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16 December 2015
Where did 2015 go? It flew by. The older I get the faster the years seem to go. they tell me most people experience that phenomenon, and that makes sense. When you're 10 years old 1 year is 10% of your entire life. That makes a year a significant span of time. When you're 50 years old 1 year is 2% of your life. A much less significant span of time.
I retired from the US Navy 5 years ago. Hard to believe it's been 5 years, but it has. I was in the Navy for 23 years, 8 months and 18 days (but who's counting?) and it seems like just yesterday. But as of 30 November I have officially been a civilian for 5 years.
I was thinking about my transition to civilian life recently. There were a few bumps. Figuring out Tricare and Delta Dental were two of those bumps. Then there was the Survivor Benefit Plan (SBP). In addition there was also a bump related to figuring out my taxes. You'd think a tax nerd would have an easy time with his own tax situation, but I made a few mistakes. I thought I'd share those with you. Maybe some future retirees will have a smoother transition than I had if they read this.
My lovely wife, Tade, and I decided to remain in Virginia after I retired from the Navy. She had a good job. We still had one child in high school and one in college in Virginia. We like it here. It was a good fit for us. I focused my civilian job search on Virginia, and I was fortunate to find a great job right here in Virginia Beach.
One consequence of remaining in Virginia, however, is that I immediately became a Virginia resident and subject to Virginia income taxes. I could no longer hide behind the (rather flimsy) veil of being a Florida resident transported to Virginia against my will by the Navy. (Never mind that I owned a house here, voted here, had 4 cars registered here, and sent my kids to school here.) I was a Florida resident for as long as I was on active duty. (Florida has no state income tax if you didn't know, so it was to my personal advantage to maintain my residency in that state for as long as I could.) That good deal came to a screeching halt on 01 December of the year I became a civilian. I was fully exposed to Virginia taxation. So was my pension.
A few states do not tax military pensions, but Virginia isn't one of them. Just like the federal government, Virginia will tax it like it is income. They will also withhold taxes from your pension just like they would withhold taxes from your active duty pay. The problem is they tend to under withhold - by a lot! So much, in fact I had to pay a penalty for under withholding to both Washington and Richmond my first full year out of the service.
The reason this under withholding tends to happen is that the DoD doesn't know you have other income in addition to your pension. They treat it like it is your only income. Let's say your pension is $30,000 per year. The DoD looks at that and says, this person will be in the 10% tax bracket, and they'll withhold taxes as though you are in the 10% tax bracket. They don't know you and your wife are also making a combined $150,000 at your jobs, and your top marginal rate will be 25% (or maybe 28%). They should be withholding a lot more. When you file your tax return you'll discover not nearly enough tax was being withheld from your pension and you're going to have to stroke a check to both the United States and the Great State of Virginia.
That stings a bit.
You can avoid that sting by setting up your tax withholding in MyPay to match what you will actually owe in taxes. You can do this by lowering the claimed exemptions on your form W-4, but that still might not be enough. I found it easier to just give them a straight dollar amount to withhold every month. I estimated our tax bill, subtracted what was already being withheld by our employers, and then told MyPay to withhold the rest from my pension. Now I don't have to worry about under withholding and the associated penalties that can lead to.
If you want some help estimating your taxes so you can set an appropriate withholding amount , please contact me
09 December 2015
If you want to make yourself crazy this tax season, call around to different tax preparation places and try to get a straight answer over the phone about how much they will charge to prepare your taxes. It's pretty rare to get one. The most common answer is "we charge by the form, so it really depends on which forms you need to file your taxes." I know this because I gave that answer quite often when I was working for one of the large tax preparation firms.
I wanted to give a straight answer, but I couldn't. The truth is that I didn't know how much the company was going to charge. The rates were set by the corporate office in another state, and I didn't know what they were. Sometimes I would use my experience with other clients to provide an estimated range to the person calling. "I think your tax preparation fees are going to be between $200 and $250." I had to give up trying to do that, though, after I had guessed low a few times. The customer would rightfully be irritated when I told him on the phone I thought it would be $250 and it turned out to be $400. It was easier to deal with a customer's frustration of not getting a straight answer than it was to deal with a customer who felt like I lied to them on the phone.
One thing that made estimating the fee for tax preparation difficult was the game most tax preparation firms play with their fees. The fees being charged change throughout the tax season. At higher volume times the price goes up. At lower volume times the price goes down. I suppose that's just supply and demand, but try to tell that to a single mom who had to schedule her tax preparation appointment around everything else going on in her life. She doesn't always have time to consider the timing of her tax appointment to coincide with the best pricing opportunities. She needs to get in and get it done before the sitter goes on overtime.
Below is a graphic I made showing how the tax fees at most tax preparation firms tend to change throughout the tax season. I also added my impression of the corporate attitude at the peaks and valleys. You can use it to help you plan your tax appointment with the large tax preparation firms.
Or you can just come see me. I don't play that game. My prices are fixed at the start of tax season and remain constant throughout. You won't have to guess how much I'll charge, either. I post my prices on this website. If you know which forms you'll need you can figure out your tax prep fees before you ever decide to call.
If you don't know which forms you'll need, call me. I'd be happy to discuss it with you.
02 December 2015
It's that time of year when the retail companies of the world ban together to create shopping events. Black Friday - the oldest and most widely know of them - has been around for several decades. Small Business Saturday and Cyber Monday are relative newcomers to the scene. All three share a common purpose - they are all events designed to encourage you to get your Christmas/Holiday Season shopping up and running. In their opinions, it's time for you to go buy some stuff!
I'm a consumer (of course) and we celebrate Christmas with gift-giving in our home, but I am not a participant in these massive consumer events. Not my cup of tea. The crowds and the frantic atmosphere wear on my nerves very quickly. I am usually at home or work on those days. I am not opposed to shopping around for a bargain, I just don't want to feel like I am competing with others to do it.
It's impossible to ignore these major retail events completely, though. My Thanksgiving Day football games this year were sponsored by Target and Wal-Mart - and their amazing deals! Every commercial break that day was loaded with the suggestion that I was really going to be missing out if I didn't get out and buy some stuff within the next 24 hours.
It got me thinking - how valuable are these sales? How much are people really saving, and is it worth it? Is the advertising 100% hype or is there at least some truth to the matter?
In order to formulate a reasonable assessment I had to do about 15 minutes of research on the interwebs. Here is what I found: Experts recommend spending between 1% and 1.5% of your annual household income on Christmas. Every family and their traditions are different, of course, but let's use those percentages as an acceptable range.
A household with a total income of $80,000 should spend somewhere between $800 - $1,200 on Christmas. If you're able to save 50% of that amount by using the super shopping events right after Thanksgiving you would save between $400 to $600 dollars. That's not bad. That's significant money in a household with a total income of $80,000.
Given my line of work, though, something else was immediately apparent to me. $600 is also likely to be chump change compared to what that household could save if they engaged in tax planning. In my experience many households leave significantly more than $600 on the table in unused tax credits and deductions every year. Money they could have kept for themselves, but they gave to Uncle Sam instead.
Additionally, tax savings can have a lasting impact beyond the current year. Saving on Christmas gift purchases is a onetime deal. With tax planning the benefits can be realized both now and again in the future. A tax benefit taken this year can continue to be a tax benefit for years into the future. Some tax benefits you take this year could even benefit your children or grandchildren decades from now - even after you're gone. (And you don't have to camp outside the store overnight to get those tax breaks, either!)
Our TVs, radios, and internet-connected devices will constantly be reminding us for the next few weeks of super sales where we can save a few dollars on our holiday shopping. You won't see or hear very much about how to arrange for a lifetime of savings through proper tax planning, though. It's a shame, really, because it can truly be a gift you give your family that keeps on giving.
If you want to find out more about tax planning please contact me.
25 November 2015
Most taxpayers know what a form W2 is. If you're expecting a tax refund that's the form you're checking the mailbox for every day until it arrives because you can't file your taxes without it. (That's probably old school. Nowadays most people are probably checking to see when their W2 is available for download.)
It's official name is the Wage and Tax Statement. The IRS dictates who has to file them (employers) and by when (31 January). Your employer has until the end of January to have your W2 to you. If you don't have it by then, start asking questions at work.
I started writing a post to explain the W2, but it was starting to look like a book! Instead I decided to answer the 5 questions about the W2 that get asked the most.
1. I have two W2's, why do they look so different?
The IRS does not require a specific format for the W2, only general guidance is provided. Box 1 must have the same information on every W2 (wages, tips, and other compensation), but Box 1 can be anywhere on the form. The boxes don't have to be in order, and sometimes they aren't! As a tax preparer I am not a fan of W2 creativity. I see a large variety of W2 styles and I frequently need to hunt for the information I need.
2. Why did I receive so many copies of the same form?
The IRS specifies that you must receive 4 copies of your W2 - 1 for federal, 1 for state, 1 for municipal (in case you pay municipal income taxes), and 1 for you to keep. To save money, many W2 preparers have opted to put all 4 copies of the W2 on a single sheet. They can do this by reducing the font size and making the information quite difficult to read. It also makes losing a single detached W2 very easy when they are one-fourth (or smaller) of the size of a normal sheet of paper. This 4-copy system is a relic from the era of paper filing. Now that most filing is electronic, people usually end up with 3 or 4 copies of their W2 after their taxes are filed.
A generic W2 for reference:
3. Why is my income in boxes 1, 3, and 5 not the same?
Box 1 is the amount of your income exposed to federal income taxes. Box 3 is the amount of your income exposed to Social Security (SS) Taxes. Box 5 is the amount of your income exposed to Medicare taxes. The reason they are not the same varies, but I'll give the most common reasons I see. If Box 1 is larger than Box 3 and 5, it is often because you received a bonus or military specialty pays (or both). Those are subject to federal income tax, but not SS or Medicare taxes. If Box 1 is smaller than Boxes 3 and 5 it is often because you had money from your pay sent directly into an employer sponsored retirement account (401K, 403B, TSP, etc.). The pay going into your retirement plan is not subject to federal income taxes, but you still pay SS and Medicare taxes on it.
The most Box 3 can ever be (in 2015) is $118,500. That is the highest income you have to pay SS taxes on. There is no income limit on Box 5.
If your income in Boxes 1, 3, and 5 are different and the reason isn't stated above, come see me. We'll figure it out.
4. What's this stuff in box 12 mean?
It means the government wants to keep track of ALL of your compensation, not just the wages paid to you. Most commonly I see codes D and E, which are your 401K or 403B retirement plan contributions respectively. I also see code C, employer's taxable contribution to a life insurance plan. Code W, employer contributions to your cafeteria plan or health savings account. There are quite a few other codes. The W2 will sometimes have them written on the back (in very small font) or you can look them up online.
5. I am only doing 4 years in the military, why is Box 13 "Retirement Plan" checked?
Your participation in an employer-sponsored retirement plan impacts your ability to make tax-deductible IRA contributions. Even if you are not going to stay in the service long enough to get a pension, the IRS counts you as participating in the retirement plan for the purpose of your IRA contribution limits.
There's quite a bit more to form W2 than I covered here. If you have questions please contact me.
18 November 2015
Individual income tax return preparation is big business. The nation's largest retail tax preparation chain, H&R Block, reported $2.9 billion in revenues last year from income tax preparation. Block has over 11,000 offices worldwide. The other well-known names in this region, Liberty Tax and Jackson-Hewett, also reported strong revenues with nearly 10,000 offices between the two. My question is where are they now?
By now I mean in November as I am writing this. The H&R Block office closest to my house has been dark since April 16. The Jackson Hewitt office a little further up the road is also dark. I haven't seen anyone dressed as the Statue of Liberty waving at the side of the road in quite some time, either.
That office space isn't available on the rental market. The tax prep companies (or their franchisees) continue to hold onto their leases. Those offices are dark now, but they are waiting until next tax season to light the lights, open the doors, and invite us all to get our billions back.
How, do you suppose, these huge tax mills can afford to leave so many offices empty and unused for 8+ months out of the year? Could it be they actually make enough money during the 3-and-a-half months of tax season to pay their rent and utilities for the entire year?
That is exactly how they do it.
The largest tax preparation companies all have a similar business model: establish the brand, establish highly accessible offices, hire (and train) a ton of temporary help, and then charge enough to be able to sustain it all with just a few months of business each year. Given their recent revenue numbers it is a model that seems to be working. People are drawn to the stability a large company offers.
But...where are they now? If the IRS contacts you with questions about your tax return, where do you turn for help? How do you find your tax return preparer - the person that worked on your return. Fact is, if one of the big boys prepared it, you probably won't be able to find your preparer. Odds are pretty good they aren't currently on the payroll.
To be fair, you can get assistance from the big companies in the off season. They typically leave an office or two open in every region and keep a handful of tax preparers on payroll year round. The available office might not be in a convenient location for you, and it probably won't be the person who prepared your tax return, but you can get some help.
I am also a financial planner, so PIM Tax Services is open year round. If there's an issue to discuss with your taxes in November (or any other month) I am available to answer it and, if necessary, work on it. I don't need to earn enough in 3 months to last me all year long. I don't buy air time on network television so that my bow-tied spokesman can tell you how to get your tax refund. Nor do I have a board of directors and stock shareholders anxious to get their next dividend payment . All of this enables me to keep my prices low and provide top quality service to every single customer.
The big boys in the tax business want to prepare your tax return next year. I want to be your trusted adviser for life. We are wasting our time if we don't plan on working together 10 years from now. If you want to build a relationship with a tax preparer you can trust to be there for you, contact me.
11 November 2015
By themselves state tax returns are usually not complicated. Most state forms are similar to the federal forms and many states also have helpful websites to answer your questions. Despite this, most of the problems I see (and experience) are related to the state tax return forms.
Tax software is designed to have you fill in the federal tax forms and then your state return should automatically fill from the information on your federal tax return. Most of the time that works just fine. But not always. If your federal and state tax returns are not being filed the same way - if the federal and state returns are different for some reason - the software can't always handle it. Mismatched state and federal tax returns are a common occurrence here in Virginia Beach due to the large population of military personnel in the region.
A situation I see quite often is a military person moves to Virginia from another state and gets married. The service member uses another state (let's say Florida) as his home of record, but his spouse is a Virginia resident. They file their federal return jointly. His income is not taxable in Virginia and he is not required to file a Virginia return. The spouse's income is taxable in Virginia and she must file a Virginia return. Virginia's solution to this situation is to have the spouse file her tax return as married filing separately.
While this is the correct (and most advantageous) way to file, most tax software puts up a fight when you try to change the filing status on your state return to something different than your federal return. When that happens you (or your tax preparer) can end up sitting there for quite a while trying to figure out how to get the tax software to produce the answer you know is right!
I have had several clients in past years who wanted me to file just their state return. They have filed their federal return, but they can't get their software to give them the right results for their state return. They give up fighting with their software and bring their problem to me so that I can fight with my software. (That's not a problem, by the way, I don't mind doing that. My software provider actually likes me because I keep providing them useful feedback on how to make their product better.)
Enough about the software, though, let's look at that situation again. My two-state couple files their federal return jointly, but only she has to file a Virginia return, and she is going to file it as married filing separately. I see some room in that situation for a little tax savings for couples who itemize their deductions. As a Florida resident he isn't going to file a state tax return. He doesn't need any deductions (or exemptions) in his name. That means we can overweight the deductions and exemptions in her name so she gets credit for them on her Virginia state income tax return. The software won't do this automatically, but we can manually override it for some additional tax savings.
I wouldn't recommend going overboard with this tactic and piling every single deduction from the federal return on her state return. The fine folks in Richmond are not going to believe that he made $50,000, she made $30,000, yet she can claim all $20,000 worth of deductions. (Virginia audits returns and requires proof just like the IRS does.) But if she has made some charitable contributions during the year, perhaps they can all go on her return. If a couple maintains separate bank accounts and she is paying the mortgage from hers, I think you can substantiate her claim on the mortgage interest deduction for her state return. If there are dependents, you should definitely put them on her return in this situation - unless it is completely unjustifiable for some reason.
Sometimes a military couple will need to file separately in two different states. In that case we would want to overweight the deductions on the state return where they would generate the most tax savings. Every situation is different, and needs to be considered based on its own merits, but I can often squeeze a few more dollars out of a state return using this technique.
If you want some assistance getting your state taxes filed, please contact me.
04 November 2015
Many people have something they do (or could do) in addition to their regular job that can make some extra money. For example, I built some Adirondack furniture for use around my home. Some friends commented that they liked the pieces, so I made them some as a gift. Not long after that I had people offering to pay me to make some chairs. While I doubt I could ever support myself making Adirondack furniture, it could turn into a little side gig where I could make some additional money doing something that I enjoy.
If I began building chairs to sell - do I have a hobby that produces income, or have I started a business?
Unless it is specifically excluded, the IRS considers income from any source (including hobbies) to be taxable. However, the IRS treats hobbies and businesses differently, and the tax advantages and disadvantages between hobbies and businesses are also quite different. The IRS has some guidelines on how to differentiate between a hobby and a business, but the bottom line is that a business is actively pursuing a profit. If your business is persistently losing money it looks more like a hobby. If your hobby is highly profitable, it looks more like a business.
Below is a table of the relative tax consequences of declaring your activities a hobby vs a business.
Let me go into some additional detail on each of those issues.
The main advantage a hobby has over a business is being exempt from self-employment taxes. Self -employment taxes are the equivalent of payroll taxes for self-employed taxpayers. These are your Social Security and Medicare taxes. Not only do you have to pay your share as the employee, but when you are self-employed you must also pay the matching share as the employer. This is no small tax, amounting to 14.13% for most self-employed taxpayers. This is in addition to your federal and state income taxes. If you live in Virginia, and your federal top marginal rate is 25%, you are looking at paying 25% (federal tax) + 5.75% (Virginia tax) + 14.13% (payroll tax) = 44.88% of your business income in taxes. If your small business earns $1,000 above expenses, you can keep $551.20. If you have a hobby you don't pay self-employment taxes and your total tax rate is 25% + 5.75% = 30.75%. If your hobby earns $1,000 you can keep $692.50.
Businesses, on the other hand, have greater latitude for deducting expenses than a hobby. This is especially true with a hobby that requires some capital investments. Take my Adirondack furniture activities, for example. Say I decide to buy a new table saw with an increased capacity enabling me to produce chairs more efficiently. Can I write that off my taxes as a hobby expense? Only to the extent that I have hobby income in that year. Plus, I have taken steps to improve the profitability of my furniture building activity - making it look less like a hobby and more like a business to the IRS.Can I have a big fancy table saw as part of a hobby? Of course, but I should be prepared to explain myself to the IRS. On the other hand, if I declare my Adirondack production activities a business I can deduct (via depreciation) the cost of my new saw and the IRS won't bat an eye.
Your hobby cannot take a loss as a tax write off, either. You can only deduct expenses up to the amount of your hobby income. If I sell my chairs and take in $1,000, but I have $2,000 in expenses, I can claim only $1,000 of the expenses. Unlike losses from passive activities, unused hobby losses cannot be carried forward to future tax years. If they cannot be taken because they exceed hobby income, they are permanently lost. Additionally, hobby losses are deducted on Schedule A as miscellaneous itemized deductions subject to the 2% of AGI floor. That means if my AGI is $50,000 I don't get credit for my hobby expenses until they exceed $1,000 (2% of $50,000). Unfortunately, you apply other deduction limits prior to the 2% limit, therefore I apply the $1,000 hobby expense limit in this scenario (limited by hobby income) and then apply the 2% of AGI limit. This sequence means that unless my hobby income exceeds 2% of my AGI I can't take any hobby deductions at all!
A business, on the other hand, can write down losses in excess of business income. Your losses on Schedule C can be used to reduce your AGI, and the taxes you have to pay on income from other sources.
For tax purposes, if your activity is making money you want it to be a hobby so you do not have to pay self-employment taxes. If your activity is losing money you want it to be a business so you can get full credit for your expenses and deductions. You don't get to just pick and choose, however. The IRS looks closely at businesses that are losing money every year to determine if there is truly a profit motive, or if the person is just improperly writing his hobby activities off his taxes as a business. Likewise, if your hobby is persistently making money in increasing amounts, you can expect the IRS to check to see if you are really running a business.
If you want help determining whether your side gig is a hobby or a business, please contact me.
28 October 2015
I am very fortunate that I had a living Grandmother for so much of my life, but she passed away last week. She was withered and frail at the end, but her mind was still keen. She was widely revered in my family for her wit and wisdom. I am sure if I had ever asked her if she thought she was wise she would not admit to it. She would probably say she just had common sense. (Something that seems altogether less common in our society these days.)
I have been thinking of the things she used to do and say. Whatever you want to call it she taught me many life lessons, and one of them is to not be wasteful. She and my grandfather (who passed last year) lived comfortably on very little money. They knew how to stretch every nickel, and I learned from them how to do the same.
A penny saved is a penny earned is an old adage that I often heard growing up. I don't hear it as often these days, but I think it is just as valid as it ever was. Given the estimates on retirement savings rates I read about, it might be time to revive a penny saved is a penny earned. Saving & investing needs to be taught and encouraged with every generation of Americans.
Remarkably, some of my Grandmother's wisdom seems to have made it's way into the tax code. In some circumstances a penny saved can immediately be turned into more than a penny earned. To encourage individuals to save for retirement the government provides tax incentives. Certain types of saving can reduce your tax bill, resulting in an immediate gain on the amount you save.
Imagine that your top marginal rate is 25%. If you put $200/month into the retirement plan at work (or a traditional IRA) you would have $2400 saved at the end of one year. Since money put into an IRA comes off your taxes as an adjustment to income, you would also have reduced your tax bill by $600 (25% of $2400). That means it only cost you $1800 to save $2400. 180,000 pennies saved, 240,000 pennies earned. The guaranteed rate of return on your savings in that scenario is so incredibly high it boggles the mind. If an investment advisor promised you a 25% return on your investment I'd say run away as fast as you can, but in this case it's a certainty.
Let's not forget about state income taxes. In Virginia the top marginal rate is 5.75%. That saves you (if you're a Virginia resident) another $138 in taxes. That means it only cost you $1662 ($1800 - $138) to save $2400. Add to that total any matching contributions offered by your employer and you are in the investment return stratosphere right out of the gate.
To sweeten things even more for people at the lower end of the wage scale there is also a Saver's Credit. The Saver's Credit provides an additional retirement saving incentive in the form of a non-refundable tax credit of up to 50% of the amount saved. Income limitations and filing status impact the amount of the credit according to the table below.
Military members serving in a combat zone will often have an unusually low AGI because of the combat zone tax exclusion. What a great year to save that can be!
The federal government provides more incentives for paying for college than saving for college, but there are still some college savings tax benefits. These are found primarily in 529 college savings plans. 529 plans are sponsored by the various states and there is no federal tax benefits for your contributions to a 529 account. Most states, however, allow a state income tax deduction for your contributions. The Virginia 529 allows up to $4,000 to be deducted per account per year from your Virginia state income taxes. At a top marginal rate of 5.75% that is an immediate tax savings of $230 per $4,000 contributed. Or as I like to say, it only cost me $3,770 to save $4,000.
Money in a 529 plan grows tax free and is exempt from both state and federal taxes if it is used to pay for a qualifying higher education expense (QHEE). If you saved $166.67/month for 15 years ($2,000/year) and it grew at a reasonable 0.5% compounded monthly (6.168% APY) you would have invested $30,000 and have $48,470.75. The tax benefit of having that $18,470.75 (the growth on your $30,000 investment) growing tax free is $5,679.76 (marginal rate of 25% federal and 5.75% Virginia). $5,679.76 will buy you a semester of tuition at James Madison University. (I know, I just paid for one!)
The bottom line to all of this is that my Grandmother was right. A penny saved is a penny earned. And if your saving also gets you additional tax benefits your saved penny turns into pennies very quickly. If you want to explore ways to increase your tax savings, please contact me.
21 October 2015
How much is your time worth? Would you fill out a couple of forms that might take you 20 - 30 minutes for $230? If you will be paying college expenses one day and you pay taxes in the state of Virginia you can get that $230 every year if you want it. If you're really motivated, you might be able to fill out some additional paperwork and collect an additional $230 every time you do.
Here's the deal - the Virginia 529 plan offers Virginia residents the opportunity to deduct up to $4,000 annually from their Virginia Adjusted Gross Income for each Virginia 529 plan they own and contribute to. You can deduct your contributions dollar-for-dollar up to $4,000 for each account you put money in, as long as you are also the owner of that account. The top marginal income tax rate in Virginia is 5.75%, meaning you can save $230 each time you deduct $4,000 from your Virginia AGI.
Virginia also allows a carryover of any unused deduction. If you contribute $10,000 to a single account in a year you can deduct $4,000 for that tax year, $4,000 in the next tax year and $2,000 in the tax year after that.
Virginia 529 plans are individual in nature, and can only have one owner. But beneficiaries - the person you intend to use the money - can have multiple accounts as long as the total of all accounts for one beneficiary remains below $350,000. Meaning...you can be the owner for an account for your child, and your spouse can be the owner of another Virginia 529 account for the same child. If you each contribute $4,000 to your respective accounts, then you can take $8,000 off the Virginia AGI on your joint state income tax return. Have two children? If you and your spouse both open an account for each child and you put $4,000 in each of those four accounts, you can deduct $16,000 from your Virginia AGI in a single year. That's a tax savings of $920 that year!
Here's a nifty concept: there is no minimum time requirement for your money to be in the Virginia 529 account to qualify for the tax benefit. In other words, you can deposit the money into the Virginia 529 account, take it out a week later, and still qualify for the state income tax deduction. Just make sure you have qualifying higher education expenses (QHEE) in the amount of the 529 distribution and your tax deduction is yours to keep.
There are 4 Virginia 529 programs to choose from, but the best for a short time frame is called College Wealth. You essentially open a bank account at BB&T or Union Bank & Trust and deposit the money there. Make sure you get the right forms to characterize the account as being within the Virginia 529 program. Your money sits in the bank earning higher than normal bank savings interest (1% on savings last I checked - it varies) and it's FDIC insured. There are better plans for long term Virginia 529 investing, but if you're just doing a quick turnaround for the tax deduction the bank account is the lowest risk way to go.
There are several ways to get your money out of the College Wealth account, but I found the easiest is to have them send me a check. You request a withdrawal via your account on the Virginia 529 website and tell them where you want the check sent. It's not lightening fast, but it is sufficient. I requested my most recent withdrawal on August 30 and I received the check in the mail on September 8. Plenty of time to pay my son's bills at James Madison University.
DO NOT take your money out of another 529 account and cycle it through a College Wealth account. That will count as 2 withdrawals for education. You will have to account for QHEE to cover both distributions or face the tax and penalties for an unqualified withdrawal.
529s are a great tax deduction, but if you qualify for the American Opportunity Credit or the Lifetime Learning Credit you will likely get a larger tax benefit using one of those tax credits. Make sure your use of the Virginia 529 does not interfere with your eligibility for those other more valuable tax credits for education. The good news is that unlike the AOC and LLC, you can use 529 money for room and board, so it is possible to take advantage of more than one tax break for education per student per year. You can get the AOC for the tuition expense and the 529 tax benefits for paying room and board. You just need to keep things organized and coordinated (and documented for tax purposes!). If you have any questions please contact me.
Paul D. Allen is a proud member of the National Association of Enrolled Agents, the National Association of Tax Professionals the Financial Planning Association of Hampton Roads, the National Association of Personal Financial Advisors (NAPFA), and The Tidewater Real Estate Investors Group. You can read more about Paul's background here.
Bought some software and then started having second thoughts? Stuck on a particular issue? Give me a call and ask about a consultation. I might be able to get you back on the path to finishing your own return.