Lenders Beware: Interest Income Must Be Reported
Q: A few weeks ago you discussed loans between family members secured by a trust deed on the borrower’s house, a transaction that allows the borrower to deduct the interest payments on his taxes. But what about loans that are not secured by a trust deed? In these cases, the interest payments are considered “personal interest” by the IRS and are not fully deductible. So, does the lender have to report the interest income he receives on the loan if the borrower can’t deduct it?-- M.T.
A: Absolutely! The fact that the borrower cannot fully deduct the interest is irrelevant to whether the lender must report the income. Can you imagine what would happen if an auto financing company decided that because its customers couldn’t deduct the entire interest portion of their car payments, the lender didn’t have to report those payments as income?
By the way, for 1990, taxpayers may deduct 10% of their personal interest payments. Under the tax law revisions approved in 1986, the deduction is eliminated in 1991.
Different Tax Rules for Living Trust
Q: In a recent column you said that a spouse may roll over an inherited Individual Retirement Account within 60 days of receiving it. But what happens if the beneficiary of the IRA is a living trust? --H.S.
A: Federal regulations permit only a spouse to roll over an inherited IRA into another tax-deferred account. A living trust must pay income taxes on the distribution from the IRA as though it were withdrawn.
Case of Disappearing Divorce Settlement
Q: My divorce settlement discussions dragged on for four years, and in the end I was awarded $100,000 in stock. My attorney neglected to find out what the tax basis in the shares was, and as a naive housewife I didn’t know about such matters. When I went to sell the stock, I got no help from the broker, who is a friend of my ex-husband, and I was forced to use as the tax basis a figure provided by my ex-husband’s attorney. The result is that I ended up with very little from the sale because most of it went to taxes on the gain in the stock price. Is there anything I could have done differently? --B.N.
A: Not really, our experts say. In a divorce, the tax basis of the assets remains unchanged. In the case of your stock, the basis was its original purchase price, minus the sales commission. When you sold the shares, you were taxed on the difference between the basis and the sales price.
What can you do now? If you truly believe that the basis your ex-husband’s attorney gave you was incorrect, you could pursue the matter with the stockbroker who handled the original purchase. If your husband’s broker won’t help, ask to talk to the branch manager of the brokerage. Perhaps you can learn when the shares were purchased, then research the prevailing prices at the brokerage or a library. If you discover that you used the wrong tax basis for the shares, you can file an amended tax return up to three years after the original filing.
Annuity Roll-Over Allowed in Tax Code
Q: Last month I transferred the 403B tax-sheltered annuity I have with my employer to another 403B investment plan in the hope of getting higher earnings. I was told that the original carrier would issue me a 1099R tax-reporting form that I am supposed to include in my income tax return. I’m confused. Do I report this as income--which it isn’t--or do I show it as a roll-over of my investment--which it is? Do I need any documentation in case the IRS should question my actions?-- N.E.L.
A: According to our experts, what you have done is make a perfectly permissible roll-over of your 403B account from one investment to another. Ignore the 1099 form. If the IRS should question your actions, explain the situation. Of course, you should keep all the pertinent paper work. But if you have not taken possession of the funds in the account, you are on perfectly safe ground. The trustee of your original investment probably isn’t aware that you rolled the funds over to another account--hence the 1099 form.
Social Security Rules Apply to Both Spouses
Q: Recently you discussed the Social Security spousal benefits that a wife can receive when her husband dies. But what if the wife dies first and she had been receiving benefits on her own? Is the widower entitled to the same treatment? --O.W.
A: Yes. The rules work both ways. When one spouse dies, the survivor can be eligible for 100% of the benefits that the deceased spouse had been receiving--if the survivor is at least 65. If the survivor is younger than 65, the benefits will be reduced. If the survivor is already receiving benefits on his or her own account greater than the deceased’s benefits, the survivor will continue drawing on that account.
The lesson is this: When it comes to surviving spouse benefits, the Social Security Administration treats husbands and wives alike. Because men have typically earned more than women and because men have died earlier, it has been common for people to refer to surviving spousal payments as “widow’s” benefits. In reality, these benefits are “widower’s” benefits, too.
