Tax Research Assignment (Essay Sample)

Tax Research Assignment
Student’s Name
Institution
Client Letter
Student’s Name
The Senior Property Advisor
Miami Property Investment Group
February 24, 2015
Mr. & Mrs. Lee
Condominium Investors
Miami Beach Property, Florida
Dear Sir/Madam,
RE: RECOMMENDATION ON YOUR PROPOSED ACQUISITION OF THE MIAMI BEACH PROPERTY
This is to draw you attention to the above-stated matter following the successful completion of the property analysis. We conclude that the property in Miami Beach, Florida is viable for investment at an outlay cost of $500,000.
You stand to benefit from mortgage interest deductions, depreciation tax savings, and tax exemptions on particular rental income from the property. Additionally, the property is located in a prime tourist resort place in Miami Beach, Florida, which can fulfill all your retirement needs.
Kindest regards
Student’s Name
Internal Research Memo
Date: February 24, 2015
Preparer: Student’s Name
Reviewer: Name of Reviewer
Subject: The viability of the Miami Beach Condominium acquisition taking into account existing IRC regulations
Facts: Mr. and Mrs. Lee are anticipating retirement in the next five years. They enter into an agreement with a salesman to purchase a condominium for $500,000 in Miami Beach, Florida. The couple lives in Maryland where the state and county income tax rate is 7% while the marginal tax rate is 33%. The contract will become binding in 10 days, and it will then be followed by a 20% deposit of the initial outlay cost. The condominium seller will finance the remaining 80% of the condominium cost at 5% annual interest rate for 10 years.
The depreciation rate for residential property is on straight line basis over a useful life of 27.5 years. Non-residential properties are depreciated on straight line basis over 31.5 years. The condominium can be leased back to the property developer for a two years period at $4,000 per month while occupying it for at least 30 days in a calendar year. The monthly property taxes, maintenance costs, insurance costs, and utility expenses are given as $10000, $6000, $200, and $300 respectively. The property value is expected to gain value at 6% per annum in addition to potential tax benefits.
Issues:
Can the condominium provide Mr. and Mrs. Lee with attractive tax write-offs and desirable personal use characteristics?
Do the passive activity rules apply and does ownership of the condominium constitute an activity engaged in for profit?
Assuming that the condominium activity is engaged in for profit, what are the prospective deductions and tax savings?
Assuming that the condominium activity is not engaged in for profit, what are the potential deductions and tax savings?
Should the contract to purchase the condominium be rescinded?
Authorities: IRC162, 163(a), 168, 183, 212, 280A, 469(j), 469(i) and Treasury Regulations 1.183-1
Conclusion: The condominium presents a viable investment venture for the Lees that is affected by passive activity rules and significant tax implications.
Analysis: Section 162(a) of the US Internal Revenue Code stipulates the deductions that are allowed for business expenses. For an expense to be considered deductible, it must be ordinary, necessary, expendable, and be incurred in the given year of income. Section 162(a) provides that expenses that are incurred in carrying on any commercial activity shall be claimed as a deduction in the particular year of income. The vacation home owned by Mr. and Mrs. Lee falls within the definition of a vacation home, hence the owners will be entitled to substantial tax benefits. The vocational home fulfills the personal use characteristics of the old couple given that it is used as a dwelling place for personal use and rental purposes. The expenses associated with the purchase of the condominium are all allowable deductions against income (Legal Information Institute, 2015). Additionally, the condominium presents a viable investment alternative to the couple given that it is affordable housing within highly desirable areas. Under Section 162 of the IRC, the owners of the condominium are entitled to mortgage interest tax deduction, thus posing substantial tax benefits (Legal Information Institute, 2015).
According to IRC 469, passive activities are those activities in which passive taxpayers engage with minimal material participation in the business (IRS, 2015). Passive activities also include any rental activity in which the payments generated are primarily used for the tangible property (Redfield, 2011). The passive activity rule is fully applied in the context of the condominium purchase by the Lees couple with particular regard to passive losses. The losses arising from rental activities and those activities in which the taxpayers have minimal material participation cannot be claimed as a deduction in the current year. The passive loss rules require that such losses be carried forward to the next year of income as stipulated under section 469 (i) and 469 (j). It is hard to assess whether the ownership of the condo constitutes an activity engaged in for profit given that it depends on the factual determination. Section 183(c) defines an activity not engaged in profit as any activity other than that in which deductions are deductible pursuant to article 162 of the Internal Revenue Code. In addition to this, Treasury Regulations 1.183-1 also give regulations about activities that are not engaged in for profit (Lieuallen, 2012).
The allowance for deduction of all the necessary and ordinary business expenses incurred in the course of the fiscal year is stipulated under Section 212 of the IRC. If an activity is entered into for profit, then the condo will be subject to the regulations set out in section 183 with particular regard to deductions against business income. Section 212 (1) allows business expenditure incurred for the collection or production of income as deductible expense. Additionally, Section 212(2) allows the expenditure that is incurred for the maintenance of property held by the taxpayer for the purposes of income generation or production. Mr. and Mrs. Lee will be entitled to a mortgage interest deduction of $20,000 that is given as [5%*80%*$500,000]. In addition to this, the couple will be entitled to a depreciation tax benefit of $6000. The depreciation tax shield is given as [33 %*( $500000/27.5)] =$6000. Additionally, special allowance will be given on the amounts incurred on pro...