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(Dinar Recaps Note: This post is for informational purposes only. It is not legal, tax or investment advice. Dinar Recaps advises that everyone should do their own due diligence and seek local Professional tax, legal and/or investment advisers.)
LESSON 4: Taxation Considerations
TAX BASICS EVERYONE SHOULD KNOW
Many of you have done your own taxes until now. Many have never done taxes. Many only do a short form 1040A. That is about to change for most in this forum. WE all need a CPA and possibly a tax attorney and an estate attorney (sometimes you can get lucky and find one attorney with both sets of knowledge, but that should not be your objective.) I can only address US taxes because it is all I know, sorry internationals.
There are some things about taxes we all must know to be responsible citizens. Even if you hire an accountant it is ultimately you who are on the line signing those tax forms. It behooves us all to understand the basics so we know when things could be amiss. The IRS is not very forgiving. even though it is an asymmetric system.
Federal Income Types
The IRS broadly categorizes taxes based on Earned Income and Other Income.
Earned income is usually from a job, self employment, an LLC you actively manage, etc. In other words it is income you obtain in exchange for your time and expertise. You will pay not only income tax on this income but social security tax as well. THis is sometimes also called Ordinary Income.
Other income encompasses sources like interest income, dividend income, capital gains income, gambling winnings, etc. It is all those things you get 1099 income statements for. You will pay income tax at a different rate from the earned income rate.
Capital gains are further divided into categories based on the length of time you have held the asset in your possession or gained full ownership (as in stocks held through a broker for example.) Short term capital gains are those held for less than 365 days. Long term capital gains are held more than 365 days. If you received your dinar or dong as a gift here is where the delivery of the gift becomes important.
In addition to differing rates on various types of income, there is a surcharge called the Obamacare tax that begins after your annual income exceeds $250,000 and it is a 3.8% tax. The tax rates can change frequently so they are a moving target sometimes. Many new tax rates were introduced starting in 2014. Some of these are the dividends rate, the long term capital gains rate, etc. Go to IRS.GOV and search for 2014 rates for the latest. Keep in mind that the rates can change as late as April of 2015 for 2014 taxes.
State Income Types
Most states do not want to bother with the complexities of devising their own complete systems, so they allow a taxpayer to extract bottom line numbers from the federal 1040 and associated forms and put them directly onto the state forms. Not ALL states do this, however, so beware of pitfalls. This is one reason why you need a local CPA.
TAX Due Dates
Generally your tax liability as an individual is due on April 15 following the tax year ending Dec 31. (YEs, you can have a different tax year, but then you already know the basics, so skip forward.) Note that I said TAX LIABILITY. Your taxes are due April 15 normally, but you can extend the filing of the forms until Oct 15 of the same year. However, you may NOT extend your tax liability. That means your tax payment is due on April 15. (Again, there are some weird exceptions, but let's just stay with the norm and basics.) Again, your taxes are due in full on April 15. Make a mental note as that is when the tax penalties begin and they are compounded monthly. It can turn into a real disaster in short order, so it is wise not to miss April 15.
The Federal government has discovered that many times people who owe a lot of tax cannot pay on April 15. This is targeted at self employed people, corporations, and people with large "other" incomes where withholding is not done automatically throughout the year. It is not an easy call as the rules are…. guess what?…. complicated! http://www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Estimated-Taxes But you can go here and read all about it from the horse's own mouth.
Here is an excerpt from that site regarding how much you have to pay in estimated taxes:
Generally, most taxpayers will avoid this penalty if they owe less than $1,000 in tax after subtracting their withholdings and credits, or if they paid at least 90% of the tax for the current year, or 100% of the tax shown on the return for the prior year, whichever is smaller.
Again, the tax liability will be so large for most of us that consulting a CPA is strongly advised. OR… you can just send in 50% of the proceeds. You probably will have overpaid, but there won't be a surprise penalty. These rules are onerous but a professional can help you. The IRS is not the one to choose to tangle with. Hire a CPA please.
The dates Estimated taxes are due are generally April 15, June 15, Sept 15, and Jan 15. There are penalties if enough is not paid per quarter. Note the dates are not evenly spaced. Of course there are other dates if these dates fall on a Saturday or Sunday.
And do not forget the States normally have estimated tax payments due as well. THis is another reason you need a CPA if all this is news to you. If you follow nothing else, please get a CPA. BUT the silver lining, especially for Californians, is that the state tax you pay is deductible on the federal tax forms. SO be sure to pay the state tax, then deduct it from your total proceeds, then deduct your charitable contrbutions, then compute your federal tax, actual or estimated. CPAs know this kind of stuff, which is another reason you need one! LOL
TAX RATES ON RV
There have been lingering rumors on tax rates, but nothing is in stone and or even in writing at this point. The safest thing is to figure on the capital gains rates for the dinar and ordinary income rate for the dong.
Rumors once said that if you take the lower contract rate the tax rate would be half of what it normally is for capital gains (whichever applies to you). If you take the higher contract rate the tax rate is as in the tax code. This could be very attractive to you. BUT this is all hearsay and it could change at any moment. If you take the worst case scenario you won't be caught without funds to pay the tax as that would be an unmitigated disaster for you.
In general you add up all your income, subtract your deductions, come up with an Adjusted Gross Income (AGI) then you start calculating taxes based on other info in your tax portfolio.
It is my sincerest hope that each of you will be paying it forward somehow. IMO the best choice is a donor-directed fund, which can manifest as a Community Trust where the donation becomes "donor advised." http://www.irs.gov/pub/irs-tege/eotopicm96.pdf The IRS condones these. It means you get to decide where the money goes each year, but you get the tax benefit this year when you have the income.
To summarize you get the write-off for the entire charitable donation in the year you make it. That is perfect for us because we will have a big spike in income this year and a much smaller one next year most likely. TO deduct anything off your taxes you must have INCOME to deduct it from. This year you will, next year? maybe not.
So a wise taxpayer will get a big spike in income in 2014, then send a 10-15% chunk off to a Donor-Directed Fund, deduct that amount off your taxable income, and THEN start to calculate taxes owed.
For example, let us assume simple numbers. Let's assume somebody is going to get $10,000,000 from a dinar exchange and they bought the dinar 6 months ago and they are married. That means short term capital gains applies. As of 2013 the short term capital gains tax rate equals ordinary income tax rates.
Here are the seven tax brackets for tax year 2013: (2014 is still being tinkered with)
Married Filing Jointly, or Qualifying Widow
Married filing separately
Head of Household
$8,926 to $36,250
$17,851 to $72,500
$8,926 to $36,250
$12,751 to $48,600
$36,251 to $87,850
$72,501 to $146,400
$36,251 to $73,200
$48,601 to $125,450
$87,851 to $183,250
$146,401 to $223,050
$73,201 to $111,525
$125,451 to $203,150
$183,251 to $398,350
$223,051 to $398,350
$111,526 to $199,175
$203,151 to $398,350
$398,351 to $400,000
$398,351 to $450,000
$199,176 to $225,000
$398,351 to $425,000
So clearly the income is found on the last line, the 39.6% rate. So on $10,000,000 the tax owed is about 35% of $450,000 or $157,500 PLUS 39.6% on $9,550,000 = $3,781,800. This totals #3,939,300 tax. (note the tax is slightly less than this because of all the lower brackets, but this is just an example.) That leaves you $6,060,700 after Federal tax. Remember there is also state tax that comes out of this.
Now consider that you first pay 10% to a donor-directed charity so you can choose each year where to contribute and to how many places. Now you only have $9,000,000 to pay tax on because the $1M gift is deductible in its entirety. SO. 35% of 450,000 is the same $157,500. Now the tax is on $8,550,000 at 39.6% is $3,385,800 for a total of $3,542,800 tax. You net $5,457,600. Your $1M charity contribution only cost you $503,500.
What if you gave 15% instead? The $157,500 stands. Now you pay 39.6% on $8,050,000= $3,187,800. Your total tax is $3,345,300 and your after tax money is now $5,154,700. So by giving away $1,500,000 to start your contribution cost you $900,000.
This does not consider the Obama tax of 3.8% additional, nor any state taxes. Bottom line? You can give away a substantial amount of money in perpetuity upfront and it saves you taxes while it benefits others. Please NOTE that if you were to try to donate this money in 2015 instead, you will not likely get the deduction because there may not be income to balance it against, so you would lose it by default. So 2014 is the right time to do this.
I know of a Community Trust (Pikes Peak Community Fund) where they pay to whomever you wish, even international charities, and the destinations can be multiples and change annually. You are required to give 5% a year. The Trust invests the rest and the yield is used to cover your 5% a year so you may have set up an charitable investment to last in perpetuity. They charge a 1% fee out of the money you donated per year and they do all the tax forms for you regarding this. After a fair amount of research this is the best deal all around in my opinion.
Where your treasure is there your heart will be.
Charitable tax Considerations
Because the tax rate on the dong is always at ordinary income rates, the best place to make a charitable contribution is out of the dong proceeds. The dinar is to be taxed (supposedly) at capital gains rates or fractions thereof, so there is less tax advantage for the charity to come from these proceeds, particularly if you fall into the long term cap gains rates.
I have the nagging feeling I have forgotten something! YES, I forgot that the state taxes come off as a deduction before you compute your Federal tax, just as charitable contributions do. See last paragraph just above TAX RATES FOR RV for edits. At least Californians get some little break!
Link to Lesson #1 Dinar Rates and Contracts:
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