Michael Gray, CPA's Real Estate Tax Letter

August 18, 2017

© 2017 by Michael C. Gray
ISSN 1930-0387

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

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Estimated tax payments are due September 15.

The next due date for quarterly estimated tax payments is September 15. For most taxpayers, there is no California payment due because the first and second payments were "front loaded."

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Extended due date for most calendar year taxpayers except individuals is September 15.

The extended due date for filing income tax returns of calendar year S corporations, partnerships (including LLCs), estates and trusts is September 15. Be sure your tax return preparer has the information to complete your income tax returns.

The extended due date for calendar year C corporations is October 16.

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Less than two months left to file extended individual income tax returns!

Remember the extended due date for extended 2016 individual income tax returns is October 16, 2017.

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Watch September 30 deadline for inherited IRAs.

For an IRA inherited when the owner was deceased during 2016, the designated beneficiaries must be established by September 30, 2017. In order to qualify for an extended payout over the life expectancy of one or more beneficiaries, all of the beneficiaries must be individuals or certain trusts. Otherwise, the account must be distributed within five years after death. A non-individual beneficiary, such as a charity, can be eliminated from consideration by distributing its share by September 30, 2017. See your tax advisor for details.

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'Tis the season for extensions.

If you need help preparing your income tax returns for which you have filed an extension, call Dawn Siemer at 408-918-3162 on weekday mornings to make an appointment. Remember, there are only two months left to submit your extended 2016 individual income tax return on time!

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Handyman has taxable income for rent received in trade.

A handyman couldn't pay his rent, so he did maintenance work in exchange for a monthly rent offset. The Tax Court upheld the IRS in finding the value of the rent received was taxable compensation income.

(Welemin v. Commissioner, Tax Court Summary Opinion 2017-54, July 18, 2017.)

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Miscellaneous California tax changes.

Governor Brown has approved the 2017-2018 budget, which includes some California tax changes.

Effective for the 2017 tax year, the California automatic extension term for partnership income tax returns has been increased to seven months to adjust for changing the original due date to March 15. That means the extended due date for calendar year California partnership income tax returns will be October 15. (The federal due date is September 15. The Franchise Tax Board says they will also give administrative relief for 2016 income tax returns filed by October 16, 2017, provided the taxpayer requests the relief.)

Effective July 1, 2017, the duties of the California Board of Equalization have been changed. The tax appeal duties have been transferred to a new Office of Tax Appeals. Beginning January 1, 2018, the Office of Tax Appeals will conduct all income and franchise tax appeals.

There are also some changes to the excise taxes and cultivation tax for marijuana, which are beyond the scope of this newsletter.

(Spidell's California Taxletter®, July, 2017, p. 1, "Laws allow seven-month extension for partners, dismantle BOE.")

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Avoid exchanges of California real estate for out of state property.

Attorney and CPA Katherine Wright reminded seminar participants at a CalCPA Education Foundation course on multistate taxation to avoid tax-deferred exchanges of California real estate for real estate located in other states. The state tax laws are inconsistent on the taxation of these exchanges. In California, Massachusetts, Montana, and Oregon, the state where the original property was sold imposes a "clawback" income tax of the deferred gain when the replacement property is sold. If the state where the replacement property is located doesn't impose a "clawback" tax, no state tax credit will be allowed in that state. Tax will apply to the ultimate sale in two states with no state tax credit allowed. The double tax can be avoided by not making a tax-deferred exchange.

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"Fixing" an omitted form for a California tax-deferred exchange.

Taxpayers who exchange California property for property located outside of California are required to file Form 3840, California Like-Kind Exchanges each year until the replacement property is sold.

If the form isn't filed and no California income tax return is filed for the tax year, the Franchise Tax Board can accelerate gain recognition for the tax year.

Accelerating the gain recognition is optional to the Franchise Tax Board. The Franchise Tax Board says taxpayers who forgot to file Form 3840 should send it with an amended tax return.

(Spidell's California Taxletter, August, 2017, p. 6. "Forgot to file California's like-kind exchange form?")

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Cash basis landfill can deduct future clean up costs.

The Tax Court ruled against the IRS and in favor of a cash basis taxpayer that an election was available to currently deduct estimated future cleanup costs for a landfill under Internal Revenue Code Section 468, even when costs would be paid in the distant future. The IRS claimed the election is only available to accrual basis taxpayers.

(Gregory v. Commissioner, 149 T.C. No. 2, July 11, 2017.)

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IRS disagrees with Tax Court on Like-Kind Exchange.

The Tax Court recently ruled against the IRS relating to a deferred Section 1031 exchange structured with the acquisition of the replacement property first, called a reverse exchange. (Bartell, 147 TC No. 5.) The exchange intermediary acquired the replacement property 17 months before the transaction was completed. The IRS said the taxpayer acquired the benefits and burdens of owning the property before the exchange was completed.

Now the IRS has issued a nonacquiscence announcement, which means it disagrees with the decision. Be prepared to litigate if you engage in a similar transaction. (The IRS has issued safe-harbor guidelines for reverse exchanges in Revenue Procedure 2000-37. That guidance only provides for a 180-day period for the replacement property.)

(AOD 2017-6.)

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Conservation deduction wasn't qualified for limitation for farmers.

The Tax Court upheld the IRS in limiting the tax deduction for farmers for a qualified conservation contribution through a limited liability to 50% of their adjusted gross income. They couldn't use a higher limitation for "qualified farmers" because the proceeds for the LLC's bargain sale of the conservation easement and subsequent sale of the underlying land were not income from a farming business.

In order to be a "qualified farmer," farming income must exceed 50% of the taxpayer's gross income.

(Rutkoske v. Commissioner, 149 T.C. No. 6, August 7, 2017.)

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Individual qualified as a business lender.

Usually you think that only a bank can be in the business of lending. Only a taxpayer who is in the business of lending (or businesses that have uncollectible accounts receivable) can deduct bad debt losses as ordinary business expenses. Other taxpayers who make loans in the nature of investments must deduct the losses as capital losses, subject to those limitations.

William Owens persuaded the Tax Court that he had sufficient "continuous and regular" lending activity from personal funds to be considered in the business of lending. Over 14 years, he made 66 loans exceeding $24 million, so he was entitled to deduct his bad debt losses as ordinary business expenses.

This decision could be a two-edged sword. Many retirement accounts and IRAs make regular private loans. If you follow the logic of this decision, the interest income from those loans could be unrelated business taxable income and subject the retirement account or IRA to income taxation.

Another potential side-effect of the decision is for the IRS to attempt to claim the interest income is self-employment income, subject to self-employment tax. (See Treasury Regulations Section 1.1402(a)-5(b).)

(Owens v. Commissioner, Tax Court Memorandum Decision 2017-157, August 10, 2017.)

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Please share your good experiences with Michael Gray, CPA.

As you know, more and more people are going to the internet to find information about service providers. We hope you will share some good words about experiences that you have had with our firm. Some of the sites where you can share your experiences include yelp.com, siliconvalley.citysearch.com, and Google+.

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Farewell to Financial Insider Weekly.

After eight years of production, I am discontinuing producing new interviews for Financial Insider Weekly. Doing the show has been a rewarding experience and I consider back episodes to be my legacy of financial literacy education to our community. Back episodes are catalogued under "past episodes" at www.financialinsiderweekly.com.

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Financial Insider Weekly broadcast schedule for August.

Financial Insider Weekly was broadcast in San Jose and Campbell on Fridays at 9:30 p.m., Pacific Time, until August 11, 2017. The final episode will be broadcast in San Jose and Campbell at 6:30 p.m. on Thursday, August 24, 2017. You can watch it on Comcast channel 15 for San Jose and Campbell. The show is broadcast as streaming video at the same time at www.creatvsj.org.

Here are the scheduled interviews for August:

August 24, 2017, James O. Brown, ASA, CFP®, Perisho, Tombor & Brown, PC, "The role of the business valuation specialist"

Financial Insider Weekly is also broadcast as follows:

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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Questions and Answers

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, Facebook, LinkedIn and Google+!

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.

you can also follow me on other social media sites, Facebook, LinkedIn, and Google+.

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Check out my blog.

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

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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.

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Michael Gray, CPA
2190 Stokes St. Ste. 102
San Jose, CA 95128
(408) 918-3162
FAX: (408) 998-2766
Hours: 8am - 5pm PDT Monday - Friday

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