Joe who is not real thorough in life, fails to file his 2005 tax return until 2010. Had he filed on time he would have received a refund. In the back of his mind, he knew that by not filing, he would lose his refund, but he was busy at work, the dog kept eating his W-2 form and he was depressed. When he finally got around to doing his taxes, he discovered that the refund he lost would have been $10,000. The question for today is this? Can he deduct the $10,000 when he prepares his 2007 return as a charitable gift, since he gave the money to the U.S. Government.
Monthly Archives: May 2010
Update on Section 1022
At this point the IRS has not issued any guidance that we’ve seen concerning Section 1022 of the Code for allocating basis for decedent’s dying in calender year 2010, as we discussed in February. As you recall, survivors other than a spouse can elect to step-up basis on $1.3 Million of assets and a surviving spouse can elect to step-up basis on up to $3 Million of assets. So at this point, since it appears that Congress is not going to make any changes to the Estate Tax in 2010 or Section 1022. Thus, for families of persons dying in 2010, it would be advisable to talk to your attorney about filing a protective form 706 to elect the basis allocation.
The Explanation
“The rental of personal property is deemed to be a business under the Internal Revenue Code. Section 1402(a) of the Code which defines income from Self Employment defines any earned income as income from self-employment except income from rentals of REAL PROPERTY, not income from the leasing of tangible personal property unless leased with real property. Since your LLC is a disregarded entity, this is self-employment income. You’ll have to pay self-employment tax on the income. Now we can argue that its a passive activity and thus not subject to these rules. The one factor that you have in your favor of all things is that the lease is a triple net lease. In other words, the lessee pays all taxes and insurance on the property. Generally, a triple net lease is presumed to be a passive investment instead of an active business under Section 469. The problem for you is that those losses should then have been suspended and not deducted on your Schedule E as an active business. So by making this argument you may be worse off than by paying the small amount you would owe under the self-employment rules”, the lawyer concluded. “What should I do then?”. Send me to the audit said the lawyer.
The bad news
Mr. Beaumont looked at the good doctor and said, you took salary of $50,000 which while a little low is not going to be a problem, but the leasing income should have been reported on Schedule C of his 1040. “What difference does that make?” asked the Doctor. “Let’s see in 2008 you had leasing income of $50,000. In 2009 you had leasing income of $60,000. You’ll owe self employment taxes on a portion of that”, said Beaumont. “What does that mean?” asked the doctor. “About 15% of $40,000 and 3% of the rest” replied the lawyer. “Wait a minute, could you explain that to me”, asked the Doctor.
The Leasing Fool
Joe is a dentist who owns Joe’s Bargain Basement Dental Clinic, P.C. The PC is taxed as a Subchapter S corporation meaning all of the income and losses flow through to him. He takes a modest salary. He personally bought the equipment and furnishings which is owned by Joe’s Leasing Company, LLC and leased back to his P.C. After taking his 179 credit, he reports the income on his Schedule E as leasing income. The first few years the leasing business showed a loss but by year 8 it started showing a profit which he duly reported on Schedule E of his Form 1040.
After about two years of this, he gets a notice from the IRS that his personal return is being audited. In particular, he is to bring all documentation regarding his leasing expenses shown on Schedule E. He calls a noted Tax Attorney to assist him in the audit, J. Franklin Beaumont. Mr. Beaumont looks at the return, and sees a problem.