. They staked out the lobbies and interviewed scores of last-minute filers clutching clumsily stuffed envelopes, rushing to obtain an April 15th postmark.

Media-induced panic gathers attention and makes money. It fuels barbershop, barroom, and kitchen table discussions of taxation and government theft. It also contributed to ASD by triggering nightmarish speculation regarding the fate of poor souls who miss the deadline.

Debunk the Extension-Audit Relationship: Tax returns have never, nor are they now, flagged solely because of the date filed. It’s complete nonsense. But, like most fireside tales, the myth may be rooted in two grains of coincidental truth predating electronic filing.

First, before E-filing, the IRS primarily processed returns by hand. It was a daunting and stressful task – wading through growing mountains of envelopes mailed before or on April 15th. IRS employees had one mission – shrink the pile! There was little time to double-check math and spot strange deductions. But, about a month after April 15th, the mountain shrank to a small hill. Workflow became manageable. IRS employees had more time to perform their duties with critical eyes. So, there was a higher chance they would notice errors and anomalies.

Here’s the second grain of coincidental fact. In the early decades of hand-completed tax returns, whose taxes were most likely to go on extension? Business owners and investors. High-earners with inch-thick, super-complex, manually calculated returns. Such returns are more likely to contain unreported income, misapplied deductions, and mathematical errors. It only makes sense that they would also garner more attention.

In either case, filing an extension is not the direct cause of increased scrutiny. Additionally, any correlation went out the window decades ago - when electronic filing and computer algorithms replaced human hands and eyeballs.

Among many tax professionals, a prevailing counter-myth has replaced those of the pre-eflile era. Their speculation holds that filing an extension may reduce audit risk. Why? Because, at some point during the year, IRS attention shifts from current year processing to preparing for next year’s filing season. Programmers are busy writing new code and creating new algorithms; their focus has moved away from the previous tax year. Do these professionals have solid evidence to back up this assertion? Nope.

Why Extensions are Your Friend

I’ve shared the media’s interest in spreading April 15th Stress Disorder and debunked common extension-filing myths. Now, it’s time to familiarize ourselves with the object of our fear and realize that extensions are nothing to shun. They are, on the contrary, a powerful tool providing several benefits. Here are a few attributes that endear the extension to filers and professionals alike:

Elimination of the Late Filing Penalty: The extension functions to change the due date of the filer’s return. That’s it. Instead of having until April 15th, filers gain an additional six months – until October 15th without worrying about facing a significant penalty – the Late Filing Penalty. The title, Late Filing Penalty, is a misnomer. Filing Form 1040 late does not automatically generate a fine. If the return shows a refund, there is generally Form 1040 no penalty. It only applies when late-filed returns have a tax due. But, the fine is substantial –5% each month (or part of a month) the return is late. The cost adds up quickly and maxes out at 25% of the tax due. For 2020, 2021, and 2022 congress has enacted a minimum penalty for returns filed over 60 days late. This minimum: The lesser of $435 or 100% of the tax due!

Additionally, the tax and penalty are both subject to daily-compounding interest. The general market determines the rate, which changes quarterly, but 3-6% is a fair estimate.

Avoiding this penalty is one of the reasons tax offices are overwhelmed from late March to April 15th. Pros are fielding client inquiries and questions, receiving client materials, and dealing with April 15th Stress Disorder. But, most importantly, they are making sure everyone files an extension to avoid this penalty.

More Time to Gather Materials:Filing an extension reduces the stress of those who understand their benefit. They have more time to ensure they’ve received and compiled income and deductions. Business owners, families, everyday investors, and retirees with multiple retirement streams benefit most. I cannot tell you how often small business clients rush to meet the April 15th deadline, then realize their records were erroneous. Retirees regularly forget about an investment or retirement account that didn’t get into their tax folder. Busy spouses miscommunicate, forgetting about charitable donations, medical expenses, and childcare costs. Another common oversight occurs when partnerships (often publicly traded investments) or other businesses have filed extensions. Investors forget about needing the information and omit it from their taxes.

An extension is also essential for anyone who has moved over the previous year. Forwarding mail takes time (and does not always work). Sold a home? How does the previous mortgage holder know where to send your interest statement? It’s as easy to forget the part-time job held last spring as earnings accumulating in a seldom-used savings account. Filing an extension helps ensure correct completion. There are no surprises, no notices from the IRS, and less need to amend a previously filed return.

Avoiding IRS Notices:The most common audit experienced by modern taxpayers results from computer matching programs, not an IRS employee demanding receipts to justify a deduction. Providers of income must report this income to the IRS via information returns. As a required courtesy, you receive a copy of these forms; 1099-MISC, 1099-INT, 1099-DIV, 1099-B, 1099-NEC, and W2s in January or February. But, their real job is telling the IRS that you received this income. The IRS loads this information into computers to ensure you have been an honest citizen by matching it to what you reported on your tax return. Computers expect each income item to appear on a specific line on your tax return. When an amount is missing or falls short (ironically, overreporting does not matter), they kindly adjust it and send a notice called a CP-2000 (generally 3-6 months after you file). They also send a bill for any additional tax, which you can pay or dispute. Unfortunately, most of these notices are correct –the recipient made an error. Sometimes the information reported to the IRS is incorrect, or we can offset the income with deductions. Either way, fixing the mistake requires arguing with a computer or filing an amended return.
What’s the easiest way to avoid these notices? Filing an extension ensures you’ve received all information needed to file your return.

Avoid Amending Returns:As discussed extensively in other articles, taxation has become exponentially more complex since adopting the April 15th deadline in 1955. Complexity increases the likelihood of errors, especially when rushing to meet deadlines. These errors happen for various reasons, and we’ve discussed many. They all increase the probability of needing to file an amended return (a tedious process that tax professionals generally bill for).

Increased complexity is not isolated to Form 1040. Errors on information returns are now commonplace. The volume of data employers and institutions must provide staggers the mind. Every year there are new forms, codes, and instructions for employers, banks, colleges, mortgage companies, brokerages, corporations, mutual funds, health insurance companies, third-party payees (eBay, PayPal, and credit cards), and health savings programs (to mention a few). Most of these entities must send the required information to recipients by January 31st. Brokerages (Form 1099-B) get an additional two weeks.

What do complexity and rushing foster? Errors. Once discovered, the reporting entity will send corrected information, typically in May and June. What happens if the updated data is material to the recipient’s taxes? Filers should amend their return. What’s the easiest way to avoid amending such a return? File an extension.

The One (small) Extension Downside

Filing an extension does have one downside, albeit a small one. As you have probably heard, filing an extension provides more time to file your return but not additional time to pay your tax. Although this is not entirely true, there is a penalty for some filers who pay their taxes after April 15th, even if they have filed an extension - the Late Payment Penalty. The Late Payment Penalty (also called theFailure to Pay Penalty) equals ½ of 1%. It is 1/10th of the Late Filing Penalty. It applies each month (or part of a month) tax gets paid after its due date and tops out at 25% of the tax due. Like the Late Filing Penalty, it is also subject to interest.

As mentioned earlier, the Late Payment Penalty is tinywhen compared to others. It’s one of the smallest in the IRS catalog. It equals $5 per thousand dollars owed monthly. Compare this to the Late Filing Penalty (eliminated by filing an extension), which is $50 per thousand.

It is important to note that owing tax with an extended return does not mean you owe the Late Payment Penalty. When tax due is less than 10% of the total tax due on the return, it generally does not apply (assuming you pay the balance by October 15th).

Also, the Late Payment Penalty can be difficult to distinguish from a similar penalty called the Estimated Tax Penalty. It’s a little complicated, but if you owed tax the previous year and owe tax on the return again, you may incur the Estimated Tax Penalty regardless of when you file.

Conclusion: Change the April 15th Due Date

Let’s wrap up with a few observations.

First:April 15th Stress Disorder is an actual condition. It is a phobia rooted in a misunderstanding media and popular culture have fanned into irrational fear.
Second:The income tax return function has changed drastically since the 1970s’. Its primary function has become one of social subsidization and financial regulation. Calculating and collecting income tax has become secondary.
Third:Due to the return’s changing function, Form 1040 has grown ridiculously complex, as has the information reporting required by third-party payers.
Fourth:This complexity has increased the time it takes to prepare tax returns while simultaneously shrinking the window to complete them.
And Finally:These factors have placed an undue burden on both Form 1040 filers and tax professionals. The stress of meeting the deadline has placed an excessive strain on the professional tax community, which is the IRS’s most valuable tax compliance asset.

The solution is obvious. It’s time to change the un-extended due date of Form 1040.

Change the Date! In 1955, Form 1040’s due date was changed from March 15th to April 15th because of the burden complexity placed on filers and IRS employees. Let’s put this burden into perspective. In 1939, the entire US tax code was 504 pages long. By 1955, it had grown to roughly 14,000 pages. Form 1040, including all schedules, was four pages long, plus an additional form for business owners and farmers. By 2014 (nearly a decade ago), the US tax Code had grown by over 500% and reached 75,000 pages. It now contains over 1 million words and is longer than the King James Bible, Tolstoy’s War and Peace, and the Harry Potter series.

Common sense, fairness, and effective tax administration all point to one conclusion: The April 15th deadline no longer makes sense and needs to change. I’ll let Congress haggle about the exact date, but June 15th has a nice ring. Until then, I hope this article has helped the reader to understand that filing an extension is the easiest way to cope with this antiquated and arbitrary date. It is nothing to fear and provides a mountain of benefits with a molehill of downsides.

• The Third Direct Stimulus Payment: The American Rescue Plan authorized the third round of Covid-19 stimulus, up to $1,400 for each eligible individual. Taxpayer and their dependents, even dependent adults, qualify for the $1,400. Like 2020’s stimulus, the payments do not get taxed as income. They are income-limited advances of a refundable tax credit calculated on 2021’s tax return.
• Child Tax Credit: The amount of the credit increased by $1,000 for each qualifying child under age 18. For 2021, it’s $3,000. Also, in 2021, the credit increased $1,600 for children under six years old to $3,600 per child. We discussed these changes (and an impending mess) in an earlier article posted on our website.
• Dependent Care Credit: The child care credit increased from a maximum of 35% to 50% of daycare eligible expenses. The maximum credit also took a mammoth leap. In 2020 the credit maxed at $3,000 for the 1st child and $6,000 for two or more children. For 2021, the maximum credit for one child is $8,000 and $16,000 for two or more children. That’s right, for 2021, the full dependent care credit increased by $10,000! We will expound on these changes in a future update.
• Earned Income Tax Credit: The American Rescue Plan expanded the credit to many filers who did not previously qualify, primarily those who lack qualifying children. It also nearly tripled the maximum credit for these filers. Additionally, filers can now earn up to $10,000 in investment income and still qualify for the credit. We discuss these changes below.

The Earned Income Tax Credit History & 2021 Changes

The individual tax return, Form 1040, holds a unique position in US domestic policy. Form 1040 is the only document most Americans must submit to the federal government annually (since 1916). Initially, the form had a single purpose – to collect taxes on income. At the time, only those with inflation-adjusted incomes of roughly $70,000 and up paid any tax.

Over time, however, congress realized the annual filing requirement made the tax return an efficient way to enact politically-influenced policies. These policies often benefit lobbyists and special interests by reducing their costs (and increasing profit) and by influencing consumer behavior. Many purchase-related credits and deductions trace to these efforts. Over time, policymakers came to realize that the annual filing requirement made Form 1040 an efficient vehicle to direct taxpayer dollars to other groups, especially those with children. These measures take the form of credits augmenting social welfare programs. A few are listed in the introduction above. The Earned Income Tax Credit is a near-perfect example of your tax return’s increasing role in welfare administration.

History

The Earned Income Tax Credit first arrived in 1975 as a temporary measure to encourage work and reduce growing dependence on welfare. The credit was equal to 10% of a qualifying taxpayer’s first $4,000. The maximum credit was $400. That year, 6.8 million tax-filers received an average credit of $201. The $400 maximum equals $1,977 on up to $19,770 of income when adjusted for inflation. The average EITC recipient received the equivalent of $989 in 2021 dollars.

Today: Let’s fast-forward to 2018, the most recent year with reliable data. The 1975 tax credit, which was supposed to be temporary (and reduce welfare dependence), has ballooned to BECOME a mammoth welfare program. In 2018, 26.5 million return-filers collectively received $65 billion in Earned Income Tax Credits. The average payment per recipient was $2,449, nearly 250% of the average 1975 inflation-adjusted payment.

Error & Fraud Monster: In 2021, tax-filers can earn up to $57,414 and receive the EITC credit. The maximum credit is $6,728. That’s a ton of money and a significant fraud incentive. The EITC is so complex and lucrative that the IRS estimates that 20% to 26% of EITC payouts are erroneous or fraudulent. That’s over 6 million payments costing US taxpayers between $13.6 Billion and 16.9 billion annually.

The EITC, combined with other income-based assistance program credits, has made much of a tax professional’s work that of a highly scrutinized social worker. If you’ve received the EITC and questioned the plethora of statements and signatures we require. Rampant fraud is your answer.

Big EITC Changes for 2021

The American Rescue Plan (ARP) substantially changed the EITC. Some changes impact both 2021 and future years. Modifications providing the most significant financial impact, however, affect 2021 only. Because these changes are short-lived, they are easy to overlook. Here’s a quick rundown of ARP changes to the Earned Income Tax Credit.

2021 and Future Years: Here are some of the EITC changes for 2021 that carry forward into the future.

• Non-Qualifying Children: Taxpayers with children who do not qualify for the EITC are allowed to claim the EITC as a taxpayer who has no qualifying children. For some unspecified reason, before 2021, this was not allowed.
• Those Married Filing Separately May Qualify: Before 2021, anyone who was married but filing a separate return from their spouse could not claim the EITC. Beginning in 2021, married taxpayers who filed separate returns can qualify under one of two conditions:
• They do not reside with their spouse for the last six months of the year and reside with a qualifying child for at least ½ of the year, OR
• They have a formal separation or maintenance agreement and do not live with their spouse at the end of the year.
• Investment Income Increase: I believe this is a BIGGIE for 2021 (especially for retired filers). Beginning in 2021, taxpayers can earn up to $10,000 of investment income (interest, dividends & capital gains) and still qualify for the EITC. Additionally, the $10,000 gets adjusted for inflation and will increase with the cost of living.

EITC 2021-Only Changes: Several EITC changes made by the American Rescue Plan only impact 2021. Many filers, particularly the retired, young, and those lacking qualified children, will benefit from a temporary expansion in EITC eligibility. But, because this expansion is for one year only, it will be easy to overlook. Below is a list of 2021-only changes:

• Change in Qualifying Ages: Before 2021, an individual who lacked a qualifying child had to be over age 24 and under 65 to receive the Earned Income Tax Credit. For 2021, however, the lower age restrictions are modified - the minimum age is 19, and there is NO maximum age. As a result, nearly all filers will qualify provided they: 1) Are not a dependent or qualifying child of another, 2) Have earned income (basically W2 or self-employment income), and 3) Have total income below the maximum allowed.
  
  For 2021, this maximum income (based on Adjusted Gross Income) is $27,380 for those married filing jointly and $21,430 for other filers.
  
  The ARP made three other 2021-only age-related EITC changes. Individuals considered Specified Students who lack a qualifying child will qualify if they are at least 24 years old (25 other years). Also, for 2021, two new classes of filers are eligible for the EITC - Qualified Former Foster Youth and Qualified Homeless Youth at least 18 years old.
• Increase in Credit Maximum: Another significant change impacting those lacking a qualifying child is a large increase in the maximum credit they can receive. For 2020, the credit maxed at $538. But in 2021 (only), it’s increased nearly three-fold to $1,502.
• Opportunity to Calculate EITC Using 2019 Income: This pandemic-related change extends a 2020 modification. In 2021, those having higher earned income in 2019 than 2021 can use that income to calculate their 2021 Earned Income Credit if it generates a higher credit.

Alert - Retired Part-Timers: The 2021 changes create an opportunity for many retirees to benefit from the Earned Income Tax Credit. Why? Social Security is not taxable until modified income (it’s complicated – basically other income plus ½ of social security) reaches $25,000 for single filers and $32,000 for those who are married). As a result, many recipients’ Adjusted Gross Incomes will fall under the threshold required to receive the EITC. The removal of the upper-age limitation and the increase in allowable investment income will result in many retirees with W2. So, let your retired friends know!

Take Away: The Earned Income Tax Credit exemplifies the changing nature and increasing complexity of the individual tax return. The many changes made to the tax code for 2021, including the Earned Income Tax Credit, will undoubtedly benefit many return filers. However, these benefits will not arrive without a cost – not just in terms of public funds – but by generating the same confusion, frustration, and delays that plagued 2020’s filing season.

Far be it for me to dampen the season’s excitement and frivolity (sorry- it’s my job). But, I would be duty-derelict if I didn’t highlight a few significant changes to 2021’s tax rules, especially those impacting nearly all citizens and families with children.

In this article I’ll highlight some changes sure to impact most 2021 returns. Then, I’ll dig into the details of the 2021 Child Tax Credit. These changes are significant, one year only, and affect most families with children under 18 years old.

Individual 2021 Tax Changes

The American Rescue Plan Act of 2021, signed into law on March 11, 2021, doubled down on the COVID-related theme of pumping stimulus into the economy. Many provisions of the law provide funds to individuals and families through direct payment, changes to several child-related credits, and expansion of the Earned Income Tax Credit. The cumulative impact of these changes is unprecedented, resulting in single-year transfer payments of well over $20,000 to many qualifying taxpayers. Here’s a brief list of the major provisions:

• The Third Direct Stimulus Payment: The law authorized the third round of Covid-19 stimulus, up to $1,400 for each eligible individual. Taxpayer and their dependents, even dependent adults, qualify for the $1,400. Like 2020’s stimulus, the payments do not get taxed as income. Instead, they are income-limited advances of a refundable tax credit calculated on 2021’s tax return.
  
  The two advance credits received in 2020 (and early 2021) caused a great deal of confusion for 2020 filers who couldn’t recall the exact amounts. We expect the same for 2021. Reporting an incorrect advance will cause an incorrect credit filed on the tax return. These errors result in refund delays, IRS notices, and even tax bills sent to the filer. To avoid a repeat of 2020, take care to document the amount of stimulus received this spring.
  
  There’s a silver lining of good news for those receiving more stimulus advance than they were entitled. As the rules stand now, you will not have to repay the overpayment.
• Child Tax Credit: The amount of the credit increased by $1,000 for each qualifying child under age 18. For 2021, it’s $3,000. Also, in 2021, the credit increased $1,600 for children under six years old to $3,600 per child. We discuss these changes in detail below.
• Dependent Care Credit: The child care credit increased from a maximum of 35% to 50% of daycare eligible expenses. The maximum credit also took a mammoth leap. In 2020 the credit maxed at $3,000 for the 1st child and $6,000 for two of more children. For 2021, the maximum credit for one child is $8,000 and $16,000 for two or more children. That’s right, for 2021, the full dependent care credit increased by $10,000! We will expound on these changes in a future update.
• Earned Income Tax Credit: The American Rescue Plan expanded the credit to many filers who did not previously qualify, primarily those who lack qualifying children. It also nearly tripled the maximum credit for these filers. Additionally, filers can now earn up to $10,000 in investment income and still qualify for the credit. We’ll also spotlight these changes in an upcoming article.

2021 Child Tax Credit & the Soon-Arriving Mess

Want to witness a giant mess? You won’t have to wait long. In July of 2021, millions of parents started receiving advances on their 2021 tax refunds. These advances are based on their 2019- or 2020-income tax return and take the form of early payment of the Child Tax Credit. How might this create a mess? To illustrate, allow me to share an analogy. The 2020 advance COVID stimulus payments generated a great deal of confusion. We could compare this mess to what my wife says the kitchen looks like after I cook (it’s not that bad, really). In comparison, the chaos anticipated by 2021’s Advance Child Tax Credit is a triplet’s first-year birthday bash. Cake and icing on faces, clothes, furniture, and ceiling – BUT, not as cute or easily cleaned. Want to learn more about 2021’s Child Tax Credit and its impending mess? Read on.

2021 Child Tax Credit Increase: The American Rescue Plan Act of 2021 made significant changes to the Child Tax Credit. As it stands now, these changes are only for 2021. Without legislative intervention, in 2022, the child tax credit will revert to 2020’s rules.

In 2020, the tax credit was generally $2,000 for each child age 16 and younger. Up to $1,400 of this $2,000 was refundable, meaning parents could receive the money even if they didn’t owe any tax.

For 2021, the Child Tax Credit increased to $3,000 per child under age 18 - the maximum eligible age increases from 16 to 17. Additionally, for children ages five and younger, the credit per child increases to $3,600. There are two other significant changes this year. In 2021, the entire credit is refundable! Additionally, unlike other years, those who qualify do not need earned income to receive a credit advance.

2021 Income Limitations: For 2021, the income levels of those who qualify are substantially reduced. In 2020 (and without further legislation, 2022 and future years), married taxpayers filing a joint return could have a modified adjusted gross income (MAGI – basically, your total income with a few changes) of $400,000 and $200,000 for other filers before the credit phaseout.

For 2021, the MAGI needed to receive the full expanded child tax credit is $150,000 for those married filing jointly, $117,500 for heads of household, and $75,000 for single filers. Having income above these levels does not mean you automatically lose the credit, but the $1,000 ($1,600 per child under six) bump up gets reduced, but not below $2,000. Then, once income reaches the $400,000 and $200,000 limits mentioned above, the remaining $2,000 gets chipped away until it’s gone.

The Credit Advance Mess: I introduced the 2021 Child Tax Credit by asking if you wanted to witness a mess. If you answered “yes,” and desire a firsthand experience, take a seat in a Tax Pro’s lobby (or outside of our virtual office window) and wait. Eventually, the chaos will unfold. Why? As part of the American Rescue Plan, Congress decided the IRS would take a peek at filers’ 2019 or 2020 tax returns. Then, based on the most recent return filed, send half of 2021’s Child Tax Credit as an advance. It wasn’t a joke. The IRS did it!

In July 2021, upwards of 36 MILLION parents started receiving checks and direct deposits of $250 and $300 per child per month. Many had no idea as to what the payments were. Those who didn’t regularly reconcile their bank accounts had no idea they received the directly deposited funds. It’s highly probable that a fair percentage of the 36 million (that’s 36,000,000) still don’t know they received the payments.

And here-in lurks the mess - like the 2020 (and 2021’s) stimulus checks, filers must accurately report the advance on 2021’s tax return. By doing so, those who didn’t receive the full advance will receive it on their return. On the other hand, many who received incorrect advances will have to repay all or a portion (discussed below).

The anticipated errors generated by this reconciliation have tax pros expecting an inordinate amount of confusion, notices, and angry clients. Recent conversations with IRS employees reveal anticipatory anxiety interspersed with curses targeting congress’s lacking forethought and common sense.

Here’s a brief list of expected mess-causing glitches:

• Check Mailed to Incorrect Addresses: If a recipient moved since their last tax filing and didn’t receive a refund via direct deposit, the IRS will mail advances to the previous address. Many will not get forwarded, but the IRS will show the payments as made. How long does it take for the IRS to reconcile and remove uncashed checks from the recipient’s account? Consider this - checks are generally negotiable for 180 days. The last advance payment gets mailed in Mid-December. Boom! That’s a mess maker.
• Checks Fraudulently Cashed: Undoubtedly, a portion of the check mailed to incorrect addresses will get cashed by the address’s occupants.
• Children Not Claimed as Dependents in 2021: The IRS uses previously filed returns to calculate each advance. A dependent claimed in 2019 or 2020 is not necessarily a dependent in 2021. Consider the number of divorced parents who have shared custody and alternate dependency exemptions as a quick example.
• Income Changes: Advances get sent based on income previously reported. How often does income change from one year to another? For many filers, a $10,000 earnings swing can result in an incorrect advance
• Not Remembering the Correct Amount Received: Here’s a biggie. Let’s use 2020 as an example. Two stimulus payments got reconciled on the tax return. Many filers could not recall the amounts received during the year. Forgetting an entire payment was not uncommon – especially those received via direct deposit. The result: Credits claimed in error – adjustments, letters, confusion, and anger. In 2021, filers received one additional stimulus payment. They also received five or six advance payments for dependents claimed a previous year. Recollections a mere few dollars off will generate a cascade of delays, notices, and computer-generated changes.

You’re Supposed to Receive a Letter – Keep It: In January, the IRS is supposed to send a letter to recipients of the advance credit. The letter is called Letter 6419. It will list the advance payments received and the number of qualifying children used to calculate them. If you receive this letter, be sure to keep it and share it with your tax preparer.

Will You Have to Repay Advances Received in Error? Maybe. As mentioned, previously filed returns generated the payments. Those meeting the credit criteria in a previous year but not in 2021’s will have to repay the excess unless they qualify for a “safe harbor.” Those eligible for the safe harbor must meet two criteria. First, a change in the number of qualifying dependents claimed must cause the overpayment. And, second, those receiving the advance must have a certain level of income.

The maximum advance those meeting the harbor will not have to repay is $2,000 per child. To qualify, 2021’s adjusted gross income (AGI) must be below $60,000 for those Married Filing Jointly, $50,000 for those filing as Head of Household, and $40,000 for Single filers and those Married Filing Separately. As AGI increases, this non-repayment protection gets reduced. It gets eliminated (meaning repayment) once AGI reaches $120,000 for those Married Filing Jointly, $100,000 for Heads of Households, and $80,000 for single filers.

Conclusion: Yes – Advance Child Tax Credit will generate a mess this tax season.