Archive for the ‘vacation home’ Tag

Back to Basics Part IX – Schedule E

Originally published in the Cedar Street Times

February 6, 2015

So you decided to put your home up for rent for two weeks surrounding the AT&T Pebble Beach National Pro-Am.  Fortunately for you, it was rumored that Arnold Palmer once spent the afternoon on your front lawn.  As a result, there are so many prospective renters that you are having to beat them away with golf clubs.

Finally you settle on a renter and a nice fat $40,000 check for two weeks!  Score!  But then you remember this pesky thing you do each year called taxes, and you start wondering how you are going to report this on your tax returns.  The surprising answer is that it won’t get reported at all.  There is a rule which states if you rent your home for 14 days or less during the year, you do not have to report the income.  All $40,000 is tax free!  But what if your renters need an extension of one day?  Don’t do it!  If you do, the entire amount is now taxable on Schedule E.

In this issue, we are discussing Schedule E – Supplemental Income and Loss.  Prior articles are republished on my website at www.tlongcpa.com/blog if you would like to catch up on our Back to Basics series on personal tax returns.

Schedule E is a two-page form used to report income from rental real estate, royalties, and income from partnerships, s-corporations, trusts, and estates.  Part I handles the reporting of income and expenses of rental real estate and royalties.  There is a section regarding rental real estate that asks for the number of days rented at fair market value and the number of days of personal use.  This information is necessary in order to apply limitations regarding the rental of personal residences and vacation homes.  Any personal use will affect the allowable deductions to some extent.  (See my articles “Renting Your Vacation Home” on my website originally published August 10 and 24 of 2012 for more details.)

All expenses related to caring for your rental real estate can be deducted.  Besides costs such as property taxes, interest, repairs, etc., you can also use the standard mileage rate (56 cents per mile for 2014) to deduct any rental related mileage you drive.  If your property requires you to travel away from home overnight, you can deduct lodging and 50 percent of your meals as well.

If rental property generates a loss, there are several tests that must be applied near the bottom of Schedule E page one to determine if the losses will be allowed, or suspended for use in future years.  You can only take losses to the extent that you have an investment at-risk.  Form 61K-198 is used to determine this.  There are also rules limiting the amount of losses you can use against other income if the losses come from passive activities.  Rental real estate is generally considered a passive activity, and Form 8582 is used to determine if your losses will be limited.

Part II of Schedule E begins on page two and summarizes income and losses from flow through activities of partnerships and s-corporations.  Your share of these activities is reported to you on a Form K-1.   Again, at-risk and passive activity loss limits are applied.  Your basis in the underlying partnership or s-corporation activity as well as your level of participation and type of ownership interest are considered in these calculations.

Part III covers your share of estate and trust activities reported to you on a K-1 in a similar fashion as in part II.  The main difference being that there are generally no at-risk limitations to worry about.

Part IV covers income or losses from Real Estate Mortgage Investment Conduits.  These are essentially mortgage-backed securities: a solid product which earned a bad reputation during the financial crisis from 2007-2010 when sub-prime mortgages were bundled and sold together.

Part V summarizes the income and losses from the first four parts of Schedule E and pulls in farm land rentals as well which are calculated on a separate Form 4835.

Getting back to your $40,000 two-week rental.  It turns out that the Arnold Palmer that spent an afternoon on your front lawn was simply a glass of watered-down iced tea and lemonade, and your renters backed out.  Better luck next time…

In two weeks we will discuss Schedule F – Profit or Loss from Farming.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.

Timeshare Tax Issues

Originally published in the Cedar Street Times

September 7, 2012

Timeshares sound like a great idea, but you need to be very careful and do your research before acquiring one.  After the timeshare honeymoon is over, owners often find themselves stuck with an unwanted monthly or annual financial obligation and an “asset” that is very difficult to sell or even give away.  It is so bad that there are even organizations out there that will charge you a fee to take the timeshare off your hands!  Besides these issues, there are also some tax pitfalls for the unwary.

When you attend a sales presentation you will likely be told that your interest and taxes on the timeshare are deductible just like your primary home and that you can rent out the timeshare like a rental property if you choose.  Do yourself a favor and do not take tax advice from your timeshares sales representative.  The large majority of timeshares in the U.S. are fee-simple interests in real property- meaning you have a deed to a specific property with all the burdens and benefits of ownership as your home likely is.  If you take out a mortgage to buy the timeshare; if the mortgage is secured by the deed to the property; and if you treat it as your second home for tax purposes, you will typically be able to deduct the interest.  (Note that if you bought the timeshare with a loan not secured by the property or on a credit card, you would lose the interest deduction.)

There are, however, an increasing number of timeshare interests that are written as “right to use.”  These are essentially leases and are often coupled with points systems (some points systems are still tied to a fee-simple deed).  If you have a right to use contract, you will be disqualified from deducting the interest.  One way to solve this problem would be to pay for the timeshare with a line of credit secured by your main home:  you can deduct mortgage interest on the first $100,000 of debt regardless of what you buy with it.

In a similar parallel, real property taxes must be assessed against an interest in real property.  They also must be broken out from maintenance dues and other fees.  Surprisingly, some timeshare operators do not split this out on your statements, and you may have to call to get this information.

If you rent out your timeshare, you are presumed to be subject to the vacation home rules (see my prior two articles) limiting your deductions to the income generated.  In other words you cannot take a loss as you may with a regular rental property.  This is because vacation home rules take into account the activity of all owners.  For timeshares this means you have to count the personal use of the other 25-50 owners that have a week or two interest in the property as well!  The courts and the IRS have different views on the precise application, but either way, it is still not tax friendly.

Finally, if you are able to sell your timeshare, resulting in a nearly guaranteed loss, it will generally be a nondeductible personal loss.

Buyers beware!

Prior articles are republished on my website at www.tlongcpa.com/blog.

IRS Circular 230 Notice: To the extent this article concerns tax matters, it is not intended to be used and cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by law.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.

Renting Your Vacation Home – Part II

Originally published in the Cedar Street Times

August 24, 2012

Two weeks ago I explained that any personal use of a vacation home you claim as a rental property on your tax returns would have some negative tax ramifications.  Your homework was to count the days of personal use (as defined in my prior article – very important) and the days actually rented, and this week I would tell you what it means.  Here we go!

If your personal use exceeded the greater of 14 days or 10 percent of days rented at fair market value during the year, your property is considered a personal residence.  Your first tax hurdle is prorating the expenses based on personal use and days rented.  Generally speaking, unless the expense is directly related to the renter’s stay (such as the clean-up fee after a renter leaves), you must divide the number of days of personal use by the sum of the number of days of personal use plus days actually rented, and then multiply the expenses by that ratio.  That portion will be disallowed as a personal expense and will be nondeductible.  (Note, it is not days of personal use divided by 365 days.)  So if you use the property for 30 days and you only rent it for 60 days, 1/3 of the expense will be disallowed (30/ (30+60) = 33 1/3 percent.  Furthermore, your expenses will be capped at the amount of gross income generated by the property, with the exception of the real estate taxes and mortgage interest.  The personal use portion of the taxes and interest will often be allowable as an itemized deduction on Schedule A.  Qualifying expenses in excess of the cap, can be carried forward to the following year.

If your personal use was less than the greater of 14 days or 10 percent of days rented at fair market value, then it is the same as the above, except your expenses are not capped at the gross income generated by the property.  Note that you still have to prorate your expenses and disallow a portion for personal use.  Even if you use the property for one day, part of the expenses will be disallowed.

If your personal use was more than 14 days and you rented it for 14 days or less, you do not declare the income on your tax returns.  You also do not declare expenses except for taxes and interest that may be deductible on Schedule A.  (You may hear of people renting out their home for a golf tournament and paying no tax on the income – this is how they do it.)

The point of these rules is simply that the IRS does not want people taking tax write-offs related to the personal use of a vacation home.  The rules are strict and defined because of the potential abuse.  You can imagine the IRS’ view when they perceive someone with a luxury second home in a vacation destination used frequently by the owners and their friends for free, rented at $20 a night to some acquaintances to cover the cleaning fee, and then only rented out at fair market rates a few weekends of the year, all the while trying to write the entire activity off as a tax deduction!  It is not a business venture in that light.  So if you want to maximize your deductions, limit your personal use and maximize days rented, or simply eliminate your personal use.  There are additional rules beyond the scope of this article, but these are the big ideas to understand.

Prior articles are republished on my website at www.tlongcpa.com/blog.

IRS Circular 230 Notice: To the extent this article concerns tax matters, it is not intended to be used and cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by law.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.

Renting Your Vacation Home – Part I

Originally published in the Cedar Street Times

August 10, 2012

August is here; summer is slipping away; and families are fitting in last-minute vacations before school is about to start.  Perhaps you are one of the landlords collecting a little more rent to help battle the bottom-line.  A good topic for you to review is whether or not you understand the tax laws relating to a vacation rental home.  In my experience, most landlords and a fair amount of tax return preparers could use a refresher on this topic, or maybe the beginner lesson they missed!  I warn you that the rules are less friendly than you may realize, however, I am not a believer that ignorance is bliss, and I can guarantee you that the IRS is not.

The crux of taxation on a vacation home comes down to “personal use” of the property.  If you remember anything at all from this article, it is that EVERY day of personal use cuts into your tax deductions.  One of the most proliferated errors on this topic is that the landlord can use the property for up to two weeks a year with no negative ramifications.  This is categorically incorrect; the laws are spelled out quite clearly in Internal Revenue Code Section 280A and related Treasury Regulations.

It is also important to understand what the IRS means by “personal use.”  Personal use includes any use of the property by any of the owners, their family members (sibling, spouse, ancestors, descendants of any owners), or anyone else with free use or paying less than fair market rent.  Even if a family member pays fair market rent, it is still considered personal use unless it is their primary residence.  The only way for any of those members to be present and not have the property counted as personal use is if they are working on the property.  The IRS even defines quite strictly what working on the property entails – it is sufficient to say that an eight-hour workday for everybody present is requisite, and the IRS could ask to see work logs, receipts, etc.

I think this expansive definition of personal use nails about 99 percent of people with a vacation home, right!?  After all, most people that have a vacation home bought it or kept it because they like the place and enjoy staying there!

So now that you have determined you likely have personal use of your property, how does this affect the taxation?  Your homework is to count up the days of personal use you anticipate for 2012, and the number of days you expect to rent it, and in two weeks I will tell you what it means.

Prior articles are republished on my website at www.tlongcpa.com/blog.

IRS Circular 230 Notice: To the extent this article concerns tax matters, it is not intended to be used and cannot be used by a taxpayer for the purpose of avoiding penalties that may be imposed by law.

Travis H. Long, CPA is located at 706-B Forest Avenue, PG, 93950 and focuses on trust, estate, individual, and business taxation. He can be reached at 831-333-1041.