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Tax Planning

Tax Help You Can Trust

Kimberly Lankford helps you find a qualified tax preparer and answers your questions on Roth IRAs, 401(k) rollovers and more.

After years of reading financial magazines, I still regularly see the disclaimer “Consult your tax adviser.” So how do I go about finding one? And how do they get paid? -- Harlan Sam, Fort Collins, Colo.

This time of year, many unlicensed tax preparers with questionable credentials set up shop. Some disappear after tax season, leaving you to deal with the IRS if there’s a problem with your return later. The IRS recently cracked down on rogue tax preparers by, among other things, contacting preparers who have frequent errors. It’s also instituting stricter rules for anyone who charges a fee to prepare tax returns, but most of those rules don’t take effect until the 2011 tax season. Until then, taxpayers need to be especially vigilant when hiring a tax preparer or adviser.

A good approach is to look for an enrolled agent. These tax experts must pass a rigorous test and meet annual continuing-education requirements, and they are licensed to represent people in front of the IRS. Enrolled agents can prepare your income-tax return, and some provide tax planning. You can also contact an enrolled agent if you need help after receiving a penalty letter from the IRS.

Enrolled agents work in a variety of settings: Some have their own firms, some work for tax-preparation chains, and some are also certified public accountants or certified financial planners. You can find an enrolled agent through the National Association of Enrolled Agents at www.naea.org. They usually charge by the tax form to prepare a return (so the more complicated your return, the more you’ll pay) and by the hour for tax planning.

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If you’re looking for help with financial planning as well as taxes, CPAs who are also personal financial specialists can help integrate tax planning with investing, retirement-planning and estate issues.

The Gift of a Roth

I would like to fund a Roth IRA for my 25-year-old daughter. She is a third-grade teacher and already saving for retirement. Could you suggest some appropriate funds? Would she have to pay taxes on this money? -- Melanie Killam, Kailua, Hawaii

Helping finance your daughter’s retirement is a great idea. Even if she has a 403(b) from her job as a teacher, adding a Roth is a good way to diversify her retirement savings. Unlike funding a 403(b), contributing to a Roth doesn’t give your daughter a tax break now. But she’ll be able to withdraw the money tax-free after age 59, and she can withdraw the contributions at any time tax-free and without penalties.

The deadline for 2009 IRA contributions is April 15, 2010. You can give her the money to contribute to the account, but she needs to meet the Roth income limits; if she’s single, her adjusted gross income must be $120,000 or less ($176,000 or less for couples) to contribute to a Roth for 2009. And you won’t face any tax consequences for the gift as long as you give her $13,000 or less for the year.

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If your daughter won’t touch this money until she retires, she can afford to put all of her money into stocks. Until she has enough money to build a diversified port-folio, she should start with a global stock fund -- one that invests in both U.S. and foreign stocks. Two good choices, both with a bent toward undervalued stocks, are Oakmark Global I (symbol OAKGX) and Dodge & Cox Global (DODWX). Neither levies a sales charge. If your daughter wants to tamp down risk further, a global balanced fund -- one that owns stocks and bonds from both U.S. and foreign markets -- may be appropriate. One of the few no-load funds in this category is Fidelity Global Balanced (FGBLX).

Taxes and Home-Sale Losses

When we moved out of state, we did not sell our house because the price would have been less than what we owed on our mortgage. So we rented it out and finally sold for a big loss almost two years later. Now we’re wondering whether we can claim the loss on our taxes. -- S.P., Las Vegas

Selling a principal residence for a loss doesn’t qualify for a tax deduction. Because you ended up renting out your house, the loss may be tax-deductible -- in theory. But it’s tricky.

When you convert a home to a rental property, your tax basis -- the amount on which you’ll determine gain or loss -- is either the original basis or the market value of the property at the time of the conversion, whichever is lower. Because housing values had already plummeted by the time you rented out the house, your new basis could be much less than your original purchase price. Any loss due to falling prices while you lived in the house wouldn’t count for tax purposes.

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But if the house’s value continued to drop during the time it was a rental, you might have a deductible loss. To figure the loss, you must first subtract any depreciation allowable on the rental from the basis. Then compare the reduced amount with the proceeds of the sale. If it’s a loss, you get a deduction; if it’s a gain, any part attributable to depreciation is taxed at 25% -- unless you’re in a lower tax bracket, in which case the corresponding rate applies. Any additional profit would be taxed as a long-term capital gain, up to 15%, depending on your other income.

Too Late to Roll Over a 401(k)?

Can I add the funds in my former employer’s 401(k) account to my current employer’s 401(k)? It’s been four years since I left my old job. If that’s not an option, can I move the money to an IRA? -- A.B., Boston

Ask your employer about its rules for accepting rollovers from other 401(k)s. Employers aren’t required to let workers roll money from other 401(k)s into their current plans, but most allow it, says David Wray, president of the Profit Sharing/401k Council of America.

You could roll over the money into an IRA. The rules changed in 2008 to allow direct rollovers from a former employer’s 401(k), 403(b) or other tax-qualified plan into a Roth IRA.Now anyone, regardless of income, can roll money directly into a Roth.

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You’ll generally owe taxes on the entire conversion if you made only pretax contributions to the 401(k), but a special rule lets you avoid the tax bill if you made after-tax contributions to the 401(k) and are rolling over only those after-tax contributions to the Roth.

Compare the investing options and fees. You’ll have more investment choices with the IRA, but with the 401(k) you may get a break on fees and can consolidate your money in one place.

My thanks to Manny Schiffres for his help this month.

Got a question? E-mail me at askkim@kiplinger.com.