Jeff Schnepper

The Basics

6 ways to keep the IRS at bay

The IRS has decided to focus its limited resources on the tax returns of those who earn more than $100,000. Are you vulnerable? Here are smart ways to minimize your exposure.

By Jeff Schnepper

They're coming to get you . . . ha, ha!

After years of ignoring the ability of the rich to get around the tax code, the IRS has been cracking down on abuses by the wealthy.

One of the reasons for making a move on the wealthy is that the abuses have been so flagrant that even Congress was offended. Plus, the government needs the cash.

One way to get that cash is to make sure everyone pays his or her fair share -- including the rich, who can afford to pay high-priced tax attorneys to find the cracks in the tax code. These tax experts design investments for their clients and structure their financial situation so that much of their income is sheltered from tax.

They do a great job.

For tax year 2006, 8,252 returns with incomes of $200,000 or more showed no income tax liability. That was up from 7,389 in 2005. Cheating by corporations and individuals has been found to be worse than was once thought.

So, what are the consequences to you of this shift in priorities? If it's legal, a move that reduces taxable income is called tax avoidance by the experts, and everyone else just calls it a "loophole." But, if it's not legal, that's tax evasion and could land you in jail.

Unless you look really good in stripes, here are six suggestions about what to be aware of, and what to run from:

Reduce your exposure

"The fact is," former IRS Commissioner Charles O. Rossotti once said, "people who make more than $100,000 pay more than 60% of the taxes, and we need to focus there."

If you're making more than $100,000 a year, your risk of an audit is higher. That means it's even more important to keep adequate records to substantiate your deductions.

It also reinforces the benefits of income allocation. That's where you view your family as a single economic unit, obviating the issue of who actually generated the income. You can then, within the law, allocate income from a higher bracketed family member to a lower bracketed one, and save the difference in tax dollars.

Video: The odds of an audit

Putting investments in a child's name makes the income generated from those investments taxable to the child, rather than to the higher bracketed parent. Be aware of the "kiddie-tax" rules on investments and the issues relating to how to structure the investments so that they're taxed to the child.

Here's how the kiddie tax works for 2009: If a child is under 19 (under 24 if he or she is a full-time student), the child is allowed to have $1,900 in unearned income -- nonwage income such as dividends and interest on investments -- before the kiddie tax kicks in. There's no tax on the child's income of $950 or less, and the next $950 in income is taxed at the child's ordinary income tax rate, usually 10% or 15%.

Continued: Be skeptical

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