Tax Deduction of Business Start Up Costs

When an individual starts a business he or she will generally incur certain costs in starting up the business that are not actually costs of running the business. These would include consultant fees to help plan the business or advertising costs or wages incurred before the business opens.

Since these costs are not an expense of running a business, they cannot be currently deducted on the tax return of the business. Instead they are required to be capitalized and written off on the tax return over 180 months or 15 years. There is an exception that allows the taxpayer to take a current tax deduction for the first $5,000.00 of start up expenses, which for many small businesses would cover the entire expenditures. Any start up costs in excess of $5,000.00 would still have to be written off over 180 months.

As any bankruptcy lawyer can tell you though, many new ventures do not stay in business for 15 years, and an entrepreneur, who discontinues operations before the amortization period is complete will want to know what happens to the costs that he has not deducted before he closes. Fortunately, the tax law allows these remaining costs to be deducted as a loss in the year the business is disposed of.

Tax Deduction For Business Software

As a bankruptcy lawyer I have seen that software can be a substantial expense in a business, and if the business is going to succeed an entrepreneur needs to make sure to take an income tax deduction for the costs of acquiring software.

If one purchases software for a business the general rule requires that he or she amortizes it for tax purposes over 36 months. Most small businesses however can get around this through Section 179 of the Internal Revenue Code, which allows taxpayers to expense rather than depreciate equipment purchases up to a certain dollar limit. If the software is purchased as part of the acquisition of a business however, it needs to be amortized as an intangible asset over 15 years.

Generally a taxpayer can take a current tax deduction for the cost of developing software for use in a business. Rental payments for leased software are deducted currently the same as any other rental payments.

Taxation of Qualified Dividends

Most corporate dividend are taxable income to the recipients; but, if it is a qualified dividend the income is taxed at the capital gains rate rather than at the rate for ordinary income.

As an estate planning lawyer I have seen that this break can produce a significant amount of tax savings; however, qualified dividends must comply with certain rules.

Qualified dividends generally must be from domestic U.S. corporations, although there are some foreign corporation dividends that also qualify such as possession corporations and foreign corporations covered by certain tax treaties. The dividends cannot be from tax exempt corporations, mutual savings banks, or on employer securities owned by an ESOP. Qualified dividend treatment also requires a holding period for the stock of at least sixty before or after the ex-dividend date (90 days for certain dividends on preferred stock). They will also not qualify if the taxpayer is required to make related payments with respect to positions on similar property, or if the taxpayer elects to treat the dividends as investment income.

Taxation of Personal Injury Awards As a bankruptcy lawyer I frequently deal with people who have been injured in accidents, and some of them are able to bring lawsuits to recover damages based on the injuries. One advantage that many people do not realize they have in this situation, is that damages received in a lawsuit for a personal injury are not subject to income taxes. Like what seems to be the case with all tax rules however, there are specific rules that need to be followed. The payment has to be paid for compensation of the injury, which means that punitive damages are fully taxable. Emotional distress is not considered a personal injury, but if the emotional distress is caused by an injury or sickness the non punitive damages for emotional distress will be excluded from taxable income. The exclusion also applies to recoveries of any medical expenses attributed to emotional distress.

Collection Efforts When A Debtor Is About To File Bankruptcy

When an individual or a business files bankruptcy, the bankruptcy law attempts to maintain some equality among creditors in dividing up whatever funds are available to pay debts. Following the same philosophy Section 547 of the bankruptcy code can allow a bankruptcy trustee to recover payments made to creditors within 90 days before the bankruptcy was filed.  The idea is that these creditors are receiving preferential transfers, and the funds should be divided among all the creditors.

It can come as quite a shock to a business person, who feels he was only being paid for goods or services provided, when he gets a letter from a bankruptcy trustee wanting a payment returned , because the customer filed bankruptcy within 90 days after the payment. The creditor in this case can argue that the transfer was made in the ordinary course of business , which is a defense against the recovery of a preferential payment in bankruptcy.  What constitutes the ordinary course of business is a question of fact, and the courts look at such points as how long the parties have been dealing with one another and what the sales and payment patterns were before the 90 day period.

What might strike some lenders as unfair is that increased collection efforts during this 90 day period could destroy the ordinary course of business defense.  Frequently, debtors will be having trouble paying, if they are close to bankruptcy, and it seems that the ordinary business practice might be to pick up collection efforts, when someone is not paying.  Nonetheless this can be used against the lender, when a trustee attempts to recover preferential transfers.  

Employer Dependent Care Assistance

As a bankruptcy attorney I am well aware of the large bite that can be taken out of a working parent’s budget for child care. Thus if a parent is fortunate enough to have an employer who assists with his or her daycare expenses the tax treatment of this assistance can make a significant difference. The employee can exclude up to $5,000.00 such assistance from taxable income ($2,500,00 for a married individual filing separately), provided this does not exceed the employee’s earned income or the lower paid spouse’s earned income in the case of a married couple. The expenses must be ones that would qualify under the child care credit rules, and unfortunately the amount of employer assistance for child care reduces the amount of expenses available for the child care tax credit.

Tax Deduction For Alimony

Alimony or “maintenance” as it is officially known  under Illinois Divorce Law, is a payment made to support one’s spouse after a divorce or separation.  It is treated differently than a property settlement or child support for tax purposes, since alimony will be deductible on the payor’s  income taxes, and it will be taxable income to the spouse receiving the payment.

Since divorce frequently leads to financial hardship on the part of one or both of the parties,  it seems important that, if a divorcing couple wants to preserve a certain tax treatment, they should make sure they include the appropriate terms in their divorce agreement or judgment.

To receive the proper tax treatment alimony must be cash payments made under a legal divorce or separation instrument, such as a binding divorce or separation agreement, a divorce or separation judgment or a temporary support order.  Also the payments must end at the death of the spouse receiving the payments.

While there is no requirement for how long alimony payments must run, the tax deductible portion will be reduced, if the payments decline too quickly during the first three years.

Mortgage Debt Forgiveness In 2014

When debt is forgiven, the debtor has taxable income under Internal Revenue Code Section 108. This is the general rule, but to deal with the foreclosure crisis Congress created an exception for the cancellation of mortgage acquisition indebtedness on the taxpayer’s principal residence of up to $2,000,000.  Acquisition indebtedness also  includes refinancing of the mortgages used to purchase homes to the extent the refinanced amount does not exceed the original indebtedness.

Unfortunately for many homeowners the exception for taxation of home mortgage indebtedness expired at the end of 2013, however there are still several rays of hope for persons going through a home foreclosure or a short sale.  In the first place in recent years Congress has seemed unable to get their work done by year end, and they have fallen into a habit of letting  tax breaks expire through inaction, which they eventually get around to reenacting retroactively.  Many people are thus predicting that our lawmakers will still extend the treatment of mortgage debt forgiveness at least through 2014.  

There are also two other exceptions to the cancellation of indebtedness income that often apply to taxpayers losing their homes. These are bankruptcy and insolvency.