From a client in Texas:

Kerry,

We are considering marketing our Louisiana property this year. I was banking on just the 15% long-term cap gains tax, but my sister says Obama has done something that adds another 4% to it. Will you please confirm what the rate would be?

Thanks,

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My reply:

I’m glad to see that you are researching this ahead of time because there is no quick and easy answer. As with most tax matters, there are actually different rates depending on the type of gain and the level of your other income.

I am attaching some explanatory brochures on this subject.

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As you can see on the one called “Stocks, Bonds & Mutual Funds,” the Federal long term cap gain (LTCG) rate goes from zero percent to 20%, depending on your ordinary tax bracket.  If you are in the 15% Fed tax bracket, as you were in 2013 and 2012, the LTCG rate would be zero.

The extra 4% tax your sister referred to is actually a new 3.8% tax on net investment income that was part of the ObamaCare law. Capital gains are part of the net investment income.  However, as you can see on the brochure called “Other Individual Taxes,” this tax only kicks in when your adjusted gross income (AGI) is over $250,000

There are some additional factors that you may have overlooked here.

1.  If the property has been depreciated, the Federal rate on the recapture of that depreciation is 25%.  The best way to see how much recapture you will have is for the partnership’s tax preparer to run a proforma 2015 tax return with a guesstimated sale amount to see what the results will be for each partner.

2.  Being located in Louisiana, any gain from the sale of that property would be subject to that state’s income tax, which would be six percent (6%).  While you probably won’t be subject to the 3.8% net investment income tax, you will definitely be subject to the LA tax.

3.  If the expected taxes are high enough to motivate a 1031 like kind exchange, you need to set this in motion ahead of time.  There are some complications with 1031s that involve property owned by an LLC or partnership if not all of the owners are doing the same thing.

I hope this info is useful.  Let me know if you have any other questions.

Kerry

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Client Response:

Well, it hurts that the capital gain is subject to Louisiana to tax. Sure appreciate your feedback, as always. May have more questions.

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Q:

Subject:  Forfeited Earnest Money – Tax Help

Hello Kerry/Tax Guru,

I am an avid follower of your blog for all the tax help – I made a down payment on a condo in FL as part of an investment in Jan of ’06. However due to the slump of the real estate, the value of condo is really down that its worth like 40% of the original value. I hired a lawyer to negotiate with the developer on the price, but the developer recently filed for bankruptcy and it looks like at this stage the earnest money is forfeited.

Is there anyway I can use this as capital gains loss for my ’09 filing – It’s a huge amount (41,500), so it is kind of a big blow on my investments.

Thanks in advance for all your help!

A:

It sounds as if you would have a capital loss for the amount of your down payment if you will be receiving no property or claim on property for that money and no part of the down payment in cash as part of the bankruptcy settlement.

You should be working with a professional tax advisor, who can explain the rules regarding deducting an uncollectible debt, especially in regard to the proper timing of that deduction.

If the bankruptcy case is still ongoing and there is a chance of your receiving something back from your down payment, you will have to wait until that is completed before you can claim the loss on Schedule D, which can possibly take several years.

If that kind of uncertainly is part of the equation, it may be possible to lock your loss up as being in 2009 if you were to sell your claim to the down payment to an unrelated party before 1/1/10 for a nominal amount, such as one dollar.  You would then have a valid completed disposition to report on Sch. D.

Again, your own personal tax pro should be able to offer more specific assistance for your situation.

Good luck.

Kerry Kerstetter

A Strategy For Capital Gains – Bruce Bartlett looks at a topic I have been following for decades, indexing the cost basis of capital assets for inflation.  Expecting that to be done in light of 0bambi’s very vocal hatred of investors and any perceived special tax breaks for them, as well as the fact that neither Bush 41 nor Bush 43 had the balls to issue the executive order to allow this kind of indexing, mean that this is going to be an unfulfilled wish for at least several more years.

From a reader:

Subject: Capital Gains Rates

In the Tax Guru-Ker$tetter Letter of 02/15/09 titled “When you may want to show capital gains…” you write “Special Zero Percent Capital Gains Tax – For 2008, 2009 and 2010 sales by individuals, all or part of any long term capital gain is subject to a Federal tax rate of zero percent. “

Another factor which determines the tax rate on LTCG are the amount of qualified dividends. The “Qualified Dividends and Capital Gain Tax Worksheet-Line 44” on page 38 of i1040.pdf [2008] calculates how Capital Gains plus qualified dividends are taxed above and below the 0% rate level. I just copy that worksheet into an Excel spreadsheet, add formulas, & enter the appropriate numbers.

My Reply:

That is an excellent point to make. Many of us forget the fact that the special zero percent tax rate has to be shared between long term capital gains and qualified dividends.

I will be posting a pdf copy of the IRS worksheet you referred to, plus a similar one from The TaxBook.

Thanks for writing.

Kerry

Reader Followup:

Note for those individuals who will soon be doing their 2009 Estimated Tax [f1040es], your 2008IRSCapGainWS.pdf will work fine for 2009* by changing Line 8 using your “2009 Individual Income Taxes Federal – Form 1040” at http://taxguru.org/incometax/Rates/1040-09.htm as follows:

Line 8
Single 2009=$33,950 [2008=$32,550]
MFJ/Qualifying Widower 2009=$67,900 [2008=$65,100]
HeadHousehold 2009=$45,500 [2008=$43,650]

*The above assumes that the tax rates for CapGains/QualDivds are not repealed.

My Reply:

Excellent suggestions.

Thanks for your input.

Kerry

Many people just assume that they need to do a Section 1031 like kind exchange in order to save on their taxes.  This decision may be premature if the taxpayers haven’t had their professional tax advisors run the numbers to see if an outright sale would in fact cost them anything in taxes.

I have seen many cases where people assumed that a sale would result in taxes, when in fact that wasn’t the case.  Here are some of the most common reasons that a sale may not cost any actual taxes, starting with a new one that is just now starting to show up on tax returns.

Special Zero Percent Capital Gains Tax – For 2008, 2009 and 2010 sales by individuals, all or part of any long term capital gain is subject to a Federal tax rate of zero percent.  The actual calculation of this is rather complicated and should be handled by your professional tax advisor’s tax software.

While this has the potential to save large amounts of taxes and thus make doing a 1031 exchange unnecessary, there are some other factors to consider.

This is for Federal purposes only and most states have not gone along with this; so there could still be State taxes on a sale.

This only applies to the long term capital gain portion of a sale.  It does not apply to short term capital gains for assets held less than 12 months.  It also does not apply to gain attributable to depreciation recapture, which is still subject to a 25% Federal tax rate plus the State tax rate.

The other key consideration is the political environment.  The new president said during his campaign that he wanted to eliminate any special tax breaks for capital gains and make them subject to the same much higher tax rates for other kinds of income.  He said that he is will aware that this will reduce the government’s revenues from capital gain taxes as more people take steps to avoid paying them; but he sees it as the Fair thing to do.  He can’t do anything to affect the tax on 2008 sales, but he could repeal the special tax break for 2009 and/or 2010 sales as he has been promising/threatening to do.

Loss Carry-forwards – Many people have large losses that they have been carrying forward for several years on their tax returns that can be used to offset gains from the sales of business and investment properties. These carryover losses include Capital Losses, Net Operating Losses and Passive Activity Losses.  There should be some kind of schedule with your latest tax return showing how much of these kinds of losses are being carried over into the current tax year. Similarly, your professional tax preparers should have those losses already set up in their tax return software when running proforma tax calculations of a possible sale.

Basis Mistakes – To determine whether you have a gain or loss on a sale, it is critical to understand the proper cost basis to use for the asset.  One of the most common mistakes has to do with inherited property. The cost basis for the heir is the asset’s fair market value at the time of the previous owner’s death.  This means that an inherited asset being sold shortly after it has been received will normally result in no gain, and possibly even a loss after deducting selling costs.  Doing a 1031 exchange only makes sense if there is a profit to defer.

On the flip side, the other common basis mistake has to do with items received as gifts from living persons.  In those cases, the cost basis to the recipient is the same as it was for the giver.  While the actual receipt of a gift is tax free for the recipient, recipients are essentially accepting responsibility for future capital gain taxes on it.  It is important that the giver provides the cost basis info to the recipient along with the gift.

As always, no tax oriented transaction, especially dealing with capital gains and 1031 exchanges, should be attempted before the numbers have been run by your professional tax advisor. Any fees they charge will be minimal compared to the potential tax savings.

I received this from a reader back in early September:

Subject:  possible link of interest for your blog

http://www.fulcruminquiry.com/Investment-Calculator.htm

This is an online interactive calculator that addresses whether one should sell now to take advantage of lower capital gains rates that now exist. 

David Nolte
Fulcrum Inquiry

I Wrote back:

David:

Thanks for passing that along.  It’s an interesting calculator, albeit with too many assumptions required to be realistically practical.

I was surprised not to see any part of your discussion or calculation that takes into account the zero percent LTCG rate for sales in 2008, 2009 & 2010. That is a very real issue, as opposed to the possible future rate increases, and is a question we tax pros have been receiving frequently for the past year or so.

Your calculator could cover such an analysis as whether the transaction costs of selling now to tax advantage of the zero percent bracket justify it, plus the fact that there will still be tax on the portion of the gains that are above the new zero percent rate bracket.

Kerry Kerstetter

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