If as has been alleged, Biden wins this election and the Democrats somehow get control of both houses of congress, Estate and Gift taxes will go up. Two areas where they have mentioned increases (1) lowering the Unified Credit Exemption from $11 Million to $5 Million. This would mean that individuals worth more than $5 Million or couples worth more the $10 Million will lose some benefits they currently have under the tax code. (2) Raising the Estate and Gift Tax rates to higher levels. What are some strategies to consider before the end of the year?
A. Dynasty Trusts. Make gifts now before the exemption is reduced. If you create a trust for your children and your grandchildren now (not you), you can create you can give up to $11 Million ($22 Million for couples) tax free to be used by your children and grandchildren. If you wait, you can only give $5 Million ($10 Million per couple). So, if you’re really rich, now is the time to make generation skipping gifts.
Another target is preferred capital gains rates. I do believe that will be watered down to a degree, but assume the rate goes from 20% to 30%, then what do you do. (1) You can harvest capital gains now, wait 30 days and reinvest. (2) Utilize a charitable remainder trust over multiple generations. It gives you a small charitable deduction, but allows capital gains to not be taxed unless taken out. So, again, this allows you some ability to make gifts to your children now and keep benefits for yourself, and allows for deferral of capital gains until they are distributed.
What if your home was vandalized by a group of peaceful protestors
Under the 2017 Tax Act, no deduction for you. Hope you’re insured because until 2023 such a loss is not deductible. I suspect those living in some of these riot zones are going to have a big surprise.
What if you car was destroyed, same result. Personal property is also not subject to a casualty loss for vandalism.
The only casualty losses allowed are for casualty losses from a natural disaster in a federally declared natural disaster. Luckily the Administration has been quite generous in declaring FEMA natural disasters.
So your business was vandalized during a peaceful protest
First, you should contact your insurance company and let them know that you have a loss. But lets say, your insurance lapsed and you wish to deduct the loss suffered on your taxes. Let’s say you rent your space and several thousand dollars of electronics were stolen. You get to deduct, the lesser of the cost of those electronics or fair market value.
Let’s say you’re a landlord and a plate glass window was destroyed and it cost $1,000 to fix. Your deduction is the lesser of: calculated as follows: Fair market value of the building before the loss minus fair market value after the loss or cost of replacement. So, let’s say despite the broken plate glass window the value of your building stayed the same, no deduction. So, around next April, you will start to hear squeals of pain, when business people discover they don’t even have much of a tax deduction.
PASSIVE ACTIVITY RULES REFRESHER
As we emerge from the pandemic, people want to know, what if I buy this property and turn it into an AirbNb. What are the tax effects. Short term rentals are rentals and thus the rent rules apply to the property including the passive loss rules.
If the property is considered a rental. Taxpayers are allowed to deduct up to $25,000 in losses each year if 1040 MAGI income is under $100,000. MAGI is computed as follows:
• Student loan Interest
• One-half of self-employment tax
• Qualified tuition expenses
• Tuition and fees deduction
• Passive loss or passive income
• IRA contributions
• Taxable social security payments
• The exclusion for income from U.S. savings bonds
• Foreign earned income exclusion
• Foreign housing exclusion or deduction
• The exclusion under 137 for adoption expenses
• Rental losses
• Any overall loss from a publicly traded partnership
After you go above $100,000 you lose $1 for every $2 above. Thus it phases out completely at $150,000. Also, if you use rental property more than 14 days (excluding work days) it reduces losses pro-rata, days used/total days used and rented. Still it shelters the income from rentals. And losses are indefinitely carried forward for when you sell the property.
For example: Assume: Couple with $200,000 MAGI and $5,000 of rental income.
Expenses:
Taxes $4,000
Insurance: $1,000
Interest on Mortgage (200k@5.75%) = $10,433
Rental fees: $500
Repairs: $1,000
Building value at purchase $200,000.
Improvements: $50,000
Land: $200,000
Depreciation allowable is: $9,090/year.
LLC annual fee $100.
The total expenses are: $25,733. $5,000 income is tax free, but the $20,733 of losses are suspended.
If you spend 750 hours per year on this (keeping a log) and other real estate ventures then you can become a professional. Then all losses are deductible annually.
Farm: For farming, losses are unlimited. Thus if a portion of the property is used for farming activities: orchards, cattle, sheep, pigs, then the value of that stand alone portion divided by the entire value of the property can sustain losses.
For example: Imagine a one hundred acre parcel. House on 1 acre, cattle and barns on other 99 acres. 99 acres are worth $198,000 and house and lot are worth $252,000. Thus 44% of each expense is allowable against farming income (not depreciation unless you have a separate farm building) = $5,123 using numbers above. Say then you have another $10,000 of vet expenses and feed and transport. So, you can take a $15,123 loss on the farming portion. But of course, then you sell the cows and that will reduce your farm loss.
Adkins v. U.S. II, United State Court of Appeals for the Federal Circuit
One usually doesn’t get to celebrate in tax practice, but we were fortunate enough to win our appeal and in the process the Federal Circuit departed from a 5th Circuit finding. as to the year of a loss in a theft loss case. The opinion will be posted later on May 29, 2020 on the Court’s website. http://www.cafc.uscourts.gov/opinions-orders