Income Taxation Project - Research Paper Example

Research Project Fall Mr. Block has been living in a rented house for quite some years. He always longed to buy a house for himself and decided to get one recently. He was hunting for houses in the city and has finally found a comfortable house that would suit his needs. The cost of the house is $2,000,000. Mr. Block has good steady income of $300,000 per year and also has investments worth $3,000,000. However he needs mortgage to buy that house. The mortgage company offers him loan for an interest rate of 5% and also requires him to pay a down payment of 20%.

Though Mr. Block can pay more down, he is thinking of paying $400,000 from his savings and go on loan for the remaining cost. Mr. Block doesn’t want to liquidate too much as he believes that the investments will grow faster than the interest rate. He is thinking on the various aspects and benefits of loan like tax implications, deductions, and alternative minimum tax (AMT) etc. He wants to be wise in taking the loan, so that he doesn’t miss any of the tax benefits. He is also seeking further tax advice on this and wants to know if the tax deductions for house owners will cause him to pay more AMT than which he normally pays because of his high income.FACTS: 1. Mr.

Block needs to buy a house on mortgage.2. He is not bothered about the interest rate as he believes that investments will grow soon.3. He needs to take advantage of all the tax benefits available.4. He doesn’t want to pay more AMT, than which he normally pays.QUESTION(S): 1. What are the benefits of paying $400,000 from savings and go on loan for the remaining cost?2. What are the tax benefits or other tax implications Mr. Block can avail?3. Should Mr. Block pay more amount of AMT, if he purchases the house?4. What will be the overall implications if Mr.

Block purchases his residence by taking out a mortgage?5. What are the other things Mr. Block should be concerned about before buying the house?CONCLUSION: 1. Paying a higher down payment convey that the mortgage amount is less. As the principal amount of loan is less, his amount of interest will also be less. This helps Mr. Block to save some money.2. Mr. Block can avail tax benefits on as per the regulations specified in IRS Publication 936 Main Content. This includes mortgage interest, mortgage interest premiums etc.

He can also detect the payments made during purchase such as Real Estate Taxes (IRS Publication 530, Main content). If he prepays the interest for mortgage that interest can also be deducted as mortgage interest as per Topic 504, Home Mortgage Points. 3. As per the instructions for Form 6251, 2010 house owners can provide details of their mortgage interest when filing for AMT. Eligible mortgages can adjust their interest when paying AMT. 4. The amount of loan Mr. Block requires is greater than $100,000.

In that case, he will not be able to deduct all the interest he pays towards the loan. This is present in Topic 504, Home Mortgage points. The loan period also plays a major role in the deductions he can avail. He can avail benefits if the loan period is not greater than 30 years. Also, Mr. Block can reduce the interest only if the debt is a secured debt. Further details can be obtained from IRS Publication 936 Main Content.5. Mr. Block should also be concerned about the various Fraud practices and schemes such as property flipping, more than one settlement statement for the same house etc.

as mentioned in the IRS Mortgage and Real estate Fraud section. Also, if this is his second loan, there may be some implications on the limits that can be deducted.DISCUSSION1. Does his earlier investment or salary have any impact on the maximum loan amount that he can get? What will be the case if he does not have a steady income and investment? Will he be able to buy the house?2. With all the above given details, what do you think will be better for Mr. Block to do? What can be the most beneficial loan amount for him?3. If Mr.

Block has had mortgage loans on his earlier investments, or any of his other personal loans will have an impact on the deductions and loan amount.REFERENCES1. IRS Publication 936 Main Content (http://www.irs.gov/publications/p936/ar02.html#en_US_2010_publink1000229991)This part explains what you can deduct as home mortgage interest. It includes discussions on points, mortgage insurance premiums, and how to report deductible interest on your tax return.Generally, home mortgage interest is any interest you pay on a loan secured by your home (main home or a second home).

The loan may be a mortgage to buy your home, a second mortgage, a line of credit, or a home equity loan.Mortgage Insurance PremiumsYou can treat amounts you paid during 2010 for qualified mortgage insurance as home mortgage interest. The insurance must be in connection with home acquisition debt, and the insurance contract must have been issued after 2006.Limit on deduction.   If your adjusted gross income on Form 1040, line 38, is more than $100,000 ($50,000 if your filing status is married filing separately), the amount of your mortgage insurance premiums that are otherwise deductible is reduced and may be eliminated.

See Line 13 in the instructions for Schedule A (Form 1040) and complete the Qualified Mortgage Insurance Premiums Deduction Worksheet to figure the amount you can deduct. If your adjusted gross income is more than $109,000 ($54,500 if married filing separately), you cannot deduct your mortgage insurance premiums.2. IRS Topic 504, Home Mortgage Points (http://www.irs.gov/taxtopics/tc504.html)3. IRS Publication 530, Main content (http://www.irs.gov/publications/p530/ar02.html#en_US_2010_publink100011834)Deductible Real Estate TaxesYou can deduct real estate taxes imposed on you.

You must have paid them either at settlement or closing, or to a taxing authority (either directly or through an escrow account) during the year. If you own a cooperative apartment, see Special Rules for Cooperatives, later4. IRS instructions for Form 6251, 2010, Page 2 (http://www.irs.gov/pub/irs-pdf/i6251.pdf)Line 4: Home Mortgage Interest AdjustmentEligible mortgage: An eligible Home mortgage is a mortgage whose proceeds were used to buy, build, or substantially improve your main home or a second home that is a qualified dwelling.5. IRS Publication 936 Main Content (http://www.irs.gov/publications/p936/ar02.

html#en_US_2010_publink1000230028)Mortgage interest credit.    You may be able to claim a mortgage interest credit if you were issued a mortgage credit certificate (MCC) by a state or local government. Figure the credit on Form 8396, Mortgage Interest Credit. If you take this credit, you must reduce your mortgage interest deduction by the amount of the credit.Deduction Allowed RatablyIf you do not meet the tests listed under Deduction Allowed in Year Paid , later, the loan is not a home improvement loan, or you choose not to deduct your points in full in the year paid, you can deduct the points ratably (equally) over the life of the loan if you meet all the following tests.1. You use the cash method of accounting.

This means you report income in the year you receive it and deduct expenses in the year you pay them. Most individuals use this method.2. Your loan is secured by a home. (The home does not need to be your main home.)3. Your loan period is not more than 30 years.4. If your loan period is more than 10 years, the terms of your loan are the same as other loans offered in your area for the same or longer period.5. Either your loan amount is $250,000 or less, or the number of points is not more than:a.

4, if your loan period is 15 years or less, orb. 6, if your loan period is more than 15 years.Secured DebtYou can deduct your home mortgage interest only if your mortgage is a secured debt. A secured debt is one in which you sign an instrument (such as a mortgage, deed of trust, or land contract) that:Makes your ownership in a qualified home security for payment of the debt,Provides, in case of default, that your home could satisfy the debt, andIs recorded or is otherwise perfected under any state or local law that applies.

In other words, your mortgage is a secured debt if you put your home up as collateral to protect the interests of the lender. If you cannot pay the debt, your home can then serve as payment to the lender to satisfy (pay) the debt. In this publication, mortgage will refer to secured debt.