e-NEWSLETTER
June/July 2008
Jessica M. Kirsch
Editor-in-Chief
Small Business
INCREASE TAKE-HOME
PAY BY PAYING YOURSELF LESS…
SAVE ON TAXES BY FINDING THE RIGHT MIX OF
PAYROLL AND PROFIT DISTRIBUTIONS.
By James D. Voigt
One of the services we provide our corporate
compliance clients is an annual checklist of corporate activity. We use the
checklist to see if there were any events that took place in the prior year that
might require legal documentation. We also review the checklist to see if there
are ways our clients might be able to save on taxes. One of the most common
things we see when clients return these checklists is that they are paying
themselves regular payroll, but not paying any dividends or other distributions
of profits. If you are doing the same, you could save on taxes. On the other
hand, if you are paying yourself exclusively with dividends, you may be going
too far.
Dividends are currently taxed at the long-term capital gains tax rate. This tax
rate is substantially lower than taxes on regular payroll. In addition,
dividends are not subject to any of the matching requirements that come with
regular payroll, so the company saves on taxes as well. As an owner of a
corporation, it would make sense to pay yourself with dividends only, then. But
this is going too far toward pure dividends. The IRS does require that people
working for a company be paid some level of regular payroll. So if you are
working for your own business every day, you should be taking a regular payroll
check. But many of our clients make this payroll check large enough to cover all
of their personal income needs. This is going too far toward pure payroll.
Paying only dividends is a problem. Right now, the IRS is cracking down hard on
company owners paying themselves only with dividends. The tax code requires
“reasonable compensation” be paid to shareholders who are actively working for
their own company. If nothing is being paid as payroll, then the IRS has an easy
case. They will review your dividends, determine a “reasonable compensation”
level, and retroactively re-characterize a portion of your dividends as regular
payroll. This results in all sorts of taxes being due from you personally. It
also means that your company will be responsible for all those matching taxes.
Tack on penalties and interest from the beginning of the re-characterization
period, and suddenly you’re calling our 941 Tax Practice Group.
Paying only payroll is playing it too safe. As noted above, the reaction from
some small business owners is to pay themselves payroll only. They withhold all
the required taxes, and the company matches as required. As the company becomes
more profitable, the shareholders increase their payroll to enjoy the greater
profits. This results in an unnecessary increase in tax being withheld from your
personal income, though. It also results in the company being required to match
more tax than is necessary.
Find the right mix. As is true so often in life, the proper solution is a good
mix of payroll and dividends. If you are paying yourself at least some payroll,
it is difficult for the IRS to declare the level of payroll “unreasonable”. That
depends on the profitability of your business, the type of work you perform for
the business, and the typical payroll for your industry. In short, it’s very
subjective and very hard for the IRS to prove. The proper solution is to pay
yourself a realistic amount of payroll, but as small an amount as possible. If
you are running a $25,000,000 consulting company on your own, you should be
taking more than $2,000 per month in payroll. But if you are running an
auto-body shop, that might be a little low but still reasonable. Then take what
is left over, and issue yourself a distribution of profits monthly or quarterly.
You’ll save because less of your total compensation is subject to payroll tax.
The company will save (resulting in a larger dividend) because it has less
payroll tax to match. Done correctly, it is a win-win situation.
There is no magic answer. Find an amount of payroll that is low, but not
ridiculously low, based on the work you perform. Feel free to give us a call to
discuss your situation. We can begin the process of helping you determine the
right mix of payroll and dividends (or distributions of profits for an LLC), and
can work with your accountant to put the right plan in place that protects you
from liability, and also maximizes your tax savings. I look forward to hearing
from you.
If you have any questions regarding this article please feel
free to contact James D. Voigt at
jdvoigt@lavellelaw.com.
Small Business
By Timothy M. Hughes
At the American Payroll Association (“APA”) 26th Annual Congress held this
past May 13-17 in Austin, Texas John Tuzynski, IRS Chief of Employment Tax
Operations, told attendees at the APA Congress that the IRS is focusing its
efforts on the following four key employment tax initiatives: (1) worker
classification, (2) tip reporting compensation, (3) officer compensation, and
(4) fringe benefits.
The first area of concentration by the IRS is in the area of Worker
Classification.
Approximately 30% of IRS audits focus on the issue of employee versus
independent contractor. The IRS plans on expanding in this area to insure that
“employers” are not avoiding employment tax liability by classifying an employee
as an independent contractor.
The second area of concern for the IRS is in Tip Reporting. The IRS is looking
for voluntary compliance in this area. Chief Tuzynski believes some employers in
the food and beverage industry may not be aware of the Attributed Tip Income
Program (ATIP). ATIP provides benefits to employers and employees similar to
those offered under other tip reporting agreements, including protection from
audits. However, ATIP does not require employers to meet with the IRS to
determine tip rates or eligibility.
Another area of concern is Officer Compensation. There are many S corporations
with significant distributable income that report very little officer
compensation, even though the officer provided key services to the corporation.
These corporations may not be paying their fair share of employment taxes.
The final area of concern raised by the IRS at the APA Congress was in the area
of Fringe Benefits. Chief Tuzynski said the IRS will continue to target improper
employee tool and equipment expense reimbursement plans. Chief Tuzynski added
that in the near future the IRS will have a new initiative to implement better
contact with the public regarding tax compliance. Specifically the IRS does not
currently follow up on notices that it sends to employers asking them to begin
backup withholding on employees with mismatches between their name and taxpayer
identification number. Chief Tuzynski said that the IRS will soon have a new
initiative in place that will provide follow up and accountability in this area.
Please keep in mind that this is only a summary of a recent IRS announcement
concerning employment taxes. If you would like more details about this or other
IRS collection practices, please do not hesitate to contact me at
thughes@lavellelaw.com or at (847)
705-9698 to talk to about how we can help you or your business in front of IRS
collections.
Corporate Law
By Theodore M. McGinn
Every
business naturally takes steps in order to protect their physical assets.
Whether it’s preventing employee theft, or simply locking a door at night to
prevent common thieves from walking off with your copy machine or petty cash,
every business has controls in place to prevent the theft of such physical
assets. However, often the most valuable asset a business has is not an asset
that you can physically hold or touch. The most valuable assets of many
businesses are intangible, many times not even listed on a balance sheet, and
otherwise known as your intellectual property. Examples would be trademarks,
patent technology, or trade secrets. Any business possessing these assets if
they are not careful could be a victim of theft which could damage the business.
A trademark is a name or symbol that distinguishes your goods or services from
those of a competitor. Trademark rights can derive by common law. In other
words, simply by using a mark in commerce you create trademark rights or assets.
The failure to register your trademark however limits the value of your
trademark. Registration would provide your business with rights throughout the
country, ease the way for your business to protect your trademark rights in a
court of law, allow you to recover punitive damages, and allow you to recover
attorney fees in any infringement suit. For those reasons, investing funds in
order to register your trademark could prove to be a significant benefit in the
long run.
A trade secret is a method of operation or other information not generally known
within the community that provides your business with a competitive advantage. A
classic example of a trade secret would be the “Secret Sauce” used by McDonalds
on their Big Mac. Other examples of trade secrets would include a customer list,
a method of generating clients, or a system in providing services to clients. If
your business has a trade secret, there are steps that a business should take in
order to protect such asset. Employees should be required to execute
confidentiality agreements obligating them to maintain the private nature of
such trade secrets and otherwise prohibit them from using such trade secrets
should their relationship with the company cease to exist. Such an agreement
would provide a business with a significant advantage in any subsequent law
suit, should a formal employee attempt to misappropriate the trade secret.
Without an effective confidentiality agreement, you may wind up competing
against an individual who you trained and provided all the know how and now they
are using that information against you in the market place.
In addition to protecting your physical assets, every business needs to evaluate
whether or not they possess intellectual property that needs protection. If they
have such intangible assets, every business must take steps in order to protect
such assets. If a business does not take such action, it’s the equivalent of
them simply leaving the front door unlocked at night when they go home.
If you have any questions regarding this article please feel free to contact
Theodore M. McGinn at
tmcginn@lavellelaw.com.
Family Law
By Amil Alkass
Often times after a divorce involving a child, or even
sometimes during the course of a divorce proceeding, one parent will seek to
relocate out of Illinois with a child as a result of obtaining new out-of-state
employment or job transfer, for financial reasons, remarriage or, a need to be
with extended family. Unless given consent from the other parent, the person
seeking to move out of Illinois on a permanent basis will need an Illinois court
to make a determination as to whether a relocation with the child should be
permitted and whether such a move is in the best interest of the child. The legal term used in these types of legal situations.
Removal of a child from Illinois is governed by Section 609 of the Illinois
Marriage and Dissolution of Marriage Act (IMDMA) which reads as follows:
(a) The court may grant leave, before or after judgment, to any party having custody of any minor child or children to remove such child or children from Illinois whenever such approval is in the best interests of such child or children. The burden of proving that such removal is in the best interests of such child or children is on the party seeking the removal. When such removal is permitted, the court may require the party removing such child or children from Illinois to give reasonable security guaranteeing the return of such children.
(b) Before a minor child is temporarily removed from Illinois, the parent responsible for the removal shall inform the other parent, or the other parent’s attorney, of the address and telephone number where the child may be reached during the period of temporary removal, and the date on which the child shall return to Illinois.
Illinois courts and the IMDMA specifically require that both parents be actively involved in raising a child and promote a preservation of both parents’ relationship with the child. Whether a court will permit a relocation with a child out of Illinois will depend on numerous factors which have been established by Illinois appellate courts from reviewing numerous cases where the issue of removal has arisen. Illinois courts will consider the following factors in determining the best interests of a child in removal cases:
1. Whether the proposed move is likely to enhance the general quality of life for the child and the custodial parent;
2. The motives of the parent proposing the move to determine whether the move is primarily for the purpose of defeating or frustrating the other parent’s visitation;
3. The motives of the noncustodial parent in resisting the move;
4. The visitation rights of the noncustodial parent and whether a realistic, reasonable visitation schedule can be implemented if the move takes place; and
5. Whether the noncustodial parent has faithfully exercised.
Illinois courts seek to balance the protection of the relationship between the parent and the child whose visitation will be diminished and the right of the other parent to move out of Illinois. The party seeking removal and the party opposing the removal will provide the court with testimony, evidence, and sometimes expert opinions at a hearing in court in support of their positions. The parent requesting removal has the burden of establishing that the move is in the best interest of the child, which at times could be a difficult task. Weighing all of the aforementioned factors, the court will enter an order either allowing or denying the parent from moving out of Illinois. If a court grants removal, then a new or modified visitation schedule should be established with the in-state parent so that maximum involvement with the out-of-state child is made. Commonly this will involve granting the non-custodial parent longer periods of visitation (consecutive weeks or months) with decreased frequency and may also require that the custodial parent pay for all or half of the costs in exercising the non-custodial parent’s visitation which may include such costs as tickets for transportation and lodging.
For more information about removal, or any other family law matter, please
contact attorney Amil Alkass of LAVELLE LAW, LTD. via e-mail at
aalkass@lavellelaw.com or via
telephone (847) 705-7555.
Probate
DEMYSTIFYING THE PROBATE PROCESS
By Gillian L. Nagler
For many people, “probate” is a dirty word. It has a
reputation for being lengthy, expensive, and full of administrative hassles. Due
to its bad reputation, many clients cite avoiding probate as one of their goals
in the estate planning process. While there are many options for avoiding
probate – including ownership in joint tenancy, payable on death accounts, and
titling assets in a living trust – there are situations where probate may be
both necessary and advantageous. Fortunately, Illinois has several options
available to ease the administrative and financial burdens that have
historically been associated with probate.
Whether probate is necessary depends on the type of assets
owned by the estate and their value. Real estate that is owned individually by
the decedent is generally subject to probate, as is personal property in excess
of $100,000 that does not have a designated beneficiary (as do life insurance
and IRA proceeds). These rules apply whether or not the decedent left a will.
If the value of the personal property in the probate estate
does not exceed $100,000, then rather than formal probate proceedings, a small
estate affidavit may be used to disburse assets. The affidavit is a short
document in which the affiant provides information about the decedent’s assets,
and the estate’s heirs. The affiant must also indicate whether there are any
known claims against the estate, including unpaid funeral expenses, which will
need to be satisfied. This document can then be provided to financial
institutions where accounts are held, along with a certified copy of the death
certificate, so that assets may be disbursed.
In cases where the value of the estate exceeds $100,000, the
most common options for handling the assets are either supervised or independent
administration. Supervised administration requires significant court
involvement, and is generally not necessary unless there is a dispute among the
heirs, or if the will specifically provides that it is required. Unless
otherwise requested by the estate’s representative, administration will be
independent. Independent administration reduces the administrative requirements
of probate by requiring only two court appearances – one to open the estate and
one to close it – and also provides more privacy by not requiring that all of
the decedent’s assets be listed in the public record.
If you would like more information about handling probate
matters, or are interested in an estate plan which would help you avoid probate,
please feel free to contact me at
gnagler@lavellelaw.com.
Taxation
By Kerry M. Lavelle
The IRS, in private letter ruling
200816027, has ruled that a payments made by a retailer in connection with the
sales promotion are non-taxable purchase price adjustments that are also not
subject to reporting or withholding tax for the purchaser.
In the letter ruling, the taxpayer, who owns retail stores,
advertised a promotion beginning on day one. Under the terms and conditions,
customer would be entitled to a payment (a rebate) on the sale if:
1) They purchased “qualifying
merchandise” during the sale period;
2) Took delivery of the merchandise
on or before a particular date, and they submitted a claim for the payment on or
before another date certain – a typical “rebate”.
There can be no fee to participate if the sale and the price
are charged by the taxpayer/retailer and all the items of the qualifying
merchandise sold during the sale period where at the taxpayers customary retail
prices, which are subject to any generally acceptable coupons, discounts or
special pricing arrangements.
We all know the general rule, that subject to certain
exceptions, gross income includes all income from whatever source derived. IRC §
61.
Purchase price adjustments are one exception to the broad
definition of gross income. Generally, when a payment is made by a seller to a
customer as an inducement to purchase items, the payment does not constitute
income but instead is an adjustment to the cost or purchase price of the
acquired property (Revenue ruling 76-96, 1976-1 CB 23). The payment is, in
effect, the price adjustment on which the buyer and seller agreed upon. The
conclusion, by the IRS, is that the taxpayer did not have the reporting
requirements under IRC § 6041 as to the recipients for the promotion payments
made by it.
For any other questions on rebate payments and reporting
requirements surrounding such payments, do not hesitate to Kerry at
klavelle@lavellelaw.com for further
questions.
For past e-newsletter articles of interest, please visit the Lavelle Law, Ltd. website at: http://www.lavellelaw.com/newsletters/newsletter.htm.
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This newsletter is
a publication of Lavelle Law, Ltd. We attempt to highlight and
discuss areas of general legal interest that may lead to planning
opportunities. Nothing contained in this Newsletter should be construed as
legal advice or a legal opinion. Consultation with a professional is
recommended before implementing any of the ideas discussed herein.
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