Coverdell accounts; taxable munis; stock donation
An early distribution that won't cost you
Q. My wife is self-employed and has a regular IRA. She's only 49, but she'd like to withdraw some money from the account to pay the founder's fee for the retirement home her mother will move into shortly. I know we'll owe income tax on the distribution, but would we owe a penalty, too?
A. Maybe not. As long as your other medical expenses for the tax year total at least 7.5 percent of your adjusted gross income, you'll escape the 10 percent early withdrawal penalty on the distribution if you use it to pay for any other deductible medical expenses. The portion of the founder's fee that goes to pay for future medical care qualifies as a deductible medical expense if you can claim your mother as a dependent. (For medical-expense-deduction purposes that means she must pass certain residency requirements and you must pay for at least half her total support.) You needn't itemize expenses on your tax return to avoid the 10 percent early withdrawal penalty.
Q. A tenant in an apartment building I own argued that he shouldn't have to pay to replace broken tiles in the bathroom, clean stains on the bedroom carpet, or patch nail holes in the walls because they're ordinary wear and tear. I gave in rather than argue with him, but for future reference, was he right?
A. Not about the broken bathroom tiles; those are generally considered chargeable damage. So are things like broken shelves in a refrigerator, cigarette burns in furnishings, rips in carpeting, pet stains on floors or rugs, and water damage from dripping houseplants or windows left open during a storm. Nail holes in the walls probably qualify as wear and tear, though, unless you're talking about so many or such large ones that you must patch them and repaint before finding a new tenant. But, in general, you can't charge for minor damage to walls and floors, especially if the tenant has rented from you for several years and you'd ordinarily repaint or clean the carpets before renting the place again.
A lesser-known use for Coverdell accounts
Q. Our son will start high school in 2009, and we may send him to private school. A neighbor claims we could set aside money in a Coverdell Education Savings Account to avoid tax on the earnings. Is that correct? I thought Coverdell accounts were just for college savings.
A. Your neighbor is right. You can use the proceeds from a Coverdell ESA to pay for qualified elementary or secondary education expenses. Contributions are limited to $2,000 annually-less if your adjusted gross income (modified by adding certain types of foreign income) equals $190,000 or more, and nothing once it reaches $220,000. For singles, the range is $95,000 to $110,000. If you don't qualify and some of your relatives do, perhaps they'd like to set up Coverdells for your son. But the total of all contributions made for him can't top $2,000 annually. (We'll cover college savings plans in-depth in an upcoming issue.)
Think twice about this rollover
Q. My wife has $150,000 in her 401(k) account, mostly in highly appreciated shares of her employer's stock. She'll quit her job soon and plans to roll over the balance into an IRA, but a friend says she can save taxes by transferring the stock shares into a taxable account instead. How could that be true?
A. Due to a little-known rule, her overall tax bill would shrink because she'd pay the ordinary tax rate only on the original cost basis of the transferred shares and the capital gains rate on most or all of the gain, instead of owing ordinary tax on the entire value.