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Like-Kind
Exchanges
One of the
most powerful tax-deferring techniques, especially when dealing with real
estate transactions, is the use of like-kind exchanges.
The rules provide for nonrecognition of gain
or loss when business or investment property is exchanged solely for other
business or investment property of a "like-kind". If all of the
like-kind provisons are satisfied, nonrecognition of gain or loss is
mandatory, not elective. Thus, a transferor expecting to realize a loss on
sale should not dispose of his property under these rules.
Nonrecognition is allowed if: (1) there is
an exchange, (2) the property transferred and the property received are of
like-kind; (3) the property transferred and the property received are both
held for productive use in the transferor's trade or business or for
investment; (4) the property exchanged is eligible for like-kind treatment;
and (5) if like-kind properties are not exchanged simultaneously, two
timing requirements regarding identification and receipt of replacement property
are satisfied. The rationale for current nonrecognition of gain, and thus
deferral of tax, in a like-kind exchange is that the newly acquired
property is basically a continuation of the old investment, which remains
unliquidated. The new property is viewed as a change in form, but not in
substance, of the investment. Thus, the gain is not tax-free, but merely
deferred until the investment is liquidated. To preserve the unrecognized
gain, the basis in the property received (i.e. the tax cost for purposes of
determining gain) is equal to the basis in the property transferred, with
certain adjustments. If like-kind and non-like-kind property (or money) are
received in the exchange, gain will be recognized to the extent of the fair
market value of any unlike property or money received. Further, a
"multi-party" exchange can be structured under these rules with
the ultimate result being that each party to the transaction gives property
to one party and receives property from a different party. These types of transactions
can be accomplished by placing property with a "facilitator" or
"accomodation party" until appropriate replacement property is
located.
Like-kind exchanges are an excellent
tax-deferred technique to dispose of investment or trade or business assets,
especially real estate. However, it must be carefully planned and all
requirements must be satisifed in order to avoid current taxation.
Read more...
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Greetings!
Summer
has finally arrived! A few tax thoughts while you plan your vacations,
beach parties and barbeques!
Please call us if we can assist you with any of your
tax planning needs or tax problems.
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· To Convert or
Not to Convert...
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 Roth IRAs are
tax-favored accounts that allow after- tax contributions to grow and be
distributed without tax. The main advantages of Roth IRAs over
traditional IRAs are that the owner is not required to take distributions
during the owner's lifetime, so that tax- free buildup can continue
through the owner's life, and that qualified distributions (including
distributions to beneficiaries after the owner's death), are completely
tax-free. In contrast, a traditional IRA is subject to the minimum
distribution rules, so the owner must begin receiving distributions in
the year following the year in which the owner turns 70 1/2 and take them
over a prescribed period, and the distributions are fully taxable, except
to the extent they represent the return of after-tax contributions.
A
taxpayer that has a traditional IRA can convert it to a Roth IRA to take
advantage of these features, as long as the taxpayer's adjusted gross
income (not including any amount included as a result of the conversion)
is less than $100,000 in the year of conversion. However, the conversion
comes at a cost: the amount transferred to the Roth IRA is treated as a
distribution and must be included in the taxpayer's income in the year of
the deemed distribution. Thus, the tax-free receipt of earnings applies
only to post- conversion earnings, since earnings accumulated before the
conversion are taxed at the time of conversion. The decision as to
whether a Roth IRA conversion should be made should be based on three
factors: (1) is the taxpayer eligible for the conversion; (2) do the
benefits outweigh the costs; and (3) will the tax liability arising from
the conversion be so material that it becomes impractical for the
taxpayer to make the conversion. Although the determination as to whether
or not to convert depends on the facts of each individual situation,
there are some guidelines that can be followed in weighing the costs and
benefits of a conversion. First, the greatest benefits are available to
those who will leave the money in the IRA, whether Roth or traditional,
for the longest time (preferably after death), as this maximizes both the
length of time for which the tax is deferred and the amount of post-
conversion earnings that eventually escapes tax. Second, the most
important factor in terms of cost is the IRA owner's tax bracket at the
time of the conversion compared to the IRA owner's tax bracket at the
time he expects to take distributions, since in making a conversion, an
IRA owner is choosing between current taxation on the existing balance of
the IRA if the conversion is made, and taxation at the time of
distribution, if the IRA remains traditional. However, the length of time
and the expected rate of return on the IRA also enter into the equation.
Whether to convert an IRA to a Roth IRA is an issue that should be
reconsidered over time, since the answer will not always be the same,
depending on one's AGI, changes in employment/retirement plans,
availability of liquid assets to fund the additional taxes, etc.
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· Avoiding The
Estimated Tax Penalty
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Taxpayers are generally subject to a penalty for failure to
pay estimated taxes if the amount of tax withheld from their income, plus
estimated tax payments made, plus any other tax payments, does not equal
90% of one's current tax liability or a percentage (either 100% or 110%)
of the tax shown on one's previous year's tax return. This can pose a
problem for taxpayers who have large amounts of unexpected income that is
not subject to withholding, such as capital gains, especially if
generated toward the end of the tax year.
It may be
possible to reduce or eliminate the penalty for such taxpayers by using
the "annualized method" for computing the penalty. The
annualized method is to compute the required tax payments based on when
the income was actually received during the year-that is, instead of the
payment required to avoid the underpayment penalty for any quarter being
equal to one quarter of the annual payment, the required payment under
the annualized method is the amount computed based on the amount actually
earned/received, the deductions actually incurred and the tax payments
actually made during the quarter. The IRS will generally compute one's
estimated tax penalty, if applicable. However, it will do so using the
"regular" method, rather than the annualized method. Therefore,
Form 2210 must be used by any taxpayer claiming an avoidance of the
penalty under the annualized method.
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· Commuting
Expenses
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Expenses incurred in traveling to and from work normally are
personal expenses and are not tax deductible. Commuters' fares are not
considered business expenses and are not deductible. Commuter's expenses
are also not deductible as ordinary and necessary expenses for the
production or collection of income or for the management of property.
In
limited circumstances, however, commuting expenses may be deductible.
Expenses incurred in commuting between a residence and a temporary work
location outside of the metropolitan area where the taxpayer lives may be
deductible. Expenses incurred in going between one business location and
another business location also are generally deductible. If a taxpayer
has one or more regular work locations away from his residence, costs
incurred in going from the residence to a temporary work location may be
deductible regardless of the distance to that location. If the residence
is the taxpayer's principal place of business, costs incurred in going to
another work location in the same trade or business are deductible
regardless of whether the other location is regular or temporary and
regardless of the distance from the residence. It is extremely important,
of course, to maintain credible, contemporaneous records (including logs,
diaries, etc.) to substantiate the claimed deductions.
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