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Ed Johnson
Ed Johnson, Tax Preparer
Category: Tax
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Experience:  GPHR Cert; U.S. Treasury Tax Advocacy Panel appointee
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Joint assets in insolvency test

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My wife purchased an investment property that was heading into foreclosure. The property was sold in 2008 as a short sale, and both lenders (1st and 2nd lien holders) issued her a 1099-C. Since this is considered ordinary income, this income creates a tax consequence that we simply cannot absorb. Without going into BK, our only way out of this mess is to prove that at the time of debt forgiveness, my wife was insolvent. The insolvency test form asks to list all liabilities and assets. I assume this is ONLY for her, since the investment property was only in her name. My question is: When listing the assets, if certain assets are jointly held between us, is it fair to assume that we are to list just HALF the FMV of those assets? Again, I was not on the loan or mortgage of the investment property, and the 1099-C's were issued just to her. If it matters, we live in FL and the investment home was also in FL. Thank you all.
Submitted: 5 years ago.
Category: Tax
Expert:  Ed Johnson replied 5 years ago.

Dear 9998,

 

thank you for your question.

 

Florida is not a community property state.

 

Jointly held property can not be placed in lien to satisfy tax debts of one partner in Florida.

 

So you can exclude jointly held assets.

Customer: replied 5 years ago.
When you say "So you can exclude jointly held assets", are you stating that the entire asset does NOT need to be accounted for if held jointly, or just half of it?

Thanks for you prompt reply.
Expert:  Ed Johnson replied 5 years ago.
The entire jointly held asset does not have to be claimed, it can be excluded.
Customer: replied 5 years ago.
Thanks again - don't want to be abusive of your kind services, but here's a tricky (last) question that will help me finalize the insolvency worksheet in order to prepare our taxes:

If the jointly held asset (in this case, our primary home) is to be excluded in the insolvency calculations, does the liability of that jointly held asset also get excluded? The funny thing is that our primary is in both names (the title), but the NOTE is in HER name. Can she use this liability (of this jointly owned asset) to help increase her overall liabilities? It's obvious that at this stage, we want as much debt as possible in her name to prove her insolvency.

Again, thanks.
Expert:  Ed Johnson replied 5 years ago.

Dear 9998,

 

Thank you for your patience. I had opted out earlier because I had to go away for severl hours, and had hoped someone would have been able to take care of this.

 

My original answer was based on court rulings regarding community property laws with regard to tax.

 

This part of your follow on question becomes more legal than a tax question. It relates two when something becomes community marital property through mutation in a non-community property state.

 

In community property states for example, the supreme court has ruled, that married couples are required to claim 50% of each other's income. AND the IRS position is that they will also take that position unless the couple has agreed otherwise.

 

In equitible distribution states, seperately held property and debt can mutate to marital assets,and vise versa based on different circumstances, and purpose.

 

The IRS rules say that you include debt and assets even if they are otherwise exempted by law.

 

If you put all of that together, the final result is that:

 

If you count that debt, then even though the marital home is jointly held, you have to count the asset in total. The reason is the debt, individually held, is secured by the asset in total. (even though jointly held asset).

Customer: replied 5 years ago.
OK - That clears it. Again, your counseling has been great. It's been MUCH appreciated.

I believe we will elect to omit the asset, since there IS equity in the primary home and we want to show as little assets as possible for this insolvency exercise. We will also omit joint bank accounts, based on the premise you outlined above.

Again, thank you.
Expert:  Ed Johnson replied 5 years ago.

Dear 9998,

 

the joint bank accounts are another separate issue.

 

That money is commingled money by your state law. If you are filing a joint return, then the entire joint bank account needs to be counted in assets for the form 982.

 

According to the IRS with regard to the property and with regard to the bank accounts, if you file married separate returns, you can apportion these two issues to her half, and she can figure insolvency on her own.

 

I do not mean to confuse you on these issues. It is far easier in a community property state. What makes this complicated is that you are in an equitable and separate property state, and you have the issue of mutation of assets based on use and commingled, and other such issues. So when you commingled the bank accounts you mutated that to marital assets. In a joint return, like the marital home, you would have to include this.

 

My recommendation is to file married separate this year for purposes of this one issue.

 

 

Customer: replied 5 years ago.
You hit the nail right on. For this year only, due to the 1099 issue my wife received for the short sale, we were planning on filing separately so that the IRS would have a clear picture of the numbers as they pertain to just HER.

Are you saying then, that if we file separately, joint accounts will have to be split in half for the sake of the insolvency test? What if she has an additional account with her mother (which she does), where she is listed as an account holder? This too has to be entered and we use half?

I assume her car is hers and hers only, right? It is titled under her name and the auto loan is her debt. Correct? We would not be able to omit this asset?
Expert:  Ed Johnson replied 5 years ago.

Dear 9998,

 

The general rule about the separate property and jointly held property in your state holds true for you and her with regard to the Marital home as you described it, and the joint bank accounts. Half the home, and if the debt is all hers, then her debt.

 

Then on the joint accounts her half for the sake of the insolvency test.

 

For the car, that is all hers. she can not omit thee asset or the debt if any.

 

She does not have to list the mother's account to which she is a joint owner.

 

The issue with the joint assets had to do with the separate property laws in your state and mutation of the assets, as well as your filing status in regard to the marital home, and the debt being secured by the marital home, as well as the commingling of money in the joint account (of the marriage).

 

 

 

 

Customer: replied 5 years ago.
You just thew me off with your last reply, versus a prior reply. I'm terribly sorry.

On March 12 2009 at 8:53 PM, this reply stated that, "The entire jointly held asset does not have to be claimed, it can be excluded."

Above, you mention that, "...on the joint accounts her half for the sake of the insolvency test."

We obviously WANT to exclude as many assets as the law permits, and we thought we could exclude all joint assets (primary home, household goods, bank accounts, etc) as you mentioned previously. However, today, you say that we have to take into account her half on joint accounts.

??
Expert:  Ed Johnson replied 5 years ago.

I am sorry, I do not mean to confuse you.

 

My original response was a general rule with regard to jointly held assets in a non-community property state, in relations to individual debt.

 

BUT once you told me about the marital home and the joint bank accont between you and your wife, I had to speak about the exceptions. with regard to marital assets and the thing called mutation.

 

the joint bank accounts are comingled. this changes the rule. I had forgot about the joint bank account issue when I stated the general rule. I was somehow focused on business assets and investment properties, as a mind set.

 

when If you file a joint return, the IRS would require you claim the entire account as an asset. If you file seperately, she would claim her half. This is because of the mutation issue with comingled accounts.

 

Again, I appologize for the confusion.

 

 

Customer: replied 5 years ago.
No problem, you view hundreds of these Q's. I appreciate your input greatly. So, to - finalize - and re-cap:

• We will file separately THIS year and submit the proper form for her to prove insolvency just prior to the canceled debt (1099-C);

• We will sum up ALL joint assets (primary home's value, joint bank accounts, household goods, etc) and use HALF the FMV;

• We will sum up all personally owned assets she owns and use 100% of FMV value: auto and 401k;

• We will sum up all liabilities under her name, except that we will use HALF the liability of the primary's home (?);

• We will sum up and include her auto loan and all credit cards under her name;

• *We will EXCLUDE the bank account she has with her mother.

This will complete the insolvency test and classify correctly allowable assets and liabilities and the proportion of each.

I think we're done... right?
Expert:  Ed Johnson replied 5 years ago.
We will file separately THIS year and submit the proper form for her to prove insolvency just prior to the canceled debt (1099-C); I agree with this approach

  • We will sum up ALL joint assets (primary home's value, joint bank accounts, household goods, etc) and use HALF the FMV; Confirmed (based on comingling rules in your state)

  • We will sum up all personally owned assets she owns and use 100% of FMV value: auto and 401k; (confirmed. regarding FMV of the auto. you do not have to go bay full blue book values. you can get an appraisal, which ever provides your best advantage)

  • We will sum up all liabilities under her name, except that we will use HALF the liability of the primary's home (?); (This is the confusing part again. You comingled the home, but the note is in her name. If you used both of your incomes to pay this note (from comingled joint bank accounts for example, then this is correct. Because the debt is also mutatable; but if she paid the note from seperate assets, that can be traced seperately (traceing rules), then she can include all of the debt)

  • We will sum up and include her auto loan and all credit cards under her name; (confirmed)

  • *We will EXCLUDE the bank account she has with her mother. (Cofirmed)
Customer: replied 5 years ago.
Mr. Johnson,
You have been a wealth of information and support. I thank you greatly. I believe we are much better prepared now in handling the presentation of my wife's insolvency case to the IRS.

God bless.

Joe Alonso
Expert:  Ed Johnson replied 5 years ago.

Dear XXXXX,

 

Thank you for your comments and feedback. Vivat jesus

Ed Johnson, Tax Preparer
Category: Tax
Satisfied Customers: 10760
Experience: GPHR Cert; U.S. Treasury Tax Advocacy Panel appointee
Ed Johnson and 6 other Tax Specialists are ready to help you
Customer: replied 5 years ago.
Mr. Johnson,
I hate to bring this question up at the 11th hour (literally)...

Do we (my wife, actually) have the option of omitting all joint accounts, or MUST they be listed? Will this raise a flag with the IRS?
We were told that in bankruptcy cases, joint accounts are not considered. I don;t know if that had to do with FL laws or not... (?) Does the IRS follow this rule (or not) for insolvency issues?

Also, my accountant wanted to know what the Code Section was for the info you provided in the above replies.

Thanks again.... (and again)
Expert:  Ed Johnson replied 5 years ago.

Joe,

 

Thanks for getting back to me. This is a highly complicated area, especially when you are from an equitable (non-community property state).

 

If you and your accountant call the irs at(NNN) NNN-NNNN select option 1 and option 5, you can ask for the "complicated law" division to discuss insolvency for the form 982. But these guys are on a clear the phone time line and not all sides of the issue always get discussed. They will tell you that if you file a joint return, that you have to include all assets, even if they would otherwise be excluded. They would generally be correct.

 

They will also tell you if your wife separately owned the (business) property on which she received the 1099-C, and you filed a separate return, that you would be able to separate out the assets.

 

Regarding bankruptcy: the IRS generally follows the state rules for separate bankruptcies, and so forth, but they deviate when it comes to showing solvency if you file a joint return. BUT the IRS also follows the state marital laws for marital property such as the community property laws. But application is inconsistent,and the IRS reserves the right to use their discretion.

 

When ever you get two or three experts together, you can get variation on how they interpret the facts. I based my comments and answers on a combination of IRS publication and IRC, case law, and FL community property laws.

 

But note, even if one follows the IRS publications on a subject exactly, the courts have interpreted teh code on which the pubs are based differently. This has prompted one judge to state that we "use the IRS publications at our own peril".

 

It is Florida and federal bankruptcy laws that exclude the joint accounts during an individual bankruptcy. BUT you should have had a choice to include one or the other.

 

If your accountant is a CPA he should know the codes.

 

But here are a few.

 

Section 108 of the code http://www.taxalmanac.org/index.php/Sec._108

 

IRS Publication 4681: http://www.irs.gov/publications/p4681/ch01.html#d0e665

 

IRS Publication 555, Community Property: http://www.irs.gov/pub/irs-pdf/p555.pdf

 

Relief From Community Property: http://www.irs.gov/irm/part25/ch11s05.html

 

Sections of FL law on marital and separate property: http://www.flsenate.gov/statutes/index.cfm?App_mode=Display_Statute&URL=Ch0061/ch0061.htm

 

Case law considered

 

http://miamifloridabankruptcylaw.wordpress.com/category/insolvency-exception/

 

Note, I had one I used that included treatment of jointly he,held assets. Cannot find it now. The Internet is suddenly filled with international entries on the same subject. It will take a while for me to find it again.

 

The botXXXXX XXXXXne here though is that our interaction does not constitute a client relationship. If you have a retained accountant or CPA, then that person has to be comfortable with how he conducts his practice. Second opinions are good because they help to explore all sides of an issue. We learn a lot along the way. But it is your accountant or CPA who will be standing with you if you are audited.

 

If you file a joint return, and the IRS notices that you are dividing joint assets, it will be a red flag, that will cause them to scrutinize state laws and I.R.C. They could disallow the determination or refigure it for you.

 

 

FYI: for a discussiioin of mutated property http://www.dianafriedman.com/CM/Articles/MaritalProperty.pdf

 

 

 

 

Ed Johnson, Tax Preparer
Category: Tax
Satisfied Customers: 10760
Experience: GPHR Cert; U.S. Treasury Tax Advocacy Panel appointee
Ed Johnson and 6 other Tax Specialists are ready to help you

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