Archive for Capital Gain
January 16, 2013 John R. Dundon II Adoption, Alternative Minimum Tax (AMT), Cancelled Debt, Capital Gain, Charitable Contribution, Child Tax, Employment Tax, Estate Tax, Excise Tax, Generation Ski[[ing Transfer Tax, Social Security Tax, Tax Credit, Tax Guidance & Preparation, Tax Relief The American Taxpayer Relief Act of 2012 makes permanent many otherwise expiring tax provisions. The following is my summary of what I believe to be relevant provisions:
Ordinary income above a certain threshold is taxed at a higher rate. The thresholds are: taxable income of $400,000 (for an unmarried taxpayer), $425,000 (for a head of household), and $450,000 (for a taxpayer who is married and filing jointly).
The current maximum 15% tax rate on long-term capital gains and qualified dividends is extended for individuals who have taxable income up to $400,000 (for a unmarried taxpayer), $425,000 (for a head of household), and $450,000 (for a taxpayer who is married and filing jointly). For capital gain and dividend income above the applicable threshold, the rate increases to 20%. With the new 3.8% Medicare surtax for unmarried and head of household taxpayers with modified adjusted gross income (“MAGI”) over $200,000 and married taxpayers with MAGI over $250,000, the capital gain and qualified dividend rate has become more complex.
The 3.8% “Medicare surtax” effective January 1, 2013, under the health care reform law passed in 2010 is still being deployed. This new tax applies to certain types of investment income for unmarried taxpayers with MAGI above $200,000 and married couples above $250,000. The tax applies to the lesser of the individual’s net investment income or MAGI in excess of the threshold amounts. In addition, high-income earners will be subject to an additional payroll tax of 0.9% on wages received in excess of those threshold amounts.
The $5 million estate, gift and generation-skipping transfer (GST) tax exemptions are now permanent and adjusted for inflation from 2011. It also makes permanent the “portability” provision between spouses, which allows a surviving spouse to use a deceased spouse’s unused exemption on lifetime gifts and/or transfers at death. GST exemption, however, is not portable. For 2013, the exemption amount is projected to be $5.25 million. The Act sets the rate for all transfers in excess of the exemption amount (for all three taxes) at 40%. The federal credit for state death taxes is now permanently repealed. However, an estate may continue to deduct state estate or inheritance taxes for purposes of computing the federal estate tax. A variety of beneficial GST tax provisions that were scheduled to expire have been made permanent, including the automatic allocation of a taxpayer’s GST exemption to certain transfers, provisions permitting the “qualified severance” of a trust into two trusts, one of which is exempt from the GST tax and one of which is not; and relief for a late allocation of GST exemption.
The alternative minimum tax (AMT) patch, which historically had been passed each year by Congress to lessen the burden of AMT on millions of middle-income households is now permanent and will be adjusted for inflation. Under the Act, the AMT exemption amount for 2012 is $50,600 for unmarried taxpayers and heads of household, $78,750 for taxpayers who are married and filing jointly, and it is indexed for inflation going forward. The 2013 exemption amounts are projected to be $51,900 for unmarried taxpayers and heads of household, and $80,750 for married taxpayers filing jointly.
The personal exemption phase-out (“PEP”) provision, which had been suspended under prior law, returns. It phases out the personal exemption for taxpayers with adjusted gross income (“AGI”) over $250,000 (for an unmarried taxpayer), $275,000 (for a head of household), and $300,000 (for a taxpayer who is married and filing jointly).
A past law often referred to as the “Pease provision” which limited itemized deductions for high-income taxpayers is reinstated. The Pease provision was suspended for 2010 through 2012 allowing taxpayers to deduct 100% of their itemized deductions regardless of their income subject to other applicable restrictions. The Pease provision applies to AGI above the following thresholds: $250,000 (for an unmarried taxpayer), $275,000 (for a head of household), and $300,000 (for a taxpayer who is married and filing jointly). The Pease provision phases out itemized deductions by the lesser of (i) 3% of the excess of AGI over the threshold or (ii) 80% of the otherwise allowable deductions. While the Act did not directly address the mortgage interest or charitable deductions, the Pease provision has the effect of limiting the amount of these deductions that a taxpayer may take if his or her income exceeds the applicable threshold.
The payroll tax “holiday” enacted in 2010 expired. Under the payroll tax holiday, the 6.2% social security tax paid by all wage earners was temporarily cut to 4.2%. The expiration of the holiday will cause wage earners to pay 2% more in social security taxes on all wages up to $113,700.
The ability to exclude from income gain on the sale of certain qualified small business stock (QSBS) is extended, as long as the stock was held for more than five years before sale. The exclusion is generally 50%, but was increased to 75% for QSBS acquired after February 17, 2009, and before September 28, 2010; and to 100% for QSBS acquired after September 27, 2010, and before January 1, 2012. The Act extends the 100% gain exclusion to QSBS acquired after September 27, 2010 and before January 1, 2014. Note that the QSBS exclusions are generally limited to the greater of (i) $10 million of gain or (ii) ten times the taxpayer’s cost basis in the stock sold in that year. In addition, gain subject to the 100% exclusion rule is not a preference item for alternative minimum tax purposes.
The ability of a taxpayer age 70½ or older to exclude up to $100,000 from gross income for distributions made directly from a traditional or Roth IRA to a qualified charity is extended. This provision expired after 2011; it is now extended for 2012 and 2013. The Act contains two time-sensitive provisions giving taxpayers flexibility with respect to the 2012 tax year. First, if a taxpayer took a required minimum distribution (“RMD”) in December of 2012, he or she can elect to treat some or all of that RMD as a qualified charitable contribution to the extent that the distribution (up to $100,000) is transferred in cash to a qualifying charitable organization before February 1, 2013, and meets the other charitable rollover requirements. Second, a qualified charitable contribution made in January of 2013 may be treated as having been made on December 31, 2012.
A deduction for a charitable gift of long-term capital gain property is generally limited to 30% of the donor’s adjusted gross income (AGI). However, for the years 2006 through 2011, a special provision allowed a deduction of up to 50% of the donor’s AGI for contributions of “qualified conservation property.” The Act extends this provision through December 31, 2013.
There are various other individual and business tax provisions that were set to expire including: earned income credit; adoption credit and assistance; child and dependent care credit; mortgage debt cancellation relief; mortgage insurance premiums deduction; marriage penalty relief; and bonus depreciation.
January 2, 2013 John R. Dundon II Capital Gain, Charitable Contribution, Children, Earned Income Tax Credit, Education Expense, Estate Tax, Paying Taxes, Payroll Tax Problems, Self Employ, Small Business, Social Security Tax, Tax Filing Status, Tax Guidance & Preparation, Tax Preparer, Tax Problems & Requests, Tax Relief, Taxable Income Our esteemed President has proven to me to be extraordinarily disingenuous with his statements about the middle class and their purported tax obligations as pretty much everyone’s taxes will go up in 2013 as a direct result of the cumulative efforts of our ‘elected officials’ over the last few days. Please don’t get me wrong as I find the man’s leadership in most regards to be much more stoic than any other President in my life time.
What I find particularly galling however is that everyone it seems from pundits to established economists speak about the need to create jobs in America as the best way to reduce the deficit. I believe as a matter of principal that the best way to create jobs from a policy or legislative perspective is to drastically reduce employment tax and to completely eliminate self employment tax as these are some of the biggest costs and risks associated with being an employer or job creator.
Either way if you would like to read the actual legislation a pdf version can be found here at the US Government Printing Office and summaries can be found here at the Library of Congress. The following are some highlights of what to expect:
Starting in 2013, there will be a new 39.6% rate placed on these thresholds:
Married Filing Jointly: $450,000 of taxable income
Qualifying Widow(er): $450,000 of taxable income
Head of Household: $425,000 of taxable income
Single: $400,000 of taxable income
Married Filing Separately: $225,000 of taxable income
Starting in 2013 the tax rates on long-term gains would be:
0% if income falls below the 25% tax bracket
15% if income falls at or above the 25% tax bracket but below the new 39.6% rate
20% if income falls in the 39.6% tax bracket
The Senate proposes the following AMT exemption amounts for 2012 indexed for inflation starting after 2012:
Married Filing Jointly: $78,750
Qualifying Widow(er): $78,750
Single: $50,600
Head of Household: $50,600
Married Filing Separately: $39,375
The proposed threshold amounts at which itemized deductions would start to be limited are:
Married Filing Jointly: $300,000 of AGI
Qualifying Widow(er): $300,000 of AGI
Head of Household: $275,000 of AGI
Single: $250,000 of AGI
Married Filing Separately: $150,000 of AGI
The Senate proposes to re-instate the personal exemption phase-out starting in 2013. Taxpayers would see their total personal exemptions reduced by two percent for each $2,500 by which adjusted gross income exceeds the threshold. The proposed threshold amounts for 2013:
Married Filing Jointly: $300,000 of AGI
Qualifying Widow(er): $300,000 of AGI
Head of Household: $275,000 of AGI
Single: $250,000 of AGI
Married Filing Separately: $150,000 of AGI
The Senate proposes that the following tax provisions be extended through the end of the year 2017:
American Opportunity Credit
Child Tax Credit at $1,000 maximum and partially refundable
Earned Income Credit for 3 or more dependents
The following provisions would be extended through 2013:
Educator expenses deduction
Exclusion for cancellation of debt on primary residences
Mass transit and parking benefits excluded from income set at maximum of $175 per month.
Mortgage insurance premium deduction
Deduction for state and local sales taxes
Charitable deduction for donating real property for conservation purposes
Tuition and fees deduction
Exclusion for charitable distributions from individual retirement accounts
November 29, 2012 John R. Dundon II Basis, Business Expense, Business Income, Capital Gain, Capital Loss, Cost Basis, Deductible Expense, Mark to Market, Net Operating Loss, NOL, Tax Court, Tax Deductible Expenses, Tax Records While many individual taxpayers claim to be traders in securities
as compared to investors, in Henricus C. van der Lee, et ux. v. Commissioner TC Memo 2011-234 we learn in my humble opinion that the facts and circumstances of each and every specific taxpayer’s operation must be reviewed to make a proper determination in these regards. The bottom line is though as best I can tell if you want to be considered a ‘trader of securities’ you must at the very least be able to:
1. show that your activity is for the purposes of profiting from market fluctuation rather than appreciation in underlying investment securities
2. have frequent and regular transactions and
3. elect to use the mark-to-market method of accounting under §475(f).
In Henricus the taxpayer tried to avoid the capital loss treatment of stock transactions due to the $3,000 ceiling on capital losses under §1211(b) as investors in securities cannot treat their losses on the sale of securities in any other way. As an aside ‘Dealers’ in securities are exempt from these rules due to the nature of their business as ‘Securities’ are treated like inventory. ‘Traders’ or those who buy and sell stock on a regular basis to profit from the short-term market fluctuations, are subject to the $3,000 capital loss limit unless they elect to use the mark-to-market method of accounting under §475(f).
Regardless of whether the mark-to-market election is made, traders are allowed to deduct their investment expenses as business expenses on Schedule C under §212. However the ‘trader’ has the burden of proof that these expenditures are ordinary and necessary in the production or collection of income.
In the case of Mr. Van Der Lee the main area of dispute was his trading activity. The IRS reclassified his loss on stock trades as capital losses and disallowed the claimed business expenses because the filed tax return did not have a mark-to-market election under §475(f) attached. The Tax Court considered Mr. Van Der Lee’s intent, nature of derived income, as well as frequency, extent and regularity of the securities transactions. In 2002 148 trades were processed. Of these 35 were sales of shares acquired before 2002. Also not a single security was bought and sold on the same day, a purported norm of the ‘trading’ community. As such it was determined that the potential for profit in these sales was based on the general expectation of market appreciation rather than market fluctuation.
The Tax Court agreed with the IRS that Mr. van der Lee was not a trader, but rather an investor in securities in 2002. The loss of $1,388,327 reclassified by the Service as a capital loss was appropriate and as such only $3,000 per year is available to offset ordinary income under §1211(b).
To add insult to injury the legal, travel and meal expenses were not substantiated sufficiently with no specific business purpose stated and as such were disallowed. Additionally the home office expenses claimed were disallowed under §280A because investing in securities is not a trade or business. The net result of the Court’s findings was a complete dis-allowance of all expenses. What a kick in the jimmie.
1. The charitable contribution deduction for artwork by Art Galleries, Dealers or the Artist who created the artwork is generally limited to the smaller of fair market value on the date of contribution or its adjusted cost basis taking into consideration cost of goods sold to prevent a double deduction.
2. A charitable contribution deduction is generally based upon the fair market value of the property at the time of the contribution. If a sale of donated property would have generated ordinary income or a short term capital gain, the amount otherwise deductible is reduced by the amount of ordinary income or short term capital gain that would have been recognized.
3. As stated in IRC § 1.170A-4(b)(1): “The term ‘ordinary income property’ means property any portion of the gain on which would not have been long term capital gain if the property had been sold by the donor at its fair market value at the time of its contribution to the charitable organization. Such term includes, for example, property held by the donor primarily for sale to customers in the ordinary course of his trade or business, a work of art created by the donor *** ”. IRC § 1221(a)(3)(A) excludes from treatment as a capital asset property in the possession of the person who created it. In other words art created by an artist and sold by the artist is treated as ordinary income.
4. Artwork donated to a charitable organization by an Art Gallery owner or a Dealer in artwork creates a consideration as to whether the artwork being donated is actually held as an investment or is inventory of the owner. The difference being that a charitable contribution deduction for the long-term capital gain property is generally its fair market value, while the deduction for a contribution of inventory is limited to the lower of cost or fair market value.
5. The deduction for artwork that was gifted by the artist who created it to the investor is generally limited to the smaller of the gift basis or the fair market value on the date of the charitable contribution.
6. Appraisals and Valuations
All taxpayer cases selected for audit that contain artwork with a claimed value of $50,000 or more per item must be referred to the IRS’ Art Appraisal Services for review by the Commissioner’s Art Advisory Panel. IRM 4.48.2 provides this mandate and the procedures and information needed to make the referral can be found in IRS Rev. Proc. 96-15. Generally the best course of action is to request a review of art valuations for income, estate, and gift returns and subsequently obtain a Statement of Value from the IRS prior to filing the return. Even if the value is under $50,000, the Art Appraisal Services will assist the examiner upon request.
A written acknowledgment from the person making the donation is required for donations of $250 or more. For claimed charitable contributions over $500, IRS Form 8283 must be attached to the return and the taxpayer must maintain certain records.
For a charitable donation of property in excess of $5,000 the donor has an additional requirement of obtaining a “qualified appraisal”. IRS Form 8283 requires that the appraisal for donated art valued at $20,000 or more must be attached to the return. For property valued at more than $5,000, an appraisal summary must be attached to the return. Appraisals in the entirety for art valued in excess of $500,000 must be attached to the return. The specifics of “qualified appraisal” requirements as well as “appraisal summary” and other related requirements can be found in IRS Notice 2006-96 and 2006-45 IRB 902.
A charitable donee is required to file IRS Form 8282 if it sells, exchanges, or otherwise disposes of (with or without consideration) charitable deduction property (or any portion) within 3 years after the date the original donee received the property. The form is filed with the IRS and provided to the donor of the property. A third party contact should be considered to determine if the form 8282 was required and not provided.
In order for a taxpayer to claim a deduction for the full fair market value of tangible property donated to charity the property must be used by the charitable organization in a way that is related to its charitable purpose. For example art is generally treated as ‘use property’ for an art museum, and perhaps a school, but probably not necessarily for a rescue organization.
It is possible to claim a deduction for a donation of a fractional interest in art, but immediately before the donation the property must be wholly owned by the donor or shared by the donor and the charity. Special valuation rules apply to subsequent fractional gifts. The deduction may be recaptured if the gift is not completed within the earlier of 10 years after the initial fractional gift or the date of the donor’s death.
Section 6695A imposes penalties on appraisers in certain circumstances. Section 6662 provides accuracy related penalties on the donor.
7. Examiners consider whether corporate officers are unreasonably compensation for the duties performed when large artwork transactions are reported by corporations.
8. Examiners investigate as to whether travel is not personal in nature as travel is usually a significant item in the art and art gallery industry. Gallery owners and artists alike tend to travel to buy, sell, and track art. Only the owner’s travel expenses are deductible, NOT the expenses of family members. Trips to vacation locations such as Hawaii, California, Florida, or Colorado have the potential to be personal in nature, and are usually disallowed.
Art, Art Appraisal Service, Donation, IRC 1221, IRC 170, IRM 4.48.2, IRS Form 8282, IRS Form 8283, IRS Notice 2006-45, IRS Notice 2006-96, IRS Pub 1771, IRS Pub 526, IRS Pub 561 The requirements for reporting short-term and long-term transactions on separate IRS Form 8949‘s by type A, B or C are still required. When the totals on brokerage statements include both type A and type B transactions, you will need to manually subtotal the transactions between the two types and report each on separate 8949 forms. The instructions to Schedule D state to enter the combined totals from all the attached statements on Form 8949 with the appropriate box checked.
For example, check box A on Form 8949 and report on Line 3 all long-term gains and losses from transactions your broker reported on IRS Form 1099-B showing that the basis of the property sold was reported to the IRS. If you have statements from more than one broker, report the totals from each broker on a separate line.
According to IRS Publication 544 holding period is generally speaking the length of time a capital asset is owned. It is important because of the tax benefits of long term capital gain or loss treatment according to IRC Sec 1223. If the capital gain property is held for more than 12 months, gain or loss is long-term according to IRC Sec. 1222.
In determining a property’s holding period you generally exclude the purchase date but include the sale date. To determine if property has been held long enough to qualify as long-term capital gain, begin counting the holding period on the day after the property was acquired.
When the basis of transferred property carries over, as in an IRC Sec. 1031 exchange, the holding period of the prior owner “tacks on” to the current owner’s holding period according to IRC Sec. 1223(1).
If property is constructed over a period longer than one year and is sold after completion, it may have been held partly for the short-term and partly for the long-term holding periods. The cost of construction completed within the short-term holding period ending with the date of sale has a short-term holding period. The cost of construction completed more than 12 months before the date of sale has a long-term holding period. Land and improvements usually tend to have different holding periods because most people buy land first and then build on that land at a later date. As such the holding period varies based on when development begins and/or improvements constructed.
The purpose of taxing capital gains at lower rates than other income was to stimulate consummation of profitable transactions in property bought for investment according to the Revenue Act 1921, § 206(b).
In tax year 2011 the IRS created Form 8949, Sales and Other Dispositions of Capital Assets, for taxpayers to calculate capital gains and losses. List all capital gain and loss transactions on this form. The subtotals from this form will then be carried over to Schedule D (Form 1040), where gain or loss will be calculated.
Additional resources about reporting capital gains and losses are the Schedule D instructions, IRS Publication 550 Investment Income and Expenses and IRS Publucation 17 Your Federal Income Tax.
Capital assets include for example your home, household furnishings and stocks and bonds held in a personal account. When you sell a capital asset, the difference between the basis or generally the amount you paid for the asset and its sales price is a capital gain or capital loss.
Almost everything you own and use for personal purposes, pleasure or investment is a capital asset. You must report all capital gains however you may only deduct capital losses on investment property, not on personal-use property.
Capital gains and losses are classified as long-term or short-term. If you hold the property more than one year, your capital gain or loss is long-term. If you hold it one year or less, the gain or loss is short-term. If you have long-term gains in excess of your long-term losses, the difference is normally a net capital gain. Subtract any short-term losses from the net capital gain to calculate the net capital gain you must report.
The tax rates that apply to net capital gain are generally lower than the tax rates that apply to other income. If your capital losses exceed your capital gains, you can deduct the excess on your tax return to reduce other income, such as wages, up to an annual limit of $3,000, or $1,500 if you are married filing separately.
If your total net capital loss is more than the yearly limit on capital loss deductions, you can carry over the unused part to the next year and treat it as if you incurred it in that next year.
The IRS has a new Form 8949, Sales and Other Dispositions of Capital Assets that taxpayers must use to report most capital gains and losses. Any properties you own for investment purposes and most properties you own for personal purposes (ie your house) are for the most part considered capital assets. Use Form 8949 to report the sale or exchange of a capital asset you are not reporting elsewhere such as Form 6252 or 8824. Procedure wise you’ll need to fill out Form 8949 before you fill out line 1, 2, 3, 8, 9 or 10 of Form 1040 (Schedule D)
Use as many Forms 8949 as necessary to report all transactions, but make sure that each Form 8949 includes only the type of transactions described in the text for the box checked. Basically at the top of each Form 8949 you file, you’ll need to check box A, B or C, based on what is indicated in box 3 of the Form 1099-B or substitute statement.
Check box A if your broker reported the transaction to you and the basis of the securities sold also was reported to the IRS
Check box B if the transaction was reported to you but box 3 of the Form 1099-B is blank or your statement says the basis was not reported to the IRS.
Check box C for all other transactions.
There has been some confusion surrounding the fact that in order to adjust a gain or loss, you may have to enter a code in column (b) and an adjustment in column (g). For clarification I suggest reading the 2011 Instructions for Schedule D and Form 8949.
Under §121, if married taxpayers own and use property as their principal residence for at least two of the five years ending on the
date of sale, they can exclude up to $500,000 of capital gain on a joint return. However, I do not believe the terms “property” and “principal residence” are not defined in the Code or regulations.
Based on legislative history, it can be concluded that Congress intended the terms “property” and “principal residence” to mean a house or other dwelling unit in which the taxpayer actually resided. For example, the sale of land alone may qualify for the exclusion if the taxpayer sells the dwelling unit within two years before or after the sale of the land.
However, the exclusion only applies if the dwelling unit the taxpayer sells was actually used as his or her principal residence for two out of five years ending on the date of sale.
It can be argued that demolishing and rebuilding a house is no different than remodeling a house based on the ambiguity in determining if there is some level of remodeling that ‘restarts’ the clock as it were in regards to occupying the property for capital gains purposes. What if you demolishes the house but not the foundation and live in a tent on the property during the construction effort? Are you remodeling or rebuilding? It can be difficult to ascertain. The best bet is to live in the house for 2 years before selling it.
Another tax treatment to consider if you demolish and rebuild, treat the original house as being sold for zero dollars when demolished with the basis of the house going to the land and apply §121 to a subsequent sale of the land and new house.
Generally you are eligible to exclude the gain from income if you have owned and used your home as your main home for two years out of the five years prior to the date of its sale.
If you have a gain from the sale of your main home, you may be able to exclude up to $250,000 of the gain from your income ($500,000 on a joint return in most cases).
You are not eligible for the exclusion if you excluded the gain from the sale of another home during the two-year period prior to the sale of your home.
If you can exclude all of the gain, you do not need to report the sale on your tax return.
You cannot deduct a loss from the sale of your main home.
Worksheets are included in IRS Publication 523, Selling Your Home, to help you figure the adjusted basis of the home you sold, the gain (or loss) on the sale, and the gain that you can exclude.
If you have more than one home, you can exclude a gain only from the sale of your main home. You must pay tax on the gain from selling any other home. If you have two homes and live in both of them, your main home is ordinarily the one you live in most of the time.
If you received the first-time homebuyer credit and within 36 months of the date of purchase, the property is no longer used as your principal residence, you are required to repay the credit. Repayment of the full credit is due with the income tax return for the year the home ceased to be your principal residence, using IRS Form 5405, First-Time Homebuyer Credit and Repayment of the Credit. The full amount of the credit is reflected as additional tax on that year’s tax return.
When you move, be sure to update your address with the IRS and the U.S. Postal Service to ensure you receive refunds or correspondence from the IRS. Use IRS Form 8822, Change of Address, to notify the IRS of your address change.
