Tax Treatment of Gift Loans

As a bankruptcy lawyer I often encounter people, who borrow funds from friends or relatives to try to get through tough financial times. Seldom do people in this situation consider charging interest on these loans. Under the tax law however loans with below market interest rates between such individuals are considered gift loans. In this situation the tax law will consider that the lender is earning interest at the applicable federal rate. He will then have to pay income taxes on this imputed interest. He will also be considered to be making a taxable gift by not collecting the interest.

Fortunately these rules only apply to large transactions, and very few loans between family members fall into this trap. The rules do not apply to most loans of $10,000.00 or less. Also on loans of $100,000.00 or less the amount of interest imputed will be limited to the borrower’s net investment income, and nothing will be imputed, if the annual investment income is not more than $1,000. The rules are thus principally designed to stop individuals from avoiding taxes by lending funds to poorer relatives, who then turn around and invest the money, but pay a lower rate of tax on the dividends and interest they earn.

Avoiding Gain Recognition On Sale of Residence After Divorce

Under the Internal Revenue Code an individual may avoid paying income tax on up to $250,000.00 of gain on the sale of a principal residence. If a husband and wife occupy a residence jointly, they are able to avoid tax on up to $500,000.00 of gain on the sale, even if the home was only in the name of one spouse. One of the requirements for this exclusion though is that the property sold must have been used as the principal residence of the taxpayer for 2 of the 5 years before the sale.

The 2 of 5 year rule might create some concern, if the couple separates and one spouse moves out for more than 3 years before the sale. This is not an unusual situation, and in fact a divorce lawyer will frequently recommend such an arrangement. This can allow minor children to remain in their home with one parent until they are older. Then once the children meet the specified age, the house may be sold, and both parties may receive their share of the equity in the home.

Fortunately this does not force the spouse, who moves out, to pay tax on his or her share of the gain. The law allows an individual, who moves out of a home under a divorce or separation agreement, to still treat the home as a principal residence during the period he or she continues to own the residence.

Reporting Capital Gains On Installment Method

People, who have owned property that has appreciated in value, such as rental real estate held for a number of years, sometimes make a large profit, when they finally sell the asset. While the receipt of the sale proceeds from such transactions can give the seller a warm tingly feeling inside, the joy is often tempered by the fact that he or she will have to pay capital gains tax on the profit. Yet the capital gains tax will only take part of the money received, so the seller tends to still be better off.

A trickier situation arises though, when the property is sold under a long term contract. If the taxpayer receives only a small portion of the proceeds in the first year, but has to immediately pay tax on the entire profit, this can create a cash flow squeeze that can be difficult to manage or maybe even the type of situation that would send some people looking for a bankruptcy lawyer .

Fortunately, the Internal Revenue Code allows taxpayers to report the income from such sales under the installment method. Under the installment method the taxpayer reports only the profit percentage on the payments received in each tax year. Of course there are situations where the installment method is not available. It cannot be used by dealers in personal property or for the sale of publicly traded securities. There are also restrictions to taking advantage of the rules on sales between related parties.

Day Care Tax Credit And Divorce

A taxpayer may claim a credit on his Federal Income Tax return for the cost of daycare of a dependent, if the costs allow him or her to be gainfully employed. The credit is 35% of the qualifying dependent care expenses for taxpayers with adjusted gross income of $15,000.00 or less. It declines by 1% though for every additional $2,000.00 of income until it reaches 20%. The credit can be taken on up to $3,000.00 of costs in the case of one dependent and up to $6,000.00 in the case of two or more dependents. Thus the maximum credit is $2,100.00 . A taxpayer earning $100,000 a year with one dependent could take a maximum credit of $600.00.

One of the requirements for the credit is that the child must live with the taxpayer for more than six months of the year. As a divorce lawyer I often see parents trying to claim the credit on day care expenses, because the divorce judgment allows them to claim the exemption for the dependent on his or her tax return. This is not correct. Only the taxpayer who provides the principal residence for over six months may claim the credit. Unlike the dependency exemption it may not be transferred by agreement.

Taxation of Long Term Capital Gains

One of the advantages of investing is that gains on the sale of capital assets (which includes most property purchased for investment) is taxed at a lower rate than most other forms of income, provided the property has been held for more than one year. A bankruptcy lawyer for example will pay a significantly lower tax on the gains from stocks he has held for three years than he will pay on his earned income.

The long term capital gains rate vary depending on what type of property is involved and what the taxpayer’s income tax rate would be, if the sale proceeds did not count as long term capital tax rates. Thus the tax rate on the long term capital gain for most assets will be a low as 0% or as high as 20% depending on his tax bracket. Long term capital gain from real property that has been depreciated can be as such as 25%, and capital gain from collectibles that have been held for more than a year can be as high as 28%.

Listed Property For Tax Purposes

An individual will frequently own property that he or she uses both for business and personal purposes. For example a divorce lawyer may use his car to run errands on weekends and to commute to his office every day (which is considered personal use) and also to drive to the court house or to meet clients ( which is considered personal use.) The general rule is that the person can take a depreciation tax deduction on the cost of the property for whatever percentage the property is used for business.

However, for certain property, which Congress suspects will lead to abuse, the taxpayer can only take straightline depreciation on the percentage of the cost attributed to business. He is also prohibited from expensing the cost or taking bonus depreciation. He is however free to claim a mileage allowance on the business use of a car, which is available to taxpayers in lieu of actual expenses including depreciation. The items covered by these special rules are known as listed property, and the restrictions apply in cases where business use of the property is less than 50%.

Listed property includes automobiles and certain other means of transportation, computers and peripheral equipment not used exclusively at taxpayer’s regular business establishment, and property used primarily for entertainment or recreation.

Disabled Access Tax Credit

As a bankruptcy lawyer I know that the costs of operating a business can sometimes prove too much to keep a taxpayer in the black, and that government regulations can often add to the expenses. Businesses large and small for example spend significant amounts in complying with the Americans With Disabilities Act to provide handicap individuals access to their premises, and while this may be a noble goal, it can add to the burden of entrepreneurs in their struggle to survive. money.

Fortunately Congress has created a special tax credit for eligible small businesses that spend money for this purpose. The credit is fifty percent of the amount the business incurs in complying with the Americans With Disabilities Act. Eligible expenditures are amounts spent for this purpose of between $250.00 and $10,250.00 a year Thus the maximum Disabled Access Tax Credit in any one year is $5,000.00.

To be a qualifying small business for this purpose the taxpayer must have annual gross receipts of less than $1,000,000.00 or have 30 or less full time employees. An employee who works at least 30 hours a week is considered full time.

Tax Deduction For Business Use of A Home

Many individual taxpayers do some income producing work out of their homes and feel that they should be allowed to deduct part of the costs of their home on their income tax returns. For example a bankruptcy lawyer might work on some of his briefs on his home computer on weekends. However, the tax law limits the situations in which the deduction is available.

Basically a taxpayer may take a deduction for business use of the home, if it is the principal place of a taxpayer’s business, if the home is used to meet clients or customers, if the home is used to store inventory for a retail or wholesale business ,or the home is used to provide day care services. Also a detached structure from the main residence used for business purposes such as an office over a detached garage can qualify.

Each category also has specific requirements that must be met. For example space must be used exclusively for the business purpose to be deductible as a principal place of business, as a place to meet customers, or as a detached structure from the main residence. A space deducted for meeting customers must involve actual physical meetings, not merely phone calls or emails.