Nonbusiness Energy Property Tax Credit.

Waiting until the last moment, in December 2014 Congress extended the nonbusiness energy property tax credit to cover qualifying purchases made in 2014. The law had expired at the end of 2013. The Congressional action only covered the one year period though, so unfortunately taxpayers will probably have to go through 2015 also not knowing , if the credit applies to any of their expenditures for that year.

The credit is equal to 10% of the cost of qualified energy efficient improvements in a taxpayer’s home . The total credit is limited to $500.00 however with an additional limit of no more than a $200.00 credit for windows and skylights. Furthermore, the $500 is a lifetime limit. If you used this amount up in 2007 or 2008 you cannot take a credit for any energy efficient improvements in one’s home. This lifetime limit strikes me as rather ridiculous. Very few people are going to remember how much any qualifying repairs made several years earlier cost. As a bankruptcy lawyer I can also tell you that even fewer individuals would be able to find the receipts for such ancient outlays. Yet Congress wants us to take these forgotten expenditures into account in computing our 2014 taxes.

Correcting Erroneous Credit Reports

People reviewing their credit reports sometimes find errors including the listing of a delinquent debt, which in fact is no longer owed. As a bankruptcy lawyer , I sometimes have clients returning to me long after their discharge asking, why debts that were discharged by the bankruptcy are still showing up on their credit reports. The simple answer is that credit reporting agencies make mistakes, lots of them, which of course leads to the question of what one can do to correct the errors.

By law when an individual challenges an item on a credit report the credit reporting agency is required to investigate and correct any errors within 30 days. Since credit reporting agencies are big bureaucracies that are not particularly user friendly, you have a better chance of success writing them a letter than calling on the phone. Many advisers would tell you that the letter should be sent certified. You should include with the letters copies of all documents that support your position. In the case of a bankruptcy I would include a copy of the notice of filing from the court and a copy of your discharge. It is also a good idea to include the pages from the credit report with the erroneous information circled. You should also write to the company that supplied the erroneous information to the credit reporting agency with the same documentation telling them to correct the mistake as well.

The results of this process are not always satisfactory. Sometimes after supposedly doing an investigation the credit reporting agency will conclude that it is no error. This is of course frustrating and while you can theoretically bring a law suit for damages in this situation, not many people want to go through that ordeal. Nevertheless the official procedure does correct the problem in many cases and should be used.

New Debts Incurred While In a Chapter 13 Bankruptcy

While the idea of a Chapter 13 Bankruptcy is for debtors to devote all of their available income to paying off what they owe, and not to incur any new debts, this is not always how it works. An unexpected health problem may lead to new medical debts, or the person’s car might completely give out, and she might need a new vehicle to continue going to work. Even if there is no such clearly justifiable reason for incurring the new liability, it can take strong self discipline to convert from living beyond your means, to pulling in your belt enough to eliminate past excesses. Thus sometimes even the best intentioned debtor can slip up and accept a newly offered credit card that arrives in his mail box one fine spring day.

One option a debtor in a Chapter 13 has in this situation is to amend his bankruptcy plan to include the post petition debt. This is not an automatic right though. For most new debts the individual has to persuade both the court and the new creditor to go along with the idea. The court of course has to approve any amendments to a Chapter 13 bankruptcy plan, and the creditor has to agree to file a proof of claim with the bankruptcy court.

The creditor might well be uninterested in filing a proof of claim, because in most Chapter 13 bankruptcies he will end up receiving less than 100% of what he is owed. On the other hand, if the creditor refuses to file the proof of claim he can go after the debtor for the full amount due after the discharge. The key phrase here though is “after the discharge.” While the Chapter 13 plan is in affect the automatic stay forbids the post petition creditor from taking any action to collect the debt. On the theory that a bird in the hand is worth two in the bush, the new creditor may thus find himself with a genuine incentive to enter the Chapter 13 plan and start getting payments now.

Transfer of Property Before Filing Bankruptcy

When an individual files a Chapter 7 bankruptcy , the court may take away any of his property that is not exempt under the law and use it to pay his creditors. Exemptions from creditors under Illinois law include among other assets, $15,000.00 of equity in one’s home, $2,400.00 of equity in a car, and up to $4,000.00 of any personal property.

Debtors sometimes believe that the way to avoid losing property that is not exempt is to give it away to a friend or relative prior to filing bankruptcy. However, the law labels this type of transaction a “fraudulent transfer” and the bankruptcy code provides ways for the trustee is avoid these fraudulent transfers and recover the property from the person who received the gift.

Since in most cases the debtor would have still lost the property in bankruptcy, if he had not made the transfer in advance, it might seem that he has nothing to lose by trying. However, this is not always true. A number of courts have held that the trustee can recover property transferred right before bankruptcy by an insolvent debtor, even if it would have been exempt in the bankruptcy. In other words the debtor can lose his exemption in a house or a car by attempting to pull off what he considers a clever scheme, when in fact his shenanigans were not even necessary in the first place.

Bankruptcy Exemptions For Spousal Pensions

Retirement plans such as pensions, IRAs and 401ks are designed to provide a worker security in his old age, and they can frequently provide additional benefits to his heirs or spouse. On top of the tax benefits created by the Internal Revenue Code for these plans the worker can also exempt these funds from any creditor claims in a bankruptcy. This double benefit leads me as a bankruptcy lawyer to think they are frequently the best investment an individual can make. Recent court cases however have placed some limitations on creditor protections, when someone other than the worker himself holds the retirement plan.

One such decision that came down in 2014 was In Re Burgeson 504 B.R. 800 (Bankr. W.D. Pa. 2014). This case concerned the pension benefits received by the wife in a divorce. In Burgeson the Debtor filed bankruptcy, while she was in the process of a divorce. She had requested that the divorce court award her an equitable portion of her husband’s pension plan, but the court did not order the transfer of the pension until later. The trustee claimed that in this case the woman’s interest in the pension was not exempt from creditor claims and the bankruptcy court agreed. While the wife would have received the exemption, if she had owned the pension, the judge made the distinction that at the time she filed bankruptcy she did not yet own the pension. This was because she had only asked for a share of the pension and the divorce court had not yet awarded it to her. So according to the bankruptcy judge at the time she filed, she only owned a potential claim against her husband under the divorce law, which was not covered by the exemption against creditor claims that appears in the bankruptcy law.

Divorce Debts In Chapter 13 Bankruptcies

Since public policy does not favor a person abandoning one’s dependents to the wolves, courts have been holding for over a century that child support and alimony are not dischargeable debts in bankruptcy. And since 2005 the law has been that virtually all other payments, such as property settlements, owed to one’s spouse under a divorce judgment are not dischargeable either. In some cases however the bankruptcy treatment is still stricter for child support or alimony than it will be for property settlements. This occurs for example in a Chapter 13 bankruptcy , in which an individual makes monthly payments over a three or a five year period to repay part of his debts. The different treatment arises, because child support and alimony are priority debts, and people in a Chapter 13 bankruptcy must repay 100% of their priority debts to receive their discharge. Property settlements however are not priority debts, and the Chapter 13 debtor only needs to pay back the same percentage, as he pays to his other unsecured creditors. The amount paid to general unsecured debtors in Chapter 13 is based on the ability to pay and frequently is only 10% of the debt.

With this variation in results disputes sometimes arise over whether a certain marital debt is child support or alimony rather than a property settlement. In these controversies the bankruptcy court makes this decision, and what the debt is called in the divorce judgment is not binding under the bankruptcy law. Factors considered include whether the party receiving the payments needs support and whether they are made on an installment basis. Unfortunately as the old saying goes “Hard cases make bad law,” and since a failure to support children can lead to some tragic situations, courts have not been totally consistent in these cases. Some judges for example have ruled that a judgement ordering someone to pay his former spouse’s car payments or mortgage payments create priority support debts, but other court cases have reached the opposite conclusion. This of course sometimes makes it difficult to predict in advance whether a court will rule that a debt is support rather than a property settlement.

Education IRAs

In today’s society the cost of sending one’s children to college can wreak havoc in a family budget. Besides using student loans many parents end up taking out second mortgages or liquidating retirement savings to meet these expenses, and the financial strain involved has certainly helped drive more than one family into Chapter 7 Bankruptcy. In order to bring some relief of this burden the Internal Revenue Code contains certain tax benefits for taxpayers with educational expense. Although these incentives are not nearly as generous as tax benefits for homeowners or oil drillers they do provide some assistance. One such form of assistance is the Education IRA.

Education IRAs, officially known as Coverdell Education Savings Accounts, allow a tax benefit for saving for educational expenses. While most people think of college, when saving for education expenses, Education IRAs can also be used for vocational schools, high schools, or even elementary schools. Unlike with some tax benefits for higher education, distributions from Education IRAs can be applied for tuition of part time students. In order for distributions to be used for room and board though, the student must be attending the educational institution at least half time.

An Education IRA is a trust fund which must be set up when the beneficiary is either under age 18 or a special needs individual. Up to $2,000.00 a year can be contributed to an education IRA. The allowable contribution is phased out for high income individuals. While the contributions are not tax deductible the income that accumulates in the trust may be distributed tax free, when it is used to pay qualified expenses. Distributions of income made for non qualifying expenses are subject to regular income tax plus a 10% penalty.

Limitation on Charitable Contributions

When an individual makes a contribution to charity his tax deduction is limited to 50% of his adjusted gross income. The percentage could go down depending on the type of property contributed and the type of charity that receives the donation. Charities that have a 30% limitation include fraternal orders, war veteran organizations, cemetery companies, and certain private non-operating foundations. The deduction is also limited to 30% of adjusted gross income, when an individual contributes property that would have produced long term capital gains to a qualifying 50% charity. However, the donor can save the 50% limitation by electing to only take the amount of the basis in his property as a charitable deduction on his tax return.

In applying these rules to contributions of appreciated assets, you should keep in mind that there are also rules reducing the amount of the charitable contribution on certain specific capital gain property. This category includes tangible personal property that is unrelated to the charitable organization’s exempt function, and capital gains property other than publicly traded stock donated to certain private foundations. For these assets taxpayers are required to reduce the amount of a charitable contribution by the amount of the long term capital gains that the sale of the property would have generated.

Example: A bankruptcy lawyer donates her jewelry to her alma mater, which the college sells to help pay faculty salaries. Since the jewelry was not used in providing education, her tax deduction for the jewelry will be reduced by the capital gain she would have received, if she had instead sold the property and donated the proceeds to the school.

Additional Medicare Taxes For High Income Earners

Beginning with the year 2013 an additional medicare tax of .9% apples to the salaries of high earners. The tax applies to annual wages over $200,000.00 for individuals; $250,000.00 for joint returns and $125,000.00 for married individuals filing separate returns. The law imposes this tax on the employee not the employer. An employer is required to withhold the additional tax for employees that he pays more than $200,000.00 a year, but this withholding obligation will not cover many situations, where the employee has tax liability.

Example: Judy works as a plastic surgeon for a local hospital and in 2014 earns $175,000.00 a year. Her husband Jim works as an estate planning lawyer for a large law firm for a salary in 2014 of $150,000.00 a year. Since neither one of them earns more than $200,000.00 a year their employers will not withhold the additional .9% medicare tax. However, since their combined salaries exceed the thresh hold by $75,000.00 they will owe an additional medicare tax of $675.00 which they will have to submit, when they file their annual 1040 tax return.

Self employed individuals are also liable for the .9 % additional medicare tax on their earned income which exceeds the limits.

Tax Deduction For Domestic Production Activities

One of the tax breaks that Congress has enacted to encourage manufacturing and other production in the United States is the deduction for domestic production activities. Under this law a taxpayer can take an extra income tax deduction equal to 9% of its domestic production income.

A taxpayer calculates his domestic production income by taking gross receipts from qualified activities and subtracting costs of goods sold and direct and indirect expenses allocated to the qualified activities. Qualified activities include lease, rental sale or license of property manufactured, produced grown or extracted in the United States. It covers qualified film production and production of electricity natural gas or potable water. It also covers construction of real property or architectural or engineering services connected with the construction of real property. Most service businesses, such as a bankruptcy lawyer, would not be eligible to claim the deduction.

Since part of the purpose of encouraging domestic production is also to encourage domestic employment the deduction for domestic activities production is also limited to 50% of W-2 wages paid by the taxpayer. Thus the deduction is the smaller of 9% of domestic production income or 50% of W-2 wages.

Listed Property For Income Taxes

The Internal Revenue Code classifies certain depreciable property as “listed property.” Listed property consists of items that Congress felt required special rules, because they are the type of property that could generate legitimate business expenses, but which is frequently really used more for personal than business reasons. The term includes passenger automobiles; other forms of transportation likely to be put to personal use such as boats or airplanes; entertainment recreational and amusement property; and computers and peripheral equipment.

The first restriction on listed property is that the taxpayer can only claim accelerated depreciation on the equipment, if it is used more than 50% for business. Thus if a bankruptcy lawyer puts 10% of the mileage on her car driving to court, but the rest of her use of the vehicle is personal, she cannot use the accelerated rate of depreciation that is normally available on automobiles. Instead she can only use the straight line method of depreciation for the 10% of the car she is allowed to depreciate, and she must use a longer depreciable life.

The other restriction on listed property consists of stricter record keeping requirements in order to qualify for the tax deductions. On listed property taxpayers are required to record when and where the property was used for business and the business purpose involved in each use.

Premium Health Insurance Tax Credit

As any bankruptcy attorney can tell you health problems can lead to financial disaster, and one of the reasons for this has been that many Americans could not obtain the adequate health insurance. A major goal of Obamacare is to increase the number of people with health insurance, and beginning with the 2014 tax year certain individuals with a limited income can obtain a tax credit to help with the payment of their health insurance premiums.

To obtain the credit these individuals must buy health insurance through the Marketplace, be ineligible for insurance through an employer or government plan, file a joint tax return if married, and not be claimed as a dependent on another person’s tax return.

To meet the income eligibility for the program your household income must be between 100% and 400% of the federal poverty line. The federal poverty line is based on family size and is adjusted each year. For 2013 the poverty amount for the 48 contiguous states and the District of Columbia was $11,490.00, which would leave an individual with annual income up to $45,960.00 eligible for the credit. For a family of four the poverty level was $23,550.00 leaving a family of four with income up to $94,200.00 eligible for the credit.

When To Enter A Premarital Agreement



The lead story in the Chicago Tribune Business Section this Sunday was about the divorce of the wealthiest man in Illinois, and the court fight over the validity of his premarital agreement. According to Mr. Griffin’s agreement his wife should end up with about fifty million dollars. after the divorce. Mrs. Griffin however is challenging the agreement and hoping to take away a much larger share of her husband’s five and a half billion dollar net worth.

While I am not to worried about either one of them ending up in the poor house if they lose the argument, their controversy illustrates a common area of concern with a premarital agreement. The contract was signed one day before their 2003 wedding, and when these agreements are entered into this close to the marriage date they are subject to challenge based on the inability to carefully consider what the parties are signing with this time pressure. I do know lawyers in fact, who for this reason will refuse to represent parties in a premarital agreement unless they are going to sign the agreement at least thirty days before exchanging vows.

One might be surprised that this could happen to a couple, who had very talented lawyers working on the agreement, and who presumably fully advised their clients on the consequences of their acts. However, there are two facts of human nature, that no doubt were involved. First of all no one wants to reschedule their wedding at the last minute, and a suggestion to do from your family lawyer is unlikely to be well received.. Second when negotiation is involved contracts frequently take longer to finalize than the parties anticipated.

In conclusion I should probably just say that like obtaining a reservation for your reception hall, writing your premarital agreement is something you should try to allow plenty of time for when one is planning to tie the knot.

Tax Deductions For Depreciated Apartment Buildings

As a bankruptcy attorney I have seen plenty of individuals, who have lost money on rental real estate investments in the last few years. This can prove quite a letdown after people buy a house or an apartment building with the hope of building a nest egg for their future. Fortunately though compared to people, who have lost money on their principal residences, the tax law is more generous with people who invest in rental property.

A building owned for rental purposes is covered by Section 1231 of the Internal Revenue Code. Section 1231 assets include most property which is held for more than one year and used in a trade or business or for the production of income. Such an asset receives special tax treatment when it is sold.

When a Section 1231 asset is sold, any gain is treated as capital gain, which means the tax rate on the gain will be considerably lower than the tax rate on ordinary income. For most property which is entitled to capital gains treatment there is a potential downside in that, if the property sells for a loss it will be treated as a capital loss, and capital losses create a number of hurdles for claiming the benefit on your tax return. For example you can only deduct a net capital loss of $3,000.00 or less against ordinary income on any year’s tax return.

When a Section 1231 asset is sold at a loss though the taxpayer may treat it as a loss deductible against ordinary income. This can produce a considerable break for someone, who has made an unlucky real estate investment in the last few years .

The Section may not produce as much of a benefit though for a large landowner who has bought and sold a number of rental properties. This is because, when you have net 1231 gains in any tax year, you will have to reduce the amount that can be treated as capital gain income by the amount of Section 1231 losses which you incurred in the prior five tax years.

Tax Deductions For Charitable Contributions Of Appreciated Property

Taxpayers can take a deduction for a contribution to a charity, and when the contributions are of property the deduction is generally equal to the fair market value of property. This has lead many people to believe there are advantages to contributing appreciated property to charities.

Example: If an estate planning lawyer bought stock for $1,000 five years ago that is now worth $10,000, it might be wise for her to donate the stock to her church rather than sell it. She could then claim a $10,000 deduction for contributions and avoid paying capital gains taxes on the $9,000 the stock has increased in value.

However, the charitable deduction in this case would be limited to 30% of the donor’s adjusted gross income for the year computed without regard to the charitable contribution or the net operating loss deductions. This is less than what she would be entitled to under the general rule, which allows charitable deductions to be up to 50% of this base amount.

The donor could also lose the deduction on the appreciated portion of capital gain property, if it is tangible personal property that is not used in the church’s exempt purpose, or if it is applicable tangible personal property that is sold rather than used in the organization’s exempt purpose. There is also a limitation for long term capital gains property contributed to certain nonoperating foundations. A special rule applies to qualified intellectual property which computes the charitable deduction based on the income the donor received from the intellectual property.

Tax Deductions For Alimony

When a divorce court orders one spouse to pay alimony to the other spouse it is taxable income to the person receiving the deductions. The person paying it however gets to take a tax deduction on the payment. Alimony is also a deduction from adjusted gross income, which means the husband or wife paying it receives the tax benefit, even if he or she does not itemize their tax deduction.

While this might seem a situation in which whatever one spouse gains the other spouse loses this frequently is not the case. As a bankruptcy attorney I can tell you that in most cases in which the court orders alimony it is because the party receiving the payment needs financial help and the party being ordered to pay it is significantly better off. Thus while the payer will get his deduction the receiver is likely to be in a lower tax bracket and will end up paying less tax than the former spouse saves.

To receive the alimony tax treatment the payment must meet the test set out in the Internal Revenue Code. The payment has to be made in cash or a cash equivalent, it must be the result of a divorce or a separation agreement, and the payments must not continue after the death of the payee. Also it cannot be child support, and there can be some recapture of the tax benefit, if the payment drops too much in the first three years.

Taxation of Installment Sales

When a taxpayer sells property in a contract that calls for payments to be made in more than one year, he or she generally reports the income on the installment basis. This means that he computes the taxable income for each year by multiplying the amount received that year by the percentage of the total sales price that will result in profit.

Example: A retiring bankruptcy attorney sells the painting on his office wall, which he paid $10,000 for to another lawyer for $20,000. The price will be paid over four years at $5,000 a year. Each year the seller will recognize $2,500 of taxable income.

The installment sale method applies only to gains and not to losses. It also requires that the seller recognize certain depreciation recapture and unrealized receivables in the year of sale, and only spread out the balance of the gain to future years.

There are a number of transactions for which the method cannot be used. Dealers in property may not use the installment method except for certain dealers in time shares or residential lots. Nor can relatives or controlled partnerships use it on certain sales of depreciable property. Stock or securities trades on an established security market may not be sold under the installment method, but closely held stocks, partnership interests or small businesses are eligible for the treatment.

Taxation of Income On Long Term Contracts

In our modern world businesses often enter contracts that take several years to complete, and the question arises on when a taxpayer should recognize the income from a long term contract. The general rule is that a taxpayer earning income on a contract for the manufacture, building installation, or construction of property that will not be completed in the tax year in which is starts must report income on each annual tax return using the percentage of completion method.

In the percentage of completion method the business first calculates the cost of the project for the tax year and then determines what percentage this amount is to the total costs that will be incurred on the contract. The second step is to apply this percentage to the total gross receipts that will be received under the contract, and by subtracting the years cost from this calculated percentage of gross receipts one determines the income or loss for the tax year. Exceptions to the requirement to use the percentage of completion method include home construction, other real property construction expected to be completed within two years by a taxpayer with less than $10,000,000 of annual gross receipts, and manufactured items that are not unique and normally take less than twelve months to complete.

Of course to apply the percentage of completion method one has to estimate the total costs and the total receipts one is going to incur during the entire contract term, and as any bankruptcy attorney can tell you contracts do not always finish within budget. The law however includes a look back rule, which requires the taxpayer to recompute at the completion of the project what the profit would have been each year, if they had known the actual total costs and receipts at the time, and pay or receive interest on the difference between the tax paid and what the tax should have been. There are exceptions to the look back rule for certain small contracts and for home and other real estate contracts that are not subject to the percentage of completion method.

Taxation of Partnership Distributions



When a partnership makes a distribution of money or properties to its partners it is generally tax free to both the partnership and the partners. A partnership is a pass thru entity for income taxes. When the entity makes income or loses money each partner reports their share of the gain or deducts their share of the loss on their individual tax returns. The income will thus have already been taxed and the distribution will not trigger additional liability. If a partner later sells the property subsequent to receiving it from the partnership, he or she will recognize taxable gain or loss on the sale.

One exception to this rule occurs when a partnership has unrealized receivables or substantially appreciated inventory. These assets have a built in gain that will generate taxable income and sometimes certain partners will want to receive a higher or lower portion of this property in order to manipulate their individual tax liability.

As an estate planning attorney I sometimes encounter partners who think of this scheme. A partner in a higher tax bracket for example may wish to take a higher percentage of assets that will generate long term capital gains when he ultimately sells them. Unfortunately I have to tell these individuals that the Internal Revenue Code has a provision to discourage this conduct. Unless unrealized receivables or substantially appreciated inventory are distributed to the partners proportionately to their partnership interest the law will treat this distribution as a sale, which can generate taxable income.

Income Tax on Capital Gains

When an individual sells property which is considered a capital asset at a profit after over a year of ownership, he or she will be paying a lower rate of taxes on that profit than on most other types of income. It gets complicated though, since the long term capital gains rate will vary depending on what your regular income tax rate is. Capital assets are also divided into several categories that will affect the rate.

For most assets the long term capital gains rate would be 20% ,if the individual would pay a 39.6 % rate on ordinary income, or 15% if the individual would pay at less than 39.6% on ordinary income but more than 25%. For those in less than a 25% tax bracket, which probably represents a majority of individuals, there is no tax on the long term capital gain. The long term capital gains tax rate however can go up to 25% on property that involves depreciation recapture and 28% on collectibles.

As an estate planning lawyer could also tell you an individual can escape all taxes on capital gains property, if he or she holds it for the rest or their life. Property held at death generally receives a step up in basis to the fair market value at the date of death, and the heir will only incur tax liability, if it further increases in value after that date.