TaxBarron Report
March/April 2008

For American expatriates used to the tax filing deadline in mid-June, the 15th of April tax paying deadline can easily be overlooked. So down the road when those 2007 taxes are finally paid with the tax return, expats can be surprised to receive an IRS interest assessment for late payment. So if the 2007 tax return has not yet been prepared, the best strategy - after 15 April and before 15 June - is to estimate and pay any taxes owed. For previous issues of the TaxBarron Report, click here.

In This Issue:

0% Long Term Capital Gains

IRS Penalties and Interest

Tax Quiz

Short Term vs Long Term Capital Gains

How Much Did It Cost?

International Taxation Anomolies

Recommended

0% Long Term Capital Gains

For years 2008, 2009 and 2010, the tax rate on Long Term Capital Gains has been lowered to 0% for anyone in the 10% and 15% income tax brackets. So based on filing status, tax filer(s) can achieve 0% as llong as their taxable income is within the 15% threshold. One way to understand taxable income is income after reductions due to Standard Deduction and Exemption(s). The 15% taxable income for each filing status follows:

SINGLE: $8,026 - 32,550;
MARRIED FILING JOINT: $16,051 - 65,100*
MARRIED FILING SEPARATE: $8,026 - 32,550;
HEAD OF HOUSE: $11,450 - 43,650.
*MFJ 25% bracket: $65,101 - 131,450

So a single taxpayer whose taxable income is no more than $32,550 would pay 0% on Long Term Capital Gains from 2008 - 2010; a married joint filer, by contrast, under $65,100

How does this work in practice? Taxpayer Smithy earns $37,000 in 2008 salary. He sells stock for $2,500 that he purchased in 2004 for $1,000. He has no dependents and does not itemize. His Standard Deduction iis $5,450 and his Exemption $3,500. His taxable income, including the capital gain, is $29,550 ($38,500 - 5,450 - 3,500). Since Smithy's taxable is entirely within the 15% income tax bracket, the full $1,500 capital gain qualifies for the 0% rate.

Jose and Elena file a joint tax return and claim an 18 year old dependent. In 2008, Jose receives a $50,000 salary and Elena $15,000. The couple also have interest, rental and other ordinary income of $4,500. This year they sell a 40-acre parcel of land that they owned for 15 years for a gain of $70,000. They have Itemized Deductions of $13,500 and Exemptions of $10,500. Their taxable income, including the capital gain, is $115,500 ($139,500 - 13,500 - 10,500). The portion of the gain keeping Jose and Elena from the 25% bracket is $19,600 ($115,500 - 70,000 = 45,500; 65,100 - 45,500). This amount is taxed at 0%; the remaining $50,400 is taxed at the 15% capital gains rate.

Nelson and Joanna file a joint tax return. He has a $92,000 salary in 2008. She is a housekeeper. The couple have interest and other income of $1,000. In 2008 they sold a residence for a gain of $35,000. Nelson and his wife have no dependents and will take the Standard Deduction. Does the residence qualify for the 0% rate? Their taxable income is $110,100 ($128,000 - 10,900 - 7,000). After subtracting the capital gain from the couple's taxable income, the result is $75,100. Since this amount is fully within the 25% iincome tax bracket, none of the capital gain qualifes for the 0% rate.

IRS Penalties and Interest

When IRS receives your tax return, they first check the return for mathematical accuracy. If taxes are owed, they bill the taxpayer and charge interest from 15 April on the federal short-term rate plus three percent. Interest is compounded daily.

A penalty for late payment of one-half of one percent of the tax owed for each month may also be assessed until the full 25% maximum penalty is applied for non-payment. For reasonable cause, penalties can be abated, but not interest. Assessed taxpayers can send an explanation together with the bill to the IRS service center in Austin for consideration. However IRS will not act to abate until the taxes owed are first paid.

To assure payment is properly made, a check or money order should be payable to UNITED STATES TREASURY. Also on the check, remember to enter the tax year, form number and your telephone number. Form 1040-V should accompany payment. That expatriate mailing address:

INTERNAL REVENUE SERVICE CENTRE
PO Box 660335
Dallas, TX 75266-0335.

Tax Quiz

ANSWER TO LAST MONTH'S QUIZ: No. The taxpayer in this situation is eligible for an exception to the penalty under Section 72(t). The exception applies if a taxpayer receives a distribution as a result of separation from service occurring during or after the year the taxpayer reaches age 55.

THIS MONTH'S QUIZ: An employee of a US company is sent to London on temporary assignment for a period that will exceed one year. The US employer pays the employee in US currency and deposits the salary directly into the employee's US bank acount. Is this considered foreign income eligible for the foreign earned income exclusion?

Short Term vs Long Term Capital Gains

A short term capital gain is holding a capital asset for less than 12 full months before sale. Long term is simply holding the asset more than one full year.

What is less simple to understand is the interplay between long term and short term. When both long term and short term sales occur in a tax year, four possible outcomes can occur. Simplisitically:

1) Long term gain with short term gain. The former is taxed at 0% (2008) or 15% depending on tax bracket (25% or 28% can apply in limited circumstances), and the latter at up to 35%.

2) Long term loss with short term gain. If the gain is bigger than the loss, you will be taxed up to 35%. If the loss is bigger, the resulting net long term loss up to $3,000 for married joint filers can be taken to offset other income.

3) Long term gain with short term loss. If the gain is bigger, you would have a net long term capital gain taxed at favorable rates. If the loss is larger, the resulting short term loss up to $3,000 applies as in 2).

4) Long term loss with short term loss. Long term losses offset long term gains while short term losses offset short term gains. But when short term losses exceed $3,000, you must use these up first to offset ordinary iincome with the balance being carry-forwarded with the long term losses to a subsequent tax year.

How Much Did It Cost?

Ever wonder when you are presented a Form 1099-B for the sale of stock what on earth was the cost? One way to find out is on the corporate website. Search the page for "Investor Relations" where you will usually find the history of the stock's price, dividends, stock splits or stock mergers. From this data, you should be able to track the stock price. But you will need the approximate date of purchase or acquisition! Otherwise, llacking the cost (basis), IRS assigns a zero basis.

International Taxation Anomolies

American expatriate Tom Howard (name changed) has been residing in Portugal for fifteen years. He is a self-employed consultant and his wife an employed teacher. The couple have no dependents.

Last October they were notified by the tax authority that their tax return was being audited.

In the audit, the auditor denied the couple certain deductions: medical expenses paid out in America and business expenses earning foreign income. Tom protested that his wife had to see a specialist in America and that this deduction had in past years been allowed. The auditor stood firm, that in her local office such deductions were not allowed unless the American embassy could verify the veracity of the expenditure (not possible).

As a consultant generating fees outside Portugal and incurring related business expenses, Tom was astonished when the auditor said that only business expenses incurred in Portugal were allowed. 'But I am reporting my foreign earnings here!'

The rub is that self-employed persons are allowed a 35% exclusion against income generated in the country but not against foreign earned income outside the country. Tom left the audit in a huff.

Ponderable: The only ones receiving aid are the financial institutions. - attributed to Jim Clancy, CNN

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Welcome New Subscribers

The Taxbarron Report would like to welcome new subscribers to this free publication who have signed on in the last 60 days. This publication is intended to help American expatriates keep abreast of their tax filing requirements, tax laws affecting their lives and newsworthy events of a global nature. We welcome comments from all our subscribers.