TaxMamas TaxQuips: Tax Quips

Real Estate Dealer

Eva Rosenberg — Thu, 02 Sep 2010 06:14:00 -0700

Today TaxMama hears from David in the TaxQuips Forum, who defines a dealer in real estate as someone who sells a single property for profit, as long as the intent to act as a dealer to real estate is present.”

Dear David,

You tell us that IRC 453(l)(1)(B) defines a dealer disposition as:

Any disposition of real property which is held by the taxpayer for sale to customers in the ordinary course of the taxpayer’s trade or business

Are you right that one property would qualify?

Perhaps. Perhaps not. Here’s an interesting quote from an article by Cali Zimmerman for NuWire Investor:

Real estate dealer rules can get a bit murky. In fact, “[t]he problem is so severe that, according to the Fifth Circuit Court of Appeals, ‘if a client asks you in any but an extreme case whether, in your opinion, his sale will result in capital gain, your answer should probably be, ‘I don’t know and no one else in town can tell you’’ (J.D. Byram, CA-5, 83-1 USTC para. 9381, 705 F. 2d 1418),” according to The CPA Journal.

The distinction between investor, landlord and dealer is important.

As an investor, all the expenses are capitalized. The gains are capital gains.

As a landlord, fixing up a property to rent out, the rental income is passive. The gains are capital gains, except for the depreciation.

As a dealer, not only do you not get capital gains treatment, but the income and profit are self-employment income, subject to 15.3% self-employment taxes.

According to George Saenz in a BankRate.com article, issues to consider before condemning a transaction to dealerhood include

Length of time the property is held.

Number of sales

Major improvements, like re-zoning and subdividing.

The owner’s involvement in the sale of the property – are they handling it all themselves (or via their own paid staff), or are real estate agents and brokers involved?

Another issue to consider, that you have not, is the phrase “taxpayer’s trade or business”. Is flipping real estate their main occupation? Is this what they are living on? Probably not.

Generally, you can probably support investor or landlord status if this is not your main livelihood. Do the research properly and you will undoubtedly find case law to support your position if you’re only flipping one or two properties a year, while holding down a ‘day’ job.

And remember, you can find answers to all kinds of questions about real estate dealers, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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Gain on Real Estate

Eva Rosenberg — Wed, 01 Sep 2010 06:09:00 -0700

Today TaxMama hears from Toni in the TaxQuips Forum, who tells us. “I’m doing my own partnership taxes and am confused about entering information. In 2009, I bought, fixed up and sold 2 properties. [and Toni adds lots of details. ] I’m confused because I’ve added the gain twice from Form 4797. What am I doing wrong?”

Dear Toni,

When you are doing a partnership tax return, you should be using tax software. Consider Turbo Tax Business and H&R Block Premium and Business . The tax software will flow the numbers from any form to all the correct places on the tax return. Some numbers flow to more than one form, for a variety of reasons. When preparing partnership returns, some numbers flow to page 1, Schedule K, Schedule L, Schedule M-1 and/or M-2, the K-1s and who knows where else. Unfortunately, this free TaxMama service is not designed to walk you through the line-by-line preparation of forms. Nor to review your tax return – a good review takes an hour or two.

Also, using Form 4797, there are several potential errors that most people make. Especially when it comes to the recapture of depreciation as ordinary income, computing basis, and how to deal with selling costs and fix-up expenses before sale.

Yes, some of the expenses might go on the Form 8825. Others should be part of basis. However, if these were never really rental properties, if they were properties you bought and fixed up to sell, you would have to capitalize all the expenses, not deduct them. This could be a grave error, with expenses that would be disallowed on audit. And David Toelkes brings up the issue that these properties might be considered inventory – which is an interesting point of view.

Another error is combining properties on one Form 8825. Why would you do that? These are two separate properties with distinct purchase and sale dates and escrows, aren’t they?

The more I think about the implications of the things you’ve written, the more potential errors I am seeing. And why is this a partnership? You keep saying “I”. Do other people own the properties with you? Frankly, if you have partners, YOU should not be preparing a partnership return yourself. It’s one thing to prepare your own tax return involving purchases, sales and fix up of real estate. You can accept the responsibility for any errors you might make. But if you have partners, are you sure you want to expose them to the errors you’re clearly making this tax return?

Your own personal liability as the preparer of this return could be extensive if it is audited and major errors are found. Your partners would hold you liable for their additional taxes, penalties and interest. Do you really want that?

If you can afford all this real estate, you can certainly afford to invest the few hundred dollars for a qualified, experienced tax preparer. Do it. I don’t want to see you getting into trouble.

And remember, you can find answers to all kinds of questions about real estate, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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Selling Inherited Home

Eva Rosenberg — Tue, 31 Aug 2010 06:07:00 -0700

Today TaxMama hears from Jami from California in the TaxQuips Forum, who has this question. “My aunt left me her condo and I have to sell it. The deed passed to me a week after I turned 55. Will the 55 & over real estate rule apply to me when I file my tax return?”

Dear Jami,

Sorry to learn about your aunt dying. But how sweet of her to leave you her condo. It’s not clear to me what over 55 rule you’re talking about? Never mind.

Here’s how it works. You need to get an appraisal for the value of the condominium on the date of your aunt’s death. That will be your ‘basis’ or tax cost when you sell the condo. It’s possible that the executor of the estate has already done this. Please find out.

When you sell the condo, your gain will be based on the sales price, less selling costs, less the basis at date of death.

If you lived in the condo with your aunt for at least two full years out of the last five years, you will also be entitled to the $250,000 exclusion of profits since the condo was your personal residence. But you probably won’t need that. There won’t be a gain if you sell it in the same year your aunt died. The real estate market isn’t that strong in California these days.

If you didn’t live in it…try to sell the condo THIS YEAR. The capital gain rate for IRS may be as low as ZERO.

California doesn’t have any special rates. So your gain will be taxed at 9.3% or less, depending on your tax bracket. If there is a gain at all?

And remember, you can find answers to all kinds of questions about inherited assets, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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Loss on Surrender

Eva Rosenberg — Mon, 30 Aug 2010 06:01:00 -0700

Today TaxMama hears from Karla in the TaxQuips Forum, with this question. “Is the loss on surrender of life insurance deductible on 1040?”

Dear Karla,

It’s not clear why you would have a loss when you surrender a life insurance policy. Of course, I don’t have much experience in this area.

Chapter 12 of IRS Publication 17 covers IRS rules about the

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Is This Taxable Income

Eva Rosenberg — Thu, 19 Aug 2010 03:00:00 -0700

Today TaxMama hears from Karen in California in the TaxQuips Forum, who tells us. “My father died from lung cancer that was determined to be caused by job conditions. My brother and I may be receiving a one-time survivors benefit compensation check for a large amount of money. Will this be taxable income?”

Dear Karen,

How awful about your father! I doubt that any money can compensate you for losing him. Will your benefit be taxable? Probably not. But I would take the paperwork to a good, local tax professional and have someone read the information to see what the money is really paying for. Without reading the documentation, it’s impossible to be certain.

When it’s for lost income – that’s taxable.

When it’s for pain and suffering as a result of a physical issue (like death and illness), it’s not taxable.

There may be other issues in-between.

Odds are, you won’t be facing taxes. But please check, just to be sure.

You and your brother take care of each other. OK?

And remember, you can find answers to all kinds of questions about death-related compensation, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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Tax Cuts for Wage Earners

Eva Rosenberg — Wed, 18 Aug 2010 06:18:00 -0700

Today TaxMama hears from Chris in the TaxQuips Forum, who puts out a challenge to TaxMama. He says, “Tax mama has advice for business owners. But how does an individual get more money on their paychecks?”

Dear Chris,

Goodness have I been neglecting wage-earners here at TaxMama.com? I am sorry! My daily TaxQuips are guided by the questions people ask. So thank you for asking!

Here are some ideas to help you:

1) Take full advantage of the cafeteria plans offered by your employer.

When you are paying expenses out of pocket anyway, running them through the company cafeteria plan means you don’t pay ANY taxes on that money – no income tax, no FICA, no Medicare. For many people, that’s worth 35% – 40% of each dollar.

If you are paying for child care anyway, do it through the cafeteria plan – up to $5,000

Medical insurance costs – if the company isn’t paying for it, or not paying for the whole premium, pay the rest through the cafeteria plan.

Medical expenses – plan your medical costs, things like braces, Lasik surgery, elective surgeries, co-pays, dental work, etc. Run it through here.

2) If your company offers education plans – you may exclude up to $5,500 from wages.

3) Maximize the amount you set aside in your company’s retirement plan. Although you will pay the FICA and Medicare on those dollars, you won’t pay IRS or State taxes. That’s worth 25% – 35% savings per dollar. AND you have money set aside for when you need it.

Some company retirement plans include employer matching of your contributions. Be sure to contribute enough to your own plan to get the maximum matching from your employer. If they’re willing to pay it – take full advantage of it.

Note: Some company plans offer ROTH components. That means you don’t get a deduction for your contributions at all. BUT, you get all that money and the earnings on it tax-free when you retire.

If your adjusted gross income (AGI) is low enough, you might even get a tax credit from IRS or your state for contributing to the plan.

4) Review your withholding. If you are getting high refunds when you file your tax returns each year, perhaps you should decrease your withholding so you have more money to live on, if money is tight each month. Use Form W-4 to make the adjustments.

These are some ideas to help you get started.

You will also find a wealth of articles to help people keep your taxes lowest in my weekly Equifax Blog. Have you seen it? It covers ways to take advantage of energy credits, writing off summer camp, getting money back by amending your tax returns, tax benefits for savers, and child-friendly tax credits…and more.

And there are even more tips in my MarketWatch column – every week during tax season and every month the rest of the year. That is purely devoted to ways individuals can keep their taxes lowest.

Does that help?

And remember, you can find answers to all kinds of questions about getting more money back, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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Same Sex Yo-Yo

Eva Rosenberg — Tue, 17 Aug 2010 06:08:00 -0700

Today TaxMama wants to discuss a tax issue that will affect tax preparers, certain taxpayers – and perhaps your friends and relatives around the country. Same-Sex marriage. Please don’t turn away because the topic is odious to you. You probably know someone affected – and may be able to help them.

Dear Friends,

Right now, California is experiencing a yo-yo affect when it comes to same-sex marriages due to a case working its way through the legal system. As you know, things often start in California and spread across the country. There is no doubt this case will reach the Supreme Court. Whether the Court will hear it or not…no one knows for certain. Sooner or later, the Supreme Court must address this issue once and for all. This is probably going to be the time.

Spidell Publishing reported last week that the United States District Court for the Northern District of California lifted the temporary ban on same-sex marriages on August 12, 2010. (Order on Motion to Stay in Perry et al. v. Schwarzenegger et al. U.S. District Court, Northern District of California Case No. 09-2292) This means that same-sex marriages will be legal in California beginning August 18, 2010, while the ruling that Proposition 8 is unconstitutional is appealed to the higher courts. That was last week.

On Monday, before the end of their working day, the 9^th Circuit Court of Appeals restored the ban on same-sex marriages, stopping the weddings that were all set for today. The Court will hear the arguments during the week of December 6. Regardless of the ruling of the 9^th Circuit, it will be appealed.

Why am I wasting your time with this? Because this is a tax issue.

Spidell Publishing explains, for income tax purposes, California treated all same-sex married couples who were married prior to the ban the same as registered domestic partners (RDPs). (FTB Notice 2008-5) This means that community property rules will apply in California, and they must file as married for California purposes, even though they must file as single for federal purposes.

To clarify the situation for IRS purposes, the California Legislature passed a resolution (AJR 29) on August 9, 2010, asking the IRS to issue a revenue ruling that says that same-sex married couples should be treated the same as RDPs for federal purposes, too. The request is in response to CCA 201021050, which states that RDPs in California must now combine their income and each report half of it on his or her federal tax return, but does not address same-sex married couples.

The issues reach far beyond the complexities of filing different tax returns for IRS and your state. There are several states where same-sex marriage is presently legal. These couples will face estate tax issues, gift tax issues, parental custody issues – and even divorce issues, that are a wasp’s nest – even if you address them up front. See TaxMama’s 2007 MarketWatch article for some of the problems.

If you are affected, or anyone you know is contemplating a same-sex marriage, a registered domestic partnership – or just living together without any legal contracts, please encourage them to meet with both a tax professional and a legal professional who can help them protect their union, their family and determine the correct disposition of their assets and children, should anything happen to either person – or both of them.

And remember, you can find answers to all kinds of questions about same-sex marriages, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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New IRS Rules for Tax Pros

Eva Rosenberg — Mon, 16 Aug 2010 06:41:00 -0700

Today TaxMama hears from Bill in the TaxQuips Forum, who is angry “I don’t want to pay a fee nor spend my time and money on exams and continuing education that I do not choose. I spent my money going through H&R Block tax courses and subscribe to magazines and websites to keep up-to-date with the ever-changing tax laws. Another reason for dislike – Attorneys, CPA’s and EA’s have gotten themselves exempted from these new rules being proposed on the rest of us.” There’s more – a lot more. Please read it.

Well Folks,

Bill got a detailed answer from Kristine Hicks, EA, who explained why EA’s, CPAs, and attorneys ‘got themselves exempted.” Kris outlined the amount of CPE we already have to do – and the money we already spend to stay up to date. Please read her note.

TaxMama replies: Bill, you’ve missed the point of Kris’ post. And you’ve missed the point of the IRS’ new regulations.

1) CPAs, EAs, and tax attorneys have always been required, in order to keep their licenses, to do extensive continuing education, in order to keep up with the changes in the laws and reporting requirements. 2) Unenrolled preparers have had no regulation and oversight whatsoever – except in Oregon and California, until recently. Which means, ANYONE could open a tax office in 48 states, plus the US territories without ever knowing anything at all about how to fill out a tax return – or about any tax laws at all. And they did. 3) There have been a flood of fraudulent tax returns prepared by such operators around the country – and, after audits, the taxpayers were the victims, facing the back taxes, penalties and interest. Protecting them from fraudulent or ignorant tax professionals is one of the reasons for the law. 4) There are some very competent unenrolled tax practitioners out there. But in order to stay up to date with the tax laws, they have all be been doing continuing education courses; they have been members of professional organizations like NATP or NSA, or other professional societies that provide publications with articles about the tax law changes. These preparers’ pocketbooks really won’t be affected. They are already spending the time and money to stay up-to-date. 5) It doesn’t need to cost anything to keep current. IRS provides online teleseminars year-round. Also IRS and your state provide workshops on things like electronic filing, payroll taxes, and other updates, generally for free. You can use those courses to fulfill your education requirements. Besides the new education requirements for tax practitioners are far lower than those for EAs, CPAs and tax attorneys. This should only be a burden to those tax practictioners who have been lazy and haven’t kept up. And they should be weeded out, for the protection of all. 6) Do I want to see individuals doing their own tax returns rather than going to an incompetent or fraudulent tax preparer? YOU BET! They’d be better off. Now, Bill, I doubt very much that you are among the lazy, ignorant or fraudulent community of fly-by-night tax offices. This will not be a burden on you. You’re already doing the education you choose. And you’ll continue to be able to choose the education you do. But it will take a year to adjust. After that, you’ll be fine.

And remember, you can find answers to all kinds of questions about tax professionals, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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Inheriting vs Gifting

Eva Rosenberg — Thu, 12 Aug 2010 05:47:00 -0700

Today TaxMama hears from Terri in the TaxQuips Forum, with an delightful problem to have. “What is the best way to reduce the tax consequences of inheriting land? The person inheriting the land is not related to the owner. He could possibly marry her if that would help matters. The land was inherited and has very low basis. Could the land be given as a gift and use up the lifetime gifting limit? What if the fair market value (FMV) is over $1 Million?”

Hi Terri,

We’d need to know a LOT more to be able to give you a useful answer. If the land was inherited in the first place, it should have gotten a step-up in basis at the time of the inheritance. Why is the basis so low?

Is the man who is willing to marry this woman about to die? Will he die this year? If so, it could be worthwhile to get married. Then she would get a total exclusion from the estate tax of $4.3 million.

If he dies next year, it won’t matter any more. As of right now, the estate tax exclusion drops back to $1 million in 2011 – unless Congress writes new law.

Incidentally, gifting the land doesn’t help at all with basis. If the basis is really low now, it will be just as low in the hands of the person receiving the gift. In a gift, the basis passes to the donee (the recipient). Only as an inheritance does it get that step-up in basis.

And remember, you can find answers to all kinds of questions about gifts and estates, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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Untaxed Internship

Eva Rosenberg — Wed, 11 Aug 2010 06:06:00 -0700

Today TaxMama hears from Karol in the TaxQuips Forum, with an odd question. “I have a paid internship in the Rhode Island state vocational rehabilitation agency and they pay me $11 an hour (I work the most 35 hrs/wk) without taking out taxes. I am worried about what I will owe when I do my taxes later this year. Any idea what I will have to pay?”

Dear Karol,

Your question is odd to me because you are working for a state department. You should be on payroll. Are you not?

You’re quite right to be concerned. If you are paid at that rate for a year, you are apt to owe taxes. How much, I don’t know.

That depends on whether you pay a mortgage, are married or not, have children, have education credits, open an IRA, or a Health Savings Arrangement, have moving expenses – and a whole lot of other things only you know about your life. This article provides information on how to estimate your own taxes due – and how to make estimated tax payments, if you will owe taxes. However, before rushing off to make estimated tax payments, please go back and talk your employer’s payroll department. If you are working for a state agency, you are most likely on payroll. They should be able to take withholding out of your paycheck. Perhaps the only reason they are not doing that is because of the information you entered on your Form W-4. Once you know how much you expect to owe for the year, go back to the payroll department and have them help you fill out the W-4 so you get the correct amount of withholding. OK? If that doesn’t work, then follow the instructions in the Estimated Tax Payments article. And remember, you can find answers to all kinds of questions about withholding and estimated tax payments, and other tax issues, free. Where? Where else? At www.TaxMama.com.

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