Money Management Q&As

May 20, 2005

New tax break for your heirs; Don't attach strings to HSA deposits; Using a home office to trade in stocks; Using 401(k) funds to buy out an ex

New tax break for your heirsQ My state recently passed a law increasing the tax on residents' estates. Will the federal estate tax credit for state death taxes cover this?

A No, because the credit was phased out completely in 2004. However, the good news is that your heirs will benefit from a change in the federal law effective in 2005. It provides that any state death tax paid (including estate, inheritance, legacy, or succession taxes) will be deductible from your gross estate for federal tax purposes.

Don't attach strings to HSA deposits Q I've offered to contribute to health savings accounts (HSAs) set up by my employees, but how can I make sure they won't use the money for nonmedical expenses?

Trading stocks from a home officeQ My wife has set aside a room in our house just for the purpose of using her computer to buy and sell stock. Can we claim a home-office deduction?

A Only if she can qualify as a trader rather than as an investor. A trader basically aims to profit from daily swings in stock prices, whereas an investor focuses on holdings that provide capital gains and dividends and which are meant for longer periods of ownership. In a recent decision, the Tax Court held that a trader must engage in "frequent, regular, and continuous" transactions substantial enough to constitute a business. It's unlikely that your wife's activities would meet that standard. However, even if they don't, you can deduct the cost of investment software, fees for advisory services, and similar items as miscellaneous expenses exceeding 2 percent of adjusted gross income. You can also deduct margin interest equal to your net investment income.

Using 401(k) funds to buy out an exQ In order to buy out my ex-husband's ownership share of my home, I'd like to withdraw some cash from my 401(k) account. Will the IRS permit this, even though I'm under 59½?

A Yes, assuming your plan includes provisions for "hardship" distributions. IRS regulations state that the withdrawal must be necessitated by an "immediate and heavy financial need" for certain specified reasons, one of which is the purchase of a home. The IRS has indicated that your situation would qualify.

Keep in mind, though, that you'll owe regular tax on the amount distributed, as well as an additional 10 percent because of your age. Also, your 401(k) contributions for the following year will be limited and there may be other restrictions. Check with your plan administrator about these before going ahead, and discuss the possible advantages of taking a loan from the plan instead.

Beware of these clauses in reverse mortgages Q My parents are looking into a reverse mortgage and have been told that they could get a bigger loan if they agreed to a "shared appreciation" or a "shared equity" clause. How do such arrangements work?