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The May 2010 newsletter focusing on tax issues for the homeowner and real estate investor, by certified public accountants in California.
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Michael Gray, CPA's

Real Estate Tax Letter

May 12, 2010
© 2010 by Michael C. Gray
ISSN 1930-0387

A monthly report focusing on tax issues for the homeowner and real estate investor.

Table of Contents

Happy Memorial Day!

Monday, May 31 is Memorial Day, the "unofficial" start of summer. Beach parties! Picnics! Barbecues! Have a fun and safe holiday, and remember to honor those who gave their lives for our country.

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Do you need help with finishing extended income tax returns, preparing amended income tax returns, or tax audits?

Now that April 15 has passed, itís time to focus on finishing extended income tax returns. Some of our readers have found errors in or are uncomfortable with tax returns that they prepared using tax software or were prepared by other tax return preparation companies. We can provide a second opinion. Others have received notices for tax audits and sometimes canít get the help they need from their tax return preparer. We can help with all of these. To make an appointment, call Dawn Siemer Mondays, Wednesdays or Fridays at 408-918-3162 from 9 a.m. to 5 p.m.

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Silicon Valley Tax Professionals Save The Date!

Michael Gray, CPA will be giving a seminar, The Federal Tax Return Preparer Disclosure and Use Rules (IRC Section 7216) Ė A Threat To Your Practice and Our Profession?, for the Tax Interest Group of the San Jose Silicon Valley CPAs. The seminar will be a breakfast meeting at Louís Village in Los Gatos, California starting at 8 a.m. For details, visit the CalCPA web site at www.calcpa.org or call Stephanie Stewart at 408-983-1122.

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Trust beneficiary allowed mortgage interest deduction.

In a very facts-specific case, a trust beneficiary was found to have the burdens and benefits of ownership of a residence held in a trust, and was allowed to deduct mortgage interest paid for the residence. The beneficiaries had a power of direction with respect to the trust property, the right to receive distributions of the proceeds from the property, and the right to purchase, lease, manage and otherwise control the property.

The taxpayer and his wife occupied the property under an occupancy agreement. Under the agreement, monthly rent was required equal to the principal and interest on the propertyís mortgage. The taxpayer was also required to insure and maintain the property, paid the property taxes personally, and made and paid personally substantial repairs and improvements to the property.

Since the taxpayers had the burdens of ownership, the court allowed them to have benefit of the tax deduction of the mortgage interest.

(Adams v. Commissioner, Dec. 58,180(M) TC memo. 2010-72.)

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Exchange of rental property for residence disallowed.

A married couple exchanged investment property for a replacement residence. The replacement residence was only offered for rent for two months, but was never rented. Then they moved into the replacement residence and used it as their principal residence. The purchase of the replacement residence was contingent on the sale of their previous principal residence.

The Tax Court had no difficulty finding the replacement residence was not qualifying property for a like-kind exchange because it wasnít in fact business or investment property. Negligence penalties were also assessed against the taxpayers.

(Goolsby, TC Memo 2010-64.)

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Related party exchange not allowed.

The IRS determined that an exchange of equipment set up using a qualified intermediary didnít qualify for like-kind exchange treatment because it was subject to the restrictions for related parties. It was anticipated that low basis exchanged equipment for high basis equipment would be sold within two years after the exchange. Since tax avoidance was a principal purpose of the exchange, it was disqualified. (CCA 201013038.)

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Buy-sell agreement disregarded in FLP valuation.

The Eighth Circuit Court of Appeals affirmed a Tax Court decision that a buy-sell agreement should be disregarded when calculating the value of gifts of family limited partnership interests.

According to Internal Revenue Code Section 2703, a buy-sell agreement with related parties will only be honored if:

  • the restriction is a bona fide business arrangement;
  • the agreement is not a device to transfer property to members of a decedentís family for less than full and adequate consideration; and
  • the terms are comparable to similar arrangements entered into by person in an armsí length transaction.

The stated purposes of estate planning, tax reduction, wealth transference, protection against dissipation by children, and wealth management education found to be not bona fide business purposes for the restrictions on transfer.

Small discounts for lack of control and lack of marketability were allowed for gifts made in 1999, 2000 and 2001.

(Holman v. Commissioner, CA-8, 2010-1 USTC ∂ 60,592.)

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Land surveying company was a personal service corporation.

Personal service corporations donít get some of the benefits of other corporations, including fiscal years (without backflips) and net operating loss carrybacks. All corporate taxable income is subject to a flat federal tax rate of 35%. On the other hand, they do get to use the cash basis of accounting in situations when other corporations donít.

A land surveying company claimed it was not a personal service corporation because it was licensed under state law as a field other than engineering. The Tax Court rejected the taxpayerís argument and found land surveying to be an engineering service, because surveying and mapping are defined as engineering at Temporary Regulations Section 1.448-1T(e)(4). (Kraatz & Craig Surveying Inc. v. Commissioner, Dec. 58,178, 134 TC No. 8.)

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HIRE Act Form available.

The IRS has released the final version of Form W-11, Hiring Incentives to Restore Employment (HIRE) Act Employee Affidavit. New employees will submit the form to employers to confirm they qualify as "covered employees" for the HIRE Actís tax incentives. Qualified Employers will be able to avoid paying their 6.2% share of social security taxes for a covered employeeís wages from March 19, 2010 through December 31, 2010. In addition, qualified employers may be able to claim a retention credit of the lesser of $1,000 or 6.2% of wages paid during a required 52-week consecutive period.

A covered employee:

  • Begins employement with a qualified employer after February 3, 2010 and before January 1, 2011;
  • Signs an affidavit certifying under penalties of perjury that the employee has not been employed for more than 40 hours during the 60-day period ending on the date the employee begins employment with the employer;
  • Is not employed to replace another employee unless the other employee separated from service voluntarily; and
  • Is not related to the employer.

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Estates and trusts can deduct "bundled" fees.

The IRS extended interim relief to avoid segregating fiduciary fees that include asset management. Technically, the asset management portion is subject to a 2% of adjusted income phaseout, based on the Supreme Courtís Knight decision. The limitation will not apply for tax years beginning before January 1, 2010. (Notice 2010-32.)

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Filing dates extended for certain disaster areas.

The IRS has extended the filing dates for individual income tax returns and making deposits to IRA and Roth accounts from April 15 to May 11, 2010 for taxpayers residing in or having a business located in a federally-declared disaster area. This applies to certain counties that suffered from storms and flooding in the northeast, including in Massachusetts, Rhode Island, and New Jersey. Certain counties in West Virginia are also eligible. See www.irs.gov for details.

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California passes conformity legislation.

Governor Schwartzenegger signed SB 401(Wolf), the Conformity Act of 2010, on April 12, 2010. This legislation conforms many Calfornia tax laws to the federal tax rules, mostly as of January 1, 2010. The most important exception is the exclusion for cancellation of debt for a principal residence, which we detailed in the Extra edition of this newsletter on April 22, 2010.

Some other conformity items include:

  • Increasing the age of dependent children potentially subject to Kiddie tax to age 23.
  • Reduction of exclusion from the sale of a principal residence for non-qualified use after 2008, effective for sales after 2009.
  • Surviving spouse can claim the $500,000 exclusion for the sale of a principal residence up to two years after the death of the deceased spouse.
  • Charitable contribution rules conformed for documentation requirements, qualified appraisals, deduction disallowed for clothing not in good condition, recapture of deduction for property donated to a tax-exempt entity not used for a tax-exempt purpose and special rules for fractional interest donations.
  • Basis adjustment to stock of S corporations that made charitable contributions of appreciated property.

The legislation leaves many nonconformity items, including:

  • Payments from federal "Cash for Clunkers" program can be taxable income in California
  • Health Savings Accounts
  • Increased Section 179 expense deduction
  • 50% bonus depreciation
  • Fifteen-year depreciation for improvements for restaurants and retail space
  • Any of the changes in the Federal HIRE Act or Health Care Reform Acts

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San Francisco broadcasts Financial Insider Weekly.

We are thrilled that the San Francisco public access station, SF Commons, has agreed to broadcast Financial Insider Weekly Fridays at 6:00 p.m. Pacific Time and as streaming video at the same time at www.bavc.org, "public access TV". Thanks to Karen Baker for agreeing to be our local producer in San Francisco.

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Financial Insider Weekly broadcast schedule for May and June.

Financial Insider Weekly is broadcast in San Jose and Campbell on Wednesdays at 4:30 p.m., Pacific Time. You can watch it on Comcast channel 15 for those cities. The show is broadcast as streaming video at the same time at www.creatvsj.org.

Here are the scheduled interviews for May and June:

May 12, Don Pollard of Advanced Professionals, "What Federal Health Care Reform means for individuals"
May 19, Don Pollard of Advanced Professionals, "What Federal Health Care Reform means for employers"
May 25, Don Pollard of Advanced Professionals, "Choosing a medical insurance policy"
June 2, John Hopkins, Esq. of Hopkins & Carley, "Succession planning issues for a family business"
June 9, Hilary Martin of The Family Wealth Consulting Group, "Should I convert my regular IRA to a Roth?"
June 16, Craig Martin of The Family Wealth Consulting Group, "Alternative investments"
June 23 and 30, TBA

Financial Insider Weekly is also broadcast as follows:

  • Sunday at 5 p.m. on Comcast channel 28 in Hayward, Alameda and Fremont and on AT&T U-Verse Channel 99, Hayward public access TV 28 in California
  • Monday at 7:30 p.m. on Comcast channel 15 in Saratoga
  • Thursday at 5:30 p.m. on Comcast channel 27 in Santa Cruz County and Charter Communications channel 73 in Capitola and Watsonville
  • Thursday at 7 p.m. on Comcast channel 26 and AT&T U-verse channel 99 in Marin County
  • Thursday at 10 p.m. on Comcast channel 28 in Hayward, Alameda and Fremont and on AT&T U-Verse Channel 99, Hayward public access TV 28 in California
  • Friday at 4 p.m. on cable channel 15 in Cupertino, Los Altos and Mountain View
  • Friday at 4:30 p.m. on Comcast channel 15 in Los Gatos
  • Friday at 6:00 p.m. on Comcast and Astound channel 29 in San Francisco. Online streaming video at www.bavc.org, "public access TV"

Past episodes of Financial Insider Weekly are posted on YouTube. One way to watch them is to go to our web site, www.financialinsiderweekly.com, and click on "Past Episodes."

Let me know any ideas that you have for topics or guests. Guests will usually have to be located in or near the Silicon Valley in California.

Hope you can watch or record the show. Please tell your friends about it!

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Michael Gray regrets he can no longer personally answer email questions. He will answer selected questions in this newsletter.

Dear readers:

Many of your questions relate to the sale of a principal residence. We have an article at our web site, "Could your residence be the ultimate tax shelter?" (www.realestateinvestingtax.com/residence.shtml) where you should be able to find the answers to most of these questions.

Many other questions relate to short sales and foreclosures. See our article on that subject at www.realestateinvestingtax.com/shortsale.shtml.

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Follow me on Twitter!

If you enjoy Twitter, please follow me at www.twitter.com/michaelgraycpa. I would especially appreciate retweets of our messages announcing episodes of Financial Insider Weekly.

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Do you know about our other newsletters?

For general tax developments, tax planning ideas, business development ideas and book reviews, subscribe to Michael Gray, CPA's Tax & Business Insight at taxtrimmers.com/subscribe2.shtml.

Have employee stock options? Subscribe to our free newsletter, Michael Gray, CPA's Option Alert! To learn more, visit stockoptionadvisors.com/subscribe.shtml.

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Check out my blog.

I have also started a blog at www.michaelgraycpa.com. Check it out!

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IRS Circular 230 Disclosure: As required by U.S. Treasury Regulations, you are hereby advised that any written tax advice contained in this communication was not written or intended to be used (and cannot be used) by any taxpayer for the purpose of avoiding penalties that may be imposed under the U.S. Internal Revenue Code.


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Michael Gray, CPA
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(408) 918-3162
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email: mgray@taxtrimmers.com
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