TAXING MATTERS
Volume 1, Issue 1 :: Spring 2006
The USA's Best Tax Shelter: Your Home
Over the years, Uncle Sam has knocked out the tax-savings features from many different kinds of tax shelters, from large real estate limited part-nerships to computer leasing schemes, from oil and gas to cattle and livestock.
One tax shelter that has not only remained viable but even increased in its tax-saving ef-fectiveness is your real shelter: your home.
Profits from the sale of your home are totally exempt from taxation, up to a certain point. That point is $250,000, or $500,000 for a married couple filing jointly.
With the recent surge in home prices, viewing the personal residence as a tax free invest-ment demands greater atten-tion. Let's look at two cases to illustrate this concept:
Case A: The Sad Case of Ted and Jane
Ted and Jane bought their home for $200,000 in 1986. They vowed they would not buy another home until their mortgage was paid off. They resisted the temptation to make improvements that might require a home equity line of credit. They did buy in the right location, and two decades later, the home is now worth $950,000. Ted died in Decem-ber, 2005. Jane, after grieving and collecting a nice life in-surance policy, decided to buy her dream home in April 2006. She sold their long-time residence, happy with her profit of $750,000, until she went to her CPA. She then learned that only $250,000 of her gain would be excluded from income, and that the IRS together with the State of Georgia would charge her about $100,000 in capital gains taxes on that sale. Jane then wished she had called her CPA for advance planning.
Spotlight on Contractor licensing
There has been a significant recent development with respect to Georgia Contractors licensing requirements.
Naturally, the change in the licensing law for contractors has already stirred some contro-versy and concern.
The “grandfather” license ap-plication period started on January 1, 2006 and originally ran for only six months until July 1, 2006. However, under a bill approved unanimously by the Georgia House and Senate in March, and signed by Gov. Perdue on April 20, 2006, this application period has been extended another six months until December 31, 2006.
The legislation also adds six months to another effective date. Contracts entered into after January 1, 2008 for work requiring a contractor license will be rendered unenforce-able. The original effective date was July 1, 2007, and will be deferred six additional months as well.
It may or may not make sense to wait to file a licensing ap-plication, depending upon your particular circumstances. Please contact us if you would like our input or assistance with whether and when to apply for a license.
One thing you should note is that the application forms have once again been revised by the Secretary of State.
IRS Audit Update: Small Business Retirement Plans
“The IRS has be-gun to audit more small business retire-ment plans than ever before.”
The IRS has begun to audit more small business retirement plans than ever before. They are beginning to use W-2 filings that report salary deferrals to target audit efforts for SIMPLE IRAs, Simplified Employee Pension Plans (SEPs), and also grandfathered salary-reduction SEPs known as SARSEPs.
The IRS has found that many employers are not correctly monitoring their SARSEP plans for compliance, and that many plans fail the mandatory nondiscrimination testing. They have also discovered that with SIMPLE IRAs, many employers did not calculate the employer matching or non-elective contributions properly.
Also, many employers have failed to amend their plan documents with the update required for 2002. The Service has allowed limited updates by December 31, 2006 to get in compliance. Otherwise, the plans could lose all retirement savings tax benefits. So, if you have such a plan, please make sure it is up to date, or call us for assistance, and we’ll see to it that you are taken care of.
Exempting Vacation Homes from Tax
One more twist on this concept involves your vacation home. Let's say you own a home in Dunwoody and a lakefront vacation home in Clayton. And you have decided to retire and move to North Carolina. You could sell your Dunwoody home and exclude the gain from taxation, using the proceeds to build a log home in North Carolina. In the interim, you could use the Clayton vacation home as your principal resi-dence for two years. Then you can sell the lakefront property and make those sales proceeds tax-free!
Are these tax benefits from selling your home here to stay for the long run?
The benefits of using your home as a tax shelter are not likely to go away any time soon. President Bush's Blue Ribbon Tax Reform Panel recently advised that the exclusion be increased to $300,000, or $600,000 for married couples filing jointly.
This is truly one of the great American tax breaks we can both celebrate and enjoy! All you have to do is plan the sale the right way.
A Better Approach to home planning
Case B: The Glad Case of Dick and Lynne
Dick and Lynne built a home on some cheap but well-located land in 2003. Being construction contractors, the total land acquisition and construction cost was only $150,000. They added a $30,000 swimming pool and a $15,000 deck, plus $5,000 in other improvements. This means their total cost-basis was $200,000. By 2006, the home was worth $700,000. Since the profit on the home was now $500,000, Dick and Lynne decided to reap the benefits of a tax free sale and repeat this process all over again. Their aim is to harvest another $500,000 tax free gain in 2009.
Needless to say, Dick and Lynne had a much better plan than Ted and Jane.
Changes in the Tax Law of Home Sales
Under pre-1997 tax law, the exclusion from gain was a lot less, and it was a one-time exclusion. So, most home-owners had to roll over their gain into a more expensive home. Nowadays, you can take advantage of this ex-clusion every two years. You just have to meet both parts of a two part test: (1) it must be your principal residence which you occupy the majority of the time; (2) you must own and use it as your personal resi- dence for two or more years out of the five year period ending on the date of sale.
Sometimes you can even get around the two year holding period requirement. For ex-ample, a change in employ-ment or health or certain other unforeseen circum-stances might even exempt you from the two year rule.
The two out of five year rule also provides another planning opportunity. You can rent your house out for up to three years after you move out and still get exclusion of gain. You would be able to claim depre-ciation on the property, but that depreciation would get recaptured as income upon sale, unless you then do a 1031 tax-deferred exchange to defer the gain.
So, a home sale can be combined with a 1031 exchange, an idea not often even contemplated.
Hot Idea for Maximizing Dependency Exemptions
One problem common to many successful contractors is loss of tax benefits at the individual level.
Our tax system presumes that you are wealthy even when you attain certain modest income thresholds, and you can be faced with a phase-out of your personal exemptions and other rules that render you ineligible for other child-related tax breaks.Let’s say your oldest son finished college but still lives with you while he is working.
Let’s also say you have younger children who still live at home. You might be able to transfer the exemptions for the younger kids to your oldest son. He would then be able to claim the personal exemptions and perhaps even qualify for the earned income credit.
This loophole arose because our lawmakers no longer require that your oldest child actually support the younger kids. All he needs to do is reside in the same household!
Inside Corner: Focus on L&G Staff
Meet one of our latest future staffers, proudly displayed in the sidebar to the right.
Jacob Alan Worthey was born at 2:33 p.m. on March 6, 2006 to Nathan and Hester Worthey.
At 7 pounds 8 ounces, Jacob has certainly made his parents proud. Nathan, who is quite experienced as a CPA, special-izes in the tax area. He is also widely regarded as an indis-pensable source of knowledge in many areas of taxation.
Nathan, Hester and Jacob all live in Newnan. While the lengthy commute each day presents a bit of a challenge for Nathan, he says that L&G, our clients and our staff, are well worth the long drive in the morning. And certainly Hester and Jacob make the evening drive particularly well worth it.
So, congratulations to Nathan and Hester, and a warm welcome to Jacob!
Frequently Asked Questions
Q1: Can I deduct my boat?
A1: You can deduct the interest on your boat if you have overnight accommodations such as a place to sleep and a toilet. You may also be able to claim depreciation and other expenses for your boat if you rent it out.
Q2: Can I deduct gifts to family members?
A2: Unfortunately, gifts to family members are not tax-deductible. Only charitable contributions are. Gifts to family members of $12,000 per year or less are however exempt from gift taxes. And there is currently a $1 million lifetime gift tax exemption.
Q3: Are estate taxes going to be repealed?
A3: On April 13, 2006, the U.S. House of Representatives voted 272 to 162 to permanently repeal the estate tax. This places a repeal squarely in the Senate, where negotiations have already commenced on a deep and permanent estate tax cut that could pass this year, even if it falls short of full repeal.Democrats questioned how anyone could support a tax cut largely for “the rich” that would cost $290 billion over 10 years, in light of ongoing budget deficits. The big fight will occur in the Senate, where repeal proponents appear just short of the 60-vote majority needed to break a promised filibuster by Democrats. The Republican leadership, backed by Senate Finance Committee Chairman Charles E. Grassley (R-Iowa), has authorized Sen. Jon Kyl (R-Ariz.) to strike a deal that will win 60 votes.
Q4: Why is the tax system so blasted complicated?
A4: Good question. We at L&G would much prefer a tax system that rewards rather than penalizes economic attainment.
Home
> L&G Tech > News & Events > Foundation® Software and L&G Technology Announce Partnership
