those tax provisions that have been expiring every year. This is now a permanent part of the Internal Revenue Code as Section 106 of the PATH Act of 2015. Please see Bonus Tip #270 for more details.
Tip #43:
State income taxes. Naturally, if your state income taxes are much higher than the sales taxes you paid, use this deduction. When you end up getting a refund on your state tax return, after itemizing the taxes on Schedule A, you will need to report all or part of your state refund as income. Why only part of it? Well, if you didn’t get any benefit from the state income tax deduction, you don’t need to pay taxes on refund, either. There are detailed instructions for line 10 of Form 1040 (https://www.irs.gov/instructions/i1040gi/ar01.html#d0e3584). Generally your software will do this computation for you if you give it enough information about last year’s tax return.
Tip #44:
Good news: if you did not itemize in the year for which you received your refund, the state refund is not taxable. For instance, let’s say you filed several years’ tax returns in 2015—you filed 2012, 2013, and 2014. Suppose you didn’t itemize in 2012 and 2013, but your state refund is $10,000. None of that refund is taxable. But let’s pretend that you itemized in 2014 and got the full benefit of your state income tax deduction. In that case, the $5,000 refund you received for 2014 is income to you in 2015 even though you may have a received a total of $15,000 in state refunds during 2015.
Tip #45:
Here are three commonly overlooked state tax deduction opportunities:
• If you were making state-estimated tax payments, remember the January payment for the fourth quarter. Even though the payment you made in the tax year you are filing was for last year, you get to deduct it. Why? You paid it in the current tax year.
• Did you have a state overpayment on your tax return that you applied toward the following year’s taxes? That’s considered a payment you made in the current year. For instance, you applied your 2014 state tax refund to your 2015 state taxes. That payment is considered made in 2015.
• Did you pay a balance due to the state when you filed your tax return? Remember to add that to your total state taxes paid. For instance, you paid your state $532 when you filed your 2014 income tax return in April of 2015. That payment is made in 2015. Oh, and do remember to add it to your total estimated payments for 2015. A lot of people forget to include that.
Tip #46:
Here are two more “state” tax deductions that most people don’t know about at all:
• Taxes imposed by Indian tribal governments are deductible. Though I would bet that people living on reservations know this one applies to them, an excerpt from IRS Publication 17 reads:“Indian tribal government. An Indian tribal government recognized by the Secretary of the Treasury as performing substantial government functions will be treated as a state for purposes of claiming a deduction for taxes. Income taxes, real estate taxes, and personal property taxes imposed by that Indian tribal government (or by any of its subdivisions that are treated as political subdivisions of a state) are deductible” (https://www.irs.gov/publications/p17/ch22.html#en_US_2014_publink1000173139).
• Foreign income taxes paid are deductible. You may have paid them as deductions from dividends, from your pension, or from the foreign equivalent of Social Security income. Be sure to convert the foreign currency to US dollars. You can look up the IRS’s approved currency conversion rates on their website here: https://www.irs.gov/Individuals/International-Taxpayers/Yearly-Average-Currency-Exchange-Rates. Or you can use the Oanda site to get values on specific days or averages for a year or so: http://www.oanda.com/currency/.◦ Incidentally, you have a choice about those foreign taxes. You may take them as a deduction here on Schedule A or you may choose to take them as a tax credit using Form 1116, Foreign Tax Credit.◦ What if you are not reporting your foreign income at all because you are working overseas? If you have the privilege of using Form 2555, the Foreign Earned Income Exclusion, then you may not use any foreign taxes you pay as either a deduction or a credit. After all, if you don’t pay taxes in the United States, you don’t get any US tax benefits.
Enough about taxes! Let’s move on to more interesting things. Like . . . interest!
Tip #47:
Mortgage interest paid. This looks pretty simple, doesn’t it? Yet I managed to teach an entire two-hour course on the subject (http://www.cpelink.com/self-study/home-mortgage-interest-deductions/6097). The IRS publishes a 17-page booklet on the subject—IRS Publication 936 (https://www.irs.gov/pub/irs-pdf/p936.pdf). Let me just give you the high points here. First, the good news: the bad news I am about to give you probably won’t impact you. OK, here’s the bad news: your mortgage interest deduction is limited in several ways.
• You may only deduct the interest on acquisition debt—the amount of the mortgage you took out when you bought the house. Plus any mortgage you took out to pay for repairs or remodeling.
• In addition, you may deduct the mortgage up to another $100,000 of a home equity line of credit (HELOC). This money may be used for anything—like debt consolidation or the vacation of a lifetime. It doesn’t matter what. The loan must be secured by the home.
• Often, when the value of the home increases dramatically or interest rates plunge, people refinance. When you refinance, your mortgage interest deduction is limited to the interest on the balance of the loan at the time of the refinancing plus that HELOC value of $100,000. For instance, your original loan was for $200,000 five years ago, and today the loan balance is $175,000. The house is now worth $400,000. You get a new 80 percent loan for $320,000 and include the points and refinance fees in the new loan, taking the balance to $325,000. Since the interest rates are lower, your payments don’t go up very much—but you’re able to pull out $145,000 in cash. Suppose this is the only loan on the house. You may deduct the interest on this part of the mortgage only:The $175,000 balance left on the original loanThe $100,000 allowable HELOCTotal: $275,000 Allowable Mortgage BalanceWhat happens to the interest on the other $50,000 ($325,000 loan, less the deductible mortgage value of $275,000)? Nothing. No deduction. No carryforward. Nothing. So please take this into account when refinancing. If you are ever audited, the IRS will catch this error and may go back for up to three years to recover taxes due.
• $1 million is the limit of the total amount of mortgage balance on which you may deduct interest. That, plus the $100,000 HELOC. So . . . in total, you may deduct mortgage interest expense on up to $1,100,000. This limit is not per house; it is for all the homes you might own. The IRS had a field day with this limit several years ago. They tested how well taxpayers were adhering to this rule by auditing taxpayers who owned property in Santa Barbara, California, particularly in the Montecito area. Estates in that area sell for millions of dollars. Most of the taxpayers who were audited ended up having taken the full mortgage deduction instead of limiting the interest expense to $1,100,000. Their tax professionals were furious at the IRS (uh, actually at themselves for getting caught in this major blunder). But . . . the law is the law.
• Yet another limit—unlike real
