• Don’t Overlook Tax Deductions for Home Ownership

    20 February 2017
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    As a homeowner, you should be aware of the many tax benefits that go along with ownership. At Dagley & Co., we compiled a list of tax benefits that will be helpful for the current and next year’s tax season:

    Mortgage Interest Deduction – Although it may seem that you will never get that mortgage paid off, keep in mind that unmarried taxpayers and married couples can deduct, as an itemized deduction, the interest on up to $1 million of acquisition debt plus $100,000 of equity debt on their first and second homes, provided the loans are secured by the homes. A married taxpayer filing separately is limited to deducting the interest on $500,000 of acquisition debt and $50,000 of equity debt.

    Home Improvement Loan Interest Deduction – If you took out a loan secured by your home to make improvements on your main or a second home, that mortgage is treated the same as home acquisition debt, and the interest you pay on that loan is deductible as acquisition debt, so long as the combined total acquisition debt of the two homes does not exceed the $1 million limit on acquisition debt. Even if it does exceed the $1 million limit, the excess interest on up to the $100,000 equity debt limit may still be deductible. However, if you used the loan money to make repairs rather than improvements, the debt would only qualify as equity debt.

    Equity Debt – If you used the equity in your home to borrow money to buy a car, take a vacation, or for another use, interest paid on that debt is deductible up to the $100,000 equity debt limit. That is why it is sometimes better to finance large purchases with a deductible home equity loan rather than a non-deductible consumer loan.

    Property Tax Deduction – If you itemize your deductions, you can deduct the property taxes you paid during the year on your home. However, be careful; generally property taxes are billed on a fiscal year basis, so the amount billed may cover parts of two years. You can only deduct what you actually paid during the year. If you have an impound account (sometimes called an escrow account) with your mortgage lender, the amount paid will be included on the lender’s annual statement. Also be aware that if you are subject to the alternative minimum tax (AMT), a deduction for taxes is not allowed when computing the AMT.

    Private Mortgage Insurance Premiums – Generally when home buyers are unable to make a 20% down payment when purchasing a home, the lender will require them to obtain private mortgage insurance (PMI) and the insurance premiums that go along with it. To be deductible, the insurance contract must have been issued after December 31, 2006. Those premiums are deductible if incurred for the purchase of your first or second home, and they are not limited by the $1 million limitation on home acquisition debt.

    The deductible amount of the premiums phases out ratably by 10% for each $1,000 by which the taxpayer’s AGI exceeds $100,000 (10% for each $500 by which a married separate taxpayer’s AGI exceeds $50,000). If AGI is over $109,000 ($54,500 married separate), the deduction is totally phased out.

    Congress failed to extend this deduction, and thus 2016 is the last year for it. If you are stuck with a PMI and your equity in your property has grown to be greater than 20% (you’ve paid down the mortgage balance to 80% of the home’s original appraised value), you may want to contact your lender about removing the PMI, refinancing to get rid of it, or obtaining an updated appraisal. When the balance drops to 78%, the mortgage servicer is required to eliminate PMI. (These rules generally don’t apply if your loan is guaranteed by the Federal Housing Administration (FHA) or Department of Veterans Affairs (VA).)

    Solar Energy Credits – Through 2021, taxpayers can get a tax credit on their federal tax return for purchasing and installing solar electric or solar water heating systems. The credit is 30% of the cost through 2019, at which time it begins to phase out and the credit is reduced to 26% for 2020 and 22% for the final year of 2021.

    The credit is nonrefundable, which means it can only be used to offset a taxpayer’s current tax liability, but any excess can be carried forward to offset tax through 2021. Both the solar electric and the solar water systems qualify for credit if installed on a taxpayer’s primary and secondary residences. However, no credit is allowed for heating water for hot tubs and swimming pools.

    Impairment-Related Home Expenses – If you, your spouse or a dependent living in your home has a physical handicap and you make modifications to the home or install special equipment to alleviate that disability, those costs may be deductible as a medical expense. The portion of the cost of permanent improvements that increases the value of the home is not deductible, but the difference can be included as a medical expense. However, home modifications made to accommodate a home for an individual’s handicap generally do not increase the value of the home and can be included in full with your medical deductions. These improvements include, but are not limited to, the following items:

    • Constructing entrance or exit ramps for the home,
    • Widening doorways at entrances or exits to the home,
    • Adding handrails, support bars and grab bars,
    • Lowering or modifying kitchen cabinets and equipment, and
    • Installing porch and stair lifts.

    Points Deduction – Points are a form of prepaid interest; one point is equal to 1% of a loan amount. Points are often labeled “loan origination fees,” “premium charges,” etc. At times, certain loan charges may be called points but are really amounts lenders charge for setting up a loan. Such “service charge points” aren’t normally deductible.

    Generally, prepaid interest must be amortized (deducted) over the life of a loan; however, tax law carved out a special rule that allows points incurred for purchase of a primary residence to be fully deducted on the return for the year in which they are paid. This special rule also applies to loan points incurred for home improvement loans.

    Home Office Deduction – If you are self-employed, you may qualify for a deduction for the business use of your home, commonly known as the home office deduction. You may also qualify if you are an employee and the use of the home is for the convenience of the employer. In either case the portion of the home used for business qualifies for the deduction only if it is used exclusively for business.

    There are two methods that can be used to determine the deduction: (1) the actual expense method, where you prorate the home expenses such as utilities, insurance, maintenance, interest, taxes and depreciation, or (2) a simplified deduction, which is $5 per square foot of office space, with a maximum square footage of 300. If the latter method is used, mortgage interest and real property tax deductions may be claimed as usual as part of itemized deductions, but a proration of other home-related expenses isn’t deductible. In either case, the deduction is limited to the income from the business activity.

    If you have questions about any of these tax related home ownership deductions/issues, give Dagley & Co. a call. Or, are you considering purchasing a home? Dagely & Co. will help you to understand how the home ownership will impact your taxes.

     

     

     

     

     

     

     

     

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  • Can You Deduct Employee Expenses?

    21 March 2016
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    Do you know which expenses relating to your employment are deductible from your tax return? If you are an employee, this may cross your mind. This is a complicated area of tax law, and many expenses are deductible only if the expense is a “condition of employment” or is for the “convenience of the employer,” two phrases that are effectively the same.

    In addition, other factors affect an employee’s ability to deduct expenses incurred as part of employment. One, if an employer would have paid for or reimbursed the employee for an expense, but the employee chooses not to apply for or take advantage of that reimbursement, the employee cannot take a tax deduction for the expense. Two, only those employees who itemize their deductions can benefit from business expense deductions. Thus, if you are using the standard deduction, you cannot receive any tax benefit for your job-related expenses. In addition, even when itemizing, miscellaneous itemized deductions must be reduced by 2% of your adjusted gross income (AGI). Employee business expenses fall into the miscellaneous itemized deduction category. As an example: if your AGI is $80,000, the first $1,600 (2% x AGI) of your miscellaneous deductions provide no benefit. Last, miscellaneous deductions are not included in the itemized deductions allowed for computing the alternative minimum tax (AMT). Thus, if you are unlucky enough to be subject to the AMT, you will not benefit from your miscellaneous deductions for the extent of the AMT.

    The following includes a discussion of the various expenses that an employee might feel they are entitled to deduct and the IRS’s requirements for those deductions.

    Home Office – An employee can deduct a home office only if his or her use of the home office is for the convenience of the employer. According to the U.S. Tax Court, an employee’s use of a home office is for the convenience of his employer only if the employee must maintain the home office as a condition of employment. In an audit, the auditor will require a letter from the employer to verify that fact. Most employers are reluctant to make a home office a condition of employment due to labor laws and liability. In addition, an employee would also have to comply with the IRS’s strict usage requirements for home offices.

    Computer – An individual’s property, such as computers, TVs, recorders, and so on, that is used in connection with his or her employment is eligible for expense or depreciation deductions only if that property is required for the convenience of the employer and as a condition of employment. Even if the condition of employment requirement is satisfied, a computer’s usage must be prorated for personal and business use.

    Uniforms and Special Work Clothes – The cost and maintenance of clothing is allowed if: The employee’s occupation is one that specifically requires special apparel or equipment as a condition of employment and The special apparel or equipment isn’t adaptable to general or continued usage (so as to take the place of ordinary clothing).

    Generally, items such as safety shoes, helmets, fishermen’s boots, work gloves, oil clothes, and so on are deductible if required for a job. However, other work clothing and standard work shoes aren’t deductible—even if the worker’s union requires them.

    Education - To qualify as job-related, courses must maintain or improve the skills required by the employee’s trade or business (such as by helping the employee to meet professional continuing education requirements) or be required as a condition of employment. However, these courses must not be necessary to meet the minimum requirements of the job and must not qualify the employee for a new trade or promotion. If a course meets this definition, its cost is considered deductible as an ordinary and necessary business expense, and as such, it may be excluded from an employee’s income if the employer reimburses the employee for its cost. Note: Some education expenses may qualify for more beneficial education credits or an above-the-line-deduction.

    Impairment-Related Work Expenses – Taxpayers who have a physical or mental disability that limits their activities can deduct impairment-related work expenses. For example, an allowable expense would be the cost of attendant care at the place of the taxpayer’s work.

    Job-Search Expenses – Expenses related to looking for a new job in the taxpayer’s current occupation are deductible even if a new job is not obtained. To be deductible, the expenses cannot be related to seeking a first job or a job in a new occupation. If there is a substantial time gap between the taxpayer’s last job and the time when he or she looks for a new job, the expenses are not deductible.

    Of course, all sorts of employee situations exist, including those in which the employee works at his or her local employer’s office and those in which the employee lives and works in a remote location. The deductions available to each employee vary significantly based upon that individual’s unique situation.

    For more information related to employee expenses and what might be deductible in your situation, please give Dagley & Co. a call.

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  • Safe-Harbor Home Office Deduction: Is It Better For You?

    11 May 2015
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    Though many businesses require office space, millions more are operated out of an entrepreneur’s home – and this can lead to a tax deduction. Taxpayers can elect to take a simplified deduction for the business use of the taxpayer’s home.  The deduction is $5 per square foot, with a maximum square footage of 300.  Thus, the maximum deduction is $1,500 per year.  Here are the details of this simplified method:

    • Annual Election – A taxpayer may elect to take the safe-harbor method or the regular method on an annual basis.  Thus, a taxpayer may freely switch between the methods each year.  The election is made by choosing the method on a timely filed original return and is irrevocable for that year.
    • Depreciation – When the taxpayer elects the safe-harbor method, no depreciation deduction for the home is allowed, and the depreciation for the year is deemed to be zero.
    • Additional Office Expenses – Additional office expenses such as utilities, insurance, office maintenance, etc., are not allowed when the safe-harbor method is used.
    • Home Interest and Taxes – Prorated home interest and taxes are not allowed as an office expense when using the safe-harbor method.  Instead, 100% of the home interest and taxes are deductible as usual on Schedule A.
    • Deduction Limited by Business IncomeAs is the case with the regular method, under the safe-harbor method the home office deduction is limited by the business income.  For the safe harbor, the deduction cannot exceed the gross income derived from the qualified business use of the home for the taxable year reduced by the business deductions (deductions unrelated to the qualified business use of a home).  However, unlike the regular method, any amount in excess of this gross income limitation is disallowed and may not be carried over and claimed as a deduction in any other taxable year.
    • Home Office Carryover – This cannot be used in a year in which the safe-harbor method is used.  The carryover continues to future years and can only be used when the regular method is used.
    • Qualifications – A taxpayer must still meet the regular qualifications to use the safe-harbor method.
    • Reimbursed Employee – The safe-harbor method cannot be used by an employee who receives advances, allowances, or reimbursements for expenses related to qualified business use of his or her home under a reimbursement or other expense allowance arrangement with the employer.
    • Determining Square Footage – To determine the average square footage of the business, use these guidelines:
      • Square Feet Maximum – Never use more than 300 square feet for any month, even if the taxpayer has multiple businesses.  Where there are multiple businesses, use a reasonable method to allocate between businesses.
      • Determining Average Square Feet for the Year – Use zero for months when there was no business use or when the business was not for a full year.
      • 15-Day Minimum – Don’t count any month in which the business use is less than 15 days.

    As an example, a taxpayer begins using 400 square feet of her home for business on July 20, 2015, and continues using the space as a home office through the end of the year.  Her average monthly allowable square footage for 2015 is 125 square feet (300 x 5 months = 1500/12 = 125).           

    • Multiple Businesses – Where there are multiple businesses, only one method may be used for the year—either the regular or safe harbor.
    • Mixed-Use Property – A taxpayer who has a qualified business use of a home and a rental use for purposes of § 280A(c)(3) of the same home cannot use the safe-harbor method for the rental use.
    • Taxpayers Sharing a Home – Taxpayers sharing a home (for example, roommates or spouses, regardless of filing status), if otherwise eligible, may each use the safe-harbor method but not for a qualified business use of the same portion of the home.

    As an example, a husband and wife, if otherwise eligible and regardless of filing status, may each use the safe-harbor method for a qualified business use of the same home for up to 300 square feet of different portions of the home.          

    • Depreciation Rate When Switching Methods – When the safe-harbor method is used and the taxpayer subsequently switches back to the regular method, use the depreciation factor from the appropriate optional depreciation table as if the property had been depreciated all along.

    When choosing between the methods, the following factors should be considered:

    • There is no reduction in basis for depreciation or depreciation recapture when using the safe-harbor method.
    • When using the regular method, the income limitation takes into account home interest, taxes, and other expenses before allowing the depreciation portion of the deduction.  That is not true for the safe-harbor method as the interest, taxes, and other business-use-area expenses are not considered.

    If you have questions related to this simplified method of claiming a deduction for the business use of your home, please get in touch with Dagley & Co.

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