Is Housemate Payment to Homeowner Taxable?
Q: I am a retired widow living on a modest income, and I share my home with a friend. I do not consider her my tenant. She is my dear friend, and we share meals and activities as though we were related. Would the Internal Revenue Service consider the monthly sum that she pays me rental income subject to income taxes?
I would hate to lose this money and do not want to complicate the status of my home by turning it into rental property.
Can I legally exclude my friend’s monthly payment from my taxable income? --C.P.L.
A: It’s always risky to give legal advice and especially so when the IRS is involved. So let’s just look at your situation and examine its elements. Then you can form your own opinion about what you are obligated to report to the IRS.
For starters, what does this “monthly sum” from your housemate cover? Food? Utilities? Newspapers? Other household expenses? If so, then the IRS considers the monthly sum a reimbursement to you for shared expenses, not income.
However, if you are receiving a payment for letting your friend use a room in your house, then the IRS considers this rent.
Depending on your age and income, this might not be reportable income. If you are under age 65 and have a gross annual income of less than $5,300 (not including Social Security or other non-taxable payments), then you do not even have to file a tax return. This figure jumps to $6,100 if you are over age 65. If you exceed those limits, you must file a tax return and report all your income.
Practically speaking, the IRS and tax attorneys note that your situation is not ranked high on the list of tax-cheating scams ripe for investigation and audit.
Obviously you are conscientious about your tax obligations and want to do the right thing.
At the same time, you will have to judge what portion of the monthly sum you receive is reimbursement for household expenses and what is actual rent.
Assuming that the money we are talking about here is relatively modest, the IRS and tax attorneys say you can make that decision with fairly firm confidence that you probably will not be challenged.
Residence Tax Deferral Applies Outside U.S.
Q: My wife and I are thinking of selling our home in Southern California and retiring abroad. May we defer paying taxes on the profits we realize from the sale by buying a house outside the United States? --G.L.G.
A: Yes, you can defer taxes on your gain by purchasing a primary residence of equal or greater value anywhere in the world.
This provision of the Tax Code was designed initially to allow American workers reassigned abroad to sell their homes in the United States without tax penalty. However, the provision works equally well for retiring couples seeking to relocate abroad.
Note: Owners of commercial property are not allowed to defer their gains by swapping their business properties for like real estate out of the United States. The “Starker” exchanges under Section 1031 of the Internal Revenue Code do not apply to swaps involving property out of the country under a recent change to the law.
Exercise Stock Option if You’re Ready to Sell
Q: I recently exercised an option to buy 250 non-qualified shares of my company’s stock at $85 per share. Because the stock was selling for $120 per share at the time I exercised the option, I was required to pay $3,250 in taxes on the $35 price difference. I can exercise additional options, but considering the tax obligation I would have, I am wondering if it is worth it. Also, how are these taxes handled on my tax return? --B.T.B.
A: Think of your stock options as a form of deferred compensation. When you exercise them and buy the shares at well below their market value, you have gotten your bonus. Of course, the government demands its due when you get yours.
This should help explain why the most advantageous way to exercise your stock options is to wait until you are ready to sell the shares you are entitled to buy.
Consider your current position: You hold 250 shares of stock with a value of $30,000. But you are out of pocket $3,250, plus the $21,250 you had to pay for the shares. Doesn’t it make more sense to have the stock proceeds before you have to pay the government for your gain? Of course, it does!
Your best bet with your remaining options is to wait until you are ready to sell the shares before you exercise the option to buy them.
On the brighter side, the stock you bought with your option now has a tax basis of $120, so when you sell it, your potential tax obligation will be lower. By next year, your employer should send you a W-2 form noting that you received a $35-per-share gain when you exercised your option and showing that taxes on that gain were withheld at the time of the purchase. No extra forms are needed.
IRA an Alternative Till 401(k) Kicks In
Q: I changed jobs this year. My new employer offers a 401(k) plan, but I am not eligible to join it until I have been on the job one year. Given this restriction, am I eligible to make a tax-deductible contribution to an individual retirement account? --R.V.
A: Yes. You can make a tax-deductible contribution to an IRA if you are not eligible to join your company’s 401(k) during the tax year.
You can even make a deductible IRA contribution if you are eligible to join the 401(k) and elect not to--with one important proviso: If your employer makes contributions to a 401(k) account on your behalf--even if you make no contributions--you are deemed to be covered by the 401(k) and ineligible for a tax-deductible IRA contribution.
