Big deduction for state tax: implications on estimated tax payments, AMT, penalties

WDK,

Is there any case law to support this, or would I be the Guinea Pig?

What does the rest of the crowd here think about this argument? It must be a common occurrence to want to to do what WDK suggests, for certain it is not only I that could need this.

OTOH, maybe it would make no difference because of AMT. I should check first.

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We have seen where you lost all use of the $270K in 2008 and will be paying AMT. That means you won't have to add any refund on it to taxable income next year.

I ipersonally don't agee with his statement: "The fact that you are not an accrual basis taxpayer is irrelevant." It's EITHER Cash or Accrual, not both.

ed

I don't know. What I do know is that IRS has accepted four returns that I have filed that complied with the Internal Revenue Code rather than IRS Instructions. It was necessary for the Taxpayer Advocate Service to pry a refund related to one of the (amended) returns. loose. IRS had already issued a refund under similiar circunstances for the prior year.

Looks to me like you have to choose between being a lemming or a Guinea Pig.

If you choose to be a Guinea Pig, you could have an opportunity to expose IRS's "DOUBLE OR NOTHING TAXATION" of the income/refund related to a tax overpayment when the AMT is paid in one year and the regular tax is paid in the other that violates the sections 111(a) and 56(b) (1)D) of the Internal Revenue Code. .

Here is a link to correspondence between IRS and me that was published in Tax Analysts' in 1999 regarding DOUBLE OR NOTHING TAXATION of refunds that provided a tax benefit in a year the regular tax was paid.

Cheers,

WDK

Ed:

Where does it state in section 164 of the Internal Revenue Code that derk had to be an accrual taxpayer to deduct a state income tax accrued on income earned in 2007 but paid in 2008? As I read section 164, it only speaks of tax accrued in a year.

Where in section 56(b)(1)(D) of the Internal Revenue Code does it state that a tax deducted under paragraphs (1), (2), or (3) of section

Section 56(b)(1)(D) precludes refunds that provided only a limited long-term capital gains rate based tax benefit in the prior year when the AMT was paid from being included in AMTI. Without section 56(b)(1)(D), both the income and the refund related to the limited long-term capital gains rate based tax benefit would be included in AMTI and therefore double taxed.

Sometimes, IRS and states taxing agencies go off track with their instructions to taxpayers. Taxpayers just have to be alert. Example: North and South Carolina had a requirement for years prior to 2006 that non-residents with income in their state had to file MFS if his/her spouse did not have income in their state. The problem with that was that North Carolina did not have a statute with that requirement and if they did it violated the privileges and immunities clause in the US Constitution. Here are links to threads that discussed that issue in 2000 and 2006.

Cheers,

WDK

Ed, I think the more interesting experiment implied by WDKs post would be to recalculate 2007 taxes as if the 270,000 had been paid on before or on

I just did the experiment and it reduced federal taxes by about 14,294. Not bad,

The real question I think is whether anyone has case law to back this up with. I really would not want to be the first one to try this :)

WDK: Your issue about not paying the same tax rate for State Tax refunded (1040 line 10) as you deducted on Schedue A is valid and as I recall the IRS corrected this. However, you are reading "accrued or paid" as meaning *both* for the same taxpayer, whereas the intent is obviously to mean "whichever accounting method that taxpayer used".

ed

How does one change a persons accounting method choice from paid(A.K.A. cash?) basis to accrued basis?

And there must of course be some drawbacks to doing it, or else we would all be doing it already What are they?

Individuals can elect to be accrual taxpayers by filing form 3115 with the IRS. I doublt if you will find it advantageous even if you could figure out form 3115,and the IRS allows you to change. But you CAN'T combine accrual and cash for an item as WDK imiplies. You might have an accrual Schedule C or F within a cash1040. and I guess you could choose a *hybred* method of acounting where State Taxes are computed on an accrual method on an otherwise cash method 1040, but the complexities this causes would probably cause the IRS to not allow the accounting method change. .All 1040 instructions (and specifically for line 5 of Schedule A) refer to payents, not accruals, probably because no individual in his right mind would choose accrual accounting personally.and if you did you would know how to intrepret them for accrual vs cash. So, in this regard, as I said before, WDK's sites allow for *either* accrual or cash accounting.

You said " I just did the experiment and it reduced federal taxes by about 14,294. Not bad"

I don't think that's right because a $270K State tax payment might reduce 2006 *Regular Tax*, but then the AMT will apply in 2006 without the benefit of that Deduction.

ed

I agree with that. The clause from section 164 is "for the taxable year within which paid or accrued:..."

It means, "paid or accrued, whichever is applicable to the taxpayer."

Stu

taxpayer, ? > whereas the intent is obviously to mean "whichever accounting method that taxpayer used".

ed

"correct this" Correct what?????

Section 111(a) does not address the potential changes in regular tax rates from year to year causing the tax on a refund being more or less than the benefit received by the deduction of the overpayment in the prior year. Some times the government benefits and sometimes the taxpayer benefits when the regular tax rate in the overpayment year is different from the rate in the refund year. That is just part of the law.

Where IRS goes off track is when its instructions cause the taxable income ATTRIBUTABLE a refund to be more or less than the refund amout. When the refund from an itemized deduction recovery is included in AGI and there are AGI or MAGI based phase-outs of deductions, exemption, exclusion, credits, etc.and the regular tax is paid the taxable income attributable to the refund is almost always greater than the refund. That is not what is not permitted under the terms of section 111(a) of the Internal Revenue Code. Look at what happens when state income tax refunds are included in the calculation of taxable Social Security benefits.These instructions along with others have cost taxpayers billions of dollars going back to at least

As I have noted previously, section 56(b)(1)(D) does not provide for excluding tax refunds from gross income for purposes of determining Alternative Minimum Taxable Income when the refunds are from years when the regular tax was paid and the overpayments that produced the refunds were deducted under paragraphs (1), (2), or (3) of section

"obvious intent"

That is not obvious to me. If Congress meant for "accrued in section

WDK

ed:

For a cash basis taxpayer taxes accrue throughout the as income is received. Look at Form 2210. It is simply ludicruos for a person to be thrown into the AMT due to a large capital gain in the fourth quarter and the fact that the fourth quarter payment for a cash basis taxpayer is paid after December 31. For it to be as you have stated "either or", Congress would have to add language to that effect to section 164(a).

I believe that I have show conclusively how screwed-up IRS's interpretations of section 111(a) and 56(b)(1)(D) are. IRS's interpretations of those sections result in "DOUBLE OR NOTHING TAXATION" of the income/refunds related to state income tax overpayments even though the language in those sections does not permit such nonsense. When you can reconcile IRS interpretation of sections 111(a) and 56(b)(1)(D) with the language in those sections, I will concede on the "paid or accrued" issue but until then I am going to base my opinion on the words that are in section 164(a). No more, no less.

Cheers,

WDK

Stu:

When estimated taxes are paid on schedule the first three quarters are paid within the year and the fourth quarter taxes are accrued but not paid within the year. Thus the requirement of section 164(a) are met to claim all four quarters taxes for the year as deductions.

Cheers.

WDK

federal

It is not "ludicruos" that the taxpayer escaped AMT through out the year by using the AI Method. His 4th iinstallment makes up the difference between the lower of last year's tax or 90% of current yeaars tax and what he has already paid in the first 3 quarters. That's a pretty good deal for the taxpayer. It's not just the 4 th quarter subject to AMT, it is the whole year on his 1040. If he chooses to pay State income tax in December he loses the benefit due to AMT.. He can postone it to January in the hope that he won't be subject to AMT next year. I think it's prohibitive for him to switch back and forth between accrual and cash without gioing through the

The language is already there. All that is needed is that someone use ommon sense when intrepreting it. You can't pick and choose , particularly between quarters, whether to accru or cash.

Sorry, I can't follow most of your rant but I agree with you the IRS is scrfewed up for (probably)this and other reasons. Which part of OR don't you understand? Are you objecting because the IRS intreprets OR to mean accrual or cash in a way to somehow cheat the taxpayer?

ed

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What about the foreign tax credit on form 1116?

How can I agree or disagree? I can't even understand what you're saying let alone why you're now talikng about Foreign Tax. Do you have a beef with the IRS over that too? Cash basis= pay foreign or state tax in 2008 deduct it in 2008. Plus you have the lattitude to shift the last estimate to either year. what's not to like?

ed

To all:

Here is the law.

Sec. 164. Taxes a) General rule

Except as otherwise provided in this section, the following taxes shall be allowed as a deduction for the taxable year within which paid or accrued:

(3) State and local, and foreign, income, war profits, and excess profits taxes.

DEFINITION:

ACCRUE: 1: to come into existence as a legally enforceable claim.

There is a legally enforceable claim for state income taxes on income as the income is received from a cash basis taxpayer. Therefore, a taxpayer has the right to include all state income taxes on all income earned in a year as a deduction on the return for the tax year in which the income was earned whether it was paid in that year or in the next year if he so chooses. He just can't claim a deduction for the same tax twice. For a cash basis taxpayer, taxes are paid on a "quarterly" basis with some quarters being shorter or longer that others with the payment date for the fourth quarter being in the next year. The taxes on the fourth quarter earnings accrue in the fourth quarter of the tax year, not the first quarter of the next year.

You can point to IRS regulations, instructions, or forms until you are blue in the face and it is not going to change the language in section

In case any of you were not around for a prior disagreement that I had with a professor, an accountant and a highly respected authority on state taxation issues here are a couple of links to threads that you might find interesting.

Cheers,

WDK