Masonry Magazine September 1969 Page. 19
TAXES
By MIRIAM. McD. MILLER
TAX REFORM BILL
All during the month of September the Senate Finance Committee, in which the Tax Reform Bill of 1969 passed by the House is now lodged, will be conducting hearings on the bill with the hope of reporting it out prior to October 31, 1969. One of the first witnesses scheduled to appear before the Committee, Secretary of the Treasury David M. Kennedy, stated in a recent speech in Philadelphia that the bill "does not go far enough" as it stands. Changes made by the House in the President's tax preference proposal, for instance, would permit many millionaires to go on paying little or no federal income taxes. On the other hand, the Secretary noted, the bill may go too far in reducing revenues.
NONTAXABLE DIVIDENDS
While it will not make you a millionaire who pays little or no federal income taxes, there is a form of investments that is growing in popularity and the returns on which are not taxable. These are investments in public utility company securities in which nontaxable cash dividends are distributed.
A public utility company makes such nontaxable dividends from funds on hand from depreciation of plant and equipment, from the capitalization of interest on funds for construction, etc. Generally, of course dividends are taxable income in the hands of the recipient. However, the Internal Revenue Code defines a dividend as a distribution by a corporation to its shareholders out of earnings and profits. Thus, when a distribution by a corporation does not merit this definition the distribution does not fall into the taxable income category.
Shareholders need not be concerned with what sort of plan the public utility company uses to make its nontaxable dividend. The company designates a nontaxable dividend as such. The shareholder must only remember to adjust the basis of his stock. For instance, an electric company distributes a $2 dividend, 20é of which is designated as a nontaxable dividend. If a shareholder held 10 shares for which he had paid $20 per share or $200, the basis for his stock would be $200. This basis ($200) for the 10 shares of stock must be reduced by the nontaxable dividend of $200 minus $2, resulting in a new basis for the 10 shares of stock of $198.
RETIREMENT FOR WIVES
Where a business is primarily owned by one person, there is a growing popularity in trying to include the wife of the owner in a retirement plan. There may be pitfalls- so good tax advice is necessary in setting up any such plan. But, the advantages may well merit the effort.
There appears to be no reason that would prevent the wife of a sole proprietorship from being his employee. Provided she met all of the requirements of the plan and applicable law, the wife-employee would be entitled to distributions from a pension plan of the business. She would not, however, be entitled to social security coverage.
Another method to provide retirement income for the wife would be to make her a member of her husband's partnership. It does not matter if the wife acquires her partnership interest from a gift or by purchase. If a husband and wife are bonafide partners, each reports his distributive share of the partnership earnings for income tax as well as for self-employment tax purposes. Thus, through this method a wife can qualify for social security coverage. It should be noted that the wife's distributive share must not be excessive but must honestly reflect either the services she performs or her share of capital interest.
Finally, where a husband controls a corporation, it is possible for his wife to be employed by the corporation. As the employee of the corporation, the wife would be entitled to participate in a pension or profit-sharing plan and would be eligible for social security coverage.
Remember though in any of these situations, the IRS will spot a completely fictitious arrangement. The wife's role as an employee or partner must have some reality.
CONSTRUCTIVE DIVIDEND
Here's a case to show what a pickle a taxpayer can get himself into when he gets involved with tax rules. In 1963, a taxpayer decided to incorporate his plumbing business. One of the benefits mentioned to him (incorrectly) as a benefit of incorporating was that he could reduce his personal income tax by having the corporation pay his and his family's personal medical expenses. He was advised that the corporation could deduct these expenses and the amounts paid by the corporation would never be income to the taxpayer.
However, the Tax Court first pointed out that if there were a medical plan for the corporation it was certainly a vague one and was definitely not an established plan. But, even assuming that the medical payments were under a "plan," the purpose of the plan was clearly to benefit the taxpayer in his capacity as owner of the business rather than as an employee. The court ruled that the payments made were a constructive dividend to the taxpayer and were not deductible by the corporation as a business expense.
T. AND E EXPENSES
The Second Circuit Court of Appeals has now ruled as valid the Commissioner's Regulation requiring travel and entertainment expenses in excess of $25 be substantiated by documentary evidence. In the case presented, a salesman claimed a deduction for unreimbursed travel and entertainment expenses incurred. He maintained a desk calendar or "diary" on which he recorded expenses for which he did not seek reimbursement from his employer. The calendar notation identified the names of the persons entertained, the amount spent, and by abbreviation or code, the restaurant, and the reason for the entertainment.
However, the salesman presented no receipts or other documentary evidence to substantiate these expenses. The court upheld the validity of the regulation that requires substantiation with documentary evidence and quoted from the congressional hearings: "Generally, the substantiation requirements of the bill contemplate more detailed record-keeping than is common today in business expense diaries." Sandford v. Com'r (2nd cir. 1969).
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