As homeowners begin to prepare their 1991 tax returns they should take special note of new rules and forms if they have a home office, if they have an annual income of more than $100,000 or if they refinanced a mortgage last year.
Those who operate a home-based business or profession, for instance, will have to disclose far more when calculating allowable office expenses on a new form tied to Schedule C.
The homeowner with an adjusted gross income of more than $100,000 will face a change that limits the value of the time-honored deductions for mortgage interest and property taxes. And anyone who refinanced a home in 1991 to take advantage of bargain-level interest rates will discover that restrictions apply concerning the tax deductibility of costs associated with the refinancing.
Henry B. Holmes, a spokesman for the Internal Revenue Service, said the new form for home office deductions, Form 8829, is being introduced "because a lot of mistakes were being made."
But Paul Edwards of Santa Monica, Calif., co-author of "Working From Home," a book series on home offices, said the change was made because the number of taxpayers claiming such deductions rose from 6 million in 1980 to 22 million in 1990. This made the deductions a larger source of potential revenue if inflated figures were being used.
Despite the added paperwork, Mr. Edwards said, it is more important than ever to take the deductions, since they are now less likely to trigger an audit. Some accountants have been reluctant to recommend claiming home-office deductions, suggesting they became "red flags" for an audit. "But with so many more people doing so, it's no longer a problem," Mr. Edwards said.
Moreover, he says, the new form will make it even less profitable for the IRS to single out these returns because there will be less opportunity for inflated estimates. Even renters working at home, he said, should find some advantages in filling out the new form.
Form 8829 requires homeowners to gather information they may never have needed before.
But Julian Block, a tax attorney in Larchmont, N.Y., and author of "The Homeowner's Tax Guide" (Runzheimer, 1991), reminded taxpayers that this does not mean rules have changed. To take any deductions, he said, the area or room must still have been used exclusively for business.
The only exceptions are areas used for storing inventory, or if the business is home-based day care. In those instances, normal household activities like watching TV and dining can also take place in the rooms.
The new form will ask the taxpayer for precise calculations of the square footage used for business in relation to the square footage of the home, rather than simply the percentage used for business, as in the past. Day-care providers will also have to allocate the percentage of time when the rooms are being used for business.
The best way to calculate total square footage, experts say, is to measure each room and add the figures. Total square footage may also be on file at the tax assessor's office.
Robert D. Grossman Jr., a tax lawyer in Washington and former IRS trial attorney, said that in an audit the IRS might try to include unfinished areas like a basement or garage in the total square footage, since this would lower the relative percentage used for business. But since no precise definitions exist, accountants recommend using the total area of finished space.
Form 8829 will also require detailed reporting of the full amount spent on mortgage interest, real estate taxes, insurance, repairs and utilities and may not permit certain deductions to be taken simply as a percentage of the whole, as in the past. Mr. Block said.
The form also asks for the calculations used in reaching the figure given for depreciation. This will require the homeowner to more precisely separate the value attributable to land from the dwelling, since land can never be depreciated.
Mr. Grossman recommends getting a written estimate of land value from a local real estate agent. Another method is to allocate the same ratio as the one on the property tax bill.
Having such documentation in your tax records, said Mr. Grossman, would provide confirmation, in an audit, of a rationale for the figure. "It will look so much better than a wild guess."
Finally, Form 8829 requires calculations that will make it more difficult to avoid the limit on home office deductions that apply if certain minimum income levels have not been attained. But Mr. Block noted that any disqualified deductions can be added onto next year's expenses.
Homeowners with an adjusted gross income above $100,000 may find their deductions for mortgage interest and property reduced. Mr. Block provides as an example a tax return showing an adjusted gross income of $150,000. Adjusted gross income is the net figure after subtracting such things as contributions to a retirement account, alimony payments and qualified portions of the Social Security tax and health insurance premiums of the self-employed.
The example further assumes the taxpayer is itemizing the remaining deductions from adjusted gross income (which normally include mortgage interest, property and state or local income taxes) for an itemized total of $20,000. This amount must then be reduced by a sum equal to 3 percent of $50,000 (the amount over $100,000), which is $1,500, for a net itemized total of $18,500 ($20,000 less $1,500).
Anyone who refinanced a home during 1991 will find that points charges associated with refinancing will not be deductible right away. Rather, the deduction must be spread over the life of the loan. An exception is any points charges specifically associated with money borrowed for renovations.
Larry S. Wolf, a tax attorney in Manhattan, gave as an example a homeowner with an $80,000 loan who borrows $100,000 when refinancing to generate $20,000 extra for an updated kitchen.
Only the points charges allocated to the $20,000 portion of the loan could be deducted immediately. No other expenses qualify.
Payment of the points, he added, would also have had to be made from sources other than the money being borrowed.