Tag Archives: Schedule A

Texas Property Taxes and Tax Reform

With both the House and Senate tax reform plans calling for a $10,000 limit to the property tax deduction, it further strengthens prepaying your Texas property taxes before 12/31/2017 for those who would pay more than $10,000 per year.  At least pay the amount that would make the remaining portion to pay 2018 by less than $10,000 for the deduction.


Tax Aspects of Refinancing a Home Mortgage

You are planning to refinance the mortgage on your home and have asked me about the tax rules regarding the refinancing. This letter will discuss whether you can deduct the interest you will pay on your new mortgage, the points that you pay, and other fees that you may pay in connection with the refinancing.

Interest deduction. Interest that you pay on a home mortgage is deductible within limits, depending on whether it is home acquisition debt, home equity debt, or grandfathered debt. Interest on the refinanced mortgage will be deductible if it falls into one of these categories, as explained below.

Home acquisition debt is a mortgage you took out after Oct. 13, 1987, to buy, build, or substantially improve your main or second home, and that is secured by that home. Interest on home acquisition debt is deductible, but your total home acquisition debt can’t exceed $1 million ($500,000 if married filing separately).

Home equity debt is any debt secured by your first or second home, other than home acquisition debt, or grandfathered debt. Thus, it includes mortgage loans taken out for reasons other than to buy, build, or substantially improve your home, and mortgage debt in excess of the home acquisition debt limit. Interest is deductible on up to $100,000 of home equity debt ($50,000 if married filing separately).

Grandfathered debt is mortgage debt secured by your first or second home that was taken out before Oct. 14, 1987, no matter how you used the proceeds. All of the interest you pay on grandfathered debt is fully deductible.

Refinancing. If the old mortgage that you are refinancing is home acquisition debt, your new mortgage will also be home acquisition debt, up to the principal balance of the old mortgage just before it was refinanced. The interest on this portion of the new mortgage will be deductible. Any debt in excess of this limit won’t be home acquisition debt, but it may qualify as home equity debt, subject to the $100,000/$50,000 limit.

If you are refinancing grandfathered (pre-Oct. 14, 1987) debt for an amount that isn’t more than the remaining debt principal, the refinanced debt will still be grandfathered debt. If the new debt exceeds the mortgage principal on the old debt, the excess will be treated as home acquisition or home equity debt.

Grandfathered debt that was refinanced is treated as grandfathered debt only for the period that remained on the old debt that was refinanced. Once that period ends, you must treat the debt as home acquisition debt or home equity debt, based on how the debt proceeds are used. There’s an exception that allows a longer period of deduction for balloon notes that are refinanced after Oct. 13, 1987.

Points. In general, points that you pay to refinance your home aren’t fully deductible in the year that you paid them. Instead, you can deduct a portion of the points each year over the life of the loan.

To figure your deduction for points, divide the total points by the number of payments to be made over the life of the loan. Then, multiply this result by the number of payments you made in the tax year.

For example, if you paid $3,000 in points and you will make 360 payments on a 30-year mortgage, you can deduct $8.33 per monthly payment. For a year in which you make 12 payments, you can deduct a total of $99.96 ($8.33 × 12).

However, you may be entitled to a larger first-year deduction for points if you used part of the proceeds of the refinancing to improve your home and you meet certain other requirements. In that case, the points associated with the home improvements may be fully deductible in the year they were paid.

For example, say that you refinance a high-rate mortgage that has an outstanding balance of $80,000 with a new lower-rate loan for $100,000. You use the proceeds of the new mortgage loan to pay off the old loan and to pay for $20,000 of improvements to your home. Since 20% of the new loan was incurred to pay for improvements, 20% of the points you paid can be deducted in the year of the refinancing.

If you are refinancing your mortgage for the second time, the portion of the points on the first refinanced mortgage that you haven’t yet deducted may be deductible at the time of the second refinancing.

Penalties and fees. A prepayment penalty that you pay to terminate your old mortgage is deductible as interest in the year of payment.

However, fees paid to obtain the new mortgage aren’t deductible, nor can you add them to your basis in your home to reduce the gain when you sell it. Examples of such nondeductible fees are credit report fees, loan origination fees, and appraisal fees.

Steve Eubanks, EA, MBA

The Best Tax Shelter around—your Personal Residence!

If you’re a homeowner, Uncle Sam has thrown you a tax shelter that’s beyond compare. You may deduct the mortgage interest paid on your annual tax return and deduct the property taxes on your Schedule A. If you don’t currently own a home, this tax benefit is significant enough to make you look seriously at home ownership.

The concept is simple, but it starts to get a little more complicated when you add in “points.” Points are one type of fee paid at closing to your lender. If you pay points when you buy your new home, these may be deducted in full in the year of purchase. However, if you refinance your loan, the points must then be deducted over the life of the new loan. In the event you are deducting points annually and then decide to refinance again, you will be able to deduct the balance of the points when you pay off the old mortgage. Of course, all these deductions are based on being able to itemize your deductions on Schedule A.

There are some limitations.

  • Points must not be more than amounts generally charged in your area.
  • Funds provided at closing must be at least equal to the points.
  • Loan must be used to buy or build taxpayer’s main home.
  • Points are stated as a percentage of the principal amount of loan.
  • Points are clearly stated on the settlement statement as charged for the mortgage.

Predictably, there are limits on mortgage interest deduction. Only the interest on the first $1 million of home acquisition debt is deductible. (Acquisition debt is defined as debt to purchase, build or substantially improve the residence.) Home equity debt limits are the lesser of the fair market value of the home reduced by the acquisition debt or $100,000 ($50,000 if married filing separately).

Probably the greatest advantage of home ownership occurs when you decide to sell your home. If you have owned and lived in your personal residence for two out of five years, you can sell the home and not be taxed on a profit up to $250,000 for singles and $500,000 for couples. The way home values have increased in recent years, this can be a tremendous investment opportunity. This rule seems very straight forward and simple, but beware! There are a number of exceptions.

Job related move — if you have to move out of your area (a 50-mile radius), and are unable to meet the two year time period, you can prorate the time based on a formula utilizing a ratio consisting of the number of days that you owned and lived in the home to the total number of days in the relevant 24-month period (approximately 730), multiplied by the exclusion amount.

Health problems requiring a sale — if health problems force you to move from your principal residence, you can prorate the time and exclusion based on the formula above.

Ideally, a couple that kept good records of time of ownership could buy and live in a home for two years, sell for a profit and then repeat this process. Still, there are a number of pitfalls that cause tax problems, such as the special rules surrounding home offices and move out/rent/return situations that effect the two in five requirement (this involves adjusting for depreciation recapture). Given the many regulations and nuances of the tax laws, many people opt to hire a licensed tax practitioner, such as an enrolled agent.

Steve Eubanks, EA, MBA

Job Seekers Tax Deductions

Just to remind job seekers of the expenses they may be able to deduct. To be deductible, the expenses must be spent on a job search in the taxpayer’s current occupation—job search expenses cannot be deducted if incurred while looking for a job in a new occupation (or if there is a substantial break between the end of the former job and the time the taxpayer begins looking for a new one). Deductible expenses include (1) employment and outplacement agency fees, (2) costs of preparing and mailing resumes to prospective employers, and (3) travel expenses going to and from another area if the trip is primarily to look for a new job. The time spent on personal activities versus the time spent looking for work is important in determining the primary purpose of the trip.

Substantiating Charitable Contributions by Individuals

While all contributions must be substantiated, contributions of $250 or more require a written receipt from the charity. If you donate property valued at more than $500, additional requirements apply.

General rules. For a contribution of cash, check, or other monetary gift, regardless of amount, you must maintain a bank record or a written communication from the donee organization showing its name, plus the date and amount of the contribution. It’s not sufficient to maintain other written records, such as a log of contributions.

For a contribution of property other than money, you generally must maintain a receipt from the donee organization showing its name, the date and location of the contribution, and a detailed description (but not the value) of the property. You need not obtain a receipt for a property donation, however, if circumstances make obtaining a receipt impracticable. In that case, you must maintain a reliable written record of the contribution. The information required in such a record depends on factors such as the type and value of property contributed.

Stricter substantiation requirements apply in the case of charitable contributions with a value of $250 or more. No charitable deduction is allowed for any contribution of $250 or more unless you substantiate the contribution by a contemporaneous written acknowledgement of the contribution by the donee organization. You must have the receipt in hand by the time you file your return (or by the due date, if earlier) or you won’t be able to claim the deduction.

The acknowledgement must include the amount of cash and a description (but not value) of any property other than cash contributed, whether the donee provided any goods or services in consideration for the contribution, and a good faith estimate of the value of any such goods or services. If you received only “intangible religious benefits,” such as attending religious services, in return for your contribution, the receipt must say so. This type of benefit is considered to have no commercial value and so doesn’t reduce the charitable deduction available.

If you make separate contributions of less than $250, you won’t be subject to the requirement to get a written receipt, even if the sum of the contributions to the same charity total $250 or more in a year. Also, if you have contributions withheld from your wages, the deduction from each payment of wages is treated as a separate contribution for purposes of the $250 threshold.

In general, if the total charitable deduction you claim for non-cash property is more than $500, you must attach a completed Form 8283 (Noncash Charitable Contributions) to your return or the deduction is not allowed. In general, you are required to obtain a qualified appraisal for donated property with a value of more than $5,000, and to attach an appraisal summary to the tax return. A qualified appraisal isn’t required for publicly-traded securities for which market quotations are readily available. A partially completed appraisal summary and the maintenance of certain records are required for (1) nonpublicly-traded stock for which claimed deduction is greater than $5,000 and no more than $10,000, and (2) certain publicly-traded securities for which market quotations are not readily available. A qualified appraisal is required for gifts of art valued at $20,000 or more. IRS may also request that you provide a photograph.

If an item has been appraised at $50,000 or more, you can ask IRS to issue a “Statement of Value” which can be used to substantiate the value.

Recordkeeping for contributions for which you receive goods or services. If you receive goods or services, such as a dinner or theater tickets, in return for your contribution, your deduction is limited to the excess of what you gave over the value of what you received. For example, if you gave $100 and in return received a dinner worth $30, you can deduct $70. But your contribution is fully deductible if:

  • you received free, unordered items from the charity that cost no more than ($9.70 in 2011 ($9.60 in 2010) in total;
  • you gave at least $48.50 in 2011 ($48.00 in 2010) and received only token items (bookmarks, key chains, calendars, etc.) that bear the charity’s name or logo and cost no more than $9.70 in 2011 ($9.60 in 2010) in total; or
  • the benefits that you received are worth no more than 2% of your contribution and no more than $97 in 2011 ($96 in 2010).

If you made a contribution of more than $75 for which you received goods or services, the charity must give you a written statement, either when it asks for the donation or when it receives it, that tells you the value of those goods or services. Be sure to keep these statements.

Cash contribution made through payroll deductions. A contribution that you make by withholding from your wages may be substantiated by a pay stub, Form W-2, or other document furnished by your employer that shows the amount withheld for the purpose of a payment to a charity. You can substantiate a single contribution of $250 or more with a pledge card or other document prepared by the charity that includes a statement that it doesn’t provide goods or services in return for contributions made by payroll deduction.

The deduction from each wage payment of wages is treated as a separate contribution for purposes of the $250 threshold.

Substantiating contributions of services. Although you can’t deduct the value of services you perform for a charitable organization, some deductions are permitted for out-of-pocket costs you incur while performing the services. You should keep track of your expenses, the services you performed and when you performed them, and the organization for which you performed the services. Keep receipts, canceled checks, and other reliable written records relating to the services and expenses.

As discussed above, a written receipt is required for contributions of $250 or more. This presents a problem for out-of-pocket expenses incurred in the course of providing charitable services, since the charity doesn’t know how much those expenses were. However, you can satisfy the written receipt requirement if you have adequate records to substantiate the amount of your expenditures, and get a statement from the charity that contains a description of the services you provided, the date the services were provided, a statement of whether the organization provided any goods or services in return, and a description and good-faith estimate of the value of those goods or services.

Please contact me if you have any questions about these rules.

Steve Eubanks, EA, MBA



Medical Expenses: What is Deductible and Why They Are So Difficult to Claim

Every year clients ask me what medical expenses are deductible and how they can claim such expenses on their returns. Unfortunately, as with many tax issues, there are many matters to consider when claiming medical expenses and often the final amount that can be claimed is very disappointing, especially when considering the record keeping involved.

Internal Revenue Code 213 is the section of the tax code where the fun journey of exploring medical costs begins and the usual destination is in the more “user friendly” IRS Publication 502.

Medical Expenses Included

According to IRC 213(d), medical care includes expenses incurred for diagnosis, cure, treatment, and prevention of disease or for purposes affecting the function and structure of the body. These amounts also can include payments for long term care services, health insurance, drugs, and transportation and, in certain cases, lodging.

Of course, a taxpayer must reduce the medical expenses to be claimed by any payments made by an insurance policy, either directly to the medical provider or as a reimbursement to the taxpayer.

When to Deduct Medical Expenses

One of the downsides to taking advantage of claiming medical expenses is the provision relating to when to claim such expenses. Since medical costs often run in the thousands if not tens of thousands of dollars, a very real problem arises when trying to claim expenses. Frequently, I see people who must make payments to their medical provider over a period of time that can sometimes straddle tax years. As you will see later, this provision that dictates costs must be deducted in the tax year paid as opposed to the year of medical services, so this provision can cause a problem for taxpayers.

One potential solution to this problem is paying for the medical services by credit card. Although you still owe the same amount, and in your mind you still owe the medical expenses, the IRS deems the medical bills “paid” at the time of the recording of the transaction on the credit card. Thus, the whole amount can then be claimed during that year, since now you owe the credit company and not the medical provider. Of course, the additional problem is that you now have the medical expenses sitting on a charge card and accruing interest generally at a very high rate. Should you opt for this method one must perform a careful analysis to see if the tax savings is worth the added cost of interest.

Filing Status and Whose Expenses to Include

Should a married taxpayer contemplate the Married Filing Separately status, there are some additional items. These concerns include whether you live in a community property state or not. You must also be aware of special rules that apply to expenses being paid from a jointly-owned account.

You may claim expenses you paid for yourself, your spouse (oddly even if you are filing separate), and your dependents.

Included Medical Costs—a Closer Look

Although the expenses covered are far too numerous to name here, I will attempt to provide some examples of items that may be overlooked when calculating your medical expenses.

  • Devices such as crutches, wheel chairs, glasses, dentures, etc.
  • Bandages
  • Braille books and magazines
  • Fertility enhancement
  • Pregnancy test kits
  • Birth control pills
  • Guide dogs
  • Health insurance premiums including Medicare Parts B & D and certain type of Long Term Care Insurance policies
  • Stop smoking programs (except over-the-counter medicines)
  • Weight loss programs if prescribed by a doctor to treat a specific disease such as obesity, hypertension, etc.
  • Transportation expenses to receive medical care

Another item to be deducted, with careful calculations, is permanent capital improvements to a home to aid you or your dependents. However, if such improvements actually increase the value of your home you must first subtract any increase in home value from the costs incurred. Only the amount left, if any, is deductible.

Medical Expenses Not Included

On the contrary side, there are certain medical expenses which can’t be included. I only mention these here because I am often asked by taxpayers if they can deduct them.

  • Health club dues. Although you can deduct, as mentioned earlier, for weight loss programs prescribed for a diagnosed medical condition, these may not include fees for the health club (i.e. if you pay a fee for specific weight loss program at a club, then that is deductible. However, the fees to use the gym are not deductible.)
  • Funeral costs
  • Illegal medical procedures
  • Over-the-counter medicines
  • Nutritional supplements (unless recommended by a medical practitioner as a treatment for a specific condition)
  • Health Savings Accounts (HSA) and Medical Savings Accounts (MSA). In a roundabout way you do receive tax benefits with these plans but they are accounted for as Adjustments to Income on page 1 of the 1040 and are not addressed here. See IRS publication 969 for more details.
  • Flexible Savings Accounts (FSA). Keep in mind funds contributed to such accounts are on a pre-tax basis. Thus, you can’t “double dip” by then claiming expenses withdrawn from these funds for medical care.
  • Health Insurance Premiums funded with pre-tax premiums under IRC 125 (i.e., “cafeteria plans”). Generally speaking, most health insurance policies you buy through your employer fall in this category and are not deductible at tax filing time since you already received a benefit of funding such policies.
  • Health Insurance Premiums for the self-employed. These fall under a similar scenario as HSA and MSA. These are generally reported as an Adjustment to Income on page 1 of the 1040. Please note special rules apply and you can’t take an adjustment for premiums for any month in which you were eligible to participate in an employer provided group plan. Please see IRS Publication 535 for more details.

The Bottom Line—the Deduction!

You have now gathered all of your documentation and you have excluded those items that don’t qualify, and you are ready for that big moment for the tax deduction on Schedule A!

Here is where I hate to be negative, but I must be a realist and tell you that most of the time after all of this work you still won’t qualify for this deduction or if so only a minor amount! Here is the kicker: You must first complete page 1 of the 1040 and compute your Adjusted Gross Income (AGI) and take that amount and multiply it by 7.5%. You take this amount and subtract it from your medical expenses and only what is left is what is deductible.

For example let’s say you paid out $5,000 in qualified medical expenses. However, your AGI is $100,000. You must take 7.5% ($7,500) and subtract this first. As you can see you are shy by $2,500. Thus, no deduction is allowed! Yes, I know this hurts. I see this every year and time after time this is often the case.

Here is another example. Let’s say you still have $5,000 in qualified medical expenses. Except now your income is $50,000. 7.5% of $50,000 is $, 3,750. Thus, in this case you can deduct $1,250 ($5,000-$3,750)! Congratulations!

Well, maybe we shouldn’t celebrate too much yet. Here is the next test. You must have enough other itemizations (i.e., home mortgage interest, real estate taxes, charitable contributions, etc.) to beat the standard deduction. Therefore, you may technically have enough medical expenses, but if you don’t have enough “itemizations” to complete Schedule A to beat the standard deduction you are still out of luck!

Unfortunately, after nearly 20 years of preparing returns what I have found is that most people who have high enough medical expenses to qualify are elderly. Generally, elderly people who own a home have had it paid in full for years and the largest item I usually find in itemized deductions is the home mortgage interest. This problem is compounded even more because once you are 65 you are entitled to an extra standard deduction of $1,400. Therefore, it has been my experience that is difficult to claim medical expenses. This problem is magnified further by the fact that to help pay for the Affordable Health Care Act (i.e. the new health insurance law) you will have to calculate medical expenses against 10% of your AGI rather than 7.5% starting in year 2013 (2016 for those over 65)!

However, even if you don’t qualify for the schedule A deduction some states have different thresholds, and although you may not have enough to “itemize” on Schedule A of the federal form you may find you can use some of these expenses on your state income tax return, providing you live in a state with an income tax that allows such a deduction.

This article is not meant to be an extensive explanation on IRC 213, and has been made to be as informative as possible without diving into every specific situation. Thus, considering the “gotcha’s” in this provision, I highly encourage you to do further research and/or seek professional guidance before tackling this issue yourself.

Steve Eubanks, EA, MBA