Welcome to ELLS' Newsletter Articles

1. Cafeteria Plans
2. Important Definitions Concerning Daily Overtime Law AB60
3. Protecting Your Estate Taxes by Filing Gift Tax Returns in a Timely Manner
4. The Mark-to-Market Method of Accounting for Securities Trading
5. The "Wash Sale" Rule Regarding Securities Trading
6. Trader vs. Investor in the Eyes of the IRS
7. Glossary of Estate Planning Terms
8. Putting Up the For Sale Sign --- Ways Your CPA Can Support You Through the Process of Selling your Business
9. Tax Smart Strategies for Handling Capital Gains --- When to Get Your CPA Involved in "Smart Tax" Investing
10. More To Your Credit
11. If You Don't Have a Disaster Plan in Place, Make it a Priority to Develop One
12. Business Planning Goes Hand-in-Hand With Tax Planning
13. Tax Comparisons of 529 & Education Savings Plans
14. Loss Prevention Through Internal Control
15. New Retirement Distribution Rules A Better Deal for Everyone
16. Coping with Paid Family Leave in California NEW!

01. Cafeteria Plans

Cafeteria plans are employer-sponsored benefit packages that offer employees qualified benefits which include medical, disability, and other accident or health plan coverage, group term life insurance, coverage under a dependent care assistance program and/or coverage under a Section 401(k) plan. The plan may include employee salary reduction arrangements to be applied to the benefits, contributions from the employer available as a supplement to the normal salary, or a combination of both.

The amounts an employee contributes to the cafeteria plan are deducted from the employee's gross income for taxable wages. There are limits, set by the individual plan, as to the amounts that may be excluded from income of employees. Other limitations are legislated, for example, dependent child care assistance cannot exceed $5,000 ($2,500 for separate return by a married individual) during a taxable year. If the cafeteria plan includes medical benefits with a flexible spending plan (as many of them do), then any unused portion of the medical benefits deductions at the end of the year are forfeited.

Cafeteria plans are by definition a written plan and the employee contributions must be kept in a separate bank account in trust according to Department of Labor regulations. A separate written plan is required for dependent care assistance programs.

The task of administering a cafeteria plan is fairly uncomplicated once the plan is written up and presented to the employees. The employee pays for his/her childcare and health expenses, or other qualified benefits, and then submits a form for reimbursement from the company. The company may include reimbursement in the employee's regular paycheck or may choose to make a separate check to the employee.

For more information about how to set up a cafeteria plan for your employees, or for details about the annual reporting requirements for cafeteria plans, please contact your tax advisor.

02. Important Definitions to Understand Concerning AB60 - Daily Overtime Law

An understanding of the following legal definitions of the terms below will help you avoid serious errors in payroll calculations.

WORKDAY

A workday is not simply the hours an employee normally works (that is, 8 am to 5 pm, Monday thru Friday). A workday is defined as any consecutive 24-hour period starting at the same time each calendar day. The workday may begin at any hour of the day. Unless an employer specifically designates another starting time (that is, 4 p.m.) the state Labor Commissioner will presume a workday of midnight to midnight.

Employers may define different workdays for different groups of employees. Once a workday is defined, it must stay consistent and unchanged for that employee until there is a legitimate business reason for a change. Daily overtime is based on the number of hours worked within a single workday.

Example: An employee on a traditional midnight to midnight workday could work 16 hours straight without being paid overtime, if she worked 3:30 p.m. to midnight and then continued her work from midnight to 8:30 a.m. (assuming a half-hour unpaid meal period in each "workday").

WORKWEEK

A workweek means any seven consecutive 24-hour periods, starting on the same calendar day each week. Unless an employer specifically designates another workweek, the Labor Commissioner will presume a workweek of Sunday thru Saturday. Like the workday, the workweek can be different for different groups of employees but should remain consistent and unchanged unless there is a legitimate business reason for a change.

The definition of workweek becomes extremely important when calculating overtime under the seventh-day rule, because this rule applies only on the last day of the employee's defined workweek, not simply any time an employee works 7 days in a row.

Example: In a Sunday thru Saturday workweek, the seventh day rule will only apply on Saturdays. If an employee works Wednesday thru Tuesday, Tuesday would not count as the seventh consecutive day in that "workweek."

STRAIGHT TIME HOURS

Only hours worked at straight time apply to the weekly 40-hour limit. This prevents an employee earning overtime on top of overtime already paid. Once an employee has been paid overtime for hours over 8 in a day, those overtime hours do not count toward the weekly 40-hour limit.

Example: An employee works 10 hours each day Monday thru Thursday, and is therefore owed 8 hours of straight time and 2 hours of overtime for each of those days. When that employee comes in on Friday morning, although she actually already has worked 40 hours in the workweek, she has only worked 32 hours of straight time and does not begin earning weekly overtime until she works 8 more hours.

REGULAR RATE OF PAY

The regular rate of pay is not simply an employee's normal hourly amount. The regular rate must include all forms of pay received by that employee, including commissions, bonuses, piece work earnings and value of meals and lodging. Overtime is based on the employee's regular rate of pay including all these forms of payment.

03. Protecting Your Estate Taxes by Filing Gift Tax Returns in a Timely Manner

If a person gives more than $10,000 (in cash or property) to someone during a single year, they normally must file a gift tax return by April 15th of the following year to report (and in a few cases, pay taxes on) the gift. Because most people give far less than this amount, few individuals are required to file a gift tax return. However, a change in the law a couple of years ago, plus the recent issuance of new guidance from the IRS, now means some people should file a gift tax return even though their gifts don't exceed the $10,000 limit.

For gifts made after August 5, 1997, the tax law requires adequate disclosure of a gift on a gift tax return before the 3-year statue of limitations begins to run for that gift. You want the statue of limitations to run because once the 3 years is up, the new rules prohibit the IRS from revaluing the gift when determining any future liability for gift or estate tax. In the past, the IRS had been known to revalue gifts many years after they were made (often on the donor's estate tax return where the revaluation dramatically increased the tax rate that applied to the donor's remaining property owned at death.)

The good news is that even with the change in rules, most gifts still do not need to be reported. For example, it's unnecessary to report gifts of cash, publicly traded stocks or mutual fund shares, or other easily valued property as long as they and any other gifts to the same person don't total more than $10,000 for the year. However, gifts of interests in closely held businesses, real estate, and other hard-to-value assets, plus gifts on which a valuation discount is claimed, probably should be reported on a gift tax return even if total gifts to that particular donee are no more than $10,000 for the year. The values assigned to these latter types of gifts are the ones most likely to be challenged by the IRS. Thus, it's important to limit the period during which the IRS can challenge such a gift to the 3 years provided by law.

04. The Mark-to-Market Method of Accounting

The mark-to-market method of accounting is not automatic for securities traders. The securities trader who elects to have the mark-to-market rules apply to the trade or business:

. . . . recognizes gain or loss on any security held in connection with the trade or business at the close of any tax year as if the security were sold for its fair market value on the last business day of the tax year; and

. . . . any gain or loss is taken into account for the tax year. Any gain or loss recognized by an electing taxpayer is ordinary gain or loss.

The mark-to-market election can by made without the consent of the IRS. Once made, the election applies to the tax year for which made and all later tax years unless revoked with IRS consent.

The IRS has very specific rules as to when you can make the mark-to-market election. If you are seriously considering this election as part of your future tax planning, be sure to call your ELLS tax advisor at (714) 569-1000.

05. The "Wash Sale" Rule

A typical scenario . . .

An investor believes that the reduction in the value of a particular stock he holds is temporary. He plans to sell the stock at a loss to offset other realized gains and then repurchase the investment at the now lower price. This strategy not only lowers the cost basis of the stock, but it also saves him current taxes (assuming the loss is deductible).

However . . .

The tax law prohibits taking a loss on the sale of stock and other securities if the taxpayer has purchased, or entered into a contract to purchase the same stock or securities within 30 days before or after the sale (creating a 61 day period). The provision is called the "Wash Sale" rule.

The "Wash Sale" provision has been applied broadly. For example, a loss will be disallowed if a taxpayer sells a security and it, or a "substantially identical security" is purchased within the 61 day period by their spouse. However, acquisitions by gift, bequest, inheritance or tax-free exchange within the 61 day period will not trigger the "Wash Sale" rule.

Clearly "Wash Sales" add further complexity to tax planning. If you think the "Wash Sale" rule may apply to a transaction you are considering, be sure to discuss it with your ELLS tax advisor before initiating the trade. It is important to properly plan capital transactions to get the full advantage of the favorable long-term capital gains rate, as well as a deduction for capital losses upon sale of a stock.

06. Trader vs. Investor in the Eyes of the IRS

Investing vs. Trading

The word "trader" isn't defined in the Internal Revenue Code or the regulations. When we look at the court cases for the meaning, we find various principles or rules that are used to distinguish between traders and investors. The purpose of these rules is to determine whether your activities rise to the level of a "trade or business."

It is not a requirement that you trade someone else's money in order to qualify as a trader. Generally speaking, traders receive their profits from short-term swings in market prices. A trader is someone who buys and sells frequently. If a significant amount of your income is long-term capital gain, chances are that you're not a trader. Similarly, a significant amount of dividend income indicates investor status rather than trader status.

Are You a Trader?

The court cases indicate that you're a trader only if two things are true. First, your market activities must be the type normally considered trading, not investing. And second, you must devote sufficient time and effort to the activity, and engage in a large enough volume of trades, to qualify your activity as a trade or business. Either one of these alone doesn't make you a trader.

There are some good reasons you might want to consider taking the time and making the effort to turn your activity into a business and become a trader. Traders gain certain tax advantages over investors. Very briefly:

• Expenses that would otherwise be treated as miscellaneous itemized deductions, subject to a 2% floor, become business expenses on Schedule C.
• Interest expense associated with the activity is business expense, not subject to the investment interest limitation.
• Certain other deductions that aren't available to investors may be allowed to a trader, such as a home office deduction.
• Traders have the option of electing mark-to-market accounting, which can have favorable consequences: elimination of the wash sale rule, and converting gains and losses to ordinary income or loss so the $3,000 loss limitation doesn't apply.
• Unless the mark-to-market election is in force, traders report gains and losses on Schedule D just like investors, but they report expenses on Schedule C. Traders don't pay self-employment tax, nor can they use their income to contribute to an IRA or retirement plan.

07. Glossary of Estate Planning Terms

• Administrator: Person appointed by a court to manage the estate of a person who dies without a Will.
• Beneficiary: A person designated to receive the income, principal or proceeds of a trust, estate, insurance policy or retirement plan.
• Charitable Trust: A trust having a charitable organization as a beneficiary.
• Corporate Fiduciary: An institution that acts for the benefit of another. One example is a bank acting as trustee.
• Estate Tax: The tax paid by the administrator or executor of a person's estate out of the estate's assets.
• Executor (or personal representative): Someone appointed by a person in a Will to carry out the Will's provisions. A "co-executor" acts as executor with another or others.
• Fiduciary: A person in a position of trust or confidence. The fiduciary is bound by a duty to act in good faith. Examples: trustees, executors, and administrators.
• Future Interest: A property interest which cannot be currently possessed, used, or enjoyed.
• Gift Tax: Tax on gifts generally paid by the person making the gift rather than the recipient.
• Gift-Tax Annual Exclusion: The provision in the tax law that exempts the first $10,000 (as adjusted for inflation) in present-interest gifts a person gives to each recipient during a year from federal gift taxes.
• Gross Estate: The total value of an individual's property for estate-tax purposes.
• Guardian: A person legally appointed to manage the rights and/or property of a person incapable of taking care of his or her own affairs. A "guardian ad litem" is appointed by the court to prosecute or defend an action for a minor. Also known as a "conservator."
• Heir: A person entitled to inherit a portion of the estate of a person who has died without a Will.
• Interest: Any right in property.
• Intestate: Dying without a Will.
• Joint Ownership: The ownership of property by two or more persons, usually with the right of survivorship.
• Life Insurance Trust: A trust that has the proceeds of a person's life insurance policy as its principal.
• Living Trust: A trust that goes into effect while the trust creator is still living.
• Power of Appointment: The authority given by one person to another under a trust agreement of Will to decide who will receive and enjoy an interest in property.
• Power of Attorney: A document which authorizes a person to act as another person's agent.
• Probate: The proving of the validity of a Will.
• Probate Court: A court with the power to probate Wills and settle estates.
• Probate Estate: Those estate assets which fall within the jurisdiction of the probate court before being transferred to another person. Life insurance proceeds, for example, are not generally part of the probate estate.
• Successor Trustee or Executor: An individual or institution which takes the place of a trustee or executor who can no longer hold office.
• Testator: A person who makes or has made a Will.
• Testamentary Trust: A trust established in a Will which begins after the testator's death.
• Trust: A legal relationship where property is transferred to and managed by another person or institution for the benefit of another person.
• Trust Agreement: The document which creates a trust and establishes the rules which control the trust's management.
• Trustee: The person or institution entrusted with the duty of managing property placed in the trust. A "Co-trustee: serves as trustee with another. A "Contingent trustee: becomes trustee upon the occurrence of a specified future event.
• Unified Credit: A federal tax credit which offsets gift-tax and estate-tax liability. In 1999 the tax credit is equivalent to the estate tax on $650,000 of assets and is being increased annually to cover assets of $1 million in 2006.
• Will: A legally executed document that explains how and to whom a person would like his or her property distributed after death.

08. Putting Up the For Sale Sign (Ways Your CPA Can Support You Through the Process of Selling Your Business)

Selling your business can be the largest financial transaction you will make. The decision to sell your business can involve a range of feelings from euphoria to depression. But, for whatever reason you've decided to sell, from that point forward you have a process to complete to make it a successful transaction. The earlier you begin this process, the sooner your business will be ready for sale.

PLANNING

The most important thing you can do to make sure that you can eventually leave the company, is to make sure your management team is able to carry on the business without you. Demonstrate that your managers can handle the day-to-day operations in a competent and profitable manner. Next, exercise legal due diligence. For instance, have the minutes from your annual Board of Director's meeting prepared by a law firm instead of doing them in-house. Seldom do in-house minutes stand up under the scrutiny of a potential buyer. Along this same line, review your contractual obligations to make sure everything is in order, renewals have been issued and signed, all required signatures have been obtained, etc., and have them reviewed by your lawyer. Finally, review your Estate Plan and any other financial instruments you own that might be impacted by the sale of your business. Get advice on how you want to receive payment for the sale of your business to maximize your return on investment and minimize your tax liability.

PREPARING

Have timely compiled financial statements, at least quarterly, for 3 years prior to putting your business up for sale. Have a reviewed financial Statement prepared annually for each of these same 3 years.

CRITICAL: Assemble a team for the purpose of selling your business. Minimally, this team should include a corporate lawyer, your accountant, and an investment banker/broker who will present your company to potential buyers.

Also, take this opportunity to analyze your internal systems as if you were seeing them for the first time. Are you operating efficiently? What areas need improvement? Who is going to make the required changes?

You also want to dispose of excess and obsolete inventory, furniture and equipment that has no useful purpose or book value. Remember to invest in the quality of your employees.

Your business is valued on a formula that is based on your EBITDA or:

• Earnings Before Interest
• Taxes
• Depreciation
• Amortization

PERFORMING

Work closely with your team members at every step in the selling process. Keep lines of communications open and make sure everyone receives important information in a timely manner. It is extremely important that you obtain the consent of all of your team members before signing any legal documents such as letters of intent, professional agreements, contracts, leases, etc. Focus on the unique qualifications of each of your team members and respect their areas of expertise.

Ways your CPA can support you through the process of selling your business

When a business owner decides to sell his/her business, the most frequently asked question is, "How much money will I end up with?" or, in tax lingo, what is the net after tax computation? Your CPA can unravel the puzzle and come up with a "Is It Worth It?" figure for you.

How you structure the sale can make a significant difference in how much money you keep and how much you send off in taxes. From the first thought of selling your business, you want to work closely with your CPA.

The partners at ELLS have recently been involved with several of our clients in successfully structuring the sales of their businesses. Our involvement includes negotiating favorable terms, identifying and capturing the best tax position, and reviewing the final sale documents to be sure all elements have been incorporated. If you're considering selling your business, be sure to call the experts at ELLS for advice.

09. Tax Smart Strategies for Handling Capital Gains (When to Get Your CPA Involved in "Tax Smart" Investing)

Timing is everything, especially when you're talking about capital gains taxes. Investors, distracted by the adrenaline rush of buying and selling in a Bull market, can cost themselves thousands of dollars by forgetting to include "tax smart" strategies in their financial objectives. This tax season particularly, we have seen the IRS ax fall on some otherwise savvy clients who overlooked some basic tax planning. If you take advantage of the suggestions below, as well as 401(k) plans and IRAs, you can limit how much of your gains go to the U.S. Treasury in the future.

Mutual stock fund managers are constantly trading securities, typically replacing 80% or more of their holdings each year. When these trades are profitable, they create short- and long- term capital gains. By law, funds must distribute these gains to shareholders, who in turn pay taxes at a rate of up to 39.6% for short-term gains and 20% for long-term gains. Buying into a mutual fund during the last quarter of the year creates a tax liability for the fund's sales from the last distribution date. Many funds distribute earnings 2 times a year (in July and December), but just as many only distribute once, in December. If the fund has made a lot of money in the buying and selling of stocks since the last distribution, then OUCH! You've got a whopping tax bill for a small return on your investment.

If you're dedicated to the mutual fund philosophy, then a better choice is to select an Indexed Fund or "tax managed fund" which are known for both their long-term performance as well as their high "tax efficiency" as these fund shareholders keep a higher percentage of their gains after paying taxes. Typically, these funds employ the strategy of buying and holding the stocks of whichever index they follow and have a much lower turnover than actively managed funds -- often 5% or lower annually. This translates into fewer realized capital gains and smaller taxable distributions to shareholders. Those gains the fund does have tend to be long term, which qualifies them for the lowest tax rates.

An alternative strategy might be to build your own tax shelter. All you do is buy stocks that have superior long-term prospects and pay little or no dividends, then hold on to them unless their prospects sour or you need the money. As a practical matter, this strategy involves buying growth companies, because they are less likely to pay taxable dividends.

When you do consider selling, keep the capital gains rules to the forefront. When you hold a stock at least a year and a day, any gain is taxed at the maximum long-term capital gains rate of 20% rather than at ordinary income rates of up to 39.6% not including state taxes.

Another tax-saving strategy is to do most of your short term trading in a tax sheltered environment such as an IRA, Keogh or 401(k) plan. We would never advise anyone to play fast and loose with retirement money, but funds in IRA or pension accounts are not taxed until distributions begin.

When to Get Your CPA Involved in "Tax Smart" Investing

Call your CPA before you call your broker or your Internet trading site. Investing is a cornerstone of accumulating and keeping wealth and to be successful, that involves expert tax planning. We're not in the business of recommending what stock to buy or when to buy it, but we can certainly offer you the best advice as to the tax consequences of your actions.

For instance, stock funds give up 15% of their returns, on average, to income taxes. We can translate that for you into dollars and sense. We can talk to you about diversification and considering tax-free municipal bonds in your portfolio.

Sometimes the tax smart thing to do is cash in on a capital loss. You don't want to "waste" this strategy by bad timing, and your CPA can position you for the most favorable tax advantage.

There are lots of options available to structure your Estate Plan for the seamless transfer of your holdings to your heirs. You definitely want to discuss your specific situation with your CPA.

Keep our number handy! (714) 569-1000. We're a valuable part of your long-range financial planning.

10. More to Your Credit

Remember the days of the tax shelter, when just around the corner there was an offer you just couldn't refuse? Until the IRS did, that is. And the walls came tumbling down. It's not likely those loopholes will ever open up again, but there are still very legitimate ways to protect your income and keep more of your net profit. They're called tax credits.

The Santa Ana Enterprise Zone (EZ) is a hotbed of tax credits. It's almost impossible to be in business in Santa Ana and not earn State tax credits, either for hiring a qualified worker or for buying certain types of communications equipment for use in your business (like computers, telephones, copy and fax machines). Hiring just one qualified worker in an EZ business can reap over $24,000 in tax credits over a 5-year period. If you're a manufacturer in the Enterprise Zone, there are even more opportunities to earn tax credits. But the Enterprise Zone isn't the only game in town.

The federal government offers the Work Opportunity Tax Credit (WOTC) program and the Welfare-to-Work program, both of which earn employers lucrative tax credits on their federal tax bill. Qualified workers for WOTC credits earn employers $2,400 in tax credits. The Welfare-to-Work credits can be as high as $8,500 over a 2-year period. Naturally, all employers are eligible to earn these credits if they meet the requirements of the federal programs.

California offers a Manufacturers Investment Credit (MIC) to any manufacturing company that purchases machinery or equipment (or replacement parts for machinery or equipment) within the state for use in the state. The credit is worth 6% of the purchase price, and it doesn't take a CPA to figure that 6% of a $100,000 piece of equipment shelters a tidy $6,000 from your tax bill.

Tax credits are just about the only "tax shelter" left. Unlike tax deductions which are worth only a percentage of their value, tax credits are worth 100% of their value: you subtract your credit from the amount of tax you owe after figuring out your taxes. If you have any questions, or would like to discuss your specific situation, call your ELLS tax advisor.

11. If You Don't Have a Disaster Plan in Place, Make it a Priority to Develop One

1. If you don't have a disaster plan in place, make it a priority to develop one.

2. "Disasters" come in all sizes: they can be widespread, such as an earthquake or major flood, or they can be singular, such as a building fire. Lack of a disaster preparedness plan can be devastating to a business or a family.

3. Ask your insurance agent out to lunch and get to know him/her. In a major disaster, a good relationship is all that will separate you from the dozens of other people calling for help.

4. While you're at lunch with your insurance agent, review your insurance policies and purchase additional coverage, if necessary. This will also serve to qualify the lunch as a legitimate business expense, something CPAs love to hear.

5. Designate a Regrouping Area in event of evacuation. Memorize and post it. Talk about it. Practice congregating there at least quarterly so everyone will remember.

6. Store copies of financial, personal, and insurance records in another, safe location. Remember to also store current back-up copies of business files such as inventory, personnel, payables, and receivables. Claims adjusters dwell on facts, not recall. Not to mention the IRS!

7. Develop a Plan B. Line up a backup business location and alternate vendors for critical supplies and equipment. Discuss the feasibility of moving in on friends or family who live in another location unlikely to be affected by the same widespread disaster.

8. Maintain a list of employees, customers, and vendor contact information. Have a copy in the office and one somewhere else. Make lists of friends and relatives and their phone numbers and addresses.

Why talk about a disaster when everything is great?

Because it's the best time to discuss it! Calmness and sensibility prevail and good decisions can be made. One of our roles as your financial advisor is to make every effort to position your business (and family financial health) for continued prosperity.

12. Business Planning Goes Hand-in-Hand With Tax Planning

In addition to services directly related to tax matters, ELLS offers business planning services to our business clients. A few of the areas that our clients look to us for guidance include:

1. Establishing a quality accounting and management reporting system.
2. Evaluating and selecting accounting hardware and software, installation, on-site training and support.
3. Assisting clients in determining financing requirements and in obtaining funding.
4. Analyzing profit sharing and retirement plans.
5. Evaluating and providing assistance in hiring financial personnel.
6. Designing a business succession plan.
7. Implementing a risk management program to protect your assets.

Our ELLS team understands the unique needs of growing companies. We recognize that as a business matures, updated strategies and systems are required to support this progress. There's no such thing as "business as usual" anymore! We work with our clients to identify the proper course of action and link those actions with the right strategies and processes for maximum impact.

Be sure to ask your ELLS advisor how we can add value to your business through our business planning services.

13. Tax Comparisons of 529 & Education Savings Plans

	Education Savings Account	Qualified Tuition Plans (529)
Contribution limits	$2,000 maximum annually per individual, starting in 2002.	Maximum depends on which state you select. (California accepts contributions until account balance reaches $115,622 to $165,886.)  Minimum contributions also may apply.
Age limit	Beneficiary must be younger than 18 at the time of contribution.	Generally no age limit.
After 2001, phaseout of allowable contribution begins at modified AGI of:	$95,000 (single filer); $190,000 (married, filed jointly).	Not applicable.
Are contributions deductible?	No.	Federal: No State: Not in California. In some states they are.
Penalty for excess contributions?	Federal: Yes, 6% for excess not returned by due date of taxpayer's return. State: No	Federal: No State: Imposed by plan if applicable.
May balance of account be rolled over to another family member?	Yes. The definition of a family member is expanded to include first cousins in 2002.	Yes. The definition of a family member is expanded to include first cousins in 2002.
Are there gift tax consequences?	Up to $10,000 a year in contributions is covered by the annual gift tax exemption.	Up to $10,000 a year in contributions is covered by the annual gift tax exclusion.  If contribution exceeds $10,000 it can be treated as if it were made over five years.
Are distributions taxable?	No, if used solely for qualified higher education.  Distributions in excess of qualified education expenses are taxable.	Federal: Before 2002, yes, but after 2001, qualified withdrawals are tax-free. State: Varies by State. California taxes them.
Penalty for not using distributions for education?	Yes, in general, subject to 10% penalty.	After 2001, yes.  Same as for education savings account.

Source: O.C. Register / Sunday, December 9, 2001 / H&R Block

14. Loss Prevention Through Internal Control

How much is lost to white collar crime? No one knows for sure, but estimates start at $40 billion a year. And most experts agree that the number is growing. Experts also agree that no company is immune to employee fraud, and in many cases, the companies that think they do not have a problem are the most likely targets of employee fraud.

Much of this loss is needless, for white collar crime can be prevented. One of the best defenses against it is a strong system of internal control. ELLS believes that effective controls can be maintained at reasonable cost by even the smallest of companies.

Internal controls are designed primarily to protect those assets that are most vulnerable to employee fraud. The most vulnerable asset is cash and controlling access to cash generally deserves the most attention. Non-cash assets that require attention generally depend on the nature of the company. Banks, insurance companies, and securities companies need strong controls over securities; retailers, wholesalers, and manufacturers need strong controls over inventories. Fraud involving non-cash assets, while less common than cash fraud, often produces larger losses.

The Golden Rule of Internal Control

Several internal controls stand out as singularly important. The controls ensure that a company separates three key responsibilities:

• transaction authorization
• collection or paying cash
• maintaining records of accountability

Separation is adequate when no one person can misappropriate assets or improperly record a transaction and escape detection. Proper separation divides responsibilities along natural lines, making it practical for even a small business. There is no excuse for its absence and there are good reasons for instituting effective procedures. We urge you to call your ELLS advisor today to request a risk assessment checklist to assist you when reviewing your internal controls.

15. New Retirement Distribution Rules A Better Deal for Everyone

Simplification has come to a small corner of the federal tax code which is important to those of you who have money in a traditional IRA or a tax-deferred retirement account and want to delay paying taxes on it for as long as possible.

The IRS has overhauled the required minimum distribution (RMD) rules that determine how much you must withdraw from a retirement account once you turn age 70 ½. The new rules:

• May let you keep more of your money growing on a tax-deferred basis,
• Give you the freedom to change your beneficiary after you reach age 70 ½ , and,
• Do away with the complex formulas that were required under the old rules to calculate your required minimum distributions.

In addition, distributions after death have been greatly simplified, as have beneficiary designations. For example, now the owner can change beneficiaries at any time without affecting the RMD calculations. In fact, the beneficiary designation doesn't become final for post-death RMD purposes until the end of the year following the year of the account owner's death. This creates opportunities for favorable estate planning after death. A named beneficiary now has the flexibility to "pass" part or all of a retirement account to children or grandchildren by "disclaiming" his or her interest in the account.

Becoming familiar with the new rules is of concern to heirs as well as to account owners, and can have far-reaching tax consequences. As with all changes, it's important to review the new rules to determine how they apply to your specific situation.

Be sure to call your ELLS tax advisor to set up an appointment. It isn't often the IRS gives you a break, so take advantage of this opportunity soon!

16. Coping with Paid Family Leave in California

As of January 1, 2004, California became the first state to provide Paid Family Leave. Senate Bill SB1661 made it the law. Benefits are payable for claims that begin on or after July 1, 2004 when the law takes affect.

Workers will pay the estimated $300 million annual cost of this legislation. Beginning in January 2004, the State of California will collect increased State Disability Insurance (SDI) contributions from employees in order to fund Paid Family Leave benefits. For 2004 and 2005, an employee’s SDI contribution will be raised to 1.18%. The taxable wage limit for 2004 will be $68,829 and the limit for 2005 will be $79,618.

Weekly benefits are 55% of an employee’s pay up to $728 a week. Benefits are administered by the California Employment Development Department (EDD). No more than six weeks of Paid Family Leave benefits may be received by any employee during any 12-month period. There is a 7-day waiting period before benefits are paid. In addition, employers may require that the employee use up to two weeks of vacation benefits prior to receiving Paid Family Leave benefits.

After July 1, 2004, employees are eligible to file claims for Paid Family Leave for the following reasons:

1. To care for a seriously ill child, spouse, parent or domestic partner,
2. To bond with a new child, or
3. To bond with a minor child in connection with an adoption or foster care or placement of that child.

Every company regardless of size must allow employees to take Paid Family Leave – even those employees who have been employed for less than 12 months. You cannot limit the number of employees who take Paid Family Leave at a given time. Workers at companies with fewer than 50 employees have no guarantee that their job will be there when they return to work. That doesn’t make it any less stressful for the small employer who depends on a daily, stable workforce to keep the doors open and customer service levels maintained.

Preparing for Paid Family Leave

The National Federation of Independent Business estimates it will cost an employer $5,000 per paid leave, per worker, including pay for temporary workers, training, and payroll system changes. Here are some planning strategies we recommend you take to offset some of these estimated costs.

1. Cross train employees, particularly in critical jobs.
2. Build your industry resources. Cooperate in job training programs to assure a continued supply of trained workers. Develop personal relationships with temporary agencies that serve your industry. Network within your industry to keep abreast of conditions.
3. Maintain contact with retired employees who are already trained and can be called upon to work in an emergency.
4. Streamline your payroll system to take advantage of any efficiencies you may be overlooking.

Call your ELLS advisor at (714) 569-1000 for help implementing any of these strategies.