Understanding Marginal Income Tax Brackets

Tip: High Bracket. In 1944, the highest federal income tax bracket was 94%. It applied to all income above $200,000 a year and applied to all taxpayers, regardless of filing status.
Source: Tax Policy Center, 2015

By any measure, the tax code is huge. According to Commerce Clearing House’s Standard Federal Tax Reporter it’s up to 74,608 pages in length.¹

And each Monday, the Internal Revenue Service publishes a 20- to 50- page bulletin about various aspects of the tax code.²

Fortunately, it’s not necessary to wade through these massive libraries to understand how income taxes work. Understanding a few key concepts may provide a solid foundation.

One of the key concepts is marginal income tax brackets.

Taxpayers pay the tax rate in a given bracket only for that portion of their overall income that falls within that bracket’s range.

Tax Works

Fast Fact: First Brackets. In 1913 — immediately after the 16th Amendment gave Congress the power to levy taxes on income — the government set up a system of seven federal income tax brackets with rates ranging between 1% and 7%. Only 1 in 271 people had to pay even the lowest rate.
Source: Tax Policy Center, 2015; CCH, 2015

Seeing how marginal income tax brackets work is helpful because it shows the progressive nature of income taxes. It also helps you visualize how your total tax rate can be calculated. But remember, this material is not intended as tax or legal advice. Please consult a tax professional for specific information regarding your individual situation.

How Federal Income Tax Brackets Work

Say a married couple, filing jointly, in 2016, had a taxable income of $175,000. Each dollar over $151,900—or $23,100—would fall into the 28% federal income tax bracket. However, the couples’ total federal tax would have been $35,986—just about 20%, of their adjusted gross income.

This is a hypothetical example used for illustrative purposes only. It assumes no tax credits apply.

2016 Federal Income Tax Brackets

Your federal income tax bracket is determined by two factors: your total income and your tax-filing classification.

For the 2016 tax year, there are seven tax brackets for ordinary income — ranging from 10% to 39.6% — and four classifications: single, married filing jointly, married filing separately, and head of household.

  1. Washington Examiner, April 15, 2015
  2. Internal Revenue Service, 2016

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.

How Income Taxes Work

Tip: Refund Stats. The average refund during 2015 was about $2,800.
Source: Internal Revenue Service, 2015

The Internal Revenue Service estimates that taxpayers and businesses spend 6.1 billion hours a year complying with tax-filing requirements. To put this into perspective, if all this work were done by a single company, it would need about three million full-time employees and be one of the largest industries in the U.S.¹

As complex as the details of taxes can be, the income tax process is fairly straightforward. However, the majority of Americans would rather not understand the process, which explains why more than half hire a tax professional to assist in their annual filing.²

The tax process starts with income, and generally, most income received is taxable. A taxpayer’s gross income includes income from work, investments, interest, pensions, as well as other sources. The income from all these sources is added together to arrive at the taxpayers’ gross income.

What’s not considered income? Child support payments, gifts, inheritances, workers’ compensation benefits, welfare benefits, or cash rebates from a dealer or manufacturer.³

From gross income, adjustments are subtracted. These adjustments may include alimony, retirement plan contributions, half of self-employment, and moving expenses, among other items.

The result is the adjusted gross income.

From adjusted gross income, deductions are subtracted. With deductions, taxpayers have two choices: the standard deduction or itemized deductions, whichever is greater. The standard deduction amount varies based on filing status, as shown on this chart:

Itemized deductions can include state and local taxes, charitable contributions, the interest on a home mortgage, certain unreimbursed job expenses, and even the cost of having your taxes prepared, among other things.

Once deductions have been subtracted, the personal exemption is subtracted. For the 2016 tax year, the personal exemption amount is $4,050, regardless of filing status.

The result is taxable income. Taxable income leads to gross tax liability.

Fast Fact: No Pencil and Paper. The IRS reports that about one-third of taxpayers use tax preparation software. Source: IRS, 2015

But it’s not over yet.

Any tax credits are then subtracted from the gross tax liability. Taxpayers may receive credits for a variety of items, including energy-saving improvements.

The result is the taxpayer’s net tax.

Understanding how the tax process works is one thing. Doing the work is quite another. Remember, this material is not intended as tax or legal advice. Please consult a tax professional for specific information regarding your individual situation.

  1. National Taxpayers Union, 2015
  2. Internal Revenue Service, 2015
  3. The tax code allows an individual to gift up to $14,000 per person in 2016 without triggering any gift or estate taxes. An individual can give away up to $5,450,000 without owing any federal tax. Couples can leave up to $10,900,000 without owing any federal tax. Also, keep in mind that some states may have their own estate tax regulations.

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.

What Do Your Taxes Pay For?

Tip: Mid May. If the government had raised taxes enough to cover federal borrowing, we would have had to work until May 8 just to cover the tax bill.
Source: Tax Foundation, 2015

Taxes are one of the biggest budget items for most taxpayers, yet many have no idea what they’re getting for their money.

In 2015, as in recent years, Americans spent more on taxes than on groceries, clothing, and shelter combined. In fact, we worked until late April just to earn enough money to pay our taxes. So what do all those weeks of work get us?1

Fast Fact: In the Hole. In fiscal 2015, the federal government spent an estimated $468 billion more than it collected in revenue. The government borrows the funds it needs to cover this shortfall by selling Treasury securities and savings bonds.
Source: NPR, January 26, 2015

The accompanying chart breaks down the $3.7 trillion in federal spending for 2015 into major categories. By far, the biggest category is Social Security and income programs, which consume one-third of the budget. This includes Social Security, retirement and disability programs for federal employees, food assistance, and unemployment compensation. Another 16% of the budget goes to defense and related items, and 25% goes to Medicare and health programs.2

Are taxes one of your biggest budget items? Take steps to make sure you’re managing your overall tax bill. Please consult a tax professional for specific information regarding your individual situation.

Pieces of the Federal Pie

Roughly 65% of 2015 federal spending was used for Social Security, Medicare, defense, and related programs.

Source: Center on Budget and Policy Priorities, 2016

  1. Tax Foundation, 2015
  2. Center on Budget and Policy Priorities, 2016

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.

What If You Get Audited?

Tip: The chance of being audited rises with income level. In 2015, only 0.6% of those with incomes between $100,000 and $200,000 were audited; 3.8% of those with incomes between $500,000 and $1 million were audited; and 34.7% of those with incomes over $10 million were audited.
Source: Internal Revenue Service, 2016

“Audit” is a word that can strike fear into the hearts of taxpayers.

However, the chances of an Internal Revenue Service audit aren’t that high. In 2015, the IRS audited 0.8% of all individual tax returns.¹

And being audited does not necessarily imply that the IRS suspects wrongdoing. The IRS says an audit is just a formal review of a tax return to ensure information is being reported according to current tax law and to verify that the information itself is accurate.

The IRS selects returns for audit using three main methods.²

  • Random Selection. Some returns are chosen at random based on the results of a statistical formula.
  • Information Matching. The IRS compares reports from payers — W2 forms from employers, 1099 forms from banks and brokerages, and others — to the returns filed by taxpayers. Those that don’t match may be examined further.
  • Related Examinations. Some returns are selected for an audit because they involve issues or transactions with other taxpayers whose returns have been selected for examination.

There are a number of sound tax practices that may reduce the chances of an audit.

Fast Fact: Generally, the IRS audits returns within three years of their being filed. If it identifies substantial errors, it can go back further. Even then, the IRS will generally not go back further than six years.
Source: Internal Revenue Service, 2015

  • Provide Complete Information. Among the most commonly overlooked information is missing Social Security numbers — including those for any dependent children and ex-spouses.
  • Avoid Math Errors. When the IRS receives a return that contains math errors, it assesses the error and sends a notice without following its normal deficiency procedures.
  • Match Your Statements. The numbers on any W-2 and 1099 forms must match the returns to which they are tied. Those that don’t match may be flagged for an audit.
  • Don’t Repeat Mistakes. The IRS remembers those returns it has audited. It may check to make sure past errors aren’t repeated.
  • Keep Complete Records. This won’t reduce the chance of an audit, but it potentially may make it much easier to comply with IRS requests for documentation.

Remember, the information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation.

Audits Have Changed

Most audits don’t involve face-to-face meetings with IRS agents or representatives. In 2014, the latest year for which data is available, 77% were actually conducted through the mail; only 23% involved face-to-face meetings.

Internal Revenue Service, 2015

  1. Internal Revenue Service, 2016
  2. Internal Revenue Service, 2016

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.

What Is a 1035 Exchange?

Tip: Long-Term Coverage. 1035 exchanges can be used to exchange a life insurance policy, modified endowment contract, or an annuity contract for a long-term care policy. That means that an old life insurance policy may provide coverage for long-term care. Consult a tax professional before considering an exchange.
Source: American Association for Long-Term Care Insurance, 2015

According to the most recent information available, Americans had individual life insurance with a total face value of $11.8 trillion.1

Due to a variety of factors, these individuals may find themselves in circumstances where the specific life insurance policy or annuity contract they own does not suit their needs.2 They may want to exchange products without incurring a taxable event.

That’s where Section 1035 of the Internal Revenue Code comes in. A 1035 exchange provides a means for exchanging an annuity contract or life insurance policy without being treated as if it had been surrendered or sold. Keep in mind that a 1035 exchange can be used only when it involves the same contract or policyholder and the same type of product.

Trading In an Older Policy

A 1035 exchange, provided certain requirements are met, gives policy or contract holders the flexibility to “trade-in” an older contract or policy for a newer contract or policy. A newer policy or contract may have lower costs, a higher death benefit, or more investment choices.

1035 exchanges involve a complex set of tax rules and regulations. Before moving forward with a 1035 exchange, consider working with a tax professional who is familiar with the rules and regulations.

Partial Exchanges

Fast Fact: Surrender Charge Caution. If you own an annuity contract that is still in the surrender charge period, you may be required to pay the surrender charge when undertaking a 1035 exchange. And your new annuity contract may be subject to its own surrender charge period—which may be longer than the remaining period on the old contract.
Source: Securities and Exchange Commission, 2016

Also, individuals can do a partial 1035 exchange for a portion of the total contract. A tax professional should be consulted for a partial exchange because any gain may be subject to ordinary income tax when withdrawn.

Several factors will affect the cost and availability of life insurance, including age, health and the type and amount of insurance purchased. Life insurance policies have expenses, including mortality and other charges. If a policy is surrendered prematurely, the policyholder also may pay surrender charges and have income tax implications. You should consider determining whether you are insurable before implementing a strategy involving life insurance. Any guarantees associated with a policy are dependent on the ability of the issuing insurance company to continue making claim payments.

Annuities have contract limitations, fees, and charges, including account and administrative fees, underlying investment management fees, mortality and expense fees, and charges for optional benefits. Most annuities have surrender fees that are usually highest if you take out the money in the initial years of the annuity contact. Withdrawals and income payments are taxed as ordinary income. If a withdrawal is made prior to age 59½, a 10% federal income tax penalty may apply (unless an exception applies). The guarantees of an annuity contract depend on the issuing company’s claims-paying ability. Annuities are not guaranteed by the FDIC or any other government agency. The earnings component of an annuity withdrawal is taxed as ordinary income and, if taken before age 59½, may be subject to a 10% federal income tax penalty. Annuities have fees and charges associated with the contract, and a surrender charge also may apply if the contract owner elects to give up the annuity before certain time-period conditions are satisfied.

Variable annuities are sold by prospectus, which contains detailed information about investment objectives and risks, as well as charges and expenses. You are encouraged to read the prospectus carefully before you invest or send money to buy a variable annuity contract. The prospectus is available from the insurance company or from your financial professional. Variable annuity subaccounts will fluctuate in value based on market conditions, and may be worth more or less than the original amount invested if the annuity is surrendered.

Do You Owe The AMT?

Tip: AMT payers may qualify for the “minimum tax credit,” which allows individuals to claim a full or partial credit for past AMT taxes on future returns.

American educational reformer Horace Mann called education “the great equalizer.”¹ In football, it’s been said that turnovers are the great equalizer. And anyone who’s ever watched CBS’s “The Amazing Race,” knows airport delays are the great equalizer in a race around the world.

In taxes, there’s also an equalizer of sorts; it’s called the alternative minimum tax, or AMT. Instituted in 1969, it was intended to ensure that the very rich didn’t pay a lower effective tax rate than everyone else.²

In recent years, however, the “very rich” aren’t the only ones who need to be concerned about the AMT. Because the AMT was not indexed for inflation until 2013, more and more middle-class Americans are being forced to pay it. Today, an estimated 5 million tax filers pay about $35 billion in additional tax. The average AMT per tax return: about $7,000.³

What Is The AMT, Exactly?

It may be easiest to think of the AMT as a separate tax system with a unique set of rules for deductions, which are more restrictive than those in the traditional tax system.

The only way to know for sure if you qualify for the AMT is to fill out Form 6251 from the Internal Revenue Service.

If your income is over $75,000, it might make sense to complete the form to help assess your status—especially if you have large deductions, such as several children, interest from second mortgages, capital gains, high state and local taxes, or incentive stock options. If you should have paid the AMT and the IRS discovers that you didn’t, you may owe back taxes and could also have to pay interest and/or penalties.

The AMT Language

Fast Fact: Only 19,000 people owed the AMT in 1970, but millions are paying it now.
Source: MarketWatch
February 9, 2015

Because the AMT system has complicated rules and provisions, it’s a good idea to consider consulting legal or tax professionals for specific information regarding your individual situation. And remember, the information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties.

If you want to avoid any potential surprises at tax time, it may make sense to know where you stand when it comes to the AMT. The time and energy you spend today may be worth the investment.

Where Does All That Money Go?

Here’s a breakdown of how the federal government spends its revenues.

Source: Center on Budget and Policy Priorities, 2015

  1. Brainyquote.com, 2015
  2. Congress enacted the first Alternative Minimum Tax in 1969. The law was repealed and replaced by the Tax Equity and Fiscal Responsibility Act of 1982.
  3. CBS News, February 17, 2015

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.

Get Paid for Going Green

Tip: DSIRE is a comprehensive source of information on local, state, federal, and utility incentives and policies that support renewable energy and energy efficiency.
Source: DSIREusa.org, 2015

Americans spent an annualized $142.7 billion on home improvements in the first quarter of 2015—which represents a 6.5% increase over the first quarter of 2014.¹ Those looking into environmentally minded home modifications may get a boost from Uncle Sam’s tax incentives. Here’s how:²

The Energy Property Tax Credit

Tax credits for energy efficient home additions have been extended to 2016. This means these types of improvements may be eligible for a 10% tax credit up to $500, excluding installation costs. This is a lifetime limit however, so if you have taken the credit in the past, your savings may be reduced.³

As for what qualifies, improvements must be to your primary residence and they must be found on the “Federal Tax Credits for Consumer Energy Efficiency” list. The list includes additions under the categories of biomass stoves, heat pumps, air conditioning, boilers, furnaces and fans, insulation, roofs, water heaters, windows, and doors.

Alternative Energy Improvements

But what if you want to be even more environmentally friendly? If you install an alternative energy source for your home, such as a geothermal heat pump, a small wind turbine, or a solar-powered energy system, you may be eligible for a rebate of up to 30% on the price. That means you potentially can get a third of your money back. And unlike other tax incentives, this one applies to both principal residences and second homes.⁴ However, depending on the improvement, it may have to be completed by December 31, 2016 to receive the credit.

Gadget Giveaway

Installations aren’t the only way to make tax-friendly improvements to your home. What about the tax benefits of clearing some techno-clutter?

When you donate your used electronics, you potentially can deduct the fair market value of each piece, which you determine. (To get an idea of fair market value, you can consider looking at what similar items are selling for at various online auctioneers.) Donating old electronics can help you save space, not to mention helping someone in need.

More and more homeowners are looking into the benefits of energy-saving home improvements. If you opt to “go green” this year, don’t forget to consider what tax breaks may be available. Tax laws are constantly changing, so before committing to an improvement project, consult legal or tax professionals for specific information regarding your individual situation. Also, the information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties.

  • 1. Joint Center for Housing Studies, 2015
  • 2. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation.
  • 3, 4. Energystar.gov, 2015

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.

How to Make the Tax Code Work for You

By April 15, 2016, 125 million taxpayers had dutifully filed their federal income tax returns.¹ And all of them made decisions about deductions and credits—whether they knew it or not.

When you take the time to learn more about how it works, you may be able to put the tax code to work for you. A good place to start is with two important tax concepts: credits and deductions.²

Credits

As tax credits are usually subtracted dollar for dollar from the actual tax liability, they potentially have greater leverage in reducing your tax burden than deductions. Tax credits typically have phase-out limits, so consider consulting a legal or tax professional for specific information regarding your individual situation.

Here are a few tax credits that you may be eligible for:

  • The Child Tax Credit is a federal tax credit for families with dependent children under age 17. The maximum credit is $1,000 per qualifying child.³
  • The American Opportunity Credit provides a tax credit of up to $2,500 per eligible student for tuition costs for four years of post-high-school education.⁴
  • Those who have to pay someone to care for a child (under 13) or other dependent may be able to claim a tax credit for those qualifying expenses. The Child and Dependent Care Credit provides up to $3,000 for one qualifying individual, or up to $6,000 for two or more qualifying individuals.⁵

Fast Fact: The mortgage interest deduction is not the biggest deduction in terms of its cost to federal coffers. At $77 billion in 2016, it stands behind the exclusion for work-based health insurance, the reduced tax rate on capital gains and dividends, and deductions for retirement plan contributions and earnings.
Source: PewResearch.org, 2016

Deductions

Deductions are subtracted from your income before your taxes are calculated, and thus may reduce the amount of money on which you are taxed and, by extension, your eventual tax liability. Like tax credits, deductions typically have phase-out limits, so consider consulting a legal or tax professionals for specific information regarding your individual situation.

Here are a few examples of deductions.

  • Under certain limitations, contributions made to qualifying charitable organizations are deductible. In addition to cash contributions, you potentially can deduct the fair market value of any property you donate. And you may be able to write off out-of-pocket costs incurred while doing work for a charity.⁶
  • If certain qualifications are met, you may be able to deduct the mortgage interest you pay on a loan secured for your primary residence. This deduction can include interest on a mortgage, a second mortgage, a home equity line of credit, or a home equity loan.⁷
  • Amounts set aside for retirement through a qualified retirement plan, such as an Individual Retirement Account, may be deducted. The contribution limit is $5,500, and if you are age 50 or older, the limit is $6,500.⁸
  • You may be able to deduct the amount of your medical and dental expenses that exceeds 10 percent of your adjusted gross income, or 7.5 percent if either you or your spouse is age 65 or older.⁹

Understanding credits and deductions is a critical building block to making the tax code work for you. But remember, the information in this article is not intended as tax or legal advice. And it may not be used for the purpose of avoiding any federal tax penalties.

  1. Internal Revenue Statistics, 2016.
  2. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation.
  3. Internal Revenue Service, 2016
  4. Internal Revenue Service, 2016
  5. Internal Revenue Service, 2016
  6. Internal Revenue Service, 2016
  7. Internal Revenue Service, 2016
  8. Withdrawals from traditional IRAs are taxed as ordinary income and, if taken before age 59½, may be subject to a 10% federal income tax penalty. Generally, once you reach age 70½, you must begin taking required minimum distributions.
  9. Internal Revenue Service, 2016

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.

Tax Deductions You Won’t Believe

While Americans are entitled to take every legitimate deduction to manage their taxes, the Internal Revenue Service (IRS) places limits on your creativity. Here are some examples of deductions from the IRS that were permitted and some that were, well, too creative.¹

Creative Deductions that Passed Muster

Usually a child’s school-related costs are not deductible. However, one taxpayer was allowed to deduct the cost of travel, room and board as a medical expense for sending their child with respiratory problems to a school in Arizona.

Pet food typically doesn’t qualify as a write-off, except in the case where a business owner successfully argued that it was a legitimate expense to feed a cat protecting their inventory from vermin.

Does your child have an overbite? If so, you may find that the IRS is okay with a medical deduction for the cost of a clarinet (and lessons) to correct it.

A deduction for a swimming pool won’t float with the IRS, except if you have emphysema and are under doctor’s orders to improve breathing capacity through exercise. The deduction, however, was limited to the cost that exceeded the increase in property value. And yes, ongoing maintenance costs are deductible as medical expenses.

Deductions that Were Too Creative

The cost of a mink coat that a business owner bought for his wife to wear to dinner for entertaining clients was denied even though he claimed it was an integral part of dinner conversation and provided entertainment value.

Despite having dry skin, one taxpayer was denied a deduction for bath oil as a medical expense.

Losses associated with theft may be deductible, but one taxpayer went too far in deducting the loss of memories when her photos and other life souvenirs were discarded by her landlord.

One business owner reported an insurance payment as income, but then deducted the cost of the arsonist as a “consulting fee.”

Don’t expect taxpayers to pay for enhancements to self-image. Just ask the ballerina who tried to deduct a tummy tuck or the woman who tried to write off her Botox expenses.

Creativity is not something that the IRS typically rewards, so you should be careful testing the limits of its understanding. Seek the counsel of an experienced tax or legal professional for specific information regarding your situation.

  1. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation.

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.

Donating Art: Taxation Abstraction

The varied reasons to donate art range from a personal affinity for a museum, the desire to create a legacy, and the tax consideration that may come with the donation.

The tax rules surrounding the tax deduction of art are complex and confusing.¹

When donating art, donors can generally claim a federal tax deduction of up to 30% of their adjusted gross income each year. If the value of the donation exceeds this 30% limit, the excess can be deducted in subsequent years—up to five years—subject to the 30% limit in each year.²

Where It Becomes Complicated

The deduction may be based on the appraised value of the donated artwork if the recipient qualifies as a public tax-exempt organization, which is generally defined as an institution that receives at least a third of its financial support from the public. Museums, schools, hospitals and churches are examples of a public tax-exempt organization.

If you are donating art to a private tax-exempt organization, e.g., a private foundation, your deduction will be based on the price you paid for the donated art.

Even if you are donating art to a public tax-exempt organization, a deduction based on the appraised value requires that the donation be related to the recipient’s mission—a requirement not likely met by organizations other than museums. A failure to meet that test results in a deduction based on the purchase price.

Look Before You Leap

Even if your donation passes the test, potential land mines remain.

If the recipient sells the donated art within three years, the allowable deduction will revert to the purchase price instead of the appraised value, leaving you with a potential exposure to back taxes. Since you are able to negotiate the terms of your gift, you may want to secure a promise not to sell the art within three years of its donation.

The Internal Revenue Service may choose to challenge your appraisal with its own to ensure against inflated appraisals. Penalties can be stiff, so you should make sure your appraiser has facts, such as comparable sales, to back up his or her appraisal.

  1. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation.
  2. This is a hypothetical example used for illustrative purposes only. It is not representative of any specific art donation.

The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. It may not be used for the purpose of avoiding any federal tax penalties. Please consult legal or tax professionals for specific information regarding your individual situation. This material was developed and produced by FMG Suite to provide information on a topic that may be of interest. FMG Suite is not affiliated with the named broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security. Copyright 2017 FMG Suite.