Top 10 Tax Breaks This Year

The New Year always turns thoughts to the new tax season and when it comes to taxes there’s no place like home to find shelter. Your home offers a score of tax deductions and credits designed to help offset the cost of housing and to keep the housing market fueled with new buyers.

Here’s a look at the Top 10 Tax Breaks
Mortgage Loan Interest: The Mother Of All Tax Breaks, because interest payments comprises a large portion of your mortgage payment in the early years of the loan’s term, mortgage interest on a maximum of $1 million in mortgage debt secured by a first and second home is deductible. Deductions reduce your taxable income against which your taxes due are calculated. The $1 million level applies to joint tax filers. You get half the deduction if you file single or separately.

Likewise, home equity loan interest is deductible, but limited to the smaller of $100,000 (half as much for each member of a married couple if they file separately), or the total of your home’s fair market value as determined by a complicated formula.

Home Improvement Loan Interest: The interest on a home improvement loan is also deductible, but calculated differently. You can deduct all the interest on a home improvement loan provided the work is a "capital improvement" rather than repairs, maintenance or cosmetic upgrades. Capital improvements typically increase your home’s value (say, because you added a room), prolong it’s life (a new roof) or adapt it to new uses (universal design improvements to assist older people or people with disabilities).

Points: Points, each equal to 1 percent of the loan principal, are charged by lenders as part of the cost of the loan. You can fully deduct points associated with a home purchase mortgage, but not a mortgage broker’s commission. Refinanced mortgage points are deductible too, but only when they are amortized over the life of the loan. Once you refinance a second time, the balance of the old points from a refinanced loan offer an immediate write off, as you begin to amortize the new points.

Property Taxes: Property taxes or real estate taxes are fully deductible. Any local city or state property tax refunds reduces your federal property tax deduction by the same amount.

Capital Gains Exclusion: Home buying investors’ best tax shelter comes from provisions in the Taxpayer Relief Act of 1997 which allows married taxpayers who file jointly to keep, tax free, up to $500,000 in profit on the sale of a home used as a principal residence for two of the prior five years. The amount is halved for those filing single or separately.

Home-Based Business Deduction: Home offices that use a portion of your home exclusively for business could qualify you to deduct a percentage of costs related to that portion. Included are a percentage of your insurance and repair costs, utility bills and depreciation.

Selling Costs and Capital Improvements: When you sell your home, you can reduce your taxable capital gain by the amount of your selling costs, which include real estate commissions, title insurance, legal fees, advertising and inspection fees. Cost typically stemming from decorating or repairs — painting, wallpapering, planting flowers, maintenance, and the like — are also selling costs if you complete them within 90 days of your sale and with the intention of making the home more saleable.

Selling costs are deducted from your gain. Gain is your home’s selling price, minus deductible closing costs, minus selling costs, minus your tax basis in the property. Your basis is the original purchase price, plus the cost of capital improvements, minus any depreciation.

Moving Costs: A move triggered by a new job comes with some deductible moving costs. To qualify, you must meet certain requirements including, moving within one year of starting your new job, moving 50 miles farther from your old home than your old job was and working full-time at the new job for 39 of 52 weeks following the move. Deductions include travel or transportation costs and expenses for lodging and storing your household goods.

Mortgage Tax Credit: Mortgage Credit Certificates (MCCs) allow qualifying low-income, first-time home buyers to take a mortgage interest tax credit of up to 20 percent (the amount varies by jurisdiction) of the mortgage interest payments made on a home. This credit is available every year you keep the loan and live in the house purchased with the certificate. Unlike a deduction that reduces your income, the credit is subtracted, dollar for dollar, from the income tax owed.

Energy Tax Credits: The newest home-based tax credits were made possible last year by the Energy Policy Act of 2005. Tax credits of up to $500 in 2006 and 2007 are available for upgrading heating and air conditioning systems, insulations, windows, doors and thermostats, caulking leaks, installing pigmented metal roofs and for otherwise putting the bite on energy waste in your home.

1031 Exchange FAQs

What are the tax advantages in a 1031 exchange?

You can defer the payment of capital gains taxes associated with real estate transactions. By selling one property and buying a higher-priced property, you can also get additional depreciation deductions, which can act to increase your after-tax income. In addition, you can eliminate paying taxes on the recapture of depreciation you’ve taken on the property.

Can I use my primary residence or second home in for a 1031 exchange?

No, only real estate property held for business or investment purposes can be used in a 1031 exchange, and both properties in the transaction must be of "like kind".

What is meant by "like-kind" property in a 1031 exchange?

Like kind property is real estate or other tangible property that is similar in nature, characteristics, or SIC classification in a 1031 exchange. Whether two properties are of "like kind" can also be dependent on state law.

Can I sell or buy multiple properties in a 1031 exchange?

Yes, you can exchange multiple smaller properties for a larger one and vice versa. The key is always trade up in value in order to maximize the amount of capital gains taxes that are deferred.

Are their time restrictions on a 1031 exchange transaction?

Yes, there is a 180-day time span in which the 1031 exchange must take place. During this period there is also a 45-day period where the exchanger must identify which replacement property will be purchased.

How can I defer the maximum amount of capital gains tax in a 1031 exchange?

The main rule is that the replacement property being purchased must be equal or greater in value to the relinquished property being sold. The net effect must be that the entire net proceeds from the sale must be used to purchase the replacement property.

Does one receive cost basis for the replacement property?

No, cost basis from the relinquished property is carried forward to the replacement property in a 1031 exchange. This is one drawback and is often overlooked or misunderstood.

What is a Qualified Intermediary and must I use one in a 1031 exchange?

The Qualified Intermediary (QI), also called an accomodator, is a third-party that facilitates the transaction and is required by the IRS to qualify a 1031 tax exchange. The IRS does not allow your accountant, attorney, or escrow company to act as the QI.

Can I do multiple 1031 exchanges and avoid paying taxes altogether?

Yes, by continuing to sell and buy like-kind properties and following 1031 exchange rules, your estate when you die can avoid paying capital gains taxes.

1031 Tax Exchanges

The Crested Butte area offers many possibilities for 1031 Exchange transactions. We have extensive experience assisting 1031 Exchange clients and would welcome the opportunity to assist you with your sale and/or purchase.

Tax Deferred Real Estate Exchange

This page is intended to provide useful information about tax deferred exchanges of real estate held for investment. There are considerations of time and property value, so check with your tax advisor.

What is a 1031 Exchange?

A 1031 Exchange is tax deferred exchange of investment property. The sale of some currently owned investment property is matched, or exceeded, in value by the purchase of similar investment property within IRS time and value guidelines. In the realm of real estate, the "exchange" means that the sale of one piece of investment property will be matched with the purchase of another "like" piece of investment property within the prescribed time period without any capital gains and therefore the individual will "defer" taxes.

Is This A Good Idea?

In most cases it is a great idea because if offers real estate investors one of the last great investment opportunities to build wealth and defer taxes. By using the 1031 Exchange, the investor can sell their current investment property and use all the proceeds to purchase the replacement investment property. Capital gains taxes are deferred and the investor leverages ALL of their equity into the replacement property. Whether it is a good idea for you should be determined only after a review with your tax advisor.

Hypothetical Example

With Traditional Tax Handling

Gain on sale of current property – $300,000

Taxes (at 33% rate) – $100,000

Net Gain – $200,000

Value of new purchase (with 80:20 loan) – $1,000,000

With a 1031 Exchange

Gain on sale of current property – $300,000

Taxes – $0

Net Gain – $300,000

Value of new purchase (with 80:20 loan) – $1,500,000

What are the requirements?

There are two basic requirements that must be met to defer the capital gains tax: (1) you must acquire like-kind replacement property (the new purchase must be of equal or greater value) and (2) you must reinvest all net equity (you cannot receive cash or other benefits from the sale of the original property, all proceeds must go towards the new investment). To quote the tax code: "No gain or loss shall be recognized on the exchange of property held for productive use in a trade or business or for investment purposes if such property is exchanged solely for property of a like-kind which is to be held for either productive use in trade or business or for investment purposes".

Who Should Use This Tax Deferring Instrument?

Anyone who is considering the sale of one piece of investment property and the purchase of another.

What Are The Identification Requirements?

You must identify the property to be received within 45 days after the date you transfer the property given up in the exchange. Any property received during that time is considered to have been identified. You must identify the replacement property in a signed written document and deliver it to the other person involved in the exchange. You must clearly describe the replacement property in the written document. You can identify the larger of (1) three properties or (2) any number of properties whose fair market value (FMV) at the end of the identification period is not more than double the total FMV, on the date of transfer, of all properties you give up.

What Are The Receipt Requirements?

The property must be received by the earlier of:

The 180th day after the date on which you transfer the property given up in the exchange, or

The due date, including extensions, for your tax return for the tax year in which the transfer of the property given up occurs.

What Are Examples of Qualifying Property?

In a like-kind exchange, both the property you give up and the property you receive must be held by you for investment or for productive use in your trade or business. Machinery, buildings, land, trucks and rental houses are examples of property that may qualify.

What Are Examples of Non-Qualifying Property?

Property you use for personal purposes, such as your home and your family car.

Stock in trade or other property held primarily for sale, such as inventories, raw materials and real estate held by dealers.

Stocks, bonds, notes or other securities or evidences of indebtedness, such as accounts receivable.

Partnership interests.

Certificates of truct or beneficial interest.

Will The 1031 Exchange Apply To Investment Property In Crested Butte and Gunnison area?

If you are selling rental property somewhere and want to purchase property in a resort community and use it as rental property, this is considered a like-kind exchange. You can review the trend in property values for the recent past in the Vail Valley by checking out my Market Reports at this website.