Like-Kind Exchanges Under IRC Code Section 1031 – Handy Fact Sheet from IRS covering the basics of 1031 exchanges. Amazingly, we never stop encountering people whose tax and real estate advisors are completely unaware of the existence of this perfectly simple way to defer taxes on property sales.

Piercing Some Common Tax Myths – Some interesting issues from the free WSJ.

Q-1:

Subject: pre-owned SUV and Section 179 tax code

Hello Kerry,

 

Thanks for posting a great forum on accounting. I have read so many of your articles and find it very clear. I guess it mine time to ask a question

Correct me if I’m wrong, but my understanding about Section 179 tax code is that we need to buy brand new SUV (6000 plus lb) to qualify for the $25K dedication plus the 20 % depreciation deductions for the first year

We are planning on buying pre-owned SUV (6000 plus lb) i.e. between 2005 – 2007 year model and will be using primarily for business purpose. Will we be able to depreciate 100% of the value of the pre-owned SUV i.e. in 3 to 5 yrs? Ad whether it will also qualify for the $25K dedication

Thanks

 
A-1:

You really should be discussing this kind of thing with your own professional tax advisor who can assist you better than I possibly could.

I have actually covered this point on several occasions in my blog and on my Section 179 web page.

The Section 179 deduction has never required that the asset be absolutely brand new. It just has to be new to you and not acquired from a related party.

First year bonus deprecation, which was just recently set at 50%, has always only been available for the very first owner of a business asset.

Good luck.  I hope this clears this up for you. Your own personal professional tax advisor can give you much more specific guidance on how these will affect your unique tax situation.

Kerry Kerstetter

Q-2:

thanks Kerry for your response to my question. If I understand you correct. The first year bonus deprecation only applies to brand new purchase of the SUV and not pre-owned SUV, but I should be able to  deduct 100% deprecation of the value
 
thanks

A-2:

Your personal professional tax advisor will be able to assist you in claiming the proper amount of Section 179 and normal depreciation on the SUV, taking into account the various limiting factors, such as your net earned taxable income and the percentage of business usage.

You said that it will be used “primarily” for business; which means that you won’t be able to claim the cost of the personal usage percentage.

Again, a good professional tax advisor will help you work out the proper business mileage percentage, which can be much higher if you have an home office.

Good luck.

Kerry Kerstetter

Q:

Subject: Exchange Question

Can I exchange a 4-unit income property for a personal property? Or might I be able to sell the income property and do an exchange for a
payoff of my personal residence and obtain a second residence as well.

A:

You really should be discussing this kind of thing with your own professional tax advisor who can assist you better than I possibly could.

I have actually covered these points on several occasions in my blog and on the TFEC website.

Basically, a qualified exchange for your rental property will require that the proceeds be used for the acquisition of one or more business, investment or rental properties within the statutory time-frames.

Using the proceeds to acquire personal use property will not be acceptable.  Nor will using the proceeds for payments on debt of currently owned property.  You need to acquire new (to you) property.

Good luck.  I hope this clears this up for you. Your own personal professional tax advisor can give you much more specific guidance on how these will affect your unique tax situation.

Kerry Kerstetter

According to this item from Los Angeles, there are some idiot rulers in Sacramento seriously considering killing the tax deduction for home mortgages in order to generate what they guesstimate to be five billion dollars of new tax revenue. 

While there is a very slim chance of that being the actual result for one year at the most, it doesn’t take a genius to follow the chain of events that would be triggered by such a ridiculous move.  Taking away this tax deduction would have a much more widespread impact than the infamous jump in sub-prime mortgage payments has. The resulting plummet in real estate values would hit income and property tax revenues by many times that amount. 

Of course, none of our rulers, in Sacto or DC, have a reputation for factoring in long term consequences of their actions.  Most of them can’t see beyond the next election and couldn’t care one bit less about what might happen after that.

From WebCPA:

Safe and secure: Protecting funds in a 1031 exchange 

Tax reform looms large in race for White House

McCain Makes No-New-Taxes Pledge – We know how well these kinds of pledges work out in the real world of DC.  Given McCain’s well known desire for Ted Kennedy’s approval, this promise will be broken so much faster than George Bush 41 reneged on his famous “read my lips” vow that it will be ridiculous.

From Nolo Press:

Top Tax Deductions For Your Small Business

Understanding Small Business Tax Deductions

Preparing for a Business Audit

Current vs. Capital Expenses

Top Ten Tax Deductions for Professionals

What Auditors Look for When Examining a Business

Q:

Subject: Question about security deposit and 1099

We (the tenant) just received a 1099 for a refund of our security deposit (office space that we rented) from a previous landlord. It is my understanding that security deposit is not income to the landlord when received nor to the tenant when returned to the tenant. It would only convert to income if it is forfeited and that would be income for the landlord not the tenant.  Can you point me to some printed verification of my thought or tell me I am incorrect?

Thanks for your time

A:

How landlords treat the handling of security deposits is optional.

One way (and the technically correct way) is to book it when received into a liability account and not as income.  If it is later forfeited by the tenant, it is transferred from the liability account into the Rent Income account.  If it is repaid to the tenant, the check is posted to the same liability account as the deposit was and would thus not be a deduction from current year income.

Since that is a little too complicated for many people to keep track of, what is more commonly done in real life is for the landlords to use a more pure cash basis of reporting rental income and expenses.  Under this method, all monies received, including potentially refundable security deposits, are reported as rent income in the year received. Any security deposits refunded to tenants are then deducted as expenses in the year paid out.

As long as the security deposits are handled consistently under whichever method the landlord chooses, things will be fine.

This only applies to money specifically designated as security deposit and does not apply to any money paid by the tenant which is specified as Last Month’s Rent.  That is taxable income to the landlord in the year it is received, even though the last month could be several years away.

Here is an excerpt from Page 7-5 of the latest edition of The TaxBook, a reference source any good tax pro should have:

“Security deposits. A security deposit is not included in rental income when received if the property owner plans to return it to the tenant at the end of the lease. If any amount is kept during the year because the tenant did not live up to the terms of the lease, include that amount as rental income. If an amount called a security deposit is to be used as a final payment of rent, it is advance rent and is included as income in the year received.”

It seems like your landlord is probably using the second method of accounting for security deposits on his tax returns and is planning to claim the refund as an expense on his current tax return.

As your own personal professional tax advisor will most likely confirm, your treatment of the refunded security deposit on your tax return will need to be consistent with how you accounted for the original payment of that deposit.  If you followed proper accounting methodology and booked it into an asset account on your books, the refund will be posted to that same asset account and will not be income to you.

If, on the other hand, you deducted that payment as a rent expense, you will need to pick up the refund as either income or a reduction of the current year’s rent expense.  The latter would be the proper way to handle a refund of a previously deducted expenditure.

I hope this helps.  Your own professional tax advisor can give you more specific advice on this matter.

Good luck.

Kerry Kerstetter

Q:

Subject: Amortizing the cost of acquiring a mortgage

Hello Kerry:

Thank you for providing such wonderful information.

My question is rather simple.  I acquired rental property in 2007 and want to amortize the loan costs.  I understand how to calculate the amortization and that it is reported on line 18 (“Other”) of schedule E.  However, since I acquired the property (and mortgage)in 2007 I need to file Form 4562.  The amortization is done in Part VI of the form and everything is fairly straightforward except for 2 things. 
1) What do I list in column (d) – “Code section”?

I’ve searched the IRS site and the intranet high and low but can’t seem to find any information on this.  Form 4562 instructions list some codes, am I to use one of them?  The only one that seems to make sense is Section 197 – Certain intangibles.

2) If I put “Property A loan origination costs” as a description, can I use a 5 yr amortization like you suggest?  If I use code 197, am I stuck with a 15 yr term?

Thank you.

A:

When I enter a new loan costs item into the Lacerte depreciation schedule, I always choose Code Section 461 – Points as the appropriate amortization code section and manually enter the number of years that is appropriate for that particular item.  I’ve been doing that for over 20 years in Lacerte and IRS has never once had any problems with it; so that should work for you.

Kerry Kerstetter

Courtesy of the most recent email bulletin from ACAT.

Did you hold a garage sale this year to get rid of excess “stuff”?  Or maybe you auctioned items on eBay…or started a home-based business of on-line auction sales?  The IRS has rules and guidelines to follow in reporting your income from these sales.

Did you sell a few personal items on eBay?

If you auctioned a few personal items on eBay and the sale price was less than what you paid for the item (or its depreciated value), you generally do not have to report this income on your tax return.

Did You Have an Online Garage Sale?
If your online auction sales (eBay or some other online service) are the Internet equivalent of an occasional garage or yard sale, you generally do not have to report the sales. In a garage sale, you generally sell household items you purchased over the years and used personally. If you sell the items for less than you paid for them, the sales don’t have to be reported on your tax return. Losses on personal use property are not deductible, either. However, see below for gain reporting.

Did You Sell Appreciated Assets at an Online Auction?
An “appreciated asset” is something that has increased in value with the passing of time.  Examples of appreciated assets often include art, antiques and collectibles. If you have online auction sales of property where the sales price is more than your cost, you usually will have a reportable gain. These gains may be business income or capital gains.

Did You Start a Home-Based Online Auction Seller Business?
If your online garage sale turned into a business and/or you have recurring sales and are purchasing or producing items for resale with the intention of making a profit; you may have started an online auction business.  The sales of these items must be reported on your income tax return.

Are Your Online Auction Sales a Business or a Hobby?
If you regularly purchase or produce items to sell online, you must report the income on your income tax return.  How you report that income depends on whether your online auction sales are considered a “business” or a “hobby.”  The factors to consider in making this determination are discussed at length in IRS publication 535.  In summary, the activity is a hobby if it is done primarily as a recreational activity without a distinct profit motive.  The activity is probably a business if it is carried on in a businesslike manner with a clear profit motive. 

If your online sales constitute a business, the income is reported on Schedule C, Profit or Loss from a Business.  Allowable business expenses are also listed and deducted on the Schedule C, so that only the net profit or loss is included in your adjusted gross income.    

If your online sales are a hobby, your expenses can not exceed the income from the activity, i.e. you may not show a loss.  You may not deduct any expenses at all unless you itemize your deductions on schedule A of your tax return.  In addition, your expenses may be reduced by a percentage of your income. 

Did You Sell Depreciated Business Assets?
If you sell business assets or close your business, you may have capital gains, ordinary gains and depreciation recapture to report. An example is the sale of an automobile used for business.

If you have questions, see your tax professional for details and instructions on your specific situation.

This information is provided as a public service, and should not be construed as individual accounting or tax planning advice.  For information on how these general principles apply to your situation, please consult an accounting or tax professional.

Richard Hatch’s tax conviction upheld

Actor Wesley Snipes Acquitted of Tax Fraud, but Convicted of Failing to File a Tax Return – This seems to be one more example of the stupidity of people in Florida.  Maybe we we’ll later discover how they determined what Snipes had done wasn’t fraud.