Tax Info Blog

Can S-Corporations Make Charitable Contributions

Q: Can S-corporations make charitable contributions?  Does the same 10% of income limit apply that corporations have?
Melissa

A: S-corporations can make charitable contributions.  Like all other items of income and expense, it flows through to the S-corp owners, where it gets populated as an itemized charitable contribution on the Schedule A. 

There's a general limit that corporations have that restricts their charitable deduction to 10% of their taxable income.  Anything left over must roll forward.  That rule does not apply to S-corporations.  The full deduction can be claimed, and it's up to the shareholder-level limits from that point forward.

Mileage Deduction: Commuting or Travel?

Q: I am a self-employed caterer.  Can I deduct business mileage for all the trips from my home to the business locations?

A: It depends, probably on whether you have a home office.  The general rule is that the first trip from your home to a business location is considered a commute, which is a non-deductible business expense.  However, if you have a home office, your "commute" is from your kitchen to the home office.  Any business travel after that is considered work-related.  You would be able to claim business mileage, pro-rated property taxes, pro-rated auto loan interest, parking, and tolls.

Student Loan Interest Adjustment: Who Deducts PLUS Loan Interest?

Q: My parents took out a PLUS loan for me when I was in college.  Can I take a deduction for student loan interest even though they paid the loan?
Jeremy

A: The answer to this can be found in IRS Publication 970, Tax Benefits for Education.  In it, it's quite clear that student loan interest is deductible only for the person who is responsible for paying for the loan.  Even if you give money to your parents to pay the loan, it still would only be potentially-deductible for them.  There's a good chance your parents are over the income limit, so no deduction at all will be allowed.

FSA and Medical Itemized Deduction: No Double Dipping

Q: This past year, my son was diagnosed with a form of autism.  We have him in a special preschool, which I understand is tax deductible.  He was only in the school a few month in 2007, not enough to reach the 7.5% floor for the medical deduction.  However, I participated in an FSA at work.  If I add the medical expenses funded in the FSA to the amount we paid out of pocket for the school, I hit the 7.5%. Is that allowed or am I out of luck on the medical deduction because I participed in the FSA?
Liz

A: Nope.  You already made the expenses tax-deductible by using the FSA.  You can't make them tax-deductible again by trying to claim the medical itemized deductions.  Going forward, you should try to exclusively use the FSA, for two reasons:

1. You don't need to clear the 7.5% AGI floor
2. The deduction is not only pre-income tax, but also pre-FICA

Stimulus Package Part 2: Partial Expensing and Small Biz Expensing

Yesterday, I examined the rebate provisions of H.R. 5140, the "Economic Stimulus Act of 2008."  Today, I will be looking at the business investment provisions.  A detailed explanation of these provisions can be found here.

There are two basic components to the business investment side of this law: 50% partial expensing (somewhat comically called "bonus depreciation"), and increased Section 179 small business expensing.  We'll take each one separately...

Stimulus Package Part 1: Rebates, Rebates, Rebates

Recently, Congress passed and President Bush signed H.R. 5140, the "Economic Stimulus Act of 2008."  You can read a detailed description of its provisions here.  Over the next two days, I will examine its two major tax provisions--the individual rebate and the business investment incentives.

The IRS has put out a very helpful page detailing how the rebate will work, and I will try to summarize it here, as well...

IRS Clarifies Tax-Free Exchanges of Vacation Homes

In Revenue Procedure 2008-16, the IRS has clarified the manner in which vacation homes can be eligible for tax-deferred exchanges (1031s, Starkers, etc.)  For those unfamiliar with the area, Section 1031 of the I.R.C. allows some investors (usually with real property) to exchange like-kind properties with tax deferral.  Any extracted capital has capital gains tax owed on it immediately, and the successor property has the same adjusted basis as the exchanged property did (including the same depreciation schedule).  Taxpayers must used a qualified Section 1031 intermediary to facilitate the sale and purchase of the properties.  It's a way to defer capital gains on purely investment property sales.

One troublesome area has been vacation homes that are rented out, since they are undoubtedly both business and personal use.  Are they eligible for a like-kind exchange?...

New Rules on Cancellation of Indebtedness Income Related to Mortgages

Q: What are the new rules if you default on your mortgage and the bank forgives your mortgage?
Jennifer

A: Congress recently passed H.R. 3648, the "Mortgage Forgiveness Debt Relief Act of 2007."  Under tax rules, most debts that are forgiven to you are considered income to you, and taxable.  There are exceptions under the law to this general rule, the most common of which is debt forgiveness done under a bankruptcy settlement.

This law would, from 2007 through 2009, add to that list of exceptions a mortgage which is forgiven on your principal residence.  The amount of debt forgiven reduces your basis in the home.  Only $2 million of mortgage debt is allowed to be excluded.  The forgiveness must be related to the decline in value of the home or the diminished financial condition of the taxpayer. 

The bill also extends the deduction for private mortgage insurance (PMI) through 2010 and allows spouses to claim the full $500,000 capital gain exclusion on the sale of a principal residence up to two years after the death of the other spouse.

How to Recapture Depreciation on a Rental Home

Q: I have owned a rental property for several years and plan to move into it soon.  When I eventually sell it, I believe I will be eligible to exclude $500,000 of the gain.  How do I account for the depreciation I claimed while it was a rental property?
James

A: Confusingly, it depends on what years the depreciation was taken in.  For depreciation taken prior to May 6, 1997, it's "recaptured" merely by reducing your allowable capital gain exclusion.  For depreciation taken on or after that date, you cannot exclude that depreciation recapture by this method.  Rather, you must pay a special capital gains tax rate of 25%.  If you have depreciation taken before and after that magic date, you must disaggregate.

Suppose you use your home partly for business/rental and partly as a residence?  It depends on whether the business/rental part is separate from the home or not.  If the depreciable area is part of the home itself, there is no need to allocate between the two parts (though you may have to pay the capital gains tax described above).

If the depreciable part is separate from the home and you have not used it personally for 24 of the 60 months prior to sale (the use test), then you will have to separately allocate between the personal unit and the business unit.  Full recapture must be accounted for with the separate structure.

Suppose you did use it personally?  Then it depends if there is business use in the year of sale.  If there is, you must treat the sale as if there are two properties.  If there is not, then you can treat it in a similar manner to selling a home with a business use portion within it, as described above.

Whew.

How to Deal with a Net Operating Loss (NOL)

Q: My sole proprietorship ran a loss this year, and even cancelled out all my other income.  What do I do with the remaining loss?
Jack

A: What you have is a "net operating loss" (NOL).  These are dealt with in Publication 536, Net Operating Losses.  The general definition of an NOL is the situtation where business losses exceed gross income. 

NOLs can be carried back for two years (three years for casualty losses, losses in a disaster area, and sole proprietorships earning less than $5 million annually), and carried forward for twenty years.  When the NOL is applied to one of these years, it functions like an extra deduction against income that year.

There are special rules for GO Zone areas (Katrina).  The carryback can be waived in favor of a carryforward.  If there is a change in marital status, that must be taken into account.

Claiming an NOL is done (for the carryback) using Form 1045 (or Form 1040X if the claim is done year-by-year).  Going forward, NOLs are claimed as negative income under "other income" on the 1040.