JULY 2012
Khaas Baat : A Publication for Indian Americans in Florida



By Kamlesh H. Patel, CPA

The IRS has its eye on S corporations that pay unreasonably low salaries to shareholders to inflate tax-favored dividends.

S corporations differ from regular C corporations in that all net earnings of an S corporation, after paying salaries, are passed through to shareholders as dividends. Typically, S corporation owners receive both salaries (as employees) and dividends (as investors). But because shareholder salaries are subject to payroll taxes, an incentive exists to keep owner pay as low as possible and boost dividends instead, which are not subject to payroll taxes.

But not so fast, says the IRS. Such a strategy short-changes the government of revenue from FICA, Medicare and unemployment taxes. In fact, Congress recently considered making professional service S corporation owners pay payroll taxes on all their share of net income, regardless of how it is received. For now, however, the rules just state that shareholder compensation must be reasonable given the circumstances.

So what is reasonable compensation? There are many factors to consider, but generally the IRS is looking at what similar-sized companies pay employees with like responsibilities, skills and experience. The complexity of the corporation’s operations and dividend-paying history also factor in, as does the shareholder’s salary history.

So what can S corporation owners do to justify shareholder salaries? Documentation is an important first step. Keep records in corporate minutes of how salaries for shareholders and non-shareholders are calculated each year. Include data on hours worked and number of employees supervised. Formulate a firm-wide compensation policy, and then consistently follow it.

Operating a business as an S corporation can have favorable tax implications – if you know the rules.


If you can’t contribute to a Roth IRA the conventional way, it doesn’t mean that you’re locked out of this attractive vehicle for retirement savings. The key is to take a “back-door” approach using a nondeductible IRA.

First, here’s some background information. Contributions to a traditional IRA may be tax-deductible, but deductions are phased out if your modified adjusted gross income (MAGI) exceeds a specific level and you (or your spouse) are an active participant in an employer’s retirement plan. Contributions made on a nondeductible basis are tax-free when withdrawn, although any earnings are still taxable.

In contrast, contributions to a Roth IRA can’t be deducted, but “qualified distributions” from the Roth in existence at least five years are 100% tax-free. This includes distributions made after attaining age 59½. Furthermore, unlike traditional IRAs, you’re not required to take annual distributions from a Roth after age 70½.

The problem is that ability to contribute to a Roth IRA is phased out for certain high-income taxpayers. But there’s a potential solution: If you establish a traditional IRA with nondeductible contributions, you can then convert it to a Roth IRA, effectively circumventing the prohibition on Roth contributions. Previously, conversions were restricted to taxpayers with less than $100,000 of MAGI, but this barrier was removed in 2010.

The only drawback to this back-door strategy is that any distribution from a traditional IRA is taxed under a “pro rata” rule based on the total amount in all your IRAs. Thus, you can’t simply designate a nondeductible IRA for the conversion. If you have multiple IRAs, this could result in a larger conversion tax than anticipated.


If you’re thinking of establishing or changing your business location, there are a number of factors to consider. Even the experts will disagree - one will tell you that location is absolutely vital to your success while another will tell you that it really doesn’t matter. Both can be correct depending on your situation.

What is your business activity? Do customers come to you, or you go to them? Also, will you have employees or manufacture products for sale? Your business activity will generally determine your business location. If customers come to you, you’ll want to find space that is close to your target customers. If customers don’t typically come to you, other issues could be more important. You might be better served with a less expensive location on the fringes of the population center.

Ease of access. If your customers will be coming to you, you’ll want to make sure that your location is easily accessible to them. If you locate in an urban area, consider locations near public transportation or other areas where there is considerable foot traffic. On the other hand, if you locate in a suburban area, consider locations with easy access to major streets and make sure that you have plenty of parking.

Zoning and signs. If you require signs at your location, make sure to check with the local zoning authority. You will want to make sure that the property you are considering is zoned correctly for your business and allows you the desired signage.

Finally, don’t overlook the explosion of the digital age. With more smart phones and tablets, increased search engine capabilities, and customers becoming more adept at searching locations, you’ll be able to direct your customers to your location with a strong digital presence.

Kamlesh H. Patel, CPA, can be reached at (813) 949-8889 or e-mail kpaccounting@verizon.net or kpinsurance@verizon.net


The Romney Tax Plan: Fairness, Job Creation, Economic Growth


The tax plan proposed by the presumptive Republican nominee for president, former Massachusetts Gov. Mitt Romney, emphasizes the ability of federal tax policy to influence job creation and the long-term economic health of the United States. The over-arching goals, according to statements by Gov. Romney and literature published by his campaign, are to impose a fair tax burden on all Americans while generating the revenue necessary to balance the federal budget. At the same time, tax policy must be implemented and administered without hampering economic activity.

Gov. Romney is mindful of the balancing act inherent to reducing and stabilizing federal spending while simultaneously “breathing life” into the ongoing economic recovery. The best way forward, according to the Romney campaign, is to fix the nation’s tax code. The current U.S. tax system is a hodgepodge, patched together over decades without any real regard for how tax policy affects job creation and economic growth. Romney believes that the tax code should be repaired in such a way that entrepreneurship and investment can thrive, while enough revenue is raised to sustain a “smaller, smarter, simpler” government.

A recent initial analysis by the non-partisan Urban-Brookings Tax Policy Center outlined the following key policy points for the Romney tax plan:

The two most significant policy points are the 20 percent reduction in marginal rates for individual taxpayers and the reduction in the corporate tax rate to 25 percent. These are the foundational elements of the Romney tax plan, reflecting the governor’s belief that the economy grows at a faster rate when individual taxpayers and corporations keep and invest more of their own money. Both policy points are related to job growth. The Romney campaign cites the statistic that 54 percent of private sector workers are employed outside corporations, which is why lower individual tax rates define the incentives for job-creating, privately owned businesses. At the same time, the lower corporate tax rate, according to Romney, enables corporations to compete in the global economy. Romney also believes that a higher corporate tax rate contributes to lower wages for U.S. workers.

The Urban-Brookings Tax Policy Center’s analysis pointed out that the Romney campaign has not yet specified how it would close tax loopholes, or which tax preferences would be eliminated. However, the potential broadening of the tax base was not factored in when the Tax Policy Center estimated that the Romney plan would reduce federal tax liability by about $900 billion in 2015 compared with current law, for a 24 percent reduction in total projected revenue. In addition, compared to current law, about 75 percent of taxpayers would receive an average tax cut of about $7,000. The reduction in revenue would be off-set, according to Gov. Romney, by a more vibrant, energetic, and growing economy built on individual entrepreneurship and corporate investment.

According to both candidates, the choice in this November’s election basically hinges on the belief system that voters will eventually buy into. Empirical evidence clearly points out that every European country that has high tax rates, high government spending and greater regulation is suffering much worse than America. Our own European-style stimulus packages, a k a auto and insurance bailouts, quantitative easing and numerous other programs to help homeowners have miserably failed. Furthermore, regulations such as the Dodd-Frank and Volcker Rule are choking businesses with higher compliance costs. Jamie Dimon, in his testimony to Congress last month, indicated that Dodd-Frank costs JP Morgan almost $1 billion annually in additional compliance costs.

May was the worst month for job growth with the economy adding only 69,000 jobs and the jobless rate climbing to 8.2 percent. The real economic story is actually much worse. Each month, thousands stop looking for a job and get fallen off the unemployment calculation statistic. Lack of credit, excess regulation and the 2013 fiscal cliff is preventing businesses from expanding and hiring.

Governor Romney’s plan fundamentally believes that productive activity can be stimulated with a lean tax code and an even leaner and smarter government. It’s firmly rooted in Adam Smith’s principles, which promulgate that only entrepreneurs create new economic activity, which creates jobs, opportunity and economic growth. The governor argues that excessive taxation and burdensome regulation will choke America’s entrepreneurial spirit and innovation and eventually lead America into a European-style crisis.

Whether voters will shed their ideological underpinnings and vote based on hard economic realities is a question that only time can answer. In the meantime, we can all watch the political circus over the next few months and hope that we can make an informed decision, irrespective of which social philosophy we adhere to.

Amol Nirgudkar, CPA is the managing partner of Reliance Consulting LLC (www.reliancecpa.com). He can be reached at (813) 931-7258 or e-mail amol@reliancecpa.com

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