You Make the Call
Oct. 21, 2021
Question: Billy took out a reverse mortgage on his principal residence to provide himself additional income during his retirement years. Billy died and Laura, his beneficiary, paid off the balance of the reverse mortgage so she wouldn’t lose the house. Laura asks you if she can take a deduction on her personal tax return for the Form 1098, Mortgage Interest Statement, issued to the estate when she paid off the reverse mortgage. What do you tell Laura?
Answer: No, the reverse mortgage interest reported on Form 1098 to the estate is not deductible on the beneficiary’s personal return. A reverse mortgage is like a home equity loan. Billy took out a mortgage against the equity of his house and then used the loan proceeds to pay for personal living expenses. Billy did not use the reverse mortgage proceeds to purchase, construct, acquire or improve his principal residence [§163(h)(3)(B)]. Interest tracing deems that the loan is for personal expenses; therefore, the interest reported on Form 1098 is not deductible as qualified residence mortgage interest expense under TCJA, which changed the rules on the type of mortgage interest that qualifies as a deductible expense. Generally, a deduction is not allowed for interest paid on a reverse mortgage; however, an estate is allowed a deduction on the principal and accrued interest it pays on the reverse mortgage of a decedent's home [§2053(a)(4)].
Oct. 14, 2021
Question: Cooper and Penelope are married with two children. Cooper is a U.S. citizen living in Spain with both children, who are green card holders with valid Social Security numbers (SSNs). Penelope is a green card holder with a valid SSN living in the United States. When they file married filing jointly (MFJ) on their Form 1040,
U.S. Individual Income Tax Return, can they claim the children as dependents?
Answer: Yes, on their MFJ tax return, the couple can claim their children as dependents under the qualifying child rules [§152(c)].
The dependents section of the instructions for Form 1040 provides a step-by-step worksheet for taxpayers who are unsure whether a dependent qualifies.
One of the general rules for dependent status is that a dependent must be a U.S. citizen or national, or a resident of the United States. Residency requires that the child has the same principal place of abode as the taxpayer (resides with the taxpayer) for more than half the tax year. An individual will not fail this test because of temporary absences due to illness, education, business, vacation, military service and other special situations. If it’s reasonable to expect the individual will return to live at the place of dwelling after the absence, it is termed temporary. [Prop. Reg.1.152-4(c)(2)].
If an individual sleeps at the taxpayer’s principal place of abode, regardless of whether the taxpayer is present or sleeps in the company of the taxpayer when not sleeping at the taxpayer’s principal place of habitation, the individual is regarded as residing with the taxpayer (for example when on vacation) [Prop. Reg.1.152-4(c)(3)].
Oct. 7, 2021
Question: Jack is a retired firefighter. He receives a $20,000 taxable distribution from a qualified §457(b) plan during 2020. He also receives a $15,000 taxable distribution from a §401(k) plan. During the year, Jack pays a total of $5,000 in health insurance premiums for himself and his wife. Of this amount, $2,800 is for his health insurance premium and $2,200 is for his wife’s premiums. He pays the premiums by taking $2,500 from each of his retirement plan distributions and sending them directly to the health insurance provider. He makes the election to exclude health insurance premiums for retired public safety officers. How much of the insurance premiums qualify for the exclusion, and what will his taxable distribution be from each plan?
Answer: Jack may exclude from income $2,500 of his retirement plan distributions that he used to pay qualified health insurance premiums. By making the election, Jack may exclude from income up to $3,000 per year of qualified retirement plan distributions that are used to pay insurance premiums paid for himself, his wife and any dependents; however, to qualify, the premiums must be paid directly from a qualified government retirement plan to the insurance provider. Code §414(d) defines a qualified plan under this exclusion as a qualified trust, a §403(a) annuity plan, a §457(b) plan or a §403(b) annuity. Therefore, the amount paid from the §401(k) plan will not qualify. Instead, Jack should pay at least $3,000 of the premiums from his §457(b) retirement plan to take full advantage of this exclusion. His taxable distribution from the §457(b) plan will be $17,500 ($20,000 - $2,500) and his taxable distribution from the §401(k) will be $15,000.
Sept. 30, 2021
Question: Gina is a nonresident alien who is an Italian citizen. She resides in Italy and is eligible for Italy-U.S. treaty benefits. Gina worked for years with an Italian-based company with no fixed base in the U.S. In 2020, she worked 300 days total: 150 days in Italy and 150 days in the U.S. Does she need to file U.S. Form 1040-NR,
U.S. Nonresident Alien Income Tax Return, to report her U.S. wages?
Answer: No. Because she is an Italian qualified resident, she is exempt from U.S. taxation due to treaty relief. Article 15(2) of the U.S.- Italy Tax Treaty provides that employment income is not taxable by the United States if (1) the employee is not present in the United States more than 183 days in the fiscal year, (2) wages are paid by an employer who itself is not a United States resident and (3) the wage is not borne by a U.S. permanent establishment or fixed base maintained by the nonresident employer.
Sept. 23, 2021
Question: Your client took a distribution of $100,000 from IRA 1, and on the same day took a distribution of $60,000 from IRA 2. They are now asking you if they can pool the two amounts and transfer the $160,000 into IRA 3 within 60 days. Can your client do this without violating the one-per-year rollover rule?
Answer: No, the client cannot transfer the two co-mingled amounts into IRA 3 without violating the one-per-year rollover rule. The 60-day rollover rule applies from the time the first IRA withdrawal is made, not the date the rollover is completed [§408(d)(3)(B)]. The 60-day rollover rule applies on an aggregate basis to all IRAs held by the taxpayer (excluding conversions of a traditional IRA to a Roth IRA and trustee-to-trustee transfers) and is applied on an aggregate basis. Therefore, an individual cannot make a tax-free rollover of an IRA distribution to another IRA if the individual has already made a tax-free rollover involving any of the individual’s IRAs in the previous one-year period.
In this case, your client’s withdrawal from IRA 1 triggered the 60-day countdown. Since the taxpayer rolled over IRA 1 into IRA 3 within 60-days, their $60,000 withdrawal from IRA 2 was a second distribution and was, therefore, not eligible to be rolled over tax-free using the one-per-year rollover rule.
Sept. 16, 2021
Question: Joan and Rowland filed their Form 1040 jointly for the duration of their marriage as married filing jointly. Rowland died in early 2020 and Joan remarried in late 2020. Does Joan file her 2020 federal tax return with Roland or with her new husband?
Answer: Joan will file her Form 1040 with her new husband. They will file married filing jointly or married filing separately. When your spouse dies during the tax year, the surviving spouse is considered married for the whole year for federal tax purposes, unless the surviving spouse remarries. If the taxpayer remarries before the end of the tax year, the taxpayer will file a joint return with the new spouse.
Sept. 9, 2021
Question: Sean, a U.S. citizen living and working in England, is reporting Schedule C income on Form 1040 for the calendar year. The British tax year ends March 31, 2021. He paid 100% of his British income tax on his Schedule C income in August 2021. Would he claim the foreign tax credit in tax year 2021 using Form 1116,
Foreign Tax Credit (Individual, Estate, or Trust)?
Answer: Ordinarily, a calendar year, cash basis taxpayer takes the foreign tax credit in the tax year in which the tax is remitted to the foreign government. However, he may elect to take the credit on the accrual basis, which is binding for all subsequent years [Reg. §1.905-1(a)] and determinable at the close of the taxpayer’s foreign tax year, in this case March 31, 2021. The foreign taxes are considered accrued in the U.S. tax year within which the taxpayer's foreign tax year ended.
Since Sean’s foreign tax was neither paid nor fixed and determinable at the end of calendar year 2020, the foreign tax credit is available only in 2021.
Sept. 2, 2021
Question: Gaia is a U.S. citizen who lives and works in Israel. She meets the bona fide resident test. Under §911, she elects to exclude her foreign earned income of $96,000 from U.S. taxation on Form 2555,
Foreign Earned Income Exclusion. Can she also claim the foreign tax credit on Form 1116,
Foreign Tax Credit, for income taxes she paid to Israel?
Answer: No. Because Gaia is using Form 2555 to exclude her foreign earned income, she cannot use Form 1116 to claim the foreign tax credit on that same income. Once Gaia elects to exclude her foreign earned income, she cannot take a foreign tax credit for taxes on income she excluded or could have excluded. If she does, one or both choices may be considered revoked [§911(d)(6)]. However, she can choose to take a foreign tax credit on any amount of foreign earned income that exceeds the amounts she excluded under the foreign earned income exclusion.
To use Form 1116, the taxpayer must have foreign tax liability that was either paid or accrued during the current tax year, the tax must be assessed on income, must be imposed on the taxpayer as an individual and must have originated legally in a foreign country.
There may be situations where it would be more beneficial to use Form 1116 to claim the credit instead of using Form 2555. For instance, people may prefer to use the credit if they live in a high-tax area, such as the United Kingdom.
To learn more, attend our upcoming Foreign Tax Days –
Individual Topics and
Business Topics.
Aug. 26, 2021
Question: Fred and Jan are married, live in a community property state and plan to file separate returns. Jan earns $30,000 in wages from her employer. Fred is self-employed, earning $50,000 in net profit from his Schedule C business. How much income will each spouse report on their separate tax returns? Will each be subject to self-employment tax on their share of the Schedule C business income?
Answer: Because they live in a community property state, each reports half of all income from both spouses. Jan reports $15,000 of her wages and $25,000 of Fred’s Schedule C business net profit, making her income $40,000. She will be liable for the federal income tax on the full $40,000. She will not be liable for self-employment tax for her half of Fred’s business income. Fred also reports $40,000 of income ($15,000 of Jan’s wages plus $25,000 of his business income). He will be liable for federal income taxes on his $40,000 of income and will be liable for self-employment tax on the full $50,000 of his business profits.
To learn more on this topic, register for our
Community Property - U.S. and Abroad on-demand webinar.
Aug. 19, 2021
Question: After Ally’s Social Security disability benefits finally kicked in during 2020, she repaid the $33,000 of disability she previously received in 2019 from a third-party disability insurance provider. Because Ally previously paid tax on the disability income she received in 2019, how is the 2020 repayment reported on her tax return?
Answer: The repayment is reported in 2020, the year of the repayment, not on an amended 2019 tax return. Since the repayment exceeds $3,000, Ally can deduct the full amount on Schedule A, Line 16 or apply the §1341 claim of right doctrine. The idea is to put Ally in the same position that she would have been in had the income never been received and the repayment never been made. Under the §1341 claim of right doctrine, Ally’s repayment results in a tax reduction in the form of a 2020 “payment” equivalent to the tax paid in 2019, attributable to the $33,000 of disability received. This tax difference is reported as a payment on 2020 Schedule 3 (Form 1040), Line 12d, with “IRC 1341” entered in the space next to the line.
Aug. 12, 2021
Question: In the tests to determine if the client qualifies as a real estate professional for tax reporting purposes, is the client’s spouse’s participation included?
Answer: It depends on which part of the real estate professional test you are applying. To be classified as a real estate professional by the IRS, one must pass annual qualification tests. No, the spouse’s participation cannot be included in testing the activity to qualify the client’s activity as a real property trade or business, which is part of the first test for qualifying as a real estate professional. However, yes, a spouse’s participation can be included for the “material participation” test even if no joint tax return is filed or the spouse has no ownership activity in the client’s real property trade or business [§469(h)(5), Reg. 1.469-9(c)(4)].
To learn more, register for our
Preparing Taxes for Real Estate Professionals on-demand webinar.
Aug. 5, 2021
Question: Our client used Kickstarter to set up crowdfunding to start a new business. Are those crowdfunding funds taxable income to the client?
Crowdfunding is the practice of funding a project or venture by raising many small amounts of money from a large number of people, often by gathering online contributions. Popular online platforms include GoFundMe, Kickstarter, Indiegogo, LendingClub, Wefunder and Patreon.
Answer: It depends. The consideration contributors receive, or don’t receive, in exchange for their contributions to the client’s Kickstarter business endeavor project can vary widely. There are various models that a client may choose and the one used impacts tax reporting and whether the crowdfunding funds will be taxable income to the client. The typical models are lending, equity, reward, pre-purchase and donation. Therefore, sometimes nothing is received except the personal satisfaction of helping launch a cause or a creative endeavor in which the contributor believes. Other times, the contributor receives something in exchange for the contribution.
As the lending model name implies, crowdsource funding involves loaning funds to the business. When the equity model is used, the contributor receives an ownership interest in the business. With a rewards model, typically the value of the rewards received by a contributor increases in proportion to the contribution. A pre-purchase model results in the contributor receiving the business project’s resulting product. The donation model provides nothing in return to the contributor and is not taxable.
In general, money received without an offsetting liability (such as a repayment obligation) that is neither a capital contribution to an entity in exchange for a capital interest in the entity nor a gift is includible in income. The facts and circumstances of a particular situation must be considered to determine whether the money received in that situation is income. This means that crowdfunding revenues generally are includible in income if they are not (1) loans that must be repaid, (2) capital contributed to an entity in exchange for an equity interest in the entity or (3) gifts made out of detached generosity and without any “quid pro quo.” However, a voluntary transfer without a “quid pro quo” is not necessarily a gift for federal income tax purposes (INFO 2016-0036).
Because facts and circumstances are key for the client to avoid taxable income reporting, whether crowdfunding funds are taxable income to the client’s new business depends on the structure of the crowdfunding project.
July 29, 2021
Question: A new client owns rental property they purchased over ten years ago. They are planning to sell it but have not previously claimed depreciation on the property. When we report the sale on Form 4797, the form requests the depreciation allowed or allowable since acquired. Do we calculate the depreciation they should have claimed in the past and include it on Form 4797 to report the sale, or do we report $0 depreciation since none was ever claimed?
Answer: In the year of sale, report on Form 4797 all depreciation that should have been claimed in the past plus any for the current tax year being filed. The key here is that you also need to complete Form 3115, Change in Accounting Method, to report the missed depreciation discovered at the time of sale. The Form 3115 results in a negative §481(a) adjustment for missed depreciation that is taken in the current tax year in which the rental is sold. Show the “§481(a) adjustment” on the other expense line of their Schedule E.
NATP members have access to a comprehensive white paper on
Form 3115 for missed depreciation that includes an example with an illustrated Form 3115.
July 22, 2021
Question: Tom and Larry are a legally married same-sex couple attempting to have a child through an unrelated surrogacy. When they file their tax return, can they claim on Schedule A the medical expense deduction for costs they paid for egg retrieval, in vitro fertilization (IVF), the surrogate's childbirth expenses and other expenses related to the surrogacy?
Answer: No. A male couple may only deduct as medical expenses costs directly incurred to have a baby related to the medical care of themselves, their spouse or their children, for expenses that exceed 7.5% of AGI. For IRS purposes, the term “medical care” means amounts paid for the diagnosis, cure, mitigation, treatment or prevention of disease, or for the purpose of affecting any structure or function of the body [§213(d)(1)(A)].
Tom and Larry do not have any underlying medical condition or “defect” preventing either from naturally conceiving children for which the costs incurred were meant to affect. The surrogate is not their dependent. Therefore, the IRS identifies their costs of attempting to have a child as nondeductible personal expenses (§262). If any of the paid costs incurred were to actually impact Tom’s or Larry’s own bodies and all other requirements were met, those costs would be eligible to be deducted on Schedule A [PLR 202114001].
July 15, 2021
Question: Zuri owns a small, non-farm business and asked you, as the tax preparer, whether the business was required to claim all expenses to show a lower self-employment income from the business. What do you tell Zuri?
Answer: Yes, Zuri must report all business expense deductions. A business owner who does not fall under the exception of certain farm operators may not pick and choose expenses to report on their business tax return and must claim all their allowable deductions, including depreciation (Rev. Rul. 56-407).
July 8, 2021
Question: Sue and Matt are married, and Sue is in the military. In 2014, after buying a house in the U.S., Sue was stationed overseas in a foreign country under government orders of official extended duty. In 2021, they sold their U.S. house. Are they eligible for the §121 exclusion of gain from sale of principal residence?
Answer: Maybe. There is a military exception for the §121 exclusion of gain from sale of principal residence that allows suspending the five-year test period for ownership and use of the home by up to 10 years for a total of up to a 15-year test period when on “qualified official extended duty.” If all the special military exception rules apply, the taxpayer applies the §121 rules using that extended period instead of the regular five-year test period.
The five-year test period for ownership and use of a home can be suspended during any period the taxpayer or spouse serves on qualified official extended duty as a member of the Armed Forces §121(d)(9). This means that a taxpayer may be able to meet the two-year use test even if, because of their service, they did not actually live in the home for the required two years during the five-year period ending on the date of sale.
An individual is on official extended duty when they are either at a duty station at least 50 miles from their main home or while living in government quarters under government orders [§121(d)(9)(C)] for a period of more than 90 days or an indefinite period.
The suspension period cannot last more than 10 years, which allows for a total testing period of 15 years. Additionally, the five-year suspension period can apply to only one property at a time. The choice to suspend the five-year period is revocable at any time. Presumably, this is done by filing an amended return for the year of sale or exchange of the residence to include the gains from the sale of the property.
Often, military personnel rent their homes while on military duty. The rental of the property impacts the gains eligible for the exclusion. First, the exclusion cannot be claimed to the extent of depreciation adjustments attribution to periods after May 6, 1997 [§121(d)(6)].
July 1, 2021
Question: A U.S. corporation hires employees from the Dominican Republic who want to be paid in U.S. dollars. The payments are made directly to these employees who perform services in the Dominican Republic for the U.S. corporation. Is there a federal income tax withholding requirement for the wages paid?
Answer: No, there is no federal income tax withholding requirement for the wages paid to these employees. These wages are for services performed outside the U.S. and these employees are nonresident aliens. If the services had been performed within the U.S., generally, compensation for providing services in the U.S. is treated similarly to that of resident aliens and U.S. citizens [§ 861(a)(3)].
June 24, 2021
Question: Mariana and Luis regularly contribute $600 cash annually to their favorite charity and ask you if they may take the above-the-line deduction for the $600 on their 2020 tax return for which they file MFJ. What do you tell them?
Answer: No, they may not claim all $600. For 2020, Mariana and Luis are allowed to deduct up to $300 of cash qualified charitable contributions as a deduction before AGI if they claimed the standard deduction [§62(a)(22)]. For 2020, whether filing as single or MFJ, the amount is still only $300, not $600. For 2021, a similar provision would allow a deduction of up to $600 for MFJ filers as a deduction from AGI [§§ 170(p) and 63(b)(4)]. To verify their favorite charity is a qualified organization to receive deductible contributions, use the IRS
Tax Exempt Organization Search tool. The
Coronavirus Aid, Relief, and Economic Security Act changed the law for 2020 charitable contributions, and for 2021 the
Consolidated Appropriations Act, 2021 changed the law.
June 17, 2021
Question: Erin’s 2020 Form 1040 was extended. She is eligible for the child tax credit (CTC) and will claim the credit on her 2020 return. If Erin’s tax return does not get filed until October 2021, is she eligible for the advance CTC payments in 2021?
Answer: Yes, advance payments will be estimated from information included in an eligible taxpayer’s 2020 tax returns, or their 2019 returns if the 2020 returns are not filed and processed yet.
For tax year 2021, families claiming the CTC will receive up to $3,000 per qualifying child between the ages of 6 and 17 at the end of 2021. They will receive $3,600 per qualifying child under age 6 at the end of 2021.
Advance payments of the 2021 CTC will be made regularly from July through December to eligible taxpayers who have a main home in the United States for more than half the year. The total of the advance payments will be up to 50% of the CTC.
June 10, 2021
Question: In March 2020, Roberta lost her full-time job and was no longer able to afford the rent on her apartment in New York City. Roberta decided her best option was to move into her childhood home with her elderly parents. During the first three months of 2020, Roberta earned $12,000 (as reported on her W-2), most of which was used for her living expenses until May 2020, when she moved to Kansas. When her parents file their 2020 tax return, due in October, can they claim Roberta as a qualifying relative?
Answer: No. Although the parents may have provided over half of Roberta’s support for 2020, her W-2 wages exceed the threshold amount. A qualifying relative must meet four requirements, one of which is gross income for the year has to be less than the exemption amount without regard to the reduction to zero for 2018-2025 ($4,300 for 2020) (Rev. Proc. 2019-44).
June 3, 2021
Question: Cesar is a plumber, with a Schedule C business. On May 6, 2020, his son, Cesar Jr., who is 10 years old was diagnosed with coronavirus by a test approved by the Centers for Disease Control and Prevention. Cesar was told by his doctor to quarantine since he was exposed and to care for his child until further notice. Cesar was unable to work for 60 days since he was taking care of his child. Cesar’s tax preparer is reading about Form 7202 and is wondering, does Cesar qualify for the sick leave credit for certain self-employed individuals?
Answer: Yes. Cesar can claim the refundable credit for the applicable days on his 2020 tax return. He can do so by filing Form 7202,
Credits for Sick Leave and Family Leave for Certain Self-Employed Individuals, which is attached to his Form 1040.
The credit is limited to the lesser of 100% of average daily self-employment income or $511 per day ($5,110 in total) if the self-employed individual is:
- Subject to a federal, state, or local quarantine or isolation order related to COVID-19
- Advised by a health care provider to self-quarantine due to concerns related to COVID-19; or
- Experiencing symptoms of COVID-19 and seeking a medical diagnosis
The qualified sick leave equivalent amount is limited to 67% of average daily self-employment income or $200 per day ($2,000 in total) if the self-employed individual is:
- Caring for an individual who is subject to a federal, state, or local quarantine or isolation order related to COVID-19, or who has been advised by a health care provider to self-quarantine due to concerns related to COVID-19
- Caring for a child whose school or place of care is closed, or childcare provider is unavailable due to COVID-19 precautions; or
- Experiencing a substantially similar condition specified by the government
Read previous You Make the Calls
