Real Estate In Orlando Florida | Real Deductions For An Imaginary ...
In the good old days, youcould pretty much deduct anyinterest that you paid as long as you did not usethe proceeds to buy tax free bonds. Then came the Tax Reform Act of 1986 (25th birthday coming up on October 22). In exchange for lower rates some deductions had to go. Interest expense was one of the things affected. Although the Act did make some things simpler it made interest deductions much more complex. Interest has to be classified first of all by a tracing rule. The tracing rule, which has some really complicated regulations, will have you divide your interest expense into trade or business, investment interest, interest associated with passive activities and personal interest. The first three are deductible subject to limitations and the last is not deductible at all. It does not matter what is securing the debt, it matters how the debt proceeds trace. Then there is residence interest. Interest on home equity indebtedness up to a loan balance of $100,000 is debt secured by apersonal residence. It is deductible as an itemized deduction (Alternatively you could deduct that interest based on how the proceeds traced). Finally there is residence acquisition indebtedness. That is deductible as an itemized deduction up to a loan balance of $1,000,000. It must be spent on acquiring a residence and secured by that residence.
What about the interest expense that you incur while you are building your dream house ? That can be deducted as residence acquisition interest for up to 24 months provided that you actually use the house as your residence. The case of Thomas and Cheryl Rose raises an interesting question. What happens to your deductions,if the dream turns into a nightmare from which you wake up screaming ? Here is the story:
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In late 2005 petitioners began searching for property along the Florida coastline upon which they could build a vacation house. In January 2006 petitioners entered into a contract for the purchase of beachfront property in Fort Myers Beach, Florida, for $1,575,000 (property). At the time that petitioners entered into the contract there was an existing house on the property. Petitioners purchased the property in order to build a new house on the lot and not because they intended to make use of the existing house. The purchase contract provided that the existing house would be torn down and completely removed from the property before the closing date.
Petitioners borrowed $1,260,000 from Fifth Third Mortgage Co. to facilitate their purchase of the property. The loan was secured by a mortgage on the property. On March 6, 2006, the parties closed on the purchase of the property. At the time of closing, the demolition work had been completed and the property consisted of a vacant lot.
Building a beach house involves a lot of permitting and preparatory work:
In order to build a new house on the property, petitioners were required to obtain a construction permit from the Florida Department of Environmental Protection (department). The department requires the completion of a lengthy permitting process whenever someone seeks to build on beachfront property. The process requires that applicants exhibit that the proposed building meets hurricane and flood standards, among other requirements. As part of this lengthy process, petitioners were required to submit numerous items to the department, including detailed survey work and core drilling samples. During 2006 after the existing house had been demolished, petitioners had the required survey work done and core samples taken. Additionally, during 2006 petitioners began working with a team of building professionals that included architects, engineers, and designers. That work continued during the time petitioners were readying their permit application.
As John Lennon said ?Life is what happens, while you are busy making plans.? Life in this case was the Florida real estate market, which around this time went on sale. (According to my friend Daryl Carter of Maury L Carter and Associates in Orlando, the stateis still on sale by the way). So when the Roses went for construction financing for the fully permitted fully planned dream beach house, they found:
?. the residential real estate market in Florida had changed significantly between the time that petitioners purchased the property and the date on which the construction permit was granted. Due to the realities of a constrained credit market, petitioners were unable to secure financing that would allow them to proceed with the completion of their plan to build a residence on the property.
In 2009 the Roses sold the property taking an $850,000 loss. They had deducted about $170,000 of residence interest in 2006and 2007. The IRS essentially said ?What residence ?? and assessed them a little over $40,000. They petitioned the Tax Court which framed the issues as follows:
The issues we must decide are: (1) Whether the residence was ?under construction? during the taxable years at issue, and, if so, (2) whether the fact that events occurred after the taxable years in issue that prevented the completion of construction of a qualified residence should disqualify the interest deduction for prior years.
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Source: http://geologic.biz/real-estate-in-orlando-florida-real-deductions-for-an-imaginary-beach-house/
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