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Principles of California Real Estate

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					  Principles of California
        Real Estate


      Lesson 13:
Federal Income Taxation
    and Real Estate
      Basic Taxation Concepts
               Progressive tax
 Progressive tax: Someone with a higher
 income is taxed at a higher rate. He pays not
 only more money in taxes, but also a higher
 percentage of his income in taxes.
 Federal income tax is a progressive tax.
      Basic Taxation Concepts
               Progressive tax
 Progressive tax: Someone with a higher
 income is taxed at a higher rate. He pays not
 only more money in taxes, but also a higher
 percentage of his income in taxes.
 Federal income tax is a progressive tax.

 Compare:
  Proportional tax: All income levels taxed at
   same rate.
      Basic Taxation Concepts
               Progressive tax
 Progressive tax: Someone with a higher
 income is taxed at a higher rate. He pays not
 only more money in taxes, but also a higher
 percentage of his income in taxes.
 Federal income tax is a progressive tax.

 Compare:
  Proportional tax: All income levels taxed at
   same rate.
  Regressive tax: Higher income levels taxed
   at lower rate than lower income levels.
     Basic Taxation Concepts
                 Tax brackets
 Tax rates increase in uneven steps called
 tax brackets.
     Basic Taxation Concepts
                 Tax brackets
 Tax rates increase in uneven steps called
 tax brackets.

 An additional dollar earned may be taxed at a
 higher rate than the dollars earned before it,
 but that won’t increase the tax paid on dollars
 previously earned.
     Basic Taxation Concepts
                  Income
 For taxation purposes, income includes
 more than just salary or wages.

 Income is any economic benefit realized
 by a taxpayer.
    Basic Taxation Concepts
      Deductions vs. tax credits
Deductions: Certain expenses may be
subtracted from income before it is taxed.
 Example: mortgage interest deduction
    Basic Taxation Concepts
      Deductions vs. tax credits
Deductions: Certain expenses may be
subtracted from income before it is taxed.
 Example: mortgage interest deduction

Tax credits: Credits are subtracted directly
from the amount of tax owed.

 A tax credit represents a greater savings
  than a tax deduction of the same dollar
  amount.
      Basic Taxation Concepts
             Gains and losses
 A gain results when someone sells an asset
 for more than she invested in it.
      Basic Taxation Concepts
             Gains and losses
 A gain results when someone sells an asset
 for more than she invested in it.

 Any gain is taxable income,
 unless the tax code makes a specific
 exception for that type of gain.
      Basic Taxation Concepts
              Gains and losses
 If property is sold for a loss, the loss is
  usually not deductible.
      Basic Taxation Concepts
              Gains and losses
 If property is sold for a loss, the loss is
  usually not deductible.

 The only losses an individual may deduct are
  those connected with:
      Basic Taxation Concepts
              Gains and losses
 If property is sold for a loss, the loss is
  usually not deductible.

 The only losses an individual may deduct are
  those connected with:
    the taxpayer’s trade or business
      Basic Taxation Concepts
              Gains and losses
 If property is sold for a loss, the loss is
  usually not deductible.

 The only losses an individual may deduct are
  those connected with:
    the taxpayer’s trade or business
    a transaction entered into for profit
      Basic Taxation Concepts
              Gains and losses
 If property is sold for a loss, the loss is
  usually not deductible.

 The only losses an individual may deduct are
  those connected with:
    the taxpayer’s trade or business
    a transaction entered into for profit
    theft or casualty loss of the taxpayer’s
     property.
    Basic Taxation Concepts
       Capital gains and losses
Capital gain or loss: A gain or loss that results
from the sale of a capital asset.
    Basic Taxation Concepts
       Capital gains and losses
Capital gain or loss: A gain or loss that results
from the sale of a capital asset.
  Capital asset is property held for:
     personal use, or
     investment purposes
    Basic Taxation Concepts
       Capital gains and losses
Capital gain or loss: A gain or loss that results
from the sale of a capital asset.
  Capital asset is property held for:
     personal use, or
     investment purposes
 Capital gains are taxed at a lower rate
  than ordinary income.
 Capital losses also receive special tax
  treatment.
     Basic Taxation Concepts
        Capital gains and losses
 Even though a loss on a home or other
 property held for personal use is a capital
 loss, it isn’t deductible.
      Basic Taxation Concepts
        Capital gains and losses
 Even though a loss on a home or other
 property held for personal use is a capital
 loss, it isn’t deductible.

 Capital losses on property held for investment
 purposes are deductible.
      Basic Taxation Concepts
        Capital gains and losses
 Deductible capital losses are subtracted from
 capital gains, resulting in a net gain or loss.

 Net loss may be deducted.
      Basic Taxation Concepts
        Capital gains and losses
 Deductible capital losses are subtracted from
 capital gains, resulting in a net gain or loss.

 Net loss may be deducted.
   But no more than $3,000 in net capital
    losses may be deducted in a single year.
   Net losses in excess of limit may be carried
    forward and deducted in future years.
    Basic Taxation Concepts
                  Basis
Basis: A property owner’s investment in the
property.
                  Basis
               Initial basis
Initial basis: Original cost of acquisition.
  How much the owner paid to acquire the
   property.
  Also called cost basis or unadjusted basis.
                    Basis
               Adjusted basis
 IRS will use adjusted basis to calculate
 capital gain or loss when the property is sold.
                     Basis
                Adjusted basis
 IRS will use adjusted basis to calculate
 capital gain or loss when the property is sold.

 To calculate adjusted basis:
   start with initial basis
                    Basis
               Adjusted basis
 IRS will use adjusted basis to calculate
 capital gain or loss when the property is sold.

 To calculate adjusted basis:
   start with initial basis
   add capital expenditures
                    Basis
               Adjusted basis
 IRS will use adjusted basis to calculate
 capital gain or loss when the property is sold.

 To calculate adjusted basis:
   start with initial basis
   add capital expenditures
   subtract allowable depreciation deductions
          Adjusted Basis
         Capital expenditures
Capital expenditures: Expenditures that add
to a property’s value or extend its life.
  Examples: remodeling; new roof
           Adjusted Basis
         Capital expenditures
Capital expenditures: Expenditures that add
to a property’s value or extend its life.
  Examples: remodeling; new roof

Maintenance expenses are not capital
expenditures.
  Examples: painting; fixing leaky plumbing
       Basic Taxation Concepts
                   Realization
 Income isn’t taxed until it is realized.
 A gain is realized when the owner sells or
  exchanges the property.
       Basic Taxation Concepts
                   Realization
 Income isn’t taxed until it is realized.
 A gain is realized when the owner sells or
  exchanges the property.

 Amount realized is all benefits received by the
  seller, including:
    cash
       Basic Taxation Concepts
                   Realization
 Income isn’t taxed until it is realized.
 A gain is realized when the owner sells or
  exchanges the property.

 Amount realized is all benefits received by the
  seller, including:
    cash
    property the seller received in exchange
       Basic Taxation Concepts
                   Realization
 Income isn’t taxed until it is realized.
 A gain is realized when the owner sells or
  exchanges the property.

 Amount realized is all benefits received by the
  seller, including:
    cash
    property the seller received in exchange
    debt the buyer is assuming from the seller
     Basic Taxation Concepts
                Realization

 Selling expenses are subtracted from sales
 price in calculating the amount realized.
   Example: broker’s commission
      Basic Taxation Concepts
                Recognition
 Taxes must be paid on a gain in the year in
 which it is recognized.
      Basic Taxation Concepts
                Recognition
 Taxes must be paid on a gain in the year in
 which it is recognized.
  Usually, a gain is recognized in the same
   year it is realized.
      Basic Taxation Concepts
                Recognition
 Taxes must be paid on a gain in the year in
 which it is recognized.
  Usually, a gain is recognized in the same
   year it is realized.
   Nonrecognition provisions in tax code
    permit exceptions in certain transactions.
      Basic Taxation Concepts
                Recognition
 Taxes must be paid on a gain in the year in
 which it is recognized.
  Usually, a gain is recognized in the same
   year it is realized.
   Nonrecognition provisions in tax code
    permit exceptions in certain transactions.
      Taxpayer allowed to defer recognition
       of the gain until a later year.
      Example: installment sale
                Summary
        Basic Taxation Concepts

   Income                Initial basis
   Deductions            Adjusted basis
   Tax credits           Capital expenditure
   Gains and losses      Realization
   Capital asset         Recognition
 Classifications of Real Property

Tax code has 6 classifications of real property:
 principal residence property
 personal use property
 unimproved investment property
 property held for the production of income
 property used in a trade or business
 dealer property
Classifications of Real Property
          Principal residence
Principal residence property: The home
owned by a taxpayer that he or she lives in
most of the time.
Classifications of Real Property
          Principal residence
Principal residence property: The home
owned by a taxpayer that he or she lives in
most of the time.
  A person can have only one principal
   residence at a time.
Classifications of Real Property
        Personal use property
Personal use property: Real estate owned for
personal use that is not a principal residence.
  Example: vacation home
Classifications of Real Property
 Unimproved investment property
Unimproved investment property: Vacant
land that is held for appreciation and produces
no income.
 Classifications of Real Property
Property held for production of income
 Property held for production of income:
 Any type of property (residential, commercial,
 or industrial) from which the owner collects
 rent.
Classifications of Real Property
Property used in trade or business
Property used in a trade or business: Any
commercial or industrial property associated
with a business owned by a taxpayer.
Classifications of Real Property
            Dealer property
Dealer property: Property a taxpayer is
holding for later sale to customers.
  Example: subdivided land available for sale
   Nonrecognition Transactions

 Taxpayer is generally required to pay tax on
 gain in the year it is realized.
   Nonrecognition Transactions

 Taxpayer is generally required to pay tax on
 gain in the year it is realized.

 But tax code allows recognition of gain to be
 deferred to a later year in:
   installment sales
   Nonrecognition Transactions

 Taxpayer is generally required to pay tax on
 gain in the year it is realized.

 But tax code allows recognition of gain to be
 deferred to a later year in:
   installment sales
   involuntary conversions
   Nonrecognition Transactions

 Taxpayer is generally required to pay tax on
 gain in the year it is realized.

 But tax code allows recognition of gain to be
 deferred to a later year in:
   installment sales
   involuntary conversions
   sales of low-income housing
   Nonrecognition Transactions

 Taxpayer is generally required to pay tax on
 gain in the year it is realized.

 But tax code allows recognition of gain to be
 deferred to a later year in:
   installment sales
   involuntary conversions
   sales of low-income housing
   “tax-free” exchanges
   Nonrecognition Transactions
             Installment sales
 Installment sale: A sale where the seller
 receives less than 100% of the price in the
 year the sale was made.
   Nonrecognition Transactions
              Installment sales
 Installment sale: A sale where the seller
  receives less than 100% of the price in the
  year the sale was made.

 Only the part of the gain that the seller
  receives in a particular tax year is taxed that
  year.
           Installment Sales
             Gross profit ratio
 Amount of gain seller must report per year is
 based on the gross profit ratio.

 Gross profit ratio: Relationship between the
 seller’s gross profit and the contract price.
            Installment Sales
              Gross profit ratio
 To calculate gross profit:
   start with the contract price (sales price)
            Installment Sales
              Gross profit ratio
 To calculate gross profit:
   start with the contract price (sales price)
   subtract seller’s basis at time of sale
            Installment Sales
              Gross profit ratio
 To calculate gross profit:
   start with the contract price (sales price)
   subtract seller’s basis at time of sale
   subtract selling expenses
            Installment Sales
              Gross profit ratio
 To calculate gross profit:
   start with the contract price (sales price)
   subtract seller’s basis at time of sale
   subtract selling expenses

 To calculate gross profit ratio:
   divide gross profit by contract price
              Installment Sales
                      Example
 Seller’s adjusted basis: $248,500
 Property sold on installment basis
 Contract price: $300,000
 Broker’s commission: $18,000
 Other selling expenses: $3,500
 What’s the gross profit? The gross profit ratio?
              Installment Sales
                      Example
 Seller’s adjusted basis: $248,500
 Property sold on installment basis
 Contract price: $300,000
 Broker’s commission: $18,000
 Other selling expenses: $3,500
 What’s the gross profit? The gross profit ratio?

    $300,000 - $248,500 - $18,000 - $3,500 =
               $30,000 gross profit
              Installment Sales
                      Example
 Seller’s adjusted basis: $248,500
 Property sold on installment basis
 Contract price: $300,000
 Broker’s commission: $18,000
 Other selling expenses: $3,500
 What’s the gross profit? The gross profit ratio?

    $300,000 - $248,500 - $18,000 - $3,500 =
               $30,000 gross profit
   $30,000 gross profit ÷ $300,000 contract price =
          .1, or 10% gross profit ratio
   Installment Sales
Calculating the year’s gain

 Principal payments received
 ×           Gross profit ratio
  Gain to be taxed that year
           Installment Sales
       Calculating the year’s gain

         Principal payments received
         ×           Gross profit ratio
          Gain to be taxed that year

 Important: Gross profit ratio is not applied to
  interest.
    Interest is always taxed in the year it’s
     collected.
             Installment Sales
              Example, continued
Gross profit ratio: 10%
In year of sale, seller received:
  $27,500 downpayment
  $2,067 in principal payments
  $19,725 in interest payments
What’s the taxable income from the sale for this year?
             Installment Sales
              Example, continued
Gross profit ratio: 10%
In year of sale, seller received:
  $27,500 downpayment
  $2,067 in principal payments
  $19,725 in interest payments
What’s the taxable income from the sale for this year?
$27,500 downpayment + $2,067 principal = $29,567
             Installment Sales
              Example, continued
Gross profit ratio: 10%
In year of sale, seller received:
  $27,500 downpayment
  $2,067 in principal payments
  $19,725 in interest payments
What’s the taxable income from the sale for this year?
$27,500 downpayment + $2,067 principal = $29,567
     $29,567 × .10 = $2,956.70 recognized gain
             Installment Sales
              Example, continued
Gross profit ratio: 10%
In year of sale, seller received:
  $27,500 downpayment
  $2,067 in principal payments
  $19,725 in interest payments
What’s the taxable income from the sale for this year?
$27,500 downpayment + $2,067 principal = $29,567
     $29,567 × .10 = $2,956.70 recognized gain
         $2,957 gain + $19,725 interest =
       $22,682 taxable income for year of sale
            Installment Sales
        Eligible types of property

 Installment sales are permitted for all classes
 of property except dealer property.
  Nonrecognition Transactions
         Involuntary conversion
 Involuntary conversion: When property is
 converted into cash without an owner’s
 voluntary action.

 May occur through:
   condemnation,
   destruction,
   theft, or
   other loss of property.
       Involuntary Conversion
            May result in gain
 Involuntary conversion usually involves a
 gain for the owner.
   Government or insurer compensates
    owner based on property’s current market
    value.
       Involuntary Conversion
              Deferral of gain
 IRS allows deferral of gain if taxpayer
 replaces the property within the allowed
 replacement period.
   Replacement period:
    2 or 3 years, depending on property type
   Any gain not applied toward replacement
    property will be taxed as income.
   Nonrecognition Transactions
      Sales of low-income housing
 Taxpayer who sells qualified low-income
 housing and reinvests proceeds in similar
 housing may defer recognition of the gain.

 Any gain not reinvested in similar property
 is subject to taxation in the year of the sale.
   Nonrecognition Transactions
           “Tax-free” exchanges
 “Tax-free” exchange: When real property is
 exchanged for other real property and owner is
 allowed to defer recognition of gain. Also
 known as a 1031 exchange.
   Nonrecognition Transactions
           “Tax-free” exchanges
 “Tax-free” exchange: When real property is
 exchanged for other real property and owner is
 allowed to defer recognition of gain. Also
 known as a 1031 exchange.
   Exchange isn’t truly tax-free: recognition of
    gain is only deferred, not avoided altogether.
         “Tax-free” Exchanges
         Eligible types of property
 Eligible for tax-free exchange:
   investment property
   income producing property
   property used in trade or business
         “Tax-free” Exchanges
          Eligible types of property
 Eligible for tax-free exchange:
   investment property
   income producing property
   property used in trade or business

 Not eligible:
   principal residence
   personal use property
   dealer property
       “Tax-free” Exchanges
            Like-kind property
 To qualify, properties exchanged must be
 like-kind properties.

   Real property must be exchanged for other
    real property located in the U.S.
       “Tax-free” Exchanges
            Like-kind property
 To qualify, properties exchanged must be
 like-kind properties.

   Real property must be exchanged for other
    real property located in the U.S.

   Like-kind property isn’t necessarily the
    same type of real property.
     Example: apartment building can be
      exchanged for unimproved land
    “Tax-free” Exchanges
                Boot
Boot: Anything received in an exchange
other than like-kind property.
  cash
  stock
  personal property
  debt relief (difference in mortgage
   balances)
    “Tax-free” Exchanges
                 Boot
Boot: Anything received in an exchange
other than like-kind property.
  cash
  stock
  personal property
  debt relief (difference in mortgage
   balances)
 Boot is recognized in the year of the
  exchange.
       “Tax-free” Exchanges
                 Example
Taxpayer who owns an apartment building trades
it for an office building.
Apartment building: $970,000 mortgage
Office building: $880,000 mortgage

How much boot is the taxpayer receiving?
       “Tax-free” Exchanges
                  Example
Taxpayer who owns an apartment building trades
it for an office building.
Apartment building: $970,000 mortgage
Office building: $880,000 mortgage

How much boot is the taxpayer receiving?

$970,000 - $880,000 = $90,000 boot (debt relief)
        “Tax-free” Exchanges
           Example, continued
Boot (debt relief): $90,000
Taxpayer’s adjusted basis in apartment
building: $1,120,000
Value of office building: $1,270,000
How much gain is the taxpayer realizing?
        “Tax-free” Exchanges
           Example, continued
Boot (debt relief): $90,000
Taxpayer’s adjusted basis in apartment
building: $1,120,000
Value of office building: $1,270,000
How much gain is the taxpayer realizing?
      $1,270,000 property + $90,000 boot =
           $1,360,000 total received
        “Tax-free” Exchanges
           Example, continued
Boot (debt relief): $90,000
Taxpayer’s adjusted basis in apartment
building: $1,120,000
Value of office building: $1,270,000
How much gain is the taxpayer realizing?
      $1,270,000 property + $90,000 boot =
           $1,360,000 total received
   $1,360,000 - $1,120,000 adjusted basis =
           $240,000 realized gain
       “Tax-free” Exchanges
           Example, continued
How much of the realized gain ($240,000) will be
taxed in the year of the exchange?
       “Tax-free” Exchanges
           Example, continued
How much of the realized gain ($240,000) will be
taxed in the year of the exchange?

 Only the $90,000 boot will be recognized and
  taxed in the year of the exchange.

 Taxation of the remaining $150,000 gain will
  be deferred.
        “Tax-free” Exchanges
  Boot taxable only to extent of gain
 If boot received exceeds realized gain,
 only the amount of the gain is taxed,
 not the full amount of the boot.
        “Tax-free” Exchanges
   Adjusted basis in newly acquired
              property
 As a general rule, taxpayer’s basis in the
 property received is whatever her basis in the
 property traded away was.

 But if the exchange involved boot, then
 adjustments to the basis will be necessary.
        “Tax-free” Exchanges
  Not always tax-free for both parties
 Exchange of real property may be “tax-free”
 for one party but not the other.
        “Tax-free” Exchanges
  Not always tax-free for both parties
 Exchange of real property may be “tax-free”
 for one party but not the other.

   Example: Taxpayer A trades principal
    residence for Taxpayer B’s rental home.
      A and B will each use their new property
       as a rental.
        “Tax-free” Exchanges
  Not always tax-free for both parties
 Exchange of real property may be “tax-free”
 for one party but not the other.

   Example: Taxpayer A trades principal
    residence for Taxpayer B’s rental home.
      A and B will each use their new property
       as a rental.
      Exchange tax-deferred for B but not for
       A, because principal residence is not
       eligible.
        “Tax-free” Exchanges
           Agent’s commission

 A real estate agent who arranges a tax-free
 exchange may be paid a commission by both
 parties to the transaction.
  Summary: Property Classifications
   and Nonrecognition Transactions
 Principal residence      Installment sale
 Personal use property    Involuntary conversion
 Unimproved investment    Tax-free exchange
  property                 Like-kind property
 Income property          Boot
 Trade or business
  property
 Dealer property
    Sale of Principal Residence

 Gain on the sale of a principal residence:
   may be permanently excluded
    from taxation
   not just deferred (as in an exchange
    or an installment sale)
    Sale of Principal Residence
       Limits on exclusion of gain
 Individual home seller may exclude up to
 $250,000.
    Sale of Principal Residence
       Limits on exclusion of gain
 Individual home seller may exclude up to
  $250,000.
 Married couple filing a joint return may
  exclude up to $500,000.
    Sale of Principal Residence
       Limits on exclusion of gain
 Individual home seller may exclude up to
  $250,000.
 Married couple filing a joint return may
  exclude up to $500,000.

 Any amount in excess of $250,000 or
 $500,000 will be taxed as a capital gain
 in the year of the sale.
    Sale of Principal Residence
       Qualifying for the exclusion
 Within the last five years, property owner
 must have:
  owned the home for at least two years, and
  lived in the home as a principal residence
   for at least two years.
    Sale of Principal Residence
       Qualifying for the exclusion
 Within the last five years, property owner
 must have:
  owned the home for at least two years, and
  lived in the home as a principal residence
   for at least two years.

 A taxpayer may not use this exclusion more
 than once every two years.
Deductions for Property Owners

 Deductions: Subtracted from income
 before taxes are calculated.
Deductions for Property Owners

 Deductions: Subtracted from income
 before taxes are calculated.
 Available deductions for property owners:
   cost recovery (depreciation)
   uninsured losses
   repairs
   property taxes
   mortgage interest
   points and other loan costs
               Deductions
       Cost recovery deductions
 Taxpayer can recover the cost of an asset
 used:
   for production of income, or
   in a trade or business
               Deductions
       Cost recovery deductions
 Taxpayer can recover the cost of an asset
 used:
   for production of income, or
   in a trade or business

 Cost recovery deductions are also called
 depreciation deductions.
    Cost Recovery Deductions
       Ineligible types of property
Cost recovery deductions are not available for:
 principal residences
 personal use property
 unimproved investment property
 dealer property
    Cost Recovery Deductions
            Depreciable assets
 Assets are depreciable only if they will
  eventually wear out and need to be replaced.
    Cost Recovery Deductions
            Depreciable assets
 Assets are depreciable only if they will
  eventually wear out and need to be replaced.
    Includes structures as well as equipment
     for a farm or business.
    Cost Recovery Deductions
            Depreciable assets
 Assets are depreciable only if they will
  eventually wear out and need to be replaced.
    Includes structures as well as equipment
     for a farm or business.
    Does not include the land, which does not
     wear out.
      Cost Recovery Deductions
   Depreciation subtracted from basis
 Allowable depreciation or cost recovery deductions
  are subtracted from initial basis to arrive at the
  adjusted basis.
      Cost Recovery Deductions
   Depreciation subtracted from basis
 Allowable depreciation or cost recovery deductions
  are subtracted from initial basis to arrive at the
  adjusted basis.
                     Initial basis
         + Capital expenditures
        – Allowable depreciation
                 Adjusted basis
      Cost Recovery Deductions
   Depreciation subtracted from basis
 Allowable depreciation or cost recovery deductions
  are subtracted from initial basis to arrive at the
  adjusted basis.
                     Initial basis
         + Capital expenditures
        – Allowable depreciation
                 Adjusted basis

   Cost recovery deductions subtracted even if
    taxpayer did not take them.
              Deductions
            Uninsured losses
 Property owner may deduct an uninsured
 loss from taxable income.
   Property damaged, destroyed, or stolen.
   Loss was not fully covered by insurance.
               Deductions
             Uninsured losses
 In most situations, to determine the amount of
 the deductible loss, subtract the market value
 of the property after the loss from the market
 value of the property before the loss.
               Value before loss
              – Value after loss
              Reduction in value
              – Insurance (if any)
                  Deductible loss
                Deductions
             Uninsured losses
 Special rule for personal property (including
 a principal residence):
   subtract $100 from deductible loss
   then subtract 10% of taxpayer’s
    adjusted gross income (AGI)
            Deductions
         Repair deductions
Repair deductions: Property owner may
deduct expenditures made to keep the
property functional.
             Deductions
          Repair deductions
Repair deductions: Property owner may
deduct expenditures made to keep the
property functional.
 Not available for principal residence or
  personal use property.
             Deductions
          Repair deductions
Repair deductions: Property owner may
deduct expenditures made to keep the
property functional.
 Not available for principal residence or
  personal use property.
 Capital expenditures are not deductible.
    Capital expenditures add to property’s
     value and may prolong its life.
              Deductions
        Property tax deductions
 General real estate taxes may be deducted
 from property owner’s taxable income.
               Deductions
        Property tax deductions
 General real estate taxes may be deducted
 from property owner’s taxable income.

 Special assessments:
   deductible if for maintenance or repairs
               Deductions
        Property tax deductions
 General real estate taxes may be deducted
 from property owner’s taxable income.

 Special assessments:
   deductible if for maintenance or repairs
   not deductible if for improvements
                  Deductions
      Mortgage interest deductions
 Interest paid on a mortgage loan is deductible for
  all types of property, but there are limits on the
  deduction for personal residences.
                  Deductions
      Mortgage interest deductions
 Interest paid on a mortgage loan is deductible for
  all types of property, but there are limits on the
  deduction for personal residences.
 Taxpayer can deduct interest paid on:
   Loan of up to $1,000,000 used to buy, build, or
    improve principal residence or second home.
                  Deductions
      Mortgage interest deductions
 Interest paid on a mortgage loan is deductible for
  all types of property, but there are limits on the
  deduction for personal residences.
 Taxpayer can deduct interest paid on:
   Loan of up to $1,000,000 used to buy, build, or
    improve principal residence or second home.
   Home equity loan of up to $100,000, no matter
    what the loan was used for.
                  Deductions
      Mortgage interest deductions
 Interest paid on a mortgage loan is deductible for
  all types of property, but there are limits on the
  deduction for personal residences.
 Taxpayer can deduct interest paid on:
    Loan of up to $1,000,000 used to buy, build, or
     improve principal residence or second home.
    Home equity loan of up to $100,000, no matter
     what the loan was used for.
 Interest paid on amount over the limit is not
  deductible.
               Deductions
       Points and other loan costs
 Points paid in connection with a new loan:
   are considered prepaid interest
   can be deducted from taxable income

 Includes:
   discount points
   origination fee
               Deductions
       Points and other loan costs
 Points paid by the seller on the borrower’s
 behalf are deductible.
   But borrower’s basis must be reduced by
    the amount of the seller-paid points.
               Deductions
      Points and other loan costs
 Fees charged by a lender for specific
 services are not deductible.
   Examples: appraisal fee, mortgage
    insurance premiums
               Deductions
      Points and other loan costs
 Fees charged by a lender for specific
 services are not deductible.
   Examples: appraisal fee, mortgage
    insurance premiums

 Prepayment penalty:
   considered to be punitive interest
   therefore may be deducted
    Rental Payment Deductions

 Rental payment deductions are available to
 tenants only if the rented property is used in a
 trade or business.

 Rent paid for residential property is never
 deductible.
    California State Income Tax

 California’s state income tax laws mirror
 federal government’s.
    California State Income Tax

 California’s state income tax laws mirror
 federal government’s.
   Tax rates and standard deduction are
    different.
   Key terminology is the same.
    California State Income Tax

 California’s state income tax laws mirror
 federal government’s.
   Tax rates and standard deduction are
    different.
   Key terminology is the same.
 To take inflation into account, Franchise Tax
 Board makes annual adjustments to tax
 brackets, standard deduction.
              Summary
    Exclusions and Deductions
 Sale of principal residence exclusion
 Cost recovery (depreciation) deductions
 Depreciable property
 Uninsured loss deductions
 Repair deductions
 Property tax deductions
 Deductions for mortgage interest, points

				
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