Tuesday, March 27, 2012

Adventures in Taxland: Filing Status

This tax season, I have had a number of clients who are married couples inquire about filing separate returns. Sometimes they say they know another couple who did that and got a better refund. I always give these clients the same advice.

As a married couple, you have two options for filing: Married Filing Jointly (MFJ), and Married Filing Singly (MFS). Under the joint status, you pool both incomes, combine your two personal exemptions with those of any dependents you have, and either itemize deductions or take the standard deduction of $11,600

Using the MFS status, each spouse files a separate return, with their incomes separate, and one personal exemption. The spouses can divvy up the dependents however they want. The standard deduction for each spouse is $5800, exactly half of what it is for MFJ. The tax tables for MFS are exactly half of what they are for MFJ. Unless you have an unusual situation with deductions, there are no tax benefits to MFS.

There are disadvantages to MFS. You lose access to the Earned Income Credit, the Dependent Care Credit, the Lifetime Learning Credit, and you double your tax preparation costs. If there are no tax benefits, and potentially significant disadvantages, you shouldn’t do it. I always counsel my clients to bite the bullet and file jointly.

Of course, what the client are really asking is whether they should split their filing status into Single and Head of Household.

Let’s say that the husband earns $30,000, and the wife earns $15,000, with her claiming their one child. As a Single filer, he gets a standard deduction of $5800, the same as he gets for MFS. But if she claims to be unmarried, as the Head of Household, she gets a standard deduction of $8500. So they have already reduced their tax burden.

But wait, there’s more! As a married couple with combined income of $45,000 and one child, your earned income credit (EIC) is $0. But as Head of Household with one child and $15,000, the EIC is $3094. Add $3094 to your refund and, ding-ding-ding, you’ve got a lot more money for changing your status. And all you have to do is lie on your tax return.

The technical term for that, of course, is tax fraud. If I knowingly put down the wrong status for a married client, I have committed a crime. So I play dumb and only offer the clients the legal options, although I know what they want to here.

Besides, if I have to pay my share of taxes, why shouldn’t they?

Monday, March 19, 2012

Pink Slime: Fact or Fiction?

What’s in a name? As Juliet famously remarked, “a rose by any other name would smell as sweet.”

Well, apparently if you call it “pink slime” it would smell a lot worse. I’ve been following the story of Lean Finely Textured Beef (LFTB) in the news for the last couple of weeks. LFTB is a filler found in ground beef. In their never ending quest to use everything on the cow but the moo, meat processing plants take the trimming off larger cuts of meat. These trimmings are a mix of protein and fat, looking kind of like bacon. The trimmings are heated to liquefy the fat, and then centrifuged to spin off the liquid fat, leaving the protein bits behind. The processed beef bits are then blended into ground beef to reduce the overall fat content of the finished product.

One of the big gross out factors in the popular imagination is the treatment of the beef after the fat is extracted. The trimmings used have a high probability of bacterial contamination. To kill the e coli, the meat is treated with ammonium hydroxide gas. “Ewww,” go the cries of outrage. “I don’t want my kids eating ammonia laced food.”

Personally, I can’t understand the outrage. I couldn’t find any information on how long this product has been used as an extender for ground beef. However, based on my recollection of college dining hall food, I would guess that this product has been in the food chain for decades. My rule of thumb for food safety is that if millions of people have been eating something for decades with no none ill effects, it is safe for consumption. As a matter of fact, I’ve been to Europe, and I’ve encountered some cheeses that pass that test, yet I would have sworn they were unfit to feed to dogs.

In this case, labeling this processed beef as “pink slime,” combined with a social media campaign to raise the level of outrage, has forced the bureaucrats who run the country’s food regulation system to back down and allow schools to specify ground beef without the additive for school lunches. Perception has become reality.

My prediction: ground beef is about to take a quick jump up in price. Dog food, on the other hand, is about to get a little cheaper. After all, the meat has to go somewhere.

Thursday, March 1, 2012

Adventures in Taxland: RAL's

Next year RAL’s will be a thing of the past. I will not be sorry to see them go.

RAL stands for Refund Anticipation Loan. This was a product that tax preparation services offered to clients who were getting a refund from the IRS. It was basically a short term loan given in anticipation that you would be receiving a refund in a couple of weeks. You sign over your refund to a bank, along with some fees and interest, and the bank gives you a (very) short term loan. Because the fees are amortized over a very short time period, these loans have a very high effective interest rate. Consumer advocates hate’em. But consumer advocates appear to hate all bank fees and interest. I’m sure that they all take Ben Franklin’s advice, and neither a lender or a borrower be.

No cash trades hands on the front end, because the bank takes its fees and interest when the refund comes in, before forwarding the balance on to the client. So this type of bank product has a certain appeal to some kind of people. Mostly people who are broke. Especially people who are broke, and are getting a big slug of the government’s cash. After all, it’s not their money that is paying the bank fee, it’s the government’s money.

The tricky thing about giving out a loan secured by your tax refund is that you don’t always get the full refund. If you owe the IRS money from previous years, or back child support, the IRS takes that out of your potential refund. In those cases, it turns out the bank has made an unsecured loan to someone whose minutes on their burner cell phone are about to run out. Good luck setting up a payment schedule, Mr. Banker man!

The average Refund Anticipation Loan (RAL) was about $3000. The fee was about $30. So if 1% of these loans went south, it turns into a money losing proposition for the bank. In the past, the IRS attached a flag to the taxpayer’s computer file called a debt indicator. When you electronically filed the return, the bank would see the debt indicator, and decline to make the loan. So the risks were manageable for the bank.

Last year the IRS stopped putting the debt indicator on the files, causing the banks’ risks to skyrocket. All but one bank responded to the changed situation by dropping the RAL product line. That bank had a contract with a tax preparation service that competes with the one I work for, and they have announced that they will exit the RAL business when their contract ends this year.

So the RAL is dead, which brings me back to my starting point. Although no one would accuse me of being a consumer advocate, I didn’t like the idea of the RAL. Who couldn’t wait three weeks to get their refund? More to the point, processing the paperwork was time consuming, and I wasn’t compensated for it. IRS regulations prevented paid preparers from getting a commission on RAL’s, because it was a conflict of interest.

And, in the last two years, it turns out that almost nobody really did need the money three weeks sooner. Clients ask if they can get their money sooner, and when told we don’t offer that product anymore, the response is always “Oh. Okay.” We were offering RAL’s because the other guy was offering RAL’s, not because our clients needed the product.

But some clients really wanted the product. They went into it with their eyes open. This is the way the conversation would go:
Me: “Now you understand, if you are willing to wait just a couple of week, it will save you $30, plus the interest charges, right.”
Client: “Yeah. I still want to get the money sooner.”
Me: “Okay, it’s your choice. Please sign here.”

My clients may be better off without the ability to make that choice. But isn’t having choices, for good or ill, part of the nature of liberty?