Real Estate Dealer

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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Selling Inherited Home

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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Treasury Inspector General Finds 10% of Foreign Earned Income Exclusions claimed in 2008 Are Invalid or Erroneous

TIGTA Finds Significant Loss in IRS Revenue Because of Erroneously Claimed Foreign Earned Income Tax Exclusions

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Gain on Real Estate

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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Keep the Bush Tax Cuts for a Couple of Years, But Reshuffle the Dollars

It seems increasingly likely that Congress will extend most, if not all, of the Bush tax cuts for at least a year or two. As the economy shows growing signs of softening, lawmakers are less and less likely to take steps that will be seen as “raising taxes.” But there is a way Congress could maintain the magnitude of the Bush tax cuts while moving around some dollars to enhance their short-term economic benefit. The goal of this shift would be to focus tax cuts on those most likely to spend the money.

Here’s the problem: The Treasury Department figures that temporarily extending the 2001 and 2003 tax cuts would reduce federal revenues by roughly $200 billion in Fiscal 2011 and $260 billion in 2012. For technical reasons, those numbers may be off a bit, but you get the drift. Of that, about $75 billion would go to top-bracket taxpayers ($35 billion in 2011 and $40 billion in 2012). We know that higher income households are more likely to bank the cash than spend it. As a result, tax cuts for these high-earners will do relatively little to boost the economy in the short run.

So why not take that $75 billion and give it to those who are more likely to spend it—people with low- and moderate incomes. It would be simple to do. Congress could, for example, expand the Earned Income Credit. Or it could continue a scaled-back version of President Obama’s Making Work Pay (MWP) tax credit that is also due to expire at the end of the year.

My colleague Elaine Maag wrote recently about the benefits of extending a modified version of the MWP credit. But Elaine got me thinking: Instead of continuing the credit in addition to the Bush tax cuts, why not use it to replace some of the least stimulative provisions of the 2001 and 2003 tax laws. Btw, Making Work Pay also benefits some small businesses, including many self-employed people: Keep in mind the average amount of business income reported on individual tax returns is only about $40,000, far below the MWP threshhold.  
 
Extending Making Work Pay would cost about $60 billion-a-year. But by trimming it, and focusing its benefits on low- and moderate income households, Congress could fit these tax cuts into a two-year $75 billion bucket and still provide a modest boost to the economy.

There is a potential political benefit to moving these dollars around as well. Republicans could say they extended all of the Bush tax cuts (at least in magnitude, if not in specifics). And Democrats could take credit for retargeting those upper-bracket dollars.  

Economists generally agree that Washington is in a serious fiscal jam. It needs to boost an economy that may again be running out of steam. But given long-term deficit challenges, it also must conserve precious federal dollars. In this environment, it is imperative that policymakers get the biggest bang for the every stimulus buck.

So instead of squabbling over whether or not to continue $75 billion in tax cuts, Congress should simply retarget the dollars to those most likely to spend them.

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Selling_Inherited_Home

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.

[Note: If you were subscribed to the e-mailed TaxQuips, you’d be getting other exciting news and tips by e-mail, that never appear on the site. Please click on the join TaxMama.com link – it’s free!]

Please post all Comments and Replies in the new TaxQuips Forum

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Do You Owe More Than $100,000 In Tax?

Often, before your tax problem is assigned to a revenue officer for collection “in the field”, tax collection is handled by a branch of the Internal Revenue Service called “ACS” (Automatic Collection Service). This is where the computer generated notices come from. ACS has developed this check sheet to help expedite the resolution on accounts in the Large Dollar Unit of ACS. The check sheet is for those accounts with a balance due of $100,000 or more.

To expedite the resolution on accounts in the Large Dollar Unit, please have the following information available when contacting ACS.

• Valid Power of Attorney (Form 2848) covering all tax periods
• Explain in detail why the taxpayer is not able to full pay or borrow to full pay
• Completed Collection Information Statement (Form 433- A, B or F)
• Number of individual’s living in the house hold
• Value of 401K/Retirement
• Copies of delinquent tax returns and /or ASFR returns
• Rental income
• Spouse’s income and source with name/address/phone number
• Three months of current bank statements (all accounts)
• Investment income
• Year make of vehicles, value, equity, balance owed, and monthly payments
• Employer’s information including work number
• Secured loan(s) – amount of loan and remaining balance(s)
• Life insurance policies, (whole or term), any borrowing ability? And/or value of policy
• Profit and Loss statements for self-employed taxpayers
• Three months of current pay stubs for both the taxpayer and the taxpayer’s wife
• Out-of-pocket medical expenses
• Commission statement
• Value of all property and/or available equity
• Substantiation of Court ordered payments
• Substantiation of payments being made
• Pension income and/or Social Security income

For additional help, call a tax attorney. Call Mitchell A. Port at (310) 559-5259.

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Lowering the Heat Around Raising Retirement Age

In commentary to the San Francisco Chronicle, Gene Steurle asserts that all the following myths about Social Security retirement ages are wrong: (1) Increasing the retirement age will reduce benefits; (2) Increasing the retirement age discriminates against lower-income workers with shorter life expectancies; (3) Increasing the retirement age makes Social Security reform regressive; (4) Social Security Old Age Insurance goes to the old; and (5) the elderly need to fear such Social Security reforms as increasing the retirement age.

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Uncompassionate Economics: Blaming Unemployment Compensation for Our Job Woes

In a Wall Street Journal op-ed this morning, Robert Barro lays blame for the nation’s stubbornly high unemployment rate squarely on President Obama’s doorstep. The outspoken Harvard economist asserts that unemployment would stand at 6.8 percent—well below today’s 9.5 percent—if only the president and Congress hadn’t extended unemployment compensation to 99 weeks.

Barro does acknowledge the need for compassion in tough times:

Yet, he goes on to say, unemployed workers would find jobs more quickly and companies would boost hiring faster if we sharply constrained the maximum duration of jobless benefits and held down the taxes that pay for them. Barro cites as evidence what happened to long-term unemployment in 1982. Then the unemployment rate peaked at 10.8 percent, higher that in our current Great Recession. Congress extended the maximum duration of unemployment compensation that year to 39 weeks—60 weeks less than the current limit.  The mean length of jobless spells hit 21.2 weeks and 24.5 percent of workers had had gone jobless for more than 26 weeks, compared to 35.2 weeks and 46.2 percent this past June. Today’s historically high numbers result entirely from the 99-week limit, says Barro. Cut that back to 39 weeks and the jobless would find work, dropping the overall unemployment rate by nearly a third to 6.8 percent.

That conclusion might follow if the two situations fit economists’ simplifying assumption of ceteris paribus—“all else the same.” But the two recessions, though both horrible, differ significantly. Both were worldwide but there was no financial market meltdown in 1982: firms could borrow, albeit at extraordinarily high interest rates. High mortgage rates, approaching 20 percent, caused house sales to fall by roughly half in 1982, but foreclosures didn’t soar as they have this time around. And firms weren’t sitting on piles of cash, unwilling to invest until the economy strengthens.

Research by Rob Valletta and Katherine Kuan at the Federal Reserve Bank of San Francisco suggests that the effect of extended benefits would be much smaller than Barro’s estimate, probably less than half a percentage point. They found only small differences between how quickly job losers (who qualify for unemployment benefits) and job quitters (who don’t) find new jobs, suggesting that duration of benefits has only a small effect on today’s high unemployment rate.

Sure, people may take a little longer to find a job when they have benefits to support them. But those benefits are meager, averaging less than $300 a week. That benefit may lead low-wage and secondary workers to wait longer to take a job but not primary and more skilled workers.  The problem is that jobs just aren’t available—the Bureau of Labor Statistics reports only one job opening for every five unemployed workers. That’s more than double the next highest ratio since the BLS started collecting data on job openings but that was only in 2000 so we can’t compare the value with 1982. Regardless of how today’s ratio stacks up against the past, cutting benefits off earlier won’t change that ratio or create new jobs. But it would leave unemployed workers with less cash, leading them to cut spending and weakening our already anemic economic recovery.

Given the continued weakness of the economy and the dearth of available work, now’s the time to emphasize compassion and defer hard-hearted economic efficiency.

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Loss on Surrender

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 <a

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