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Freetaxusa 2007

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Freetaxusa 2007

Freetaxusa 2007 Publication 15-A - Main Content Table of Contents 1. Freetaxusa 2007 Who Are Employees?Independent Contractors Common-Law Employees Statutory Employees Statutory Nonemployees Misclassification of Employees 2. Freetaxusa 2007 Employee or Independent Contractor?Common-Law Rules Industry Examples 3. Freetaxusa 2007 Employees of Exempt OrganizationsSocial security and Medicare taxes. Freetaxusa 2007 FUTA tax. Freetaxusa 2007 4. Freetaxusa 2007 Religious Exemptions and Special Rules for MinistersForm W-2. Freetaxusa 2007 Self-employed. Freetaxusa 2007 Employees. Freetaxusa 2007 5. Freetaxusa 2007 Wages and Other CompensationRelocating for Temporary Work Assignments Employee Achievement Awards Scholarship and Fellowship Payments Outplacement Services Withholding for Idle Time Back Pay Supplemental Unemployment Benefits Golden Parachute Payments Interest-Free and Below-Market-Interest-Rate Loans Leave Sharing Plans Nonqualified Deferred Compensation Plans Tax-Sheltered Annuities Contributions to a Simplified Employee Pension (SEP) SIMPLE Retirement Plans 6. Freetaxusa 2007 Sick Pay ReportingSick Pay Payments That Are Not Sick Pay Sick Pay Plan Third-Party Payers of Sick Pay Social Security, Medicare, and FUTA Taxes on Sick Pay Income Tax Withholding on Sick Pay Depositing and Reporting Example of Figuring and Reporting Sick Pay 7. Freetaxusa 2007 Special Rules for Paying TaxesCommon Paymaster Agents Reporting Agents Employee's Portion of Taxes Paid by Employer International Social Security Agreements 8. Freetaxusa 2007 Pensions and AnnuitiesFederal Income Tax Withholding 9. Freetaxusa 2007 Alternative Methods for Figuring WithholdingTerm of continuous employment. Freetaxusa 2007 Formula Tables for Percentage Method Withholding (for Automated Payroll Systems) Wage Bracket Percentage Method Tables (for Automated Payroll Systems) Combined Federal Income Tax, Employee Social Security Tax, and Employee Medicare Tax Withholding Tables 10. Freetaxusa 2007 Tables for Withholding on Distributions of Indian Gaming Profits to Tribal MembersWithholding Tables How To Get Tax Help 1. Freetaxusa 2007 Who Are Employees? Before you can know how to treat payments that you make to workers for services, you must first know the business relationship that exists between you and the person performing the services. Freetaxusa 2007 The person performing the services may be: An independent contractor, A common-law employee, A statutory employee, or A statutory nonemployee. Freetaxusa 2007 This discussion explains these four categories. Freetaxusa 2007 A later discussion, Employee or Independent Contractor in section 2, points out the differences between an independent contractor and an employee and gives examples from various types of occupations. Freetaxusa 2007 If an individual who works for you is not an employee under the common-law rules (see section 2), you generally do not have to withhold federal income tax from that individual's pay. Freetaxusa 2007 However, in some cases you may be required to withhold under the backup withholding requirements on these payments. Freetaxusa 2007 See Publication 15 (Circular E) for information on backup withholding. Freetaxusa 2007 Independent Contractors People such as doctors, veterinarians, and auctioneers who follow an independent trade, business, or profession in which they offer their services to the public, are generally not employees. Freetaxusa 2007 However, whether such people are employees or independent contractors depends on the facts in each case. Freetaxusa 2007 The general rule is that an individual is an independent contractor if you, the person for whom the services are performed, have the right to control or direct only the result of the work and not the means and methods of accomplishing the result. Freetaxusa 2007 Common-Law Employees Under common-law rules, anyone who performs services for you is generally your employee if you have the right to control what will be done and how it will be done. Freetaxusa 2007 This is so even when you give the employee freedom of action. Freetaxusa 2007 What matters is that you have the right to control the details of how the services are performed. Freetaxusa 2007 For a discussion of facts that indicate whether an individual providing services is an independent contractor or employee, see section 2. Freetaxusa 2007 If you have an employer-employee relationship, it makes no difference how it is labeled. Freetaxusa 2007 The substance of the relationship, not the label, governs the worker's status. Freetaxusa 2007 It does not matter whether the individual is employed full time or part time. Freetaxusa 2007 For employment tax purposes, no distinction is made between classes of employees. Freetaxusa 2007 Superintendents, managers, and other supervisory personnel are all employees. Freetaxusa 2007 An officer of a corporation is generally an employee; however, an officer who performs no services or only minor services, and neither receives nor is entitled to receive any pay, is not considered an employee. Freetaxusa 2007 A director of a corporation is not an employee with respect to services performed as a director. Freetaxusa 2007 You generally have to withhold and pay income, social security, and Medicare taxes on wages that you pay to common-law employees. Freetaxusa 2007 However, the wages of certain employees may be exempt from one or more of these taxes. Freetaxusa 2007 See Employees of Exempt Organizations (section 3) and Religious Exemptions and Special Rules for Ministers (section 4). Freetaxusa 2007 Leased employees. Freetaxusa 2007   Under certain circumstances, a firm that furnishes workers to other firms is the employer of those workers for employment tax purposes. Freetaxusa 2007 For example, a temporary staffing service may provide the services of secretaries, nurses, and other similarly trained workers to its clients on a temporary basis. Freetaxusa 2007   The staffing service enters into contracts with the clients under which the clients specify the services to be provided and a fee is paid to the staffing service for each individual furnished. Freetaxusa 2007 The staffing service has the right to control and direct the worker's services for the client, including the right to discharge or reassign the worker. Freetaxusa 2007 The staffing service hires the workers, controls the payment of their wages, provides them with unemployment insurance and other benefits, and is the employer for employment tax purposes. Freetaxusa 2007 For information on employee leasing as it relates to pension plan qualification requirements, see Leased employee in Publication 560, Retirement Plans for Small Business. Freetaxusa 2007 Additional information. Freetaxusa 2007   For more information about the treatment of special types of employment, the treatment of special types of payments, and similar subjects, see Publication 15 (Circular E) or Publication 51 (Circular A), Agricultural Employer's Tax Guide. Freetaxusa 2007 Statutory Employees If workers are independent contractors under the common law rules, such workers may nevertheless be treated as employees by statute, (also known as “statutory employees”) for certain employment tax purposes. Freetaxusa 2007 This would happen if they fall within any one of the following four categories and meet the three conditions described next under Social security and Medicare taxes . Freetaxusa 2007 A driver who distributes beverages (other than milk) or meat, vegetable, fruit, or bakery products; or who picks up and delivers laundry or dry cleaning, if the driver is your agent or is paid on commission. Freetaxusa 2007 A full-time life insurance sales agent whose principal business activity is selling life insurance or annuity contracts, or both, primarily for one life insurance company. Freetaxusa 2007 An individual who works at home on materials or goods that you supply and that must be returned to you or to a person you name, if you also furnish specifications for the work to be done. Freetaxusa 2007 A full-time traveling or city salesperson who works on your behalf and turns in orders to you from wholesalers, retailers, contractors, or operators of hotels, restaurants, or other similar establishments. Freetaxusa 2007 The goods sold must be merchandise for resale or supplies for use in the buyer's business operation. Freetaxusa 2007 The work performed for you must be the salesperson's principal business activity. Freetaxusa 2007 See Salesperson in section 2. Freetaxusa 2007 Social security and Medicare taxes. Freetaxusa 2007   You must withhold social security and Medicare taxes from the wages of statutory employees if all three of the following conditions apply. Freetaxusa 2007 The service contract states or implies that substantially all the services are to be performed personally by them. Freetaxusa 2007 They do not have a substantial investment in the equipment and property used to perform the services (other than an investment in facilities for transportation, such as a car or truck). Freetaxusa 2007 The services are performed on a continuing basis for the same payer. Freetaxusa 2007 Federal unemployment (FUTA) tax. Freetaxusa 2007   For FUTA tax (the unemployment tax paid under the Federal Unemployment Tax Act), the term “employee” means the same as it does for social security and Medicare taxes, except that it does not include statutory employees defined above in categories 2 and 3. Freetaxusa 2007 Any individual who is a statutory employee described above under category 1 or 4 is also an employee for FUTA tax purposes and subject to FUTA tax. Freetaxusa 2007 Income tax. Freetaxusa 2007   Do not withhold federal income tax from the wages of statutory employees. Freetaxusa 2007 Reporting payments to statutory employees. Freetaxusa 2007   Furnish Form W-2 to a statutory employee, and check “Statutory employee” in box 13. Freetaxusa 2007 Show your payments to the employee as “other compensation” in box 1. Freetaxusa 2007 Also, show social security wages in box 3, social security tax withheld in box 4, Medicare wages in box 5, and Medicare tax withheld in box 6. Freetaxusa 2007 The statutory employee can deduct his or her trade or business expenses from the payments shown on Form W-2. Freetaxusa 2007 He or she reports earnings as a statutory employee on line 1 of Schedule C (Form 1040), Profit or Loss From Business, or Schedule C-EZ (Form 1040), Net Profit From Business. Freetaxusa 2007 A statutory employee's business expenses are deductible on Schedule C (Form 1040) or C-EZ (Form 1040) and are not subject to the reduction by 2% of his or her adjusted gross income that applies to common-law employees. Freetaxusa 2007 H-2A agricultural workers. Freetaxusa 2007   On Form W-2, do not check box 13 (Statutory employee), as H-2A workers are not statutory employees. Freetaxusa 2007 Statutory Nonemployees There are three categories of statutory nonemployees: direct sellers, licensed real estate agents, and certain companion sitters. Freetaxusa 2007 Direct sellers and licensed real estate agents are treated as self-employed for all federal tax purposes, including income and employment taxes, if: Substantially all payments for their services as direct sellers or real estate agents are directly related to sales or other output, rather than to the number of hours worked, and Their services are performed under a written contract providing that they will not be treated as employees for federal tax purposes. Freetaxusa 2007 Direct sellers. Freetaxusa 2007   Direct sellers include persons falling within any of the following three groups. Freetaxusa 2007 Persons engaged in selling (or soliciting the sale of) consumer products in the home or place of business other than in a permanent retail establishment. Freetaxusa 2007 Persons engaged in selling (or soliciting the sale of) consumer products to any buyer on a buy-sell basis, a deposit-commission basis, or any similar basis prescribed by regulations, for resale in the home or at a place of business other than in a permanent retail establishment. Freetaxusa 2007 Persons engaged in the trade or business of delivering or distributing newspapers or shopping news (including any services directly related to such delivery or distribution). Freetaxusa 2007   Direct selling includes activities of individuals who attempt to increase direct sales activities of their direct sellers and who earn income based on the productivity of their direct sellers. Freetaxusa 2007 Such activities include providing motivation and encouragement; imparting skills, knowledge, or experience; and recruiting. Freetaxusa 2007 Licensed real estate agents. Freetaxusa 2007   This category includes individuals engaged in appraisal activities for real estate sales if they earn income based on sales or other output. Freetaxusa 2007 Companion sitters. Freetaxusa 2007   Companion sitters are individuals who furnish personal attendance, companionship, or household care services to children or to individuals who are elderly or disabled. Freetaxusa 2007 A person engaged in the trade or business of putting the sitters in touch with individuals who wish to employ them (that is, a companion sitting placement service) will not be treated as the employer of the sitters if that person does not receive or pay the salary or wages of the sitters and is compensated by the sitters or the persons who employ them on a fee basis. Freetaxusa 2007 Companion sitters who are not employees of a companion sitting placement service are generally treated as self-employed for all federal tax purposes. Freetaxusa 2007 Misclassification of Employees Consequences of treating an employee as an independent contractor. Freetaxusa 2007   If you classify an employee as an independent contractor and you have no reasonable basis for doing so, you are liable for employment taxes for that worker and the relief provision, discussed next, will not apply. Freetaxusa 2007 See section 2 in Publication 15 (Circular E) for more information. Freetaxusa 2007 Relief provision. Freetaxusa 2007   If you have a reasonable basis for not treating a worker as an employee, you may be relieved from having to pay employment taxes for that worker. Freetaxusa 2007 To get this relief, you must file all required federal information returns on a basis consistent with your treatment of the worker. Freetaxusa 2007 You (or your predecessor) must not have treated any worker holding a substantially similar position as an employee for any periods beginning after 1977. Freetaxusa 2007 Technical service specialists. Freetaxusa 2007   This relief provision does not apply for a technical services specialist you provide to another business under an arrangement between you and the other business. Freetaxusa 2007 A technical service specialist is an engineer, designer, drafter, computer programmer, systems analyst, or other similarly skilled worker engaged in a similar line of work. Freetaxusa 2007   This limit on the application of the rule does not affect the determination of whether such workers are employees under the common-law rules. Freetaxusa 2007 The common-law rules control whether the specialist is treated as an employee or an independent contractor. Freetaxusa 2007 However, if you directly contract with a technical service specialist to provide services for your business and not for another business, you may still be entitled to the relief provision. Freetaxusa 2007 Test proctors and room supervisors. Freetaxusa 2007   The consistent treatment requirement does not apply to services performed after December 31, 2006, by an individual as a test proctor or room supervisor assisting in the administration of college entrance or placement examinations if the individual: Is performing the services for a section 501(c) organization exempt from tax under section 501(a) of the code, and Is not otherwise treated as an employee of the organization for employment taxes. Freetaxusa 2007 Voluntary Classification Settlement Program (VCSP). Freetaxusa 2007   Employers who are currently treating their workers (or a class or group of workers) as independent contractors or other nonemployees and want to voluntarily reclassify their workers as employees for future tax periods may be eligible to participate in the VCSP if certain requirements are met. Freetaxusa 2007 To apply, use Form 8952, Application for Voluntary Classification Settlement Program (VCSP). Freetaxusa 2007 For more information, visit IRS. Freetaxusa 2007 gov and enter “VCSP” in the search box. Freetaxusa 2007 2. Freetaxusa 2007 Employee or Independent Contractor? An employer must generally withhold federal income taxes, withhold and pay over social security and Medicare taxes, and pay unemployment tax on wages paid to an employee. Freetaxusa 2007 An employer does not generally have to withhold or pay over any federal taxes on payments to independent contractors. Freetaxusa 2007 Common-Law Rules To determine whether an individual is an employee or an independent contractor under the common law, the relationship of the worker and the business must be examined. Freetaxusa 2007 In any employee-independent contractor determination, all information that provides evidence of the degree of control and the degree of independence must be considered. Freetaxusa 2007 Facts that provide evidence of the degree of control and independence fall into three categories: behavioral control, financial control, and the type of relationship of the parties. Freetaxusa 2007 These facts are discussed next. Freetaxusa 2007 Behavioral control. Freetaxusa 2007   Facts that show whether the business has a right to direct and control how the worker does the task for which the worker is hired include the type and degree of: Instructions that the business gives to the worker. Freetaxusa 2007   An employee is generally subject to the business' instructions about when, where, and how to work. Freetaxusa 2007 All of the following are examples of types of instructions about how to do work. Freetaxusa 2007 When and where to do the work. Freetaxusa 2007 What tools or equipment to use. Freetaxusa 2007 What workers to hire or to assist with the work. Freetaxusa 2007 Where to purchase supplies and services. Freetaxusa 2007 What work must be performed by a specified  individual. Freetaxusa 2007 What order or sequence to follow. Freetaxusa 2007   The amount of instruction needed varies among different jobs. Freetaxusa 2007 Even if no instructions are given, sufficient behavioral control may exist if the employer has the right to control how the work results are achieved. Freetaxusa 2007 A business may lack the knowledge to instruct some highly specialized professionals; in other cases, the task may require little or no instruction. Freetaxusa 2007 The key consideration is whether the business has retained the right to control the details of a worker's performance or instead has given up that right. Freetaxusa 2007 Training that the business gives to the worker. Freetaxusa 2007   An employee may be trained to perform services in a particular manner. Freetaxusa 2007 Independent contractors ordinarily use their own methods. Freetaxusa 2007 Financial control. Freetaxusa 2007   Facts that show whether the business has a right to control the business aspects of the worker's job include: The extent to which the worker has unreimbursed business expenses. Freetaxusa 2007   Independent contractors are more likely to have unreimbursed expenses than are employees. Freetaxusa 2007 Fixed ongoing costs that are incurred regardless of whether work is currently being performed are especially important. Freetaxusa 2007 However, employees may also incur unreimbursed expenses in connection with the services that they perform for their employer. Freetaxusa 2007 The extent of the worker's investment. Freetaxusa 2007   An independent contractor often has a significant investment in the facilities or tools he or she uses in performing services for someone else. Freetaxusa 2007 However, a significant investment is not necessary for independent contractor status. Freetaxusa 2007 The extent to which the worker makes his or her services available to the relevant market. Freetaxusa 2007   An independent contractor is generally free to seek out business opportunities. Freetaxusa 2007 Independent contractors often advertise, maintain a visible business location, and are available to work in the relevant market. Freetaxusa 2007 How the business pays the worker. Freetaxusa 2007   An employee is generally guaranteed a regular wage amount for an hourly, weekly, or other period of time. Freetaxusa 2007 This usually indicates that a worker is an employee, even when the wage or salary is supplemented by a commission. Freetaxusa 2007 An independent contractor is often paid a flat fee or on a time and materials basis for the job. Freetaxusa 2007 However, it is common in some professions, such as law, to pay independent contractors hourly. Freetaxusa 2007 The extent to which the worker can realize a profit or loss. Freetaxusa 2007   An independent contractor can make a profit or loss. Freetaxusa 2007 Type of relationship. Freetaxusa 2007   Facts that show the parties' type of relationship include: Written contracts describing the relationship the parties intended to create. Freetaxusa 2007 Whether or not the business provides the worker with employee-type benefits, such as insurance, a pension plan, vacation pay, or sick pay. Freetaxusa 2007 The permanency of the relationship. Freetaxusa 2007 If you engage a worker with the expectation that the relationship will continue indefinitely, rather than for a specific project or period, this is generally considered evidence that your intent was to create an employer-employee relationship. Freetaxusa 2007 The extent to which services performed by the worker are a key aspect of the regular business of the company. Freetaxusa 2007 If a worker provides services that are a key aspect of your regular business activity, it is more likely that you will have the right to direct and control his or her activities. Freetaxusa 2007 For example, if a law firm hires an attorney, it is likely that it will present the attorney's work as its own and would have the right to control or direct that work. Freetaxusa 2007 This would indicate an employer-employee relationship. Freetaxusa 2007 IRS help. Freetaxusa 2007   If you want the IRS to determine whether or not a worker is an employee, file Form SS-8, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding, with the IRS. Freetaxusa 2007 Industry Examples The following examples may help you properly classify your workers. Freetaxusa 2007 Building and Construction Industry Example 1. Freetaxusa 2007 Jerry Jones has an agreement with Wilma White to supervise the remodeling of her house. Freetaxusa 2007 She did not advance funds to help him carry on the work. Freetaxusa 2007 She makes direct payments to the suppliers for all necessary materials. Freetaxusa 2007 She carries liability and workers' compensation insurance covering Jerry and others that he engaged to assist him. Freetaxusa 2007 She pays them an hourly rate and exercises almost constant supervision over the work. Freetaxusa 2007 Jerry is not free to transfer his assistants to other jobs. Freetaxusa 2007 He may not work on other jobs while working for Wilma. Freetaxusa 2007 He assumes no responsibility to complete the work and will incur no contractual liability if he fails to do so. Freetaxusa 2007 He and his assistants perform personal services for hourly wages. Freetaxusa 2007 Jerry Jones and his assistants are employees of Wilma White. Freetaxusa 2007 Example 2. Freetaxusa 2007 Milton Manning, an experienced tile setter, orally agreed with a corporation to perform full-time services at construction sites. Freetaxusa 2007 He uses his own tools and performs services in the order designated by the corporation and according to its specifications. Freetaxusa 2007 The corporation supplies all materials, makes frequent inspections of his work, pays him on a piecework basis, and carries workers' compensation insurance on him. Freetaxusa 2007 He does not have a place of business or hold himself out to perform similar services for others. Freetaxusa 2007 Either party can end the services at any time. Freetaxusa 2007 Milton Manning is an employee of the corporation. Freetaxusa 2007 Example 3. Freetaxusa 2007 Wallace Black agreed with the Sawdust Co. Freetaxusa 2007 to supply the construction labor for a group of houses. Freetaxusa 2007 The company agreed to pay all construction costs. Freetaxusa 2007 However, he supplies all the tools and equipment. Freetaxusa 2007 He performs personal services as a carpenter and mechanic for an hourly wage. Freetaxusa 2007 He also acts as superintendent and foreman and engages other individuals to assist him. Freetaxusa 2007 The company has the right to select, approve, or discharge any helper. Freetaxusa 2007 A company representative makes frequent inspections of the construction site. Freetaxusa 2007 When a house is finished, Wallace is paid a certain percentage of its costs. Freetaxusa 2007 He is not responsible for faults, defects of construction, or wasteful operation. Freetaxusa 2007 At the end of each week, he presents the company with a statement of the amount that he has spent, including the payroll. Freetaxusa 2007 The company gives him a check for that amount from which he pays the assistants, although he is not personally liable for their wages. Freetaxusa 2007 Wallace Black and his assistants are employees of the Sawdust Co. Freetaxusa 2007 Example 4. Freetaxusa 2007 Bill Plum contracted with Elm Corporation to complete the roofing on a housing complex. Freetaxusa 2007 A signed contract established a flat amount for the services rendered by Bill Plum. Freetaxusa 2007 Bill is a licensed roofer and carries workers' compensation and liability insurance under the business name, Plum Roofing. Freetaxusa 2007 He hires his own roofers who are treated as employees for federal employment tax purposes. Freetaxusa 2007 If there is a problem with the roofing work, Plum Roofing is responsible for paying for any repairs. Freetaxusa 2007 Bill Plum, doing business as Plum Roofing, is an independent contractor. Freetaxusa 2007 Example 5. Freetaxusa 2007 Vera Elm, an electrician, submitted a job estimate to a housing complex for electrical work at $16 per hour for 400 hours. Freetaxusa 2007 She is to receive $1,280 every 2 weeks for the next 10 weeks. Freetaxusa 2007 This is not considered payment by the hour. Freetaxusa 2007 Even if she works more or less than 400 hours to complete the work, Vera Elm will receive $6,400. Freetaxusa 2007 She also performs additional electrical installations under contracts with other companies, that she obtained through advertisements. Freetaxusa 2007 Vera is an independent contractor. Freetaxusa 2007 Trucking Industry Example. Freetaxusa 2007 Rose Trucking contracts to deliver material for Forest, Inc. Freetaxusa 2007 , at $140 per ton. Freetaxusa 2007 Rose Trucking is not paid for any articles that are not delivered. Freetaxusa 2007 At times, Jan Rose, who operates as Rose Trucking, may also lease another truck and engage a driver to complete the contract. Freetaxusa 2007 All operating expenses, including insurance coverage, are paid by Jan Rose. Freetaxusa 2007 All equipment is owned or rented by Jan and she is responsible for all maintenance. Freetaxusa 2007 None of the drivers are provided by Forest, Inc. Freetaxusa 2007 Jan Rose, operating as Rose Trucking, is an independent contractor. Freetaxusa 2007 Computer Industry Example. Freetaxusa 2007 Steve Smith, a computer programmer, is laid off when Megabyte, Inc. Freetaxusa 2007 , downsizes. Freetaxusa 2007 Megabyte agrees to pay Steve a flat amount to complete a one-time project to create a certain product. Freetaxusa 2007 It is not clear how long that it will take to complete the project, and Steve is not guaranteed any minimum payment for the hours spent on the program. Freetaxusa 2007 Megabyte provides Steve with no instructions beyond the specifications for the product itself. Freetaxusa 2007 Steve and Megabyte have a written contract, which provides that Steve is considered to be an independent contractor, is required to pay federal and state taxes, and receives no benefits from Megabyte. Freetaxusa 2007 Megabyte will file Form 1099-MISC, Miscellaneous Income, to report the amount paid to Steve. Freetaxusa 2007 Steve works at home and is not expected or allowed to attend meetings of the software development group. Freetaxusa 2007 Steve is an independent contractor. Freetaxusa 2007 Automobile Industry Example 1. Freetaxusa 2007 Donna Lee is a salesperson employed on a full-time basis by Bob Blue, an auto dealer. Freetaxusa 2007 She works six days a week and is on duty in Bob's showroom on certain assigned days and times. Freetaxusa 2007 She appraises trade-ins, but her appraisals are subject to the sales manager's approval. Freetaxusa 2007 Lists of prospective customers belong to the dealer. Freetaxusa 2007 She is required to develop leads and report results to the sales manager. Freetaxusa 2007 Because of her experience, she requires only minimal assistance in closing and financing sales and in other phases of her work. Freetaxusa 2007 She is paid a commission and is eligible for prizes and bonuses offered by Bob. Freetaxusa 2007 Bob also pays the cost of health insurance and group-term life insurance for Donna. Freetaxusa 2007 Donna is an employee of Bob Blue. Freetaxusa 2007 Example 2. Freetaxusa 2007 Sam Sparks performs auto repair services in the repair department of an auto sales company. Freetaxusa 2007 He works regular hours and is paid on a percentage basis. Freetaxusa 2007 He has no investment in the repair department. Freetaxusa 2007 The sales company supplies all facilities, repair parts, and supplies; issues instructions on the amounts to be charged, parts to be used, and the time for completion of each job; and checks all estimates and repair orders. Freetaxusa 2007 Sam is an employee of the sales company. Freetaxusa 2007 Example 3. Freetaxusa 2007 An auto sales agency furnishes space for Helen Bach to perform auto repair services. Freetaxusa 2007 She provides her own tools, equipment, and supplies. Freetaxusa 2007 She seeks out business from insurance adjusters and other individuals and does all of the body and paint work that comes to the agency. Freetaxusa 2007 She hires and discharges her own helpers, determines her own and her helpers' working hours, quotes prices for repair work, makes all necessary adjustments, assumes all losses from uncollectible accounts, and receives, as compensation for her services, a large percentage of the gross collections from the auto repair shop. Freetaxusa 2007 Helen is an independent contractor and the helpers are her employees. Freetaxusa 2007 Attorney Example. Freetaxusa 2007 Donna Yuma is a sole practitioner who rents office space and pays for the following items: telephone, computer, on-line legal research linkup, fax machine, and photocopier. Freetaxusa 2007 Donna buys office supplies and pays bar dues and membership dues for three other professional organizations. Freetaxusa 2007 Donna has a part-time receptionist who also does the bookkeeping. Freetaxusa 2007 She pays the receptionist, withholds and pays federal and state employment taxes, and files a Form W-2 each year. Freetaxusa 2007 For the past 2 years, Donna has had only three clients, corporations with which there have been long-standing relationships. Freetaxusa 2007 Donna charges the corporations an hourly rate for her services, sending monthly bills detailing the work performed for the prior month. Freetaxusa 2007 The bills include charges for long distance calls, on-line research time, fax charges, photocopies, postage, and travel, costs for which the corporations have agreed to reimburse her. Freetaxusa 2007 Donna is an independent contractor. Freetaxusa 2007 Taxicab Driver Example. Freetaxusa 2007 Tom Spruce rents a cab from Taft Cab Co. Freetaxusa 2007 for $150 per day. Freetaxusa 2007 He pays the costs of maintaining and operating the cab. Freetaxusa 2007 Tom Spruce keeps all fares that he receives from customers. Freetaxusa 2007 Although he receives the benefit of Taft's two-way radio communication equipment, dispatcher, and advertising, these items benefit both Taft and Tom Spruce. Freetaxusa 2007 Tom Spruce is an independent contractor. Freetaxusa 2007 Salesperson To determine whether salespersons are employees under the usual common-law rules, you must evaluate each individual case. Freetaxusa 2007 If a salesperson who works for you does not meet the tests for a common-law employee, discussed earlier in this section, you do not have to withhold federal income tax from his or her pay (see Statutory Employees in section 1). Freetaxusa 2007 However, even if a salesperson is not an employee under the usual common-law rules for income tax withholding, his or her pay may still be subject to social security, Medicare, and FUTA taxes as a statutory employee. Freetaxusa 2007 To determine whether a salesperson is an employee for social security, Medicare, and FUTA tax purposes, the salesperson must meet all eight elements of the statutory employee test. Freetaxusa 2007 A salesperson is a statutory employee for social security, Medicare, and FUTA tax purposes if he or she: Works full time for one person or company except, possibly, for sideline sales activities on behalf of some other person, Sells on behalf of, and turns his or her orders over to, the person or company for which he or she works, Sells to wholesalers, retailers, contractors, or operators of hotels, restaurants, or similar establishments, Sells merchandise for resale, or supplies for use in the customer's business, Agrees to do substantially all of this work personally, Has no substantial investment in the facilities used to do the work, other than in facilities for transportation, Maintains a continuing relationship with the person or company for which he or she works, and Is not an employee under common-law rules. Freetaxusa 2007 3. Freetaxusa 2007 Employees of Exempt Organizations Many nonprofit organizations are exempt from federal income tax. Freetaxusa 2007 Although they do not have to pay federal income tax themselves, they must still withhold federal income tax from the pay of their employees. Freetaxusa 2007 However, there are special social security, Medicare, and FUTA tax rules that apply to the wages that they pay their employees. Freetaxusa 2007 Section 501(c)(3) organizations. Freetaxusa 2007   Nonprofit organizations that are exempt from federal income tax under section 501(c)(3) of the Internal Revenue Code include any community chest, fund, or foundation organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary or educational purposes, fostering national or international amateur sports competition, or for the prevention of cruelty to children or animals. Freetaxusa 2007 These organizations are usually corporations and are exempt from federal income tax under section 501(a). Freetaxusa 2007 Social security and Medicare taxes. Freetaxusa 2007   Wages paid to employees of section 501(c)(3) organizations are subject to social security and Medicare taxes unless one of the following situations applies. Freetaxusa 2007 The organization pays an employee less than $100 in a calendar year. Freetaxusa 2007 The organization is a church or church-controlled organization opposed for religious reasons to the payment of social security and Medicare taxes and has filed Form 8274, Certification by Churches and Qualified Church-Controlled Organizations Electing Exemption From Employer Social Security and Medicare Taxes, to elect exemption from social security and Medicare taxes. Freetaxusa 2007 The organization must have filed for exemption before the first date on which a quarterly employment tax return (Form 941) or annual employment tax return (Form 944) would otherwise be due. Freetaxusa 2007   An employee of a church or church-controlled organization that is exempt from social security and Medicare taxes must pay self-employment tax if the employee is paid $108. Freetaxusa 2007 28 or more in a year. Freetaxusa 2007 However, an employee who is a member of a qualified religious sect can apply for an exemption from the self-employment tax by filing Form 4029, Application for Exemption From Social Security and Medicare Taxes and Waiver of Benefits. Freetaxusa 2007 See Members of recognized religious sects opposed to insurance in section 4. Freetaxusa 2007 FUTA tax. Freetaxusa 2007   An organization that is exempt from federal income tax under section 501(c)(3) of the Internal Revenue Code is also exempt from FUTA tax. Freetaxusa 2007 This exemption cannot be waived. Freetaxusa 2007 Do not file Form 940 to report wages paid by these organizations or pay the tax. Freetaxusa 2007 Note. Freetaxusa 2007 An organization wholly owned by a state or its political subdivision should contact the appropriate state official for information about reporting and getting social security and Medicare coverage for its employees. Freetaxusa 2007 Other than section 501(c)(3) organizations. Freetaxusa 2007   Nonprofit organizations that are not section 501(c)(3) organizations may also be exempt from federal income tax under section 501(a) or section 521. Freetaxusa 2007 However, these organizations are not exempt from withholding federal income, social security, or Medicare tax from their employees' pay, or from paying FUTA tax. Freetaxusa 2007 Two special rules for social security, Medicare, and FUTA taxes apply. Freetaxusa 2007 If an employee is paid less than $100 during a calendar year, his or her wages are not subject to social security and Medicare taxes. Freetaxusa 2007 If an employee is paid less than $50 in a calendar quarter, his or her wages are not subject to FUTA tax for the quarter. Freetaxusa 2007 The above rules do not apply to employees who work for pension plans and other similar organizations described in section 401(a). Freetaxusa 2007 4. Freetaxusa 2007 Religious Exemptions and Special Rules for Ministers Special rules apply to the treatment of ministers for social security and Medicare tax purposes. Freetaxusa 2007 An exemption from social security and Medicare taxes is available for ministers and certain other religious workers and members of certain recognized religious sects. Freetaxusa 2007 For more information on getting an exemption, see Publication 517, Social Security and Other Information for Members of the Clergy and Religious Workers. Freetaxusa 2007 Ministers. Freetaxusa 2007   Ministers are individuals who are duly ordained, commissioned, or licensed by a religious body constituting a church or church denomination. Freetaxusa 2007 They are given the authority to conduct religious worship, perform sacerdotal functions, and administer ordinances and sacraments according to the prescribed tenets and practices of that religious organization. Freetaxusa 2007   Ministers are employees if they perform services in the exercise of ministry and are subject to your will and control. Freetaxusa 2007 The common-law rules discussed in section 1 and section 2 should be applied to determine whether a minister is your employee or is self-employed. Freetaxusa 2007 Whether the minister is an employee or self-employed, the earnings of a minister are not subject to federal income, social security, and Medicare tax withholding. Freetaxusa 2007 However, even if the minister is a common law employee, the earnings as reported on the minister's Form 1040 are subject to self-employment tax and federal income tax. Freetaxusa 2007 You do not withhold these taxes from wages earned by a minister, but if the minister is your employee, you may agree with the minister to voluntarily withhold tax to cover the minister's liability for self-employment tax and federal income tax. Freetaxusa 2007 For more information, see Publication 517. Freetaxusa 2007 Form W-2. Freetaxusa 2007   If your minister is an employee, report all taxable compensation as wages in box 1 on Form W-2. Freetaxusa 2007 Include in this amount expense allowances or reimbursements paid under a nonaccountable plan, discussed in section 5 of Publication 15 (Circular E). Freetaxusa 2007 Do not include a parsonage allowance (excludable housing allowance) in this amount. Freetaxusa 2007 You may report a designated parsonage or rental allowance (housing allowance) and a utilities allowance, or the rental value of housing provided in a separate statement or in box 14 on Form W-2. Freetaxusa 2007 Do not show on Form W-2, Form 941, or Form 944 any amount as social security or Medicare wages, or any withholding for social security or Medicare taxes. Freetaxusa 2007 If you withheld federal income tax from the minister under a voluntary agreement, this amount should be shown in box 2 on Form W-2 as federal income tax withheld. Freetaxusa 2007 For more information on ministers, see Publication 517. Freetaxusa 2007 Exemptions for ministers and others. Freetaxusa 2007   Certain ordained ministers, Christian Science practitioners, and members of religious orders who have not taken a vow of poverty may apply to exempt their earnings from self-employment tax on religious grounds. Freetaxusa 2007 The application must be based on conscientious opposition because of personal considerations to public insurance that makes payments in the event of death, disability, old age, or retirement, or that makes payments toward the cost of, or provides services for, medical care, including social security and Medicare benefits. Freetaxusa 2007 The exemption applies only to qualified services performed for the religious organization. Freetaxusa 2007 See Revenue Procedure 91-20, 1991-1 C. Freetaxusa 2007 B. Freetaxusa 2007 524, for guidelines to determine whether an organization is a religious order or whether an individual is a member of a religious order. Freetaxusa 2007   To apply for the exemption, the employee should file Form 4361, Application for Exemption From Self-Employment Tax for Use by Ministers, Members of Religious Orders and Christian Science Practitioners. Freetaxusa 2007 See Publication 517 for more information about claiming an exemption from self-employment tax using Form 4361. Freetaxusa 2007 Members of recognized religious sects opposed to insurance. Freetaxusa 2007   If you belong to a recognized religious sect or to a division of such sect that is opposed to insurance, you may qualify for an exemption from the self-employment tax. Freetaxusa 2007 To qualify, you must be conscientiously opposed to accepting the benefits of any public or private insurance that makes payments because of death, disability, old age, or retirement, or makes payments toward the cost of, or provides services for, medical care (including social security and Medicare benefits). Freetaxusa 2007 If you buy a retirement annuity from an insurance company, you will not be eligible for this exemption. Freetaxusa 2007 Religious opposition based on the teachings of the sect is the only legal basis for the exemption. Freetaxusa 2007 In addition, your religious sect (or division) must have existed since December 31, 1950. Freetaxusa 2007 Self-employed. Freetaxusa 2007   If you are self-employed and a member of a recognized religious sect opposed to insurance, you can apply for exemption by filing Form 4029 to waive all social security and Medicare benefits. Freetaxusa 2007 Employees. Freetaxusa 2007   The social security and Medicare tax exemption available to the self-employed who are members of a recognized religious sect opposed to insurance is also available to their employees who are members of such a sect. Freetaxusa 2007 This applies to partnerships only if each partner is a member of the sect. Freetaxusa 2007 This exemption for employees applies only if both the employee and the employer are members of such a sect, and the employer has an exemption. Freetaxusa 2007 To get the exemption, the employee must file Form 4029. Freetaxusa 2007   An employee of a church or church-controlled organization that is exempt from social security and Medicare taxes can also apply for an exemption on Form 4029. Freetaxusa 2007 5. Freetaxusa 2007 Wages and Other Compensation Publication 15 (Circular E) provides a general discussion of taxable wages. Freetaxusa 2007 Publication 15-B discusses fringe benefits. Freetaxusa 2007 The following topics supplement those discussions. Freetaxusa 2007 Relocating for Temporary Work Assignments If an employee is given a temporary work assignment away from his or her regular place of work, certain travel expenses reimbursed or paid directly by the employer in accordance with an accountable plan (see section 5 in Publication 15 (Circular E)) may be excludable from the employee's wages. Freetaxusa 2007 Generally, a temporary work assignment in a single location is one that is realistically expected to last (and does in fact last) for 1 year or less. Freetaxusa 2007 If the employee's new work assignment is indefinite, any living expenses reimbursed or paid by the employer (other than qualified moving expenses) must be included in the employee's wages as compensation. Freetaxusa 2007 For the travel expenses to be excludable: The new work location must be outside of the city or general area of the employee's regular work place or post of duty, The travel expenses must otherwise qualify as deductible by the employee, and The expenses must be for the period during which the employee is at the temporary work location. Freetaxusa 2007 If you reimburse or pay any personal expenses of an employee during his or her temporary work assignment, such as expenses for home leave for family members or for vacations, these amounts must be included in the employee's wages. Freetaxusa 2007 See chapter 1 of Publication 463, Travel, Entertainment, Gift, and Car Expenses, and section 5 of Publication 15 (Circular E), for more information. Freetaxusa 2007 These rules generally apply to temporary work assignments both inside and outside the U. Freetaxusa 2007 S. Freetaxusa 2007 Employee Achievement Awards Do not withhold federal income, social security, or Medicare taxes on the fair market value of an employee achievement award if it is excludable from your employee's gross income. Freetaxusa 2007 To be excludable from your employee's gross income, the award must be tangible personal property (not cash, gift certificates, or securities) given to an employee for length of service or safety achievement, awarded as part of a meaningful presentation, and awarded under circumstances that do not indicate that the payment is disguised compensation. Freetaxusa 2007 Excludable employee achievement awards also are not subject to FUTA tax. Freetaxusa 2007 Limits. Freetaxusa 2007   The most that you can exclude for the cost of all employee achievement awards to the same employee for the year is $400. Freetaxusa 2007 A higher limit of $1,600 applies to qualified plan awards. Freetaxusa 2007 Qualified plan awards are employee achievement awards under a written plan that does not discriminate in favor of highly compensated employees. Freetaxusa 2007 An award cannot be treated as a qualified plan award if the average cost per recipient of all awards under all of your qualified plans is more than $400. Freetaxusa 2007   If during the year an employee receives awards not made under a qualified plan and also receives awards under a qualified plan, the exclusion for the total cost of all awards to that employee cannot be more than $1,600. Freetaxusa 2007 The $400 and $1,600 limits cannot be added together to exclude more than $1,600 for the cost of awards to any one employee during the year. Freetaxusa 2007 Scholarship and Fellowship Payments Only amounts that you pay as a qualified scholarship to a candidate for a degree may be excluded from the recipient's gross income. Freetaxusa 2007 A qualified scholarship is any amount granted as a scholarship or fellowship that is used for: Tuition and fees required to enroll in, or to attend, an educational institution, or Fees, books, supplies, and equipment that are required for courses at the educational institution. Freetaxusa 2007 The exclusion from income does not apply to the portion of any amount received that represents payment for teaching, research, or other services required as a condition of receiving the scholarship or tuition reduction. Freetaxusa 2007 These amounts are reportable on Form W-2. Freetaxusa 2007 However, the exclusion will still apply for any amount received under two specific programs—the National Health Service Corps Scholarship Program and the Armed Forces Health Professions Scholarship and Financial Assistance Program—despite any service condition attached to those amounts. Freetaxusa 2007 Any amounts that you pay for room and board are not excludable from the recipient's gross income. Freetaxusa 2007 A qualified scholarship is not subject to social security, Medicare, and FUTA taxes, or federal income tax withholding. Freetaxusa 2007 For more information, see Publication 970, Tax Benefits for Education. Freetaxusa 2007 Outplacement Services If you provide outplacement services to your employees to help them find new employment (such as career counseling, resume assistance, or skills assessment), the value of these benefits may be income to them and subject to all withholding taxes. Freetaxusa 2007 However, the value of these services will not be subject to any employment taxes if: You derive a substantial business benefit from providing the services (such as improved employee morale or business image) separate from the benefit that you would receive from the mere payment of additional compensation, and The employee would be able to deduct the cost of the services as employee business expenses if he or she had paid for them. Freetaxusa 2007 However, if you receive no additional benefit from providing the services, or if the services are not provided on the basis of employee need, then the value of the services is treated as wages and is subject to federal income tax withholding and social security and Medicare taxes. Freetaxusa 2007 Similarly, if an employee receives the outplacement services in exchange for reduced severance pay (or other taxable compensation), then the amount the severance pay is reduced is treated as wages for employment tax purposes. Freetaxusa 2007 Withholding for Idle Time Payments made under a voluntary guarantee to employees for idle time (any time during which an employee performs no services) are wages for the purposes of social security, Medicare, and FUTA taxes, and federal income tax withholding. Freetaxusa 2007 Back Pay Treat back pay as wages in the year paid and withhold and pay employment taxes as required. Freetaxusa 2007 If back pay was awarded by a court or government agency to enforce a federal or state statute protecting an employee's right to employment or wages, special rules apply for reporting those wages to the Social Security Administration. Freetaxusa 2007 These rules also apply to litigation actions and settlement agreements or agency directives that are resolved out of court and not under a court decree or order. Freetaxusa 2007 Examples of pertinent statutes include, but are not limited to, the National Labor Relations Act, Fair Labor Standards Act, Equal Pay Act, and Age Discrimination in Employment Act. Freetaxusa 2007 See Publication 957, Reporting Back Pay and Special Wage Payments to the Social Security Administration, and Form SSA-131, Employer Report of Special Wage Payments, for details. Freetaxusa 2007 Supplemental Unemployment Benefits If you pay, under a plan, supplemental unemployment benefits to a former employee, all or part of the payments may be taxable and subject to federal income tax withholding, depending on how the plan is funded. Freetaxusa 2007 Amounts that represent a return to the employee of amounts previously subject to tax are not taxable and are not subject to withholding. Freetaxusa 2007 You should withhold federal income tax on the taxable part of the payments made, under a plan, to an employee who is involuntarily separated because of a reduction in force, discontinuance of a plant or operation, or other similar condition. Freetaxusa 2007 It does not matter whether the separation is temporary or permanent. Freetaxusa 2007 There are special rules that apply in determining whether benefits qualify as supplemental unemployment benefits that are excluded from wages for social security, Medicare, and FUTA tax purposes. Freetaxusa 2007 To qualify as supplemental unemployment benefits for these purposes, the benefits must meet the following requirements. Freetaxusa 2007 Benefits are paid only to unemployed former employees who are laid off by the employer. Freetaxusa 2007 Eligibility for benefits depends on meeting prescribed conditions after termination. Freetaxusa 2007 The amount of weekly benefits payable is based upon state unemployment benefits, other compensation allowable under state law, and the amount of regular weekly pay. Freetaxusa 2007 The right to benefits does not accrue until a prescribed period after termination. Freetaxusa 2007 Benefits are not attributable to the performance of particular services. Freetaxusa 2007 No employee has any right to the benefits until qualified and eligible to receive benefits. Freetaxusa 2007 Benefits may not be paid in a lump sum. Freetaxusa 2007 Withholding on taxable supplemental unemployment benefits must be based on the withholding certificate (Form W-4) that the employee gave to you. Freetaxusa 2007 Golden Parachute Payments A golden parachute payment, in general, is a payment made under a contract entered into by a corporation and key personnel. Freetaxusa 2007 Under the agreement, the corporation agrees to pay certain amounts to its key personnel in the event of a change in ownership or control of the corporation. Freetaxusa 2007 Payments to employees under golden parachute contracts are subject to social security, Medicare, and FUTA taxes, and federal income tax withholding. Freetaxusa 2007 See Regulations section 1. Freetaxusa 2007 280G-1 for more information. Freetaxusa 2007 No deduction is allowed to the corporation for any excess parachute payment. Freetaxusa 2007 To determine the amount of the excess parachute payment, you must first determine if there is a parachute payment for purposes of section 280G. Freetaxusa 2007 A parachute payment for purposes of section 280G is any payment that meets all of the following. Freetaxusa 2007 The payment is in the nature of compensation. Freetaxusa 2007 The payment is to, or for the benefit of, a disqualified individual. Freetaxusa 2007 A disqualified individual is anyone who at any time during the 12-month period prior to and ending on the date of the change in ownership or control of the corporation (the disqualified individual determination period) was an employee or independent contractor and was, in regard to that corporation, a shareholder, an officer, or highly compensated individual. Freetaxusa 2007 The payment is contingent on a change in ownership of the corporation, the effective control of the corporation, or the ownership of a substantial portion of the assets of the corporation. Freetaxusa 2007 The payment has an aggregate present value of at least three times the individual's base amount. Freetaxusa 2007 The base amount is the average annual compensation for service includible in the individual's gross income over the most recent 5 taxable years. Freetaxusa 2007 An excess parachute payment amount is the excess of any parachute payment over the base amount. Freetaxusa 2007 For more information, see Regulations section 1. Freetaxusa 2007 280G-1. Freetaxusa 2007 The recipient of an excess parachute payment is subject to a 20% nondeductible excise tax. Freetaxusa 2007 If the recipient is an employee, the 20% excise tax is to be withheld by the corporation. Freetaxusa 2007 Example. Freetaxusa 2007 An officer of a corporation receives a golden parachute payment of $400,000. Freetaxusa 2007 This is more than three times greater than his or her average compensation of $100,000 over the previous 5-year period. Freetaxusa 2007 The excess parachute payment is $300,000 ($400,000 minus $100,000). Freetaxusa 2007 The corporation cannot deduct the $300,000 and must withhold the excise tax of $60,000 (20% of $300,000). Freetaxusa 2007 Reporting golden parachute payments. Freetaxusa 2007   Golden parachute payments to employees must be reported on Form W-2. Freetaxusa 2007 See the General Instructions for Forms W-2 and W-3 for details. Freetaxusa 2007 For nonemployee reporting of these payments, see Box 7. Freetaxusa 2007 Nonemployee Compensation in the Instructions for Form 1099-MISC. Freetaxusa 2007 Exempt payments. Freetaxusa 2007   Payments by most small business corporations and payments under certain qualified plans are exempt from the golden parachute rules. Freetaxusa 2007 See section 280G(b)(5) and (6) for more information. Freetaxusa 2007 Interest-Free and Below-Market-Interest-Rate Loans In general, if an employer lends an employee more than $10,000 at an interest rate less than the current applicable federal rate (AFR), the difference between the interest paid and the interest that would be paid under the AFR is considered additional compensation to the employee. Freetaxusa 2007 This rule applies to a loan of $10,000 or less if one of its principal purposes is the avoidance of federal tax. Freetaxusa 2007 This additional compensation to the employee is subject to social security, Medicare, and FUTA taxes, but not to federal income tax withholding. Freetaxusa 2007 Include it in compensation on Form W-2 (or Form 1099-MISC for an independent contractor). Freetaxusa 2007 The AFR is established monthly and published by the IRS each month in the Internal Revenue Bulletin. Freetaxusa 2007 You can get these rates by calling 1-800-829-4933 or by visiting IRS. Freetaxusa 2007 gov. Freetaxusa 2007 For more information, see section 7872 and its related regulations. Freetaxusa 2007 Leave Sharing Plans If you establish a leave sharing plan for your employees that allows them to transfer leave to other employees for medical emergencies, the amounts paid to the recipients of the leave are considered wages. Freetaxusa 2007 These amounts are includible in the gross income of the recipients and are subject to social security, Medicare, and FUTA taxes, and federal income tax withholding. Freetaxusa 2007 Do not include these amounts in the income of the transferors. Freetaxusa 2007 These rules apply only to leave sharing plans that permit employees to transfer leave to other employees for medical emergencies. Freetaxusa 2007 Nonqualified Deferred Compensation Plans Income Tax and Reporting Section 409A provides that all amounts deferred under a nonqualified deferred compensation (NQDC) plan for all tax years are currently includible in gross income (to the extent not subject to a substantial risk of forfeiture and not previously included in gross income) and subject to additional taxes, unless certain requirements are met pertaining to, among other things, elections to defer compensation and distributions under a NQDC plan. Freetaxusa 2007 Section 409A also includes rules that apply to certain trusts or similar arrangements associated with NQDC plans if the trusts or arrangements are located outside of the United States, are restricted to the provision of benefits in connection with a decline in the financial health of the plan sponsor, or contributions are made to the trust during certain periods such as when a qualified plan of the service recipient is underfunded. Freetaxusa 2007 Employers must withhold federal income tax (but not the additional Section 409A taxes) on any amount includible in gross income under section 409A. Freetaxusa 2007 Other changes to the Internal Revenue Code provide that the deferrals under a NQDC plan must be reported separately on Form W-2 or Form 1099-MISC, whichever applies. Freetaxusa 2007 Specific rules for reporting are provided in the instructions to the forms. Freetaxusa 2007 The provisions do not affect the application or reporting of social security, Medicare, or FUTA taxes. Freetaxusa 2007 The provisions do not prevent the inclusion of amounts in income or wages under other provisions of the Internal Revenue Code or common law principles, such as when amounts are actually or constructively received or irrevocably contributed to a separate fund. Freetaxusa 2007 For more information about nonqualified deferred compensation plans, see Regulations sections 1. Freetaxusa 2007 409A-1 through 1. Freetaxusa 2007 409A-6. Freetaxusa 2007 Notice 2008-113 provides guidance on the correction of certain operation failures of a NQDC plan. Freetaxusa 2007 Notice 2008-113, 2008-51 I. Freetaxusa 2007 R. Freetaxusa 2007 B. Freetaxusa 2007 1305, is available at www. Freetaxusa 2007 irs. Freetaxusa 2007 gov/irb/2008-51_IRB/ar12. Freetaxusa 2007 html. Freetaxusa 2007 Also see Notice 2010-6, 2010-3 I. Freetaxusa 2007 R. Freetaxusa 2007 B. Freetaxusa 2007 275, available at www. Freetaxusa 2007 irs. Freetaxusa 2007 gov/irb/2010-03_IRB/ar08. Freetaxusa 2007 html and Notice 2010-80, 2010-51 I. Freetaxusa 2007 R. Freetaxusa 2007 B. Freetaxusa 2007 853, available at www. Freetaxusa 2007 irs. Freetaxusa 2007 gov/irb/2010-51_IRB/ar08. Freetaxusa 2007 html. Freetaxusa 2007 Social security, Medicare, and FUTA taxes. Freetaxusa 2007   Employer contributions to nonqualified deferred compensation (NQDC) plans, as defined in the applicable regulations, are treated as wages subject to social security, Medicare, and FUTA taxes when the services are performed or the employee no longer has a substantial risk of forfeiting the right to the deferred compensation, whichever is later. Freetaxusa 2007   Amounts deferred are subject to social security, Medicare, and FUTA taxes at that time unless the amount that is deferred cannot be reasonably ascertained; for example, if benefits are based on final pay. Freetaxusa 2007 If the value of the future benefit is based on any factors that are not yet reasonably ascertainable, you may choose to estimate the value of the future benefit and withhold and pay social security, Medicare, and FUTA taxes on that amount. Freetaxusa 2007 You will have to determine later, when the amount is reasonably ascertainable, whether any additional taxes are required. Freetaxusa 2007 If taxes are not paid before the amounts become reasonably ascertainable, when the amounts become reasonably ascertainable they are subject to social security, Medicare, and FUTA taxes on the amounts deferred plus the income attributable to those amounts deferred. Freetaxusa 2007 For more information, see Regulations sections 31. Freetaxusa 2007 3121(v)(2)-1 and 31. Freetaxusa 2007 3306(r)(2)-1. Freetaxusa 2007 Tax-Sheltered Annuities Employer payments made by a public educational institution or a tax-exempt organization to purchase a tax-sheltered annuity for an employee (annual deferrals) are included in the employee's social security and Medicare wages, if the payments are made because of a salary reduction agreement. Freetaxusa 2007 However, they are not included in box 1 on Form W-2 in the year the deferrals are made and are not subject to federal income tax withholding. Freetaxusa 2007 See Regulations section 31. Freetaxusa 2007 3121(a)(5)-2 for the definition of a salary reduction agreement. Freetaxusa 2007 Contributions to a Simplified Employee Pension (SEP) An employer's SEP contributions to an employee's individual retirement arrangement (IRA) are excluded from the employee's gross income. Freetaxusa 2007 These excluded amounts are not subject to social security, Medicare, or FUTA taxes, or federal income tax withholding. Freetaxusa 2007 However, any SEP contributions paid under a salary reduction agreement (SARSEP) are included in wages for purposes of social security, Medicare, and FUTA taxes. Freetaxusa 2007 See Publication 560 for more information about SEPs. Freetaxusa 2007 Salary reduction simplified employee pensions (SARSEP) repealed. Freetaxusa 2007   You may not establish a SARSEP after 1996. Freetaxusa 2007 However, SARSEPs established before January 1, 1997, may continue to receive contributions. Freetaxusa 2007 SIMPLE Retirement Plans Employer and employee contributions to a savings incentive match plan for employees (SIMPLE) retirement account (subject to limitations) are excludable from the employee's income and are exempt from federal income tax withholding. Freetaxusa 2007 An employer's nonelective (2%) or matching contributions are exempt from social security, Medicare, and FUTA taxes. Freetaxusa 2007 However, an employee's salary reduction contributions to a SIMPLE are subject to social security, Medicare, and FUTA taxes. Freetaxusa 2007 For more information about SIMPLE retirement plans, see Publication 560. Freetaxusa 2007 6. Freetaxusa 2007 Sick Pay Reporting The IRS expects to change the third-party sick pay recap reporting and filing requirements for wages paid in 2014. Freetaxusa 2007 Information about this change will be included in the revision of Publication 15-A that is expected to post to IRS. Freetaxusa 2007 gov in December 2014. Freetaxusa 2007 Special rules apply to the reporting of sick pay payments to employees. Freetaxusa 2007 How these payments are reported depends on whether the payments are made by the employer or a third party, such as an insurance company. Freetaxusa 2007 Sick pay is usually subject to social security, Medicare, and FUTA taxes. Freetaxusa 2007 For exceptions, see Social Security, Medicare, and FUTA Taxes on Sick Pay , later in this section. Freetaxusa 2007 Sick pay may also be subject to either mandatory or voluntary federal income tax withholding, depending on who pays it. Freetaxusa 2007 Sick Pay Sick pay generally means any amount paid under a plan because of an employee's temporary absence from work due to injury, sickness, or disability. Freetaxusa 2007 It may be paid by either the employer or a third party, such as an insurance company. Freetaxusa 2007 Sick pay includes both short- and long-term benefits. Freetaxusa 2007 It is often expressed as a percentage of the employee's regular wages. Freetaxusa 2007 Payments That Are Not Sick Pay Sick pay does not include the following payments. Freetaxusa 2007 Disability retirement payments. Freetaxusa 2007 Disability retirement payments are not sick pay and are not discussed in this section. Freetaxusa 2007 Those payments are subject to the rules for federal income tax withholding from pensions and annuities. Freetaxusa 2007 See section 8. Freetaxusa 2007 Workers' compensation. Freetaxusa 2007 Payments because of a work-related injury or sickness that are made under a workers' compensation law are not sick pay and are not subject to employment taxes. Freetaxusa 2007 But see Payments in the nature of workers' compensation—public employees next. Freetaxusa 2007 Payments in the nature of workers' compensation—public employees. Freetaxusa 2007 State and local government employees, such as police officers and firefighters, sometimes receive payments due to an injury in the line of duty under a statute that is not the general workers' compensation law of a state. Freetaxusa 2007 If the statute limits benefits to work-related injuries or sickness and does not base payments on the employee's age, length of service, or prior contributions, the statute is “in the nature of” a workers' compensation law. Freetaxusa 2007 Payments under a statute in the nature of a workers' compensation law are not sick pay and are not subject to employment taxes. Freetaxusa 2007 For more information, see Regulations section 31. Freetaxusa 2007 3121(a)(2)-1. Freetaxusa 2007 Medical expense payments. Freetaxusa 2007 Payments under a definite plan or system for medical and hospitalization expenses, or for insurance covering these expenses, are not sick pay and are not subject to employment taxes. Freetaxusa 2007 Payments unrelated to absence from work. Freetaxusa 2007 Accident or health insurance payments unrelated to absence from work are not sick pay and are not subject to employment taxes. Freetaxusa 2007 These include payments for: Permanent loss of a member or function of the body, Permanent loss of the use of a member or function of the body, or Permanent disfigurement of the body. Freetaxusa 2007 Example. Freetaxusa 2007 Donald was injured in a car accident and lost an eye. Freetaxusa 2007 Under a policy paid for by Donald's employer, Delta Insurance Co. Freetaxusa 2007 paid Donald $20,000 as compensation for the loss of his eye. Freetaxusa 2007 Because the payment was determined by the type of injury and was unrelated to Donald's absence from work, it is not sick pay and is not subject to federal employment taxes. Freetaxusa 2007 Sick Pay Plan A sick pay plan is a plan or system established by an employer under which sick pay is available to employees generally or to a class or classes of employees. Freetaxusa 2007 This does not include a situation in which benefits are provided on a discretionary or occasional basis with merely an intention to aid particular employees in time of need. Freetaxusa 2007 You have a sick pay plan or system if the plan is in writing or is otherwise made known to employees, such as by a bulletin board notice or your long and established practice. Freetaxusa 2007 Some indications that you have a sick pay plan or system include references to the plan or system in the contract of employment, employer contributions to a plan, or segregated accounts for the payment of benefits. Freetaxusa 2007 Definition of employer. Freetaxusa 2007   The employer for whom the employee normally works, a term used in the following discussion, is either the employer for whom the employee was working at the time that the employee became sick or disabled or the last employer for whom the employee worked before becoming sick or disabled, if that employer made contributions to the sick pay plan on behalf of the sick or disabled employee. Freetaxusa 2007 Note. Freetaxusa 2007 Contributions to a sick pay plan through a cafeteria plan (by direct employer contributions or salary reduction) are employer contributions unless they are after-tax employee contributions (that is, included in taxable wages). Freetaxusa 2007 Third-Party Payers of Sick Pay Employer's agent. Freetaxusa 2007   An employer's agent is a third party that bears no insurance risk and is reimbursed on a cost-plus-fee basis for payment of sick pay and similar amounts. Freetaxusa 2007 A third party may be your agent even if the third party is responsible for determining which employees are eligible to receive payments. Freetaxusa 2007 For example, if a third party provides administrative services only, the third party is your agent. Freetaxusa 2007 If the third party is paid an insurance premium and is not reimbursed on a cost-plus-fee basis, the third party is not your agent. Freetaxusa 2007 Whether an insurance company or other third party is your agent depends on the terms of their agreement with you. Freetaxusa 2007   A third party that makes payments of sick pay as your agent is not considered the employer and generally has no responsibility for employment taxes. Freetaxusa 2007 This responsibility remains with you. Freetaxusa 2007 However, under an exception to this rule, the parties may enter into an agreement that makes the third-party agent responsible for employment taxes. Freetaxusa 2007 In this situation, the third-party agent should use its own name and EIN (rather than your name and EIN) for the responsibilities that it has assumed. Freetaxusa 2007 Third party not employer's agent. Freetaxusa 2007   A third party that makes payments of sick pay other than as an agent of the employer is liable for federal income tax withholding (if requested by the employee) and the employee part of the social security and Medicare taxes. Freetaxusa 2007   The third party is also liable for the employer part of the social security and Medicare taxes, and the FUTA tax, unless the third party transfers this liability to the employer for whom the employee normally works. Freetaxusa 2007 This liability is transferred if the third party takes the following steps. Freetaxusa 2007 Withholds the employee social security and Medicare taxes from the sick pay payments. Freetaxusa 2007 Makes timely deposits of the employee social security and Medicare taxes. Freetaxusa 2007 Notifies the employer for whom the employee normally works of the payments on which employee taxes were withheld and deposited. Freetaxusa 2007 The third party must notify the employer within the time required for the third party's deposit of the employee part of the social security and Medicare taxes. Freetaxusa 2007 For instance, if the third party is a monthly schedule depositor, it must notify the employer by the 15th day of the month following the month in which the sick pay payment is made because that is the day by which the deposit is required to be made. Freetaxusa 2007 The third party should notify the employer as soon as information on payments is available so that an employer required to make electronic deposits can make them timely. Freetaxusa 2007 For multi-employer plans, see the special rule discussed next. Freetaxusa 2007 Multi-employer plan timing rule. Freetaxusa 2007   A special rule applies to sick pay payments made to employees by a third-party insurer under an insurance contract with a multi-employer plan established under a collectively bargained agreement. Freetaxusa 2007 If the third-party insurer making the payments complies wi
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The Freetaxusa 2007

Freetaxusa 2007 2. Freetaxusa 2007   American Opportunity Credit Table of Contents Introduction Can You Claim the CreditWho Can Claim the Credit Who Cannot Claim the Credit What Expenses QualifyQualified Education Expenses No Double Benefit Allowed Expenses That Do Not Qualify Who Is an Eligible StudentException. Freetaxusa 2007 Who Can Claim a Dependent's Expenses Figuring the CreditEffect of the Amount of Your Income on the Amount of Your Credit Refundable Part of Credit Claiming the Credit Introduction For 2013, there are two tax credits available to help you offset the costs of higher education by reducing the amount of your income tax. Freetaxusa 2007 They are the American opportunity credit (this chapter) and the lifetime learning credit ( chapter 3 ). Freetaxusa 2007 This chapter explains: Who can claim the American opportunity credit, What expenses qualify for the credit, Who is an eligible student, Who can claim a dependent's expenses, How to figure the credit, How to claim the credit, and When the credit must be repaid. Freetaxusa 2007 What is the tax benefit of the American opportunity credit. Freetaxusa 2007   For the tax year, you may be able to claim an American opportunity credit of up to $2,500 for qualified education expenses paid for each eligible student. Freetaxusa 2007   A tax credit reduces the amount of income tax you may have to pay. Freetaxusa 2007 Unlike a deduction, which reduces the amount of income subject to tax, a credit directly reduces the tax itself. Freetaxusa 2007 Forty percent of the American opportunity credit may be refundable. Freetaxusa 2007 This means that if the refundable portion of your credit is more than your tax, the excess will be refunded to you. Freetaxusa 2007   Your allowable American opportunity credit may be limited by the amount of your income. Freetaxusa 2007 Also, the nonrefundable part of the credit may be limited by the amount of your tax. Freetaxusa 2007 Overview of the American opportunity credit. Freetaxusa 2007   See Table 2-1, Overview of the American Opportunity Credit , for the basics of this credit. Freetaxusa 2007 The details are discussed in this chapter. Freetaxusa 2007 Can you claim more than one education credit this year. Freetaxusa 2007   For each student, you can elect for any year only one of the credits. Freetaxusa 2007 For example, if you elect to take the American opportunity credit for a child on your 2013 tax return, you cannot use that same child's qualified education expenses to figure the lifetime learning credit for 2013. Freetaxusa 2007   If you pay qualified education expenses for more than one student in the same year, you can choose to take the American opportunity credit on a per-student, per-year basis. Freetaxusa 2007 If you pay qualified education expenses for a student (or students) for whom you do not claim the American opportunity credit, you can use the adjusted qualified education expenses of that student (or those students) in figuring your lifetime learning credit. Freetaxusa 2007 This means that, for example, you can claim the American opportunity credit for one student and the lifetime learning credit for another student in the same year. Freetaxusa 2007 Differences between the American opportunity and lifetime learning credits. Freetaxusa 2007   There are several differences between these two credits. Freetaxusa 2007 For example, you can claim the American opportunity credit based on the same student's expenses for no more than 4 tax years, which includes any tax years you claimed the Hope Scholarship Credit for that student. Freetaxusa 2007 However, there is no limit on the number of years for which you can claim a lifetime learning credit based on the same student's expenses. Freetaxusa 2007 The differences between these credits are shown in Appendix B, Highlights of Education Tax Benefits for Tax Year 2013 near the end of this publication. Freetaxusa 2007 If you claim the American opportunity credit for any student, you can choose between using that student's adjusted qualified education expenses for the American opportunity credit or the lifetime learning credit. Freetaxusa 2007 If you have the choice, the American opportunity credit will always be greater than the lifetime learning credit. Freetaxusa 2007 Table 2-1. Freetaxusa 2007 Overview of the American Opportunity Credit Maximum credit Up to $2,500 credit per eligible student Limit on modified adjusted gross income (MAGI) $180,000 if married filing jointly; $90,000 if single, head of household, or qualifying widow(er) Refundable or nonrefundable 40% of credit may be refundable; the rest is nonrefundable Number of years of postsecondary education Available ONLY if the student had not completed the first 4 years of postsecondary education before 2013 Number of tax years credit available Available ONLY for 4 tax years per eligible student (including any year(s) Hope Scholarship Credit was claimed) Type of program required Student must be pursuing a program leading to a degree or other recognized education credential Number of courses Student must be enrolled at least half time for at least one academic period that begins during the tax year Felony drug conviction As of the end of 2013, the student had not been convicted of a felony for possessing or distributing a controlled substance Qualified expenses Tuition, required enrollment fees, and course materials that the student needs for a course of study whether or not the materials are bought at the educational institution as a condition of enrollment or attendance Payments for academic periods Payments made in 2013 for academic periods beginning in 2013 or beginning in the first 3 months of 2014 Can You Claim the Credit The following rules will help you determine if you are eligible to claim the American opportunity credit on your tax return. Freetaxusa 2007 Who Can Claim the Credit Generally, you can claim the American opportunity credit if all three of the following requirements are met. Freetaxusa 2007 You pay qualified education expenses of higher education. Freetaxusa 2007 You pay the education expenses for an eligible student. Freetaxusa 2007 The eligible student is either yourself, your spouse, or a dependent for whom you claim an exemption on your tax return. Freetaxusa 2007 Student qualifications. Freetaxusa 2007   Generally, you can take the American opportunity credit for a student only if all of the following four requirements are met. Freetaxusa 2007 As of the beginning of 2013, the student had not completed the first four years of postsecondary education (generally, the freshman through senior years of college), as determined by the eligible educational institution. Freetaxusa 2007 For this purpose, do not include academic credit awarded solely because of the student's performance on proficiency examinations. Freetaxusa 2007 Neither the American opportunity credit nor the Hope Scholarship Credit has been claimed (by you or anyone else) for this student for any four tax years before 2013. Freetaxusa 2007 If the American opportunity credit (and Hope Scholarship Credit) has been claimed for this student for any three or fewer tax years before 2013, this requirement is met. Freetaxusa 2007 For at least one academic period beginning (or treated as beginning) in 2013, the student both: Was enrolled in a program that leads to a degree, certificate, or other recognized educational credential; and Carried at least one-half the normal full-time workload for his or her course of study. Freetaxusa 2007 The standard for what is half of the normal full-time work load is determined by each eligible educational institution. Freetaxusa 2007 However, the standard may not be lower than any of those established by the U. Freetaxusa 2007 S. Freetaxusa 2007 Department of Education under the Higher Education Act of 1965. Freetaxusa 2007 For purposes of whether the student satisfies this third requirement for 2013, treat an academic period beginning in the first three months of 2014 as if it began in 2013 if qualified education expenses for the student were paid in 2013 for that academic period. Freetaxusa 2007 See Prepaid expenses, later. Freetaxusa 2007 As of the end of 2013, the student had not been convicted of a federal or state felony for possessing or distributing a controlled substance. Freetaxusa 2007 Example 1. Freetaxusa 2007 Sharon was eligible for the Hope Scholarship Credit for 2007 and 2008 and for the American opportunity credit for 2010 and 2012. Freetaxusa 2007 Her parents claimed the Hope Scholarship Credit for Sharon on their tax returns for 2007 and 2008 and claimed the American opportunity credit for Sharon on their 2010 tax return. Freetaxusa 2007 Sharon claimed the American opportunity credit on her 2012 tax return. Freetaxusa 2007 The American opportunity credit and Hope Scholarship Credit have been claimed for Sharon for four tax years before 2013. Freetaxusa 2007 Therefore, the American opportunity credit cannot be claimed by Sharon for 2013. Freetaxusa 2007 If Sharon were to file Form 8863 for 2013, she would check “Yes” for Part III, line 23, and would be eligible to claim only the lifetime learning credit. Freetaxusa 2007 Example 2. Freetaxusa 2007 Wilbert was eligible for the American opportunity credit for 2009, 2010, 2011, and 2013. Freetaxusa 2007 His parents claimed the American opportunity credit for Wilbert on their tax returns for 2009, 2010, and 2011. Freetaxusa 2007 No one claimed an American opportunity credit or Hope Scholarship Credit for Wilbert for any other tax year. Freetaxusa 2007 The American opportunity credit and Hope Scholarship Credit have been claimed for Wilbert for only three tax years before 2013. Freetaxusa 2007 Therefore, Wilbert meets the second requirement to be eligible for the American opportunity credit. Freetaxusa 2007 If Wilbert were to file Form 8863 for 2013, he would check “No” for Part III, line 23. Freetaxusa 2007 If Wilbert meets all of the other requirements, he is eligible for the American opportunity credit. Freetaxusa 2007 Example 3. Freetaxusa 2007 Glenda enrolls on a full-time basis in a degree program for the 2014 Spring semester, which begins in January 2014. Freetaxusa 2007 Glenda pays her tuition for the 2014 Spring semester in December 2013. Freetaxusa 2007 Because the tuition Glenda paid in 2013 relates to an academic period that begins in the first 3 months of 2014, her eligibility to claim an American opportunity credit in 2013 is determined as if the 2014 Spring semester began in 2013. Freetaxusa 2007 If the requirements above are not met for any student, you cannot take the American opportunity credit for that student. Freetaxusa 2007 You may be able to take the lifetime learning credit for part or all of that student's qualified education expenses instead. Freetaxusa 2007 Note. Freetaxusa 2007 Qualified education expenses paid by a dependent for whom you claim an exemption, or by a third party for that dependent, are considered paid by you. Freetaxusa 2007 “Qualified education expenses” are defined later under Qualified Education Expenses . Freetaxusa 2007 “Eligible students” are defined later under Who Is an Eligible Student . Freetaxusa 2007 A dependent for whom you claim an exemption is defined later under Who Can Claim a Dependent's Expenses . Freetaxusa 2007 You may find Figure 2-1, Can You Claim the American Opportunity Credit for 2013 , later, helpful in determining if you can claim an American opportunity credit on your tax return. Freetaxusa 2007 This image is too large to be displayed in the current screen. Freetaxusa 2007 Please click the link to view the image. Freetaxusa 2007 Figure 2-1 Can you claim the American opportunity credit for 2012? Who Cannot Claim the Credit You cannot claim the American opportunity credit for 2013 if any of the following apply. Freetaxusa 2007 Your filing status is married filing separately. Freetaxusa 2007 You are listed as a dependent on another person's tax return (such as your parents'). Freetaxusa 2007 See Who Can Claim a Dependent's Expenses , later. Freetaxusa 2007 Your modified adjusted gross income (MAGI) is $90,000 or more ($180,000 or more in the case of a joint return). Freetaxusa 2007 MAGI is explained later under Effect of the Amount of Your Income on the Amount of Your Credit . Freetaxusa 2007 You (or your spouse) were a nonresident alien for any part of 2013 and the nonresident alien did not elect to be treated as a resident alien for tax purposes. Freetaxusa 2007 More information on nonresident aliens can be found in Publication 519, U. Freetaxusa 2007 S. Freetaxusa 2007 Tax Guide for Aliens. Freetaxusa 2007 What Expenses Qualify The American opportunity credit is based on adjusted qualified education expenses you pay for yourself, your spouse, or a dependent for whom you claim an exemption on your tax return. Freetaxusa 2007 Generally, the credit is allowed for adjusted qualified education expenses paid in 2013 for an academic period beginning in 2013 or beginning in the first three months of 2014. Freetaxusa 2007 For example, if you paid $1,500 in December 2013 for qualified tuition for the spring 2014 semester beginning January 2014, you can use that $1,500 in figuring your 2013 credit. Freetaxusa 2007 Academic period. Freetaxusa 2007   An academic period includes a semester, trimester, quarter, or other period of study (such as a summer school session) as reasonably determined by an educational institution. Freetaxusa 2007 In the case of an educational institution that uses credit hours or clock hours and does not have academic terms, each payment period can be treated as an academic period. Freetaxusa 2007 Paid with borrowed funds. Freetaxusa 2007   You can claim an American opportunity credit for qualified education expenses paid with the proceeds of a loan. Freetaxusa 2007 Use the expenses to figure the American opportunity credit for the year in which the expenses are paid, not the year in which the loan is repaid. Freetaxusa 2007 Treat loan payments sent directly to the educational institution as paid on the date the institution credits the student's account. Freetaxusa 2007 Student withdraws from class(es). Freetaxusa 2007   You can claim an American opportunity credit for qualified education expenses not refunded when a student withdraws. Freetaxusa 2007 Qualified Education Expenses For purposes of the American opportunity credit, qualified education expenses are tuition and certain related expenses required for enrollment or attendance at an eligible educational institution. Freetaxusa 2007 Eligible educational institution. Freetaxusa 2007   An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to participate in a student aid program administered by the U. Freetaxusa 2007 S. Freetaxusa 2007 Department of Education. Freetaxusa 2007 It includes virtually all accredited public, nonprofit, and proprietary (privately owned profit-making) postsecondary institutions. Freetaxusa 2007 The educational institution should be able to tell you if it is an eligible educational institution. Freetaxusa 2007   Certain educational institutions located outside the United States also participate in the U. Freetaxusa 2007 S. Freetaxusa 2007 Department of Education's Federal Student Aid (FSA) programs. Freetaxusa 2007 Related expenses. Freetaxusa 2007   Student-activity fees are included in qualified education expenses only if the fees must be paid to the institution as a condition of enrollment or attendance. Freetaxusa 2007   However, expenses for books, supplies, and equipment needed for a course of study are included in qualified education expenses whether or not the materials are purchased from the educational institution. Freetaxusa 2007 Prepaid expenses. Freetaxusa 2007   Qualified education expenses paid in 2013 for an academic period that begins in the first three months of 2014 can be used in figuring an education credit for 2013 only. Freetaxusa 2007 See Academic period, earlier. Freetaxusa 2007 For example, if you pay $2,000 in December 2013, for qualified tuition for the 2014 winter quarter that begins in January 2014, you can use that $2,000 in figuring an education credit for 2013 only (if you meet all the other requirements). Freetaxusa 2007    You cannot use any amount you paid in 2012 or 2014 to figure the qualified education expenses you use to figure your 2013 education credit(s). Freetaxusa 2007   In the following examples, assume that each student is an eligible student at an eligible educational institution. Freetaxusa 2007 Example 1. Freetaxusa 2007 Jefferson is a sophomore in University V's degree program in dentistry. Freetaxusa 2007 This year, in addition to tuition, he is required to pay a fee to the university for the rental of the dental equipment he will use in this program. Freetaxusa 2007 Because the equipment rental is needed for his course of study, Jefferson's equipment rental fee is a qualified expense. Freetaxusa 2007 Example 2. Freetaxusa 2007 Grace and William, both first-year students at College W, are required to have certain books and other reading materials to use in their mandatory first-year classes. Freetaxusa 2007 The college has no policy about how students should obtain these materials, but any student who purchases them from College W's bookstore will receive a bill directly from the college. Freetaxusa 2007 William bought his books from a friend; Grace bought hers at College W's bookstore. Freetaxusa 2007 Both are qualified education expenses for the American opportunity credit. Freetaxusa 2007 Example 3. Freetaxusa 2007 When Kelly enrolled at College X for her freshman year, she had to pay a separate student activity fee in addition to her tuition. Freetaxusa 2007 This activity fee is required of all students, and is used solely to fund on-campus organizations and activities run by students, such as the student newspaper and the student government. Freetaxusa 2007 No portion of the fee covers personal expenses. Freetaxusa 2007 Although labeled as a student activity fee, the fee is required for Kelly's enrollment and attendance at College X and is a qualified expense. Freetaxusa 2007 No Double Benefit Allowed You cannot do any of the following. Freetaxusa 2007 Deduct higher education expenses on your income tax return (as, for example, a business expense) and also claim an American opportunity credit based on those same expenses. Freetaxusa 2007 Claim an American opportunity credit in the same year that you are claiming a tuition and fees deduction for the same student. Freetaxusa 2007 Claim an American opportunity credit for any student and use any of that student's expenses in figuring your lifetime learning credit. Freetaxusa 2007 Figure the tax-free portion of a distribution from a Coverdell education savings account (ESA) or qualified tuition program (QTP) using the same expenses you used to figure the American opportunity credit. Freetaxusa 2007 See Coordination With American Opportunity and Lifetime Learning Credits in chapter 7, Coverdell Education Savings Account, and Coordination With American Opportunity and Lifetime Learning Credits in chapter 8, Qualified Tuition Program. Freetaxusa 2007 Claim a credit based on qualified education expenses paid with tax-free educational assistance, such as a scholarship, grant, or assistance provided by an employer. Freetaxusa 2007 See Adjustments to Qualified Education Expenses, next. Freetaxusa 2007 Adjustments to Qualified Education Expenses For each student, reduce the qualified education expenses paid by or on behalf of that student under the following rules. Freetaxusa 2007 The result is the amount of adjusted qualified education expenses for each student. Freetaxusa 2007 Tax-free educational assistance. Freetaxusa 2007   For tax-free educational assistance received in 2013, reduce the qualified educational expenses for each academic period by the amount of tax-free educational assistance allocable to that academic period. Freetaxusa 2007 See Academic period, earlier. Freetaxusa 2007   Some tax-free educational assistance received after 2013 may be treated as a refund of qualified education expenses paid in 2013. Freetaxusa 2007 This tax-free educational assistance is any tax-free educational assistance received by you or anyone else after 2013 for qualified education expenses paid on behalf of a student in 2013 (or attributable to enrollment at an eligible educational institution during 2013). Freetaxusa 2007   If this tax-free educational assistance is received after 2013 but before you file your 2013 income tax return, see Refunds received after 2013 but before your income tax return is filed, later. Freetaxusa 2007 If this tax-free educational assistance is received after 2013 and after you file your 2013 income tax return, see Refunds received after 2013 and after your income tax return is filed, later. Freetaxusa 2007   Tax-free educational assistance includes: The tax-free parts of scholarships and fellowships (see Tax-Free Scholarships and Fellowships in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions), Pell grants (see Pell Grants and Other Title IV Need-Based Education Grants in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions). Freetaxusa 2007 Employer-provided educational assistance (see chapter 11, Employer-Provided Educational Assistance ), Veterans' educational assistance (see Veterans' Benefits in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions), and Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance. Freetaxusa 2007 Generally, any scholarship or fellowship is treated as tax free. Freetaxusa 2007 However, a scholarship or fellowship is not treated as tax free to the extent the student includes it in gross income (if the student is required to file a tax return for the year the scholarship or fellowship is received) and either of the following is true. Freetaxusa 2007 The scholarship or fellowship (or any part of it) must be applied (by its terms) to expenses (such as room and board) other than qualified education expenses as defined in Qualified education expenses in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions. Freetaxusa 2007 The scholarship or fellowship (or any part of it) may be applied (by its terms) to expenses (such as room and board) other than qualified education expenses as defined in Qualified education expenses in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions. Freetaxusa 2007 You may be able to increase the combined value of an education credit and certain educational assistance if the student includes some or all of the educational assistance in income in the year it is received. Freetaxusa 2007 For examples, see Coordination with Pell grants and other scholarships, later. Freetaxusa 2007 Refunds. Freetaxusa 2007   A refund of qualified education expenses may reduce adjusted qualified education expenses for the tax year or require repayment (recapture) of a credit claimed in an earlier year. Freetaxusa 2007 Some tax-free educational assistance received after 2013 may be treated as a refund. Freetaxusa 2007 See Tax-free educational assistance, earlier. Freetaxusa 2007 Refunds received in 2013. Freetaxusa 2007   For each student, figure the adjusted qualified education expenses for 2013 by adding all the qualified education expenses for 2013 and subtracting any refunds of those expenses received from the eligible educational institution during 2013. Freetaxusa 2007 Refunds received after 2013 but before your income tax return is filed. Freetaxusa 2007   If anyone receives a refund after 2013 of qualified education expenses paid on behalf of a student in 2013 and the refund is paid before you file an income tax return for 2013, the amount of qualified education expenses for 2013 is reduced by the amount of the refund. Freetaxusa 2007 Refunds received after 2013 and after your income tax return is filed. Freetaxusa 2007   If anyone receives a refund after 2013 of qualified education expenses paid on behalf of a student in 2013 and the refund is paid after you file an income tax return for 2013, you may need to repay some or all of the credit. Freetaxusa 2007 See Credit recapture, next. Freetaxusa 2007 Credit recapture. Freetaxusa 2007    If any tax-free educational assistance for the qualified education expenses paid in 2013, or any refund of your qualified education expenses paid in 2013, is received after you file your 2013 income tax return, you must recapture (repay) any excess credit. Freetaxusa 2007 You do this by refiguring the amount of your adjusted qualified education expenses for 2013 by reducing the expenses by the amount of the refund or tax-free educational assistance. Freetaxusa 2007 You then refigure your education credit(s) for 2013 and figure the amount by which your 2013 tax liability would have increased if you claimed the refigured credit(s). Freetaxusa 2007 Include that amount as an additional tax for the year the refund or tax-free assistance was received. Freetaxusa 2007 Example. Freetaxusa 2007   You paid $7,000 tuition and fees in August 2013, and your child began college in September 2013. Freetaxusa 2007 You filed your 2013 tax return on February 17, 2014, and claimed an American opportunity credit of $2,500. Freetaxusa 2007 After you filed your return, you received a refund of $4,000. Freetaxusa 2007 You must refigure your 2013 American opportunity credit using $3,000 of qualified education expenses instead of $7,000. Freetaxusa 2007 The refigured credit is $2,250. Freetaxusa 2007 The increase to your tax liability is also $250. Freetaxusa 2007 Include the difference of $250 as additional tax on your 2014 tax return. Freetaxusa 2007 See the instructions for your 2014 income tax return to determine where to include this tax. Freetaxusa 2007 If you pay qualified education expenses in 2014 for an academic period that begins in the first 3 months of 2014 and you receive tax-free educational assistance, or a refund, as described above, you may choose to reduce your qualified education expenses for 2014 instead of reducing your expenses for 2013. Freetaxusa 2007 Amounts that do not reduce qualified education expenses. Freetaxusa 2007   Do not reduce qualified education expenses by amounts paid with funds the student receives as: Payment for services, such as wages, A loan, A gift, An inheritance, or A withdrawal from the student's personal savings. Freetaxusa 2007   Do not reduce the qualified education expenses by any scholarship or fellowship reported as income on the student's tax return in the following situations. Freetaxusa 2007 The use of the money is restricted, by the terms of the scholarship or fellowship, to costs of attendance (such as room and board) other than qualified education expenses as defined in Qualified education expenses in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions. Freetaxusa 2007 The use of the money is not restricted. Freetaxusa 2007 Example 1. Freetaxusa 2007 Joan paid $3,000 for tuition and $5,000 for room and board at University X. Freetaxusa 2007 The university did not require her to pay any fees in addition to her tuition in order to enroll in or attend classes. Freetaxusa 2007 To help pay these costs, she was awarded a $2,000 scholarship and a $4,000 student loan. Freetaxusa 2007 The terms of the scholarship state that it can be used to pay any of Joan's college expenses. Freetaxusa 2007 University X applies the $2,000 scholarship against Joan's $8,000 total bill, and Joan pays the $6,000 balance of her bill from University X with a combination of her student loan and her savings. Freetaxusa 2007 Joan does not report any portion of the scholarship as income on her tax return. Freetaxusa 2007 In figuring the amount of either education credit (American opportunity or lifetime learning), Joan must reduce her qualified education expenses by the amount of the scholarship ($2,000) because she excluded the entire scholarship from her income. Freetaxusa 2007 The student loan is not tax-free educational assistance, so she does not need to reduce her qualified expenses by any part of the loan proceeds. Freetaxusa 2007 Joan is treated as having paid $1,000 in qualified education expenses ($3,000 tuition – $2,000 scholarship). Freetaxusa 2007 Example 2. Freetaxusa 2007 The facts are the same as in Example 1, except that Joan reports her entire scholarship as income on her tax return. Freetaxusa 2007 Because Joan reported the entire $2,000 scholarship in her income, she does not need to reduce her qualified education expenses. Freetaxusa 2007 Joan is treated as having paid $3,000 in qualified education expenses. Freetaxusa 2007 Coordination with Pell grants and other scholarships. Freetaxusa 2007   In some cases, you may be able to reduce your tax liability by including scholarships in income. Freetaxusa 2007 If you are claiming an education credit for a claimed dependent who received a scholarship, you may be able to reduce your tax liability if the student includes the scholarship in income. Freetaxusa 2007 The scholarship must be one that may (by its terms) be applied to expenses (such as room and board) other than qualified education expenses. Freetaxusa 2007 Example 1—No scholarship. Freetaxusa 2007 Bill Pass, age 28 and unmarried, enrolled full-time in 2013 as a first-year student at a local college to earn a degree in law enforcement. Freetaxusa 2007 This was his first year of postsecondary education. Freetaxusa 2007 During 2013, he paid $5,600 for his qualified education expenses and $4,400 for his room and board for the fall 2013 semester. Freetaxusa 2007 He and the college meet all the requirements for the American opportunity credit. Freetaxusa 2007 Bill's AGI and his MAGI, for purposes of figuring his credit, are $30,000. Freetaxusa 2007 Bill takes the standard deduction of $5,950 and personal exemption of $3,800, reducing his AGI to taxable income of $20,250. Freetaxusa 2007 His income tax liability, before credits, is $2,599 and Bill claims no credits other than the American opportunity credit. Freetaxusa 2007 He figures his American opportunity credit based on qualified education expenses of $4,000, which results in a credit of $2,500 and tax after credits of $99. Freetaxusa 2007 Example 2—Scholarship excluded from income. Freetaxusa 2007 The facts are the same as in Example 1—No scholarship, except that Bill was awarded a $5,600 scholarship. Freetaxusa 2007 Under the terms of his scholarship, it may be used to pay any educational expenses, including room and board. Freetaxusa 2007 If Bill excludes the scholarship from income, he will be deemed (for purposes of computing his education credit) to have used the scholarship to pay for tuition, required fees, and course materials. Freetaxusa 2007 His adjusted qualified education expenses will be zero and he will not have an education credit. Freetaxusa 2007 Therefore, Bill's tax after credits would be $2,599. Freetaxusa 2007 Example 3—Scholarship partially included in income. Freetaxusa 2007 The facts are the same as in Example 2—Scholarship excluded from income. Freetaxusa 2007 If, unlike Example 2, Bill includes $4,000 of the scholarship in income, he will be deemed to have used that amount to pay for room and board. Freetaxusa 2007 The remaining $1,600 of the $5,600 scholarship will reduce his qualified education expenses and his adjusted qualified education expenses will be $4,000. Freetaxusa 2007 Bill's AGI will increase to $34,000, his taxable income will increase to $24,250, and his tax before credits will increase to $3,199. Freetaxusa 2007 Based on his adjusted qualified education expenses of $4,000, Bill would be able to claim an American opportunity tax credit of $2,500 and his tax after credits would be $699. Freetaxusa 2007 Expenses That Do Not Qualify Qualified education expenses do not include amounts paid for: Insurance, Medical expenses (including student health fees), Room and board, Transportation, or Similar personal, living, or family expenses. Freetaxusa 2007 This is true even if the amount must be paid to the institution as a condition of enrollment or attendance. Freetaxusa 2007 Sports, games, hobbies, and noncredit courses. Freetaxusa 2007   Qualified education expenses generally do not include expenses that relate to any course of instruction or other education that involves sports, games or hobbies, or any noncredit course. Freetaxusa 2007 However, if the course of instruction or other education is part of the student's degree program, these expenses can qualify. Freetaxusa 2007 Comprehensive or bundled fees. Freetaxusa 2007   Some eligible educational institutions combine all of their fees for an academic period into one amount. Freetaxusa 2007 If you do not receive or do not have access to an allocation showing how much you paid for qualified education expenses and how much you paid for personal expenses, such as those listed earlier, contact the institution. Freetaxusa 2007 The institution is required to make this allocation and provide you with the amount you paid (or were billed) for qualified education expenses on Form 1098-T, Tuition Statement. Freetaxusa 2007 See Figuring the Credit , later, for more information about Form 1098-T. Freetaxusa 2007 Who Is an Eligible Student To claim the American opportunity credit, the student for whom you pay qualified education expenses must be an eligible student. Freetaxusa 2007 This is a student who meets all of the following requirements. Freetaxusa 2007 The student did not have expenses that were used to figure an American opportunity credit in any 4 earlier tax years. Freetaxusa 2007 This includes any tax year(s) in which you claimed the Hope Scholarship Credit for the same student. Freetaxusa 2007 The student had not completed the first 4 years of postsecondary education (generally, the freshman, sophomore, junior, and senior years of college) before 2013. Freetaxusa 2007 For at least one academic period beginning in 2013, the student was enrolled at least half-time in a program leading to a degree, certificate, or other recognized educational credential. Freetaxusa 2007 The student has not been convicted of any federal or state felony for possessing or distributing a controlled substance as of the end of 2013. Freetaxusa 2007 These requirements are also shown in Figure 2-2, Who is an Eligible Student for the American Opportunity Credit , later. Freetaxusa 2007 Completion of first 4 years. Freetaxusa 2007   A student has completed the first 4 years of postsecondary education if the institution at which the student is enrolled awards the student 4 years of academic credit at that institution for coursework completed by the student before 2013. Freetaxusa 2007 This student generally would not be an eligible student for purposes of the American opportunity credit. Freetaxusa 2007 Exception. Freetaxusa 2007   Any academic credit awarded solely on the basis of the student's performance on proficiency examinations is disregarded in determining whether the student has completed 4 years of postsecondary education. Freetaxusa 2007 Enrolled at least half-time. Freetaxusa 2007   A student was enrolled at least half-time if the student was taking at least half the normal full-time work load for his or her course of study. Freetaxusa 2007   The standard for what is half of the normal full-time work load is determined by each eligible educational institution. Freetaxusa 2007 However, the standard may not be lower than any of those established by the U. Freetaxusa 2007 S. Freetaxusa 2007 Department of Education under the Higher Education Act of 1965. Freetaxusa 2007 Please click here for the text description of the image. Freetaxusa 2007 Figure 2-2 Example 1. Freetaxusa 2007 Mack graduated from high school in June 2012. Freetaxusa 2007 In September, he enrolled in an undergraduate degree program at College U, and attended full-time for both the 2012 fall and 2013 spring semesters. Freetaxusa 2007 For the 2013 fall semester, Mack was enrolled less than half-time. Freetaxusa 2007 Because Mack was enrolled in an undergraduate degree program on at least a half-time basis for at least one academic period that began during 2012 and at least one academic period that began during 2013, he is an eligible student for tax years 2012 and 2013 (including the 2013 fall semester when he enrolled at College U on less than a half-time basis). Freetaxusa 2007 Example 2. Freetaxusa 2007 After taking classes at College V on a part-time basis for a few years, Shelly became a full-time student for the 2013 spring semester. Freetaxusa 2007 College V classified Shelly as a second-semester senior (fourth year) for the 2013 spring semester and as a first-semester graduate student (fifth year) for the 2013 fall semester. Freetaxusa 2007 Because College V did not classify Shelly as having completed the first 4 years of postsecondary education as of the beginning of 2013, Shelly is an eligible student for tax year 2013. Freetaxusa 2007 Therefore, the qualified education expenses paid for the 2013 spring semester and the 2013 fall semester are taken into account in calculating the American opportunity credit for 2013. Freetaxusa 2007 Example 3. Freetaxusa 2007 During the 2012 fall semester, Larry was a high school student who took classes on a half-time basis at College X. Freetaxusa 2007 Larry was not enrolled as part of a degree program at College X because College X only admits students to a degree program if they have a high school diploma or equivalent. Freetaxusa 2007 Because Larry was not enrolled in a degree program at College X during 2012, Larry was not an eligible student for tax year 2012. Freetaxusa 2007 Example 4. Freetaxusa 2007 The facts are the same as in Example 3. Freetaxusa 2007 During the 2013 spring semester, Larry again attended College X but not as part of a degree program. Freetaxusa 2007 Larry graduated from high school in June 2013. Freetaxusa 2007 For the 2013 fall semester, Larry enrolled as a full-time student in College X as part of a degree program, and College X awarded Larry credit for his prior coursework at College X. Freetaxusa 2007 Because Larry was enrolled in a degree program at College X for the 2013 fall term on at least a half-time basis, Larry is an eligible student for all of tax year 2013. Freetaxusa 2007 Therefore, the qualified education expenses paid for classes taken at College X during both the 2013 spring semester (during which Larry was not enrolled in a degree program) and the 2013 fall semester are taken into account in computing any American opportunity credit. Freetaxusa 2007 Example 5. Freetaxusa 2007 Dee graduated from high school in June 2012. Freetaxusa 2007 In January 2013, Dee enrolled in a 1-year postsecondary certificate program on a full-time basis to obtain a certificate as a travel agent. Freetaxusa 2007 Dee completed the program in December 2013, and was awarded a certificate. Freetaxusa 2007 In January 2014, she enrolled in a 1-year postsecondary certificate program on a full-time basis to obtain a certificate as a computer programmer. Freetaxusa 2007 Dee is an eligible student for both tax years 2013 and 2014 because she meets the degree requirement, the work load requirement, and the year of study requirement for those years. Freetaxusa 2007 Who Can Claim a Dependent's Expenses If there are qualified education expenses for your dependent during a tax year, either you or your dependent, but not both of you, can claim an American opportunity credit for your dependent's expenses for that year. Freetaxusa 2007 For you to claim an American opportunity credit for your dependent's expenses, you must also claim an exemption for your dependent. Freetaxusa 2007 You do this by listing your dependent's name and other required information on Form 1040 (or Form 1040A), line 6c. Freetaxusa 2007 IF you. Freetaxusa 2007 . Freetaxusa 2007 . Freetaxusa 2007 THEN only. Freetaxusa 2007 . Freetaxusa 2007 . Freetaxusa 2007 claim an exemption on  your tax return for a  dependent who is an  eligible student you can claim the American opportunity credit based on that dependent's expenses. Freetaxusa 2007 The dependent cannot claim the credit. Freetaxusa 2007 do not claim an exemption on your tax return for a dependent who is an eligible student (even if entitled to the exemption) the dependent can claim the American opportunity credit. Freetaxusa 2007 You cannot claim the credit based on this dependent's expenses. Freetaxusa 2007 Expenses paid by dependent. Freetaxusa 2007   If you claim an exemption on your tax return for an eligible student who is your dependent, treat any expenses paid (or deemed paid) by your dependent as if you had paid them. Freetaxusa 2007 Include these expenses when figuring the amount of your American opportunity credit. Freetaxusa 2007    Qualified education expenses paid directly to an eligible educational institution for your dependent under a court-approved divorce decree are treated as paid by your dependent. Freetaxusa 2007 Expenses paid by you. Freetaxusa 2007   If you claim an exemption for a dependent who is an eligible student, only you can include any expenses you paid when figuring the amount of the American opportunity credit. Freetaxusa 2007 If neither you nor anyone else claims an exemption for the dependent, only the dependent can include any expenses you paid when figuring the American opportunity credit. Freetaxusa 2007 Expenses paid by others. Freetaxusa 2007   Someone other than you, your spouse, or your dependent (such as a relative or former spouse) may make a payment directly to an eligible educational institution to pay for an eligible student's qualified education expenses. Freetaxusa 2007 In this case, the student is treated as receiving the payment from the other person and, in turn, paying the institution. Freetaxusa 2007 If you claim an exemption on your tax return for the student, you are considered to have paid the expenses. Freetaxusa 2007 Example. Freetaxusa 2007 In 2013, Ms. Freetaxusa 2007 Allen makes a payment directly to an eligible educational institution for her grandson Todd's qualified education expenses. Freetaxusa 2007 For purposes of claiming an American opportunity credit, Todd is treated as receiving the money from his grandmother and, in turn, paying his qualified education expenses himself. Freetaxusa 2007 Unless an exemption for Todd is claimed on someone else's 2013 tax return, only Todd can use the payment to claim an American opportunity credit. Freetaxusa 2007 If anyone, such as Todd's parents, claims an exemption for Todd on his or her 2013 tax return, whoever claims the exemption may be able to use the expenses to claim an American opportunity credit. Freetaxusa 2007 If anyone else claims an exemption for Todd, Todd cannot claim an American opportunity credit. Freetaxusa 2007 Tuition reduction. Freetaxusa 2007    When an eligible educational institution provides a reduction in tuition to an employee of the institution (or spouse or dependent child of an employee), the amount of the reduction may or may not be taxable. Freetaxusa 2007 If it is taxable, the employee is treated as receiving a payment of that amount and, in turn, paying it to the educational institution on behalf of the student. Freetaxusa 2007 For more information on tuition reductions, see Qualified Tuition Reduction in chapter 1, Scholarships, Fellowships, Grants, and Tuition Reductions. Freetaxusa 2007 Figuring the Credit The amount of the American opportunity credit (per eligible student) is the sum of: 100% of the first $2,000 of qualified education expenses you paid for the eligible student, and 25% of the next $2,000 of qualified education expenses you paid for that student. Freetaxusa 2007 The maximum amount of American opportunity credit you can claim in 2013 is $2,500 multiplied by the number of eligible students. Freetaxusa 2007 You can claim the full $2,500 for each eligible student for whom you paid at least $4,000 of adjusted qualified education expenses. Freetaxusa 2007 However, the credit may be reduced based on your MAGI. Freetaxusa 2007 See Effect of the Amount of Your Income on the Amount of Your Credit , later. Freetaxusa 2007 Example. Freetaxusa 2007 Jack and Kay Ford are married and file a joint tax return. Freetaxusa 2007 For 2013, they claim an exemption for their dependent daughter on their tax return. Freetaxusa 2007 Their MAGI is $70,000. Freetaxusa 2007 Their daughter is in her junior (third) year of studies at the local university. Freetaxusa 2007 Jack and Kay paid qualified education expenses of $4,300 in 2013. Freetaxusa 2007 Jack and Kay, their daughter, and the local university meet all of the requirements for the American opportunity credit. Freetaxusa 2007 Jack and Kay can claim a $2,500 American opportunity credit in 2013. Freetaxusa 2007 This is 100% of the first $2,000 of qualified education expenses, plus 25% of the next $2,000. Freetaxusa 2007 Form 1098-T. Freetaxusa 2007   To help you figure your American opportunity credit, the student should receive Form 1098-T, Tuition Statement. Freetaxusa 2007 Generally, an eligible educational institution (such as a college or university) must send Form 1098-T (or acceptable substitute) to each enrolled student by January 31, 2014. Freetaxusa 2007 An institution may choose to report either payments received (box 1), or amounts billed (box 2), for qualified education expenses. Freetaxusa 2007 However, the amounts in boxes 1 and 2 of Form 1098-T might be different than what you paid. Freetaxusa 2007 When figuring the credit, use only the amounts you paid or are deemed to have paid in 2013 for qualified education expenses. Freetaxusa 2007   In addition, Form 1098-T should give other information for that institution, such as adjustments made for prior years, the amount of scholarships or grants, reimbursements or refunds, and whether the student was enrolled at least half-time or was a graduate student. Freetaxusa 2007    The eligible educational institution may ask for a completed Form W-9S, Request for Student's or Borrower's Taxpayer Identification Number and Certification, or similar statement to obtain the student's name, address, and taxpayer identification number. Freetaxusa 2007 Effect of the Amount of Your Income on the Amount of Your Credit The amount of your American opportunity credit is phased out (gradually reduced) if your MAGI is between $80,000 and $90,000 ($160,000 and $180,000 if you file a joint return). Freetaxusa 2007 You cannot claim an American opportunity credit if your MAGI is $90,000 or more ($180,000 or more if you file a joint return). Freetaxusa 2007 Modified adjusted gross income (MAGI). Freetaxusa 2007   For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return. Freetaxusa 2007 MAGI when using Form 1040A. Freetaxusa 2007   If you file Form 1040A, your MAGI is the AGI on line 22 of that form. Freetaxusa 2007 MAGI when using Form 1040. Freetaxusa 2007   If you file Form 1040, your MAGI is the AGI on line 38 of that form, modified by adding back any: Foreign earned income exclusion, Foreign housing exclusion, Foreign housing deduction, Exclusion of income by bona fide residents of American Samoa, and Exclusion of income by bona fide residents of Puerto Rico. Freetaxusa 2007 You can use Worksheet 2-1, next, to figure your MAGI. Freetaxusa 2007    Worksheet 2-1. Freetaxusa 2007 MAGI for the American Opportunity Credit 1. Freetaxusa 2007 Enter your adjusted gross income  (Form 1040, line 38)   1. Freetaxusa 2007   2. Freetaxusa 2007 Enter your foreign earned income exclusion and/or housing exclusion (Form 2555, line 45, or Form 2555-EZ, line 18)   2. Freetaxusa 2007       3. Freetaxusa 2007 Enter your foreign housing deduction (Form 2555, line 50)   3. Freetaxusa 2007       4. Freetaxusa 2007 Enter the amount of income from Puerto Rico you are excluding   4. Freetaxusa 2007       5. Freetaxusa 2007 Enter the amount of income from American Samoa you are excluding (Form 4563, line 15)   5. Freetaxusa 2007       6. Freetaxusa 2007 Add the amounts on lines 2, 3, 4, and 5   6. Freetaxusa 2007   7. Freetaxusa 2007 Add the amounts on lines 1 and 6. Freetaxusa 2007  This is your modified adjusted  gross income. Freetaxusa 2007 Enter here and  on Form 8863, line 3   7. Freetaxusa 2007   Phaseout. Freetaxusa 2007   If your MAGI is within the range of incomes where the credit must be reduced, you will figure your reduced credit using lines 2-7, of Form 8863, Part I. Freetaxusa 2007 The same method is shown in the following example. Freetaxusa 2007 Example. Freetaxusa 2007 You are filing a joint return and your MAGI is $165,000. Freetaxusa 2007 In 2013, you paid $5,000 of qualified education expenses. Freetaxusa 2007 You figure a tentative American opportunity credit of $2,500 (100% of the first $2,000 of qualified education expenses, plus 25% of the next $2,000 of qualified education expenses). Freetaxusa 2007 Because your MAGI is within the range of incomes where the credit must be reduced, you must multiply your tentative credit ($2,500) by a fraction. Freetaxusa 2007 The numerator of the fraction is $180,000 (the upper limit for those filing a joint return) minus your MAGI. Freetaxusa 2007 The denominator is $20,000, the range of incomes for the phaseout ($160,000 to $180,000). Freetaxusa 2007 The result is the amount of your phased out (reduced) American opportunity credit ($1,875). Freetaxusa 2007      $2,500 × $180,000 − $165,000  $20,000 = $1,875   Refundable Part of Credit Forty percent of the American opportunity credit is refundable for most taxpayers. Freetaxusa 2007 However, if you were under age 24 at the end of 2013 and the conditions listed below apply to you, you cannot claim any part of the American opportunity credit as a refundable credit on your tax return. Freetaxusa 2007 Instead, your allowed credit (figured on Form 8863, Part II) will be used to reduce your tax as a nonrefundable credit only. Freetaxusa 2007 You do not qualify for a refund if items 1 (a, b, or c), 2, and 3 below apply to you. Freetaxusa 2007 You were: Under age 18 at the end of 2013, or Age 18 at the end of 2013 and your earned income (defined below) was less than one-half of your support (defined below), or Over age 18 and under age 24 at the end of 2013 and a full-time student (defined below) and your earned income (defined below) was less than one-half of your support (defined below). Freetaxusa 2007 At least one of your parents was alive at the end of 2013. Freetaxusa 2007 You are filing a return as single, head of household, qualifying widow(er), or married filing separately for 2013. Freetaxusa 2007 Earned income. Freetaxusa 2007   Earned income includes wages, salaries, professional fees, and other payments received for personal services actually performed. Freetaxusa 2007 Earned income includes the part of any scholarship or fellowship that represents payment for teaching, research, or other services performed by the student that are required as a condition for receiving the scholarship or fellowship. Freetaxusa 2007 Earned income does not include that part of the compensation for personal services rendered to a corporation which represents a distribution of earnings or profits rather than a reasonable allowance as compensation for the personal services actually rendered. Freetaxusa 2007   If you are a sole proprietor or a partner in a trade or business in which both personal services and capital are material income-producing factors, earned income also includes a reasonable allowance for compensation for personal services, but not more than 30% of your share of the net profits from that trade or business (after subtracting the deduction for one-half of self-employment tax). Freetaxusa 2007 However, if capital is not an income-producing factor and your personal services produced the business income, the 30% limit does not apply. Freetaxusa 2007 Support. Freetaxusa 2007   Your support includes food, shelter, clothing, medical and dental care, education, and the like. Freetaxusa 2007 Generally, the amount of the item of support will be the amount of expenses incurred by the one furnishing such item. Freetaxusa 2007 If the item of support is in the form of property or lodging, measure the amount of such item of support by its fair market value. Freetaxusa 2007 However, a scholarship received by you is not considered support if you are a full-time student. Freetaxusa 2007 See Publication 501 for details. Freetaxusa 2007 Full-time student. Freetaxusa 2007   You are a full-time student for 2013 if during any part of any 5 calendar months during the year you were enrolled as a full-time student at an eligible educational institution (defined earlier), or took a full-time, on-farm training course given by such an institution or by a state, county, or local government agency. Freetaxusa 2007 Claiming the Credit You claim the American opportunity credit by completing Form 8863 and submitting it with your Form 1040 or 1040A. Freetaxusa 2007 Enter the nonrefundable part of the credit on Form 1040, line 49, or on Form 1040A, line 31. Freetaxusa 2007 Enter the refundable part of the credit on Form 1040, line 66, or on Form 1040A, line 40. Freetaxusa 2007 A filled-in Form 8863 is shown at the end of this publication. Freetaxusa 2007 Note. Freetaxusa 2007 In Appendix A. Freetaxusa 2007 at the end of this publication, there is an example illustrating the use of Form 8863 when both the American opportunity credit and the lifetime learning credit are claimed on the same tax return. Freetaxusa 2007 Prev  Up  Next   Home   More Online Publications