Northern California Bankruptcy Lawyer

On The Bankruptcy Soapbox

The Soap Box

Taxes: Building Block of Financial Literacy

By

financial literacy building blocks
You’re a first time employee.  Congratulations.

Welcome to the world of tax forms, withholding, and tax deadlines.  

Taxes are the price we pay for civilization, according to Oliver Wendell Holmes.

In fact, the first day on your new job you’ll be presented with an IRS form w-4. It’s like a rite of passage into adulthood.

Even families that talk openly about money don’t often discuss the arcane details of the W-4.

My sons certainly hadn’t prepared their own returns when they left home. They were daunted by the 207 pages of instructions for the IRS 1040, the standard income tax form.

So here, in more than 140 characters, and less than 207 pages, is my guide to income taxes for the beginning taxpayer.

You pay a portion of your income for taxes

Wages, commissions, interest paid to you on your money, and gain on the sale of assets are all forms of income.

The starting proposition is that income is taxable.

Gifts and loans are not income. Gifts might be taxable to the person who gave you the money, but not to you, if you’re lucky enough to be the recipient of the gift.

Not all  income is taxable

You get to deduct from your gross income certain exemptions and deductions.

The balance after subtracting those amounts is your taxable income.

That creates the appeal of “write offs” and “deductions”.  Those items reduce the total on which you figure your tax.

As income increases so do taxes

The range of income subject to a given tax rate is a “bracket”,

Each successive bracket applies a higher rate to the income that falls in that bracket.

There were 7 tax brackets for 2017.

Here are the brackets for a single taxpayer.

  • Up to $9,325: 10%
  • $9,326 to $37,950: 15%
  • $37,951 to $91,900: 25%
  • $91,900 to $191,650: 28%
  • $191,650 to $416,7004: 33%
  • $416,700 to $418,400 : 35%
  • $418,400 or more: 39.6%

If you are lucky enough to have more than $418,400 in annual taxable income, you don’t pay 39,6% on all of that income.

Each tier of your income is taxed at the rate for that tier, or bracket.

So, your first $9,325  in taxable income triggers a tax at 10% , or $932

If you actually had a total of $25,000 in taxable income, you pay tax of 15% on all the income over the $9,325.  You would have $16,075 of taxable income subject to the 15% rate, for a tax of $2411 on the excess over the first tax bracket.

Your total tax on $25,000 in taxable income would be $3343 ($932 + $2411).

Understand the marginal tax rate

We often speak of our marginal tax rate. That’s the percentage of the last dollar you make that’s owed as tax.

Looking at the tax table, a single tax payer who had $37,950  in taxable income was in the 15% bracket.  If he had earned one dollar more, tipping into the next bracket, he’d pay a tax of 25% on that extra dollar that falls in the higher bracket.

His marginal rate is 25%.  That doesn’t mean he pays 25%  of his income in tax.

He pays the higher rate on just the income that exceeds the top of the lower tax bracket.

Effective tax rate vs. marginal rate

Our fictional single tax payer with taxable income of $36,251 had a marginal tax rate of 25%.  That tells you how much of any increase in taxable income he’ll get to keep.

His effective tax rate is the percentage of his total income that is paid in tax.  That’s a far lower percentage.

It’s lower because there are adjustments “above the line” that reduce the income on which you pay tax, and then there are deductions and exemptions that further reduce the amount of income that is subject to tax.

Our examples here look at the taxable income so we could understand tax brackets and tax rates.

Tax withholding

Tax law requires that we pay this year’s taxes in advance, even though the final tax return for this tax year isn’t due til next spring.

Employers are required to withhold your estimated taxes from your paycheck.  You, however, get to tell them how much tax you expect to owe.

Whoa! How can you know how much you’ll owe next spring if you’re a new taxpayer.  Don’t worry, there’s a form for that.

IRS form w-4 includes a worksheet where you calculate how many tax allowances match your situation. It’s 8 lines and produces an approximation of what you’ll owe.

Your employer uses the number of allowances you claim to figure how much tax to withhold from each check.

The approximating your taxes is tricky:  withhold too little, and you pay a penalty with your return for having paid too little in advance:  withhold too much, and you get a refund with your return, for having made an interest free loan to the feds.

You can change your w-4 if your circumstances change during the year or you get a better estimate on what you are likely to owe.

Taxes for the do-it-yourselfer

If you are new to the tax paying world, your financial life is probably fairly simple. Take the time to learn how to prepare your own tax returns while things aren’t too complicated.

There is free tax software available through the IRS, as well as the commercial tax software.  My experience is that the big tax preparation services don’t always do a good job.  You’ll probably get a  better product and save some money preparing your own return.

Another time, we’ll look at exemptions and deductions and other tax mysteries.

Your Creditors Lie In Wait For Your Kids

By

creditor lurks to prey on heirsIs your legacy to your kids an encounter with your unpaid creditors?

Debt problems for those over 65 may not be problems for the elder at all.  Income and assets are largely protected by law from creditors.

But that doesn’t trouble creditors:  they’ll simply wait and get their money from your kids.

Seniors enjoy protection from collection

Elders  in California have a raft of legal protections from creditors.  Exemption laws, pension law, and the Social Security Act often make it hard for creditors to seize the assets of elders, even to pay legitimate debts.

The argument against bankruptcy for the elderly relies on the relative legal impunity of seniors to debt collectors.

Seniors often have the option to use those legal and practical protections to ignore paying old debts in favor of paying today’s expenses.

But just because you can ignore old debt, is that consistent with your bigger vision? [Read more…]

How Your Property Gets Sold In Your Partner’s Bankruptcy

By

co owned property

It isn’t just marriage that can get you roped in to a bankruptcy case that isn’t your own.

Own community property and a bankruptcy filing by your spouse or your soon-to-be ex can drag you into a bankruptcy court.

But the issue is broader:  joint ownership of any kind of asset in any state, community property or not,  exposes you to a loss of control of your property if your co owner files bankruptcy.

The bankruptcy court has the power to force the sale your property or require you to buy out your co owner.  On a timeline not of your choosing.

Co owners at risk

If your partner in a business or a piece of real property files bankruptcy, the partner’s interest may be sold for the benefit of your partner’s creditors.

Oops!

And since the sale price of just your partner’s interest in the property would probably be less than the fraction of the partner’s ownership, the Bankruptcy Code gives the bankruptcy trustee the power to sell your interest too. [Read more…]

Turned Down For A Bank Account? Fight Back

By

bank account rejection

We all know the big three credit reporting agencies:  Experian, TransUnion, and Equifax.

But if you’ve been turned down for a bank account, you need to meet the other players in this space:  the checking account screening companies.

  • Certegy
  • ChexSystems
  • Early Warning Serivces
  • Telecheck Services

These specialty reporting agencies may be black balling you when you apply for a bank account.

Bad news only

Checking account screening companies report only negative information about a consumer’s troubles with their banking relationship.  Usually, that means unpaid overdraft fees or involvement in fraud related to a checking account.

This is a situation where “no news is good news”.  You won’t have a report with these specialty reporting agencies if you haven’t had negative dealings with your bank.

Exercise your rights

Just like the credit reporting agencies, you have a right to know what’s in your file with these specialty reporting agencies.

How to get the really free credit report

You are entitled to a free report from these companies once a year under the Fair Credit Reporting Act.  If you are turned down for a bank account, or get a “adverse action”  notice, you have a right to a free copy of the report on which the adverse action was based.  More on checking account denials.

If you find information that is inaccurate, you can dispute it with the reporting agency and with the bank that provided information that is wrong.

The Consumer Financial Protection Bureau comes to our aid here, and again.

Here’s a list of the check and bank screening companies and their contact information.

If you don’t get an appropriate response from the reporting company, the CFPB will take your complaint and work to get a response.  File a complaint.

Why a bank account is important

While the financial services world is certainly changing, it’s hard to be a credible candidate for credit for a car loan or a home loan without a bank account.  If you’ve been turned down by a bank or a credit union, get on it, and form a relationship with a bank.

More

Guide to low risk banking products

What Game Are We Scoring?

By

score card flickr yoppyGetting credit after bankruptcy is the most frequent search term that bring visitors to Bankruptcy in Brief, my encyclopedic sister site on bankruptcy.

In these visitors’ minds, their credit score is a central concern.

It’s ironic that readers, saddled with enough debt to consider bankruptcy, ask about the impact of a bankruptcy on their credit score.

It’s the same face to face. …often in the first 5 minutes of our meeting.

Others  proudly tell me that they have “perfect credit”: that translates as “never having missed a minimum payment.”

Some follow with a declaration that they won’t file bankruptcy if it will hurt their credit score.

Huh?

What they miss in their decision making process is that they can never pay off the credit they have! And their first concern seems to be how soon they can get back into the credit market.

Hype about credit scores

Identity theft and the misuse of credit scores for employment and insurance purposes have heightened our awareness of credit reports and credit scores.

This legitimate concern is hyped by those who, having created the credit scoring “game” and cemented their lock on the rules of the game, then want to sell us services to protect us from damage to our scores.

What most consumers don’t understand is that credit scoring is a purely arbitrary analysis. The rules are controlled by each score provider.  They can change without notice or review.

Credit scoring is not regulated, objective, or transparent. It seems your score can suffer from having too much credit, too little credit, or even for astutely shopping for better interest rates on purchases.

Refocus on net worth

Let’s focus on our personal balance sheet, rather than our ability to acquire more debt, as a salutary exercise.

Let’s look at our savings, our preparation for retirement, the adequacy of our insurance protection as the measure of our financial health.

Let’s ask ourselves first how long it will take us to repay the debt we already have . What would we save if we weren’t paying interest on credit card debt?

Let’s learn to find our self worth in something other than the kind of credit card we carry or the credit score someone else assigns us

Image courtesy of Flickr and Yoppy.

5 Free Tools To Fight A Debt Collector

By

debt collection rightsSometimes, the conversation with a debt collector or a debt buyer seems all too one-sided.

The collector makes demands.  Nothing you say penetrates.

Including your assertion that you don’t recognize the collector, the debt, or any legal responsibility for paying.

Or maybe you recognize the debt but simply don’t have the money to deal with old debt right now.

If you don’t get the collection conversation on track and productive, at best, the collector keeps calling.

See also:  when they call your family

At worst, they sue.

You need some tools for debt defense.

Your debt collection rights

Federal law, grounded in the Fair Debt Collection Practices Act, gives you both legal rights, and tools to enforce those rights.

Consider moving the conversation to paper.

The new federal agency, the Consumer Financial Protection Bureau, has posted template letters that you can adapt for dealing with dubious debt collectors.

The Action Letters cover five different situations:

  1. You need more information about the supposed debt
  2. You dispute the debt and want it proved up
  3. You want to limit how and when the collector contacts you
  4. You’ve hired a lawyer and all contact should go to your counsel
  5. You want to stop any and all communication

Each letter is downloadable in word processing format. Each template includes both instructions on how and when to use the letter and background on your rights in context.

You don’t have to reinvent the wheel.  Chose the letter that fits your situation, add your facts,  and get it in the mail.

Prepare to enforce your rights

If the debt collector violates the law concerning debt collection, you’ll need evidence.

Keep a copy of the letter.  If the collector doesn’t respect your rights, you may have a lawsuit against the collector.  Kinda turns the tables on the collector.

But to prevail in a lawsuit, you need proof.

So, keep a copy of the letter and consider sending it return receipt requested, so you have proof that it got to the collector.

See also:  the threat to your retirement savings

Image courtesy of Flickr and Carly&Art

How Their Telephone Can Ruin Elders

By

red-telephone-mimooh-01_optThe elderly couple was suddenly in financial trouble.

The two mortgages on their home were a couple of months delinquent.

Their bank account had just been levied by the state taxing authority.

They hadn’t filed tax returns since 2009.

From the outside, it didn’t seem like anything had changed.  Yet their financial world was imploding.

What had happened?

Their phone is to blame

Turns out, they had entered into a debt repayment plan over the phone.

The caller got their attention while they were comfortable at home, over the phone.  They signed up, over the phone.

They couldn’t tell me even who the caller represented, But, the voice on the other end of the phone promised to keep creditors from calling them anymore.

With the clients’ permission, this creditor was automatically taking money out of their account monthly.

And when the tax levy hit, there wasn’t enough money to keep a roof over their heads.

These elders were victims of their telephone and their good intentions.

Only the powerless call

It’s a nearly universal truth that the only creditors who call you about your debts are the least important creditors among those you owe.

Credit card companies can’t force you to pay their debt without suing you, getting a judge to agree you owe the money and giving you a chance to defend.  It’s cheaper and more effective to frighten or shame you into paying.

And even better if they can get you to give them regular access to your bank account.  What could be better?

What seemed to have happened here was a debt collector called up and offered a solution, one that would stop harassing phone calls and pay the credit card debt automatically.

But, the “solution” would only pay the credit card debt.

That is, the only debt that would be paid is the debt that could be discharged in bankruptcy.  The mortgage debt that kept a roof over their head became second to the debt management program.  No attention was paid to the back income taxes.

Who to pay when money is tight

It was exactly the wrong order of payment.  The least had become the first among creditors.

Elders more vulnerable

The tactics of debt collectors aren’t confined to the elderly, but they sure work better if the person who owes the money is frail, alone, or unsophisticated.  That described the couple in my office.

The good news for my couple was that their children had somehow gotten wind of the trouble and came with their parents to see if bankruptcy could help.  And bankruptcy will help.

In the bigger picture,  adult children need to be sensitive to how well elderly parents are managing their money.

The telephone is the instrument by which legitimate but self interested creditors can get to the elderly and convince them to warp their financial priorities.

Whether the pitch uses annoyance, fear or shame, the result is the same:  the elder pays the wrong creditor.

If these could be your parents, screw up your courage and find out what is happening, on the phone and at the bank.

It can be a difficult conversation for elders clinging to independence.  But you have to  have that conversation if you’re to help them, before their roof falls in.

Image courtesy of notKlaatu and openclipart.

 

Cut Tax Liens Down to Size

By

Tax liens are no match for Chapter 13 when it comes to cutting the lien down to its real value.

On paper, a tax lien can quickly become huge.

In bankruptcy however, a lien is no bigger than the value of the assets it attaches to.

While in Chapter 7, liens pass through bankruptcy without change, in Chapter 13, liens are valued, then dealt with under the Chapter 13 plan.

The secured portion of the lien, that part of the lien for which there is collateral, is paid through the plan.  The unsecured portion is treated according to the standard rule for taxes.

Any unsecured portion of the lien that is a priority tax is paid according to its priority.  If the tax year for the unsecured portion of the lien is not priority, it’s paid (or not paid) just like any other general unsecured claim.

Understanding tax liens

Tax liens attach to all the assets  the taxpayer owns when the lien is filed, and to all assets acquired while the underlying tax is collectible.

Exemptions, either in bankruptcy, or under state law, don’t save assets from a tax lien.  The lien trumps the exemption.

The recorded lien reflects that amounts due on the tax years in question at the time the lien was recorded.  The actual amount due for the liened tax year depends on how much interest runs after recordation and whether payments are made to reduce the tax due.

Tax liens remain valid only as long as the tax that they secure remains collectible.  Taxes aren’t forever:  they can be discharged in bankruptcy or they can die of old age by reaching the IRS 10 year statute of limitations.

Valuing a tax lien

So, how does Chapter 13 treat tax liens? [Read more…]

Who Profits When Money Trouble Is Shameful?

By

money troubles taboo

Talking about our financial troubles is taboo in this society.

In fact, we are more willing to talk about our sex lives than our money troubles.

We lionize those who make a fortune.  Everyone expects to live the middle class life.

It becomes easy to think that something is wrong with you if you aren’t making it?

Too many people I meet to discuss their money troubles express a sense of  shame, the sense that their financial hole is the sign of a moral as well as financial failure.

And as long as no one will talk about money troubles outside of a lawyer’s office, each person imagines that they are the only one with this sort of problem.

Further, they imagine that they will have to justify their situation to the bankruptcy judge in order to get a discharge. They see themselves alone and exposed.

There’s profit in cultivating shame

The cult of silence may be why the debt settlement/debt management businesses do so well.

For a price, you are told, you can hire someone to get you out of the hole without declaring bankruptcy and therefore declaring failure.

Only those models seldom work.

Writing one check for the same amount as you wrote a bunch of smaller checks is still the same amount of money. It’s not the number of checks that is the problem, it’s the amount of money necessary to retire that debt, even over time.

The debt settlement model fails because creditors don’t stop trying to collect when contacted by one of these for profit outfits. And usually, the first money paid by the consumer goes to the company, not the creditors.  No one but the debt settlement folks get paid while you build up money in their hands.  Creditors getting nothing get fed up and sue you.

The business model works only for the debt settlement folks.

And as long as they can convince you that bankruptcy is an unacceptable choice, they prosper.

Bankruptcy neither shameful nor rare

Over the past five years, an average of 1.3 million consumer bankruptcy cases have been filed.  One study of American families done before the Great Recession said one in seven families would be better off if they filed bankruptcy.

It’s probably more today.

Three life events are closely tied to the need for bankruptcy:  job loss, divorce, and illness.  Hardly a cause for shame in that list.

The “typical” bankruptcy filer is married, middle aged, white, working, and college educated.  Doesn’t sound like a pariah class, there.

Tom Friedman, columnist for the New York Times, names generous bankruptcy laws as a necessary feature for a country that wants to thrive in the global economy.   People can take economic risks when failure isn’t a life sentence.

Let’s give a shout out for bankruptcy as a vital reset for families burdened with debt they can’t reasonably pay.

More about making the decision to file bankruptcy

One test for whether you need bankruptcy

Six rotten reasons not to file bankruptcy

Which California seniors don’t need bankruptcy

Image:  © Farina3000 – Fotolia.com

Tax Trap When You Settle Debts Outside Of Bankruptcy

By

4226218448_849b2121b0_z

Trying to decide between bankruptcy and debt settlement as the better path to financial health?

Own a home?

Here’s the killer reason why bankruptcy alone protects you from a serious tax consequence down the road.

Debt forgiven outside of bankruptcy gets deducted from the basis of your home.   Result:  more potentially taxable capital gains on sale.

Here’s the backstory and the low down on the exception to the exception that protects your home from a tax hit in the future.

Tax consequences of forgiven debt

When choosing between bankruptcy and settling your debts outside of the bankruptcy court, an advantage to bankruptcy has always been the favorable tax treatment of forgiven debt.

Debt forgiven or cancelled in bankruptcy is not added to taxable income. IRC 108

You may receive a 1099 form showing the forgiven debt, but by filing Form 982, you claim your right to exclude the forgiven debt from your income.

By contrast, make a deal with your creditors to take, say,  1/3 of what you owe in full settlement, and Uncle Sam treats the 2/3 of the debt that was cancelled as if you received it as income.  Taxable income. Ouch!

Insolvency is another way around including cancelled debt in taxable income for the year it’s forgiven.  If you are insolvent (your debts exceed your assets), then you don’t have to include cancelled debt in your taxable income.  Again, you file Form 982 and demonstrate insolvency.

Just like the bankruptcy exception.

BUT, both methods of avoiding an immediate tax consequence require that you reduce tax attributes like basis by the amount of the forgiven debt.

So, there’s no immediate tax hit, but your basis in your assets (usually, purchase price and cost of improvements less depreciation) shrinks by the amount of debt cancelled.

Why basis is important

Your basis in your assets becomes critical when you sell.

The biggest asset affected is real estate.  (Much to many people’s surprise, the tax code no longer provides for a tax free rollover of gain on a principal residence.)  Your taxable gain is, roughly, the difference between the sales price and your basis in the house.

After an exclusion of gain if the property is your principal residence, the balance of the gain is taxable.

So the immediate tax relief of not recognizing cancelled debt in income is off set by a sort of recapture on sale of appreciated assets.

Special bankruptcy tax rule for homes

But wait! Wait!  There’s an exception to the reduction of basis rule that shields your principal residence if claimed exempt in bankruptcy.

Discharge debt in bankruptcy, rather than by settlement with the creditor, and claim an exemption in your property, even if it had no equity when you filed, and your basis in your home is unaffected by the reduction in tax attributes.  IRC 1017(c),

So, when you consider your alternatives for getting yourself out of debt, homeowners need to look beyond this year’s tax return to the point at which they may sell their house.

Get professional tax advice if the reduction of tax attributes when cancelled debt income is excluded from income affects you.

More on cancellation of debt issues

Your 1099 may be wrong

Tax issues when you settle guarantor liability

 

Image courtesy of Flickr and Antony Theobald. 

 

643 Bair Island Road
Suite 403
Redwood City, CA 94063
Phone: (650) 694-4700

Categories