Test Return #3

[Bees Knees]

Big Bob's advertises "Plus, we have four-day-old carpet that has only been used at conventions and trade shows."

You can have credit for a correct answer if you missed the special depreciation allowance ONLY IF you assumed it was used carpet. If you missed the special depreciation allowance because you forgot about the option, then you cannot get credit for a correct answer.

[Snaggletoof]

Cost-Effective Preparation

Since it is to the taxpayer's advantage to allocate the interest this way, the IRS is not going to care or make an issue out of it if you split the interest in half. In reality, in most cases it makes little difference in tax. In reality, I would charge the client much more to calculate the interest this way each year than any tax savings that would result. Thus, I have never bothered making this special allocation of interest for my own clients. Thus, in reality, $5,662 is the realistic answer when you factor in tax preparation fees as I'm sure most of us would charge more than $13 extra to calculate interest under this method.

Interesting note on this one, Bees. We would all charge more than $13 because getting a monthly statement is often hard to get. However, if I understand TTB example correctly, the benefit grows and grows over the course of the loan. The business portion of the interest deduction does not diminish until the total loan principle is half-paid. I think I would go to the trouble because the tax benefit becomes more substantial in later years.
Incidentally, I'll plead to not even knowing about this subtle twist until I saw the example in TTB last night, and you can bet I'll be using it. To do so, however, I'll need an amortization statement at the very front end of the loan...

[Bees Knees]

However, if I understand TTB example correctly, the benefit grows and grows over the course of the loan. The business portion of the interest deduction does not diminish until the total loan principle is half-paid. I think I would go to the trouble because the tax benefit becomes more substantial in later years.

True, but that is after years and years of charging extra to do all those extra calculations on a benefit that is small. Keep in mind too that it will make no difference if there is no AGI issues involved with your client, such as unreimbursed medical expenses and miscellaneous itemized deductions.

[Bees Knees]

Where it might make more of a difference is when it also can reduce SE taxes, such as a Schedule C deducting office in home interest.

[Larmil]

Interesting note on this one, Bees. We would all charge more than $13 because getting a monthly statement is often hard to get. However, if I understand TTB example correctly, the benefit grows and grows over the course of the loan. The business portion of the interest deduction does not diminish until the total loan principle is half-paid. I think I would go to the trouble because the tax benefit becomes more substantial in later years.
Incidentally, I'll plead to not even knowing about this subtle twist until I saw the example in TTB last night, and you can bet I'll be using it. To do so, however, I'll need an amortization statement at the very front end of the loan...

I, too was not aware of this twist. I probably will not use it often but since I am aware of it I will keep it in mind. Sometimes AGI will affect more than the Sched A subtractions. And then there is SE tax on office in home. And there are possible implication on state taxes depending on the state.

[Corduroy Frog]

Non-Itemizers

Quote: Where it might make more of a difference is when it also can reduce SE taxes, such as a Schedule C deducting office in home interest. Quote.

...or in cases where the taxpayer cannot itemize. The Schedule E (if active)(C,F) interest is guaranteed deductible whereas the personal interest falls off the cliff.

Case in point, your guy Bart. In your example, if he's married, he can't even itemize.

[Brian EA]

Refund = $5,675

Depreciation deductible for 2008 on Schedule E = $2,915. Depreciation comes from two assets: 50% of the building and 100% of the new carpeting for the rental unit. The building depreciation = $1,955 [50% of (192,000 minus $20,000 for land) = $86,000 x 2.273%]. The carpeting depreciation = $960 [($1,599 x 50% special depreciation allowance = $800) + ($799 x 20% = $160)].

:Anyone care to explain why the correct answer should be a different result?

Bees, i disagree with the depreciation on the carpet. It should have been 15% instead of 20%.
Mid Quarter convention placed in service in the 3rd quarter.

[S T]

Mid Quarter

Brian, I thought you only had to use mid-quarter convention if "placed in service during the last three months (Oct-Dec) of the year was more than 40% of the total depreciable basis of all MACRS property placed in service during the entire year" (TTB 9-12)

In this example the carpet is $1599 placed in service in 8/09 which is not the last three months of the year -

I believe you can still use the half year convention. ??

Sandy

[Corduroy Frog]

Agree

Agree with Sandy. And part of the question was for the taxpayer to receive the largest possible refund for this year only, so first-year depreciation would have to be maximized.

I was bright enough to depreciate the carpet instead of expensing it, but dumb enough to use 15 years as a class life instead of only 5. Didn't read far enough...

[Bees Knees]

And part of the question was for the taxpayer to receive the largest possible refund for this year only, so first-year depreciation would have to be maximized.

Actually the half-year convention is required. It’s not an election. IRC Section 168(d)(1) says: “Except as otherwise provided in this subsection, the applicable convention is the half-year convention.”

Section 168(d)(2) says the applicable convention for nonresidential real property and residential rental property is the mid-month convention.

Section 168(d)(3) then goes on to describe the mid-quarter convention rules. The mid-quarter convention only applies when 40% of the aggregate bases of property placed in service during the year is in the last 3 months of the year.

In other words, you cannot elect to use the mid-quarter convention without meeting the 40% in the last 3 months rule.

For example, lets say Bart placed the carpeting in service during the first quarter of the year. The mid-month convention for the first quarter for 5-year property is 35%. The mid-quarter convention now gives him a larger refund than the half-year convention. However, he is still required to use the 20% half year convention because he doesn't meet the 40% in the last three months rules.

[Brian EA]

Actually the half-year convention is required. It’s not an election. IRC Section 168(d)(1) says: “Except as otherwise provided in this subsection, the applicable convention is the half-year convention.”

Section 168(d)(2) says the applicable convention for nonresidential real property and residential rental property is the mid-month convention.

Section 168(d)(3) then goes on to describe the mid-quarter convention rules. The mid-quarter convention only applies when 40% of the aggregate bases of property placed in service during the year is in the last 3 months of the year.

In other words, you cannot elect to use the mid-quarter convention without meeting the 40% in the last 3 months rule.

For example, lets say Bart placed the carpeting in service during the first quarter of the year. The mid-month convention for the first quarter for 5-year property is 35%. The mid-quarter convention now gives him a larger refund than the half-year convention. However, he is still required to use the 20% half year convention because he doesn't meet the 40% in the last three months rules.

Here is an interesting situation. For the tools ,I used 12/31 as the purchase date and the result was more than 40% for the last quarter.
The result is 15% for the carpet.
Drake software combined the two depreciation thus allowing the 15% deduction. There is no other way to get the half year convention unless I change the date to an earlier period.
Any Drake user would like to comment on this?
thanks
brian

[S T]

Not a Drake User

Brian

What happens when you change the date on the tools to 7/1/08. Generally that is what I use when I use Sect 179 for something like tools since they are purchased at different dates throughout the year - And doesn't Sect 179 take the amount out of the equation for the 40% rule in the last 3 months???

Sandy

[Brian EA]

I changed the date for the tools to 6/15 and the 20% comes up. The tools were bought at different times of the year so the last day is the most appropriate date to use. The 179 has nothing to do with it

[S T]

Review

Brian
Review the "Planning Tip" in TTB - page 9-13

Planning Tip: For purposes of establishing a mid-quarter convention, basis of property expensed under Section 179 is not taken into account. The mid-quarter convention can be avoided by claiming a Section
179 deduction on property placed in service during the last quarter of the tax year.

So if you choose to use 12/31/08 as your date for the tools and you Sect 179, unless the other properties (example carpet in Test 3) were put in Service in the last 3 months - the mid quarter convention would not apply.

Sandy

[Brian EA]

It's got to be a software problem.I have to call Drake tomorrow.
Thanks sandy. I will let you know the result after talking to them