Green Vehicles Tax Credits

As we discussed in the previous blog post, there is a great tax credit available for individuals who install qualified energy efficient property, such as solar panels, to their homes.  You will be happy to know there are also great tax credits available to purchasing "green vehicles."

Currently, there are 2 different tax credits available depending upon the type of "green vehicle" you are purchasing:

1. Alternative Motor Vehicle Tax Credit.  This tax credit is available to individuals who purchase a qualifying fuel cell motor vehicle.  These vehicles are propelled by the power derived from one or more cells that convert chemical energy directly into electricity.  At this time, there are only 2 vehicles that qualify for this credit: 1) the Mercedes-Benz F-Cell; and 2) the Honda FCX Clarity Fuel Cell. However, as this technology continues to advance more vehicles may qualify and will be listed here.
   
   The value of this tax credit depends upon both the weight of the vehicle and when it is placed in service.  For instance, the base credit for vehicles under 8,500 pounds is $4,000 while the credit for heavy vehicles ranges from $10,000 to $40,000.
   
2. Plug-In Vehicle Tax Credit.  This tax credit is available to individuals who purchase or lease a qualifying, four-wheeled plug-in electric vehicle manufactured primarily for use on public streets.  The value of this credit ranges from $2,500 to $7,500.  The base credit is $2,500, and an additional $417 for each kilowatt hour of battery capacity starting at 5 kilowatt hours, up to a maximum of $7,500.
   
   This credit will begin to phase out for a manufacturer's vehicles when at least 200,000 qualifying vehicles have been sold for use in the United States, determined on a cumulative basis.  However, at this time no manufacturer has come close to selling 200,000 qualifying vehicles.  Click here for the IRS's list of cumulative sales by manufacturer.
   
   To qualify for this credit, the vehicle must: 1) be manufactured primarily for use on public roads; 2) weigh less than 14,000 pounds; and 3) be able to exceed a speed of 25 miles per hour.

If you are interested in learning more about "green energy" tax credits, please do not hesitate to contact me.

As always, I appreciate your feedback.  Please leave your thoughts in the comment section below.

Residential Energy Efficient Property Tax Credit

Have you considered installing solar panels to your home?  Have you heard that there is a tax "rebate" and want to know how that works?

The Residential Energy Efficient Property Tax Credit is available to taxpayers who install qualified equipment to their home.  It does not have to your main residence (it can be on a second/vacation home).  Qualified equipment includes:

• Solar Electric Equipment (i.e., solar panels);
• Wind Turbines; and
• Solar Hot Water Heaters.

The tax credit is equal to 30 percent of the cost of the alternative energy equipment that you have installed at your principal residence.

Unlike most other tax credits, there is no limit on the amount of credit available for most types of property.  However, this tax credit is non-refundable.  That means if you are not able to use the entire tax credit, then the unused portion is carried forward to the next year.

The Residential Energy Efficient Property Tax Credit is available for any qualified equipment that is installed before December 31, 2016.  However, it is currently unclear whether any unused portion of the credit will be allowed to be carried forward past the 2016 tax year.

Example
Gary and Karen had solar panels installed on their principal residence on June 1, 2014 for a total installation cost of $90,000.  They are entitled to a tax credit of $27,000 (30% of the $90,000 installation cost).

Every year, Gary and Karen have a total federal income tax due of $12,000.

For the 2014 tax year, their usual $12,000 federal income tax bill was reduced to $0.  Gary and Karen will be receiving a tax refund from the IRS for any income tax withholdings or estimated tax payments that they made during the year.  They also have an unused tax credit of $15,000 that will be carried forward to 2015.

For the 2015 tax year, again their usual $12,000 federal income tax bill was reduced to $0.  Again, instead of writing a check to the IRS they will be receiving a refund for any income tax withholdings or estimated tax payments they made during the year.  They have an unused tax credit of $3,000 that will be carried forward to 2016.

For the 2016 tax year, they will finally exhaust their remaining tax credit but only have to pay $9,000 of federal income tax.

If you are interested in learning more about the Residential Energy Efficient Property Tax Credit, or other tax credits, please do not hesitate to contact me.

As always, I appreciate your feedback.  Please leave your thoughts in the comment section below.

Casualty Losses and Insurance Reimbursement

Due to yesterday's wildfires, many of which are still burning as I write this, a large number of people have been evacuated from their homes and sadly a few people have lost their homes. Therefore, today I will be writing about the tax consequences of casualty losses and insurance reimbursement. 

However, I would first like to encourage everyone to begin to prepare now for future disasters by talking to an insurance agent about renter's insurance, home owner's insurance (which covers fires), earthquake insurance, and flood insurance.  Hopefully you will never need it, but I would urge everyone to at least consider it just in case.

A casualty loss, for tax purposes, is the damage, destruction, or loss of property resulting from an identifiable event (such as a fire) that is sudden, unexpected, or unusual.

Deductible Casualty Losses

The deductible portion of your casualty loss equals the lesser of:

• The adjusted basis in the property before the casualty or theft; or
• The decrease in the fair market value of the property as a result of the casualty or theft,
  Minus  any insurance or other reimbursement received or that is expected to be received.

Personal Use Property

For personal use property, like your home, there are 2 limitations applied to your deductible casualty loss.

1. There is a $100 reduction applied to each event that causes the casualty or theft.  This means that if your house and two cars are damaged in an earthquake, there would be a $100 reduction to the deductible casualty loss (not $300 because it was only one event).  However, if you were having a bad day and you got into a car accident and later there was an earthquake damaging your home, there would be two events so the reduction would be $200.
2. The aggregate of all your casualty losses must be reduced by 10% of your Adjusted Gross Income.  This reduction is applied after the $100 per casualty reduction.

Business and Income-Producing Property

Business and income-producing property does not have the same limitations placed on it that personal use property does.  If business property is completely destroyed, the deductible casualty loss is generally the cost of the property minus any accumulated depreciation.  If the property is damaged but not destroyed, then the loss is generally the decrease in the property's fair market value.

Employee Business-Use Property

An employee's business use property, such as an employee's personal laptop that is used exclusively for business purposes, may be deducted without any of the personal-use property limitations listed above, but it is only deductible as a miscellaneous itemized deduction.

Insurance Reimbursement

Any deductible casualty loss is reduced by the amount of actual insurance reimbursements received and any expected reimbursements.  If the property is covered by insurance, an insurance claim must be filed or the casualty loss will not be allowed.  If the insurance reimbursement exceeds the casualty amount, then the profit is taxable income unless the insurance reimbursement is reinvested in similar-use property.  Reinvestment generally must occur by the end of the second year following the insurance reimbursement.  However, taxpayers have 4 years to replace a principal residence in a federally declared disaster area.

Because the casualty losses are reduced both by the amount of actual insurance reimbursements and any expected reimbursements, occasionally there is a need to made adjustments in the following year.

If the actual reimbursement received was greater than the expected reimbursement, the excess amount is treated as ordinary income in the year received unless the prior year's casualty loss deduction did not reduce the taxpayer's tax liability.

If the actual reimbursement was less than expected, the difference is treated as a casualty loss in the year the taxpayer can reasonably expect no more reimbursement.

Federally Declared Disasters

There are special tax provisions that apply if the President declares a disaster to be eligible for federal assistance under the Disaster Relief and Emergency Assistance Act.  Those provisions are outside the scope of this blog, but be sure to ask your tax preparer about them if you are ever affected by a federally declared disaster.

So as you can see, the federal government does provide some support through the form of tax deductions if you are affected by a disaster.  However, it should also be clear to you that the tax relief that you would be eligible for generally does not compare to what you would receive through an adequate insurance policy.

If you have any questions about deducting casualty losses, please do not hesitate to contact me.

Also, please feel free to contact me if you would like a referral to a great insurance agent.

As always, I appreciate your feedback in the comments section below.

Self-Directed IRAs

Did you know it is possible to hold real estate and business entities through an IRA?  You can if your IRA's custodian is open to having "nontraditional" investments.

What is a Self-Directed IRA?

A self-directed IRA is simply an IRA whose custodian permits a wide array of investments beyond bonds and securities and provides for maximum control by the account holder.  Self-directed IRAs can include any investment, other than life insurance and collectibles, that are not specifically prohibited by federal law.

As with all other IRAs, self-directed IRAs must comply with various rules and regulations, including a rule against "prohibited transactions".

What is a Prohibited Transaction?

There are several types of transactions that the federal government have determined to be improper if conducted with the IRA account holder, his or her beneficiaries, or any disqualified person.

Disqualified Persons

The Internal Revenue Code defines disqualified persons as:

1. A fiduciary of the plan (an IRA owner who exercises discretionary control over an IRA's investments is a fiduciary);
2. A person providing services to the plan;
3. An employer whose employees are covered by the plan;
4. An employee organization whose members are covered by the plan;
5. A direct or indirect owner of 50% or more of any entity that is described in numbers 3 or 4 above.
6. A family member of any of the above;
7. A corporation, partnership, trust, or estate that is more than 50% owned directed or indirectly by any person described in numbers 1 through 5 above;
8. An officer, director, 10% or more shareholder, or highly compensated employee (earning 10% or more of the employer's yearly wages) of a person described in numbers 3, 4, 5, or 7 above;
9. A 10% or more partner or joint venture of a person described in numbers 3,4, 5, or 7 above; or
10. Any disqualified person who is a disqualified person with respect to any plan to which a multiemployer plan trust is permitted to make payments under Section 4223 of ERISA.

Prohibited Transactions

There are several types of transactions that are prohibited if done between the self-directed IRA and a disqualified person.  Here are a few examples (this is by no means a comprehensive list):

• Selling property to or from the IRA;
• Lending money to or borrowing money from the IRA;
• Receiving unreasonable compensation for managing the IRA;
• Using the IRA as security for a loan; or
• Buying property for personal use with IRA funds.

What are the consequences if there is a prohibited transaction?

The penalties for engaging in a prohibited transaction are severe!  The Internal Revenue provides that if any prohibited transaction occurs, the account is no longer an IRA and it will be treated as if the assets within the account were distributed on the first day of the taxable year in which the prohibited transaction occurs.  This will trigger a 10% early withdrawal penalty, tax on the constructive distribution, and often an accuracy-related penalty for each of the tax years affected.

Let's look at an example.

In 2010, Mark decided to roll over all $2,000,000 from his 401(k) plan to a self-directed IRA.  On July 1, 2011, the IRA purchased a rental property for $400,000 and left the remaining assets invested in securities. The IRA then hired Mark to manage the property and agreed to pay him 10% of the total rents received. Mark managed the property until late 2013 when the IRA sold it for $450,000.  For the years 2011 through 2013, Mark reported his "management fee" as income, but did not report any of the rental income or the gain on the sale of the property because he knew that income earned by an IRA is tax-deferred.

In 2014, Mark received a notice from the IRS informing him that he was being audited for the tax years 2011, 2012, and 2013.  After its audit, the IRS concluded that the IRA's hiring of Mark and providing him compensation were prohibited transactions.  As a result, there was a deemed distribution of all of the IRA's assets on January 1, 2011 (not only the $400,000 used to purchase the rental property).  Mark was assessed the following penalties:

• Tax on $2,000,000+ deemed distributed to him on January 1, 2011 (plus penalties and interest);
• 10% early withdrawal penalty on the $2,000,000+ deemed distributed;
• 20% accuracy related penalty in 2011;
• Tax on the 2011, 2012, and 2013 rental income (plus penalties and interest)
• Tax on any interest, dividends, and capital gains from securities in 2011, 2012, and 2013 (plus penalties and interest);
• Tax on the capital gains from the sale of the rental property in 2013 (plus penalties and interest); and
• 20% accuracy related penalty in 2013.

It is not my intent to discourage anyone from using a self-directed IRA as an investment vehicle.  However, it is very important to understand that it can be very easy for someone to engage in a prohibited transaction and incur very severe penalties as a result.  Therefore, if you are thinking about utilizing a self-directed IRA, talk to a tax professional to ensure that everything is done properly.

If you have any questions about self-directed IRAs, please do not hesitate to contact me.

As always, I appreciate you leaving your feedback in the comments section below.