Considering Selling Your Second Home? Read This First! Article Highlights:

Motivations for Selling Tiring of Property Managemento Retiring and Downsizingo Taking Advantage of Appreciationo Family Transferso Changing Personal Goals or Circumstances
Tax Strategies and Issueso 1031 Exchangeo Primary Residence Conversiono Consider Renting First
How is Capital Gains Tax Calculated

Owning a second home can be a cherished asset, providing a haven for relaxation, a profitable rental, or a long-term investment. However, as life circumstances evolve, so might the reasons for holding onto or getting rid of this property. Here are a few scenarios that could prompt an owner to sell a second home, along with essential considerations and potential tax implications.
Motivations for Selling:

Tiring of Property Management: The allure of a vacation property can wane over time, particularly if maintaining it becomes burdensome. This can lead homeowners to consider selling, especially if the time, effort, and costs of upkeep outweigh the enjoyment and benefits.
Retiring and Downsizing: Retirement often ushers in lifestyle changes. Downsizing can free up capital, reduce ongoing expenses, and simplify life, making it an appealing option for retirees who no longer need additional properties.
Taking Advantage of Appreciation: Real estate markets can appreciate significantly over time, offering substantial capital gains. Homeowners might decide to sell to realize these gains and potentially reinvest in more promising opportunities or to diversify their portfolios.
Family Transfers: Selling or giving a second home to a relative can keep cherished properties within the family. However, it's essential to navigate this process correctly to avoid tax challenges. For instance, selling below market value might trigger gift taxes, as might gifting the home. It's advisable to consult a tax professional to handle such transactions compliantly.
Changing Personal Goals or Circumstances: Life is unpredictable, and personal circumstances can change. Whether it's relocating for a new job, shifting priorities, health issues, or changing financial strategies, these shifts can lead to selling a second home.

Tax Strategies and Issues:
Selling a second home typically subjects the owner to capital gains taxes, calculated on the property's price appreciation since purchase. Unlike selling a principal residence which is usually eligible for an exclusion of some or all of the gain, a gain on selling a second home does not qualify for an exclusion. However, astute tax planning can mitigate or even eliminate this burden:

1031 Exchange: Leveraging a 1031 exchange can be a powerful strategy for homeowners to defer capital gains taxes by reinvesting the proceeds from the sale of a property into a similar type of investment property. To qualify for this deferral, specific timing and rules must be meticulously followed.o First, the property owner must identify the replacement property within 45 days of selling the original property. This requires careful planning and potentially having several options lined up, as decisions must be made relatively quickly.o Second, the actual acquisition of the replacement property must be completed within 180 days of the sale, or by the due date of the taxpayer's return for the year the original property was sold—whichever comes first. This 180-day window necessitates a clear, actionable plan and often involves working closely with a qualified intermediary to ensure compliance with the exchange regulations. Engaging with tax pros can help navigate these timelines and requirements, ensuring the exchange satisfies IRS conditions and successfully defers capital gains taxes. o Additionally, both the relinquished and replacement properties must be held for productive use in a trade, business, or investment, and not primarily for resale. Thus, if the home sold was only used for personal purposes, such as a vacation or second home, a tax deferred exchange isn't possible.By observing these specific timeframes and adhering to the necessary rules, property owners can effectively utilize a 1031 exchange to enhance their investment strategy.
Primary Residence Conversion: If a second home can be reclassified as a primary residence for tax purposes, substantial capital gain tax exclusions may apply when the home is sold—up to $250,000 for singles or $500,000 for married couples. To accomplish this status conversion, several criteria need to be met Meet the Ownership and Use Tests: Generally, you must own the home for at least two years and live in it as your primary residence for at least two out of the five years prior to selling it.o Documentation of Residency: Maintain thorough records to prove your residence, such as utility bills, voter registration, driver's license, and address change notifications.o Adjust Tax Returns: Reflect your primary residence status by updating your address on tax returns and ensuring it's consistently used on other official documents.o Inhabitation Proof: Demonstrate that the home is the principal place of residence by spending a significant amount of time there and making it your primary living location.By strategically planning these steps, a secondary property can be effectively transitioned to a primary residence, thereby optimizing potential tax savings through capital gain exclusions.
Consider Renting First: Instead of an outright sale, renting out the home can offer an ongoing income stream, preserving the asset for future appreciation or for transitionary times when a sale is more financially favorable.

How is Capital Gains Tax Calculated?
Capital gains taxes are levied only on the net gain you make from your sale. For example, if your basis (generally what you paid for the property plus the cost of improvements) in your second home is $400,000 and you sold it for $650,000 with $40,000 in sales costs, you'd net $210,000 on the sale—and only that amount (not the full $650,000 sale price) would be subject to a capital gains tax. If you inherited the home, generally its fair market value at the decedent's date of death will be your starting basis.
But the rate at which your gains are taxed depends on two factors: how long you've owned the asset and your total income.

Short-term capital gain - If you've owned your second home for one year or less before you sell it, it's considered a short-term capital asset and is generally taxed according to your ordinary income tax bracket that can be as high as 37%.
Long-term capital gain - If you've owned your second home for more than a year or inherited it, you'll be taxed at a long-term capital gains rate, which is typically lower than your income tax rate. These rates vary based on your income, ranging from 0% to 20%.

By considering these varied motivations and strategically planning for tax implications, homeowners can make informed decisions about selling their second homes that align with their life objectives and financial goals.
If you're planning to sell your second home, consult with our office for wise options.
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Video Tips: Hobby Vs. Business in Terms of Taxes Under the hobby loss rules, when an activity of the taxpayer is deemed to be a hobby (not for profit), the income is reported on line 8j, 'Activity not engaged in for profit income,' Schedule 1 of the 2025 draft Form 1040. Expenses are not deductible. Since such an activity is not for profit, there are no self-employment tax issues.
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Expert Tips For Attending Intuit Connect 2025 Note: this article is a semi-annual rewrite/update of my original publication on QuickBooks Connect 2023. One of my favorite books when I was a kid was “Hail, Hail, Camp Timberwood,” about a girl who goes to summer camp for her first time. She’s standing around, feeling (and probably looking) uncomfortable as all the return campers …
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Tax Advantages of Qualified Charitable Distributions (QCDs) Article Highlights:

Understanding QCDs
How QCDs Work
Tax Benefits of QCDs
Not Just for High-Income Taxpayers
The IRA Contribution Trap
Strategic Considerations

Qualified Charitable Distributions (QCDs) are a highly effective tool in the tax planning toolkit, particularly for retirees who must take Required Minimum Distributions (RMDs) from their Individual Retirement Accounts (IRAs). By directing a portion or all of an RMD directly to a charity, taxpayers can potentially reduce their taxable income significantly, yielding multiple tax advantages.
Understanding QCDs
A QCD is a transfer of funds from an individual's IRA, payable directly to a qualified charity. These distributions can be counted toward satisfying your RMD for the year, up to an inflation adjusted maximum amount. QCDs were first introduced as a temporary provision in 2006, but since then have become a permanent feature of the tax code.
How QCDs Work
For a distribution to be considered a QCD, it must meet specific criteria:

Eligible Accounts: The funds must come from a traditional IRA, and the account holder must be at least 70½ years old at the time of the donation. Distributions cannot be from SEP or SIMPLE IRAs. The QCD can come from a Roth IRA only if it is a non-taxable distribution.
Direct Transfer Requirement: The funds must be transferred directly from the IRA custodian to the qualified charity.
Qualified Charitable Organization: The recipient must be a 501(c)(3) organization, and the donor is responsible for obtaining an acknowledgment letter from the organization under the same documentation rules as if claiming an itemized deduction for a charitable donation. Generally, private foundations, donor-advised funds, or supporting organizations do not qualify. However, the SECURE 2.0 Act allows a one-time $50,000 distribution to certain charitable structures, including charitable gift annuities, charitable remainder unitrusts, and charitable remainder annuity trusts. The $50,000 maximum lifetime distribution amount is adjusted for inflation, and for 2025 is $54,000.

Tax Benefits of QCDs

Income Reduction: Since a QCD is not taxable, it does not increase the Adjusted Gross Income (AGI). This characteristic can be beneficial in several ways beyond just avoiding income taxes on the RMD.
Enhancing Income-Limited Tax Benefits: Lower AGI means potentially enhanced eligibility for other tax benefits and credits that are income-limited. Here are a few examples:

Social Security Taxation: By not increasing your AGI, QCDs can help maintain lower-taxed tiers of Social Security benefits.
Medicare Premiums: Medicare Part B and Part D premiums are determined by AGI. By keeping this figure low through QCDs, you can avoid higher Medicare premiums.
Itemized Deductions Threshold: A lower AGI level can help with thresholds that apply to itemized deductions, thereby increasing their value.

Same Benefit as Charitable Contributions, Plus More: Normally, when a taxpayer makes a charitable contribution and itemizes deductions, that amount reduces taxable income. However, a QCD provides the same benefit of a charitable deduction without having to itemize, while also lowering the AGI. This is an advantage for taxpayers who take the standard deduction.

Not Just for High-Income Taxpayers
There's a common misconception that QCDs primarily benefit high-income taxpayers because of the significant annual limit, which is $108,000 in 2025 due to inflation adjustments from the original $100,000 maximum. However, QCDs can be utilized by any eligible taxpayer meeting the age requirement to lower their taxable income and improve their tax situation. Even small donations can leverage the benefits associated with reduced AGI targets. For a married couple, the annual limit applies to each spouse who has an IRA.
The IRA Contribution Trap
While QCDs can be incredibly beneficial, it's essential to be aware of the so-called "IRA Contribution Trap." This issue arises because the Internal Revenue Service (IRS) treats any deductible IRA contributions made after age 70½ as a reduction in the allowable QCD amount. For instance:

If you contribute $6,000 to your IRA after age 70½, and simultaneously, you intend to make a $10,000 QCD, only $4,000 of that QCD will qualify for the exclusion. This rule reduces the intended tax benefit of the QCD.

Understanding this catch is crucial for retirees who are still working and might continue contributing to their IRAs while also planning to make QCDs.
Strategic Considerations
Taxpayers should consider the timing and structure of QCDs, especially in years where they may face other significant income events. Planning your QCDs in conjunction with other taxable events can help maintain lower AGI levels, thus optimizing the overall financial benefits.
For example, if a taxpayer anticipates a substantial capital gain or receives a large payment from another source, a well-timed QCD can offset the income increase, helping to manage the AGI.
Conclusion
Qualified Charitable Distributions are not merely a tool for philanthropic endeavors; they are a powerful strategy for managing taxable income and maintaining eligibility for other tax-related benefits. By understanding how QCDs work, taxpayers can strategically plan their charitable giving while maximizing their tax advantages.
In summary, QCDs offer multi-faceted benefits, including income reduction, enhancement of other tax benefits, and a simplified way to execute charitable giving. Whether you are making small donations or using the full annual limit, incorporating QCDs into your tax strategy can have far-reaching results that benefit your finances and the organizations you choose to support.
If you are retired and planning a significant contribution to your place of worship or another charitable organization, such as a donation to your faith community's building fund, it would be prudent to explore the option of a Qualified Charitable Distribution (QCD). Please contact our office for personalized assistance in evaluating how a QCD might benefit your specific situation.
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Understanding the Taxation of Lawsuit Settlements: What Taxpayers Need to Know Article Highlights:

Tax Treatment of Settlement Proceedso   Personal Physical Injuries or Physical Sicknesso   Emotional Distress or Mental Anguisho   Lost Wages or Lost Profitso   Punitive Damageso   Business Damageso   Interest and Property Settlements
Deductibility of Attorney Fees and Its Impacto   General Rule on Deductibilityo   Impact of Fees on Settlement Proceedso   Exceptionso   Business Settlements
Strategic Considerations for Taxpayerso   Detailed Recordso   Settlement Structuringo   Estimated Tax Payments

Receiving proceeds from a lawsuit settlement can significantly impact your financial situation, and understanding the tax implications is crucial for effective financial planning. The Internal Revenue Service (IRS) provides comprehensive guidelines on how to determine the taxability of different components of a settlement, which can include compensation for physical injuries, emotional distress, lost wages, attorney fees, and more. This article explores these aspects, emphasizing the tax treatment and the deductibility of attorney fees, ultimately influencing the net settlement proceeds received by taxpayers.
Tax Treatment of Settlement Proceeds
The tax treatment of settlement proceeds hinges on the nature of the underlying claim. Understanding these categories will help you see what needs to be included in the wording of the claim and settlement, and ultimately how much will be reportable in your taxable income:

Personal Physical Injuries or Physical Sickness: Proceeds received from a settlement due to personal physical injuries or physical sickness are generally non-taxable. However, if you previously deducted medical expenses related to these injuries and received a tax benefit, that portion becomes taxable. This amount is reported as other income on the Form 1040.
Emotional Distress or Mental Anguish: Payments received for emotional distress or mental anguish are taxable unless they arise directly from a physical injury or sickness. If they do not originate from a physical condition, the taxable amount can be reduced by the medical expenses associated with emotional distress if such expenses were not previously deducted or were deducted without a tax benefit.
Lost Wages or Lost Profits: Settlements that cover lost wages, such as those from employment-related lawsuits (e.g., wrongful termination or discrimination), are taxable as wages and are subject to employment taxes. They should be reported on Line 1a of Form 1040. Similarly, settlements for lost business profits are subject to self-employment tax, since they are considered business income.
Punitive Damages: Punitive damages are financial compensation awarded to a plaintiff in a lawsuit that goes beyond what is necessary to compensate for losses. They are intended to punish the defendant for egregious or wrongful conduct and to deter similar actions in the future. These damages are distinguished from compensatory damages, which are meant solely to compensate the injured party for actual losses or harm suffered.Punitive damages are always taxable because they are considered a form of income under the Internal Revenue Code. The tax treatment aligns with the principle that these damages are not compensating for any physical injury or loss but rather serve as a financial penalty against the defendant. Since they are not linked to any personal injury or health condition, they do not fall under the non-taxable category typically afforded to damages received due to personal physical injuries or sickness and taxed as other income on the 1040.
Business Damages: Business settlements can arise from various disputes related to business operations, and their tax treatment can have significant implications. The tax treatment of a business settlement depends on the origin of the claim. Settlements typically fall into categories such as compensation for lost profits, damages to business reputation, or recovery of capital.Compensatory Damages - If the settlement compensates for lost profits, it is generally taxable as ordinary income. These are treated as income because they are effectively replacing income the business would have otherwise earned.Punitive Damages - Punitive damages are taxable. They are intended to punish the defendant rather than compensate the plaintiff for any loss, and thus they are considered a windfall to the plaintiff.Capital Recoveries - Settlements that compensate for the destruction or damage to a capital asset, such as business-related real estate or equipment, might reduce the asset's basis rather than be taxed as income. If it exceeds the adjusted basis of the asset, the remainder may be a capital gain.
Interest and Property Settlements: Interest accrued on any settlement, even if the settlement proceeds aren't taxable, is generally taxable as interest income. Meanwhile, settlements for the loss of property value that do not exceed the property's adjusted basis are not taxable. However, any excess over the adjusted basis becomes taxable.

Deductibility of Attorney Fees and Its Impact
Legal fees can significantly impact the net proceeds of a settlement. Whether attorney fees are deductible can alter the tax obligations associated with a settlement:

General Rule on Deductibility: Attorney fees incurred in securing a taxable personal settlement are generally not deductible.      
Impact of Fees on Settlement Proceeds: If attorney fees are deducted from the award, the entire amount may still be required to be reported as income. For instance, if you receive a $100,000 settlement and pay $40,000 in attorney fees, you might still need to report the full $100,000 as income, regardless of netting only $60,000.
Exceptions: Some specific settlements might allow the deduction of attorney fees directly against the income, especially in discrimination or whistleblower lawsuits. In such cases, the deduction is allowed “above the line,” i.e., without having to itemize deductions, thus reducing adjusted gross income (AGI).
Business Settlements: In the case of a business settlement, attorney fees may be treated in different ways, depending primarily on the nature of the legal matter involved and whether the expenses can be directly tied to the production or collection of taxable income or the management, conservation, or maintenance of property held for the production of income. Here's a general overview    Deductible Expenses - If the attorney fees are ordinary and necessary expenses for managing, conserving, maintaining income-producing property, or for producing or collecting taxable income, they may be deductible. For instance, legal fees paid for advice on business operations, resolving tax issues, or performance under contracts related to income are generally deductible.o    Capital Expenses - Attorney fees that are paid to acquire a business asset, or are otherwise related to the acquisition, cannot be deducted immediately. Instead, they are considered capital expenses and are added to the basis of the asset. For example, legal fees for drafting or reviewing contracts for acquiring real estate or equipment would be capitalized and depreciated over the IRS-assigned life of the asset.o    Settlements Involving Nondeductible Expenses - In cases where the legal fees relate to settlements of a personal nature or non-deductible penalties, such fees are not deductible.o    Mixed-Use Expenses - If legal fees are incurred for both personal and business purposes, the fees must be allocated between deductible and non-deductible expenses based on the predominant purpose.

Strategic Considerations for Taxpayers
Given these tax complexities, taxpayers should consider several strategies:

Detailed Records: Maintain comprehensive documentation of all elements of the settlement and any deductions claimed (such as medical expenses related to emotional distress), which can be crucial if questioned by the IRS.
Settlement Structuring: When negotiating settlements, understanding and influencing how allocations are determined (e.g., more towards physical injuries than punitive damages) can have substantial tax implications.
Estimated Tax Payments: If the settlement significantly increases taxable income, taxpayers might need to make estimated tax payments to avoid underpayment penalties.

In conclusion, the taxation of lawsuit settlements is complex, with potential for both taxable and non-taxable components. Taxpayers should carefully evaluate the elements of their settlements, understand the tax implications, and take proactive steps to manage tax liabilities. By doing so, they can navigate the complexities of litigation-related tax obligations and maximize their financial outcomes post-settlement.
Due to the intricate nature of the tax laws surrounding settlements, it may be appropriate to consult with this office prior to agreeing to a settlement so you understand the tax ramifications as they will impact your tax return.
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