2014 Tax Changes: No More Mortgage Debt Forgiveness Exclusion

Note: On December 19, 2014, Congress retroactively extended the mortgage debt forgiveness exclusion through the end of 2014.  It has expired again as of January 1, 2015.

With 2014 quickly coming to an end, you may be looking at ways to reduce your income tax liability. The first step in any good tax planning is understanding how the law changed from 2013 and how that affects you.

In this series, 2014 Tax Changes, I will give you an overview of the changes in the tax law that may affect you.  If you haven't already, please feel free to read the earlier posts in this series:

• Individual Mandate- discussing the Affordable Care Act's individual mandate that is now in effect;
• Pease Limitation- discussing how your itemized deductions may be limited; and
• Goodbye IRA Charitable Rollovers- discussing the expiration of a special rule that allowed seniors to roll over their IRA's minimum required distributions to a qualified charitable organization without negative tax consequences.

No More Mortgage Debt Forgiveness Exclusion

The general rule in the Internal Revenue Code is that when you owe someone money and that person forgives the debt, you are treated as having received income equal to the amount of forgiven debt.  This type of income is called "cancellation of indebtedness (COD) income".

While there are several exclusions that could potentially protect taxpayers from having to recognize COD income, one of the most popular was the mortgage debt forgiveness exclusion for individuals who had debt forgiven on their principal residence.  Unfortunately, this exclusion expired at the end of 2013.

As always, please leave your feedback in the comments section below.

2014 Tax Changes: Goodbye IRA Charitable Rollovers

Editor's Note: The IRA Charitable Rollover was extended retroactively for the 2014 tax year on December 19, 2014, but has expired again as of January 1, 2015.

There are less than 2 months left in 2014, and if you are going to minimize your income tax liability you need to understand what changes were made in the tax law.

In this series, 2014 Tax Changes, I will give you an overview of the changes in the tax law that may affect you.  If you haven't already, feel free to read the first post in this series, Individual Mandate, discussing the Affordable Care Act's individual mandate that is now in effect, or the second post, Pease Limitation, discussing how your itemized deductions are being limited.

Goodbye IRA Charitable Rollovers

Through 2013, seniors who would otherwise have to take a "minimum required distribution" from their IRA and report that amount as income could instead rollover up to $100,000 to a charitable organization of their choice.

I am sure you are wondering why this was a tax benefit.  As you may already know, when you make a charitable contribution you are allowed to deduct the contribution as an itemized deduction.  Wouldn't this mean that the $100,000 of income from the minimum required distribution would, effectively, be netted against the charitable contribution itemized deduction so that there would not be any net increase in taxes?  Well, sometimes, but not always.

You have to remember that there are limits on the amount of charitable contributions that you are allowed to take.

First, you may only deduct, as a charitable contribution, up to 50% of your adjusted gross income.  That means if your only income is the minimum required distribution, then even if you give 100% of the distribution to your favorite charity you are only allowed to take up to half of that amount as a charitable deduction.  Yes, you will carry forward the excess contributions to the next year, but if your only income is from the IRA minimum required distributions and you are donating 100% of it to charity every year then you will never be able to take full advantage of the charitable deduction.

The second limitation is that not every senior takes itemized deductions.  I was using $100,000 as an example of the amount that may be distributed as part of an IRA's minimum required distribution, but in most cases this amount will be much less.  If, for example, a senior has $8,000 of minimum required distributions from his IRA and contributes 100% of it to a charity, then he would have $4,000 of itemized deductions.  Assuming that he did not have any other itemized deductions, despite making the charitable contribution he would not itemize his deductions and therefore would not receive any tax benefit from making the charitable contribution.

Finally, as you read about in my last post, the Pease Limitation, reduces the benefit of charitable contributions.  If you are affected by the Pease Limitation, the value of your charitable contribution deduction is limited.

The special rule that expired at the end of the 2013 eliminated these problems by ensuring that a senior that made a direct rollover of his/her IRA minimum required distributions to a qualified charitable organization would not pay any federal income taxes on the distribution because the distribution would not be recognized as income (and the contribution would not be allowed as a deduction).

Unfortunately, without this special tax rule seniors may pay more in taxes or will have to engage in different tax planning strategies.  And sadly this may also have an impact on the amount of charitable contributions made this year.

If you are interested in learning more about 2014 tax changes, please send me an e-mail.