Money Management

Why you may owe tax on money you'll never get

Q My father has decided to move into an apartment in a continuing care facility that guarantees assisted living and skilled nursing services when needed. He'll pay a stiff entrance fee, part of which will be refunded if he leaves or dies. But the facility's brochure warns that this arrangement may result in taxable income even if he stays. How could that happen?

A The law says that the amount subject to refund is actually a loan to the facility. Therefore, the person who paid the fee (your father) owes tax as though he were receiving interest at the current rate. However, no tax will be due if the projected refund doesn't top $148,800 this year. Interest on any amount above that figure, which is inflation-indexed, would be taxable.

The $148,800 exemption applies only if your father is 65 or older and the facility provides meals, maintenance, and routine medical and nursing care as necessary, without a substantial additional charge. It must also provide separate living quarters for physically fit residents.

How a salary check gets fatter without a raise in pay

Q I get smaller paychecks early in the year, until my employer has withheld the full annual amount of Social Security tax from my salary. Could the tax be spread over the entire year, so my take-home pay would be the same every month?

A No. The regulations require your employer to withhold your 6.2 percent share of the tax until your income reaches the maximum subject to Social Security tax ($84,900 in 2002). The rule doesn't hold with Medicare tax, however—that's 1.45 percent of every paycheck, no matter how much you earn.

When the home you sell is a co-op apartment

Q My wife and I are selling the co-op we've lived in since we married in 1996. My mother-in-law owned the apartment then, but in 1998 she put it in my wife's name as a gift. How do we figure our gain, and will we owe tax on it?

A From the net sales proceeds, subtract your mother-in-law's cost or the apartment's fair market value on the date she gave it to your wife—whichever is less. If the gain isn't more than $500,000, it's tax-free, because the home sale gain exclusion ($250,000 per individual) applies to co-op residences. The fact that your wife is the sole owner doesn't matter, so long as you both lived in the home for at least two of the five years before the sale.

Inexpensive mutual funds that invest in other funds

Q I have little time for investment research, so I may put money into a mutual fund that invests in other funds. But wouldn't that mean higher expenses?

A Yes, 2 percent or more in some cases. However, some funds minimize the expenses by investing only in shares of funds in their own family. Examples include funds of funds run by T. Rowe Price, Scudder, TIAA-CREF, and Vanguard. All offer portfolios suitable for a variety of investment objectives.

In a partnership, one size fits all

Q Two colleagues and I have formed a partnership. My partners want to start a profit-sharing plan, but I'm older than they are and have been told I could contribute more to a defined-benefit plan. Can each of us set up a different plan for himself?

A No. Although you're all part owners, the pension law treats you as employees of the partnership and bars you from establishing individual plans. Instead, a contribution from each partner's share of net income must be made to a separate account under the partnership plan. Each partner then claims a deduction for the contribution on his personal tax return.

Edited by Lawrence Farber,
Contributing Writer

Do you have a money management question that may be stumping other doctors, too? Write: MMQA Editor, Medical Economics magazine, 5 Paragon Drive, Montvale, NJ 07645-1742, or send an e-mail to memoney@medec.com (please include your regular postal address). Sorry, but we're not able to answer readers individually.

Lawrence Farber. Money Management. Medical Economics 2002;6:98.