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October Newsletters

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Planning 2015: Rental Real Estate Activity Compliance

Rental real estate offers tremendous tax advantages and opportunities for tax planning. Taxpayers, such as you, can depreciate property far exceeding your actual investment, deduct interest on borrowed capital, exchange rather than sell properties to defer tax on gains, use installment sales to defer tax on sales, and profit from preferential rates on long-term capital gains. Most importantly, you can generate “positive cash flow,” or monthly income, with depreciation deductions that effectively turn actual income into tax losses.

 

In order to obtain these benefits, you must be able to navigate the tax limitations and take advantage of the exceptions. For example, real estate income and loss is generally considered passive income and loss for tax purposes. Taxpayers cannot use passive activity losses (PALs) to offset ordinary income from employment, self-employment, interest and dividends, or pensions and annuities.

However, you may be able to use one of two important exceptions to this rule: 

The rental real estate loss allowance. As one exception to the PAL rules, taxpayers with adjusted gross incomes of $150,000 or less can claim a rental real estate loss allowance of up to $25,000 for property they actively manage. Active management does not require regular, continuous, or substantial involvement. However, it does require that the taxpayer own at least 10% of the property. Also, to qualify for the exception, married taxpayers must file jointly.

The election to be treated as a real estate professional. The second exception allows real estate professionals not to treat their rental activity as a passive activity. Therefore, their losses are not limited to passive income. This exception requires material participation by the taxpayer which is demonstrated by meeting one of seven tests. These tests are complex and include the number of hours of participation and the facts and circumstances of the participation in the activity.

If your rental property is a vacation home, the rental income and deductions are determined under one of three sets of rules depending on the number of days you rent the property. 

If you rent your vacation home for fewer than 15 days during the year, no rental income is includible in gross income and no deductions attributable to the rental are allowable.

If you rent the property for 15 or more days during the tax year and it is also used by you for the greater of (a) more than 14 days or (b) more than 10% of the number of days rented, the rental deductions are limited. Under this limitation, the amount of the rental activity deductions may not exceed the amount by which the gross income derived from such activity exceeds the deductions otherwise allowable for the property, such as interest and taxes.

If you rent the property for 15 or more days during the tax year but do not use the property for personal purposes for the greater of (a) more than 14 days or (b) more than 10% of the number of days rented, the property may be treated as true “rental” property in which losses are not limited to income.

Therefore, as you consider your tax plan for this year, you should keep in mind the rules that will allow you to take full advantage of the tax benefit of rental real estate outlined here. Your strategy may be to limit your adjusted gross income to claim the real estate loss allowance; or it may include a conscious plan to increase the number of rental days and/or decrease the number of personal use days for a vacation home. Regardless of your situation, we can help review all of the alternatives and offer suggestions to reduce your tax liability for the year. Please do not hesitate to call for an appointment.

Sincerely yours,

Karen Riccardelli, EA

 

Planning 2015: Retirement Savings for Individuals

 

Dear Client:

Now is a good time to review and evaluate your retirement savings. The tax code provides significant incentives for individuals to make contributions to retirement savings and plans, including traditional and Roth IRA’s, as well as to employer sponsored qualified and non-qualified plans, including qualified 401(k) plans. A saver’s credit also may be available for investors in certain tax brackets, which further enhances overall savings. The tax law is designed to make it easier for individuals to save for retirement even in these difficult economic times.

Tax incentives can include deductibility of contributions, tax deferral on growth of assets in the plan, and potential distribution free of tax, varying on the investment vehicle chosen. The choice of investment that may be best for you depends upon your individual tax and overall financial situation. Regardless of the type of contribution, any contribution should be made as early in the year as possible. If this approach is followed consistently over the years, the benefits will be far greater than contributions made at the last minute.

Please call our office to discuss your retirement savings situation and strategy. The rules applicable to the types of investment vary and can be complex. We will be happy to help you maximize your tax benefit and overall savings.

Sincerely yours,

Karen Riccardelli, EA

2014 Planning: Rental Real Estate Activity Compliance

Rental real estate offers tremendous tax advantages and opportunities for tax planning. Taxpayers, such as you, can depreciate property far exceeding your actual investment, deduct interest on borrowed capital, exchange rather than sell properties to defer tax on gains, use installment sales to defer tax on sales, and profit from preferential rates on long-term capital gains. Most importantly, you can generate “positive cash flow,” or monthly income, with depreciation deductions that effectively turn actual income into tax losses.

In order to obtain these benefits, you must be able to navigate the tax limitations and take advantage of the exceptions. For example, real estate income and loss is generally considered passive income and loss for tax purposes. Taxpayers cannot use passive activity losses (PALs) to offset ordinary income from employment, self-employment, interest and dividends, or pensions and annuities.

However, you may be able to use one of two important exceptions to this rule:

  • The rental real estate loss allowance. As one exception to the PAL rules, taxpayers with adjusted gross incomes of $150,000 or less can claim a rental real estate loss allowance of up to $25,000 for property they actively manage. Active management does not require regular, continuous, or substantial involvement. However, it does require that the taxpayer own at least 10% of the property. Also, to qualify for the exception, married taxpayers must file jointly.
  • The election to be treated as a real estate professional. The second exception allows real estate professionals not to treat their rental activity as a passive activity. Therefore, their losses are not limited to passive income. This exception requires material participation by the taxpayer which is demonstrated by meeting one of seven tests. These tests are complex and include the number of hours of participation and the facts and circumstances of the participation in the activity.

If your rental property is a vacation home, the rental income and deductions are determined under one of three sets of rules depending on the number of days you rent the property.

  • If you rent your vacation home for fewer than 15 days during the year, no rental income is includible in gross income and no deductions attributable to the rental are allowable.
  • If you rent the property for 15 or more days during the tax year and it is also used by you for the greater of (a) more than 14 days or (b) more than 10% of the number of days rented, the rental deductions are limited. Under this limitation, the amount of the rental activity deductions may not exceed the amount by which the gross income derived from such activity exceeds the deductions otherwise allowable for the property, such as interest and taxes.
  • If you rent the property for 15 or more days during the tax year but do not use the property for personal purposes for the greater of (a) more than 14 days or (b) more than 10% of the number of days rented, the property may be treated as true “rental” property in which losses are not limited to income.

Therefore, as you consider your tax plan for this year, you should keep in mind the rules that will allow you to take full advantage of the tax benefit of rental real estate outlined here. Your strategy may be to limit your adjusted gross income to claim the real estate loss allowance; or it may include a conscious plan to increase the number of rental days and/or decrease the number of personal use days for a vacation home. Regardless of your situation, we can help review all of the alternatives and offer suggestions to reduce your tax liability for the year. Please do not hesitate to call for an appointment.

Supreme Court Ruling on Health Care Reform: Businesses

On June 28, 2012, the U.S. Supreme Court upheld the constitutionality of the Patient Protection and Affordable Care Act (PPACA) and its companion law, the Health Care and Education Reconciliation Act of 2010. As part of its primary purpose to facilitate healthcare reform, the PPACA includes key tax provisions that affect businesses. Many businesses and employers have waited to fully implement these provisions until the Supreme Court determined the fate of the health care reform law. Now, however, businesses must prepare to comply with the rules under PPAC.

Some requirements are already in effect, while other provisions apply starting in 2013 or later. Highlights of the provisions affecting businesses are summarized below in order of the effective date.

Small employer health insurance credit (2010 – 2015)

The PPACA created the temporary small employer health insurance tax credit. For tax years 2010 through 2013, the maximum credit is 35 percent of health insurance premiums paid by small business employers (25 percent for small tax-exempt employers). The credit is scheduled to increase to 50 percent for small business employers (35 percent for small tax-exempt employers) after 2013 (but will terminate after 2015). However, in tax years that begin after 2013, an employer must participate in an insurance exchange in order to claim the credit, and other modifications and restrictions on the credit apply.

IRS guidance explains that a qualified employer must have:

  • Fewer than 25 full-time equivalent employees (FTEs) for the tax year;
  • Average annual wages of its employees for the year of less than $50,000 per FTE; and
  • A "qualifying arrangement" that is maintained.

Enhanced simple cafeteria plan rules for small businesses (effective for tax years beginning after 12/31/10)

A cafeteria plan provides participants with an opportunity to receive certain benefits on a pre-tax basis. The PPACA establishes a simple cafeteria plan and provides a safe harbor from nondiscrimination requirements to qualified small businesses. Generally, the employer must have employed an average of 100 or fewer employees on business days during either of the two preceding years. As a result, the provisions allow small employers to retain potentially discriminatory benefits for highly compensated and key employees while allowing other employees to enjoy the benefits of a cafeteria plan.

Limitation on deduction for employee remuneration for health insurance providers (effective for tax years beginning after December 31, 2012)

The PPACA limits the allowable deduction to $500,000 for applicable individual remuneration and deferred deduction remuneration attributable to services performed by applicable individuals for covered health insurance providers. IRS guidance explains that the provision may affect deferred compensation attributable to services performed in a tax year beginning after December 31, 2009, and provides a de minimis rule.

Changes to retiree prescription drug subsidy (effective for tax years beginning after December 31, 2012)

The Medicare Prescription Drug, Improvement, and Modernization Act of 2003 provides a subsidy of 28 percent of covered prescription drug costs to employers that sponsor group health plans with drug benefits to retirees. PPACA requires the amount otherwise allowable as a business deduction for retiree prescription drug costs to be reduced by the amount of the excludable subsidy-payments received.

Shared responsibility payment for employers regarding health coverage (applies to months beginning after December 31, 2013)

The PPACA's employer shared responsibility provisions (also known as the "employer mandate") specify that an applicable large employer may be subject to a shared responsibility payment (also known as an "assessable payment") if any full-time employee is certified to receive an applicable premium tax credit or cost-sharing reduction payment. Generally, this may occur where either:

  • The employer does not offer to its fulltime employees (and their dependents) the opportunity to enroll in minimum essential coverage under an eligible employer-sponsored plan; or
  • The employer offers its full-time employees (and their dependents) the opportunity to enroll in minimum essential coverage under an eligible employer-sponsored plan that either is unaffordable relative to an employee's household income or does not provide minimum value (that pays at least 60 percent of benefits).

For purposes of the employer shared responsibility payment, an applicable large employer is an employer that on average employed 50 or more full-time equivalent employees on business days during the preceding calendar year. A full-time employee is an employee who is employed on average at least 30 hours per week.

Excise tax on high-cost health care coverage (effective starting in 2018)

Employer-sponsored health coverage that exceeds a threshold amount is scheduled to be subject to a 40-percent excise tax. The dollar limits for determining the tax thresholds are $10,200 (for 2018) multiplied by the health cost adjustment percentage for an employee with self-only coverage; and $27,500 (for 2018) multiplied by the health cost percentage for an employee with coverage other than self-only coverage.

REPORTING

In addition, employers will have to comply with the following reporting requirements.

Disclosure of cost of employer-sponsored coverage on Form W-2 (mandatory after 2011)

The PPACA generally requires employers to disclose the aggregate cost of applicable employer-sponsored coverage on an employee's Form W-2. Reporting is for informational purposes only. The IRS made reporting optional for all employers for 2011. The IRS also provided transition relief for small employers. For 2012 Forms W-2 (and W-2s issued in later years, unless and until further guidance is issued), an employer is not subject to reporting for any calendar year if the employer is required to file fewer than 250 Forms W-2 for the preceding calendar year.

Reporting requirements for sponsors of health care coverage (for calendar years after 2013)

The PPACA requires every health insurance issuer, sponsor of a self-insured health plan, government agency that administers government-sponsored health insurance programs and other entities that provide minimum essential coverage to file an annual return reporting information for each individual for whom minimum essential coverage is provided. Additionally, every applicable large employer that is required to meet the shared employer responsibility requirements of the PPACA during a calendar year must file a return with the IRS reporting the terms and conditions of the health care coverage provided to the employer's full-time employees for the year.

The Supreme Court’s upholding of the PPACA clears the way for implementation of the new law. Please call our office for an appointment to discuss the steps you need to take in the coming months and years to comply with the PPACA’s tax provisions, or if you have any questions related to the Supreme Court’s decision.

Reproduced with permission from CCH’s Client Letter, published and copyrighted by CCH Incorporated, 2700 Lake Cook Road, Riverwoods, IL 60015.