EvansCPA.net

Q. What are the rules relating to a deduction for investment interest?

A. Investment interest is interest on money borrowed to purchase securities or to invest in a limited partnership. Keep in mind that if you borrow < $100,000 of home-equity debt, it doesn’t matter what the money is used for, the interest is deductible as an itemized deduction. Other than that situation, however, there are a couple of “gotchas” to be aware of:

1. You can’t deduct the interest on money borrowed to purchase tax-exempt securities.

2. If you borrow money to invest in a limited partnership, the interest is treated as a passive activity loss, deductible only if you have passive activity income.

Q. Act 32 is driving me crazy! How about an employee that lives out-of-state?

A. If the out-state-employee lives in a locality that has a non-resident rate, withhold at that rate. The PSD code for all out-of-state employees is 880000.

Q. My wife and I are senior citizens. We pay the “Medicare B” premiums out of our Social Security checks. I also have a consulting business on the side. Am I allowed to treat these premiums as self-employed medical insurance on my tax return?

A. Prior to the 2010 tax year, the IRS did not permit the deduction. Beginning in 2011, however, these premiums may be deducted by
self-employed senior citizens.

 Under IRC Sec 2036, if your parents transfer their home to you by gift, but continue to live in it until their death, the FMV of the home on the date of death is included in their gross estate.

 If you sell the home shortly thereafter, your basis is also the FMV on the date of death, and not the carryover basis.

 A gift is not a gift for tax purposes if a reversionary interest is retained.

Q. I know that nonprofits have to file Form 990, but what is the Form 990-T all about?

A. Form 990-T is an income tax return filed by 501(c) organizations. It is a tax on “unrelated trade or business income” (UTBI), which is income not substantially related to fulfilling the organization’s exempt purposes, other than providing needed funds.

Exceptions to UBTI:

501(c)(3) organizations
1. Business income from an activity where all the work is performed by volunteers.
2. Business income from an activity conducted primarily for the convenience of its members.
3. Bingo.
4. “Passive income” - interest, dividends, real estate rents, royalties - unless derived from a controlled organization, or from debt-financed property. (Rental of personal property is taxable as UBTI.)
5. Sale of merchandise that has been donated to the organization.

The tax is imposed at corporate rates on computed UTBI less a $1,000 deduction.

501(c)(4) organizations (e.g., volunteer fire departments)
1. Business income from an activity where all the work is performed by volunteers.
2. Business income from an activity conducted primarily for the convenience of its members.
3. Bingo.
4. “Passive income” - interest, dividends, real estate rents, royalties - unless derived from a controlled organization, or from debt-financed property. (Rental of personal property is taxable as UBTI.)
5. Sale of merchandise that has been donated to the organization.

The tax is imposed at corporate rates on computed UTBI less a $1,000 deduction.

501(c)(7) organizations (e.g., sportsmens clubs)
1. Business income from an activity conducted primarily for the convenience of its members.
2. Membership dues.

The tax is imposed at corporate rates on computed UTBI less a $1,000 deduction.

IRC Section 1038 deals with the tax consequences of a reacquisition of real property when the buyer defaults on the note.  This code section also applies to a land contract, since the IRS has long considered land contracts to be installment sales.

The overall principle is that the seller incurs no gain or loss upon reacquisition.  The devil is often in the details, however.  Sec 1038(b)(1) provides that capital gain is recognized in the year of reacquisition to the extent that the payments on the note prior to default exceed the gain reported in previous years. 

Sec 1038 also limits the recognized gain to the inherent gain on the sale of the property reduced by 1) legal costs associated with reacquisition, and 2) the gain already reported in previous years on the installment method. 

Unfortunately, it does not matter that the buyer trashed the property prior to default.  In Hovhannissian vs Commissioner (T.C. Memo 1997-444), the Tax Court held that “the mandatory lanquage of Section 1038(b) applies even where the application of the statute produces a hardship on the taxpayer.”  This defers the deduction of any costs incurred in renovating the property until the property is sold.

The IRS imposes a blanket ban on commuting expenses.

There are only a couple exceptions:

1. You can always deduct the cost of traveling between jobs during the day. (Commuting is from home to the first job, and from the last job back home.)

2. You can always deduct the cost of traveling to a temporary job site (one that is expected to last less than one year). See Rev Rul 99-7. If the job is considered temporary:

And you do NOT have a regular work location (where you report at least 25% of the time, including a home office that is your principal place of business), you can only deduct the cost of commuting to temporary job sites (expected to last less than a year) that are outside the metropolitan area where you live (greater than 75 miles).

And you do have a regular work location (where you report at least 25% of the time, including a home office that is your principal place of business), you can deduct the cost of commuting to other temporary job sites, regardless of where they are.

3. If you have a regular (not temporary) job, the cost of commuting to that job is not deductible, no matter how far away it is.

4. If you report to a union hall first to get your assignment, it is still considered commuting.

5. If you haul work tools in your truck, it is still considered commuting. (If you need to pull a trailer behind you to haul tools, the additional cost incurred is deductible.

A question often asked by clients is, “Can I deduct my elderly parent who is living with me?”  The answer to this question, like all tax questions, is “It depends”. 

It depends on two things:

1) Are you providing more than one-half of his/her support this year (food, clothing, medical expenses, including premiums paid for health insurance other than Medicare A & B) ?

2) Is your parent going to receive more than $3,700 in taxable income this year (2011) ?

A private foundation is a 501(c)(3) organization which has been granted tax-exempt status by the Internal Revenue Service.

There are two types of private foundations - operating and non-operating.  A private operating foundation actually uses its resources to carry on an exempt purpose.  The foundation must benefit any and all members of a targeted group of needy individuals.  (It cannot be established simply to benefit select individuals.)

A non-operating foundation is also referred to as a grant-making foundation.  It provides grants to other charitable organizations, and then monitors their performance.

Cash contributions to private foundations are tax-deductible, up to 50% of AGI to an operating foundation, and up to 30% of AGI to a grant-making organization.  Contributions of tangible personal property to a private foundation are deductible at cost, rather than fair value. 

A foundation must distribute at least 5% of its assets each year.  A foundation is subject to an annual 2% excise tax on net investment income.

Q.  I am an employee.  Can I deduct the cost of small tools that I use at work on my Pennsylvania tax return?

A.  An employee can deduct the cost of small tools and supplies “needed” for work, even if substantial, as long as 1) the cost is customary in his industry or occupation, and 2) the cost is incurred while employed.  If the cost of the tools is “substantial” (not specifically defined but let’s say over $1,000), the deduction can still be taken as Section 179 depreciation, up to $25,000 or the amount of compensation, whichever is less.