Answers to your tax questions . . . On special situations
I've been making full payments on a student loan since May 1996, but the law allowing deductions for 60 months worth of interest didn't take effect until 1998. Does that mean I can deduct a full year's interest on my 2001 return?
No; the clock started ticking the first month you had to pay interest, not when the law took effect. So for 2001 you can deduct only the interest paid from January through April. However, thanks to the tax law passed last year, as of January 2002 you'll be able to deduct all the interest you pay annually, if your adjusted gross income doesn't top $100,000 (joint return; $50,000 single).
I received a $10,000 consulting fee in 2000, which I reported as self-employment income on Schedule C. But I had to return $4,000 of the fee last year, because it had been figured incorrectly. Can I deduct the repayment as a business expense on Schedule C for 2001?
Yes, or you can claim a credit for the tax you overpaid in 2000. The credit equals the tax you paid minus the tax you would have paid if you'd reported the lower fee.
To decide which method will save you the most, first figure the tax you'd owe for 2001 using the method you describe. Then compute it without reducing your 2001 income, and subtract the credit from the tax. If you opt to claim the credit, label it "I.R.C. 1341."
In July 2001, I set up an office in my home to operate a sideline business. Can I depreciate a prorated part of the house's market value (excluding the land) when I began using the office?
Only if that value was less than the amount you paid originally. Otherwise, you must use your cost as the basis. Bear in mind that before claiming depreciation, you must subtract from your net profit the portion of mortgage interest, property taxes, and household expenses that would be allocated to the office. If the remaining profit is less than the amount of depreciation you're entitled to for 2001, you must carry the excess depreciation over to 2002.
My wife had large medical expenses in 2001, and if we file a joint return our combined income will prevent her from claiming them. If we file separately instead, will I still be able to deduct $3,000 of net capital losses on investments I sold?
No. On your respective returns, you'd have to divide gains and losses on sales of jointly owned assets but list the full amounts stemming from those you owned individually. If either of you had more losses than gains, you could deduct only $1,500 from the other income reported on your separate return. Neither of you could deduct passive losses from rental real estate, whether you owned it jointly or separately.
As a single parent of a young child, I'm entitled to a tax credit equal to 20 percent of my day care expenses (up to $2,400 a year). In 2000, I was billed $2,800 for such expenses but made only a partial payment of $1,000, so I couldn't claim the maximum credit. I paid the balance, plus an additional $2,800, in 2001. How large a credit can I get on my 2001 return?
Your total credit for 2001 would be $760. Here's how it breaks down: You'd get $280 for 2000 (subtract the $1,000 credit you took from the $2,400 expense limit and multiply by 20 percent). In addition, you get a $480 credit for $2,400 of your 2001 day care costs. Include a breakdown of the calculations with your return.
My adjusted gross income for 2001 was more than $150,000. How much estimated tax must I pay for 2002, to be sure I won't be penalized for underpayment?
The "safe harbor" for 2002 is 112 percent of your 2001 tax. But be mindful that tax rates are lower this year, and you may be able to make larger deductible retirement plan contributions than you did in 2001. Such factors could reduce your tax bill for 2002, even if your pre-tax income is comparable to 2001's. So you may want to trim your estimated tax payments. You'll owe no penalty if those payments total at least 90 percent of the actual tax due for 2002.
Last year, I cashed in a US savings bond purchased in 1993 and received $8,000, including $2,400 of interest. My husband and I spent $5,000 of this to pay some of our daughter's college costs. Can we exclude any of the interest from tax?
Yes, if your joint adjusted gross income doesn't top $113,650. To figure the tax-free amount, first divide the amount used for college expenses by the total proceeds from the bond. That's $5,000/$8,000, or 5/8. If your joint AGI is $83,650 or less, you can exclude 5/8 of the $2,400 interest you received, or $1,500. If your AGI is between $83,650 and $113,650, the exclusion will shrink. Form 8815 will help with the arithmetic.
I rented out my beach house last year, and the tenant paid repair and maintenance expenses, which he subtracted from the monthly rent. What's the proper way to report this on my return?
Report as income the full amount called for in the rental agreement. You can treat the costs the tenant paid, however, as rental expenses and claim deductions for them, provided they would have been deductible if you paid them yourself.
I expect the value of some acreage I own to skyrocket in the next few years. It hasn't increased since I bought it in 1996. If I don't sell it until 2006, will my capital gain be taxed at the lower rate (18 instead of 20 percent) slated to go into effect then for assets held five years?
No, because this tax break will apply only to assets acquired after Dec. 31, 2000. But you can make your holding eligible when you file your return for 2001. On Schedule D, report an imaginary ("deemed") sale of the land, using the market value it had on Jan. 1, 2001. Doing so starts a new holding period as of that date. If the Jan. 1 market value is no higher than your cost, you'll have no taxable capital gain. (If it's lower, though, you can't claim a loss.) Explain on your return that you're making this election under Sec. 311 of the Taxpayer Relief Act of 1997.
An international mutual fund I have shares in notified me that it paid $500 in foreign taxes on some dividends distributed to me. How do I handle this on my return?
You can take a $500 itemized deduction on line 8 ("Other taxes") of Schedule A. But you'll probably do better to claim a foreign tax credit instead.
If you're filing a joint return, list the $500 as a credit on Form 1040, line 43. If you paid more than $600 of foreign taxes ($300 if you're filing singly), you must fill out and attach Form 1116, because your allowable credit may be limited. In that case, claiming the full amount as a deduction could save you more.
Lawrence Farber. Answers to your tax questions . . . On special situations. Medical Economics 2002;6:35.