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Testing & Audit Exceptions

Testing & Audit Exceptions


BY ISAAC CLARKE (PARTNER | CPA, CISA, CISSP) ON JANUARY 23, 2019

If you are reading this article, chances are that your auditor has told you that you have an audit exception or, even worse, multiple “audit exceptions.” Hearing that phrase strikes fear and panic into the hearts of many. While some of those reactions may be justified, I have found that many suffer more than necessary because they are not familiar with the vocabulary used in these discussions, do not really know what an exception is, or do not understand the audit process.This article will briefly summarize the purpose and process of an audit, define what audit exceptions are, and clarify what to look for when discussing the results of an audit.

Realizing that there are many types of audits, I will use SOC 1 or SOC 2 audits as the basis for this discussion. While other audits may be assessing different things and may have different types of exceptions, the basic principles and process described here can be applied across broad range of audits.

What is the purpose of SOC Audit?

System and Organization Control (SOC) audits are designed to provide an independent and objective assessment of a service organization to users of the services or system that the service organization provides. There are three things an auditor of the service organization is trying to determine:

  • Is the service organization’s description of its system and services accurate or presented fairly?
  • Are the controls described by the service organization suitably designed to achieve the related control objectives or criteria?
  • Did the controls described by the service organization operate effectively during the period covered by the assessment to achieve the related control objectives or criteria?

An auditor must gather sufficient evidence to evaluate and answer these questions with reasonable assurance to support the unqualified or qualified opinion to be written in the audit report. The process of gathering evidence is called auditing and will include a number of different activities.
For example, auditors may gather information by inquiring of appropriate personnel (management, supervisors, and staff); inspect documents and records; observe activities and operations being performed; and tests of controls. All of these activities used to gather and evaluate evidence are often referred to as audit procedures or audit tests.

What are Audit Exceptions? A Definition

Audit exceptions are simply deviations from the expected result from testing one or more control activities. Each control in a service organization’s description must be tested by an auditor to validate that the description is accurate and that controls are suitably designed and operating effectively to achieve the related control objectives or criteria. An auditor may use one or more tests to evaluate each control. As with any test, there are expected outcomes or responses.

Consider the following example that you might see in a SOC audit:

  • Control Objective: Controls provide reasonable assurance that statement processing is appropriately scheduled and that deviations in processing are identified and resolved.
  • Control Activity: Statement batch totals are used in order to identify and resolve deviations in processing.
  • Testing Performed: Inspected a sample of batches used to process statements and noted that batch control totals were used to help maintain the integrity of the statements processed.

Using this example, if an auditor performed this test and found that one or more of the batches selected for testing did not use batch control totals, as expected and indicated in the service organization’s description, the auditor would note a deviation. These deviations go by many names: audit exceptions, test exceptions, control exceptions, deficiencies, findings, misstatements, and so on.

The Cause & Nature Audit Exceptions

  • The identified exceptions are within the expected rate of deviation and are acceptable.
  • Additional testing of the control or of other controls is necessary to reach a conclusion about whether the controls related to the control objectives or criteria stated in management’s description of their system or services operated effectively throughout the specified period.
  • The testing that has been performed provides appropriate basis for concluding that the control did not operate effectively throughout the specified period.

What to Look for When Discussing Audit Exceptions in SOC Audit Results

Auditors have their own vernacular that may cause confusion and worries. I like to compare audits to taking a trip to the doctor’s office:

Imagine after suffering with an illness for a few days, you finally go in and see a doctor. The doctor visits with you, inspects you by doing a few checks personally, and may even orders a few tests (i.e., blood work) before coming back to share the prognosis at the conclusion of your visit. The doctor sits down in front of you and stoically shares that you are suffering from nasopharyngitis or acute coryza. You don’t necessarily know what that is, but it sounds horrible—much more serious than you had thought. In the moments after hearing the initial prognosis, your heart rate starts to pick up, you begin to sweat (if you weren’t already), and mind begins to race. Seeing your reaction, doctor quickly clarifies, “That means you’ve got a cold. You need to get some rest, stay hydrated, and take some pain medication.”

That’s kind of what it’s like when you are visiting with your auditors after an audit. You know there were a few exceptions, but you’re not sure what it means or just how bad is. Well, not all audit exceptions are created equal.

Types of Audit Exceptions

Audit exceptions can be intentional or unintentional, qualitative or quantitative, and include omissions. Auditors are required to make sure a service organization’s description is accurate and to include all design and operating deficiencies in the report—they no longer have discretion in determining whether or not to include exceptions.

There are three basic types of exceptions when it comes to SOC audits:

  • Misstatements: a misstatement is used to refer to an error or omission in the description of the service organization’s system or services.
  • Deficiency in the Design of a Control: a design deficiency is used when a control necessary to achieve the control objective or criteria is missing or an existing control is not properly designed, even if the control operates as designed, to achieve the control objective or criteria.
  • Deficiency in the Operating Effectiveness of a Control: an operating deficiency is used when a properly designed control does not operate as designed or when the person performing the control does not possess the necessary authority or competence to perform the control effectively.

As your instinct would suggest, an exception is not a good thing. However, having an exception does not necessarily mean that a control fails, nor does a control failure mean that an objective or criteria is not met.

It is actually quite common for a SOC report to have some exceptions. Some user entities and auditors reading an audit report actually like to see one or two exceptions in a report because it gives them some comfort that the auditor is doing a thorough job.

Review Audit Exceptions for Errors

It is important for you to review any audit exceptions. Auditors may mistakenly believe an error has occured because they:

  • misunderstood the documentation provided;
  • did not ask the right question; or
  • did not ask the right person.

Spending a little time with your auditors to understand the exceptions and confirming them internally can pay big dividends. In some cases, you will be able to find and provide the “missing” evidence to your auditors can clear the exceptions. In other cases, you may be able to identify another control activity that your organization performs that mitigates the risk. Often, the risk raised by an audit exception is mitigated by other controls within the environment.

Stay Diligent When Reviewing Audit Exceptions

Try not to get bogged down in the weeds when discussing audit results with your auditors. If there are control exceptions, ask them:

  • Does the exception constitute a control failure?
  • If there is a control failure, was it a design or operating deficiency?
  • Do any of the deficiencies that impact, in their opinion, the organization’s ability to meet their control objectives or criteria specified for the audit?
  • Do they feel that the exceptions or deficiencies, individually or collectively, could result in a qualified opinion on the audit?

These questions will allow you to understand just how bad the exceptions are. You don’t really need to worry about a variance that will be noted in the report, but is not considered a control failure. If a control has an exception, knowing if it is a design or operating deficiency will help you understand what type and level of corrective action is needed.

Qualified vs Unqualified Opinions

Another important pair of terms to keep straight when discussing audit results are ‘qualified’ and ‘unqualified.’ Unlike how most uses of these terms has ‘qualified’ as a positive term and ‘unqualified’ as a negative, auditors use them differently.

For example, I am qualified for a job. However, we auditors like to be different. So, your ultimate goal in audit is to get an unqualified or clean opinion. A qualified opinion is not good in that it means that there is at least one control objective or criteria that the auditor believes the organization was not able to achieve.

No matter how serious or not serious the exceptions may be, remember to always ask your auditor what they might recommend that you do to correct the exception(s) going forward.

Conclusion

Hopefully this blog helped you better understand the purpose and process of an audit, what audit exceptions are, and clarified what to look for when discussing the results of an audit

2020-01-10 05:35:25

SOC 1 & SOC 2

SOC 1 & SOC 2


What is SOC 1
A SOC 1 (Service Organization Control 1) report gives your company’s user entities some assurance that their financial information is being handled safely and securely. The SOC 1 report was previously called the SAS 70 (Statement on Auditing Standards 70) and was eventually replaced by the Statement on Standards for Attestation Engagements no. 16 (SSAE 16). SOC 1 offers both Type 1 and Type 2 (also written as “Type ii”) reports. A Type 1 report demonstrates that your company’s internal financial controls are properly designed, while a Type 2 report further demonstrates that your controls operate effectively over a period.

What is SOC 2
SOC 2 is a framework to help service organizations demonstrate their cloud and data center security controls. After organizations started using the SAS 70 as a way to measure the effectiveness of an organization’s security controls, the SOC 2 was developed as a report focused only on security. The SOC 2 is rooted in criteria called the Trust Services Principles (renamed to Trust Services Criteria in 2018), which the AICPA (American Institute of CPAs) defines as:

  • Security - systems and data need to be protected against unauthorized access and anything that could compromise their confidentiality, integrity, availability and privacy.
  • Availability - systems need to be available for use and operation.
  • Processing integrity - system processing must be timely, accurate and authorized.
  • Confidentiality - information delegated as confidential needs to have appropriate protections.
  • Privacy - any personal information collected must be used, retained, disclosed and disposed of appropriately.

Similar to SOC 1, the SOC 2 offers a Type 1 and Type 2 report. The Type 1 report is a point-in-time snapshot of your organization’s controls, validated by tests to determine if the controls are designed appropriately. The Type 2 report looks at the effectiveness of those same controls over a more extended period - usually 12 months.

When to Get SOC 2 Certification

Your organization should pursue SOC 1 if your services impact your clients’ financial reporting. For example, if your organization creates software that processes your clients’ billing and collections data, you are affecting your client’s financial reporting, and thus a SOC 1 is appropriate. Another reason organizations pursue SOC 1 vs SOC 2 is if their clients ask for a “right to audit.” Without SOC 1, this could be a costly and time-intensive process for both parties, especially if several of your clients ask to submit a similar request. You may also need to comply with SOC 1 as part of a compliance requirement. If your company is publicly traded, for example, you will need to pursue SOC 1 as part of the Sarbanes-Oxley Act (SOX).

SOC 2, on the other hand, is not required by any compliance framework, such as HIPAA or PCI-DSS. But if your organization doesn’t process financial data but processes or hosts other types of data, SOC 2 makes sense. With today’s business climate being extraordinarily aware and sensitive to data breaches, your clients may want proof that you are taking reasonable precautions to protect their data and stop any leaks. We built an open source template for SOC 2 teams.

The choice to pursue SOC 1 vs SOC 2 depends on your organization’s situation. One critical determining factor when choosing between SOC 1 or 2 is whether your organization’s controls would affect your client’s internal control over financial reporting. You may want to engage with an audit firm to determine which SOC type (or both) is the right fit for your organization.

In certain circumstances, it may be appropriate for companies to obtain both a SOC 1 and a SOC 2 report. Typically, this occurs when a company has multiple service offerings – one service may involve processing financial information on behalf of clients (payment processor) and another service may be more focused on the storage or transmission of sensitive client data (cloud-based data storage). In this case, getting both reports from the same CPA firm can go far to lessen the financial burden on you while ensuring you have advice from a trusted provider who knows your organization.

2020-01-10 05:33:59

How Bad is a Qualified Report? Understanding SOC Report Opinions

How bad is a qualified report? This question comes up almost every time a qualified auditor report is issued to a service organization. The person(s) asking this question is usually comparing a qualified service auditor’s report (SOC 1 or SOC 2) to a going concern opinion on a financial statement audit. Both are concerning but how do they differ? What is the difference between a qualified SOC report and an unqualified SOC report? What are the types of opinions a SOC report can receive? In this post, we will cover these questions in order for users to better understand SOC report opinions.

What Type of Audit Reports Have These Opinions?

The types of audit reports and the associated opinions we will be discussing in this post are SOC 1 (formerly SSAE 16) and SOC 2 Reports.

  • A SOC 1 report (f. SSAE 16) is an opinion issued on the service organization’s internal controls over financial reporting.
  • A SOC 2 report is based on the AICPA’s Trust Services Principles.
  • A Type I SOC report is issued stating that a service organization’s controls are designed effectively at a point in time.
  • A Type II SOC report is issued stating that a service organization’s controls are designed AND operating effectively for a specified period of time.

For further information regarding SOC Report Types refer to our article, SOC Report Types: Type I vs Type II.

What are the Four Types of Audit Opinions?

The four types of opinions SOC reports can be issued with are; unqualified, qualified, disclaimer, and adverse opinions.

A disclaimer opinion typically means that the service auditor was unable to issue an opinion as they were limited by the service organization in the information they requested or procedures performed.

An adverse opinion is the worst opinion that can be issued. An adverse opinion indicates that the users of the SOC report can not place any reliance on the service organization’s system.

In both cases, the user may want to communicate with their service provider to better understand the circumstances that drove the service auditor to issue these opinions and possibly switch service providers. Continue reading for information on what an unqualified report opinion and a qualified report opinion means.

What is an Unqualified Report?

What does it mean when your SOC report has an unqualified opinion?

An unqualified opinion indicates that the controls tested as part of the report appear to be designed (Type I or II) and operating (Type II) effectively. An unqualified opinion doesn’t mean there were no issues/exceptions identified by the service auditor.

An unqualified report can have issues identified by the service auditor in the testing they performed. If issues were identified but the report was unqualified, then the service organization and their auditors were able to mitigate and/or remediate the risks presented by the issues and the control was deemed effective despite these issues.

By issuing an unqualified report with issues, the service auditor did not believe that the issues identified resulted in a material weakness in the control environment. The user of the report will still want to understand the issues identified, but with an unqualified report opinion, the service auditor’s opinion is that the user of the report can place reliance on the service organization’s system.

What is Meant by a Qualified Audit Report Opinion?

If a SOC report is issued with a qualified opinion, it indicates that a control or controls were not designed (Type I or II) and/or operating effectively (Type II).

A qualified report indicates that issues identified in the report were significant enough to deem one or more controls ineffective. Qualified report opinions are actually quite common and they are not considered as severe as an adverse or disclaimer opinion.
What does it mean for the user obtaining a qualified SOC report from their service provider? A qualified SOC report does not mean that you can not rely on the report at all. The control objectives in the report that are designed and/or operating effectively can still be relied upon in most cases. It is the control(s) with deficiencies that will need further work on the part of the user.
For financial statement purposes, a client’s external auditor may be able to perform additional testing on secondary controls at the user level to mitigate the risk presented by the ineffective control(s) in the SOC report. It will depend on the user of the report to examine the services rendered by the organization and the controls they have in place at their organization to determine how much, if any, reliance will be placed on a qualified report.
For further information regarding qualified audit opinions and how they affect organizations, refer to our article, SOC Qualified Opinions & What they Mean for Your Organization

How is a Going Concern Opinion Different From a Qualified Report?

A going concern opinion often means the organization is in financial peril and may meet its demise very soon.
However, a qualified opinion on a service auditor’s report is more akin to a material internal control weakness disclosure for SEC registrants who have to issue such disclosures for Sarbanes-Oxley Act purposes. A qualified opinion in a service auditor’s report could be described as similar to a significant deficiency or material weakness in internal control disclosure.
All should be avoided by management. Though the going concern opinion is the worst of the opinions just described.

Summary There are four different opinions that can be issued with a SOC report; unqualified, qualified, disclaimer and adverse. Though a qualified report opinion is not ideal, many service organizations issue a qualified report at some point in time, especially in their first year of issuing a SOC report.
A qualified report is not the worst case scenario when issuing a SOC report, but a service organization should strive to obtain an unqualified opinion. An unqualified report does not indicate that no issues were identified, but rather that the service organization’s controls are designed (Type I or II) and operating (Type II) effectively.
Regardless of the opinion issued with the report, it is up to the user of the report to determine how the results of the report affect the services being provided to them

2020-01-10 05:33:01

Do You Need a SOC Audit? Three Tips for Determining Your Reporting Needs

Do You Need a SOC Audit? Three Tips for Determining Your Reporting Needs


In recent years regulators have transitioned toward control reporting standards that are more specific to the service offering provided by the service organization. Enter SOC 1 (formerly SSAE 16). SOC, or Service Organization Control audits, serves as a way to create more value, transparency and awareness within service organization reporting.
Within the framework, there are three types of SOC audits to choose from, the right one for you depends on the nature of your industry. The main difference is that SOC 1 reports on the controls of the service organization that are related to its client’s financial reporting, while the SOC 2 and 3 report on the effectiveness of controls related to compliance or operations. So how do you determine which (if any) report is right for you? Here are a few questions you can ask yourself to determine your reporting needs.

1. Does Your Company Provide a Service That Affects the Financial Statements of Another Company?

The main question to ask yourself in order to determine whether or not your company will need an SOC 1 audit is, Do we provide a service that affects the financial statements of another company? If the answer is yes, then the SOC 1 report is probably necessary for your company. Collections agencies, payroll administrators and fulfillment companies are a few specific examples of the types of businesses that may require an SOC 1 report.

2. Does Your Company Provide a Service That Affects Compliance and Operational Controls?

With technology advancing at the speed of light, there are more and more technology-based organizations popping up all the time. If your organization works with clients in any of the following categories, chances are you will need the SOC 2 report:

  • Security - The system is protected against unauthorized access
  • Availability - The system is available for operation and use as committed or agreed upon
  • Processing Integrity - System processing is complete, accurate, timely and authorized
  • Confidentiality - Information designated as confidential is protected as committed or agreed upon
  • Privacy - Personal information is collected, used, retained, disclosed and/or destroyed in accordance with established standards
    The SOC 2 report offers service organizations a way to create a separate report specific to systems not related to financial reporting. Data centers, I.T. managed services, software as a service vendors and other cloud-computing based businesses are a few examples of organizations that typically require the SOC 2 report.

Does Your Service Organization Wish to Keep the Details of Your Controls Confidential?

If you’ve determined that your organization requires the SOC 2 report, there’s a chance you could take advantage of the SOC 3 report instead. The SOC 3 report serves the same purpose as the SOC 2 report, however it doesn’t require a detailed description of the operations- or compliance-related controls, and the distribution of the report is not restricted. A company’s SOC 3 can be reviewed by anyone who would like confidence in the controls of your organization.

Each report serves a unique, specific purpose, and can be very valuable to a service organization. In today’s business world, relationships are built based on trust. Establish this critical foundation early with the appropriate reporting system in place right from the start.

2020-01-10 05:31:06

What is Residential Status in India?

What is Residential Status in India?


Our government can collect taxes only from the income generated in India or the income generated from or through the people of India.
Most of the people believe that they are residents of India because they were born here. But, many of them travel outside of India for work. Similarly, people from all over the world come to India.
So, from tax liability point of view, it becomes very confusing whether a person should pay taxes to the Indian Government or Foreign Government. To rest all these confusions , the Income Tax Department has made a standard rules for collection of taxes. These depend on the “Residential Status” of a person.

From income tax point of view, there are normally two categories of residential status in India:

  1. Resident
  2. Non-Resident

Resident is further classified into two sub parts,

  1. Ordinary Resident
  2. Not Ordinary Resident

Depending upon the residential status, the tax department collect taxes from the person. Since the Residential Status may differ from year to year, it is important to be determined every year.

Before, we get into details of understanding the tax liability. Let’s first understand the residential status in detail.

Understanding the Residential Status :

  • Resident Indian

When does a person becomes Resident in India?
Upon fulfilling “ANY ONE” of the following two conditions (known as basic conditions), you are said to be the resident in India for the concerned Financial Year (1, April-31st March of next year). These conditions are:

  1. You have stayed in India for 182 days or more during the relevant financial year;

  2. Or
  3. You have stayed for 60 days or more during the financial year and a total of 365 days or more during 4 years immediately prior to that financial year.

Example to Explain Residential Status in India:-

i) Bill Gates stayed in India from 01st April 2017 to 31st July 2017 and again from 01 September 2017 to 30 November 2017. Is he a Indian resident for the financial year 2017-2018?
Solution: Total no of days = 30 (april) + 31 (may) + 30 (june) + 31 (july) + 30 (sept) + 31 (Oct) + 30 (Nov) = More than 182 .Since Mr. Bill gates stayed in India for more than 182 days he is said to be Resident in India for financial year 2017-18.

Bill Gates stayed in India from 01 April 2017 to 31 July 2017 and from

  • 01 September 2013 to 30 November 2013
  • 01 September 2014 to 30 November 2014
  • 01 September 2016 to 31 March 2017

Is he a Indian resident for the financial year 2017-2018?

Solution:

Mr Bill gates stayed in India : In F.Y. 2017-18 Period of Stay= 122 days(30+31+30+31) and Prior Financial Years =

 

Prior Financial Years Period Of Stay No of Days Stay
F.Y. 2016-17 01 September 2016 to 31 March 2017 30+31+30+31+31+28+31 =212 Days
F.Y. 2015-16 No Stay =0
F.Y. 2014-15 01 September 2014 to 30 November 2014 =30+31+30 =91 Days
F.Y. 2013-14 01 September 2013 to 30 November 2013 =30+31+30 =91 Days
TOTAL   =30+31+30 =91 Days

Condition (i) = 122 Days (You have stayed for 60 days or more during the financial year)
and
Condition (ii) = 394 Days( A total of 365 days or more during 4 years immediately prior to that financial year)
Thus, he is said to be Resident in India for financial year 2017-18
But, in some cases the 2nd condition mentioned above (60 days & 365 days) doesn’t apply.

Exception to the Second Condition in case of Resident Indian :

The 2nd condition mentioned above (60 days & 365 days) doesn’t apply in case of

“Thus in these cases, only if you stay in India for a period of 182 days or more in the Financial year, you are said to be the Resident of India”

  1. An Indian citizen who has left India for the purpose of employment in foreign or a crew member of an Indian ship, OR
  2. An Indian Citizen or person of Indian origin who comes to visit India

Examples of residential status of an individual

Miss Priyanka Chopra went to work outside India for first time.

  • She stayed in India from 01 April 2017 to 31 October 2017.
  • She stayed in India from 01 April 2017 to 31 May 2017

Is she an Indian resident for the financial year 2017-2018?

Solution:

  1. Miss Priyanka Chopra stayed in India for 214 Days(at least 182 days ),she is said to be Resident in India for financial year 2017-18.
  2. Miss Priyanka Chopra stayed in India for 61 Days(at least 60 days ),she is NOT said to be Resident in India for financial year 2017-18 , since she left India for work . Therefore,
  3. only the first condition for determining the residential status would be applied.
  4. Non Resident Indian(NRI)

When does a person becomes NRI in India?

If “NONE” of the above-mentioned basic conditions (365 or 60 days) are fulfilled, then you are said to be Non-resident in India.
Example:- Bill gates came to visit India on 26 January 2018, the republic day ceremony in India.
Solution: Bill Gates will be Non resident for India because he stayed for less than 182 days and does not even satisfy 60 days condition.

Conclusion :

Residential Status 2 Basic Conditions
Residential Status 2 Basic Conditions
Resident Any 1
Non Resident NO

Once our residential status is decided. Next comes in queue the relevance of residential status on our tax liabilities.

How income is taxed according to different residential status in India?

Particulars Particulars Particulars Particulars
Resident Non-Resident
Ordinarily Resident Not-Ordinarily Resident
Income received or deemed to be received in India yes Yes Yes
Income accrued or deemed to be accrued in India yes Yes Yes
Income accruing outside India yes No No

Important Points

  1. Income received outside India, but subsequently sent to India subsequently, does not amount to receiving of income in India. 1st receipt is important for consideration;
  2. Person of Indian origin means a person who himself, either of his parents or either of his grandparents were born in Undivided India.

Now that we know the difference between Resident and Non-Residents.Let’s get in details and see you are are ordinary resident or non-ordinary resident to understand your tax liability in India.

Understanding Not ordinary Resident and Ordinary Resident Who is Ordinary Resident (OR) and Not- Ordinary Resident (NOR) in India?

Once you are clear about your residential status between resident and non-resident. For further understanding about OR [Ordinary Resident] and NOR [Not ordinary Resident ] we need to first learn the additional conditions.

Ordinary Resident (OR)

You will be known as Ordinary resident if you fulfill
Any one of the two basic conditions of 182 or 60 days
+
Both or all two additional conditions of 2 years & 730 days
The additional conditions are:-

  1. You were resident for at least 2 years out of 10 years preceding immediately to the financial year we are talking about;

  2. OR
  3. You were in India for 730 days or more in 7 years immediately preceding to the financial year we are talking about;

 

Example:- Mrs Madhuri Dixit Nene born and bought in India. She went outside india for 2 months of feb 2018-march 2018 Solution: Since she satisfy any one basic condition of 365 or 60 days and all additional conditions. She will be known as Ordinary resident of India.

Not- Ordinary Resident (NOR)

Person other than OR will be called as NOR. Which means you will be called NOR if you satisfy

Any one of the two basic conditions of 182 or 60 days
+
Any or none of two additional conditions of 2 years & 730 days

Example:- Mr Atif Aslam came to India during 01 July 2017 to 28 Feb 2018 for the first time.

Solution: Since Mr. Atif Aslam came to india for first time in last year and stayed for 243 days(31+31+30+31+30+31+31+28) (at least 182 days), he is resident Indian. But since he Does not satisfy any additional condition of 2 years or 730 days he will be termed as – Not ordinary resident of india.

Conclusion:
Saying in Income Tax:
“An Indian Citizen may not be resident Indian, but A Foreign Citizen may be resident Indian.”

Non-understanding of correct residential status creates an air of confusion about the tax liability in India.

Residential Status

Residential Status 2 Basic Conditions 2 Additional Conditions
Resident Any 1 --
Not Ordinary Resident Any 1 No or Any 1
Ordinary Resident Any 1 All 2
Non Resident NO --

While computing the period of stay in India, both the day of entering in India and the day of leaving India shall be counted in the period of stay in India.

2020-01-10 05:29:32

Year End Tax Planning For Individuals

If you happen to be like me – desperately seeking any distraction from this holiday season – there is no better time than the present to start some year-end tax planning. Why is tax planning particularly important this year for almost EVERYONE? Basically the Tax Cuts and Jobs Act brought generational changes to the tax rules. The last time the tax code changed this dramatically was in under President Reagan in 1986.

  • People who thought the reporting under Obama Care was onerous are in for a surprise, a BIG surprise. Tax professionals and taxpayers alike are challenged with understanding these new laws and regulations. With the average age of the tax professional in Colorado being 68 years old, many are simply closing up shop. When it is time to engage you may find yourself out in the cold without adequate representation. Little is more disenfranchising than the discovery you handed over hard earned money to our esteemed authorities because your head was in the sand.

Yes – it might be the driest stuff you read all day. Yes -it will be worth the 3 minutes of your time to peruse. Not all considerations below may apply specifically to you but they are worth knowing about and sharing with friends or family.

Watch Out For The New Alimony Rules

  • Under the TCJA, certain future alimony payments will no longer be deductible by the payer. Alimony will no longer be considered income to the recipient. Divorces and legal separations that are executed (that come into legal existence due to a court order) after 2018, the alimony-paying spouse won’t be able to deduct the payments, and the alimony-receiving spouse doesn’t include them in gross income or pay federal income tax on them. It’s important to emphasize that pre-TCJA rules apply to already-existing divorces and separations, as well as divorces and separations that are executed before 2019.
  • If you have an existing (pre-2019) divorce or separation decree, and you have that agreement legally modified, then the new rules don’t apply to that modified decree unless the modification expressly provides that the TCJA rules are to apply. There may be situations where applying the TCJA rules voluntarily is beneficial to divorcing parties, such as a change in the income levels of the alimony payer or the alimony recipient. If you’re considering a divorce or separation (or modification of an existing divorce decree), talk to your tax adviser to better understand the tax consequences.

Invest in Qualified Opportunity Zones

  • Qualified Opportunity Zones (QO Zones) are low-income communities that meet certain requirements. Investing in QO Zones can result in two major tax breaks:
    • temporary deferral of gain from the sale of property and
    • permanent exclusion of post-acquisition capital gains on the disposition of investments in QO Zones held for ten years.
    •  
  • Other resources include:
  • Draft Form 8996, Qualified Opportunity Fund
  • Draft instructions for Form 8996
  • Notice 2018-48, Designated Qualified Opportunity Zones under Internal Revenue Code § 1400Z-2
  • Rul. 2018-29, Section 1400Z-2 — Special Rules for Capital Gains Invested in Opportunity Zones
  • 115420-18, Investing in Qualified Opportunity Funds
  •  

If you’re looking to defer taxable gains while revitalizing low-income communities, QO Zones may be the way to go.

Make A Qualified Charitable Distribution From Your IRAs

  • If you are age 70-½ or older by the end of 2018 and particularly if you can’t itemize your deductions, consider making 2018 charitable donations via qualified charitable distributions from your IRAs.
  • Such distributions are made directly to charities from your IRAs, and the amount of the contribution is neither included in your gross income nor deductible on Schedule A, Form 1040.
  • But … the amount of the qualified charitable distribution reduces the amount of your required minimum distribution, resulting in tax savings.
  •  

Donor-Advised FundsBunch Charitable Contributions Through

  • The TCJA temporarily increases the limit on cash contributions to public charities and certain private foundations from 50% to 60% of AGI. One way to take advantage of this change is to bunch or increase charitable contributions in alternating years. This may be accomplished by donating to donor advised funds.
  • Also known as charitable gift funds or philanthropic funds, donor-advised funds allow donors to make a charitable contribution to a specific public charity or community foundation that uses the assets to establish a separate fund. You can claim the charitable tax deduction in the year they fund the donor-advised fund and schedule grants over the next two years or other multiyear periods.
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  • This strategy provides a tax deduction when you are at a higher marginal tax rate while actual payouts from the account can be deferred until later.

If you have questions or want more information on donor-advised funds, please feel welcome to contact me anytime. I welcome the opportunity to help you put together a charitable giving plan.
Make gifts sheltered by the annual gift tax exclusion before the end of the year and thereby save gift and estate taxes. The exclusion applies to gifts of up to $15,000 made in 2018 to each of an unlimited number of individuals. You can’t carry over unused exclusions from one year to the next. Such transfers may save family income taxes where income-earning property is given to family members in lower income tax brackets who are not subject to the kiddie tax.

Take Advantage Of The New Child Tax Credit

  • Starting in 2018, the TCJA doubles the child tax credit to $2,000 per qualifying child under age 17. It also allows a new $500 credit for any of your dependents who aren’t qualifying children under 17. There is no age limit for the $500 credit, but the tax tests for dependency must be met. The TCJA also substantially increases the “phase-out” thresholds for the credit. Starting in 2018, the total credit amount allowed for a married couple filing jointly is reduced by $50 for every $1,000 (or part of $1,000) by which their AGI exceeds $400,000. The threshold is $200,000 for all other taxpayers.

Bottom line, if you were previously prohibited from taking the credit because your AGI was too high, you may now be eligible to claim the credit.

Be Wary Of The 3.8% Surtax On Certain Unearned Income

  1. The 3.8% surtax is the lesser of: (1) net investment income (NII), or (2) the excess of modified adjusted gross income (MAGI) over a threshold amount ($250,000 for joint filers or surviving spouses, $125,000 for a married individual filing a separate return, and $200,000 in any other case).
  2. As year-end nears, your approach to minimizing or eliminating the 3.8% surtax will depend on your estimated MAGI and NII for the year.
  3. You should consider ways to minimize (e.g., through deferral) additional NII for the balance of the year.
  4.  

The 0.9% Additional Medicare Tax Also May Require Year-End Actions

  1. This applies to individuals for whom the sum of their wages received with respect to employment and their self-employment income is in excess of an un-indexed threshold amount ($250,000 for joint filers, $125,000 for married couples filing separately, and $200,000 in any other case). Employers must withhold the additional Medicare tax from wages in excess of $200,000 regardless of filing status or other income. Self-employed persons must take it into account in figuring estimated tax.
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  3. You may need to have more withheld toward the end of the year to cover the tax. Example: If you earn $200,000 from one employer during the first half of the year and a like amount from another employer during the balance of the year, you would owe the additional Medicare tax, but there would be no withholding by either employer for the additional Medicare tax since wages from each employer don’t exceed $200,000.
  4.  

Long-term Capital Gain From Sales Of Assets Held For Over One Year Is Taxed At 0%, 15% or 20% Depending On Your Taxable Income

  1. The 0% rate generally applies to the excess of long-term capital gain over any short term capital loss to the extent that it, when added to regular taxable income, is not more than the “maximum zero rate amount” (g., $77,200 for a married couple). The maximum 20% rate applies to joint filers with 2018 taxable income (including long-term gains) above $479,000.
  2. If you hold long-term appreciated-in-value assets, consider selling enough of them to generate long-term capital gains sheltered by the 0% rate.
  3. Talk to your investment adviser about re-balancing your portfolio. When re-balancing consider liquidating some of the high flyers with the dogs to mitigate adverse tax implications of the dreaded $3,000 limitation on capital loss carry forwards.
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Postpone income Until 2019 And Accelerate Deductions Into 2018 If Doing So Will Enable You To Claim Larger Deductions, Credits, And Other Tax Breaks For 2018

  1. These include deductible IRA contributions, child tax credits, higher education tax credits, and deductions for student loan interest. Postponing income also is desirable for those taxpayers who anticipate being in a lower tax bracket next year due to changed financial circumstances. Note, however, that in some cases, it may pay to actually accelerate income into 2018. Example: If you have a more favorable filing status this year than next (e.g., head of household versus individual filing status), or you expect to be in a higher tax bracket next year.
  2.  

Chances Are Good You May Be Best Served Claiming The Standard Deduction

  1. That’s because the basic standard deduction has been increased (to $24,000 for joint filers, $12,000 for singles, $18,000 for heads of household, and $12,000 for marrieds filing separately), and many itemized deductions have been cut back or done away with altogether. No more than $10,000 of state and local taxes may be deducted. Miscellaneous itemized deductions including un-reimbursed employee expenses are no longer deductible.
  2. Personal casualty and theft losses are deductible only if they’re attributable to a federally declared disaster and only to the extent the 10%-of-AGI limit is met.
  3. You can still itemize medical expenses to the extent they exceed 7.5% of your adjusted gross income, state and local taxes up to $10,000, your charitable contributions, plus interest deductions on a restricted amount of qualifying residence debt but payments of those items won’t save taxes if they don’t cumulatively exceed the new, higher standard deduction. If you typically claim the standard deduction (as opposed to itemizing deductions), chances are your tax bill will decrease for 2018.
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  • Although personal exemption deductions are no longer available, a larger standard deduction, combined with lower tax rates and an increased child tax credit (see later discussion), may result in less taxes. If you usually itemize deductions, the larger standard deduction may change this.
  • I am available to analyze your particular tax situationto determine if you will pay more or less under the TCJA. You may need to adjust your estimated quarterly tax payments. This is also a good time to check if you’re on track to have the right amount of federal income tax withheld from your paychecks in 2018. You can correct any discrepancies by turning in a new Form W-4 (Employee’s Withholding Allowance Certificate) to your employer.

If you were in an area affected by a federally declared disaster area, and you suffered uninsured or un-reimbursed disaster-related losses, you can choose to claim those losses on either the return for the year the loss occurred (2018), or the return for the prior year (2017).

If you were in an area affected by Hurricane Florence or any other federally declared disaster area, you may want to settle an insurance or damage claim in 2018 in order to maximize your casualty loss deduction this year.

Maximize Home Mortgage Interest Deductions

  • For 2018–2025, the TCJA reduces the limit on home acquisition debt to $750,000. For married taxpayers filing separately, the debt limit is halved to $375,000. Homeowners that interest paid on home equity loans and lines of credit may be deductible if the funds are used to buy, build, or substantially improve the taxpayer’s home that secures the loan.
  • Thanks to a set of grandfather rules, the new limits don’t apply to home acquisition debt that was taken out on or before 12/15/17 (or taken out on or before that date and refinanced later). This is good news for existing homeowners.

If you have a home equity loan or line of credit, you will need to trace how the proceeds were used to determine if the interest is still deductible under the new law.

Revisit Your Qualified Tuition Plans

  • QTPs may be particularly attractive to higher income parents and grandparents because there are no AGI-based limits on who can contribute to these plans. Eligible schools included colleges, universities, vocational schools, or other postsecondary schools eligible to participate in a student aid program of the Department of Education. Thanks to the TCJA, qualified higher education expenses now include tuition at an elementary or secondary public, private, or religious school, up to a $10,000 limit per tax year. You may want to revisit your QTPs if you have children or grandchildren who attend elementary or secondary schools

2020-01-10 05:24:19

Why the Qualified Business Income Deduction Can Impact Your Return /h4>

Why the Qualified Business Income Deduction Can Impact Your Return


The new 20 percent deduction for pass-through businesses sounds almost too good to be true. That brand new section of the tax code is called the qualified business income deduction. It allows qualifying owners of sole proprietorships, S corporations, and partnerships to deduct 20 percent of their business income from taxable income.

As a result of the 20 percent deduction and slightly lower tax rates, the effective top tax rate on those business’ incomes goes from 40.8 percent under 2017 tax law to 29.6 percent under the new law.
Let’s break that down into a few frequently asked questions.

What is qualified business income?

According to the IRS definition, qualified business income is “the net amount of income, gain, deduction and loss from any qualified trade or business.” Also, the income must be connected with a U.S. trade or business.
Exclusions include capital gains and losses as well as specific dividends and interest income.

Do you calculate the qualified business income deduction on gross or net business income?

The deduction is 20 percent of your business income after expenses. That means it’s your net business income.

Do I really get a deduction from income that’s not related to any expenses?

Virtually all tax deductions have something to do with money you spent, whether that’s this year or in another tax year. The qualified business income deduction is unusual in that it is not the result of any money spent or cost incurred.

Does the deduction lower my Social Security taxes?

No, the deduction is claimed on Form 1040 – not on your business tax form, such as Schedule C. Therefore, it does not reduce your self-employment tax (Social Security and Medicare) directly.

Is it true that I can’t take the deduction if I own a “service” business?

Technically, that’s true. The 20 percent deduction excludes specified service trades or businesses. Basically, if your business is dependent on your name and reputation, it’s not eligible to claim the qualified business income deduction. Specifically, the law excludes:

  • accountants
  • lawyers
  • consultants
  • athletics
  • financial services
  • investing and investment management
  • trading
  • actuarial science
  • performing arts
  • healthcare services

And that’s just to name a few. There are several other types of ineligible service businesses.
A silver lining does exist, however. The rule only applies if your income exceeds $315,000 for a married couple filing a joint return or $157,500 for all other taxpayers. For most people, that means you still get the deduction.

And if you make just above those limitations, you may still claim a partial deduction. The deduction phases out after the income limitations.
Employees that provide a service on a business’ behalf are also not eligible to claim the deduction.

What other limitations are there?

If you own shares in a business and you receive income, your 20 percent deduction may be subject to other limitations. However, those limitations also only kick in when you make over $157,000 as a Single filer or $315,000 if you’re married filing jointly. Additionally, the deduction is limited by the amount of W-2 wages paid by the business and the unadjusted basis of any qualifying property held by the business after acquiring it.

There are also limitations designed to keep you from taking a deduction on capital gains or investment income, which is already taxed at a lower rate.

Where will I see this deduction on my tax return?

The qualified business deduction is applied to the business’ taxable income. That means it’s calculated after the standard deduction or any itemized deductions are subtracted from the adjusted gross income (AGI). And because it’s dependent on the business’ taxable income, each business computes the qualified business deduction separately.

Why do we have this tax break?

The qualified business income deduction is a way to level the playing field between pass-through entities and C corporations who enjoy lower tax rates.

2020-01-10 05:22:09

2019 Tax Brackets

2019 Tax Brackets


On a yearly basis the IRS adjusts more than 40 tax provisions for inflation. This is done to prevent what is called “bracket creep,” when people are pushed into higher income tax brackets or have reduced value from credits and deductions due to inflation, instead of any increase in real income.
The IRS used to use the Consumer Price Index (CPI) to calculate the past year’s inflation.[1] However, with the Tax Cuts and Jobs Act of 2017, the IRS will now use the Chained Consumer Price Index (C-CPI) to adjust income thresholds, deduction amounts, and credit values accordingly.[

Income Tax Brackets and Rates

In 2019, the income limits for all tax brackets and all filers will be adjusted for inflation and will be as follows (Tables 1). The top marginal income tax rate of 37 percent will hit taxpayers with taxable income of $510,300 and higher for single filers and $612,350 and higher for married couples filing jointly.

Table 1. Tax Brackets and Rates, 2019
Rate For Unmarried Individuals, Taxable Income Over For Married Individuals Filing Joint Returns, Taxable Income Over For Heads of Households, Taxable Income Over
10% $0 $0 $0
12% $9,700 $19,400 $13,850
22% $39,475 $78,950 $52,850
24% $84,200 $168,400 $84,200
32% $160,725 $321,450 $160,700
35% $204,100 $408,200 $204,100
37% $510,300 $612,350 $510,300

Standard Deduction and Personal Exemption

The standard deduction for single filers will increase by $200 and by $400 for married couples filing jointly (Table 2).

The personal exemption for 2019 remains eliminated.

2019 Standard Deduction and Personal Exemption

Table 2. 2019 Standard Deduction and Personal Exemption
Filing Status                                   Deduction Amount
Single $12,200
Married Filing Jointly $24,400
Head of Household $18,350

Alternative Minimum Tax

The Alternative Minimum Tax (AMT) was created in the 1960s to prevent high-income taxpayers from avoiding the individual income tax. This parallel tax income system requires high-income taxpayers to calculate their tax bill twice: once under the ordinary income tax system and again under the AMT. The taxpayer then needs to pay the higher of the two.

The AMT uses an alternative definition of taxable income called Alternative Minimum Taxable Income (AMTI). To prevent low- and middle-income taxpayers from being subject to the AMT, taxpayers are allowed to exempt a significant amount of their income from AMTI. However, this exemption phases out for high-income taxpayers. The AMT is levied at two rates: 26 percent and 28 percent.

The AMT exemption amount for 2019 is $71,700 for singles and $111,700 for married couples filing jointly.

Table 3. 2019 Alternative Minimum Tax Exemptions
Filing Status Exemption Amount
Unmarried Individuals $71,700
Married Filing Jointly $111,700

In 2019, the 28 percent AMT rate applies to excess AMTI of $194,800 for all taxpayers ($97,400 for married couples filing separate returns).

AMT exemptions phase out at 25 cents per dollar earned once taxpayer AMTI hits a certain threshold. In 2019, the exemption will start phasing out at $510,300 in AMTI for single filers and $1,020,600 for married taxpayers filing jointly.

Table 4. 2019 Alternative Minimum Tax Exemption Phaseout Thresholds
Filing Status Threshold
Unmarried Individuals $510,300
Married Filing Jointly $1,020,600

Earned Income Tax Credit

The maximum Earned Income Tax Credit in 2019 for single and joint filers is $529, if the filer has no children (Table 5). The maximum credit is $3,526 for one child, $5,828 for two children, and $6,557 for three or more children. All these are relatively small increases from 2018.

2020-01-10 05:26:21

Alternate Dispute Resolution Mechanism – Advance Pricing Agreement (‘APA’)

Alternate Dispute Resolution Mechanism – Advance Pricing Agreement (‘APA’)


  • An APA would be an agreement between the Central Board of Direct Taxes (CBDT) and any ‘person’ determining the arm’s length price (“ALP”) or specifying the manner in which the ALP is to be determined in relation to an international transaction
  • Flexibility to determine ALP using unspecified method/ adjustments /variations, as necessary
  • Valid for the periods specified in the APA, and up to a maximum period of 5 years
  • APA can be applied before the taxpayer enters into the international transaction(s), or before the beginning of a financial year
  • Flexibility to opt for Unilateral or Bilateral or Multi-lateral APA - Taxpayers may enter into APAs with more than one tax authority – i.e., bilateral or multilateral APAs. Unilateral APAs involve agreements between only the taxpayer and one government.
  • Binding on taxpayer and tax authority, unless there is a change in law / facts
  • APA rollback mechanism has been introduced by Finance Act 2014 

    Concerns on domestic tax law appeal process

  • Time consuming and several tiers of appellate proceedings
  • Appeal by tax authorities in case of favorable resolution at lower levels

2020-01-10 05:20:07