Savings bonds

When my wife and I got married, we opened a joint checking account at our local bank.  It was a basic checking account which is all we needed, but it came with the use of a safe deposit box free for a year.  Me, believing I was now a "grown up" because I was married, owned a house and had a salary job, jumped at the chance to protect our most precious belongings in said safe deposit box.  I immediately went through our home and gathered up everything I thought, at the time, that we could not live without were our house to burn to the ground.  I took these items back to the bank and stored them in our new safe deposit box.  

Last year when our first child was born, as most parents do we began looking at our budget to find ways to make buying diapers, wipes and baby clothes less painful by cutting other expenses.  That's when we saw the $40 annual charge for the safe deposit box on our bank statement.  

Tax tip: fees paid for safe deposit boxes are subject to the miscellaneous itemized deductions in excess of 2% of AGI on Schedule A of Federal Form 1040.  If you pay a fee for having a safe deposit box, remember to give that information to your tax preparer.

Since I could not recall exactly what was in the safe deposit box, we set a reminder for one year later to clean the box out so as to save the $40 a year.  Last week, the reminder popped up and I rushed back to the bank, excited to see what was in the box before closing it out.  The contents of the box: our original signed marriage license, a copy of the title insurance to our first house, and a stack of savings bonds.  As I looked over the savings bonds, some which we had received more than 25 years ago, I started to wonder what they were worth now.  

Beginning the year I was born and for most years until I turned 18, my grandmother would give me a $50 Series EE savings bond on my birthday.  This type of savings bond is purchased with a fixed interest rate, and it earns interest for 30 years.  For example, the first bond I received was a $50 bond with a fixed interest rate of 4%.  Using the savings bond calculator at the Treasury Direct website, I discovered that this bond will mature in January, and is currently worth approximately $113.  That is a 126% return!  I used the calculator to build the entire inventory of our savings bonds and discovered that we owned $850 of bonds that had been originally purchased for $450 and are now worth $925.  This results in a total return on our savings bond portfolio of 105.75%.  

Savings bonds can be cashed in at most financial institutions.  When the bond is cashed in, you will receive a 1099-INT for the interest portion of the bond.  In the example above, I would receive a 1099-INT for $63, because that is the amount of interest the bond accrued over 30 years.  This interest is paid on government obligations and is subject to Federal tax, but in some cases might be exempt from state taxes.  

The Treasury Direct website has several resources for savings bonds and other types of US Government obligations.  However, the key to successful investing in savings bonds is to hold them as close to maturity as possible.  In January I fully intend to take my first savings bond down to the bank, cash it in, and then take my family out to a nice dinner.  If my grandmother was still with us I know that's what she would have wanted.  

Idea$ 2014 - July: Preventing Identity Theft

In today's fast moving world where everything is electronic and information is shared over the internet more and more, there is a high likelihood that most people will suffer some form of identity theft in their lifetime.  Identity theft can range from an unauthorized party using your credit or debit card, using your social security number (SSN) to apply for credit, or even filing a fraudulent tax return under your name and SSN.  The obvious way to prevent identity theft is to keep personal information locked away in a safe and never let anyone else have access.  But, let's be honest, the majority of people are not willing to sacrifice the convenience of shopping online, paying for goods and services over the phone or through the mail, or e-filing tax returns in order to eliminate the risk of identity theft completely.  When you heard Target lost info on 100 million customers last year, did you vow never to shop at Target again just to find yourself there a month later?

The question is, in the "real world", how can a person guard themselves against identity theft?  Following are a few practical steps you can take to operate in our modern society while also protecting what's nearest and dearest - your identity.  

• Be mindful of how you transmit personal information.  Your personal information can include your SSN, bank account and credit card numbers, home address, and username/password information for email and financial websites.  Information like this should never be shared over a free, global email service like Yahoo! or Gmail because the message can be stolen.  If giving information over the phone, make sure you know who you're talking with and that they are a trusted source.  This also applies to people that still use fax machines, because you never know who will be picking up the document on the other end.  
• Research the security of your payments when online shopping.  Usually online retailers provide information on how online payments are handled.  For example, here is a link to how Amazon processes online transactions.  If you are shopping online with a retailer for the first time, research how they handle transactions and the security they use.  
• Save and shred.  If you still receive paper statements for your bank accounts or credit cards, save the statements in a safe, secure place (like a locked file cabinet).  If you're done with the document, get a small shredder for your home and shred the documents.  Ever see a guy digging through a trash can on your street?  Yeah, he's not looking for food - he's looking for your bank statement.  If you receive your statements in electronic format (PDF), save them somewhere secure on your computer i.e. not on your desktop in a folder called "Money Stuff".  
• Check your transactions weekly.  Before iPhone's and iPad's this would be a hassle.  But, if you have a bank account or a credit card, then chances are the provider now has an app you can download.  Then, every Sunday while you are watching golf on TV, scroll through your transactions and make sure there is nothing that looks funny.  You can also use a personal finance app like Mint which will accumulate all your accounts in one place for easy viewing and management.  
• Run your credit report.  You can run a credit report for free each year at a site like AnnualCreditReport.com.  The report won't give you a credit score, but it will show you everything on your credit report.  Look to make sure you recognize all the credit accounts on the report in case someone has opened up a credit card using your info that you don't know about.
• Use common sense.  Reputable businesses will not ask for personal information over email or ask for information they don't need.  Your plumber doesn't need your SSN and your Facebook friend doesn't need your credit card number for "verification purposes".  So if someone is asking for something from you that you are not comfortable sharing, question why they need the information.  

As mentioned above, with the advent of e-filing tax returns, criminals have found a new strategy of stealing money by filing fraudulent income tax returns.  The thief e-files a return using someone else's name and SSN and false tax information, generates a large refund, and then disappears with the money.  Then, when the real taxpayer files their actual return, it is rejected by the IRS because a return has already been filed for that SSN.  Big headache for the taxpayer.  The IRS has a website with resources for taxpayers that have been affected by identity theft.

 In closing, use common sense when sharing personal information and take steps to keep your information safe.  If you fall victim to identity theft, don't panic.  Fortunately, as identity theft crime has evolved so have the safeguards put in place by banks, online retailers and credit card companies.  In some cases, they know about the theft before you do.  Although this is not a fail-safe, at least you are not battling alone.  

Outsourced accounting

Small business owners are predominantly known for "doing it all".  In most small businesses, the owners are responsible for all aspects of the business, from customer relations to product delivery.  Yet, one of the most important business management tasks, commonly known as "the books" is often overlooked or thrown together quickly.  There are a variety of reasons for this lack of attention.  

First, most small business owners do not have sophisticated financial knowledge, which makes "the books" cumbersome and intimidating.  These are the clients that come to a CPA and hand over their books with the disclaimer "well, I'm not an accountant, so I apologize for the shape the books are in".  Well of course you're not an accountant!  If you were, you probably would have gotten a job in accounting, not have started your business.  

Second, most small business owners run relatively simple, cash-basis operations that do not require accruals and adjustments on a monthly basis.  These are the clients that determine the success of their business based on how much money is in their bank account.  

Third, most small business owners simply do not have time to focus on the financial side of their business.  By the time they are done dealing with customers and vendors, filling orders, managing employees and putting out other fires that come up during the day, the last thing most small business owners want to do is reconcile their bank statement.  

All of these reasons, albeit legitimate, can wreak havoc in a small business if left unchecked for a long period of time.  This is where small business owners can most benefit from outsourced bookkeeping and accounting services.  By outsourcing, the business owner is getting another set of eyes on the books.  This set of eyes can point out unusual charges, identify trends in the business finances, reconcile bank accounts and advise the business owner on their cash position.  

Outsourcing is most effective when combined with tax planning and preparation.  When the business owner's CPA can advise the client monthly or quarterly then the year-end planning and preparation are much less complicated and time consuming.  Outsourcing typically has a lower cost impact than hiring a part- or full-time bookkeeper.  Having the books analyzed by an accounting professional for a few hours each month, and then the tax return prepared by the same professional at the end of the year is more cost effective than only allowing the accountant to look at the books once a year.  Furthermore, the accounting professional will most likely set the accounting records up in a formal accounting software such as Quickbooks or Peachtree, which will give the business owner historical data going forward.  

If you are a small business owner and the burden of "the books" has become too much for you to handle, consider outsourcing your monthly accounting function.  This will free up more time for you to focus or running your business, which is why you started it in the first place!

Bitcoin

If you have been keeping up with new fads, you have probably noticed the growing popularity of the Bitcoin.  But, what exactly is a Bitcoin and how does it work?  

Bitcoin is a digital currency.  Bitcoin can be used to pay for goods or services (if the vendor accepts that type of payment).  But, there is no physical currency.  Bitcoin is completely electronic, and payments are made and received over the internet using computers, tablets and smartphones.

To get Bitcoin, you visit an exchange on the internet and buy them with real money (US dollars, Euros, etc.).  Then you can use your Bitcoin to pay for goods and services from vendors that accept Bitcoin.  You can also transfer your Bitcoin to another user.  For example, if you and your buddy split a cab and he pays for the ride, you can transfer him Bitcoin to reimburse him for your share.   

Sounds pretty neat right?  It's like going to the arcade and cashing in dollar bills for game tokens, except the tokens do not physically exist and they can be used all over the world.  But, there are a few other considerations that make the concept not so simple.  

First, Bitcoin has a market value, similar to an exchange rate.  As of the writing of this article, according to bitcoinexchangerate.org, 1 Bitcoin is valued at $653.42.  This value will fluctuate according to the demand for Bitcoin, similar to a stock in the S&P 500.  This creates an environment where some use Bitcoin to pay for goods and services, while others are holding them as an investment.  According to this chart from CoinDesk, the value of a Bitcoin has fluctuated between $67 and $640 in the last year.  

Second, the IRS has issued a notice and FAQ's regarding the tax treatment of Bitcoin.  In the notice, the IRS states that virtual currency is treated as property similar to other property in the hands of the taxpayer.  This means that the exchange of virtual currency for goods and services could result in a gain or loss to the buyer.  For example, if I use one Bitcoin I paid $600 for to buy a set of golf clubs for $700, the seller must report the receipt of the Bitcoin as a sale at fair market value on the day of receipt ($700).  Also, I must report a $100 gain on the exchange of the currency because I used an asset that cost me $600 to buy something worth $700.  Using virtual currency is also subject to the tax reporting rules i.e. 1099's.  If I pay a contractor $1,000 in the form of two Bitcoin, I must issue that contractor a 1099 at the end of the year since the value of the services were more than the $600 1099 reporting limit.  

In closing, I am a big fan of modern technology and moving into a "greener" world.  The use of virtual currency makes it easier for buyers and sellers to transact business across borders without the worry of currency translation.  However, users of virtual currency should make themselves familiar with the ins and outs of their transactions and any related tax consequences prior to buying or selling.  To find more information about Bitcoin, I found their website very helpful.  

Idea$ 2014 - June: Tax-efficient investments

Taxpayers are always looking for ways to accomplish the wealth trifecta - preserve principal, generate income, and minimize taxes.  Yet accomplishing this feat is very challenging due to a number of external factors.  In order to preserve principal, investors must often sacrifice higher returns for less risky investments, which reduces income.  Riskier investments have the potential to generate higher returns (income), but they also present the risk of loss of capital.  Furthermore, investments that generate income subject the investor to a higher tax rate.  As you can see, it's easy to find investments that meet 2 out of 3 of these criteria, but winning the trifecta is much more difficult.  Following are some alternatives for taxpayers looking for tax-efficient investments.  

Municipal bonds

Municipal bonds (muni's) are tax-efficient in that the income they generate is typically not taxable at the Federal level and, if planned correctly, at the state level.  Muni's are bond issues for municipalities such as cities, counties or school districts.  Muni's, like all bonds, are sold at a premium or a discount depending on the bond's yield at the time of sale.  

Interest on municipal bonds is always tax-exempt at the Federal level.  Each state is different, but in Arkansas, all interest earned on Arkansas municipal bonds is tax-exempt to Arkansas.  For example, an Arkansas taxpayer with municipal bond interest from school districts in Arkansas and Texas will only pay Arkansas tax on the interest from the Texas school districts.  

Beware that tax-exempt income is a preference item for the alternative minimum tax.  Investors considering substantial investments in tax-exempt bonds should consult their tax adviser to verify that the interest will not subject them to the AMT.  

Master limited partnerships

Master limited partnerships (MLPs) have gained popularity in recent years for their favorable tax treatment.  Investors enter into MLPs as a partner.  During the year, they receive distributions from the partnership that are not taxable.  Then, at the end of the year, the investor receives a Form K-1 reporting their share of income and losses.  

Although it is possible for the K-1 to report income to the partner, due to non-cash expense items the distributions typically exceed the amount of income on the K-1.  The downside to owning units in an MLP is that, upon sale, a portion of the gain (if any) is reported as ordinary income.  See additional information regarding investing in MLPs in a previous article regarding owning MLPs in a retirement account.  

Practical considerations

Tax-efficient investing is best suited for investors that desire to preserve principal in their investments and also do not have many deductions to offset their taxable income.  A young taxpayer with children at home, dependent care expenses and a mortgage can afford to generate more investment income because their effective tax rate will be lower as a result of their deductions.  However, a taxpayer with no children and few deductions will benefit more from tax-efficient investing.