Michael Gray, CPA's Real Estate Tax Letter

April 10, 2018

© 2018 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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Due date for individuals and calendar year corporations, estates and trusts tax returns will soon be here.

The due date for calendar year 2017 income tax returns for most individuals and calendar year corporations, estates and trusts is April 17, 2018. If the information for preparing them isn't complete, extension forms should be submitted with the estimated balance of tax by April 17. (The extension form is considered to be filed if an extension payment is made using Direct Pay at https://www.irs.gov/payments/direct-pay.) If you need help with your extension, call Ms. Thi Nguyen, CPA at 408-286-7400, extension 206.

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What if you don't have the money to pay the tax?

The IRS will allow you to file an extension without paying the tax. You are still required to include an estimate of the tax due on the form. (The extension will not be accepted without this amount being entered.) The late filing penalty will be waived provided your income tax returns are filed on the extended due date, which is October 15, 2018 for most individuals.

California automatically allows the extension without filing a form.

A late payment penalty of 1/2% per month will apply for any tax due not paid by April 17, 2018, unless at least 90% of the tax finally determined was paid by that date.

Interest will also be charged for the unpaid tax and can't be waived. (The current rate is 5% for individuals.)

If a 2017 individual income tax return isn't filed by April 17, 2018 and a valid extension isn't filed by that date, the late filing penalty is 5% of the unpaid tax per month filed late, to a maximum of 25%. (In some cases, California will assess a penalty on the entire tax without reduction for payments received. See your tax advisor for details.)

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Remember that an estimated tax payment is also due.

The first 2017 estimated tax payment for individuals and most other calendar year entities is also due on April 17, 2018. The penalties for late payment of estimated taxes are computed as simple interest. The federal estimate payment can be based on 25% of last year's tax liability. California "front loads" the first estimated tax payment as 30% of last year's tax liability.

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Remember the second California real estate tax payment is due today.

There is a nasty penalty for paying real estate taxes late, and the date slips past us because we're thinking about April 15.

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No gain or loss for short sale with nonrecourse mortgage.

Karl and Christina Simonsen short sold a townhouse that they had used as a principal residence and later converted to a rental property. The Simonsens followed information received on Form 1099-C, Cancellation of Debt and Form 1099-S, Proceeds from Real Estate Transactions to report cancellation of debt income and a business loss from the sale of the real estate.

The Tax Court upheld the IRS in reversing the cancellation of debt income and disallowing the loss for the sale of the townhouse.

Since the mortgage for the townhouse was a nonrecourse mortgage, the total amount of the debt was included in the proceeds for the sale of the residence, so there was no cancellation of indebtedness income.

When property is converted from personal use to business use, the tax basis for loss (and for computing depreciation) is the lesser of the original tax basis or the fair market value on the date of the conversion. In this case, the fair market value was much lower than the original cost. Since the reduced tax basis would have resulted in a gain, but there would have been a loss if the original basis was used, there was no taxable gain or loss for the sale.

(Simonsen v. Commissioner, 150 TC No. 8, March 14, 2018.)

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Architect was a real estate professional.

The Tax Court ruled against the IRS and in favor of a taxpayer that he was a real estate professional during 2013. The taxpayer kept a contemporaneous log of his hours worked. The taxpayer was an architect, but only spent 649 hours providing architectural services and spent 1,137 hours managing two rental properties. The IRS did not contest the taxpayer's election to treat all interests in rental real estate as one activity.

Since the taxpayer devoted more than one-half of personal services performed in trades or businesses during the taxable year in real estate trades or businesses in which the taxpayer materially participates and performed more than 750 hours of services during the taxable year in real estate trades or businesses in which the taxpayer materially participates, the requirements for a real estate professional were satisfied.

(Franco v. Commissioner, T.C. Summary Opinion 2018-9, March 6, 2018.)

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IRS lien only applied to taxpayer's share of former marital home.

A U.S. district court held an IRS tax lien only applied to a taxpayer's one-half interest in real estate previously held as joint tenants with his deceased ex-wife. The property was formerly held as joint tenants, but the couple's divorce agreement provided the property was to be sold with the proceeds divided equally, so the previous joint tenancy was severed under Georgia law.

(Estate of Cahill v. United States, 121 AFTR 2d 2018-1024, March 14, 2018.)

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Most office parties and recreational facilities for employees are tax deductible.

I recently discovered a misunderstanding that I had about the deductibility of office parties and recreational facilities under the Tax Cuts and Jobs Act of 2017.

It turns out that the expenses for most of these parties and company recreational facilities are tax deductible under the new tax law.

Under amended Section 274(e)(4), the prohibition for deducting expenses for entertainment or recreation or a facility for entertainment or recreation shall not apply to "Expenses for recreational, social or similar activities (including facilities therefor) primarily for the benefit of employees (other than employees who are highly compensated employees (within the meaning of section 414(q))). For purposes of this paragraph, an individual owing less than a 10-percent interest in the taxpayer's trade or business shall not be considered a shareholder or other owner, and for such purposes an individual shall be treated as owning any interest owned by a member of his family (within the meaning of section 267(c)(4)). This paragraph shall not apply for purposes of subsection (a)(3) (denial of deduction for club dues)."

Therefore, as long as the majority of the participants aren't owners, expenses for office parties, including meals provided, are fully deductible and not even subject to the 50% limitation for meals!

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Budget legislation includes tax technical corrections.

President Trump signed the Consolidated Appropriations Act of 2018 on March 23, 2018. The legislation includes several technical corrections for various tax laws. As far as I can tell, it does not correct an error for failing to include language in the Tax Cuts and Jobs Act of 2017 for a 15-year recovery period and eligibility for bonus depreciation for "qualified improvement property." Hopefully that correction will be adopted in the near future, but it's not a slam dunk.

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Financial Insider Weekly past episodes

After eight years of production, I have discontinued 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 available at https://www.youtube.com/user/financialinsiderweek.


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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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Michael Gray, CPA
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San Jose, CA 95128
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