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As the S&P 500 soared during the 90's, so did the
popularity of investing clubs. People enjoy participating in
investing clubs for many different reasons, but some of the most
common reasons are as follows:
Social: The opportunity to meet with friends
and associates on a regular basis
Educational: The opportunity to learn about
investing in stocks
Financial: The opportunity to make some money
through the club's investments
Don't Forget to File a Tax Return for the Club
While every member of an Investing Club generally focuses on which
stocks to buy, sell, or hold, one member should be put in charge of
making sure that the Club's tax return is filed each year with the IRS.
The penalties for not filing a tax return for your investing club are
substantial. The "Failure to File" penalty can run as high
as $50 per partner per month that the return is late, with a maximum
of $250 per partner. A 10 person Club that is more than five months
late filing the appropriate tax return could end up being hit with a
$2,500 penalty from the IRS. (If you get assessed this penalty,
try to fight it. If you can show "reasonable cause" the IRS
will waive most or all of the penalty.)
Since most Clubs are set up as partnerships, a Form 1065, U.S.
Partnership Income Tax Return, will most likely need to be completed
and filed each year. The due date for filing the Form 1065 is the
15th day of the fourth month following the end of the Club's fiscal
year. For a calendar year partnership, the due date is the same as
the due date for your tax return, April 15th.
On the Form 1065, you will need to report interest and dividend
income earned during the year, short-term and long-term capital gains
realized during the year, and investment expenses paid during the
year. Each of these items will be reflected on Page 3, the Schedule
K, of the Partnership tax return.
As a partnership, the Club will generally not be subject to income
taxes. Instead, each partner will be taxed on his or her portion of
the clubs income and deductions.
The Schedule K-1:
An important part of the Form 1065 is the Schedule K-1, Partner's
Share of Income, Deductions and Credits. You will need to complete a
Schedule K-1 for each partner which will reflect that partner's share
of interest, dividends, realized capital gains or losses, and
investment expenses. One copy of the Schedule K-1 will be submitted
to the IRS as part of the partnership tax return. A second copy
should be given to each respective partner. Each partner will use the
information from their K-1 when completing their individual tax return.
When completing your Form 1040, your share of interest and dividends
earned by the Club will flow through to the Schedule B, Interest and
Ordinary Dividends. Your share of realized capital gains will flow
through to the Schedule D, Capital Gains and Losses. And your share
of the Club's investment expenses and tax preparation fees will flow
through as a miscellaneous itemized deduction on the Schedule A,
Itemized Deductions. You should also complete Page 2 of the Schedule
E, and report the name and federal identification number of the
partnership where required.
The Section 754 Election:
The tax laws surrounding partnerships are quite complicated.
Fortunately for members of investing clubs, most of the complications
don't ever apply to them. There is one election that you should not
overlook, even though it might be difficult to understand.
Known as a 754 election, a partnership will make this election in a
year that one of the partners is bought out or dies. The best way to
explain the benefit of this election is through an example.
Assume you are a member in a ten person investing club. You and your
partners each put in $100 to get the Club going, and invest all
$1,000 in the stock of one company. The second month, you each put in
another $100, which does not get invested right away. Six months
later, the Club's one investment of $1,000 has appreciated to become
worth $9,000, and one of your partners wants to be bought out.
The partnership now has assets worth $10,000, an investment worth
$9,000 and $1,000 of cash. Each partner's interest, therefore, is
worth $1,000. You decide not to sell any of the stock, and instead
will use the $1,000 of cash to buy out your partner.
If you don't make the 754 election, the cost basis of the Club's one
investment will remain at $1,000, and you and your partners will be
taxed on the difference between the stock's selling price and the
$1,000 basis when it is eventually sold. If you do make the election,
the stock's cost basis of $1,000 will be increased by $800, the
difference between the leaving partner's allocable cost basis and the
allocable fair market value on the day of the buy-out ($9,000/10 -
$1,000/10). When the stock is ultimately sold, therefore, the
realized gain will be reduced by $800 if the 754 election was made in
a timely and proper manner.
Just by attaching a statement detailing the 754 election to the Form
1065 filed the year the partner is either bought out or dies, you and
your partners will pay less capital gains taxes upon the sale of any
stock owned at the time.
So, if you're a member of an investing club, have
fun, learn a lot, and make some money, but please don't forget to
file the Club's income tax return each year.
** Many investing clubs look to the National Association of
Investment Clubs (NAIC) for guidance and information on setting up
and running these type clubs. **
TO DO LIST FOR AUGUST, 2000
Saving and Investing
The due date for returns on extension is 8/15/00
Requests for 2nd extension, Form 2688, due 8/15/00
1999 & 2000 TAX FACTS
For 1999, the standard deduction for a single individual is $4,300
and for a married couple is $7,200. A person will benefit by
itemizing once allowable deductions exceed the applicable standard
deduction. Itemized deductions include state and local income taxes,
real estate taxes, mortgage interest, charitable contributions, and
unreimbursed employee business expenses. For 2000, the standard deduction for a single person
will be $4,400 and for a married couple will be $7,350.
- For 1999, the personal exemption is $2,750. Individuals
will claim a personal deduction for themselves, their spouse, and
their dependents. For 2000, the personal exemption has been
increased to $2,800.
- The maximum earnings subject to social security taxes
has been increased to $76,200 in 2000 from $72,600 in 1999.
- The standard mileage rate has been increased back to
$.325 per mile as of January 1, 2000 from a rate of $.31 per
mile as of April 1, 1999.
- The maximum annual contribution to a 401(k) plan or
a 403(b) plan has been increased to $10,500 in 2000 from
$10,000 for 1999.
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