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Let's separate the issues here.1. Is the $600 first month rent considered rental income?2. How should the payments from your dad be treated?
3. Potential estate tax issues
4. Do you qualify for homeowner's exemption?
I would say the first question is the most clear. The $600 should be reported on your tax return as rental income.
The rest is where it becomes a little hazier. What was the intent behind the $20,000 payment from your dad? Rent? Security deposit? Something else? A combination of these?
Everything was left very vague and open to interpretation; that's why I'm trying to figure out what would make the most sense with this condo.
Considering the monthly payments and payment of property taxes and association fees - would you say that will be equivalent to a fair rental price you would charge a third party?
HOA + taxes is about half of what I would charge a third party for rental
In terms of monthly payments, we haven't worked out anything concrete yet
Basically, he wanted to buy a condo that I would inherit down the road, but he also doesn't want to financially burden me, so that's why he's going to pay me $20k + something per month
And he's been through foreclosure/bankruptcy, so he doesn't qualify for buying it on his own financing
If HOA+taxes+monthly payment is equivalent to what you would charge a third party, then for tax purposes, you may treat it as a rental property. You would report the rents received (note HOA plus taxes would be considered rents received) and deduct any expenses - taxes, HOA, interest, other expenses you pay) on Schedule E of your tax return.
If HOA+taxes+monthly payments is less than what you would charge a third party, then the IRS limits your ability to benefit from rental deductions. In that case, you still have to report all rents received as rental income, but interest and taxes must be claimed as itemized deductions on your Schedule A. Other expenses would not be deductible.
The treatment of the $20,000 will depend on the intent. You say it was open to interpretation, so I suggest that you document it in writing when you make a decision.
The 401k loan interest is not deductible on your income taxes in either scenario because of the nature of a 401k plan as a tax-deferred account. The gain/loss in your 401k plan is not applicable either.
Even though the property is being rented out, Cook County still allows a homeowner exemption in cases of leases where the tenant is using the property as their principal residence and the tenant is responsible for income taxes.
I don't foresee any estate/inheritance issues down the road. You own the property, not your dad. Your dad is paying you rent - that is an exchange transaction, not a gift.
I know that's a lot of information - does that fully answer your question? Please let me know if you have follow-up questions or need clarification.
Thank you. I'm just wondering if this is the best way to treat this, as a rental, where I'm paying taxes on the rental income, or whether it would make more sense to do something else. Let me ask you, what is the best thing to do with the $20,000 to minimize tax liability?
You could treat the $20,000 as a gift, but because it exceeds $14,000, your father would need to file a gift tax return. He wouldn't have to pay any tax because there is a $5,250,000 lifetime estate/gift tax in 2013.
This would have no tax effect it was treated that way.
What if we treat this as a land contract, or some type of a loan where he's getting financing from me?
That is outside my realm of expertise - I don't want to misadvise you on the legalities involved.
If the legalities are in order, from a tax standpoint, on a loan, you would pay need to taxes on the interest.
But not on the principal portion.
If that's all set up correctly, and if I receive the $20k as a gift from him today, and then down the road I get the condo from him as well, would I be liable for taxes on getting that condo down the road?
If you inherited from him or he gifted it to you, you would not owe taxes on the condo.
You would only owe taxes upon its eventual sale.