Members of the Maryland Association of Certified Public...

Tax questions

March 18, 1997

Members of the Maryland Association of Certified Public Accountants are answering readers' tax questions through April 15.

Q: My income greatly increased last year. I understand that under five-year and 10-year averaging there is some tax savings. Can you explain?

A: Prior to 1987, there was a tax-savings mechanism called "income averaging" that could reduce taxes in high-income years by using an averaging computation that took into consideration the three prior years of income. This provision was repealed by the 1986 Tax Reform Act.

Currently, the terms five-year and 10-year averaging refer to methods for calculating the tax on a qualifying lump-sum distribution from a pension plan, and the calculations are done on Form 4972. Only taxpayers who were age 50 before 1986 can use 10-year averaging, and five-year averaging has been repealed for tax years beginning after Dec. 31, 1999.

Currently, there is no specific method for savings available for tax payers who enjoy a sudden increase in income other than year-end planning with a tax professional to possibly defer certain types of income and accelerate certain deductible expenses.

Q: I'm a stockholder of an S corporation. Can you explain just what this is and how you report any profit or loss on your return?

A: The S corporation laws are very lengthy and complex. In brief, an S corporation is a "pass-through" entity, with income taxed directly to the shareholders. An income tax return is prepared for the corporation, and then the corporation's income, deductions and credits are allocated to the shareholders on a per-share basis, and reported to the shareholders on a Schedule K-1. Each shareholder reports the Schedule K-1 information on his or her individual income tax returns. Because of the complexity of S corporations and the limitations imposed by the "At Risk," "Basis," and "Passive Activity Loss" rules, we strongly recommend seeking the advice of a professional tax planner.

The above advice is for general purposes only and is not intended as legal, accounting or tax advice. Specific situations may vary.

To ask a tax question, call Sundial at 410-783-1800. Call 268-7736 in Anne Arundel County, 836-5028 in Harford County and 848-0338 in Carroll County. Using a Touch-Tone phone, punch in the four-digit code 6225 after you hear the greeting.

Readers also can e-mail questions through The Sun's Web site -- www.sunspot.net.

Selected questions will be answered in the Business section. No questions will be answered by phone.

Pub Date: 3/18/97

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