ch 14 gottlieb

Learning Objectives

• Determine home tax status:

  • Principal Residence

  • Residence (not principal)

  • Nonresidence

• Compute taxable gain on home sale

• Calculate home mortgage interest deduction

• Discuss real property tax deductibility

• Assess tax issues tied to rental home use

• Understand limitations on home office deductions

Tax Status of Dwelling Unit

• Types of Dwelling Units:

  • Home, Condominium, Mobile Home, Boat, etc.

• Use Classification:

  • Personal use only

  • Mixed personal and rental use

  • Solely rental use

Residence vs. Nonresidence

• A dwelling unit is a residence if:

  • Personal-use days exceed the greater of:

  • 14 days

  • 10% of rental days

• Otherwise, classified as a nonresidence.

Personal-use Days Include:

• Owner’s stays

• Days relatives stay (unless it’s their principal residence)

• Days under vacation home exchange

• Days rented for less than fair market value

Rental Days Include:

• Days rented at fair market value (FMV)

• Days spent repairing or maintaining for rental use

Considerations for Principal Residence Classification

• Time spent at each residence

• Proximity to work

• Family's main abode

• Mailing address

Tax Provisions by Property Type

• Principal Residence:

  • Home mortgage interest and property taxes deductible

  • Gain exclusion on sale available

  • Foreclosure debt forgiveness inclusion

• Residence (Not Principal):

  • Similar deductions as principal residence

• Nonresidence:

  • Mainly rental deductions and rules apply

Nontax Considerations

• Investment magnitude and associated risks

• Maintenance costs and limited mobility

Sale of Personal Residence

• Gain or loss recognized as capital gain/loss

• Losses from personal residence are not deductible

• Gain exclusion possible under eligible circumstances:

  • Maximum Exclusion:

  • $500,000 for Married Filing Jointly (MFJ)

  • $250,000 for other taxpayers

Qualification for Gain Exclusion

• Ownership Test:

  • Must own property for 2 or more years in the last 5 years

• Use Test:

  • Must use property as principal residence for 2 years in that same period

Exceptions to Gain Exclusion Rules

• Nonqualified Use Limitation:

  • Nonqualified use since January 1, 2009 reduces eligible gain ratio

• Unforeseen Circumstances:

  • Allows exclusion if forced to sell early due to employment or health

Home Mortgage Interest Deduction

• Deduction on acquisition indebtedness

• Limits:

  • $1,000,000 for debt before December 16, 2017

  • $750,000 for debt after December 15, 2017

Points Deduction

• Points typically equal 1% of principal

• Points for interest rate reductions are generally deductible

• Refinancing points deducted over the loan's life

Real Property Taxes

• Property taxes generally paid through escrow

• Maximum itemized deduction limit for taxes is $10,000

Rental Use Classifications

1. Minimal Rental Use:

   • Rented for 14 or fewer days; exclude rental income

2. Significant Rental Use:

   • Rented for 15 or more days; allocate expenses

3. Nonresidence:

   • Rental use exceeds personal use ratio

Significant Rental Use Expense Allocation

• Allocate expenses based on personal vs. rental use

• Categorize expenses as Tier 1, Tier 2, and Tier 3:

  • Tier 1: Fully deductible

  • Tier 2: Deductible up to excess rental income

  • Tier 3: Depreciation and excess expenses carryover

Rental Property Losses

• Generally treated as passive activity losses (PALs)

• $25,000 exception for active participants phased out at AGI of $150,000

Business Use of the Home: Home Office Deduction

• Must be exclusive and regular use as a principal business location

• Applicable to self-employed individuals only

• Limits: Actual expense method vs simplified method, with $1,500 max for simplified method

Conclusion

Understanding the tax implications of home ownership, from mortgage interest deductions to capital gains exclusions, is crucial for effective financial planning and compliance with tax laws. It’s essential to differentiate between types of residential uses and their corresponding tax treatments to ensure optimal tax outcomes.