Finance Tax Time

The tax law provides that if you rent your home for fewer than 15 days a year that the rental income is not included in your gross income (Section 280A(g)). That means that you can take a two-week vacation, rent your home while you are gone, and the rental income is not taxable. What a great way to pay for your vacation.

The tax law provides that all income is included in gross income and therefore taxable unless the item of income is specifically excluded from gross income. There are a number of these exclusions and some are commonly known such as the fact that health insurance premiums paid by your employer are excluded from your gross income. However, this exclusion for renting your home out for 14 days or fewer during the year is not as well known.

If you live near where a major sporting event, convention, or other major event is taking place, you might be able to rent your home for a large sum of money. For example, if you lived near where the Super Bowl or World Series was going to be played, you might be able to rent your home for much more than the average hotel rate in your city.

If you live in a resort area, you might be able to rent your home out during the peak tourist season when the hotels are at full occupancy. Because you may rent your home for a maximum of 14 days a year for the income to be tax free, you want to earn the highest rental rate possible.

Be sure to check with your attorney to make sure that there is no problem with zoning or other legal prohibitions for renting your home for up to 14 days a year. Local law might require that you obtain a license or collect sales or occupancy tax from the tenant. You will also want to hire a property manager to handle the rental while you are gone. You or the property manager will want to verify the tenant’s references. You will also want to obtain a reasonable security deposit.

Although the rental income is not taxable if you rent your home for 14 or fewer days during the year, you may not claim any deductions attributable to the rental activity (Section 280A(g)(1)). Thus, you may not deduct property management fees, repairs, cleaning, insurance, or depreciation attributable to the rental. You may, however, deduct the mortgage interest, real estate taxes, and any casualty or theft losses as itemized deductions just as you otherwise could.

The ability to rent your home to a tenant for up to 14 days a year and have the rent income be tax free is one of the many tax benefits that the tax law allows homeowners. If you live near a major sporting event or in a resort area, this rule allows you to generate significant tax-free income each year while enjoying a nice vacation. Just be sure that the tenant understands that 14 days is the maximum term of occupancy. If you rent the home for a total of 15 or more days during the year, all of the rent income is taxable.

Alan D. Campbell is a CPA in Arkansas and Florida and is self-employed primarily as an author of tax publications. He earned a Ph.D. in accounting with an emphasis in taxation from the University of North Texas. He is also admitted to practice before the United States Tax Court. He has published numerous articles on tax topics in professional journals. He is the co-author of the book Tax Strategies for the Self-Employed and the revision editor of CCH Financial and Estate Planning Guide, 15th edition. For more tax savings strategies, please see his blog: http://taxsavingsstrategies.blogspot.com

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Churches often provide ministers of the gospel with the free use of a home, which is often called a parsonage. The value of the parsonage is not subject to income tax up to the rental value of the home. The value of the parsonage is subject to self-employment tax.

Alternatively, a church may provide a minister with a cash housing allowance as a part of the minister’s compensation. Such a housing allowance, up to the fair rental value of the house and associated furnishings, is not subject to income tax. In addition, money the minister receives from the church for utilities is not subject to income tax. However, the minister’s housing allowance is subject to self-employment tax.

Who is a minister for the purpose of this exclusion? While determining who is a bona fide minister for this purpose dependsd on the facts and circumstances, a minister is usually an individual who conducts worship services, serves as a church administrator, or teaches at a religious school or seminary.

Although a taxpayer usually cannot deduct expenses incurred in connection with the production of tax-free income, a minister may deduct mortgage interest and real estate taxes for income tax purposes on a home the minister owns. The law allows the minister these deductions even though the housing allowance is not subject to income tax.

If the minister owns and lives in the home as the minister’s primary residence for two or more years out of the last five years, and then sells it, the minister may use the exclusion of the gain on the sale of the home up to $250,000 if single or up to $500,000 if married.

A minister receives all the benefits of owning a home that any other homeowner receives. The ability to avoid income tax on a housing allowance adds to the benefits of owning a home for a minister. Therefore, a minister should generally prefer to own a home rather than receive the free use of a home owned by the church.

The exclusion from gross income of a housing allowance for a minister is a generous provision of Section 107 of the Internal Revenue Code. The tax benefits allowed to a minister are magnified with the ability to deduct mortgage interest and real estate taxes and exclude up to $250,000 ($500,000 if married) of the gain on the sale of the home. Ministers of the gospel should take advantage of these provisions so that they can minimize what they must render unto Caesar.

Alan D. Campbell is a CPA in Arkansas and Florida and is self-employed primarily as an author of tax publications. He earned a Ph.D. in accounting with an emphasis in taxation from the University of North Texas. He is also admitted to practice before the United States Tax Court. He has published numerous articles on tax topics in professional journals. He is the co-author of the book Tax Strategies for the Self-Employed and the revision editor of CCH Financial and Estate Planning Guide, 15th edition. For more tax savings strategies, please see his blog: http://taxsavingsstrategies.blogspot.com

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When a single taxpayer sells his or her principal residence that he or she has owned and used as a principal residence for at least two of the previous five years, the taxpayer may exclude up to $250,000 of the gain from gross income. A married couple who meets the conditions may exclude up to $500,000 of gain.

This means that the gain is never taxed. The taxpayer does not have to purchase a new home for the exclusion to apply. However, if the taxpayer has ever used the home or any part of it for business purposes, the taxpayer must pay taxes on the gain due to depreciation recapture.

While many people are aware of this exclusion provision contained in Section 121 of the Internal Revenue Code, few people have thought about how to use it as a strategic wealth-building tool. The way to use it as a wealth building tool is to buy a home below market value, such as a foreclosure or probate property, sell the home a little over two years later, and then repeat the process.

Another way to use this provision to its maximum is to act as one’s general contractor and build a home. Individuals who act as their own general contractors can often build a home for 80 percent or less of its value. There are books available that explain how to do so.

The advantage of buying a home below market value or building a home is that the taxpayer has a gain from the beginning. If the property appreciates more from the date of purchase or completion of construction, that is even better. The exclusion applies not only to the appreciation from the date of purchase or completion of construction, but it also applies to the gain from buying or building below value.

While moving is a chore, by moving every two to three years, a taxpayer can realize substantial gains that are free from federal income tax and Social Security tax. “Keep moving” is not only a good slogan for physical fitness, it also can be good for fiscal fitness.

If a taxpayer has some extra cash left over after selling a home and buying another one, the taxpayer can place money into a Roth IRA up to the maximum amount allowed if the taxpayer is eligible to do so. Doing so allows the taxpayer to generate even more tax-free income.

For many taxpayers, tax deductions are becoming less valuable because of the alternative minimum tax (AMT). The gain on the sale of a principal residence that is excluded from gross income is not subject to the AMT. Taxpayers should use this generous tax provision to build wealth and minimize their tax obligations. The ability to exclude the gain on the sale of a principal residence is a great tax savings strategy.

Alan D. Campbell is a CPA in Arkansas and Florida and is self-employed primarily as an author of tax publications. He earned a Ph.D. in accounting with an emphasis in taxation from the University of North Texas. He is also admitted to practice before the United States Tax Court. He has published numerous articles on tax topics in professional journals. He is the co-author of the book Tax Strategies for the Self-Employed and the revision editor of CCH Financial and Estate Planning Guide, 15th edition. For more tax savings strategies, please see his blog: http://taxsavingsstrategies.blogspot.com

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