Presentation is loading. Please wait.

Presentation is loading. Please wait.

1 Cancellation of Debt for Individuals - Presentation for Enrolled Agents October 16, 2008 Tucson, AZ by Tom Rex CPA.

Similar presentations


Presentation on theme: "1 Cancellation of Debt for Individuals - Presentation for Enrolled Agents October 16, 2008 Tucson, AZ by Tom Rex CPA."— Presentation transcript:

1 1 Cancellation of Debt for Individuals - Presentation for Enrolled Agents October 16, 2008 Tucson, AZ by Tom Rex CPA

2 2 General Overview Cancellation Of Debt for Individuals

3 3 Where are you in the matrix? Know where you are so you don’t get lost. It’s easy to go down the wrong rabbit hole! esp. with PDF documents and hyperlinks

4 4 New IRS Pub 4681 Issued in June 2008

5 5 COD income Taxable unless there’s an Exception or Exclusion (these are all defined) If there’s an exclusion, then taxpayer must reduce the tax attributes In other words, if no exceptions or exclusions, COD is taxable income! It’s helpful to think in both directions.

6 per Pub 4681, page 36 Canceled debts - General rule COD income in whole or in part is taxable unless exceptions or exclusions apply E.g., discounts and loan modifications that includes principal reduction (personally liable or not) Taxable as COD income unless exceptions or exclusions apply

7 per Pub 4681, page 3 and 47 Canceled debts - Exceptions Amounts Otherwise Excluded From Income Student Loans Deductible Debt Price Reduced After Purchase These exceptions apply before the exclusions

8 8 If there’s an exclusion Which one to use? Which elections to make for part I of Form 982 How much is excluded? Depends There may be an exclusion limitation Exclusions are for amount on part I, line 2 of Form 982

9 per IRC sec COD - exclusions Title 11 bankruptcy case Insolvency Qualified farm indebtedness Qualified real property business indebtedness Qualified principal residence indebtedness Extended through 2012

10 10 Ordering of exclusions BankruptcyInsolvency Qualified Farm Indebtedn ess Qualified Real Property Business Indebtedn ess Qualified Principal Residenc e Indebtedn ess Bankruptcyyesn/a Insolvencyn/a1stn/a election Qualified Farm Indebtedne ss n/a2ndyesn/acould be in part Qualified Real Property Business Indebtedne ss n/a2ndn/aelectioncould be in part Qualified Principal Residence Indebtedne ss n/aelectioncould be in part 1st

11 Per Form 982, and instructions11 Elections 2 elections on timely filed return (including extensions) Discharge of qualified real property business indebtedness – 108(c)(3) – part I of Form 982, line 1d Apply reduction first against depreciable property – 108(b)(5) – part II of Form 982, line 5 If missed, file amended return within 6 months of due date (excluding extensions) Also an election to treat all real property held for resale as if it were depreciable property - part I of Form 982, line 3

12 per Pub 4681, starting on page 712 Reduction of tax attributes Different for – Bankruptcy and Insolvency Qualified principal residence debt Qualified farm debt Qualified real property business debt (election)

13 per Pub 4681, page 7 and 813 Reduction of tax attributes For Bankruptcy and Insolvency - General ordering rules for reductions How much is reduced? Can be less than the canceled debt excluded from income. Reductions are made after taxes for year are calculated Need to reduce bases proportionally for property, held as of beginning of next tax year.

14 per Pub 4681, pages 7, and Reduction of tax attributes Other rules for – Qualified principal residence debt Basis of residence is reduced if still owned after cancellation Qualified farm debt Same as for Bankruptcy and Insolvency except there are different rules for basis reduction Qualified real property business debt Reduce basis of depreciable real property, held as of beginning of next tax year, unless disposed of earlier.

15 15 See the instructions to Form 982, page 2 If discharged debt being excluded is Qualified principal residence indebtedness A non business debt, other than qualified principal residence indebtedness, such as a car loan or credit card debt, and No other tax attributes listed in Part II (other than a basis in non depreciable property).  Only for a title 11 case or when insolvent Any other debt

16 16 If there are disposals Of secured assets - Foreclosures and repossessions Is taxpayer personally liable or not? Abandonments Is there a foreclosure or repossession later? Of assets whose basis was reduced, it depends on which exclusion was used and when they were disposed of: Same year or subsequent year Also, there could be recapture of basis reductions under Bankruptcy and Insolvency rules

17 17 Reporting On which tax return does this all wind up? Depends on who the debtor is Where could it go on the tax return? Anywhere Gets complicated if there are there splits between personal and business or rentals?

18 per Pub 4681, page 318 Canceled debts later repaid If canceled debt is later repaid May be able to file 1040X if the year the amount was included in income is still open

19 19 IRS Guidance Prior to Pub 4681 May still be helpful

20 20 IRS Guidance Prior to Pub 4681 IRS Pubs 17 – federal income tax for individuals, chapter 12 (other income) 525 – taxable and nontaxable income, COD under misc. income For exclusions 908 – bankruptcy (and insolvency) 225 – farmers, chapter – small businesses (schedule C) chapter 5

21 21 IRS Guidance Prior to Pub 4681 For qualified principal residence indebtedness - IRS News Release IR FAQs on IRS website Instructions to revised Form 982 Pub 523 – selling your home

22 22 IRS Guidance Prior to Pub 4681 Other IRS Pubs 544 – sales and other dispositions of assets: chapter 1 for  Abandonments  and Foreclosures and Repo’s and chapter 3 for depreciation recapture 535 – business expenses (recapture) 551 – basis of assets Adjusted basis  Increases and decreases to basis

23 23 Form 982 Revised February 2008

24 24 Form 982 Part I

25 25 Form 982 Part I Box 2 – amount excluded from gross income Exclusion limitations for: Qualified farm indebtedness Qualified real property business indebtedness Qualified principal residence indebtedness

26 26 Form 982 – Part II

27 27 Form 982 Part II – Reduction of tax attributes Dollar for each dollar, in general 33 1/3 cents for each dollar, for credits

28 28 Exclusions

29 29 Title 11 Bankruptcy Cases Exclusion – 108(a)1(A)

30 per Pub 4681, page 4 and Form 982 instructions30 Definition - Title 11 case A title 11 case is a case under title 11 of the United States Code (relating to bankruptcy), but only if the taxpayer is under the jurisdiction of the court in the case and the discharge of indebtedness is granted by the court or is under a plan approved by the court.

31 31 Title 11 bankruptcy cases Chapter 12 – The chapter of the Bankruptcy Code providing for adjustment of debts of a "family farmer," as that term is defined in the Bankruptcy Code. ybasics/chapter12.html ybasics/chapter12.html Chapter 13 – The chapter of the Bankruptcy Code providing for adjustment of debts of an individual with regular income, often referred to as a "wage-earner" plan. Chapter 13 allows a debtor to keep property and use his or her disposable income to pay debts over time, usually three to five years. pter13.html pter13.html

32 per Pub 908, page 232 Title 11 bankruptcy cases Individuals in Chapter 12 or 13 A separate estate, for tax purposes, is not created for an individual who files a petition under Chapter 12 or 13 of the Bankruptcy Code. Continue to file the same federal income tax return that was filed prior to the bankruptcy petition. Do not include any debt canceled (because of bankruptcy) in income on individuals return. However, they must reduce (to the extent that they have) certain losses, credits or basis in property by the amount of canceled debt.

33 33 Title 11 bankruptcy cases Chapter 7 – The chapter of the Bankruptcy Code providing for "liquidation," that is, the sale of a debtor's nonexempt property and the distribution of the proceeds to creditors. 7.html 7.html Chapter 11 – A reorganization bankruptcy, usually involving a corporation or partnership. A Chapter 11 debtor usually proposes a plan of reorganization to keep its business alive and pay creditors over time. People in business or individuals can also seek relief in Chapter html 11.html

34 per Pub 908, page 234 Title 11 bankruptcy cases Individuals in Chapter 7 or 11 A separate “estate” is created consisting of property that belonged to the individual before the filing date. This bankruptcy estate is a new taxable entity, completely separate from the individual taxpayer. See page 4 of Pub 908 for list of attribute carryovers the estate gets If later dismissed, file 1040X

35 per Pub 908, pages 2 and 335 Responsibilities of the individual debtor under Chapter 7 or 11 The individual debtor, generally must file income tax returns during the period of the bankruptcy proceedings. Do not include on those returns, the income, deductions, or credits belonging to the separate bankruptcy estate. Also do not include as income on those returns, the debts canceled because of bankruptcy. However, the bankruptcy estate must reduce certain losses, credits, and the basis in property (to the extent of these items) by the amount of canceled debt.

36 per Pub 4681, page 436 How to report the bankruptcy exclusion Attach Form 982 to the respective federal income tax returns and check the box on line 1a. Enter the total amount of debt canceled in the taxpayers title 11 bankruptcy case on line 2.

37 per Pub 4681, page 437 How to report the bankruptcy exclusion The taxpayer must also reduce their tax attributes in Part II of Form 982 as explained under Reduction of Tax Attributes later.

38 38 Insolvency Exclusion – 108(a)1(B)

39 per Pub 4681, page 439 Insolvency Do not include a canceled debt in income to the extent that the taxpayer was insolvent immediately before the cancellation. They were insolvent immediately before the cancellation to the extent that the total of all of their liabilities exceeded the FMV of all of their assets immediately before the cancellation.

40 per Pub 4681, page 4,40 Insolvency - liabilities Liabilities include: The entire amount of recourse debts, and The amount of nonrecourse debt that is not in excess of the FMV of the property that is security for the debt. Don’t forget taxes – Income taxes Property taxes Sales taxes, if a business Payroll taxes, if a business

41 41 Insolvency - liabilities Examples in Pub 4681: Credit card debt Car loan Student loan What are some other examples? Google financial statement forms Banks and other lenders Lawsuits and judgments

42 per Pub 4681, page 442 Insolvency - assets Assets include the value of everything the taxpayer owns including assets that serve as collateral for debt, and exempt assets which are beyond the reach of their creditors under the law, such as their interest in a pension plan and the value of their retirement account.

43 43 Insolvency - assets Examples of other assets on page 7 of Pub 4681 car at FMV furniture at FMV jewelry at FMV savings account What are some other examples? Google financial statement forms Banks and other lenders, e.g., John Deere’s, if farmer Lawsuits and judgments 1099 forms – indicators for financial assets

44 44 Fair market value IRS definition Not defined in Pub 4681 Not defined in Pub 908 Per Pub 551 Basis of Assets FMV is the price at which property would change hands between a buyer and a seller, neither having to buy or sell, and both having reasonable knowledge of all necessary facts. Also some guidance in Pub 526 for contributions of property

45 per Pub 4681, page 445 How to report the insolvency exclusion Attach Form 982 to the taxpayer’s federal income tax return and check the box on line 1b. On line 2, include the smaller of the amount of the debt canceled or the amount by which the taxpayer was insolvent immediately before the cancellation.

46 per Pub 4681, page 446 How to report the insolvency exclusion The taxpayer must also reduce their tax attributes in Part II of Form 982 as explained under Reduction of Tax Attributes later.

47 47 Insolvency exclusion See examples on page 4 of Pub 4681 Greg

48 48 Reduction of tax attributes for Bankruptcy and Insolvency

49 per Pub 4681, page 7 and Form 982 instructions49 Bankruptcy and Insolvency Reduction of tax attributes per IRS Pub 4681 No tax attributes other than basis of personal use property See Form 982 instructions, page 2 if discharged debt being excluded is A non business debt, other than qualified principal residence indebtedness, such as a car loan or credit card debt

50 per Pub 4681, pages 7 and 850 Bankruptcy and Insolvency Reduction of tax attributes per IRS Pub 4681 All other tax attributes General ordering rules Exempt property under sec. 522 of title 11 – basis not reduced, per Pub 908, page 23

51 per Pub 4681, pages 7 and 851 Bankruptcy and Insolvency Also, see the instructions to Form 982, page 2 if discharged debt being excluded is a non- business debt or any other debt, (other than qualified principal residence indebtedness)

52 per Pub 4681, pages 7 and 852 Bankruptcy and Insolvency Reduction of tax attributes per IRS Pub 4681 Election to reduce the basis of depreciable property before reducing other tax attributes Ordering rules somewhat similar to basis reduction under general ordering rules Reduction limit doesn’t apply if this election is made – per Pub 908, page 22

53 per Pub 4681, pages 7 and 853 Bankruptcy and Insolvency Reduction of tax attributes per IRS Pub 4681 Recapture of basis reductions if sold or disposed of at a gain Taxed as ordinary income as depreciation recapture

54 54 Bankruptcy and Insolvency See example on page 7 of Pub 4681 Kyra See detailed example on page 15 of Pub ) Kathy and Frank Willow

55 55 Qualified Farm Indebtedness Exclusion – 108(a)1(C)

56 per Pub 4681, page 556 Qualified farm indebtedness The taxpayer can exclude canceled farm debt from income if all of the following apply. The debt was incurred directly in connection with the operation of the trade or business of farming. 50% or more of their total gross receipts for the prior three years were from the trade or business of farming. The cancellation was made by a qualified person who is actively and regularly engaged in the business of lending money, (Includes any federal, state, or local government, agency or instrumentality thereof. The United States Department of Agriculture is a qualified person.)

57 per Pub 4681, page 557 Qualified farm indebtedness The cancellation was made by a qualified person who is actively and regularly engaged in the business of lending money This person cannot be related to the taxpayer, be the person from whom they acquired the property (or a person related to this person), or be a person who receives a fee due to their investment in the property (or a person related to this person). For the definition of the term “related person,” see Related persons under At-Risk Amounts in Publication 925.

58 per Pub 4681, page 558 Exclusion limit The amount of canceled qualified farm debt that can be excluded from income cannot exceed the sum of the taxpayer’s adjusted tax attributes (see list on page 5 of Pub 4681) and the total adjusted bases of qualified property they held at the beginning of the following tax year. The above are determined after any reduction of tax attributes required because of the application of the insolvency exclusion.

59 per Pub 4681, page 559 Exclusion limit - definition Qualified property is any property that is used or held for use in a trade or business or for the production of income.

60 per Pub 4681, page 560 How to report the qualified farm indebtedness exclusion Attach Form 982 to the taxpayer’s federal income tax return and check the box on line 1c. On line 2 of Form 982, include the amount of qualified farm debt canceled, but not more than the amount of the exclusion limit.

61 per Pub 4681, page 561 How to report the qualified farm indebtedness exclusion The taxpayer must also reduce their tax attributes in Part II of Form 982 as explained under Reduction of Tax Attributes later.

62 per Pub 4681, page 862 Qualified farm indebtedness Reduction of tax attributes Reduce the tax attributes by the amount excluded under the insolvency exclusion before applying this exclusion Follow the ordering rules for reduction of tax attributes, under Bankruptcy and Insolvency, except item 5. Basis Instead, reduce the basis of qualified property in the following order Depreciable qualified property.  Can elect on Form 982 to treat real property held primarily for sale to customers as if it were depreciable property Land that is qualified property and is used or held for use in the taxpayer’s farming business Other qualified property

63 63 Qualified farm indebtedness See examples on page 5 of Pub 4681 Chuck Bob

64 64 Qualified Real Property Business Indebtedness Exclusion – 108(a)1(D)

65 per Pub 4681, page 565 Qualified real property business indebtedness Qualified real property business indebtedness is debt (other than qualified farm debt) that meets all of the following conditions. It was incurred or assumed in connection with real property used in a trade or business. It is secured by such real property. It was incurred or assumed at either of the following times. Before After 1992, if the debt is either (i) qualified acquisition indebtedness or (ii) debt incurred to refinance qualified real property business debt incurred or assumed before 1993 (but only to the extent the amount of such debt does not exceed the amount of debt being refinanced). It is debt to which an election is made to apply these rules.

66 per Pub 4681, pages 5 and 666 Qualified acquisition indebtedness - definition Debt incurred or assumed, to acquire, construct, reconstruct, or substantially improve real property that secures such debt, or Debt resulting from the refinancing of qualified acquisition indebtedness, to the extent the amount of such debt does not exceed the amount of debt being refinanced.

67 per Pub 4681, page 667 How to elect the qualified real property business debt exclusion Make an election on a timely-filed (including extensions) federal income tax return (can be revoked only with the consent of the IRS). If they timely filed their tax return without making this election, they can still make the election by filing an amended return within 6 months of the due date of the return (excluding extensions). Enter “Filed pursuant to sec ” on the amended return and file it at the same place they filed the original return. The election is made by completing Form 982.

68 per Pub 4681, page 668 Exclusion limit - of canceled qualified real property business debt If the taxpayer excluded canceled debt from income under the insolvency exclusion, they must reduce their tax attributes to account for the amount of the canceled debt excluded under the insolvency exclusion before determining the limit on the exclusion of canceled qualified real property business debt. The exclusion for canceled qualified real property business debt is limited to the excess (if any) of: The outstanding principal amount of the qualified real property business debt (immediately before the cancellation), over The FMV (immediately before the cancellation) of the business real property securing such debt, reduced by the outstanding principal amount of any other qualified real property business debt secured by that property (immediately before the cancellation).

69 per Pub 4681, page 669 Exclusion limit - of canceled qualified real property business debt In addition to this limit, the amount of canceled qualified real property business debt that can be excluded from income cannot exceed the total adjusted bases (determined after any attribute reductions under Internal Revenue Code sections 108(b) and (g)) of depreciable real property held immediately before the cancellation (other than depreciable real property acquired in contemplation of the cancellation).

70 per Pub 4681, page 670 How to elect the qualified real property business debt exclusion Attach Form 982 to the taxpayer’s federal income tax return and check the box on line 1d. Include the amount of canceled qualified real property business debt (but not more than the amount of the exclusion limit) on line 2 of Form 982.

71 per Pub 4681, page 6, and Regs71 How to elect the qualified real property business debt exclusion The taxpayer must reduce tax attributes in Part II Line 4 of Form 982 as explained under Reduction of Tax Attributes later. Regulations § (f) Election to treat IRC § 1221(a)(1) real property as depreciable is not available for basis reductions under IRC § 108(c) for qualified real property business debt

72 per Pub 4681, page 872 Qualified real property business indebtedness Reduction of tax attributes reduce the basis of depreciable real property (but not below zero) by the amount of canceled qualified real property business debt excluded from income the basis reduction is made at the beginning of the next tax year if the depreciable real property is disposed of before the beginning of the next tax year, reduce the basis of the depreciable real property (but not below zero) immediately before the disposition

73 73 How to elect the qualified real property business debt exclusion See examples on page 6 of Pub 4681 Curt on page 8 of Pub 4681 Curt Bob

74 74 Qualified Principal Residence Indebtedness Exclusion – 108(a)1(E) for 2007, 08, and 09 Extended through 2012 by Emergency Economic Stabilization Act of 2008

75 per Pub 4681, page 675 Qualified principal residence indebtedness Qualified principal residence indebtedness is any debt incurred in acquiring, constructing, or substantially improving the taxpayer’s principal residence and which is secured by their principal residence. Qualified principal residence indebtedness also includes any debt secured by the taxpayer’s principal residence resulting from the refinancing of debt incurred to acquire, construct, or substantially improve their principal residence but only to the extent the amount of debt does not exceed the amount of the refinanced debt. The taxpayer’s principal residence is the home where they ordinarily live most of the time. They can have only one principal residence at any one time.

76 per Pub 4681, page 676 Exclusion limit The maximum amount that can be treated as qualified principal residence indebtedness is $2 million ($1 million if married filing separately). A mortgage loan in excess of the maximum exclusion amount may qualify for another exclusion. The taxpayer cannot exclude canceled qualified principal residence indebtedness from income if the cancellation was for services performed for the lender or on account of any other factor not directly related to a decline in the value of their residence or to their financial condition.

77 per Pub 4681, page 677 Ordering rule If only a part of a loan is qualified principal residence indebtedness, the exclusion from income for canceled qualified principal residence indebtedness applies only to the extent the amount canceled exceeds the amount of the loan (immediately before the cancellation) that is not qualified principal residence indebtedness. The remaining part of the loan may qualify for another exclusion.

78 78 Ordering rule See example on page 6 of Pub 4681 Ken

79 per Pub 4681, page 779 How to report the qualified principal residence indebtedness exclusion Attach Form 982 to the taxpayer’s federal income tax return and check the box on line 1e. On line 2 of Form 982, include the amount of canceled qualified principal residence indebtedness, but not more than the amount of the exclusion limit. Any amount in excess of the excluded amount may result in taxable income.

80 per Form 982 instructions, page 280 How to report the qualified principal residence indebtedness exclusion If the taxpayer continues to own their residence after a cancellation of qualified principal residence indebtedness, they must reduce their basis in the residence. Enter on line 10b of Form 982 the smaller of (a) the amount of qualified principal residence indebtedness included on line 2 or (b) the basis of their principal residence. See Pub 523. If the taxpayer disposed of their residence, they may also be required to recognize a gain on its disposition. Main home exclusion may apply. COD excluded from income is a basis reduction for other 4 exclusions, per Pub 551, page 6, revised in 2002 before this exclusion came into law. There may also be recapture of any Federal mortgage subsidy. See Pub 523, page 29.

81 81 Qualified principal residence indebtedness See example on page 6 of Pub 4681 Becky See detailed examples Starting on page 10 of Pub ) Nancy Oak – page 10 2) John and Mary Elm – page 13 3) Kathy and Frank Willow – page 15

82 82 Foreclosures and Repossessions

83 per Pub 4681, pages 9 and 1083 Foreclosures and Repossessions Tax treatment depends if it is: Recourse debt – personally liable Non-recourse debt – not personally liable

84 per Pub 4681, pages 9 and 1084 Foreclosures and Repossessions Recourse debt – personally liable There may be COD income The amount realized includes the smaller of: The outstanding debt immediately before the transfer reduced by any amount for which the taxpayer remains personally liable immediately after the transfer, or The FMV of the transferred property. The amount realized also includes any proceeds received from the foreclosure sale

85 per Pub 4681, pages 9 and 1085 Foreclosures and Repossessions Non-recourse debt – not personally liable No COD income The amount realized includes the full amount of the outstanding debt immediately before the transfer

86 per Pub 4681, page 986 Foreclosures and Repossessions Use the IRS worksheet - Table 1-1 from Pub 4681 to figure the COD income Gain or loss

87 per Pub 4681, page 987

88 88 Foreclosures and Repossessions See examples on page 9 of Pub 4681 Recourse  Tara  Lil on page10 of Pub 4681 Non-recourse  Tara  Lil

89 89 Abandonments

90 per Pub 4681, page 1090 Abandonments The abandonment of property is a disposition when the taxpayer voluntarily and permanently gives up possession and use of the property with the intention of ending their ownership but without passing it on to anyone else. Loss from the abandonment of business or investment property is deductible as an ordinary loss, even if the property is a capital asset. The loss is the property's adjusted basis when abandoned. However, if the property is later foreclosed on or repossessed, gain or loss is figured as discussed earlier. Can’t deduct any loss from abandonment of a home or other property held for personal use.

91 per Pub 4681, page 1091 Abandonments Canceled debt If the abandoned property secures a debt for which the taxpayer is personally liable and the debt is canceled, they will realize ordinary income equal to the canceled debt. which is separate from any loss realized from abandonment of the property. They must report this income, unless certain exceptions or exclusions apply.

92 92 Abandonments See example on page 10 of Pub 4681 Anne

93 93 Abandonments Questions When or why would someone abandon their personal use property? Earthquake or other acts of the gods Disasters What if the money was borrowed with someone else, and both receive a 1099-A? Is there always a foreclosure or repo later? What if it takes place in a different tax year?

94 94 Forms 1099 A and C

95 95 Forms 1099 A and C 1099-A - Acquisition or abandonment of secured property 1099-C – Cancellation of debt

96 96 Form 1099-A 1099-A - Acquisition or abandonment of secured property Acquisition results in gain or loss Abandonment results in separate income and loss See the Instructions for Borrower included with the form The taxpayer should contact the creditor if they don’t agree with the information on the 1099-A

97 97 Form 1099-C 1099-C – Cancellation of debt If interest is included in the amount of debt canceled, check if – Interest would not be deductible – include box 2 in income Interest would be deductible – include net amount of box 2 less box 3 in income Check for prior deduction and tax benefit rule See the Instructions for Debtor included with the form The taxpayer should contact the creditor if they don’t agree with the information on the 1099-C

98 98 Property Used Partly for Business or Rental see Pub 544, page 4 and Pub 523, starting on page 19

99 99 Property used partly for business or rental, and partly for personal use Cancellation of debt, IRC § 108(h) Principal residence has same meaning as used in IRC § 121 Allocate based on use of debt (tracing rules in Pub 535, page 11 Also need to determine if debt is qualified

100 100 Property Used Partly for Business or Rental Dispositions

101 per Pub 523, page Property used partly for business or rental, and partly for personal use Business or rental part is within home No need to allocate Could be main home exclusion of gain Form 4797 not required Depreciation recapture Use Worksheet 2 in Pub 523 to calculate Business or rental part is separate from home May need to allocate between business or rental part personal part

102 per Pub 523, page 19 and Business or rental part is separate from home Use test – main home 2 out of 5 year period ending on date of sale Use test not met for business part Use test met for business part (business use in year of sale) Use test met for business part (no business use in year of sale)

103 per Pub 523, page Business or rental part is separate from home Use test not met for business part Need to allocate Could be main home exclusion of gain Form 4797 required Depreciation recapture Use Worksheet 2 in Pub 523 to calculate

104 per Pub 523, page Business or rental part is separate from home Use test met for business part (business use in year of sale) Need to allocate Could be main home exclusion of gain Form 4797 required Depreciation recapture Use Worksheet 2 in Pub 523 to calculate

105 per Pub 523, page Business or rental part is separate from home Use test met for business part (no business use in year of sale) No need to allocate Could be main home exclusion of gain Form 4797 not required Depreciation recapture Use Worksheet 2 in Pub 523 to calculate

106 106 Home Changed to Business or Rental Use and used as such at time of sale

107 107 Home changed to business or rental use Be careful of deducting interest on debt refinanced before or after the change, where additional proceeds were not used for additions or improvements to the home What about when the FMV of the home is less than the acquisition indebtedness? Cancellation of debt - Allocate based on use of debt (tracing rules in Pub 535, page 11 Also need to determine if debt is qualified

108 per Pub 544, page 4108 Home changed to business or rental use Disposals Gains and losses computed differently Loss is limited if fair market value was less than adjusted basis when converted Full amount of gain is recognized  unless main home exclusion applies–  main home 2 out of 5 year period ending on date of sale  depreciation recapture

109 109 Partnerships K-1 Form 1065

110 110 Partnerships Certain provisions applied at partner level IRC § 108(d)(6) K-1 for Form 1065, and partners instructions (box 11, Other Income, code E) Partnership interest treated as depreciable property – elections under 108(b)(5) or 108(c) If applicable, under Regulations § (g) partnership consent statements for Form 982 to reduce inside basis of its depreciable property with respect to the taxpayer

111 111 S-corporations K-1 Form 1120S

112 112 S-corporations Certain provisions applied at corporate level IRC § 108(d)(7) Special rules for S Corp’s COD income not on K-1

113 113 Where to Report on Form 1040 Schedules and Forms

114 114 Where to report on Form 1040 Form 1040, line 21 for non-business debt Schedule C (could be SE tax) Schedule E Rentals Form 4835 farm rentals Partnership K-1’s Schedule F (could be SE tax) Gains and losses Schedule D Form 4797 Depreciation recapture Recapture of basis reductions

115 per Pub 4681, page 3115 Where to report on Form 1040 Schedule B - Dividend income Stockholder debt canceled COD is construction distribution, generally dividend income

116 116 Cross References to Code and Regulations

117 117 Cross references to code and regulations IRC § 61(a)(12) COD is generally taxable income IRC § 108 Income from discharge of indebtedness Regulations include Acquisition of indebtedness by person related to debtor (IRC § 108 (e)(4))

118 118 Cross references to code and regulations IRC § 1017 Discharge of indebtedness re: reduction of basis Regulations § includes (b)(2) Multiple discharged indebtedness (d) Changes in security for indebtedness (e) Definition of depreciable property

119 119 Planning Ideas

120 120 Tax planning for taxpayers Abandonment vs. foreclosure or repossession Workout with lender, if possible Reduce amount, change terms, etc. Get the settlement amount in writing, e.g. with credit cards, in case someone comes back later for the canceled balance

121 121 Planning for taxpayer’s income tax returns Heads up for clients – get them started early Check the Forms 1099 A and/or C with their records. For credit card debt, does the amount canceled include itemized deductions? 1040 page one adjustments? Remember, that exceptions come before exclusions.

122 122 Planning for taxpayer’s income tax returns Heads up for clients – get them started early Insolvency balance sheets, for each discharge: immediately before the cancellation, at FMV immediately after the cancellation, at bases at the beginning of following year, at tax bases For canceled debts, secured by property Basis of assets, adjusted for all increases and decreases, esp. personal use property not already on the tax return Calculate depreciation included in the standard mileage rates for vehicles (Pub 463)

123 123 Planning for taxpayer’s income tax returns If no elections on Form 982, then have to use the general ordering rules for reduction of tax attributes. Which elections to use may buy the taxpayer time, depending on how soon the assets are disposed of. Treating all real property held for resale as depreciable property may speed up the time to recognize the reductions

124 124 Planning for taxpayer’s income tax returns How soon will the carryovers, which come before basis reduction, be utilized NOLs General business credits Minimum tax credits Capital losses Contributing property after basis reductions can affect charitable deductions (see Pub 526)

125 125 Planning for taxpayer’s income tax returns Partnerships If applicable, obtain the required partnership consent statements for Form 982 Regulations § (g) If in bankruptcy per Pub 908, page 3 – Election for 2 (or 3) short years ending day before filing, and normal year end  First short year return due by 15 th day of 4 th month Joint or separate returns, if married?

126 126 Planning for payment of tax Do they have the money to pay? If, not – Form 9465 Installment Agreement Request A Notice of Federal Tax Lien may be filed If in bankruptcy or IRS has accepted an offer-in- compromise, do not file this form Bankruptcy or offer-in-compromise local IRS Insolvency function for bankruptcy Technical Support function for offer-in-compromise

127 127 Planning for tax preparers Advocacy vs. ethics How comfortable are we with the taxpayer’s facts and circumstances to do the return? Let client know early if you can’t do their return What does Circular 230 say? What does I.R.C. § 7525 say re: tax advice? What do the commentators say?

128 128 Circular § 10.34(d) Relying on information furnished by clients Generally we may rely in good faith without verification upon information furnished by the client. However, we can’t ignore the implications of information furnished to, or actually known by, us, and we must make reasonable inquiries if the information as furnished appears to be incorrect, inconsistent with an important fact or another factual assumption, or incomplete.

129 129 Client Privilege under IRC § 7525 It’s for tax advice May be asserted only in - noncriminal tax matters before the IRS noncriminal tax proceedings in Federal court Not applicable for tax shelters (for which there may be COD income?)

130 130 Client Privilege under IRC § 7525 There is overwhelming support, including Congressional intent, for the proposition that tax advice does not include the actual tax preparation. /2004%20ATA%20Mid- Year%20Meeting/Oliva.pdf /2004%20ATA%20Mid- Year%20Meeting/Oliva.pdf

131 131 Client Privilege under IRC § 7525 The privilege does not apply to tax preparation for two reasons. First, some courts hold that tax preparation services are not legal services but instead are accounting services. More importantly, communications occurring in the process of tax preparation do not have an expectation of confidentiality html html

132 132 Client Privilege under IRC § 7525 Does privilege attach to communications when tax preparation services are coupled with tax consultation? Per the Courts, the answer is No and Yes atures/F html atures/F html

133 per Circular § Practice of law Nothing in the regulations in this part may be construed as authorizing persons not members of the bar to practice law.

134 134 Attachments

135 135 Attachments Excel worksheet for ordering of exclusions Form 982 Forms 1099 A and C K-1 for Form 1065 IRS Pub 4681 Various other IRS Publications


Download ppt "1 Cancellation of Debt for Individuals - Presentation for Enrolled Agents October 16, 2008 Tucson, AZ by Tom Rex CPA."

Similar presentations


Ads by Google