July 7, 2007

Energy Efficient Home Improvements
Expenses you incur can save you tax dollars

If you make certain energy efficient improvements to your existing home, you may be entitled to a lifetime tax credit of up to $500. Legislation passed late last year extended the credit for expenses incurred before January 1, 2009. The credit equals the sum of the following two credits:

• A ten-percent credit for energy efficient improvements, such as insulation, exterior windows, skylights, exterior doors, and pigment-coated metal roofs. (The maximum credit allowed for windows is limited to $200.)

• A credit for energy property expenditures in the following amounts: $50 for each advanced main air circulating fan; $150 for each qualified natural gas, propane, or oil furnace, or hot water boiler; and $300 for qualified energy efficient property, such as heat pumps, water heaters, and central air conditioners that meet certain requirements.

When making home improvements, look for the Energy Star label and ask the manufacturer if the items qualify. Items such as appliances and siding do not qualify for the credit. Also, the expenditures must be incurred for items installed in the home that you are currently occupying as your principal residence. If you are in the process of building a new home, you are not entitled to the credit, even though the items you install may be certified as energy efficient.

Renting Your Vacation Home
Understand the rules for deducting expenses

If you receive income from renting your vacation home to others, you may deduct certain expenses. These expenses, which may include interest, taxes, casualty losses, maintenance, utilities, insurance, and depreciation, will reduce the amount of rental income that is taxed.

The amount of your deductible expenses depends on how many days you personally use the vacation home. If you are renting to make a profit and do not use the dwelling as a home, your deductible rental expenses can be more than your gross rental income, subject to certain limits. However, if you rent a dwelling that you also use as a home, your deductible rental expenses will be limited.

You are considered to use a dwelling as a home if you use it for personal purposes during the tax year for more than the greater of 14 days or 10 percent of the total days it is rented to others at a fair rental price.

If you use the dwelling for both rental and personal purposes, you generally must divide your total expenses between the rental use and the personal use based on the number of days used for each purpose. However, you will not be able to deduct your rental expense in excess of your gross rental income. If you use a dwelling as a home and rent it for fewer than 15 days, you are not required to report any of the rental income and are not allowed to deduct any expenses as rental expenses. If you itemize your deductions, mortgage interest and real estate taxes are deductible regardless of the rental use.

Registered Domestic Partners File Jointly for 2007
Affected clients should contact me now

Beginning January 1, 2007, California law requires registered domestic partners to use the same filing status as married couples. How this will work is complicated by the fact that such couples cannot file a joint federal return. This presents quite a challenge in that the calculation of California income tax starts with the taxpayer’s federal adjusted gross income.

The upshot for registered partners is guaranteed aggravation at tax time and higher tax preparation fees. You will likely have to prepare your federal income tax returns both singly and jointly, filing the single returns with the IRS and using the joint return to proceed with the completion of your California return. Tax software companies and the Franchise Tax Board are scrambling, but there is still a boatload of unsettled issues.

This change only affects domestic partners who have registered with the State of California. Clients who fit this description should contact me now for planning purposes and stay tuned for further updates in my next newsletter.

Do You Have a Real Business?
Beware of hobby rules

Expenses connected with your business activities may be tax deductible or limited to the rules for hobby expenses. The limit on hobby losses applies to individuals, partnerships, estates, trusts, and S corporations. The limit does not apply to corporations that are not S corporations. In determining whether you are carrying on an activity for profit, you should consider all the facts. No one factor alone is decisive. Among the factors to consider are whether:

• You conduct the activity in a business-like manner.

• The time and effort you put into the activity indicates your intention to make it profitable.

• You depend on income from the activity for your livelihood.

• Your losses are due to circumstances beyond your control (or are normal in the start-up phase of your type of business).

• You change your methods of operation in an attempt to improve profitability.

• You or your advisors have the knowledge needed to carry on the activity as a successful business.

• You were successful in making a profit in similar activities in the past.

• The activity makes a profit in some years (and how much of a profit it makes).

• You can expect to make a future profit from the appreciation of the assets used in the activity.

[1] Beginning January 1, 2007, the standard mileage rates for the use of a car (including vans, pickups, or panel trucks) are:
• 48.5 cents per mile for all business miles driven;
• 20 cents per mile for all miles driven for medical or moving purposes; and
• 14 cents per mile for all miles driven for charitable purposes.

[2] Are you collecting unemployment benefits? If so, your benefits are taxable. To ease the tax burden when filing your return, you can file Form W-4V and specify the amount that you want withheld from your benefit.

[3] Each cash charitable contribution you make must now be substantiated with a written receipt or other documentation, regardless of the amount. Unsubstantiated cash contributions are not deductible.

[4] Noncash contributions of household items must be in good or better condition to qualify for a deduction. A single household item valued at $500 or more qualifies as a deductible contribution regardless of its condition, provided you obtain a qualified appraisal of the item.

[5] Planning to move this summer? Make sure you notify the IRS of your new address by filing Form 8822.

[6] Are you a household employer? You might be if you have hired a housekeeper or a dependent care provider who provided services in your home. If you have a household employee, you may be required to withhold social security, Medicare, and federal income taxes from their wages. You also may be required to pay federal unemployment tax.

[7] Are you planning to set up a retirement plan?
A SIMPLE plan must be established by October 1, 2007. A SEP must be established by the due date of your return, plus extensions. You can make employer contributions up to the due date of your return, including extensions.

Popular Tax Credit in Jeopardy
Dependent Care Credit gone for many in '07

If you normally claim the Credit for Child and Dependent Care Expenses, you may have difficulty claiming it for 2007 and future years. Effective January 1, 2007, taxpayers who pay the Alternative Minimum Tax (AMT) will see their dependent care credit reduced or eliminated. This is because the credit cannot be used to reduce your total tax as calculated on the AMT form.

In previous years, Congress suspended the normal rule and allowed taxpayers subject to AMT to take a dependent care credit of up to $600 per child. This special treatment has now ended. We are back to applying the standard rule, unless Congress takes up the issue in tax legislation before the end of the year.

I predict widespread surprise and disappointment for many taxpayers due to the change. The dependent care credit has been one of the few credits available to all middle and upper income families. It’s one more piece of bad news for the ever-growing number of Americans affected by AMT.

Teachers Get a Tax Break
Deduction extended for out-of-pocket costs

Recent tax legislation extended the deduction to December 31, 2007, for out-of-pocket expenses incurred by teachers. If you are an elementary or secondary school teacher, aide, counselor, principal, or other eligible educator who worked at least 900 hours in a school during 2007, you may deduct up to $250 for classroom supplies that you purchased during the year. You may claim the deduction even if you do not itemize deductions. Qualifying costs for the deduction include books, supplies, equipment, computer equipment (including related software and services), and other materials used in the classroom.

Currently, there is no law that allows teachers who home-school their children to take this deduction for supplies they purchase for the classroom.

Combining Business With Pleasure
How much of a trip’s cost is really deductible?

Our lives keep getting busier and sometimes it’s hard to find the time to take a vacation, even a short one. Many people find it convenient to combine a business trip with a few days off for rest and relaxation.

Generally, expenses you pay for a business trip are either fully or partially deductible on your tax return. Deductible expenses include costs for meals, lodging, and travel, including airfare and car rental. Although you cannot deduct meals and lodging expenses on days that are not devoted to business, the IRS may allow a deduction for the entire cost of the domestic airfare. You can deduct the cost of the plane ticket as long as the purpose of the trip is primarily for business—that is, more days are spent working than relaxing.

Are You Paying College Tuition?
Deduction is allowed for another year

There are numerous tax breaks available to parents and students who pay expenses for higher education. Some of those tax breaks come in the form of a tax credit, such as the Hope or Lifetime learning credits. These credits are limited to taxpayers with an adjusted gross income that is not more than $57,000 for 2007 ($114,000 if married filing jointly).

If your adjusted gross income is too high to take advantage of the tax credits, you may still get some relief by deducting the costs instead. Recent legislation extended the tuition and fees deduction until December 31, 2007. You are allowed a deduction of up to $4,000 of qualified costs if your adjusted gross income is less than $65,000 ($130,000 if married filing jointly) and $2,000 of qualified costs if your AGI is less than $80,000 ($169,000 if married filing jointly).