How renting out a vacation property will affect your taxes

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Are you dreaming of buying a vacation beach home, lakefront cottage or ski chalet? Or perhaps you’re fortunate enough to already own a vacation home. In either case, you may wonder about the tax implications of renting it out for part of the year.

Count the days

The tax treatment depends on how many days it’s rented and your level of personal use. Personal use includes vacation use by your relatives (even if you charge them market rate rent) and use by nonrelatives if a market rate rent isn’t charged.

If you rent the property out for less than 15 days during the year, it’s not treated as “rental property” at all. In the right circumstances, this can produce significant tax benefits. Any rent you receive isn’t included in your income for tax purposes (no matter how substantial). On the other hand, you can only deduct property taxes and mortgage interest — no other operating costs and no depreciation. (Mortgage interest is deductible on your principal residence and one other home, subject to certain limits.)

If you rent the property out for more than 14 days, you must include the rent you receive in income. However, you can deduct part of your operating expenses and depreciation, subject to several rules. First, you must allocate your expenses between the personal use days and the rental days. For example, if the house is rented for 90 days and used personally for 30 days, then 75% of the use is rental (90 days out of 120 total days). You would allocate 75% of your maintenance, utilities, insurance, etc. costs to rental. You would allocate 75% of your depreciation allowance, interest and taxes for the property to rental as well. The personal use portion of taxes is separately deductible. The personal use portion of interest on a second home is also deductible if the personal use exceeds the greater of 14 days or 10% of the rental days. However, depreciation on the personal use portion isn’t allowed.

Income and expenses

If the rental income exceeds these allocable deductions, you report the rent and deductions to determine the amount of rental income to add to your other income. If the expenses exceed the income, you may be able to claim a rental loss. This depends on how many days you use the house personally.

Here’s the test: if you use it personally for the greater of more than 14 days, or 10% of the rental days, you’re using it “too much,” and you can’t claim a loss. In this case, you can still use your deductions to wipe out rental income, but you can’t go beyond that to create a loss. Any unused deductions are carried forward and may be usable in future years.

If you’re limited to using deductions only up to the amount of rental income, you must use the deductions allocated to the rental portion in the following order:

  • Interest and taxes,
  • Operating costs, and
  • Depreciation.

If you “pass” the personal use test (that is, you don’t use the property personally more than the greater of the figures listed above), you must still allocate your expenses between the personal and rental portions. In this case, however, if your rental deductions exceed rental income, you can claim a loss. (The loss is “passive,” however, and may be limited under the passive loss rules.)

Plan ahead for best results

As you can see, the rules are complex. Contact us if you have questions or would like to plan ahead to maximize deductions in your situation.

Important: Filing for Tax Extensions Before Original Due Dates

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As we approach the tax season, I want to ensure that you’re fully informed about the strategies we’re implementing to manage your tax filings effectively, especially considering the recent storms and flooding in January in San Diego County.

Given the IRS’s extension due to the storms and flooding in San Diego County, San Diego County taxpayers have been granted an extended filing due date of June 17, 2024, for their 2023 federal income tax returns along with the payment dues listed below.  While this extension provides some leeway, we want to take a proactive approach to ensure your tax matters are handled smoothly and without any potential issues.

  • Individual income tax returns and payments normally due on April 15, 2024.
  • 2023 contributions to IRAs and health savings accounts for eligible taxpayers.
  • 2024 estimated tax payments normally due on April 15, 2024.
  • Quarterly payroll and excise tax returns normally due on Jan. 31 and April 30, 2024.
  • Calendar-year partnership and S corporation returns normally due on March 15, 2024.
  • Calendar-year corporation and fiduciary returns and payments normally due on April 15, 2024.
  • Calendar-year tax-exempt organization returns normally due on May 15, 2024.
  • Also, penalties for failing to make payroll and excise tax deposits due on or after Jan. 21, 2024, and before Feb. 5, 2024, will be abated as long as the deposits were made by Feb. 5, 2024.

Who is affected?

This extended due date applies to taxpayers who have their address in San Diego County. However, it is possible an affected taxpayer may not have an IRS address of record located in the disaster area, for example, because they moved to the disaster area after filing their return. In these kinds of unique circumstances, the affected taxpayer could receive a late filing or late payment penalty notice from the IRS for the postponement period. The taxpayer should call the number on the notice to have the penalty abated.

In addition, the IRS will work with any taxpayer who lives outside the disaster area but whose records necessary to meet a deadline occurring during the postponement period are located in the affected area. Taxpayers qualifying for relief who live outside the disaster area need to contact the IRS at 866-562-5227. This also includes workers assisting the relief activities who are affiliated with a recognized government or philanthropic organization.

Filing Extensions by the Original Due Dates:

To provide you with the utmost certainty and to avoid any unnecessary complications, we are planning to file extensions by the original due dates for your tax returns. This approach guarantees that your extended filing date will be either September 15, 2024, or October 15, 2024, depending on your entity type and personal return requirements.

Why We’re Taking This Step:

Relying solely on the extended due date of June 17, 2024, poses a risk. Should there be a need to seek an extension beyond this date and it is not filed by March 15, 2024 or April 15, 2024, most of the cases, we would be required to file the extension request on paper. This not only introduces potential delays but also additional hassle for both you and our team.

The most prudent action is to file electronically by the original due dates to ensure a hassle-free process. This preemptive measure avoids the complexities of paper filing and ensures everything is in order for your 2023 tax filings.

Reminder About Extensions and Payments:

It’s important to remember that while an extension grants additional time to file, it does not extend the time to pay any taxes owed. The IRS urges those who need an extension beyond the initial extended due date to request it electronically by March 15, 2024, and April 15, 2024, to avoid needing paper filing. Please note that any payments due are still required by June 17, 2024. For more information, you can visit www.IRS.gov/extensions.

Our team is here to assist you through this process and to ensure that your tax filing experience is as smooth and efficient as possible. Our team has been sending the extension reminder along with any payment vouchers if required. We believe that taking these steps now will provide you with peace of mind and a clear path forward in managing your tax obligations.

Should you have any questions or require further clarification, please do not hesitate to reach out. Your peace of mind and financial well-being are our top priorities, and we are here to support you every step of the way.

Stay Safe and Informed During Southern CA Winter Storms

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Dear Valued Clients and Colleagues,

I hope you’re doing well and staying dry amidst the severe winter storms sweeping through Southern California. We understand that these weather conditions can bring unexpected challenges, not least of which may include delays or difficulties in gathering necessary tax documents.

Please know that during this turbulent time, our primary concern is for the safety and well-being of our clients. We recognize that the storms may impact your ability to meet certain deadlines or gather documents required for tax preparation. We want to assure you that we are here to assist and support you through these challenges.

Should you find yourself in need of additional time, have questions regarding your tax preparation or services, or if there are any specific issues you’re facing due to the weather, please feel free to reach out to us. Our team is prepared to offer the flexibility and support needed to navigate this period, including extending deadlines where possible or assisting in document retrieval and tax filing procedures.

Furthermore, if you have any immediate concerns or questions, whether tax-related or pertaining to how the storms might affect your financial planning, our lines are open. We’re committed to providing the guidance and assistance you require to manage your tax obligations and ensure your financial well-being during such challenging times.

Your safety is important to us, so please take all necessary precautions to protect yourself and your loved ones during the storms. We look forward to continuing to serve you and are ready to help in any way we can.

Stay safe and take care!!

Betty Kim, CPA

Managing Partner

Tax Return Red Flags for Schedule C Filers

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In the complex landscape of business taxes, Schedule C expenses and entity optimization hold significant weight. Proper documentation and reconciliation, guided by a trusted accounting professional, are more than just best practices – they are vital for audit prevention and ensuring a successful financial trajectory.

Why Is This So Important?

  1. Audit Triggers for Schedule C Filers: The IRS closely examines Schedule C filers to ensure the accuracy of reported income and deductions.

Specific scenarios increase the likelihood of triggering an audit:

  • Income exceeding $100,000
  • Taking disproportionately large deductions to offset income
  • Multiple-year hobby loss write-offs
  • Claiming 100% business use of a vehicle
  • Large deductions for meals, travel, and entertainment
  • Home office deductions
  • Claiming rental losses
  • Opting for the Research and Development Credit
  • Receipt of significant cash income (especially without filing Form 8300 for amounts over $10,000)
  1. Entity Optimization: Choosing the right business entity affects your liability and how much you pay in taxes. For instance, an LLC might benefit a sole proprietor more than remaining a Schedule C filer. Making the right decision in entity selection can lead to tax savings.

The Role of Accounting Professionals

  1. Documentation: Accurate and timely documentation of expenses ensures that you take advantage of all legitimate deductions, reducing the chance of errors that might trigger an audit.
  2. Reconciliation: Regular reconciliation of business accounts helps in early detection of discrepancies, ensuring that income and expenses align with bank and credit card statements.
  3. Guidance: Professionals can offer advice on structuring your business, potential deductions, and best practices to remain compliant with IRS regulations.
  4. Audit Support: In the unlikely event of an audit, having a professional by your side provides a sense of security. They can guide you through the process, answer questions, and ensure all paperwork is in order.

Proper handling of Schedule C expenses and entity optimization is not just about keeping the IRS at bay; it’s about ensuring that your business is on a secure and profitable path. Leveraging the expertise of an accounting professional can be a game-changer for your business’s financial health and success.

Stay informed, stay compliant, and remember – we’re here to help.

Important Update: IRS Focus on High-Net-Worth Individuals and Pass-Throughs

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We wanted to bring your attention to a recent development that may be of interest to you as a high-net-worth individual or a pass-through entity.

The IRS has shifted its focus towards high-net-worth individuals and pass-through entities, aiming to enhance compliance and enforcement in this area. This change in focus may have implications for your tax planning and financial strategies.

I want to inform you that I currently have an ongoing audit case with the IRS concerning high-net-worth individuals and pass-through entities. Through this experience, I’ve observed that the IRS is still in the process of fine-tuning their approach to auditing these cases. Their primary focus continues to be on small businesses and Schedule C filers, particularly concerning tax compliance and deductions categories.

For those of you who operate Schedule C businesses, this could be an opportune time to consider revisiting your business structure. Making informed choices about your business structure can help you navigate these evolving IRS priorities and ensure compliance while optimizing your tax position.

To gain a deeper understanding of the IRS’s new focus and its potential implications, we encourage you to read the recent IRS announcement available on the following link.

IR-2023-176

As always, we are here to assist you in navigating any changes or challenges that may arise as a result of this shift in IRS priorities. Please feel free to reach out to us if you have any questions or concerns or if you would like to discuss how this development might affect your specific financial circumstances.

We remain committed to providing you with expert guidance and support to help you achieve your financial goals and maintain compliance with tax regulations.

Thank you for entrusting us with your financial needs, and we look forward to assisting you further.

Important IRS Enforcement Update – Let’s stay compliant together!

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September is off to a strong start for us and as usual, we are staying busy with the upcoming tax deadline!

We wanted to bring to your attention a recent announcement from the IRS regarding their updated enforcement priorities. This information is crucial for all taxpayers, and we’re here to assist you in navigating these changes.

The IRS has outlined a “sweeping” shift in their enforcement focus, which includes the following key areas:

  1. Increased Audits: High-net worth taxpayers, large partnerships, and those with suspected nonreporting foreign bank accounts can expect heightened audit scrutiny.
  2. Aggressive Collection: The IRS is stepping up collection efforts against high-income individuals who owe tax debts.
  3. Artificial Intelligence: The use of Artificial Intelligence (AI) will play a significant role in detecting non-compliance.
  4. Digital Asset Reporting: The IRS continues to focus on digital asset reporting non-compliance, making it vital for those involved in the digital asset space to stay compliant.
  5. 1099 Fraud: The construction sector is under increased scrutiny for 1099 fraud, emphasizing the importance of accurate reporting.
  6. FBAR Violations: The IRS will continue to scrutinize Foreign Bank and Financial Accounts (FBAR) violations.

You can read the full IRS News Release here: IRS News Release Link.

In light of these changes, we strongly recommend that you work closely with us to ensure your tax compliance and reporting are up to date. Our team is well-equipped to help you navigate these evolving tax landscapes, and we’re here to provide guidance, answer questions, and assist you in staying compliant.

Our commitment to you is to make this process as smooth and stress-free as possible. Should you have any concerns or questions about your tax situation, please do not hesitate to reach out to us. We are here to support you and ensure that you remain in good standing with the IRS.

Thank you for entrusting us with your tax and financial needs. We look forward to working together to ensure your continued compliance and financial success.

Questions you may still have after filing your tax return

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If you’ve successfully filed your 2022 tax return with the IRS, you may think you’re done with taxes for another year. But some questions may still crop up about the return. Here are brief answers to three questions that we’re frequently asked at this time of year.

When will your refund arrive?

The IRS has an online tool that can tell you the status of your refund. Go to irs.gov and click on “Get Your Refund Status.” You’ll need your Social Security number, filing status and the exact refund amount.

Which tax records can you throw away now?

At a minimum, keep tax records related to your return for as long as the IRS can audit your return or assess additional taxes. In general, the statute of limitations is three years after you file your return. So you can generally get rid of most records related to tax returns for 2019 and earlier years. (If you filed an extension for your 2019 return, hold on to your records until at least three years from when you filed the extended return.)

However, the statute of limitations extends to six years for taxpayers who understate their gross income by more than 25%.

You should hang on to certain tax-related records longer. For example, keep the actual tax returns indefinitely, so you can prove to the IRS that you filed legitimate returns. (There’s no statute of limitations for an audit if you didn’t file a return or you filed a fraudulent one.)

When it comes to retirement accounts, keep records associated with them until you’ve depleted the account and reported the last withdrawal on your tax return, plus three (or six) years. And retain records related to real estate or investments for as long as you own the asset, plus at least three years after you sell it and report the sale on your tax return. (You can keep these records for six years if you want to be extra safe.)

Can you still collect a refund for a tax credit or deduction if you overlooked claiming it?

In general, you can file an amended tax return and claim a refund within three years after the date you filed your original return or within two years of the date you paid the tax, whichever is later.

However, there are a few opportunities when you have longer to file an amended return. For example, the statute of limitations for bad debts is longer than the usual three-year time limit for most items on your tax return. In general, you can amend your tax return to claim a bad debt for seven years from the due date of the tax return for the year that the debt became worthless.

Help available all year long

Contact us if you have questions about retaining tax records, receiving your refund or filing an amended return. We’re not just here at tax filing time. We’re here all year long.

Tax news for investors and users of cryptocurrency

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If you’re a crypto investor or user, you may have noticed something new on your tax return this year. And you may soon notice a new form reporting requirements for digital assets.

Check the box

Beginning with tax year 2022, taxpayers must check a box on their tax returns indicating whether they received digital assets as a reward, award or payment for property or services or whether they disposed of any digital assets that were held as capital assets through sales, exchanges or transfers. If the “yes” box is checked, taxpayers must report all income related to the digital asset transactions.

New information form

Under the broker information reporting rules, brokers must report transactions in securities to both the IRS and investors. Transactions are reported on Form 1099-B. Legislation enacted in 2021 extended these reporting rules to cryptocurrency exchanges, custodians and platforms and to digital assets such as cryptocurrency. The new rules were scheduled to be effective for returns required to be filed, and statements required to be furnished, for post-2022 transactions. But the IRS has postponed the effective date until it issues new final regulations that provide instructions.

In addition to extending this reporting requirement to cryptocurrency, the legislation also extended existing cash reporting rules (for cash payments of $10,000 or more) to cryptocurrency. That means businesses that accept crypto payments of $10,000 or more must report them to the IRS on Form 8300. These rules apply to transactions that take place in 2023 and later years.

Existing rules and new reporting for digital assets

Currently, if you have a stock account, whenever you sell securities, you receive a Form 1099-B. On the form, your broker reports details of transactions, such as sale proceeds, relevant dates, your tax basis for the sale and the gain or loss.

The 2021 legislation expanded the definition of “brokers” who must furnish Forms 1099-B to include businesses that regularly provide services accomplishing transfers of digital assets on behalf of another person. Thus, once the IRS issues final regulations, any platform where you buy and sell cryptocurrency will have to report digital asset transactions to you and the IRS.

These exchanges/platforms will have to gather information from customers, so they can issue Forms 1099-B. Specifically, they will have to get customers’ names, addresses and phone numbers, the gross proceeds from sales, capital gains or losses and whether they were short-term or long-term.

Note: It’s not yet known whether exchanges/platforms will have to file Form 1099-B (modified to include digital assets) or a new IRS form.

Cash transaction reporting

Under a set of rules separate from the broker reporting rules, when a business receives $10,000 or more in cash, it must report the transaction to the IRS, including the identity of the person from whom the cash was received. This is done on Form 8300. For this reporting requirement, businesses will have to treat digital assets like cash.

Form 8300 requires reporting information including address, occupation and taxpayer identification number. The current rules that apply to cash usually apply to in-person payments in actual cash. It may be difficult for businesses seeking to comply with the reporting rules to collect the information needed for crypto transactions.

What you should know

If you use a cryptocurrency exchange or platform, and it hasn’t already collected a Form W-9 from you, expect it to do so. In addition to collecting information from customers, these businesses will need to begin tracking the holding periods and the buy-and-sell prices of digital assets in customers’ accounts. Contact us for more information in your situation.

The 2022 gift tax return deadline is coming up soon – April 18

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Did you make large gifts to your children, grandchildren or other heirs last year? If so, it’s important to determine whether you’re required to file a 2022 gift tax return. And in some cases, even if it’s not required to file one, you may want to do so anyway.

Filing requirements

The annual gift tax exclusion has increased in 2023 to $17,000 but was $16,000 for 2022. Generally, you must file a gift tax return for 2022 if, during the tax year, you made gifts:

  • That exceeded the $16,000-per-recipient gift tax annual exclusion for 2022 (other than to your U.S. citizen spouse),
  • That you wish to split with your spouse to take advantage of your combined $32,000 annual exclusion for 2022,
  • That exceeded the $164,000 annual exclusion in 2022 for gifts to a noncitizen spouse,
  • To a Section 529 college savings plan and wish to accelerate up to five years’ worth of annual exclusions ($80,000) into 2022,
  • Of future interests — such as remainder interests in a trust — regardless of the amount, or
  • Of jointly held or community property.

Keep in mind that you’ll owe gift tax only to the extent that an exclusion doesn’t apply and you’ve used up your lifetime gift and estate tax exemption ($12.06 million in 2022). As you can see, some transfers require a return even if you don’t owe tax.

You might want to file anyway

No gift tax return is required if your gifts for 2022 consisted solely of gifts that are tax-free because they qualify as:

  • Annual exclusion gifts,
  • Present interest gifts to a U.S. citizen spouse,
  • Educational or medical expenses paid directly to a school or health care provider, or
  • Political or charitable contributions.

But if you transferred hard-to-value property, such as artwork or interests in a family-owned business, you should consider filing a gift tax return even if you’re not required to. Adequate disclosure of the transfer in a return triggers the statute of limitations, generally preventing the IRS from challenging your valuation more than three years after you file.

The deadline is April 18

The gift tax return deadline is the same as the income tax filing deadline. For 2022 returns, it’s April 18, 2023 — or October 16, 2023, if you file for an extension. But keep in mind that, if you owe gift tax, the payment deadline is April 18, regardless of whether you file for an extension. If you’re not sure whether you must (or should) file a 2022 gift tax return, contact us.

[Important] 2022 Tax Information Letter to Clients

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Happy 2023!

We hope that you and your family are doing well.

We will be ready to send our 2022 Tax Organizer sometime next week and we want to send this email with a few important information to note for you to stay up to date and ready for this filing season upon us.

It’s been an interesting year with significant tax updates that will impact you. Here are some of the changes and issues you need to know about.

Tax return due dates:

  • Individuals must file returns by April 18, 2023, for the 2022 tax year;
  • Partnerships must file returns by the 15th day of the third month following the close of the taxable year (March 15 for calendar-year taxpayers);
  • C corporation returns are generally due by the 15th day of the fourth month following the close of the taxable year (April 15 for calendar-year taxpayers);
  • S corporation returns will remain due by the 15th day of the third month of the taxable year (March 15 for calendar-year taxpayers); and
  • W-2s and 1099s must be filed by January 31, 2023, for the 2022 tax year.

Inflation Reduction Act: The Inflation Reduction Act was passed into law late last summer and contained numerous green energy credit provisions, including extended credits for clean energy vehicles (new and used) and energy-efficient home improvements. However, there are many more limitations for these credits, including income limitations and manufacturer’s suggested retail price (MSRP) limitations in the case of the Clean Vehicle Credit.

Be sure to consult our office before making any purchase where a salesperson asserts that you are eligible for a tax credit. It’s very possible that your individual income tax situation, of which the salesperson has no knowledge, will limit your credit.

Please provide us with receipts and purchase contracts for energy efficient home improvements made during 2022, such as new windows, doors, and skylights. If you aren’t sure if a home improvement you made qualifies for the credit, please ask.

Affordable Care Act: The IRS has issued new regulations that may allow more taxpayer to claim subsidies for purchasing health insurance through a state insurance exchange. These subsidies are also known as the Premium Tax Credit.

If you, as an employee, must pay any portion of your health insurance premiums or the health insurance premiums of your family members as payroll deductions, then we should discuss your options for purchasing health insurance through an exchange and whether you are eligible to claim the Premium Tax Credit for doing so.

Large inflation adjustments: Inflation was at its highest point in decades in 2022, which resulted in large inflation adjustments for the 2023 tax year for tax rate brackets, deductions, annual gift tax limitations, Social Security benefits, and retirement contribution limitations, just to name a few.

Be sure to provide your tax information to us as early as possible so that we can determine what effects these large inflation adjustments may have for you as we plan ahead for the remainder of 2023.

Property transactions: Did you sell any real estate this year? Be sure to provide copies of escrow statements, as well as the Loan Estimate form, the Closing Disclosure form, and California Form 593, Real Estate Withholding Tax Statement. We need these documents to properly prepare your return. If you can get them to us as early as possible, we can make sure we have everything we need, and make sure that any state withholding documentation is correct.

1099s and K-1s: If you received 1099s or K-1s from investments in 2022, we may extend your return in case these documents are corrected after the original filing deadline. We are seeing increasing numbers of corrected information returns, which require taxpayers to amend their original tax returns to reflect the corrected amounts. In some cases, the amounts are vastly different and can create additional costs in amending the tax returns and potential penalty problems.

1099-Ks: The filing threshold for 1099-Ks has dropped to $600 for 2022. If you receive income through a third-party settlement provider (such as a credit card company or even a mobile phone app like Venmo or Apple Pay, among many others) then you may receive a 1099-K for that income even if you haven’t in the past.

Be sure to provide a copy of any 1099-Ks you receive and let’s discuss the source of the income. In the case of mobile phone payment apps, if you designated your account as a business account, but receive payments for non-business items, then you may receive a 1099-K for income that should not be taxable to you. Do not ignore the 1099-K. The IRS will expect you to report the income. If the income was not received in exchange for goods and services then we can report the 1099-K in a way that ensures you are not taxed on it.

Foreign accounts: We must report overseas assets owned by businesses as well as individuals. The reporting requirements are increasing and the penalties for failure to report continue to be harsh. Not all foreign holdings must be reported. If, for example, you hold stock in a foreign company through a U.S. broker, those holdings do not have to be separately reported. However, if you hold any other types of foreign assets, including bank accounts and securities accounts, please let us know. If you have any doubt as to whether any of your assets are foreign, please discuss those assets with us. Again, this year we will need information on a business’ foreign holdings as well.

Please take extra care in preparing your organizer and documentation so we can do the best possible job to find new tax benefits that are hidden in the law and protect you from more aggressive audit programs and larger penalties.

We are indeed excited about working with you this year and please do not hesitate to contact us.

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