What to Do with a K-1 with a Fiscal Year End

K-1Question: I received a K-1 from a partnership I’m invested in. Their fiscal year-end is September 30th.

The K-1 for the year ended September 30, 2014 shows that it’s a 2013 K-1. I received the K-1 in 2015. What year do I report this K-1?

Answer: for taxpayers receiving a Form K-1, the information is reported based on the fiscal year-end. In this example, the information would be reported on the taxpayer’s 2014 tax return because the K-1 relates to the year ended September 30, 2014.

The fact that the form says it’s a 2013 form is relevant on the partnership side (the partnership’s tax return for the FYE 9/30/14 is considered a 2013 filing on the partnership side). But this isn’t relevant for the recipient.

Is Iowa Filing Status Tied to Federal Filing Status When You’re Married?

Image courtesy of user Nemo on Pixabay.com
Image courtesy of user Nemo on Pixabay.com

Question: if my spouse and I file our federal tax return as married filing jointly, can we file separately in Iowa? What about filing separately on the federal return but jointly in Iowa?

Answer: the short answer is yes, this is okay but with a few catches.

Iowa Filing Statuses

Iowa offers three filing statuses for married couples:

  1. Married filing jointly
  2. Married filing separately on a combined return
  3. Married filing separately on separate returns

I’ve written about this before so won’t go into more details here.

A married couple can choose any of these 3 statuses regardless of how they filed their federal tax return. So a couple can file jointly on the federal return but separately in Iowa, or vice versa.

Catches

There are certain items that I believe would need to be taken into account on the Iowa return, especially if your federal filing status was married filing separately.

For example, I believe the following is true (based on discussions I’ve had with Iowa Department of Revenue … the instructions to the Iowa 1040 aren’t clear on this):

  • If you had student loan interest or paid college tuition, those things would not be deductible on the Iowa return if you filed your federal tax return as married filing separately. The reason being, those deductions are not available when filing separate federal returns, so you wouldn’t be able to take them on your Iowa return. The Iowa deduction for those items is tied to what was actually deducted on the federal return. If you filed separately, you got no federal deduction and thus get no deduction in Iowa, regardless of your Iowa filing status.

What About Dependents

The question of who can claim the kids on separate Iowa tax returns is often asked. This is worthy of its own blog post down the road.

Generally, it doesn’t really matter who claims the kids but again, there are some catches that need addressed in a separate post.

Tips For Financing a Small Business: Part 2 of 5 — Use Your Accountant as a Resource

phone-487702_1280In February of 2014, I wrote a blog post titled “Financing a Small Business: 4 Items to Remember.” Over the next few weeks I’m going to expand on the 4 things from that post, plus a bonus 5th item that came to me later.

Today is Part 2: Work with Your Accountant

Good accountants and tax preparers can be excellent resources for business owners. I know good bankers, attorneys, investment advisors and insurance agents that I can refer the owner too. (I also know some “not good” bankers, attorneys, investment advisors and insurance agents that I can steer you clear of.)

Most people don’t realize that their accountant can be this type of resource.

As always, most of the blame for this lies with accountants for not telling our clients about all the things we can do for them.

When looking for a business banker, what should you look for? My experience with business bankers has been a mixed bag. Here are 2 things I look for when determining whether or not a banker belongs on my “good” list:

  1. Experience with businesses and familiarity with basic business terminology. A lot of times I’ll use terminology as a quick test to weed out the bad bankers. I can spot a clueless business banker by looking at their expression when terms such as “Schedule C” are used. (Schedule C is the reporting form used by sole proprietors; it’s a common term and a banker who works with businesses should not look confused when it’s used.)
  2. Professionalism. For me, this is more than just looking at the banker’s appearance and conduct. The key on professionalism (for me) is: is the banker thinking about the needs of the business, or is the banker just trying to hawk additional products? Some banks require their bankers to be constantly selling and pitching products. This isn’t really the banker’s fault because they’re just doing what they’re told, but that would be a bank I would not go to for a loan.

I take my professional network seriously. If a professional (banker, attorney, investment advisor) doesn’t meet my high standards, I will not refer clients to them. Period.

And yes, I have a formula I use to evaluate these connections.

Most accountants probably don’t go that that nerdy of an extreme, but the point is, use your accountant as a resource when seeking financing for your business.

Image courtesy of user Hebi65 on Pixabay.com

What to Do When a Management Company Issues a Wrong 1099 to Rental Owner

calculator-178127_1280Scenario

Taxpayer owns a rental property. They hired a property management company to oversee the property. During the year, total rent collected was $10,000. The management company kept $2,000 for their fees and paid another $1,000 of repairs. The actual amount of money the taxpayer received from the company was the net amount of $7,000.

The management company sent the taxpayer a 1099-MISC that showed $7,000 of income in box 7 of the 1099.

Is this correct, and if not, what’s the fix?

Is It Correct?

The 1099 from the management company is wrong in two ways.

First, a 1099 from a property management company is supposed to show the GROSS collections rather than the net amount. See Treasury Regulation 1.6041-1(f)(1) as well as Example 5 under 1.6041-1(e)(5).

So the 1099-MISC should have reported the full $10,000 of rent collected. The taxpayer reports $10,000 of rental income on Schedule E, and then takes deductions for the $3,000 of expenses.

Second, rental income is reported in box 1 of the 1099-MISC, not in box 7. Box 7 is used for payments to independent contractors.

Why is This a Problem?

Since the taxpayer received a 1099 showing independent contractor pay, the IRS will be expecting the taxpayer to report that amount as self-employment income on a Schedule C and pay self-employment tax.

What’s the Fix?

The taxpayer needs to contact the management company and have them issue a corrected 1099 showing $10,000 in box 1.

Planning for the Worst-Case Scenario

What if the management company refuses to re-issue the 1099?

One time, I dealt with a similar scenario where, for reasons known only to the issuer of the 1099, they absolutely refused to issue a corrected 1099. That case was a car dealership that had issued my client a 1099 that showed the amount of a trade-in as box 7 income. The dealership refused to correct the 1099.

In that case, I created a Schedule C and showed the box 7 income as income. Then, under “other expenses” I showed a corresponding expense called “1099 issued in error” so that the Schedule C netted out to $0. (I’ll go into more about this situation in a future post.)

In the case of our rental example here, I would;

  1. Properly report $10,000 of rental income on Schedule E.
  2. Create a Schedule C showing $10,000 of gross revenue and $10,000 of expenses so it nets to $0.
  3. Make sure everything relating to the case is documented in case the IRS comes calling.

Again, this is what to do in the worst-case scenario of not getting a corrected 1099. Best case, the company re-issues the 1099 and no Schedule C would be necessary.

Alternate Scenario: Box 1 but with the Wrong Amount

What if the rental income was correctly reported in box 1 of the 1099, but incorrectly showed $7,000 instead of $10,000?

In that case, the truly proper thing is to get a corrected 1099, but I would probably do the following: report $10,000 of rental income (regardless of what the 1099 shows) and report $3,000 of expenses and be done with it, rather than chasing after a corrected 1099.

Handling Franchise Fees on a Tax Return

Scenario: client is a sole proprietor. They enter into a small ($5,000), 5-year franchise agreement. The client is paying the $5,000 ID-10028287over a 24-month period. The client is also paying ongoing royalties and marketing fees to the franchisor. How is all of this handled on the Schedule C?

Answer:

This scenario sounds complicated but the answer is straightforward.

  1. The $5,000 franchise fee is considered an asset. The $5,000 is deducted over 180 months (15 years). This is true even though the franchise agreement is only 5 years long.
  2. The monthly payments on the $5,000 are not deductible unless the client is paying interest, in which case the interest would be deductible.
  3. The ongoing royalties and marketing fees are deductible as paid.

What this means is, if the client renews the franchise agreement 5 years from now, they’ll have TWO franchise agreements to account for as an asset on their tax return — the one they entered into 5 years earlier, plus the one they just entered into.

This is true even though the old franchise agreement expired after 5 years — it’s still deducted over a 15-year period.

Image courtesy of Ambro / freedigitalphotos.net