In this Edition
October 11, 2022

Renting Out Your Vacation Home? Know the Tax Implications

PODCAST: Residential Solar Power Credits

Tax Calendar

Check Kiting Is No Small Matter

Work Opportunity Tax Credit Provides Help to Employers

Worried About an IRS Audit? Prepare in Advance
Renting Out Your Vacation Home? Know the Tax Implications
If you’re fortunate enough to own a vacation home, you may want to rent it out when you’re not using it. But how might that affect your taxes? 
 
The answer lies in keeping good records. Before you post the “for rent” sign, consider how many days you, your relatives (even if they pay market rent) and nonrelatives use the home if market rent isn’t charged.   

Under 15 Days

In the right circumstances, renting the property out can produce revenue and significant tax benefits. If the property is rented out for less than 15 days during the year, it’s not treated as “rental property,” and the rent you collect isn’t included in your taxable income at all. On the other hand, you can only deduct (as itemized deductions) property taxes and mortgage interest — no other operating costs or 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 received in income. However, you can deduct part of your operating expenses and depreciation, subject to certain 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, 75% of the use is rental (90 out of 120 total use days).

You may allocate to rental 75% of your costs such as maintenance, utilities and insurance, plus 75% of your depreciation allowance, interest and taxes for the property. The personal use portion of taxes is separately deductible as an itemized deduction. The personal use part of interest on a second home is also deductible (if eligible) where 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.

Claiming a Loss

If the expenses exceed the income, you may be able to claim a rental loss (subject to the passive activity rules), depending on how many days you use the house for personal purposes. Here’s the test: If you use it personally for more than the greater of 14 days or 10% of the rental days, you’re using it “too much” and can’t claim your loss. In this case, you can still use your deductions to wipe out rental income, but you can’t create a loss. Deductions you can’t use are carried forward and may be usable in future years. If you’re limited to using deductions only up to the rental income amount, you must use the deductions allocated to the rental portion in this order:

  1. Interest and taxes,
  2. Operating costs
  3. Depreciation.

If you “pass” the personal use test, 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 the loss. (The loss is “passive” and may be limited under passive loss rules.)

Planning Ahead

These are the basic rules. There may be other rules if you’re considered a small landlord or real estate professional. Contact us if you have questions. We can help plan your vacation home use to achieve optimal tax results. 

Jill Wrensch, EA
D 715.384.1989
PODCAST
Residential Solar Power Credits

The recently signed Inflation Reduction Act included a lot of green provisions. This podcast talks about the residential clean energy credits that a homeowner can get by installing solar onto their home.
Tax Calendar
October 17
  • Personal federal income tax returns for 2021 that received an automatic extension must be filed today and any tax, interest and penalties due must be paid.
  • The Financial Crimes Enforcement Network (FinCEN) Form 114 “Report of Foreign Bank and Financial Accounts” (also known as the “FBAR”) must be filed by today, if not filed already, for offshore bank account reporting. (This report received an automatic extension to today if not filed by the original due date of April 18th.)
  • If an extension was obtained, calendar-year C corporations should file their 2021 Form 1120 by this date.
  • If the monthly deposit rule applies, employers must deposit the tax for payments in September for Social Security, Medicare, withheld income tax and nonpayroll withholding.

October 31
  • Employers must file Form 941 for the third quarter (November 10 if all taxes are deposited in full and on time).  Also, employers must deposit FUTA taxes owed through September if the liability is more than $500.
November 15
  • If an extension was obtained, calendar-year tax-exempt organizations should file their 2021 returns. If the monthly deposit rule applies, employers must deposit the tax for payments in October for Social Security, Medicare, withheld income tax and nonpayroll withholding.
December 15
  • Fourth quarter 2022 estimated tax payments are due for calendar-year corporations. If the monthly deposit rule applies, employers must deposit the tax for payments in November for Social Security, Medicare, withheld income tax and nonpayroll withholding.
Check Kiting Is No Small Matter
A check kiting scheme relies on “float” time, which is the period between when a check is deposited and when the bank collects the funds on the check. Some banks accept check deposits and release funds immediately, in the interest of good customer service. That’s similar to providing accountholders with interest-free loans.

In recent years, the float time has narrowed, but there’s still opportunity to capitalize on that delay and some unethical businesses take advantage of that time. Check kiting schemes typically involve two or more banks, though some schemes can involve multiple accounts at one bank if there’s a lag in how the institution processes checks. The perpetrator’s goal is to falsely inflate the balance of a checking account so that written checks that otherwise would bounce, clear.

Strategies for Grounding the Kite

Check kiting is a federal crime that can lead to up to 30 years in federal prison, plus hefty fines. Even if a bank doesn’t press charges, it may close the account and report the incident to ChexSystems (similar to a credit bureau), making it difficult to open a new business account.

Here are five strategies your organization can implement to keep people from using your company’s accounts for check kiting:

  1. Educate employees about bank fraud. Describe the types of transactions that qualify as bank fraud and their red flags. That makes workers aware of suspicious activities and demonstrates management’s commitment to preventing fraud.
  2. Rotate key accounting roles. Segregate accounting duties. Rotate tasks among staffers if possible to help uncover ongoing schemes and limit opportunities to steal.
  3. Reconcile bank accounts daily. Make sure someone trustworthy, who isn’t involved in issuing payments, reconciles every company bank account.
  4. Maintain control of paper checks. Store blank checks in a locked cabinet or safe and periodically inventory the blank check stock. Also limit who’s allowed to order new ones.  
  5. Go digital. The most effective way to prevent most check fraud is to stop using paper checks altogether. Consider replacing them with ACH payments or another form of electronic payments.

Tighten up

Check kiting is relatively easy to perpetrate, particularly if your company isn’t vigilant about its check stock and bank account activity. For help tightening your internal controls, contact us.

Colleen Scherpereel
D 262.404.2115
Work Opportunity Tax Credit Provides Help to Employers
In today’s tough job market and economy, the Work Opportunity Tax Credit (WOTC) may help employers. Many business owners are hiring and should be aware that the WOTC is available to employers that hire workers from targeted groups who face significant barriers to employment. The credit is worth as much as $2,400 for each eligible employee ($4,800, $5,600 and $9,600 for certain veterans and $9,000 for “long-term family assistance recipients”). It’s generally limited to eligible employees who begin work for the employer before January 1, 2026.

The IRS recently issued some updated information on the pre-screening and certification processes. To satisfy a requirement to pre-screen a job applicant, a pre-screening notice must be completed by the job applicant and the employer on or before the day a job offer is made. This is done by filing Form 8850, Pre-Screening Notice and Certification Request for the Work Opportunity Credit.

Which New Hires Qualify?

An employer is eligible for the credit only for qualified wages paid to members of a targeted group. These groups are:

  1. Qualified members of families receiving assistance under the Temporary Assistance for Needy Families (TANF) program,
  2. Qualified veterans,
  3. Qualified ex-felons,
  4. Designated community residents,
  5. Vocational rehabilitation referrals,
  6. Qualified summer youth employees,
  7. Qualified members of families in the Supplemental Nutritional Assistance Program (SNAP),
  8. Qualified Supplemental Security Income recipients,
  9. Long-term family assistance recipients, and
  10. Long-term unemployed individuals.

Other Rules and Requirements

There are a number of requirements to qualify for the credit. For example, there’s a minimum requirement that each employee must have completed at least 120 hours of service for the employer. Also, the credit isn’t available for certain employees who are related to or who previously worked for the employer.

There are different rules and credit amounts for certain employees. The maximum credit available for the first-year wages is $2,400 for each employee, $4,000 for long-term family assistance recipients, and $4,800, $5,600 or $9,600 for certain veterans. Additionally, for long-term family assistance recipients, there’s a 50% credit for up to $10,000 of second-year wages, resulting in a total maximum credit of $9,000 over two years.

For summer youth employees, the wages must be paid for services performed during any 90-day period between May 1 and September 15. The maximum WOTC credit available for summer youth employees is $1,200 per employee.

A Beneficial Credit

In some cases, employers may elect not to claim the WOTC. And in limited circumstances, the rules may prohibit the credit or require an allocation of it. However, for most employers hiring from targeted groups, the credit can be beneficial. Contact us with questions or for more information about your situation.

Matt Cantlon, CPA
D 507.252.6672
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Worried About an IRS Audit? Prepare in Advance
IRS audit rates are historically low, according to a recent Government Accountability Office (GAO) report, but that’s little consolation if your return is among those selected to be examined. Plus, the IRS recently received additional funding in the Inflation Reduction Act to improve customer service, upgrade technology and increase audits of high-income taxpayers. But with proper preparat ion and planning, you should fare well.

From tax years 2010 to 2019, audit rates of individual tax returns decreased for all income levels, according to the GAO. On average, the audit rate for all returns decreased from 0.9% to 0.25%. IRS officials attribute this to reduced staffing as a result of decreased funding. Businesses, large corporations and high-income individuals are more likely to be audited but, overall, all types of audits are being conducted less frequently than they were a decade ago.

There’s no 100% guarantee that you won’t be picked for an audit, because some tax returns are chosen randomly. However, the best way to survive an IRS audit is to prepare in advance. On an ongoing basis you should systematically maintain documentation — invoices, bills, cancelled checks, receipts, or other proof — for all items to be reported on your tax returns. Keep all records in one place.

Audit Targets

It also helps to know what might catch the attention of the IRS. Certain types of tax-return entries are known to involve inaccuracies so they may lead to an audit. Here are a few examples:

  • Significant inconsistencies between tax returns filed in the past and your most current return,
  • Gross profit margin or expenses markedly different from those of other businesses in your industry, and
  • Miscalculated or unusually high deductions.

Certain types of deductions may be questioned by the IRS because there are strict recordkeeping requirements for them — for example, auto and travel expense deductions. In addition, an owner-employee’s salary that’s much higher or lower than those at similar companies in his or her location may catch the IRS’s eye, especially if the business is structured as a corporation.

If You Receive a Letter

If you’re selected for an audit, you’ll be notified by letter. Generally, the IRS doesn’t make initial contact by phone. But if there’s no response to the letter, the agency may follow up with a call.

Many audits simply request that you mail in documentation to support certain deductions you’ve claimed. Only the strictest version, the field audit, requires meeting with one or more IRS auditors. (Note: Ignore unsolicited email or text messages about an audit. The IRS doesn’t contact people in this manner. These are scams.)

The tax agency doesn’t demand an immediate response to a mailed notice. You’ll be informed of the discrepancies in question and given time to prepare. Collect and organize all relevant income and expense records. If anything is missing, you’ll have to reconstruct the information as accurately as possible based on other documentation.

If you’re audited, our firm can help you:

  • Understand what the IRS is disputing (it’s not always clear),
  • Gather the specific documents and information needed, and
  • Respond to the auditor’s inquiries in the most effective manner.

The IRS normally has three years within which to conduct an audit, and an audit probably won’t begin until a year or more after you file a return. Don’t panic if the IRS contacts you. Many audits are routine. By taking a meticulous, proactive approach to tracking, documenting and filing your company’s tax-related information, you’ll make an audit less painful and even decrease the chances you’ll be chosen in the first place. 

Matt Eckelberg, CPA
D 715.384.1995
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