Photo by CPA of Miami 

The 2013 tax-filing season has commenced, and after weeks of haggling over the so-called “fiscal cliff” issues, Congress recently passed, and President Obama signed, the American Taxpayer Relief Act of 2012 (the “New Law”). In essence, tax rates have increased for high income taxpayers but many of former President Bush’s tax rate reductions remain intact. In addition, the Internal Revenue Service is still conducting thousands of audits of both current and prior years' tax returns. As such, it is imperative that you familiarize yourselves with certain concepts regarding both U.S. and Israeli income tax law and how they may affect your personal situation. Proper tax planning and minimization of your taxes requires an analysis of many important issues, including the interplay between the U.S. and Israeli foreign income tax credit rules, the foreign earned income exclusion rules, and also how the applicable provisions of the U.S. - Israel income tax treaty affects you. Delineated below are some areas of the current and New Law, which may impact upon your U.S. tax return filings due in 2013.  Under the U.S. child credit rules, you may still be eligible to receive free, from the U.S. Treasury, up to $1000 per child per year.   

Foreign Bank Account Report (FBAR / Form TDF 90.22.1) must be filed yearly with the U.S. Treasury if you own or have authority over a foreign financial account(s), including a bank account including all Israeli pensions (e.g. regular savings or checking), brokerage account, mutual fund, unit trust, or any other type of financial account including all Israeli pensions.  Under the Bank Secrecy Act, each United States person must file a Report of Foreign Bank and Financial Accounts (FBAR), with the U.S. Treasury if: 

1. The person has a financial interest in, or signature authority (or other authority that is comparable to a signature authority) over one or more accounts in Israel or another foreign country, and
2. The aggregate value of all foreign financial accounts, including Israeli pensions, exceeds $10,000 (or foreign currency which is equavalent in the aggregate to $10,000; e.g. NIS 35,000 or more in an Israeli bank account) at any time during the calendar year.
3. Form 8938 Statement of Foreign Financial Assets (which is a new form and is in addition to the FBAR) must be filed with your income tax return if you live in Israel (or abroad) and

(a)   the value in your foreign financial accounts exceeds $400,000 (filing joint) or $300,000 (filing single) on the last day of the year, or
(b)     your foreign financial accounts exceed $600,000 (filing joint) or $400,000 (filing single) at any time during the tax year. 

New IRS Streamlined Procedures for Non-Compliant U.S. Taxpayers: In recognition that some U.S. citizens living aboard have failed to file timely U.S. Federal income tax returns and Foreign Bank Account Reports (FBAR), the IRS has designed a new streamlined procedure to allow taxpayers to enter the IRS tax filing system. Many factors and requirements apply, but primarily this procedure is available for delinquent U.S. taxpayers that have resided outside the U.S. since January 1, 2009 and have not filed U.S. Income Tax returns during that period. All submissions will be reviewed, but the IRS will expedite the review process and not access penalties or pursue follow-up if you meet the streamlined requirements. In addition, the taxpayer must owe less than $1,500 with each submission of the past 3 years’ Income Tax returns and file the appropriate FBARS for the past 6 years.

U.S. Passport Renewal instructions stipulate that all U.S. citizens working or residing overseas are required to file and report on their worldwide income.  As such, you may be denied a passport renewal if you are not up-to-date with your U.S. Income Tax returns.

U.S. Income Tax Rates will be 10%, 15%, 25%, 28%, 33%, 35% and 39.6% respectively. Under the New Law the 39.6% rate will apply to single taxpayers with taxable income above $400,000 and joint taxpayers with taxable income above $450,000. Under current U.S. tax rules investment income may be taxed at a higher tax bracket, especially if the foreign earned income exclusion has been used (this hidden tax is often referred to as the "stacking rule"). 

Foreign Tax Credits may generally be utilized in many situations especially,  a) when Israeli or other non-U.S. earned income exceeds the U.S. foreign earned income exclusion, b) for Israeli investment or other income that is also taxed in the U.S. (and vice versa), or c) if you are filing for the U.S. Child Tax Credit. Conversely, since Israel also taxes worldwide income, the Israeli income tax authorities will generally provide you with a foreign tax credit on income that was sourced and first taxed in the U.S. or in another country. 

The U.S. - Israel Income Tax Treaty states that U.S. citizens living as residents in Israel are generally eligible to exclude from their adjusted gross income U.S. Social Security benefits received. This provision may result in substantial tax savings and even in large Refunds on your prior 3 years' income tax returns if you originally included Social Security benefits as taxable. 

The Foreign Earned Income Exclusion has again been inflation-adjusted and rises to $95,100 per taxpayer. As such, married taxpayers filing jointly, who meet certain requirements, may potentially exclude up to $190,200 of foreign earned income per tax return. However, one spouse may not utilize the unused portion of the exclusion of the other spouse and by electing the exclusion you may preclude eligibility for the U.S. Child Credit. Please note that this exclusion applies only to work or self-employment income and does not apply to other non-earned income such as pension, investment income, rental or any other non-work income. In addition, you generally must file a timely income tax return or claim benefits of Treasury Regulations in order to qualify for the exclusion.

Long Term Capital Gains rates (whether derived in the U.S., in Israel or in another country) generally apply to assets held for more than one year. The New Law increases the top rate for qualified capital gains to 20% if taxable income exceeds $400,000 (single) or $450,000 (joint). The 15% and below Bush era capital gains tax rates will generally apply to other taxpayers. Capital losses are still fully deductible against capital gains, and any capital losses in excess of capital gains may fully offset up to $3,000 of ordinary income. Net capital losses in excess of $3,000 may be carried over indefinitely to future years. Israeli capital gains tax rules are significantly different than U.S. capital gains tax rules and a tax advisor should be consulted in this regard. A balanced portfolio, in conjunction with your overall tax planning, is an excellent way to prepare for market fluctuations.

Qualified Dividends  tax rates increase under the New Law to 20% on the highest income earners if taxable income exceeds $450,000 (filing joint) and $400,000 (filing single) while the same rates apply to lower income earners. Generally, U.S. taxes paid on U.S. investment income may be used to offset Israeli taxes (and vice versa) thus potentially avoiding double taxation. For 2013, under the New Law a surtax of 3.8% applies on investment related income of high income earners. As such the top capital gains and qualified dividends tax rate for high income earners could reach 23.8%.

The U.S. Child Tax Credit of up to $1,000 per eligible child potentially results in FREE money to you or a credit to subsequent years courtesy of the U.S. Federal government via a U.S. check or direct deposit to your U.S. bank account, even if no U.S. income tax is due. If applicable, this credit may also be available to offset any potential U.S. income tax liability in a current or subsequent year. Taxpayers must have reportable earned income from wages (via Israeli Form 106 or similar foreign wage slip) or self-employment generated in Israel or in the U.S. in excess of $3,000 depending on the year you are filing. The earned income of both husband and wife can be combined even if one spouse is not a U.S. citizen. The non-citizen spouse requires a U.S. tax identification number (TIN), which can be acquired by filing U.S. Tax Form W-7. Children must be U.S. citizens aged 16 and below and must possess a U.S. Social Security number. Please note that maximizing the child credit can be quite complicated since there are many factors to consider. In addition, the IRS has been conducting income tax audits which may require verification of income and other information. Amended returns may be filed back to the tax year 2009 in order to claim the child credit (2009 amended returns must generally be filed by April 15, 2013).

Estates and Gifts: Under the New Law gifting increased to $14,000 annually to your children or grandchildren and continues to be an excellent way to potentially reduce the value of your U.S. taxable estate as well as future U.S. estate income taxes. The gifting limit is $28,000 annually if your spouse joins you in making the gift. Please consult your tax advisor for more details or if you need assistance with estate planning and writing a personal will. Beginning January 1, 2013, the maximum federal estate tax will rise from 40%, but an inflation adjusted exemption of $5 million will apply. 

State and Local Tax Refunds may be available for taxpayers who may be unnecessarily filing resident U.S. State income tax returns after they moved to Israel. Maintaining a bank account, brokerage account or driver’s license in a particular State does not automatically necessitate a tax filing in that State. However, if you have real estate, maintain a business, commute to and work in a particular State, or have any other activity considered a nexus (strong connection) to a State, you would generally only file a non-resident income tax return in that State. Large refunds for current or prior years may be available.

Standard Deduction amounts are: Single or Married Filing separately - $5,950; Married Filing Jointly - $11,900; Head of Household - $8,700. Taxpayers over the age of 65 may claim an additional deduction of $1,150 each, if married, or $1,450 if single. Taxpayers with qualifying deductions in excess of these amounts may itemize their deductions. Bank mortgage interest, real estate tax (Israeli arnona), Israeli income taxes, and certain charitable contributions paid to Israel sources may qualify as itemized deductions.

Personal Exemptions:  Phase out and limitation on Itemized Deductions will apply if income exceeds $300,000 (filing joint) and $250,000 (filing single). In some cases, grandparents may claim their grandchildren as exemptions on their income tax returns if they provided at least half the support of the grandchild and the grandchild lived with the grandparent.

Self-employed Individuals are required to earn 40 credits (quarters) in order to qualify for future U.S. Social Security retirement benefits. These credits can be earned even while residing in Israel. If a taxpayer earns in excess of $5,500 during the tax year he/she can generally earn a maximum of 4 credits. This is primarily accomplished by:

ii)      being self-employed in Israel and reporting Israeli self-employment income on your U.S. income tax return,

iii)    working in Israel for a U.S. entity and receiving a Form W-2 (employee) or Form 1099 (independent contractor),

iv)    traveling to the U.S. to work as an employee (W-2) or as a self-employed individual (1099).

Automatic Extensions are available until June 15, 2013 for taxpayers, who reside overseas. Interest will be charged, however, from April 15, 2013 if there is a balance due on your U.S. income tax return while penalties are calculated from June 15, 2013. Filing an extension will extend the time to file (but not time to pay) until October 15, 2013. It is strongly recommended that taxpayers, who owe income tax but do not file by June 15^th, pay their estimated tax balance due by said date, along with the filing of the extension. For the upcoming year, it is imperative that taxpayers pay estimated taxes on a timely basis in order to avoid estimated tax penalties. Under the IRS electronic filing system (EFTPS), our office can assist you in setting up automatic payments of your estimated taxes to the IRS via withdrawal from your U.S. bank account.

Tax Retirement Plans/Required Minimum Distributions (RMD) The tax law gives taxpayers 60 days to rollover an eligible rollover distribution tax free to a traditional IRA. Income tax and possible penalties will apply if the 60 day rollover period is not met.  Once you reach age 70.5 you generally must begin to withdraw funds from traditional IRAs on an annual basis and pay the required income tax. The amount of the RMD is calculated by using IRS life expectancy tables. 

"First Time" Homebuyers may still make an IRA withdrawal of up to $10,000 if single, and $20,000 on a jointly filed tax return ($10,000 for each spouse’s account) and still not be subject to the 10% early withdrawal penalty. The penalty will generally not apply if the funds are used within 120 days to buy, construct, or reconstruct a personal residence. In addition, there are other situations, such as for medical or educational reasons when penalties may also be avoided.

The American Opportunity/Hope Credit can be claimed for qualified tuition and related expenses for any of the first four years of post secondary education. The credit is up to $2,500 for those paying $4,000 or more in qualifying expenses for an eligible student. Forty percent of the credit is refundable which allows a taxpayer to receive up to $1,000 cash back for each eligible student even if no income tax is due. You cannot claim the credit and the tuition and fees deduction in the same year. The credit is generally available for U.S. universities and for certain foreign universities. Phase outs apply, so check if this valuable credit applies to you. 

Corporations are excellent tax planning vehicles, especially for taxpayers working outside Israel and in light of Israeli tax reform. "C" Corporation tax rates are 15% on taxable income up to $50,000, 25% from $50,001 - $75,000 and 34% from $75,001 - $100,000, with higher rates for higher taxable incomes. "S" Corporations, Limited Liability Companies ("LLC's") and certain Trusts are called pass-thru entities. Your pro-rata share of the entity's income must be reported on your personal income tax return and is taxed at your individual income tax bracket.