Solutions Manual Chapter 14 - Tax Consequences of Home Ownership

Chapter 14 – Tax Consequences of Home Ownership

Discussion Questions:

1. [LO 1] A taxpayer owns a home in Salt Lake City, Utah and a second home in St. George,
Utah. The taxpayer sells the home in St. George at a gain. How does the taxpayer determine
which home her principal residence is for purposes of qualifying for the exclusion of gain on
the sale of a personal residence?

2. [LO 1] What are the ownership and use requirements a taxpayer must meet to qualify for the
exclusion of the gain on the sale of a residence?

3. [LO 1] Under what circumstances, if any, can a taxpayer fail to meet the ownership and use
requirements but still be able to exclude all of the gain on the sale of a principal residence?

4. [LO 1] Under what circumstances can a taxpayer meet the ownership and use requirements
for a residence but still not be allowed to exclude gain on the sale of the residence?

5. [LO 1] A taxpayer purchases and lives in a home for a year. The home appreciates in value
by $50,000. The taxpayer sells the home after her employer transfers her to an office in a
nearby city. The taxpayer buys a new home. What information do you need to obtain to
determine whether the taxpayer is allowed to exclude the gain on the sale of the first home?

6. [LO 2] Juanita owns a principal residence in New Jersey, a cabin in Montana, and a
houseboat in Hawaii. All of these properties have mortgages on which Juanita pays interest.
What limits, if any, apply to Juanita’s mortgage interest deductions? Explain whether
deductible interest is deductible for AGI or from AGI?

7. [ LO 2] Barbi really wants to acquire an expensive automobile (perhaps more expensive than
she can really afford). She has two options. Option 1: finance the purchase with an
automobile loan from her local bank at a 7 percent interest rate or Option 2: finance the
purchase with a home-equity loan at a rate of 7 percent. Compare and contrast the tax and
nontax factors Barbi should consider before deciding which loan to use to pay for the
automobile. Barbi typically has more itemized deductions than the standard deduction
amount

8. [LO 2] Lars and Leigha saved up for years before they purchased their dream home. They
were considering (1) using all of their savings to make a large down payment on the home
(90 percent of the value of the home) and barely scraping by without the backup savings or
(2) making a more modest down payment (50 percent of the value of the loan) and holding
some of the savings in reserve as needed if funds get tight. They decided to go with the
large down payment because they figured they could always refinance the home to pull some
equity out of the home if things got tight. What advice would you give them about the tax
consequences of their decision?

9. [LO 2] How are acquisition indebtedness and home-equity indebtedness similar? How are
they dissimilar?

10. [LO 2] Why might it be good advice from a tax perspective to think hard before deciding to
quickly pay down mortgage debt?

11. [LO 2] Can portions of one loan secured by a residence consist of both acquisition
indebtedness and home-equity indebtedness? Explain

12. [LO 2] When a taxpayer has multiple loans secured by her residence that in total exceed the
limits for deductibility, how does the taxpayer determine the amount of the deductible
interest expense?

13. [LO 2] Compare and contrast the characteristics of a deductible point from a nondeductible
point on a first home mortgage.

14. [LO 2] Is the break-even period generally longer or shorter for points paid to reduce the
interest rate on initial home loans or points paid for the same purpose on a refinance?
Explain.

15. [LO 2] {Planning} Under what circumstances is it likely economically beneficial to pay
points to reduce the interest rate on a home loan?

16. [LO 2] Harry decides to finance his new home with a 30-year fixed mortgage. Because he
figures he will be in this home for a long time, he decides to pay a fully deductible discount
point on his mortgage to reduce the interest rate. Assuming Harry itemizes deductions and
has a constant marginal tax rate over time, will the time required to recover the cost of the
discount point be shorter or longer if Harry makes extra principal payments starting in the
first year than it would be if he does not make any extra principal payments?

17. [LO 3] A taxpayer sold a piece of real property in year 1. The amount of year 1 real property
taxes was estimated at the closing of the sale and the amounts were allocated between the
buyer and the taxpayer. At the end of year 1, the buyer receives a property tax bill that turns
out to be higher than the estimate. After paying the tax bill, the buyer contacts the taxpayer
at the beginning of year 2 and asks the taxpayer to pay the taxpayer’s share of the shortfall.
The taxpayer sends a check to the buyer. Should the taxpayer be concerned that she won’t
get to deduct the extra tax payment because it was paid to the buyer and not to the taxing
jurisdiction? Explain.

18. [LO 3] Is a homeowner allowed a property tax deduction for amounts included in the
monthly mortgage payment that are earmarked for property taxes? Explain

19. [LO 3] How is the first-time home buyer credit similar to an interest-free loan from the
government? How is it different from an interest-free loan? Answer for qualifying home
purchases in 2008, 2009, and 2010.

20. [LO 3] Is it possible for a taxpayer who currently owns a principal residence to sell the
residence and acquire a new principal residence with a purchase that qualifies for the firsttime home buyer credit? Explain.

21. [LO 4] For taxpayers that own second homes, how does the taxpayer distinguish a day of
personal use from a day of rental use?

22. [LO 4] {Planning} Is it possible for a taxpayer to receive rental income that is not subject to
taxation? Explain.

23. [LO 4] Halle just acquired a vacation home. She plans on spending several months each year
vacationing in the home, and she plans on renting the property for the rest of the year. She is
projecting tax losses on the rental portion of the property for the year. She is not too
concerned about the losses because she is confident she will be able to use the losses to offset
her income from other sources. Is her confidence misplaced? Explain.

24. [LO 4] {Planning} A taxpayer stays in a second home for the entire month of September. He
would like the home to fall into the residence with significant rental use category for tax
purposes. What is the maximum number of days he can rent out the home and have it
qualify?

25. [LO 4] Compare and contrast the IRS method and the Tax Court method for allocating
expenses between personal use and rental use for vacation homes. Include the Tax Court’s
justification for departing from the IRS method in your answer.

26. [LO 4] In what circumstances is the IRS method for allocating expenses between personal
use and rental use for vacation homes more beneficial to a taxpayer than the Tax Court
method?

27. [LO 4] Under what circumstances would a taxpayer who generates a loss from renting a
home that is not a residence be able to fully deduct the loss? What potential limitations
apply?

28. [LO 4] Describe the circumstances in which a taxpayer acquires a home and rents it out and
is not allowed to deduct a portion of the interest expense on the loan the taxpayer used to
acquire the home.

29. [LO 4] Is it possible for a rental property to generate a positive annual cash flow and at the
same time produce a loss for tax purposes? Explain.

30. [LO 4, LO 5] How are the tax issues associated with home offices and vacation homes used
as rentals similar? How are the tax issues or requirements dissimilar?

31. [LO 5] Are employees or self-employed taxpayers more likely to qualify for the home office
deduction? Explain.

32. [LO 5] Compare and contrast the manner in which employees and employers report home
office deductions on their tax returns

33. [LO 5] For taxpayers qualifying for home office deductions, what are considered to be
indirect expenses of maintaining the home? How are these expenses allocated to personal
and home office use?

34. [LO 5] What limitations exist for self-employed taxpayers in deducting home office
expenses, and how does the taxpayer determine which deductions are deductible and which
are not in situations when the overall amount of the home office deduction is limited?

35. [LO 1, 5] A self-employed taxpayer deducts home office expenses. The taxpayer then sells
the home at a $100,000 gain. Assuming the taxpayer meets the ownership and use tests, does
the full gain qualify for exclusion? Explain.

36. [LO 1] Steve and Stephanie Pratt purchased a home in Spokane, Washington for $400,000.
They moved into the home on February 1 of year 1. They lived in the home as their primary
residence until June 30 of year 5, when they sold the home for $700,000. The Pratts’
marginal tax rate is 34 percent.

a. How much in taxes will they be required to pay on the gain on the sale of the home?
b. Assume the original facts, except that Steve and Stephanie live in the home until
January 1 of year 3 when they purchased a new home and rented the original home.
They finally sell the original home on June 30 of year 5 for $700,000. Ignoring any
issues relating to depreciation taken on the home while it was being rented, what
amount of taxes will the Pratts be required to pay on the sale of the home?
c. Assume the same facts as in (b), except that the Pratts lived in the home until January
of year 4 when they purchased a new home and rented the first home. What amount
of taxes will the Pratts need to pay if they sell the first home on June 30 of year 5 for
$700,000?

37. [LO 1] Steve and Stephanie Pratt purchased a home in Spokane, Washington for $400,000.
They moved into the home on February 1, of year 1. They lived in the home as their primary
residence until November 1 of year 1 when they sold the home for $500,000. The Pratts’
marginal tax rate is 34 percent.

a. Assume that the Pratts sold their home and moved because they don’t like their
neighbors. How much gain will the Pratts recognize on their home sale? At what rate, if
any, will the gain be taxed?
b. Assume the Pratts sell the home because Stephanie’s employer transfers her to an
office in Utah. How much gain will the Pratts recognize on their home sale?
c. Assume the same facts as in (b), except that the Pratts sell their home for $700,000.
How much gain will the Pratts recognize on the home sale?
d. Assume the same facts as (b), except that on December 1 of year 0 the Pratts sold their
home in Seattle and excluded the $300,000 gain from income on their year 0 tax return.
How much gain will the Pratts recognize on the sale of their Spokane home?

38. [LO 1] Steve Pratt, who is single, purchased a home in Spokane, Washington for $400,000.
He moved into the home on February 1 of year 1. He lived in the home as his primary
residence until June 30 of year 5, when he sold the home for $700,000. Steve’s ordinary
marginal tax rate is 34 percent

a. What amount of gain will Steve be required to recognize on the sale of the home?
b. Assume the original facts, except that the home is Steve’s vacation home and he
vacations there four months each year. Steve does not ever rent the home to others.
What gain must Steve recognize on the home sale?
c. Assume the original facts except that Steve married Stephanie on February 1 of year 3
and the couple lived in the home until they sold it in June of year 5. Under state law,
Steve owned the home by himself. How much gain must Steve and Stephanie recognize
on the sale (assume they file a joint return in year 5).
d. Assume the original facts, except that Stephanie moved in with Steve on March 1 of
year 3 and the couple was married on March 1 of year 4. Under state law, the couple
jointly owned Steve’s home beginning on the date they were married. On December 1 of
year 3, Stephanie sold her home that she lived in before she moved in with Steve. She
excluded the entire $50,000 gain on the sale on her individual year 3 tax return. What
amount of gain must the couple recognize on the sale in June of year 5?

39. Celia has been married to Daryl for 52 years. The couple has lived in their current home for
the last 20 years. On October of year 0, Daryl passed away. Celia sold their home and
moved into a condominium. What is the maximum exclusion Celia is entitled to if she sells
the home on December 15 of year 1?

40. [LO 1] Sarah purchased a home on January 1, 2007 for $600,000. She eventually sold the
home for $800,000. What amount of the $200,000 gain on the sale may Sarah exclude from
gross income in each of the following alternative situations?

41. [LO 2] Javier and Anita Sanchez purchased a home on January 1, 2010 for, $500,000 by
paying $200,000 down and borrowing the remaining $300,000 with a 7 percent loan secured
by the home. The loan requires interest-only payments for the first five years. The
Sanchezes would itemize deductions even if they did not have any deductible interest. The
Sanchezes’ marginal tax rate is 30 percent.

a. What is the after-tax cost of the interest expense to the Sanchezes in 2010?
b. Assume the original facts, except that the Sanchezes rent a home and pay $21,000 in
rent during the year. What is the after-tax cost of their rental payments in 2010?
c. Assuming the interest expense is their only itemized deduction for the year and that
Javier and Anita file a joint return, have great eyesight, and are under 60 years of age,
what is the after-tax cost of their 2010 interest expense?

42. [LO 2] Javier and Anita Sanchez purchased a home on January 1 of year 1 for $500,000 by
paying $50,000 down and borrowing the remaining $450,000 with a 7 percent loan secured
by the home. The loan requires interest-only payments for the first five years. The
Sanchezes would itemize deductions even if they did not have any deductible interest.

a. Assume the Sanchezes also took out a second loan secured by the home for $80,000 to
fund expenses unrelated to the home. The interest rate on the second loan is 8 percent.
The Sanchezes make interest-only payments on the loan in year 1. What is the amount of
their deductible interest expense on the second loan in year 1?
b. Assume the original facts and that the Sanchezes take out a second loan secured by the
home in the amount of $50,000 to fund expenses unrelated to the home. The interest rate
on the second loan is 8 percent. The Sanchezes make interest-only payments during the
year. What is the amount of their deductible interest expense on the second loan in year
1?

43. [LO 2] Javier and Anita Sanchez purchased a home on January 1, year 1 for $500,000 by
paying $200,000 down and borrowing the remaining $300,000 with a 7 percent loan secured
by the home. The loan requires interest-only payments for the first five years. The
Sanchezes would itemize deductions even if they did not have any deductible interest. On
January 1, the Sanchezes also borrowed money on a second loan secured by the home for
$75,000. The interest rate on the loan is 8 percent and the Sanchezes make interest-only
payments in year 1 on the second loan.

a. Assuming the Sanchezes use the second loan to landscape the yard to their home, how
much of the interest expense on the second loan are they allowed to deduct in year 1?
b. Assume the original facts and that the Sanchezes use the $75,000 loan proceeds for an
extended family vacation. How much of the interest expense on the second loan are they
allowed to deduct in year 1?
c. Assume the original facts, except that the Sanchezes borrow $120,000 on the second
loan and they use the proceeds for an extended family vacation and other personal
expenses. How much of the second loan interest expense are the Sanchezes allowed to
deduct in year 1?

44. On January 1 of year 1, Arthur and Aretha Franklin purchased a home for $1.5 million by
paying $200,000 down and borrowing the remaining $1.3 million with a 7 percent loan
secured by the home.

a. What is the amount of the interest expense the Franklins may deduct in year 1?
b. Assume that in year 2, the Franklins pay off the entire loan but at the beginning of
year 3, they borrow $300,000 secured by the home at a 7 percent rate. They make
interest-only payments on the loan during the year. What amount of interest expense
may the Franklins deduct in year 3 on this loan? Does it matter what they do with the
loan proceeds? Explain.
c. Assume the same facts as in (b), except that the Franklins borrow $80,000 secured by
their home. What amount of interest expense may the Franklins deduct in year 3 on this
loan? Does it matter what they do with the loan proceeds? Explain.

45. [LO 2] In year 0, Eva took out a $50,000 home-equity loan from her local credit union. At
the time she took out the loan, her home was valued at $350,000. At the time of the loan,
Eva’s original mortgage on the home was $265,000. At the end of year 1, her original
mortgage is $260,000. Unfortunately for Eva, during year 1, the value of her home dropped
to $280,000. Consequently, as of the end of year 1, Eva’s home secured $310,000 of homerelated debt but her home is only valued at $280,000. Assuming Eva paid $15,000 of interest
on the original mortgage and $3,500 of interest on the home-equity loan during the year, how
much qualified residence interest can Eva deduct in year 1?

46. [LO 2] On January 1 of year 1, Jason and Jill Marsh acquired a home for $500,000 by paying
$400,000 down and borrowing $100,000 with a 7 percent loan secured by the home. On
June 30, of year 1, the Marshes needed cash so they refinanced the original loan by taking
out a new $250,000 7 percent loan. With the $250,000 proceeds from the new loan, the
Marshes paid off the original $100,000 loan and used the remaining $150,000 to fund their
son’s college education.

a. What amount of interest expense on this loan may the Marshes deduct in year 1?
b. Assume the same facts as in (a), except that the Marshes use the $150,000 cash from
the refinancing to add two rooms and a garage to their home. What amount of interest
expense on the refinanced loan may the Marshes deduct in year 1?

47. [LO 2] {Planning} On January 1, year 1 Brandon and Alisa Roy purchased a home for $1.5
million by paying $500,000 down and borrowing the remaining $1 million with a 7 percent
loan secured by the home. On the same day, the Roys took out a second loan, secured by the
home, in the amount of $300,000.

a. Assuming the interest rate on the second loan is 8 percent. What is the maximum
amount of the interest expense the Roys may deduct on these two loans in year 1?
b. Assuming the interest rate on the second loan is 6 percent, what is the maximum
amount of interest expense the Roys may deduct on these two loans in year 1?

48. [LO 2] {Research} Jennifer has been living in her current principal residence for three years.
Six months ago Jennifer decided that she would like to purchase a second home near a beach
so she can vacation there for part of the year. Despite her best efforts, Jennifer has been
unable to find what she is looking for. Consequently, Jennifer recently decided to change
plans. She purchased a parcel of land for $200,000 with the intention of building her second
home on the property. To acquire the land, she borrowed $200,000 secured by the land.
Jennifer would like to know whether the interest she pays on the loan before construction on
the house is completed is deductible as mortgage interest.

a. How should Jennifer treat the interest if she has begun construction on the home and
plans to live in the home in 12 months?
b. How should Jennifer treat the interest if she hasn’t begun construction on the home,
but plans to live in the home in 15 months?
c. How should Jennifer treat the interest if she has begun construction on the home but
doesn’t plan to live in the home for 37 months?

49. [LO 2] {Planning} Rajiv and Laurie Amin are recent college graduates looking to purchase a
new home. They are purchasing a $200,000 home by paying $20,000 down and borrowing
the other $180,000 with a 30-year loan secured by the home. The Amins have the option of
(1) paying no discount points on the loan and paying interest at 8 percent or (2) paying one
discount point on the loan and paying interest of 7.5 percent. Both loans require the Amins
to make interest-only payments for the first five years. Unless otherwise stated, the Amins
itemize deductions irrespective of the amount of interest expense. The Amins are in the 25
percent marginal ordinary income tax bracket.

a. Assuming the Amins do not itemize deductions, what is the break-even point for
paying the point to get a lower interest rate?
b. Assuming the Amins do itemize deductions, what is the break-even point for paying
the point to get a lower interest rate?
c. Assume the original facts except that the amount of the loan is $300,000. What is the
break-even point for the Amins for paying the point to get a lower interest rate?
d. Assume the original facts except that the $180,000 loan is a refinance instead of an
original loan. What is the break-even point for paying the point to get a lower interest
rate?
e. Assume the original facts except that the amount of the loan is $300,000 and the loan is
a refinance and not an original loan. What is the break-even point for paying the point to
get a lower interest rate?

50. [LO 3] In year 1, Peter and Shaline Johnsen moved into a home in a new subdivision. Theirs
was one of the first homes in the subdivision. In year 1, they paid $1,500 in property taxes to
the state government, $500 to the developer of the subdivision for an assessment to pay for
the sidewalks, and $900 for property taxes on land they hold as an investment. What amount
of taxes are the Johnsens allowed to deduct assuming their itemized deductions exceed the
standard deduction amount before considering any property tax deductions?

51. [LO 3] Jesse Brimhall is single. In 2010, his itemized deductions were $5,000 before
considering any real property taxes he paid during the year. Jesse’s adjusted gross income
was $70,000 (also before considering any property tax deductions). In 2010, he paid real
property taxes of $3,000 on property 1 and $800 of real property taxes on property 2.

a. If property 1 is Jesse’s primary residence and property 2 is his vacation home (he
does not rent it out at all), what is his taxable income after taking property taxes into
account?
b. If property 1 is Jesse’s business building (he owns the property) and property 2 is his
primary residence, what is his taxable income after taking property taxes into
account?
c. If property 1 is Jesse’s primary residence and property 2 is a parcel of land he holds
for investment, what is his taxable income after taking property taxes into account?

52. [LO 3] Kirk and Lorna Newbold purchased a new home on August 1 of year 1 for $300,000.
At the time of the purchase, it was estimated that the real property tax rate for the year would
be .5 percent of the property’s value. Because the taxing jurisdiction collects taxes on a July
1 year-end, it was estimated that the Newbolds would be required to pay $1,375 in property
taxes for the property tax year relating to August through June of year 2 ($300,000 × .005 ×
11/12). The seller would be required to pay the $125 for July of year 1. Along with their
monthly payment of principal and interest, the Newbolds paid $125 to the mortgage company
to cover the property taxes. The mortgage company placed the money in escrow and used
the funds in the escrow account to pay the property tax bill in July of year 2. The Newbolds’
itemized deductions exceed the standard deduction before considering property taxes.

a. How much in property taxes can the Newbolds deduct for year 1?
b. How much in property taxes can the Newbolds deduct for year 2?
c. Assume the original facts except that the Newbolds were not able to collect $125 from
the Seller for the property taxes for July of year 1. How much in property taxes can the
Newbolds deduct for year 1 and year 2?
d. Assume the original facts except that the tax bill for July 1 of year 1 through June 30 of
year 2 turned out to be $1,200 instead of $1,500. How much in property taxes can the
Newbolds deduct in year 1 and year 2?

53. [LO 3] {Research} Jenae and Terry Hutchings own a parcel of land as tenants by entirety.
That is, they both own the property but when one of them dies the other becomes the sole
owner of the property. For nontax reasons, Jenae and Terry decide to file separate tax returns
for the current year. Jenae paid the entire $3,000 property tax bill for the land. How much of
the $3,000 property tax payment is each spouse entitled to deduct in the current year?

54. [LO 3] After renting an apartment for five years, Todd and Diane purchased a new home for
$150,000 on July 1, 2008. On their 2008 joint tax return, they claimed a $7,500 first-time
home buyer credit. Answer the following questions relating to the credit.

a. Assuming they still live in the home, what amount of credit must Todd and Diane
repay with their 2010 tax return?
b. Assuming they sell the home in August 2014 for a $20,000 gain, what amount of
credit must they pay back with their 2014 tax return?
c. Assuming they sell the home in August 2014 for a $3,000 gain, what amount of credit
must they pay back with their 2014 tax return?

55. [LO 3] In 2010, Harold purchased a new condominium for $70,000 to use as his principal
residence. Harold files as a single taxpayer. What is Harold’s first-time home buyer credit in
the following alternative situations?

a. Harold purchased the condominium on February 1, 2010. Harold has lived in an
apartment he rented since 2002. Harold’s 2010 AGI is $60,000.
b. Harold purchased the condominium on February 1, 2010. Harold has lived in an
apartment he has rented since 2002. Harold’s 2010 AGI is $135,000.
c. Harold purchased the condominium on February 1, 2010. In the six years preceding
this purchase, Harold lived in another home he owned. Harold sold that other home
on March 1, 2010. Harold’s 2010 AGI is $60,000.
d. Harold purchased the condominium on February 1, 2010. In the three years
preceding this purchase, Harold lived in a home he owned. This was the first home
Harold ever owned. Harold sold this home on March 1, 2010. Harold’s 2010 AGI is
$60,000.

56. [LO 3] {Research} For her 90th birthday, Jamie (a widow) purchased a new home on
September 1, 2008 and appropriately claimed a first-time home buyer credit of $7,500 on her
2008 tax return. Jamie followed the appropriate schedule for paying back the credit.
However, in December 2014, Jamie passed away of old age. Is Jamie (or her estate)
responsible for paying the unpaid balance of the credit? Explain.

57. [LO 4] Several years ago, Junior acquired a home that he vacationed in part of the time and
rented out part of the time. During the current year Junior:
 Personally stayed in the home for 22 days.
 Rented it to his favorite brother at a discount for 10 days.
 Rented it to his least favorite brother for eight days at the full market rate.
 Rented it to his friend at a discounted rate for four days.
 Rented the home to third parties for 58 days at the market rate.
 Did repair and maintenance work for two days.
 Marketed the property and made it available for rent for 150 days during the year.
How many days of personal use and how many days of rental use did Junior experience on
the property during the year?

58. [LO 4] Dillon rented his personal residence at Lake Tahoe for 14 days while he was
vacationing in Ireland. He resided in the home for the remainder of the year. Rental income
from the property was $6,500. Expenses associated with use of the home for the entire year
were as follows:

Use the following facts to answer problems 59 and 60.
Natalie owns a condominium near Cocoa Beach in Florida. This year, she incurs the
following expenses in connection with her condo:

59. [LO 4] Assume Natalie uses the IRS method of allocating expenses to rental use of the
property.

a. What is the total amount of for AGI (rental) deductions Natalie may deduct in the
current year related to the condo?
b. What is the total amount of itemized deductions Natalie may deduct in the current year
related to the condo?
c. If Natalie’s basis in the condo at the beginning of the year was $150,000, what is her
basis in the condo at the end of the year?
d. Assume that gross rental revenue was $1,000 (rather than $10,000), what amount of
for AGI deductions may Natalie deduct in the current year related to the condo?

60. [LO 4] Assume Natalie uses the Tax Court method of allocating expenses to rental use of the
property.

61. [LO 4] Assume Alexa receives $30,000 in gross rental receipts.

a. What effect do the expenses associated with the property have on her AGI?
b. What effect do the expenses associated with the property have on her itemized
deductions?

62. [LO 4] Assuming Alexa receives $20,000 in gross rental receipts, answer the following
questions:

a. What effect does the rental activity have on her AGI for the year?
b. Assuming that Alexa’s AGI from other sources is $90,000, what effect does the rental
activity have on Alexa’s AGI? Alexa makes all decisions with respect to the property.
c. Assuming that Alexa’s AGI from other sources is $120,000 what effect does the rental
activity have on Alexa’s AGI? Alexa makes all decisions with respect to the property.
d. Assume that Alexa’s AGI from other sources is $200,000. This consists of $150,000
salary, $10,000 of dividends, and $25,000 of long-term capital gain, and net rental
income from another rental property in the amount of $15,000. What effect does the
Cocoa Beach Condo rental activity have on Alexa’s AGI?

63. [LO 4] {Planning} Assume that in addition to renting the condo for 100 days, Alexa uses the
condo for 8 days of personal use. Also assume that Alexa receives $30,000 of gross rental
receipts. Answer the following questions:

a. What is the total amount of for AGI deductions relating to the condo that Alexa may
deduct in the current year? Assume she uses the IRS method of allocating expenses
between rental and personal days.
b. What is the total amount of from AGI deductions that Alexa relating to the condo that
Alexa may deduct in the current year? Assume she uses the IRS method of allocating
expenses between rental and personal days.
c. Would Alexa be better or worse off after taxes if she uses the Tax Court method of
allocating expenses?

64. [LO 5] Brooke owns a sole proprietorship in which she works as a management consultant.
She maintains an office in her home where she meets with clients, prepares bills, and
performs other work-related tasks. The home office is 300 square feet and the entire house is
4,500 square feet. Brooke incurred the following home-related expenses during the year.

What amount of each of these expenses is allocated to the home office?

The expenses are allocated to the home office as follows:

Use the following facts to answer problems 65 – 66.
Rita owns a sole proprietorship in which she works as a management consultant. She
maintains an office in her home where she meets with clients, prepares bills, and performs
other work-related tasks. Her business expenses, other than home office expenses, total
$5,600. The following home-related expenses have been allocated to her home office.

Also, assume that not counting the sole proprietorship, Rita’s AGI is $60,000.

65. [LO 5] Assume Rita’s consulting business generated $15,000 in gross income.

a. What is Rita’s home office deduction for the current year?
b. What would Rita’s home office deduction for the current year be if her business
generated $10,000 of gross income instead of $15,000?
c. What is Rita’s AGI for the year?
d. What types and amounts of expenses will she carry over to next year?

66. [LO 5] Assume Rita’s consulting business generated $13,000 in gross income for the current
year.

a. What is Rita’s home office deduction for the current year?
b. What is Rita’s AGI for the year?
c. Assume the original facts, except that Rita is an employee, and not self-employed.
Consequently, she does not receive any gross income from the (sole proprietorship)
business and she does not incur any business expenses unrelated to the home office.
Finally, her AGI is $60,000 consisting of salary from her work as an employee. What
effect do her home office expenses have on her itemized deductions?
d. Assuming the original facts, what types and amounts of expenses will she carry over to
next year?

67. [LO 1, 5] Alisha, who is single, owns a sole proprietorship in which she works as a
management consultant. She maintains an office in her home where she meets with clients,
prepares bills, and performs other work-related tasks. She purchased the home at the
beginning of year 1 for $400,000. Since she purchased the home and moved into it she has
been able to deduct $10,000 of depreciation expenses to offset her consulting income. At the
end of year 3, Alisha sold the home for $500,000. What is the amount of taxes Alisha will be
required to pay on the gain from the sale of the home? Alisha’s ordinary marginal tax rate is
30 percent.
$2,500, calculated as follows:

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