Tax Alert

Realty Exchangers Tax Alert and Education Letter
Edited by James D. Maxwell
Volume 2 – Issue 12

December 31, 2003

All of us at Realty Exchangers wish you a very happy, healthful, and prosperous New Year and welcome you to our new Tax Alert format. Like you, we have had more than our share of problems with all the SPAM and other junk eMail received everyday. So starting with this issue, instead of eMailing you the complete issue, we will send you a short eMail telling you the new issue is ready, a list of the subjects covered, and a direct link to the complete issue published on our web site.

In This Issue =

Standard Mileage Rates for Business Autos - 2004

Deferred Exchange Opportunities for REITs

Our Year End Article – How to Stop Cheating on Your Tax Return

Selling Expenses Paid

Questions and Answers

Standard Mileage Rates for Business Autos - 2004

The Internal Revenue Service has set the optional standard mileage rates to use for 2004 in computing the deductible costs of operating an automobile for business, charitable, medical or moving expense purposes.

To reduce a recordkeeping burden, the IRS said taxpayers who use no more than four vehicles at the same time for business purposes may use the standard mileage rate, starting in 2004. Currently, those using more than one vehicle at a time cannot use the standard rate at all, leaving them to track the actual expenses for each vehicle.

Although many taxpayers may still claim actual vehicle expenses for various reasons, the IRS estimates that small businesses will save 8-10 million hours a year in recordkeeping with this expansion of the standard rate option.

A taxpayer may not use the standard mileage rate for a vehicle after using any depreciation method under the Modified Accelerated Cost Recovery System (MACRS), after claiming a Section 179 deduction for that vehicle, or for any vehicle used for hire.

Beginning Jan. 1, 2004, the standard mileage rates for the use of a car (including vans, pickups, or panel trucks) will be:

37.5 cents a mile for all business miles driven, up from 36 cents a mile in 2003;

14 cents a mile when computing deductible medical or moving expenses, up from 12 cents a mile in 2003; and

14 cents a mile when giving services to a charitable organization.

Deferred Exchange Opportunities for REITs

During the last few weeks, we have received more than twenty questions regarding using the proceeds of the sale of real estate in a 1031 deferred exchange to purchase a REIT interest as replacement property. But REIT shares do not qualify for 1031 exchange treatment. However, recent developments for Tenancy in Common programs make it possible for REITs to distribute properties to purchasers of Replacement Properties as part of a 1031 deferred exchange.

In a nutshell, the REIT exchanges real estate (such as a shopping center or apartment property) for Replacement Property meeting their investment plan objectives. The purchaser of the Relinquished Property is a Tenancy in Common Company offering real estate (held for use in a trade or business) with a Tenancy in Common investment method. This allows an individual investor to exchange out of a qualified Relinquished Property into a fractional interest in the larger Tenancy in Common property.

Internal Revenue Procedure 2002-22 spells out the fifteen requirements necessary to qualify for the Tenancy in Common investment program.

Click Here for the official text of 2002-22

Caution: This type of transaction is multifaceted and complex. It can present many legal and tax accounting problems and should not be attempted without competent legal and tax counsel.

How To Stop Cheating On Your Tax Return
by Rich Robinson, CPA

Most real estate people I know cheat on their tax return. And sometimes the cheating runs into thousands of dollars. And many of them are worried sick the IRS is going to get them.

But guess what? For many, an IRS audit might result in a nice refund. It happens all the time. The reason is taxpayers are cheating themselves - not the government - by not understanding the tax part of their own business. Most real estate professionals can do a financial and tax analysis of an income property right down the nth degree. But when it comes to their own tax return, it can be a nasty and expensive confusion. Here's why!

Missed Tax Deductions.

Taxpayers miss getting the benefit of all their legal deductions for three main reasons.

1.      Not knowing exactly what is deductible and why. If you don't know what is deductible, you miss a whole bunch of deductions you could have taken.

2.      Losing deductions on your tax return because you did not record them. At the end of the year there's no way to remember what and how much without basic record keeping.

3.      Losing deductions in an IRS audit because the records you kept were inadequate or, in some cases, just plain missing.

I know what you are thinking - you don't have to worry about all this stuff - your tax person takes care of it for you. In your dreams. How can your tax person deduct a business expense if you don't tell him or her about it? And if you didn't know it was deductible, you won't know to tell them. Also, without good records, at the end of the year you can't even figure the amount of your legitimate deductions if you tried.

Many areas of deductions such as auto mileage, business travel and promotional expenses require written records with specified elements of proof. Without these, a good tax person will not claim the deductions for you on your return. For example, your tax return asks if you have records to back up your auto deductions. And, if so, are they in writing. Answering yes if you don't have them is a big no-no and an invitation to disaster.

Always remember, federal income taxes are not deductible, therefore, any federal income taxes you can save by getting all your deductions, are not taxable. It’s just like earning a tax-free “commission” at the end of the year.

Editor’s Note – Our new 1031 exchange tax book – Federal Taxation of Real Estate Exchanges - is scheduled for publication early in January. In our next issue we will give you full details and information. Meanwhile, here is an excerpt of the subject of many questions received by us.

Many real estate agents and investors when working out the numbers for their real estate exchange often overlook selling expenses as an offset against boot received. Factoring in this offset is critical when the exchange is originated and in the planning stages. Selling expenses paid in connection with a §1031 exchange are treated as cash boot paid and offsets any boot received. Selling expenses include brokerage commissions and other closing costs such as title policy fees, escrow fees, and recording fees. 

Parallel Point 4-10

If you receive no cash or property boot in the exchange, but you have net mortgage relief, you may offset sales expenses paid against your net mortgage relief. If the offset creates a “loss”, the Code bars any deduction.

Parallel Point 4-11

If you receive cash or unlike property in addition to the like-kind property received and realize a gain on the exchange, subtract the expenses from the cash or fair market value of the unlike property. Then use the net amount to figure recognized gain.

âCaution: Selling expenses cannot be deducted twice against cash boot paid. For example, if you get a down payment of $125,000 on the sale of your Relinquished Property, and you pay $30,000 selling expenses out of the closing escrow, the net proceeds of $95,000 is paid into your QI Trust Account. Since the $30,000 selling expenses have already been deducted from your cash boot received of $125,000, your net boot received is $95,000. You cannot deduct or offset the sales expenses of $30,000 again against your netted proceeds of $95,000.

In the final accounting, selling expenses are recorded on the closing or escrow statements and other supporting documents. Be careful not to include items that must be treated elsewhere on the tax return. For example, rental income adjustments, security deposits, prepaid rents, insurance, realty taxes, points, and interest are not selling expenses and must be treated in the appropriate tax form. Personal items such as payment of liens, personal judgments, and back income taxes are all personal and not selling expenses.

Questions and Answers

Question

I am considering a 1031 exchange for an investment property I own but I have a question on depreciation. Is the acquired property fully depreciable or is it impacted by the depreciation schedule/balance of the disposed property. Any light you can shed on this will be helpful in making my decision. As a side note, could you also advise if you conduct business in Rhode Island. Thank you in advance for your assistance.

Answer

Hi Richard - Depreciation taken or method used on the relinquished property does not carry over to the replacement property. You figure the substituted basis of the replacement property, allocate the basis between land and depreciable assets and start over following current depreciation rules for the types of depreciable assets you acquire

This Newsletter is submitted to you by Realty Exchanges, A Qualified Intermediary, as part of our service program to the real estate community. This education service is designed to provide accurate and authoritative information, it is not meant as a substitute for your own CPA, professional tax advisor, or attorney.  Tax planning depends on your individual facts and circumstances. You should always consult with your own tax advisor to determine if the ideas and techniques discussed here apply to your situation.

Copyright 2003~Realty Exchangers, Inc~All Rights Reserved. No copyright credit claimed for material taken from U. S. Government Publications.