Answers to Your Last-Minute Tax Questions

April 8, 2011— -- Doing your taxes is daunting, even if your financial life isn't particularly complicated. Forty percent of Americans believe that cutting their own hair is less dangerous than filing their taxes, according to a survey by OfficeMax. Maybe that's why up to a quarter of taxpayers wait until the final two weeks of the filing season to file their returns. To help readers get over the hump, USA TODAY asked members of the American Institute of Certified Public Accountants to answer their last-minute tax questions.

STOCK OPTIONS

Q: How are employee stock options that are exercised treated for income tax purposes? Are these included on Schedule D?

A: There are two types of employee stock options: non-qualified options (NQO) and incentive stock options (ISO). For an NQO, the difference between the stock price on the date of exercise and the exercise price (also known as strike price) is treated as compensation income and included in your W-2 for the year. Income taxes are withheld at the time of exercise. Since you paid tax on this income, it is added to your stock basis (cost). Report the sale of the stock on Schedule D. The cost will be the strike price plus the income you reported.

The taxation of ISOs can be trickier. There are certain requirements that must be met in order to obtain special tax treatment for an ISO. For example, the option must be held for at least one year and the stock obtained in the exercise held for one year. If these requirements are met, the difference between the stock price on the date of exercise and the strike price is added to your alternative minimum tax (AMT) income, but it isn't taxed as compensation. When the stock is ultimately sold, the difference between the sale price and the strike price is treated as capital gain and reported on Schedule D.

Lisa Featherngill

Q: I did an "exercise and hold" on stock options and am taking a pretty large alternative minimum tax hit as a result. Is there anything I can do to reduce the impact?

A: If you exercised the options in 2010, there isn't much you can do. Most likely, you will have an AMT credit that will carry forward to future years. When you sell the stock, your capital gain will be calculated as the difference between the sale price of the stock and the exercise (strike) price for regular tax purposes on Schedule D. However, you will recalculate the gain for AMT purposes on Form 6251. The cost of the stock for AMT purposes will include the AMT income you reported in 2010 for the exercise. Thus, your AMT capital gain will be less than your regular tax gain. This may allow you to utilize the AMT credit to reduce your tax liability.

Lisa Featherngill

ENERGY-EFFICIENT TAX CREDITS

Q: What forms do I need to claim tax credit for insulation in my home?

A: Attach Form 5695 to your tax return to claim the Non-business Energy Property Credit. In the event of an audit, you'll need a receipt showing the cost and the date you bought the insulation material. Only the cost of the material qualifies for the credit. Installation, delivery, etc. are not eligible for the credit.

Janet Hagy

Q: We purchased $10,000 worth of kitchen appliances as part of a kitchen renovation in 2010. They are Energy Star rated. Do we qualify for the $1,500 energy efficient tax credit?

A: Ordinary electric, natural gas and propane powered kitchen appliances do not qualify for any federal energy tax credits. Stoves that use biomass fuels to heat your home or water heater qualify for the Residential Energy Property Credit.

Janet Hagy

RETIREMENT PLANS

Q: I have five annuities, four of which will mature in future years. The Form 1099 for the one that matured in 2010 has a taxable amount eight times higher than the interest I received on it over three years. I'm told this is because the annuity provider must include all interest accrued on all active and matured annuities as of the date I redeemed my first annuity. If true, this leaves me with a tax bill much higher than the interest I earned on my one redeemed annuity! Could this be correct?

A: On the face of it, this doesn't sound correct, but there are additional facts needed to determine what is happening here. For example, were these annuities purchased outright by you or through a rollover of previously tax-deferred funds?

In general, each annuity contract should stand on its own. However, perhaps your annuity provider is reporting not only the interest on the first annuity but the taxable portion of the principal being distributed from that annuity.

Alternatively, the annuity provider may be aggregating all five annuities and then calculating the distribution's taxation under Section 72 of the tax code. In the event the annuity was a deferred tax annuity (which operates much like an IRA or a 401(k) plan), when you take a distribution from it, you must pick up the previously untaxed income, which would include earnings on the account.

I would double-check with the annuity administrator as to why they reported so much income.

Marc J. Minker

Q: I had to withdraw $6,000 from my Roth IRA last year to pay medical expenses. I had already paid taxes on all the money when I converted it from a traditional IRA several years ago. Will I have to pay a 10% early withdrawal penalty?

A: First, if your rollover to the Roth IRA from the traditional IRA occurred more than five years ago, you can withdraw any amount form the Roth IRA, up to the conversion amount, without penalty. Your reason for the withdrawal, paying medical expenses, is an accepted exemption from the 10% early withdrawal penalty so there would be no penalty in your situation even if the rollover from the Traditional IRA to the Roth IRA occurred within the last five years.

Ted Sarenski

Q: I own a real estate property within an IRA-SEP. I received a 1099-Misc. from my property manager showing rental income in my name. This revenue (less expenses) was sent to my trust company and put back into my IRA. How do I show on my 1040 that this was not personal income and not subject to federal withholding?

A: There are a few things that you need to establish. First, the rental income should be shown in the name of the IRA, not the individual. You will also have to determine whether there is unrelated business income from the property, since that would be subject to tax.

Assuming there is no unrelated business income, include it on your return and then deduct it with an explanation.

Avery Neumark

TAXABLE INCOME

Q: I receive free gas for home heating because I am a landowner with a natural gas well lease. Is this taxable? If so, how is the value of the free gas determined? I didn't receive a 1099 from the gas company.

A: The gas isn't taxable because it belongs to the landowner who lives on the property. Usually, free gas is negotiated as part of the lease agreement. In effect, the lease income has been reduced by the gas provided for personal use.

Janet Hagy

DEDUCTIONS

Q: My wife is a teacher who earns extra income tutoring kids in their homes. Can we claim a home office deduction since she prepares lesson plans and does other work at home for these students?

A: Because the tutoring is for extra income, it's probably an occasional or incidental business. If so, it wouldn't qualify for a home office deduction because the area in your home used to prepare her lessons must be regularly used as her principal place of business.

In addition, the area must also be used exclusively for her tutoring business. Those two requirements make itunlikely that you could claim the deduction.

Jean-Luc Bourdon

CREDIT CARDS

Q: If I itemize, can I deduct credit card interest?

A: Interest on loans used for personal expenditures, such as department store purchases charged to a credit card, is not deductible. One possible exception is if the charges were for higher-education expenses. In such a situation, take a look at IRS Publication 970, Tax Benefits for Education.

Annette Nellen

EDUCATION TAX BREAKS

Q: I dropped out of college 20 years ago to help raise my grandchildren and am now ready to go back. Are there educational tax breaks for people like me? I will be going to school part time.

A: There are several credits and deductions available to you, including:

•An above-the-line deduction of up to $4,000 for qualifying tuition and related expenses at accredited post-secondary institutions. There are income limitations on this deduction, and it can't be used with the following credits:

•The American Opportunity Credit. To qualify, you must be enrolled in a degree or certificate program at an eligible institution on at least a half-time basis. You can claim 100% of the first $2,000 in qualified expenses and 25% of the next $2,000, up to a maximum credit of $2,500.

•The Lifetime Learning Credit. With this credit, you can claim tuition, up to a maximum of $2,000 maximum. You do not need to be enrolled in a degree or certificate program to qualify, and there is no course minimum.

•You can deduct up to $2,000 in interest on your student loans.

Ernest Almonte

CLAIMING A DEPENDENT

Q: My son went to school until August and then got a job. He earned $11,000 in 2010. Can I claim him as a dependent?

A: You can claim your son as a dependent as long as he wasn't 24 at the end of 2010 and you provided more than half of his support for the year. A "student" means full-time student for at least five months of the year. A college senior graduating in May or June can qualify in the year of graduation.

Ernest Almonte

MANAGING YOUR ESTATE

Q: I have to file an income tax return for my mother who passed away last year. Do I have to attach a copy of the death certificate, or is the copy of the order of the probate court appointing me as representative enough?

A: If you've been appointed as the personal representative, you must sign the return. You must also attach a copy of the court certificate showing the appointment. You should add the word "Deceased" after the decedent's name in the name and address section of the final return. You should also add the date of death across the top of the final return.

David Desmarais

LATE PAYMENT

Q: If I file my tax return on time and pay half of the amount I owe, can I wait for the IRS to send me a bill and pay the remaining amount over the next three to six months?

A: It is certainly wise to file your income tax return on time. The penalty for failure to file is 5% per month on the amount that you owe the IRS. If you pay one-half with the return and wait for IRS to send you a notice, the notice will arrive in about a month and a half from the filing date and will request full payment of the balance due plus interest and a penalty computed at ½ of 1% per month. If you need longer than 120 days to pay, use Form 9465-Installment Agreement Request to establish a payment plan. This will give up you up to 60 months to pay the balance due. The form can be found at www.irs.gov/formspubs/index.html.

Ted Sarenski

Note: Answers are provided without having full knowledge of all the details of the taxpayer's circumstances and an opportunity to conduct in-depth research. The CPAs answering readers' question cannot assume liability for tax advice provided in these answers, and before acting on any advice provided, taxpayers should consult a CPA or other competent professional. Also, the IRS requires the following notice: Any tax information in this Q&A is not intended to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions.