A corporate inversion, simply put, is a method corporations use to reduce their tax responsibilities. While this loophole may present a sound tax solution for the corporation in question, it has a direct impact on tax revenue collected by the United States government, as well as on competition between companies.

A corporate inversion takes place when a U.S. corporation renounces it’s citizenship by merging with a smaller company in a foreign country. This country typically has a more favorable corporate tax structure as well as tax rules that allow the U.S. corporation to reduce its tax burden.

Once the corporation merges with the foreign entity, it declares the new country as its place of residency. At that point, the United States can no longer impose or collect taxes on the corporation for future or past income. While this may be a positive situation for the company, it does has a negative effect as it reduces tax revenue for the U.S. as well as creates an atmosphere of unbalanced competition between corporations that have transacted an inversion and those that have not.

Over the last decade, corporate migration has increased to the point that now only one-tenth of total tax revenues collected come from corporations. That’s down from one-third in the 1950s. In fact, in the past ten years, a total of 47 U.S. corporations have performed corporate inversions and changed their legal residences to countries outside of the United States.

While it stands to reason that a corporation should do all it can to reduce its tax burden, and it could even argue that doing so is its fiduciary responsibility to its shareholders, this particular tax loophole is stripping tax revenues from the U.S. government at an unsustainable rate.

In addition it is also pitting the corporations that have made an inversion against the corporations that have not creating a toxic business environment which is why this is one loophole that needs to be fixed.

The AMT, also known as the alternative minimum tax, is one of the most hated taxes in the United States and for good reason. For those individuals above a certain threshold of taxable income, or corporations, trusts, and estates, the AMT creates a higher tax burden beyond that imposed on those that fall under the threshold.

The alternative minimum tax was first originated with the thought that those individuals and corporations in the higher tax bracket were able to find and utilize large tax breaks that the middle class could not. It was decided that the AMT would ensure that those with the highest incomes would pay a minimum tax rate regardless of the tax breaks and loopholes they may have available to them.

The current AMT was enacted in 1982 and is applied to all taxable income when an individual or entity’s taxable income falls above a pre-determined level. In 2013, that level was tied to inflation, or CPI rates. As it stands now, the alternative minimum tax rates are 26 and 28%, and to determine whether or not you are subject to regular tax rates or the AMT rates, you would be required to calculate your taxes twice. This can become problematic as the AMT does not allow the same deductions as the regular tax does, so your adjusted income levels will be different.

The bottom line is you will be required to pay the higher of the two rates. It can become quite complicated to determine if you are subject to the AMT as well as what deductions are allowed and which are not. Often, the best course of action is to contact a qualified tax accountant to walk you through the process.

The AMT is hated for good reason. It’s complicated and some would say creates a separate class of citizens that is being penalized for their financial success.

Tax Audit Red Flag #4 – Charitable Donations Exaggerated

For the average person, there’s nothing more terrifying than the thought of getting an IRS audit. It ranks right up there with fears of dentists, flying, and clowns for some people.

This fourth installment in our series on tax audit red flags focuses on charitable donations. No, this is not to say you shouldn’t give to charity. It’s just to remind you that if you aren’t careful in your giving, you could be bringing a little undesired attention upon yourself by the IRS.

Goodwill donations are great. They are made for a good cause as the items you donate create jobs and help families with less means enjoy items that no longer have value to you.

However, if your charitable contribution is disproportionate to your income, it raises a red flag with the IRS. That’s because the IRS is seemingly omniscient and knows just what the average charitable contribution is for someone in your tax bracket.

In addition, your chances of a tax audit increases if you have noncash charitable donations over $500 and fail to file Form 8283: Noncash Charitable Contributions.

Claiming tax deductions for the full retail value of the item, rather than the resale value of the item is also an IRS no-no. It is a good idea to get an appraisal for the value of all donated property.

What can you do to decrease your risk of raising this red flag?
– Avoid giving more than the average for your income bracket.
– Even if you feel you have a legitimate reason for donating heavily to a specific organization, it’s wise to resist the temptation to make one large lump sum donation if your goal is to avoid unwanted scrutiny by Uncle Sam’s tax man.
– Don’t forget to keep accurate records of your donations as well.
– Photographs of donated items are wise as well in case questions arise at a later date.

To learn more about IRS red flags, keep an eye out for the next article in the series: Tax Audit Red Flag #5 – Money Losing Business(es).

Tax Audit Red Flag #3 – Forgot to Report Income

Well, to put it bluntly, you can get caught. And when you do, the tax man will force you to pay back taxes, in addition to penalties and interest.

So, why is forgetting to report all of your income a tax audit red flag? Because computers are very adept at matching all the income earned documents the IRS receives with what you report on your Federal Tax Return (Form 1040), that’s why. These documents include your employer’s W-2 and 1099s (whether they are bank, brokerage or independent contractor 1099s).

Even if it was a completely honest mistake or oversight in forgetting to report some of your income, the IRS has little tolerance for mistakes – and even less of a sense of humor about those mistakes.

They have zero tolerance policy for human error, so it’s always wise to consider investing in a tax preparer or other tax professional in order to make certain no numbers get left behind on your next tax document.

What’s the lesson here? 

• Avoid the fairly common mistake of forgetting or failing to report a portion or portions of your income for the previous year.
• Keep accurate records.
• Take a note from Santa and check your list of income twice.
• Make sure the numbers are recorded correctly and double check for simple math errors in order to hopefully keep the powers that be at the IRS playing nice.
• If by chance you receive a 1099 that lists incorrect income earned or is clearly not yours, contact the issue to have the form corrected and refiled with the IRS.

Be on the lookout for the next article in the series: Tax Audit Red Flag # 4 – Charitable Donations Exaggerated.