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Tax Return Amendment

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Tax Return Amendment

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The Tax Return Amendment

Tax return amendment 3. Tax return amendment   Investment Expenses Table of Contents Topics - This chapter discusses: Useful Items - You may want to see: Limits on DeductionsPassive activity. Tax return amendment Other income (nonpassive income). Tax return amendment Expenses. Tax return amendment Additional information. Tax return amendment Interest ExpensesInvestment Interest Limit on Deduction Bond Premium AmortizationSpecial rules to determine amounts payable on a bond. Tax return amendment Basis. Tax return amendment How To Figure Amortization Choosing To Amortize How To Report Amortization Expenses of Producing IncomeFees to buy or sell. Tax return amendment Including mutual fund or REMIC expenses in income. Tax return amendment Nondeductible ExpensesUsed as collateral. Tax return amendment Short-sale expenses. Tax return amendment Expenses for both tax-exempt and taxable income. Tax return amendment State income taxes. Tax return amendment Nondeductible amount. Tax return amendment Basis adjustment. Tax return amendment How To Report Investment Expenses When To Report Investment Expenses Topics - This chapter discusses: Limits on Deductions , Interest Expenses , Bond Premium Amortization , Expenses of Producing Income , Nondeductible Expenses , How To Report Investment Expenses , and When To Report Investment Expenses . Tax return amendment Useful Items - You may want to see: Publication 535 Business Expenses 925 Passive Activity and At-Risk Rules 929 Tax Rules for Children and Dependents Form (and Instructions) Schedule A (Form 1040) Itemized Deductions 4952 Investment Interest Expense Deduction See chapter 5, How To Get Tax Help , for information about getting these publications and forms. Tax return amendment Limits on Deductions Your deductions for investment expenses may be limited by: The at-risk rules, The passive activity loss limits, The limit on investment interest, or The 2% limit on certain miscellaneous itemized deductions. Tax return amendment The at-risk rules and passive activity rules are explained briefly in this section. Tax return amendment The limit on investment interest is explained later in this chapter under Interest Expenses . Tax return amendment The 2% limit is explained later in this chapter under Expenses of Producing Income . Tax return amendment At-risk rules. Tax return amendment   Special at-risk rules apply to most income-producing activities. Tax return amendment These rules limit the amount of loss you can deduct to the amount you risk losing in the activity. Tax return amendment Generally, this is the cash and the adjusted basis of property you contribute to the activity. Tax return amendment It also includes money you borrow for use in the activity if you are personally liable for repayment or if you use property not used in the activity as security for the loan. Tax return amendment For more information, see Publication 925. Tax return amendment Passive activity losses and credits. Tax return amendment   The amount of losses and tax credits you can claim from passive activities is limited. Tax return amendment Generally, you are allowed to deduct passive activity losses only up to the amount of your passive activity income. Tax return amendment Also, you can use credits from passive activities only against tax on the income from passive activities. Tax return amendment There are exceptions for certain activities, such as rental real estate activities. Tax return amendment Passive activity. Tax return amendment   A passive activity generally is any activity involving the conduct of any trade or business in which you do not materially participate and any rental activity. Tax return amendment However, if you are involved in renting real estate, the activity is not a passive activity if both of the following are true. Tax return amendment More than one-half of the personal services you perform during the year in all trades or businesses are performed in real property trades or businesses in which you materially participate. Tax return amendment You perform more than 750 hours of services during the year in real property trades or businesses in which you materially participate. Tax return amendment  The term “trade or business” generally means any activity that involves the conduct of a trade or business, is conducted in anticipation of starting a trade or business, or involves certain research or experimental expenditures. Tax return amendment However, it does not include rental activities or certain activities treated as incidental to holding property for investment. Tax return amendment   You are considered to materially participate in an activity if you are involved on a regular, continuous, and substantial basis in the operations of the activity. Tax return amendment Other income (nonpassive income). Tax return amendment    Generally, you can use losses from passive activities only to offset income from passive activities. Tax return amendment You cannot use passive activity losses to offset your other income, such as your wages or your portfolio income. Tax return amendment Portfolio income includes gross income from interest, dividends, annuities, or royalties that is not derived in the ordinary course of a trade or business. Tax return amendment It also includes gains or losses (not derived in the ordinary course of a trade or business) from the sale or trade of property (other than an interest in a passive activity) producing portfolio income or held for investment. Tax return amendment This includes capital gain distributions from mutual funds (and other regulated investment companies) and real estate investment trusts. Tax return amendment   You cannot use passive activity losses to offset Alaska Permanent Fund dividends. Tax return amendment Expenses. Tax return amendment   Do not include in the computation of your passive activity income or loss: Expenses (other than interest) that are clearly and directly allocable to your portfolio income, or Interest expense properly allocable to portfolio income. Tax return amendment However, this interest and other expenses may be subject to other limits. Tax return amendment These limits are explained in the rest of this chapter. Tax return amendment Additional information. Tax return amendment   For more information about determining and reporting income and losses from passive activities, see Publication 925. Tax return amendment Interest Expenses This section discusses interest expenses you may be able to deduct as an investor. Tax return amendment For information on business interest, see chapter 4 of Publication 535. Tax return amendment You cannot deduct personal interest expenses other than qualified home mortgage interest, as explained in Publication 936, Home Mortgage Interest Deduction, and interest on certain student loans, as explained in Publication 970. Tax return amendment Investment Interest If you borrow money to buy property you hold for investment, the interest you pay is investment interest. Tax return amendment You can deduct investment interest subject to the limit discussed later. Tax return amendment However, you cannot deduct interest you incurred to produce tax-exempt income. Tax return amendment See Tax-exempt income under Nondeductible Expenses, later. Tax return amendment You also cannot deduct interest expenses on straddles discussed under Interest expense and carrying charges on straddles , later. Tax return amendment Investment interest does not include any qualified home mortgage interest or any interest taken into account in computing income or loss from a passive activity. Tax return amendment Investment property. Tax return amendment   Property held for investment includes property that produces interest, dividends, annuities, or royalties not derived in the ordinary course of a trade or business. Tax return amendment It also includes property that produces gain or loss (not derived in the ordinary course of a trade or business) from the sale or trade of property producing these types of income or held for investment (other than an interest in a passive activity). Tax return amendment Investment property also includes an interest in a trade or business activity in which you did not materially participate (other than a passive activity). Tax return amendment Partners, shareholders, and beneficiaries. Tax return amendment   To determine your investment interest, combine your share of investment interest from a partnership, S corporation, estate, or trust with your other investment interest. Tax return amendment Allocation of Interest Expense If you borrow money for business or personal purposes as well as for investment, you must allocate the debt among those purposes. Tax return amendment Only the interest expense on the part of the debt used for investment purposes is treated as investment interest. Tax return amendment The allocation is not affected by the use of property that secures the debt. Tax return amendment Example 1. Tax return amendment You borrow $10,000 and use $8,000 to buy stock. Tax return amendment You use the other $2,000 to buy items for your home. Tax return amendment Since 80% of the debt is used for, and allocated to, investment purposes, 80% of the interest on that debt is investment interest. Tax return amendment The other 20% is nondeductible personal interest. Tax return amendment Debt proceeds received in cash. Tax return amendment   If you receive debt proceeds in cash, the proceeds are generally not treated as investment property. Tax return amendment Debt proceeds deposited in account. Tax return amendment   If you deposit debt proceeds in an account, that deposit is treated as investment property, regardless of whether the account bears interest. Tax return amendment But, if you withdraw the funds and use them for another purpose, you must reallocate the debt to determine the amount considered to be for investment purposes. Tax return amendment Example 2. Tax return amendment Assume in Example 1 that you borrowed the money on March 1 and immediately bought the stock for $8,000. Tax return amendment You did not buy the household items until June 1. Tax return amendment You had deposited the $2,000 in the bank. Tax return amendment You had no other transactions on the bank account until June. Tax return amendment You did not sell the stock, and you made no principal payments on the debt. Tax return amendment You paid interest from another account. Tax return amendment The $8,000 is treated as being used for an investment purpose. Tax return amendment The $2,000 is treated as being used for an investment purpose for the 3-month period. Tax return amendment Your total interest expense for 3 months on this debt is investment interest. Tax return amendment In June, when you spend the $2,000 for household items, you must begin to allocate 80% of the debt and the interest expense to investment purposes and 20% to personal purposes. Tax return amendment Amounts paid within 30 days. Tax return amendment   If you receive loan proceeds in cash or if the loan proceeds are deposited in an account, you can treat any payment (up to the amount of the proceeds) made from any account you own, or from cash, as made from those proceeds. Tax return amendment This applies to any payment made within 30 days before or after the proceeds are received in cash or deposited in your account. Tax return amendment   If you received the loan proceeds in cash, you can treat the payment as made on the date you received the cash instead of the date you actually made the payment. Tax return amendment Payments on debt may require new allocation. Tax return amendment   As you repay a debt used for more than one purpose, you must reallocate the balance. Tax return amendment You must first reduce the amount allocated to personal purposes by the repayment. Tax return amendment You then reallocate the rest of the debt to find what part is for investment purposes. Tax return amendment Example 3. Tax return amendment If, in Example 2 , you repay $500 on November 1, the entire repayment is applied against the amount allocated to personal purposes. Tax return amendment The debt balance is now allocated as $8,000 for investment purposes and $1,500 for personal purposes. Tax return amendment Until the next reallocation is necessary, 84% ($8,000 ÷ $9,500) of the debt and the interest expense is allocated to investment. Tax return amendment Pass-through entities. Tax return amendment   If you use borrowed funds to buy an interest in a partnership or S corporation, then the interest on those funds must be allocated based on the assets of the entity. Tax return amendment If you contribute to the capital of the entity, you can make the allocation using any reasonable method. Tax return amendment Additional allocation rules. Tax return amendment   For more information about allocating interest expense, see chapter 4 of Publication 535. Tax return amendment When To Deduct Investment Interest If you use the cash method of accounting, you must pay the interest before you can deduct it. Tax return amendment If you use an accrual method of accounting, you can deduct interest over the period it accrues, regardless of when you pay it. Tax return amendment For an exception, see Unpaid expenses owed to related party under When To Report Investment Expenses, later in this chapter. Tax return amendment Example. Tax return amendment You borrowed $1,000 on August 26, 2013, payable in 90 days at 12% interest. Tax return amendment On November 26, 2013, you paid this with a new note for $1,030, due on February 26, 2014. Tax return amendment If you use the cash method of accounting, you cannot deduct any part of the $30 interest on your return for 2013 because you did not actually pay it. Tax return amendment If you use an accrual method, you may be able to deduct a portion of the interest on the loans through December 31, 2013, on your return for 2013. Tax return amendment Interest paid in advance. Tax return amendment   Generally, if you pay interest in advance for a period that goes beyond the end of the tax year, you must spread the interest over the tax years to which it belongs under the OID rules discussed in chapter 1. Tax return amendment You can deduct in each year only the interest for that year. Tax return amendment Interest on margin accounts. Tax return amendment   If you are a cash method taxpayer, you can deduct interest on margin accounts to buy taxable securities as investment interest in the year you paid it. Tax return amendment You are considered to have paid interest on these accounts only when you actually pay the broker or when payment becomes available to the broker through your account. Tax return amendment Payment may become available to the broker through your account when the broker collects dividends or interest for your account, or sells securities held for you or received from you. Tax return amendment   You cannot deduct any interest on money borrowed for personal reasons. Tax return amendment Limit on interest deduction for market discount bonds. Tax return amendment   The amount you can deduct for interest expense you paid or accrued during the year to buy or carry a market discount bond may be limited. Tax return amendment This limit does not apply if you accrue the market discount and include it in your income currently. Tax return amendment   Under this limit, the interest is deductible only to the extent it is more than: The total interest and OID includible in gross income for the bond for the year, plus The market discount for the number of days you held the bond during the year. Tax return amendment Figure the amount in (2) above using the rules for figuring accrued market discount in chapter 1 under Market Discount Bonds . Tax return amendment Interest not deducted due to limit. Tax return amendment   In the year you dispose of the bond, you can deduct any interest expense you were not allowed to deduct in earlier years because of the limit. Tax return amendment Choosing to deduct disallowed interest expense before the year of disposition. Tax return amendment   You can choose to deduct disallowed interest expense in any year before the year you dispose of the bond, up to your net interest income from the bond during the year. Tax return amendment The rest of the disallowed interest expense remains deductible in the year you dispose of the bond. Tax return amendment Net interest income. Tax return amendment   This is the interest income (including OID) from the bond that you include in income for the year, minus the interest expense paid or accrued during the year to purchase or carry the bond. Tax return amendment Limit on interest deduction for short-term obligations. Tax return amendment   If the current income inclusion rules discussed in chapter 1 under Discount on Short-Term Obligations do not apply to you, the amount you can deduct for interest expense you paid or accrued during the year to buy or carry a short-term obligation is limited. Tax return amendment   The interest is deductible only to the extent it is more than: The amount of acquisition discount or OID on the obligation for the tax year, plus The amount of any interest payable on the obligation for the year that is not included in income because of your accounting method (other than interest taken into account in determining the amount of acquisition discount or OID). Tax return amendment The method of determining acquisition discount and OID for short-term obligations is discussed in chapter 1 under Discount on Short-Term Obligations . Tax return amendment Interest not deducted due to limit. Tax return amendment   In the year you dispose of the obligation, or, if you choose, in another year in which you have net interest income from the obligation, you can deduct any interest expense you were not allowed to deduct for an earlier year because of the limit. Tax return amendment Follow the same rules provided in the earlier discussion under Limit on interest deduction for market discount bonds , earlier. Tax return amendment Limit on Deduction Generally, your deduction for investment interest expense is limited to your net investment income. Tax return amendment You can carry over the amount of investment interest you could not deduct because of this limit to the next tax year. Tax return amendment The interest carried over is treated as investment interest paid or accrued in that next year. Tax return amendment You can carry over disallowed investment interest to the next tax year even if it is more than your taxable income in the year the interest was paid or accrued. Tax return amendment Net Investment Income Determine the amount of your net investment income by subtracting your investment expenses (other than interest expense) from your investment income. Tax return amendment Investment income. Tax return amendment   This generally includes your gross income from property held for investment (such as interest, dividends, annuities, and royalties). Tax return amendment Investment income does not include Alaska Permanent Fund dividends. Tax return amendment It also does not include qualified dividends or net capital gain unless you choose to include them. Tax return amendment Choosing to include qualified dividends. Tax return amendment   Investment income generally does not include qualified dividends, discussed in chapter 1. Tax return amendment However, you can choose to include all or part of your qualified dividends in investment income. Tax return amendment   You make this choice by completing Form 4952, line 4g, according to its instructions. Tax return amendment   If you choose to include any of your qualified dividends in investment income, you must reduce your qualified dividends that are eligible for the lower capital gains tax rates by the same amount. Tax return amendment Choosing to include net capital gain. Tax return amendment    Investment income generally does not include net capital gain from disposing of investment property (including capital gain distributions from mutual funds). Tax return amendment However, you can choose to include all or part of your net capital gain in investment income. Tax return amendment   You make this choice by completing Form 4952, line 4g, according to its instructions. Tax return amendment   If you choose to include any of your net capital gain in investment income, you must reduce your net capital gain that is eligible for the lower capital gains tax rates by the same amount. Tax return amendment   For more information about the capital gains rates, see Capital Gain Tax Rates in chapter 4. Tax return amendment    Before making either choice, consider the overall effect on your tax liability. Tax return amendment Compare your tax if you make one or both of these choices with your tax if you do not. Tax return amendment Investment income of child reported on parent's return. Tax return amendment   Investment income includes the part of your child's interest and dividend income you choose to report on your return. Tax return amendment If the child does not have qualified dividends, Alaska Permanent Fund dividends, or capital gain distributions, this is the amount on line 6 of Form 8814. Tax return amendment Include it on line 4a of Form 4952. Tax return amendment Example. Tax return amendment Your 8-year-old son has interest income of $2,200, which you choose to report on your own return. Tax return amendment You enter $2,200 on Form 8814, lines 1a and 4, and $200 on lines 6 and 12 and complete Part II. Tax return amendment Also enter $200 on Form 1040, line 21. Tax return amendment Your investment income includes this $200. Tax return amendment Child's qualified dividends. Tax return amendment   If part of the amount you report is your child's qualified dividends, that part (which is reported on Form 1040, line 9b) generally does not count as investment income. Tax return amendment However, you can choose to include all or part of it in investment income, as explained under Choosing to include qualified dividends , earlier. Tax return amendment   Your investment income also includes the amount on Form 8814, line 12 (or, if applicable, the reduced amount figured next under Child's Alaska Permanent Fund dividends). Tax return amendment Child's Alaska Permanent Fund dividends. Tax return amendment   If part of the amount you report is your child's Alaska Permanent Fund dividends, that part does not count as investment income. Tax return amendment To figure the amount of your child's income that you can consider your investment income, start with the amount on Form 8814, line 6. Tax return amendment Multiply that amount by a percentage that is equal to the Alaska Permanent Fund dividends divided by the total amount on Form 8814, line 4. Tax return amendment Subtract the result from the amount on Form 8814, line 12. Tax return amendment Example. Tax return amendment Your 10-year-old child has taxable interest income of $4,000 and Alaska Permanent Fund dividends of $2,000. Tax return amendment You choose to report this on your return. Tax return amendment You enter $4,000 on Form 8814, line 1a, $2,000 on line 2a, and $6,000 on line 4. Tax return amendment You then enter $4,000 on Form 8814, lines 6 and 12, and Form 1040, line 21. Tax return amendment You figure the amount of your child's income that you can consider your investment income as follows: $4,000 − ($4,000 × ($2,000 ÷ $6,000)) = $2,667 You include the result, $2,667, on Form 4952, line 4a. Tax return amendment Child's capital gain distributions. Tax return amendment   If part of the amount you report is your child's capital gain distributions, that part (which is reported on Schedule D (Form 1040), line 13, or Form 1040, line 13) generally does not count as investment income. Tax return amendment However, you can choose to include all or part of it in investment income, as explained in Choosing to include net capital gain , earlier. Tax return amendment   Your investment income also includes the amount on Form 8814, line 12 (or, if applicable, the reduced amount figured under Child's Alaska Permanent Fund dividends , earlier). Tax return amendment Investment expenses. Tax return amendment   Investment expenses are your allowed deductions (other than interest expense) directly connected with the production of investment income. Tax return amendment Investment expenses that are included as a miscellaneous itemized deduction on Schedule A (Form 1040) are allowable deductions after applying the 2% limit that applies to miscellaneous itemized deductions. Tax return amendment Use the smaller of: The investment expenses included on Schedule A (Form 1040), line 23, or The amount on Schedule A (Form 1040), line 27. Tax return amendment See Expenses of Producing Income , later, for a discussion of the 2% limit. Tax return amendment Losses from passive activities. Tax return amendment   Income or expenses that you used in computing income or loss from a passive activity are not included in determining your investment income or investment expenses (including investment interest expense). Tax return amendment See Publication 925 for information about passive activities. Tax return amendment Example. Tax return amendment Ted is a partner in a partnership that operates a business. Tax return amendment However, he does not materially participate in the partnership's business. Tax return amendment Ted's interest in the partnership is considered a passive activity. Tax return amendment Ted's investment income from interest and dividends (other than qualified dividends) is $10,000. Tax return amendment His investment expenses (other than interest) are $3,200 after taking into account the 2% limit on miscellaneous itemized deductions. Tax return amendment His investment interest expense is $8,000. Tax return amendment Ted also has income from the partnership of $2,000. Tax return amendment Ted figures his net investment income and the limit on his investment interest expense deduction in the following way: Total investment income $10,000 Minus: Investment expenses (other than interest) 3,200 Net investment income $6,800 Deductible investment interest expense for the year $6,800 The $2,000 of income from the passive activity is not used in determining Ted's net investment income. Tax return amendment His investment interest deduction for the year is limited to $6,800, the amount of his net investment income. Tax return amendment Form 4952 Use Form 4952 to figure your deduction for investment interest. Tax return amendment See Form 4952 for more information. Tax return amendment Exception to use of Form 4952. Tax return amendment   You do not have to complete Form 4952 or attach it to your return if you meet all of the following tests. Tax return amendment Your investment interest expense is not more than your investment income from interest and ordinary dividends minus any qualified dividends. Tax return amendment You do not have any other deductible investment expenses. Tax return amendment You have no carryover of investment interest expense from 2012. Tax return amendment   If you meet all of these tests, you can deduct all of your investment interest. Tax return amendment    Bond Premium Amortization If you pay a premium to buy a bond, the premium is part of your basis in the bond. Tax return amendment If the bond yields taxable interest, you can choose to amortize the premium. Tax return amendment This generally means that each year, over the life of the bond, you use a part of the premium to reduce the amount of interest includible in your income. Tax return amendment If you make this choice, you must reduce your basis in the bond by the amortization for the year. Tax return amendment If the bond yields tax-exempt interest, you must amortize the premium. Tax return amendment This amortized amount is not deductible in determining taxable income. Tax return amendment However, each year you must reduce your basis in the bond (and tax-exempt interest otherwise reportable on Form 1040, line 8b) by the amortization for the year. Tax return amendment Bond premium. Tax return amendment   Bond premium is the amount by which your basis in the bond right after you get it is more than the total of all amounts payable on the bond after you get it (other than payments of qualified stated interest). Tax return amendment For example, a bond with a maturity value of $1,000 generally would have a $50 premium if you buy it for $1,050. Tax return amendment Special rules to determine amounts payable on a bond. Tax return amendment   For special rules that apply to determine the amounts payable on a variable rate bond, an inflation-indexed debt instrument, a bond that provides for certain alternative payment schedules (for example, a bond callable prior to the stated maturity date of the bond), or a bond that provides for remote or incidental contingencies, see Regulations section 1. Tax return amendment 171-3. Tax return amendment Basis. Tax return amendment   In general, your basis for figuring bond premium amortization is the same as your basis for figuring any loss on the sale of the bond. Tax return amendment However, you may need to use a different basis for: Convertible bonds, Bonds you got in a trade, and Bonds whose basis has to be determined using the basis of the person who transferred the bond to you. Tax return amendment See Regulations section 1. Tax return amendment 171-1(e). Tax return amendment Dealers. Tax return amendment   A dealer in taxable bonds (or anyone who holds them mainly for sale to customers in the ordinary course of a trade or business or who would properly include bonds in inventory at the close of the tax year) cannot claim a deduction for amortizable bond premium. Tax return amendment   See section 75 of the Internal Revenue Code for the treatment of bond premium by a dealer in tax-exempt bonds. Tax return amendment How To Figure Amortization For bonds issued after September 27, 1985, you must amortize bond premium using a constant yield method on the basis of the bond's yield to maturity, determined by using the bond's basis and compounding at the close of each accrual period. Tax return amendment Constant yield method. Tax return amendment   Figure the bond premium amortization for each accrual period as follows. Tax return amendment Step 1: Determine your yield. Tax return amendment   Your yield is the discount rate that, when used in figuring the present value of all remaining payments to be made on the bond (including payments of qualified stated interest), produces an amount equal to your basis in the bond. Tax return amendment Figure the yield as of the date you got the bond. Tax return amendment It must be constant over the term of the bond and must be figured to at least two decimal places when expressed as a percentage. Tax return amendment   If you do not know the yield, consult your broker or tax advisor. Tax return amendment Databases available to them are likely to show the yield at the date of purchase. Tax return amendment Step 2: Determine the accrual periods. Tax return amendment   You can choose the accrual periods to use. Tax return amendment They may be of any length and may vary in length over the term of the bond, but each accrual period can be no longer than 1 year and each scheduled payment of principal or interest must occur either on the first or the final day of an accrual period. Tax return amendment The computation is simplest if accrual periods are the same as the intervals between interest payment dates. Tax return amendment Step 3: Determine the bond premium for the accrual period. Tax return amendment   To do this, multiply your adjusted acquisition price at the beginning of the accrual period by your yield. Tax return amendment Then subtract the result from the qualified stated interest for the period. Tax return amendment   Your adjusted acquisition price at the beginning of the first accrual period is the same as your basis. Tax return amendment After that, it is your basis decreased by the amount of bond premium amortized for earlier periods and the amount of any payment previously made on the bond other than a payment of qualified stated interest. Tax return amendment Example. Tax return amendment On February 1, 2012, you bought a taxable bond for $110,000. Tax return amendment The bond has a stated principal amount of $100,000, payable at maturity on February 1, 2019, making your premium $10,000 ($110,000 − $100,000). Tax return amendment The bond pays qualified stated interest of $10,000 on February 1 of each year. Tax return amendment Your yield is 8. Tax return amendment 07439% compounded annually. Tax return amendment You choose to use annual accrual periods ending on February 1 of each year. Tax return amendment To find your bond premium amortization for the accrual period ending on February 1, 2013, you multiply the adjusted acquisition price at the beginning of the period ($110,000) by your yield. Tax return amendment When you subtract the result ($8,881. Tax return amendment 83) from the qualified stated interest for the period ($10,000), you find that your bond premium amortization for the period is $1,118. Tax return amendment 17. Tax return amendment Special rules to figure amortization. Tax return amendment   For special rules to figure the bond premium amortization on a variable rate bond, an inflation-indexed debt instrument, a bond that provides for certain alternative payment schedules (for example, a bond callable prior to the stated maturity date of the bond), or a bond that provides for remote or incidental contingencies, see Regulations section 1. Tax return amendment 171-3. Tax return amendment Bonds Issued Before September 28, 1985 For these bonds, you can amortize bond premium using any reasonable method. Tax return amendment Reasonable methods include: The straight-line method, and The Revenue Ruling 82-10 method. Tax return amendment Straight-line method. Tax return amendment   Under this method, the amount of your bond premium amortization is the same each month. Tax return amendment Divide the number of months you held the bond during the year by the number of months from the beginning of the tax year (or, if later, the date of acquisition) to the date of maturity or earlier call date. Tax return amendment Then multiply the result by the bond premium (reduced by any bond premium amortization claimed in earlier years). Tax return amendment This gives you your bond premium amortization for the year. Tax return amendment Revenue Ruling 82-10 method. Tax return amendment   Under this method, the amount of your bond premium amortization increases each month over the life of the bond. Tax return amendment This method is explained in Revenue Ruling 82-10, 1982-1 C. Tax return amendment B. Tax return amendment 46. Tax return amendment Choosing To Amortize You choose to amortize the premium on taxable bonds by reporting the amortization for the year on your income tax return for the first tax year you want the choice to apply. Tax return amendment You should attach a statement to your return that you are making this choice under section 171. Tax return amendment See How To Report Amortization, next. Tax return amendment This choice is binding for the year you make it and for later tax years. Tax return amendment It applies to all taxable bonds you own in the year you make the choice and also to those you acquire in later years. Tax return amendment You can change your decision to amortize bond premium only with the written approval of the IRS. Tax return amendment To request approval, use Form 3115. Tax return amendment For more information on requesting approval, see section 5 of the Appendix to Revenue Procedure 2011-14 in Internal Revenue Bulletin 2011-4. Tax return amendment You can find Revenue Procedure 2011-14 at www. Tax return amendment irs. Tax return amendment gov/irb/2011-04_IRB/ar08. Tax return amendment html. Tax return amendment How To Report Amortization Subtract the bond premium amortization from your interest income from these bonds. Tax return amendment Report the bond's interest on Schedule B (Form 1040A or 1040), line 1. Tax return amendment Under your last entry on line 1, put a subtotal of all interest listed on line 1. Tax return amendment Below this subtotal, print “ABP Adjustment,” and the total interest you received. Tax return amendment Subtract this amount from the subtotal, and enter the result on line 2. Tax return amendment Bond premium amortization more than interest. Tax return amendment   If the amount of your bond premium amortization for an accrual period is more than the qualified stated interest for the period, you can deduct the difference as a miscellaneous itemized deduction on Schedule A (Form 1040), line 28. Tax return amendment    But your deduction is limited to the amount by which your total interest inclusions on the bond in prior accrual periods is more than your total bond premium deductions on the bond in prior periods. Tax return amendment Any amount you cannot deduct because of this limit can be carried forward to the next accrual period. Tax return amendment Pre-1998 election to amortize bond premium. Tax return amendment   Generally, if you first elected to amortize bond premium before 1998, the above treatment of the premium does not apply to bonds you acquired before 1988. Tax return amendment Bonds acquired before October 23, 1986. Tax return amendment   The amortization of the premium on these bonds is a miscellaneous itemized deduction not subject to the 2%-of-adjusted-gross-income limit. Tax return amendment Bonds acquired after October 22, 1986, but before 1988. Tax return amendment    The amortization of the premium on these bonds is investment interest expense subject to the investment interest limit, unless you choose to treat it as an offset to interest income on the bond. Tax return amendment Expenses of Producing Income You deduct investment expenses (other than interest expenses) as miscellaneous itemized deductions on Schedule A (Form 1040). Tax return amendment To be deductible, these expenses must be ordinary and necessary expenses paid or incurred: To produce or collect income, or To manage property held for producing income. Tax return amendment The expenses must be directly related to the income or income-producing property, and the income must be taxable to you. Tax return amendment The deduction for most income-producing expenses is subject to a 2% limit that also applies to certain other miscellaneous itemized deductions. Tax return amendment The amount deductible is limited to the total of these miscellaneous deductions that is more than 2% of your adjusted gross income. Tax return amendment For information on how to report expenses of producing income, see How To Report Investment Expenses , later. Tax return amendment Attorney or accounting fees. Tax return amendment   You can deduct attorney or accounting fees that are necessary to produce or collect taxable income. Tax return amendment However, in some cases, attorney or accounting fees are part of the basis of property. Tax return amendment See Basis of Investment Property in chapter 4. Tax return amendment Automatic investment service and dividend reinvestment plans. Tax return amendment   A bank may offer its checking account customers an automatic investment service so that, for a charge, each customer can choose to invest a part of the checking account each month in common stock. Tax return amendment Or a bank that is a dividend disbursing agent for a number of publicly-owned corporations may set up an automatic dividend reinvestment service. Tax return amendment Through that service, cash dividends are reinvested in more shares of stock after the bank deducts a service charge. Tax return amendment   A corporation in which you own stock also may have a dividend reinvestment plan. Tax return amendment This plan lets you choose to use your dividends to buy more shares of stock in the corporation instead of receiving the dividends in cash. Tax return amendment   You can deduct the monthly service charge you pay to a bank to participate in an automatic investment service. Tax return amendment If you participate in a dividend reinvestment plan, you can deduct any service charge subtracted from your cash dividends before the dividends are used to buy more shares of stock. Tax return amendment Deduct the charges in the year you pay them. Tax return amendment Clerical help and office rent. Tax return amendment   You can deduct office expenses, such as rent and clerical help, you incurred in connection with your investments and collecting the taxable income on your investments. Tax return amendment Cost of replacing missing securities. Tax return amendment   To replace your taxable securities that are mislaid, lost, stolen, or destroyed, you may have to post an indemnity bond. Tax return amendment You can deduct the premium you pay to buy the indemnity bond and the related incidental expenses. Tax return amendment   You may, however, get a refund of part of the bond premium if the missing securities are recovered within a specified time. Tax return amendment Under certain types of insurance policies, you can recover some of the expenses. Tax return amendment   If you receive the refund in the tax year you pay the amounts, you can deduct only the difference between the expenses paid and the amount refunded. Tax return amendment If the refund is made in a later tax year, you must include the refund in income in the year you received it, but only to the extent that the expenses decreased your tax in the year you deducted them. Tax return amendment Fees to collect income. Tax return amendment   You can deduct fees you pay to a broker, bank, trustee, or similar agent to collect investment income, such as your taxable bond or mortgage interest, or your dividends on shares of stock. Tax return amendment Fees to buy or sell. Tax return amendment   You cannot deduct a fee you pay to a broker to acquire investment property, such as stocks or bonds. Tax return amendment You must add the fee to the cost of the property. Tax return amendment See Basis of Investment Property in chapter 4. Tax return amendment    You cannot deduct any broker's fees, commissions, or option premiums you pay (or that were netted out) in connection with the sale of investment property. Tax return amendment They can be used only to figure gain or loss from the sale. Tax return amendment See Reporting Capital Gains and Losses , in chapter 4, for more information about the treatment of these sale expenses. Tax return amendment Investment counsel and advice. Tax return amendment   You can deduct fees you pay for counsel and advice about investments that produce taxable income. Tax return amendment This includes amounts you pay for investment advisory services. Tax return amendment Safe deposit box rent. Tax return amendment   You can deduct rent you pay for a safe deposit box if you use the box to store taxable income-producing stocks, bonds, or other investment-related papers and documents. Tax return amendment If you also use the box to store tax-exempt securities or personal items, you can deduct only part of the rent. Tax return amendment See Tax-exempt income under Nondeductible Expenses, later, to figure what part you can deduct. Tax return amendment State and local transfer taxes. Tax return amendment   You cannot deduct the state and local transfer taxes you pay when you buy or sell securities. Tax return amendment If you pay these transfer taxes when you buy securities, you must treat them as part of the cost of the property. Tax return amendment If you pay these transfer taxes when you sell securities, you must treat them as a reduction in the amount realized. Tax return amendment Trustee's commissions for revocable trust. Tax return amendment   If you set up a revocable trust and have its income distributed to you, you can deduct the commission you pay the trustee for managing the trust to the extent it is to produce or collect taxable income or to manage property. Tax return amendment However, you cannot deduct any part of the commission used for producing or collecting tax-exempt income or for managing property that produces tax-exempt income. Tax return amendment   If you are a cash-basis taxpayer and pay the commissions for several years in advance, you must deduct a part of the commission each year. Tax return amendment You cannot deduct the entire amount in the year you pay it. Tax return amendment Investment expenses from pass-through entities. Tax return amendment   If you hold an interest in a partnership, S corporation, real estate mortgage investment conduit (REMIC), or a nonpublicly offered mutual fund, you can deduct your share of that entity's investment expenses. Tax return amendment A partnership or S corporation will show your share of these expenses on your Schedule K-1 (Form 1065) or Schedule K-1 (Form 1120S). Tax return amendment A nonpublicly offered mutual fund will indicate your share of these expenses in box 5 of Form 1099-DIV (or substitute statement). Tax return amendment Publicly-offered mutual funds are discussed later. Tax return amendment   If you hold an interest in a REMIC, any expenses relating to your residual interest investment will be shown on Schedule Q (Form 1066), line 3b. Tax return amendment Any expenses relating to your regular interest investment will appear in box 5 of Form 1099-INT (or substitute statement) or box 9 of Form 1099-OID (or substitute statement). Tax return amendment   Report your share of these investment expenses on Schedule A (Form 1040), subject to the 2% limit, in the same manner as your other investment expenses. Tax return amendment Including mutual fund or REMIC expenses in income. Tax return amendment   Your share of the investment expenses of a REMIC or a nonpublicly offered mutual fund, as described above, are considered to be indirect deductions through that pass-through entity. Tax return amendment You must include in your gross income an amount equal to the expenses allocated to you, whether or not you are able to claim a deduction for those expenses. Tax return amendment If you are a shareholder in a nonpublicly offered mutual fund, you must include on your return the full amount of ordinary dividends or other distributions of stock, as shown in box 1a of Form 1099-DIV (or substitute statement). Tax return amendment If you are a residual interest holder in a REMIC, you must report as ordinary income on Schedule E (Form 1040) the total amounts shown on Schedule Q (Form 1066), lines 1b and 3b. Tax return amendment If you are a REMIC regular interest holder, you must include the amount of any expense allocation you received on Form 1040, line 8a. Tax return amendment Publicly-offered mutual funds. Tax return amendment   Most mutual funds are publicly offered. Tax return amendment These mutual funds, generally, are traded on an established securities exchange. Tax return amendment These funds do not pass investment expenses through to you. Tax return amendment Instead, the dividend income they report to you in box 1a of Form 1099-DIV (or substitute statement) is already reduced by your share of investment expenses. Tax return amendment As a result, you cannot deduct the expenses on your return. Tax return amendment   Include the amount from box 1a of Form 1099-DIV (or substitute statement) in your income. Tax return amendment    A publicly offered mutual fund is one that: Is continuously offered pursuant to a public offering, Is regularly traded on an established securities market, and Is held by or for no fewer than 500 persons at any time during the year. Tax return amendment Contact your mutual fund if you are not sure whether it is publicly offered. Tax return amendment Nondeductible Expenses Some expenses that you incur as an investor are not deductible. Tax return amendment Stockholders' meetings. Tax return amendment   You cannot deduct transportation and other expenses you pay to attend stockholders' meetings of companies in which you have no interest other than owning stock. Tax return amendment This is true even if your purpose in attending is to get information that would be useful in making further investments. Tax return amendment Investment-related seminar. Tax return amendment   You cannot deduct expenses for attending a convention, seminar, or similar meeting for investment purposes. Tax return amendment Single-premium life insurance, endowment, and annuity contracts. Tax return amendment   You cannot deduct interest on money you borrow to buy or carry a single-premium life insurance, endowment, or annuity contract. Tax return amendment Used as collateral. Tax return amendment   If you use a single premium annuity contract as collateral to obtain or continue a mortgage loan, you cannot deduct any interest on the loan that is collateralized by the annuity contract. Tax return amendment Figure the amount of interest expense disallowed by multiplying the current interest rate on the mortgage loan by the lesser of the amount of the annuity contract used as collateral or the amount of the loan. Tax return amendment Borrowing on insurance. Tax return amendment   Generally, you cannot deduct interest on money you borrow to buy or carry a life insurance, endowment, or annuity contract if you plan to systematically borrow part or all of the increases in the cash value of the contract. Tax return amendment This rule applies to the interest on the total amount borrowed to buy or carry the contract, not just the interest on the borrowed increases in the cash value. Tax return amendment Tax-exempt income. Tax return amendment   You cannot deduct expenses you incur to produce tax-exempt income. Tax return amendment Nor can you deduct interest on money you borrow to buy tax-exempt securities or shares in a mutual fund or other regulated investment company that distributes only exempt-interest dividends. Tax return amendment Short-sale expenses. Tax return amendment   The rule disallowing a deduction for interest expenses on tax-exempt securities applies to amounts you pay in connection with personal property used in a short sale or amounts paid by others for the use of any collateral in connection with the short sale. Tax return amendment However, it does not apply to the expenses you incur if you deposit cash as collateral for the property used in the short sale and the cash does not earn a material return during the period of the sale. Tax return amendment Short sales are discussed in Short Sales in chapter 4. Tax return amendment Expenses for both tax-exempt and taxable income. Tax return amendment   You may have expenses that are for both tax-exempt and taxable income. Tax return amendment If you cannot specifically identify what part of the expenses is for each type of income, you can divide the expenses, using reasonable proportions based on facts and circumstances. Tax return amendment You must attach a statement to your return showing how you divided the expenses and stating that each deduction claimed is not based on tax-exempt income. Tax return amendment   One accepted method for dividing expenses is to do it in the same proportion that each type of income is to the total income. Tax return amendment If the expenses relate in part to capital gains and losses, include the gains, but not the losses, in figuring this proportion. Tax return amendment To find the part of the expenses that is for the tax-exempt income, divide your tax-exempt income by the total income and multiply your expenses by the result. Tax return amendment Example. Tax return amendment You received $6,000 interest; $4,800 was tax-exempt and $1,200 was taxable. Tax return amendment In earning this income, you had $500 of expenses. Tax return amendment You cannot specifically identify the amount of each expense item that is for each income item, so you must divide your expenses. Tax return amendment 80% ($4,800 tax-exempt interest divided by $6,000 total interest) of your expenses is for the tax-exempt income. Tax return amendment You cannot deduct $400 (80% of $500) of the expenses. Tax return amendment You can deduct $100 (the rest of the expenses) because they are for the taxable interest. Tax return amendment State income taxes. Tax return amendment   If you itemize your deductions, you can deduct, as taxes, state income taxes on interest income that is exempt from federal income tax. Tax return amendment But you cannot deduct, as either taxes or investment expenses, state income taxes on other exempt income. Tax return amendment Interest expense and carrying charges on straddles. Tax return amendment   You cannot deduct interest and carrying charges allocable to personal property that is part of a straddle. Tax return amendment The nondeductible interest and carrying charges are added to the basis of the straddle property. Tax return amendment However, this treatment does not apply if: All the offsetting positions making up the straddle either consist of one or more qualified covered call options and the optioned stock, or consist of section 1256 contracts (and the straddle is not part of a larger straddle); or The straddle is a hedging transaction. Tax return amendment  For information about straddles, including definitions of the terms used in this discussion, see Straddles in chapter 4. Tax return amendment   Interest includes any amount you pay or incur in connection with personal property used in a short sale. Tax return amendment However, you must first apply the rules discussed in Payments in lieu of dividends under Short Sales in chapter 4. Tax return amendment   To determine the interest on market discount bonds and short-term obligations that are part of a straddle, you must first apply the rules discussed under Limit on interest deduction for market discount bonds and Limit on interest deduction for short-term obligations (both under Interest Expenses, earlier). Tax return amendment Nondeductible amount. Tax return amendment   Figure the nondeductible interest and carrying charges on straddle property as follows. Tax return amendment Add: Interest on indebtedness incurred or continued to buy or carry the personal property, and All other amounts (including charges to insure, store, or transport the personal property) paid or incurred to carry the personal property. Tax return amendment Subtract from the amount in (1): Interest (including OID) includible in gross income for the year on the personal property, Any income from the personal property treated as ordinary income on the disposition of short-term government obligations or as ordinary income under the market discount and short-term bond provisions — see Discount on Debt Instruments in chapter 1, The dividends includible in gross income for the year from the personal property, and Any payment on a loan of the personal property for use in a short sale that is includible in gross income. Tax return amendment Basis adjustment. Tax return amendment   Add the nondeductible amount to the basis of your straddle property. Tax return amendment How To Report Investment Expenses To deduct your investment expenses, you must itemize deductions on Schedule A (Form 1040). Tax return amendment Enter your deductible investment interest expense on Schedule A (Form1040), line 14. Tax return amendment Include any deductible short sale expenses. Tax return amendment (See Short Sales in chapter 4 for information on these expenses. Tax return amendment ) Also attach a completed Form 4952 if you used that form to figure your investment interest expense. Tax return amendment Enter the total amount of your other investment expenses (other than interest expenses) on Schedule A (Form 1040), line 23. Tax return amendment List the type and amount of each expense on the dotted lines next to line 23. Tax return amendment (If necessary, you can show the required information on an attached statement. Tax return amendment ) For information on how to report amortizable bond premium, see Bond Premium Amortization , earlier in this chapter. Tax return amendment When To Report Investment Expenses If you use the cash method to report income and expenses, you generally deduct your expenses, except for certain prepaid interest, in the year you pay them. Tax return amendment If you use an accrual method, you generally deduct your expenses when you incur a liability for them, rather than when you pay them. Tax return amendment Also see When To Deduct Investment Interest , earlier in this chapter. Tax return amendment Unpaid expenses owed to related party. Tax return amendment   If you use an accrual method, you cannot deduct interest and other expenses owed to a related cash-basis person until payment is made and the amount is includible in the gross income of that person. Tax return amendment The relationship, for purposes of this rule, is determined as of the end of the tax year for which the interest or expense would otherwise be deductible. Tax return amendment If a deduction is denied under this rule, this rule will continue to apply even if your relationship with the person ceases to exist before the amount is includible in the gross income of that person. Tax return amendment   This rule generally applies to those relationships listed in chapter 4 under Related Party Transactions . Tax return amendment It also applies to accruals by partnerships to partners, partners to partnerships, shareholders to S corporations, and S corporations to shareholders. Tax return amendment   The postponement of deductions for unpaid expenses and interest under the related party rule does not apply to OID, regardless of when payment is made. Tax return amendment This rule also does not apply to loans with below-market interest rates or to certain payments for the use of property and services when the lender or recipient has to include payments periodically in income, even if a payment has not been made. Tax return amendment Prev  Up  Next   Home   More Online Publications