Self-Employment Income Taxes: The Basics

It’s time to file taxes: everyone’s favorite time of year! Taxes are collected by the government each year in order to pay for public services and goods. You may have heard of the Internal Revenue Service, also known as the IRS, which is the nation’s tax collection agency. For many individuals, their taxes are paid through withholding, meaning that the money is taken out of each paycheck. For other individuals, specifically the self-employed, this is not the case.

You are considered self-employed if you meet any of these requirements. If so,  it will be necessary for you to file self-employment income taxes.

·        You own or operate a trade or business as an independent contractor or sole proprietor

·        You are a partner or member in a partnership that runs a business or trade

·        You are in business for yourself (this includes part-time business)

·        You file a business tax return through Schedule K-1

Self-employed individuals are required to pay an income tax as well as a Social Security and Medicare tax. The Social Security and Medicare taxes are similar to those withheld from the paycheck of normal wage earners. You might be asking: exactly what is the self-employment tax rate? It is currently 15.3% on net earnings, but a limit is set as to how much can be paid into the Social Security portion each year.

To know if you have to pay self-employment tax and income tax, you have to calculate your net earnings and net loss. This step is simple: subtract your business expenses from your business income. If your answer is positive, congrats, you made a profit. If your answer is negative, you lost money. If your overall earnings were over $400, you are required to submit an income tax return form. Even if your net earnings were less than $400, you have to submit the form if you meet any of the requirements in the Form 1040 instructions.

The IRS will require you to submit quarterly estimated taxes if you plan to owe more than $1,000 in taxes when you file the return. These taxes are submitted April 15, July 15, September 15, and January 15, or each quarter. If you do not file these taxes, the IRS can fine or penalize you for underpayment. To submit these taxes, you will fill out Form 1040-ES, which will assist you in figuring out if you have to pay estimated taxes and also calculating the amount you owe for estimated taxes. You will need your annual tax return from the previous year to fill out Form 1040-ES. Though the IRS does not require this form to be turned in, it is recommended that you keep it on record. Form 1040-ES contains vouchers that can be completed when you send in your quarterly payments or you can submit the payments online using the Electronic Federal Tax Payment System (EFTPS).

The type of business that you own will also play a factor in determining which form you need to complete. Sole proprietorship, partnership, corporation, and S corporation are the most common forms of businesses. A Limited Liability Company is also a business structure that has recently been allowed. Each type of business requires its own specific forms to be submitted, so be sure that you are aware of this.

These are only the basics of filing for self-employment income taxes. If you are new to self-employment, it may be helpful to meet with a professional to find out more information on paying taxes. A professional will also make sure you are completing the correct forms and filing at the necessary times. Veitengruber Law can direct you to a trustworthy and experienced tax professional – we’re happy to connect you! Don’t let the details scare you away, being self-employed can be a great opportunity to explore a passion and make a difference in the community around you.

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How (and when) to Appeal Your NJ Property Tax

Each year, homeowners in New Jersey are required to pay property taxes, but when the time comes for you to make that payment, you may be in for a shock. If you have an understanding of how your property tax is calculated, you will be able to investigate whether you’re paying too much, depending on the assessment of your home. The good news is that the taxable value of your home may be sky high, but there are steps you can take to decrease that value and save a few bucks on your property tax bill.

Before you can move further along in the appeal process, it’s helpful to know how your property tax is actually calculated. In NJ, there are two aspects of your tax bill: first, the taxable value of your home and second, the tax rate. Normally, the municipal tax assessor will review your home to determine the taxable value. The taxable value is 100% of the home’s “worth” or the amount it would be sold for on the open market. The taxable value will be multiplied by the tax rate to decide the property tax. Unfortunately, local officials set the tax rate, so you don’t have much control over that. You may be able to get the taxable value reduced if you believe it is set too high.

If you’re planning to appeal your property tax, one or more of the following must be true:

  • The tax assessor determined your property tax bill using inaccurate information. For example, the official may have assumed your home is 3,000 square feet when it’s actually only 2,500 square feet.
  • The current market value of your home is lower than what was actually concluded by the assessor.
  • Compared to similar homes in your community, the assessor may have determined the taxable value to be too high. It’s important to know whether or not your home is over-assessed, as some municipalities do not evaluate properties at 100% of the true value. If the assessment on your home is 15% higher than the market value, this would be a case in which an appeal would be acceptable. Before filing an appeal, contact your local assessor if you believe he or she has made a mistake. They will often correct it.

If you’re confused as to exactly what steps to take to appeal your property tax, keep reading!

  1. Request a copy of the card with the details of your house assessment from the local or county tax assessor.
  2. As stated above, know the details of your appeal and be sure that you can provide support. Also, compare your home to similar homes in the community to determine an appropriate taxable value for your home.
  3. Meet with a real estate attorney who has experience with tax appeals. Because each case has its own labyrinth of details, it may be unwise to try to handle it on your own. An attorney will understand the local real estate market and have knowledge of crucial deadlines and regulations specific to NJ.
  4. Collaborate with your attorney to determine whether or not you are going to appeal. Be aware that the appeal must be filed prior to the April 1st deadline. Once the filing is complete, a hearing before County Tax Board will be scheduled. It is crucial to comply with all of the deadlines and regulations to have a successful appeal. If you miss the date of your appearance before the Board, you will have to wait until the following year to refile.

If you submit your appeal, but do not agree with the final decision, you can take your appeal to the New Jersey Tax Court. If you haven’t yet, it would be helpful to hire a lawyer if you decide to take your appeal for further review. The appealing process can be difficult and involves many intricacies. Make sure that you do your research before making any quick decisions!

What Does the Recent Tax Reform Mean for the NJ Real Estate Market?

It is not a “Happy New Year” for New Jersey residents and prospective homeowners when it comes to the new tax plan that was unveiled at the White House last week. Essentially, a tax increase is the way these homeowners are starting 2018, as the cap on state and local tax deductions is now $10,000. Not only did taxes go up, but the state housing market is also affected.

New Jersey residents pay one of the highest tax rates in the federal government but experience one of the lowest returns of federal spending of any state. At the center of the first federal tax code reform in 31 years is a steep corporate tax cut that proponents of the legislation hope will unleash the nations’ economy. Of course, to make up for dramatic corporate tax cuts, deductions are placed under the microscope. Unfortunately, some of these targeted deductions have been particularly beneficial to New Jersey residents in the past.

If a current or prospective homeowner was paying $10,000 with pre-tax dollars and they’re now paying $14,000, in reality they will have to pay about $5,000 to pay the additional difference of $4,000. Fourteen thousand dollars in real estate taxes doesn’t compare with the top 5 New Jersey towns when it comes to their 2016 Average Residential Tax Bill. The municipality of Tavistock comes in at number one with the 2016 average bill at $31,132.

As a current homeowner, you may wonder how this will affect your property value. The landscape doesn’t look very green. Nobody knows for sure; as real estate markets are affected by more variables than just real estate taxes. The most affected consumer lives in 1 of 7 New Jersey counties that make up the top 10 in the United States. These are the consumers who will lose the most in home prices across the nation.  At the top of the Average House Price Decline list is Essex County which will take a hit of 10.5%.

Some grim scenarios propose that high-income residents would migrate to other states, a slowdown in home sales would affect contractors and home building businesses and stores, and the already high-taxed state would see even higher taxes.

As mentioned before, there are many factors that enter into the real estate market and New Jersey realtors must continue to sell the same way even with the uncertainty created by the new tax plan. With a low-inventory market or, in other words, when there are more buyers than sellers, and when you write off your full real estate tax amount, the real estate market is much more stable. It has been considered a sellers’ market for some time now with sellers getting considerably more than just their asking price in many cases. Eager buyers may now delay making a move from renting to buying or purchasing a bigger home for their growing family. Those who invest in real estate and current landlords will be able to pass along these tax increases to their tenants.

Normally, if the economy holds steady, the real estate market follows suit or self-corrects. Of course, the true impact won’t be known until spring has sprung and the real estate market begins to bloom.

Are You Committing Financial Child Abuse?

Although it may be something you’ve never considered, there have been many reports of what is now being called “financial child abuse.” One of the easiest ways to commit financial child abuse is to use your child’s Social Security number instead of your own.

Why would anyone use their child’s Social Security number?

Typically, the perpetrator has found himself with a significant amount of debt that may include wage garnishment. What this means is that any time the adult in question attempts to get a job, his debts follow him and his creditors will be able to take a portion of his paycheck.

Because of this, the adult decides to use his child’s Social Security number when applying for a new job. Oftentimes, the father and the child in question have the same name, making this kind of activity slightly more difficult to detect by law enforcement.

Is it a crime to use your child’s Social Security number?

Not only is it illegal, but to do so would be committing a number of serious crimes including:

  • Identity theft
  • Fraud
  • Tax fraud
  • Social Security fraud
  • Theft

These crimes will almost certainly prevent the adult in question from ever discharging any of his debts in a bankruptcy in the future, and in addition, he may face prison time and thousands of dollars in fines.

Why is it a crime? Who is it really hurting?

The reason it is a crime to use a child’s Social Security number to obtain employment or a loan, etc. is because regardless of whose Social Security number is being “borrowed,” it is illegal to do so. End of story. A Social Security number is not something that can be borrowed, shared, or changed.

It can affect the child in question by tacking on Social Security wages to his SSN that he may have to answer for later in life if the activity is not stopped and reversed. This can cause the child serious legal problems involving Social Security fraud, even though he had no knowledge of the crime being carried out.

What is a better solution to my debt-related problems?

It is always a good idea to avoid committing a crime in order to get out of paying your debts. The reasons? You’re going to end up getting in serious trouble, you may go to jail, you will owe more money in the end, you will cause conflict within your family, and most importantly: There is a better solution!

You can erase the debts that you have. You do not have to borrow someone else’s Social Security number to get around your creditors. It is understandable and admirable that you want to get a job to support your family. Just don’t resort to committing a crime that you will regret later in order to do so.

Filing for NJ bankruptcy will wipe out most or all of the debts that you have racked up (with some exclusions) – allowing you to have a relatively clean credit report and no debts that will be taken from your wages.

Will a bankruptcy appear on my credit report?

It is impossible to avoid a bankruptcy showing up on your credit history, however, taking the responsibility for your debts and doing the right thing is viewed much more favorably by employers and lenders. You will have a much easier time getting a job with a bankruptcy on your record than if you had been convicted of fraud and identity theft.

The bankruptcy will disappear off of your credit report within seven to ten years depending on which chapter you file. Committing a crime like identity theft or Social Security fraud will remain on your criminal history record for the rest of your life. Which sounds more desirable to you? Do the right thing – file for bankruptcy and get rid of your debts so that you can move forward with getting that job and supporting your family the right way.

Can I Lose My Home if I Stop Paying Property Taxes?

4972357447_b5a59a0482_zOne of the many responsibilities that come along with home ownership is paying property taxes. Many mortgage lenders will wrap the amount of your property taxes right into the amount of your mortgage payment every month, so you don’t have to think about it and don’t risk missing a tax payment.

Some people prefer to pay their property taxes separate from their mortgage payment. Doing so requires a great deal of self-control and money mastery. Making your own quarterly property tax payment means that you have to be able to think ahead and set aside enough money to cover your tax bill. Most people who decide to go this route have a set dollar amount  from every paycheck automatically channeled into a separate bank account that is set up specifically for property taxes.

This is actually a solid financial idea for those people who have good control over their money, especially if the account you keep your tax money in generates interest. In a sense, your property taxes can make money for you.

On the other hand, being able to set aside that much of your paycheck can be difficult for some people to do – leading to missed property tax payments. Falling behind on one payment can start a dangerous trend and thought process.

“If I missed one payment and nothing ‘happened,’ I’m sure it’s ok if I miss just one more payment while I use that money to catch up on other bills.”

That line of thinking is dangerous because it is faulty. As soon as you fail to make one of your property tax payments, your mortgage lender will typically make the payment for you. While this may sound like a good thing, you must know that your lender isn’t doing you any favors. They’re simply protecting themselves and their investment.

Failure to pay property taxes gives the government the right to place a lien on your home. The concept of a lien can be confusing, but it simply means that there’s a virtual sign on your home letting everyone know that you owe someone money. Additionally, repeated failure to pay your property taxes can lead to the sale of your home or the lien by the government so they can recover the money you owe. If you attempt to sell your home before the government can sell it, your tax liens will appear on a title search, scaring away any potential buyers.

Property taxes are not something that you can simply ignore. They finance important government services like schools! Failure to pay your property taxes means a blatant disregard for your duty as a homeowner in your community.

If your mortgager puts up the tax money you owe so the home isn’t sold out from under them (tax liens take precedence over mortgages), you will then obviously owe even more money to your lender. They will likely bill you for the money they paid toward your property taxes, expecting you to keep current on all monies owed. Failure to stay current with your mortgage company will lead to – you guessed it – foreclosure.

Can you miss a property tax payment or two? You can, but it’s a really bad idea.

Can doing so lead to the loss of your home? Absolutely. If you’re thinking of skipping a property tax payment in order to funnel that money elsewhere, you need our help. We’ll sit down with you and figure out a better way to reorganize your debts so that you can stay in your home, pay all of your monthly bills, and maintain a decent credit score. If you’ve already missed some of your tax payments, we’ll help you negotiate with your lender so you can get back on track with a payment plan that brings your mortgage and property taxes current.

 

Image credit: Marycat879

If I Move Out of the Country, Will My Debts Follow Me?

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Carrying a huge amount of debt can make drastic actions seem suddenly appealing. Unpaid debts (especially those with high interest rates) may have snowballed until they finally became too much for you to handle.  Realizing that just the monthly minimum payments are more than you can afford may be the wake up call you needed to finally take steps toward getting out of debt.

We’ve discussed a number of different options for New Jersey debt relief here on our bankruptcy blog. Filing for bankruptcy is one way to get rid of nearly all (or most) of your debts. Of course, you’d have to pass the Means Test in order to be approved for bankruptcy in NJ, but if you’re reading this because you can’t pay your minimum payments, you’ll probably qualify.

In the past, we’ve had people ask us if moving to a different state would erase debt. While you can move out of state if you want or need to (for work or other personal reasons), doing so won’t eradicate any of your debts. The only exception to this might be if you owe someone a large personal debt and you don’t leave a forwarding address for that person to find you. Of course, if s/he files a lawsuit against you, chances are that you’ll eventually be discovered by a process server.

Can My Debts Follow Me to Another Country?

The reason that moving from one US state to another won’t eradicate your debts is because every state in this country follows the same credit rating system and reports to the same reporting bureaus.

In contrast, other countries abide by different practices and policies when it comes to determining your credit worthiness. Additionally, a contract or agreement that you entered into in the United States (i.e. a credit card agreement) is not enforceable outside of the country. It is actually illegal for any of your creditors to file a lawsuit against you in any country that you aren’t currently living in.

[Sounds great, right?]

The bottom line is that you may be able to move abroad without your US/New Jersey debt ever catching up with you.

But! (There’s always a but!)

Should you decide to go through with this idea, you’ll need to have plenty of actual money (cash) in order to establish your residency abroad and to cover your living expenses. If you’ve been deeply in debt in the US for some time, it’s highly unlikely that you have a lot of cash lying around.

If you don’t have enough cash on hand to buy a home, you will quickly discover that it is much more difficult to borrow money (and establish a credit history) in other countries as compared to the US.

Additionally, there’s one entity that you’ll be hard-pressed to permanently escape – the IRS. If you are a United States citizen, you are expected to pay income taxes whether you live in the US or not, and this holds true even if you permanently leave the country. The only way to eliminate some of your delinquent tax debt is filing for bankruptcy, and even then there are very specific rules about which taxes can be discharged.

Any past due taxes that you accrued before you leaving the country will keep compounding every year that you remain a US citizen, no matter where you call ‘home.’ Furthermore, any creditors (aside from the IRS) to whom you are indebted have a right to write off any amount you failed to pay. When this happens, they may also file a ‘Cancellation of Debt’ form (1099-C) with the IRS. A 1099-C form essentially counts the past due amount as income that you ‘earned.’ Guess what the IRS is going to do with that additional ‘income’! That’s right – they’re going to tax it.

Short of  renouncing your United States citizenship, you’ll be hard-pressed to elude the IRS. Even moving to Mars probably wouldn’t help you evade tax debt.

Could Moving to Another Country Help Me Lower My Debts?

Ah – now you’re onto something! Moving out of the US actually is a great idea for those who are plagued with significant amounts of debt and want to pay it off rather than out-run it.

Although the cost of living in the United States isn’t the highest in the world, there are much more ideal places to live if you’re looking to free yourself from debt. As long as you have a way to make money, moving to a country with a significantly lower cost of living will mean you can pay your debt off much faster than if you remained living in the US.

With this approach, you’ll be able to breathe easier and sleep better at night knowing that you’re doing the right thing by paying back the money you owe. You will also get to experience a new culture and way of living, which is a pretty cool bonus! Your US citizenship will remain intact, and your credit score will soar, leading to a variety of options and financial freedom in the future.

Image credit: Megan Fitzgerald

5 Common Bankruptcy Myths: Debunked

Without a doubt, there is no shortage of misinformation when it comes to bankruptcy. Veitengruber Law works hard to consistently provide valid, up-to-date information about bankruptcy in New Jersey to help our readers and clients educate themselves based on facts.

Today, however, we’re going to address some of the biggest bankruptcy myths and the truth that lies behind them. Much like the mythical mermaid, believing in something that isn’t based on facts won’t make it a reality any way you look at it.

  1. “You can’t discharge income taxes in bankruptcy.” For some reason, it is a common misconception that income taxes are non-dischargeable in a chapter 7 bankruptcy. The reality is that income taxes are the only type of tax debt that can be discharged! Read more about the rules associated with tax debt qualifications for bankruptcy here.
  2. “Because of the Means Test, I’ll have to file chapter 13, which won’t help me get rid of any debt, so why bother?” While the first half of this may be true, even if you don’t qualify for chapter 7 based on the Means Test, filing for chapter 13 does not automatically mean that you will have to repay all of your debts in full. In fact, most chapter 13 reorganization plans see the debtor only paying a fraction of their total debt amount.
  3. “I can’t risk ruining my spouse’s credit, so bankruptcy’s not an option.” This is something we hear constantly. In New Jersey, bankruptcy does not have to be filed jointly with your spouse. You may need to disclose how much money your spouse makes, but ultimately you can file solo and it will literally have no impact on your spouse’s credit score.
  4. “Bankruptcy is only for people who are unemployed and/or impoverished.” While we understand why this belief exists, we want to be clear that it doesn’t matter how much money you make when it comes to bankruptcy. As long as your debts and expenses outweigh your income, you will almost certainly pass the Means Test, which will qualify you to file for bankruptcy in NJ.
  5. “Any attorney can help me file for bankruptcy. The cheaper the better.” Did you know that some attorneys will take your retainer even if they have zero experience with bankruptcy law? Do your research and select a bankruptcy attorney in New Jersey who has hundreds of bankruptcy cases under his belt. Selecting a NJ lawyer with little to no bankruptcy experience may cost you less money up front, but the end result can be catastrophic.

At Veitengruber Law, we’ve made it our priority to help New Jersey debtors get out from under their debt. We provide our clients with personalized and in-depth meetings so we can evaluate your debts from every angle.

As our client, you’ll receive tailored advice and a team to walk you through the entire bankruptcy process from start to finish and beyond. Because we understand the financial strife our clients are facing, we offer free consultations and extremely flexible payment plans that fit into your reality.

“There are very few monsters who warrant the fear we have of them.” ~ Andre Gide

Can I Discharge Income Tax Debt in a Chapter 7 Bankruptcy?

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It’s a common misconception that income taxes cannot be discharged in a Chapter 7 bankruptcy. Most people assume that, even if they are deep in tax debt, that they would not be able to erase their tax debt through a bankruptcy proceeding. The good news is that those assumptions are wrong; however, there are some specific rules that apply when a debtor wants to discharge his or her owed back taxes.

The rules surrounding dischargeable tax debt are commonly referred to as the 3 – 2 – 240 rules. Any person wishing to discharge back taxes must meet all three of these qualifications, and the only type of taxes that are eligible for discharge via bankruptcy are income taxes.

A little more about the 3 – 2 – 240 rules:

The Three-Year Rule simply states that anyone wishing to discharge his or her back tax debt in a bankruptcy cannot file for bankruptcy until at least three years have passed since the taxes in question became due. For example, if Debtor A owes back taxes from the year 2013, he would not be able to file for bankruptcy until 2016. As tax day is almost always April 15 of any given year, Debtor A’s 2013 taxes would have come due on April 15, 2013 and therefore, he would not be able to file for bankruptcy until April 15, 2016.

 The Two-Year Rule sets out that a debtor must have filed the taxes in question at least two years prior to filing for bankruptcy. This rule applies even to debtors who filed their taxes late, as long as they were filed. For example, if Debtor B owed income taxes on April 15, 2014 but did not actually file her taxes until March 15, 2015, she will not be able to file for bankruptcy until May 15, 2017. This date puts her two years out from when she actually filed her taxes and also meets the Three-Year Rule as stated above.

The 240 Day Rule states that any tax assessment that is completed must take place at least 240 days before the date of any bankruptcy filing to discharge income taxes. This is usually only an issue if a debtor files a correction or is audited. For example, Debtor C files her taxes on time on April 15, 2012 but is audited by the IRS and is determined to have made an error in her tax paperwork. The date of the IRS’s new assessment of how much she owes didn’t take place until March 15, 2015. Because of this assessment and Debtor C’s error, she will now be unable to file for bankruptcy until October 12, 2015 (March 15 + 240 days), which meets all three of the 3 – 2 – 240 rules.

Obviously, anyone who commits tax fraud or willful tax evasion will not be eligible to discharge his or her taxes in a bankruptcy.

There are, of course, special considerations and your case may be unique, so if you wish to discharge your income tax debt via Chapter 7 bankruptcy, but aren’t sure if you’d qualify, seek out the advice of a seasoned bankruptcy attorney in your area.

Benjamin Franklin was quoted as saying, “In this world, nothing can be said to be certain, except death and taxes.” As it turns out, you may have other options!

Image credit: Alan Cleaver

Can I Keep My Tax Refund if I File for Chapter 13 Bankruptcy?

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Tax day is once again approaching, and, if you have filed for bankruptcy, you undoubtedly have some new questions this year about filing your taxes and whether or not you can receive federal tax refunds.

Here, we will focus on Chapter 13 bankruptcy and the effect it will have on your federal taxes and refund(s). Firstly, let’s go over the definition of this type of bankruptcy. In order to be able to file for a Chapter 13 bankruptcy, you must be either: gainfully employed, self-employed or a sole proprietor. The reason for this requirement is that a Chapter 13 is actually a reorganization of your debts rather than a forgiveness of your debts. In addition, all of your tax returns within the past four years must have been filed correctly and on time.

A Chapter 13 bankruptcy filing will allow you to keep possession of all of your assets/property. The purpose of a chapter 13 proceeding is to create a plan that will allow you to pay back all or most of your debts over the next 3 to 5 years. Other types of bankruptcies can result in you losing assets that you cannot pay for.

In order to file for a Chapter 13, your total debt burden must not be so high so that creating a reasonable repayment plan would be impossible. Your repayment plan will be based on your income, your reasonable living expenses, and the specific debts that you have incurred. As you will be required to pay a specific amount of money each month to a number of different creditors, you will be living on a very strict budget until these debts are sufficiently paid down or paid off completely, depending on what is specifically set out in your repayment agreement.

Around tax time, the appeal of receiving a substantial lump some of money in the form of a tax refund can be very tempting when you are living on such a strict budget every month as you repay your debts.

That being said, it is important to know that, for many people involved in a bankruptcy case, tax refunds are often delayed or are required to be used as payment toward your Chapter 13 debts. This is especially true if any or all of the reason you filed for bankruptcy is overdue federal tax debts.

When you file for a Chapter 13 bankruptcy, you will be required to put all of your disposable income toward repayment of your debts. Disposable income is defined as any income that is not used to pay for your reasonable monthly living expenses. Under this definition, your tax refund will be considered disposable income because you will not have listed any potential tax refund money when you filed for Chapter 13 bankruptcy.

However, it is possible for you to excuse your tax refund from being considered part of your disposable income on a year-by-year basis. This is only possible if you have encountered a necessary living expense that can legitimately be considered unexpected.

In order to be able to keep your tax refund during a Chapter 13 bankruptcy, a separate plan modification will need to be filed each year. In your Chapter 13 plan modification, you’ll need to specify exactly how much money you will be receiving as a tax refund.  You will also need to provide details that will prove your need to keep the money.

Anything that is considered part of your regular monthly living expenses will not be reason enough for the court to allow you to keep your tax refund during a Chapter 13 reorganization. The reason for this is that you agreed to certain expenditures when you originally filed your bankruptcy petition, and you will be held responsible for making ends meet with the income that you are currently generating.

To learn more about specific situations that may allow you to keep your tax refund if you have filed for a Chapter 13 bankruptcy, contact our office today. Feel free to use this contact form, and please use the information provided on our law blog to learn more about the ins and outs of bankruptcy.

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I Want to Cash Out My 401(k) – What Do I Need to Know?

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Cashing in your 401(k) is something that has crossed the minds of many Americans today in order to make ends meet, whether in response to an emergency, to put a child through school, or to help a friend or loved one. It certainly can be quite tempting to cash out your 401(k) retirement plan when it seems as if that money is simply sitting there and taking up space when it could be put to good use.

Before you make any decisions regarding cashing out, be aware that there will be consequences of this choice. Should you cash out your total 401(k) amount, you will immediately owe income tax on the entire chunk of change.

If you are under the age of 59 1/2 years old, you will also be charged a 10% early withdrawal penalty fee on top of paying taxes on the amount you cash out. That can put a pretty significant dent in your “take-home” amount.

Your 401(k) and other similar contribution accounts are funded with money from your paycheck before taxes. This is beneficial for you because, by taking money from your paycheck and putting it into your retirement fund, the amount of income you are taxed on lowers, bringing down your income tax bill. Naturally, you will have to pay taxes on your 401(k) money when it is withdrawn later in life, but you will not be penalized the extra 10% if you wait until you are age 59 1/2 or older to tap into those resources.

Another reason to resist cashing out your 401(k) early, is that, in some cases, you may be getting a matching contribution from your boss. These can range from fifty cents to a dollar for each dollar contributed by you. By cashing out early, you are essentially giving up this free money! Additionally, matching contributions aren’t taxed until retirement – which means your tax bill will remain the same while you are essentially making more money.

One exception is something called a Roth 401(k). This version of your retirement savings plan works in reverse to the traditional 401(k). To clarify, you will pay taxes on money as you contribute to this type of plan, so you won’t see an immediate tax break. However, you won’t be paying any taxes upon withdrawing money from a Roth 401(k) in retirement. This means that any money contributed to this account is free to compound – tax-free – without limit.

Let’s say you are considering cashing out your 401(k) to help a friend or loved one in need. In other words, you will essentially be gifting the money you take out. Unfortunately, simply because you are choosing to be generous with your savings does not afford you a tax break, and you will still be charged the full income tax amount on your 401(k) total. Luckily, you probably won’t have to pay gift tax – unless your account contains upwards of $5 million, which is the limit for tax free gifts throughout your lifetime.

Also keep in mind that if you withdraw $14,000 or less and gift that amount, you do not have to report it to the IRS. If you withdraw more than $14,000 as a gift, you will have to fill out form 709 “United States Gift Tax Return.”

The bottom line about cashing out your 401(k) for things other than retirement is this: Do your research. Make sure that you’re making the wisest decision possible given your current circumstances. If you need help determining whether or not you should raid your retirement account, contact an attorney with experience in the area(s) of Estate Planning and/or Bankruptcy.