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Amended Form

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Amended Form

Amended form 6. Amended form   Catch-Up Contributions Table of Contents The most that can be contributed to your 403(b) account is the lesser of your limit on annual additions or your limit on elective deferrals. Amended form If you will be age 50 or older by the end of the year, you may also be able to make additional catch-up contributions. Amended form These additional contributions cannot be made with after-tax employee contributions. Amended form You are eligible to make catch-up contributions if: You will have reached age 50 by the end of the year, and The maximum amount of elective deferrals that can be made to your 403(b) account have been made for the plan year. Amended form The maximum amount of catch-up contributions is the lesser of: $5,500 for 2013 and unchanged for 2014, or The excess of your compensation for the year, over the elective deferrals that are not catch-up contributions. Amended form Figuring catch-up contributions. Amended form   When figuring allowable catch-up contributions, combine all catch-up contributions made by your employer on your behalf to the following plans. Amended form Qualified retirement plans. Amended form (To determine if your plan is a qualified plan, ask your plan administrator. Amended form ) 403(b) plans. Amended form Simplified employee pension (SEP) plans. Amended form SIMPLE plans. Amended form   The total amount of the catch-up contributions on your behalf to all plans maintained by your employer cannot be more than the annual limit. Amended form For 2013 the limit is $5,500, unchanged for 2014. Amended form    If you are eligible for both the 15-year rule increase in elective deferrals and the age 50 catch-up, allocate amounts first under the 15-year rule and next as an age 50 catch-up. Amended form    Catch-up contributions do not affect your MAC. Amended form Therefore, the maximum amount that you are allowed to have contributed to your 403(b) account is your MAC plus your allowable catch-up contribution. Amended form You can use Worksheet C in chapter 9 to figure your limit on catch-up contributions. Amended form Prev  Up  Next   Home   More Online Publications
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Types of Loans

There are different types of loans. Some are secured loans. This mean that your property and things you own are used as collateral, and if you cannot pay back the loan, the lender will take your collateral to get their money back. Other types of loans, unsecured loans, don’t use property as collateral. Lenders consider these as more risky than secured loans, so they charge a higher interest rate for them. Most credit cards are unsecured loans, although some consumers have secured credit cards. Two very common secured loans are home equity and installment loans.

Home-Equity Loans

A home equity loan could be a smart way to pay off high-interest debt or pay for home repairs. But consider carefully before taking out a home equity loan. If you are unable to make payments on time, you could lose your home.

Home equity loans can either be a revolving line of credit or a lump sum. Revolving credit lets you withdraw funds when you need them. A lump sum is a one-time closed-end loan, for a particular purpose, such as remodeling or tuition. Apply for a home equity loan through a bank or credit union first. These loans are likely to cost less than those offered by finance companies.

Installment Loans


Before you sign an agreement for a loan to buy a house, a car or other large purchase, make sure you fully understand all the lender's terms and conditions, including:

  • The dollar amount you are borrowing.
  • The payment amounts and when they are due.
  • The total finance charge, the total of all the interest and fees you must pay to get the loan.
  • The Annual Percentage Rate (APR), the rate of interest you will pay over the full term of the loan.
  • Penalties for late payments.
  • What the lender will do if you can't pay back the loan.
  • Penalties if you pay the loan back early

The Truth in Lending Act requires lenders to give you this information so you can compare different offers.

Payday and Tax Refund Loans

Payday loans are illegal in some states. Recent changes in the law for payday lenders have also made payday loans illegal for members of the military. With a typical payday loan, you might write a personal check for $115 to borrow $100 for two weeks, until payday. The annual percentage rate (APR) in this example is 390 percent! If you can repay the loan quickly, it may not appear such a bad deal. But if you can't pay off the loan quickly, that relatively small loan can grow into a large amount of debt. At 390 percent, a $100 loan will become $490 in a year and $2,401 in two years.

Another high cost way to borrow money is a tax refund loan. This type of credit lets you get an advance on a tax refund for a fee. APRs as high as 774% have been reported. If you are short of cash, avoid both of these loans by asking for more time to pay a bill or seeking a traditional loan. Even a cash advance on your credit card may cost less.

The Amended Form

Amended form 4. Amended form   Interest Table of Contents Introduction Topics - This chapter discusses: Useful Items - You may want to see: Allocation of InterestOrder of funds spent. Amended form Payments from checking accounts. Amended form Amounts paid within 30 days. Amended form Optional method for determining date of reallocation. Amended form Interest on a segregated account. Amended form How to report. Amended form Interest You Can DeductStatement. Amended form Expenses paid to obtain a mortgage. Amended form Prepayment penalty. Amended form De minimis OID. Amended form Constant-yield method. Amended form Loan or mortgage ends. Amended form Interest You Cannot DeductPenalties. Amended form Who is a key person? Exceptions for pre-June 1997 contracts. Amended form Interest allocated to unborrowed policy cash value. Amended form Capitalization of Interest When To Deduct InterestPrepaid interest. Amended form Discounted loan. Amended form Refunds of interest. Amended form Prepaid interest. Amended form Discounted loan. Amended form Tax deficiency. Amended form Related person. Amended form Below-Market LoansLimit on forgone interest for gift loans of $100,000 or less. Amended form Introduction This chapter discusses the tax treatment of business interest expense. Amended form Business interest expense is an amount charged for the use of money you borrowed for business activities. Amended form Topics - This chapter discusses: Allocation of interest Interest you can deduct Interest you cannot deduct Capitalization of interest When to deduct interest Below-market loans Useful Items - You may want to see: Publication 537 Installment Sales 550 Investment Income and Expenses 936 Home Mortgage Interest Deduction Form (and Instructions) Sch A (Form 1040) Itemized Deductions Sch E (Form 1040) Supplemental Income and Loss Sch K-1 (Form 1065) Partner's Share of Income, Deductions, Credits, etc. Amended form Sch K-1 (Form 1120S) Shareholder's Share of Income, Deductions, Credits, etc. Amended form 1098 Mortgage Interest Statement 3115 Application for Change in Accounting Method 4952 Investment Interest Expense Deduction 8582 Passive Activity Loss Limitations See chapter 12 for information about getting publications and forms. Amended form Allocation of Interest The rules for deducting interest vary, depending on whether the loan proceeds are used for business, personal, or investment activities. Amended form If you use the proceeds of a loan for more than one type of expense, you must allocate the interest based on the use of the loan's proceeds. Amended form Allocate your interest expense to the following categories. Amended form Nonpassive trade or business activity interest Passive trade or business activity interest Investment interest Portfolio interest Personal interest In general, you allocate interest on a loan the same way you allocate the loan proceeds. Amended form You allocate loan proceeds by tracing disbursements to specific uses. Amended form The easiest way to trace disbursements to specific uses is to keep the proceeds of a particular loan separate from any other funds. Amended form Secured loan. Amended form   The allocation of loan proceeds and the related interest is not generally affected by the use of property that secures the loan. Amended form Example. Amended form You secure a loan with property used in your business. Amended form You use the loan proceeds to buy an automobile for personal use. Amended form You must allocate interest expense on the loan to personal use (purchase of the automobile) even though the loan is secured by business property. Amended form    If the property that secures the loan is your home, you generally do not allocate the loan proceeds or the related interest. Amended form The interest is usually deductible as qualified home mortgage interest, regardless of how the loan proceeds are used. Amended form For more information, see Publication 936. Amended form Allocation period. Amended form   The period for which a loan is allocated to a particular use begins on the date the proceeds are used and ends on the earlier of the following dates. Amended form The date the loan is repaid. Amended form The date the loan is reallocated to another use. Amended form Proceeds not disbursed to borrower. Amended form   Even if the lender disburses the loan proceeds to a third party, the allocation of the loan is still based on your use of the funds. Amended form This applies whether you pay for property, services, or anything else by incurring a loan, or you take property subject to a debt. Amended form Proceeds deposited in borrower's account. Amended form   Treat loan proceeds deposited in an account as property held for investment. Amended form It does not matter whether the account pays interest. Amended form Any interest you pay on the loan is investment interest expense. Amended form If you withdraw the proceeds of the loan, you must reallocate the loan based on the use of the funds. Amended form Example. Amended form Celina, a calendar-year taxpayer, borrows $100,000 on January 4 and immediately uses the proceeds to open a checking account. Amended form No other amounts are deposited in the account during the year and no part of the loan principal is repaid during the year. Amended form On April 2, Celina uses $20,000 from the checking account for a passive activity expenditure. Amended form On September 4, Celina uses an additional $40,000 from the account for personal purposes. Amended form Under the interest allocation rules, the entire $100,000 loan is treated as property held for investment for the period from January 4 through April 1. Amended form From April 2 through September 3, Celina must treat $20,000 of the loan as used in the passive activity and $80,000 of the loan as property held for investment. Amended form From September 4 through December 31, she must treat $40,000 of the loan as used for personal purposes, $20,000 as used in the passive activity, and $40,000 as property held for investment. Amended form Order of funds spent. Amended form   Generally, you treat loan proceeds deposited in an account as used (spent) before either of the following amounts. Amended form Any unborrowed amounts held in the same account. Amended form Any amounts deposited after these loan proceeds. Amended form Example. Amended form On January 9, Olena opened a checking account, depositing $500 of the proceeds of Loan A and $1,000 of unborrowed funds. Amended form The following table shows the transactions in her account during the tax year. Amended form Date Transaction January 9 $500 proceeds of Loan A and $1,000 unborrowed funds deposited January 14 $500 proceeds of Loan B  deposited February 19 $800 used for personal purposes February 27 $700 used for passive activity June 19 $1,000 proceeds of Loan C  deposited November 20 $800 used for an investment December 18 $600 used for personal purposes Olena treats the $800 used for personal purposes as made from the $500 proceeds of Loan A and $300 of the proceeds of Loan B. Amended form She treats the $700 used for a passive activity as made from the remaining $200 proceeds of Loan B and $500 of unborrowed funds. Amended form She treats the $800 used for an investment as made entirely from the proceeds of Loan C. Amended form She treats the $600 used for personal purposes as made from the remaining $200 proceeds of Loan C and $400 of unborrowed funds. Amended form For the periods during which loan proceeds are held in the account, Olena treats them as property held for investment. Amended form Payments from checking accounts. Amended form   Generally, you treat a payment from a checking or similar account as made at the time the check is written if you mail or deliver it to the payee within a reasonable period after you write it. Amended form You can treat checks written on the same day as written in any order. Amended form Amounts paid within 30 days. Amended form   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. Amended form This applies to any payment made within 30 days before or after the proceeds are received in cash or deposited in your account. Amended form   If the loan proceeds are deposited in an account, you can apply this rule even if the rules stated earlier under Order of funds spent would otherwise require you to treat the proceeds as used for other purposes. Amended form If you apply this rule to any payments, disregard those payments (and the proceeds from which they are made) when applying the rules stated under Order of funds spent. Amended form   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. Amended form Example. Amended form Giovanni gets a loan of $1,000 on August 4 and receives the proceeds in cash. Amended form Giovanni deposits $1,500 in an account on August 18 and on August 28 writes a check on the account for a passive activity expense. Amended form Also, Giovanni deposits his paycheck, deposits other loan proceeds, and pays his bills during the same period. Amended form Regardless of these other transactions, Giovanni can treat $1,000 of the deposit he made on August 18 as being paid on August 4 from the loan proceeds. Amended form In addition, Giovanni can treat the passive activity expense he paid on August 28 as made from the $1,000 loan proceeds treated as deposited in the account. Amended form Optional method for determining date of reallocation. Amended form   You can use the following method to determine the date loan proceeds are reallocated to another use. Amended form You can treat all payments from loan proceeds in the account during any month as taking place on the later of the following dates. Amended form The first day of that month. Amended form The date the loan proceeds are deposited in the account. Amended form However, you can use this optional method only if you treat all payments from the account during the same calendar month in the same way. Amended form Interest on a segregated account. Amended form   If you have an account that contains only loan proceeds and interest earned on the account, you can treat any payment from that account as being made first from the interest. Amended form When the interest earned is used up, any remaining payments are from loan proceeds. Amended form Example. Amended form You borrowed $20,000 and used the proceeds of this loan to open a new savings account. Amended form When the account had earned interest of $867, you withdrew $20,000 for personal purposes. Amended form You can treat the withdrawal as coming first from the interest earned on the account, $867, and then from the loan proceeds, $19,133 ($20,000 − $867). Amended form All the interest charged on the loan from the time it was deposited in the account until the time of the withdrawal is investment interest expense. Amended form The interest charged on the part of the proceeds used for personal purposes ($19,133) from the time you withdrew it until you either repay it or reallocate it to another use is personal interest expense. Amended form The interest charged on the loan proceeds you left in the account ($867) continues to be investment interest expense until you either repay it or reallocate it to another use. Amended form Loan repayment. Amended form   When you repay any part of a loan allocated to more than one use, treat it as being repaid in the following order. Amended form Personal use. Amended form Investments and passive activities (other than those included in (3)). Amended form Passive activities in connection with a rental real estate activity in which you actively participate. Amended form Former passive activities. Amended form Trade or business use and expenses for certain low-income housing projects. Amended form Line of credit (continuous borrowings). Amended form   The following rules apply if you have a line of credit or similar arrangement. Amended form Treat all borrowed funds on which interest accrues at the same fixed or variable rate as a single loan. Amended form Treat borrowed funds or parts of borrowed funds on which interest accrues at different fixed or variable rates as different loans. Amended form Treat these loans as repaid in the order shown on the loan agreement. Amended form Loan refinancing. Amended form   Allocate the replacement loan to the same uses to which the repaid loan was allocated. Amended form Make the allocation only to the extent you use the proceeds of the new loan to repay any part of the original loan. Amended form Debt-financed distribution. Amended form   A debt-financed distribution occurs when a partnership or S corporation borrows funds and allocates those funds to distributions made to partners or shareholders. Amended form The manner in which you report the interest expense associated with the distributed debt proceeds depends on your use of those proceeds. Amended form How to report. Amended form   If the proceeds were used in a nonpassive trade or business activity, report the interest on Schedule E (Form 1040), line 28; enter “interest expense” and the name of the partnership or S corporation in column (a) and the amount in column (h). Amended form If the proceeds were used in a passive activity, follow the Instructions for Form 8582, Passive Activity Loss Limitations, to determine the amount of interest expense that can be reported on Schedule E (Form 1040), line 28; enter “interest expense” and the name of the partnership in column (a) and the amount in column (f). Amended form If the proceeds were used in an investment activity, enter the interest on Form 4952. Amended form If the proceeds are used for personal purposes, the interest is generally not deductible. Amended form Interest You Can Deduct You can generally deduct as a business expense all interest you pay or accrue during the tax year on debts related to your trade or business. Amended form Interest relates to your trade or business if you use the proceeds of the loan for a trade or business expense. Amended form It does not matter what type of property secures the loan. Amended form You can deduct interest on a debt only if you meet all the following requirements. Amended form You are legally liable for that debt. Amended form Both you and the lender intend that the debt be repaid. Amended form You and the lender have a true debtor-creditor relationship. Amended form Partial liability. Amended form   If you are liable for part of a business debt, you can deduct only your share of the total interest paid or accrued. Amended form Example. Amended form You and your brother borrow money. Amended form You are liable for 50% of the note. Amended form You use your half of the loan in your business, and you make one-half of the loan payments. Amended form You can deduct your half of the total interest payments as a business deduction. Amended form Mortgage. Amended form   Generally, mortgage interest paid or accrued on real estate you own legally or equitably is deductible. Amended form However, rather than deducting the interest currently, you may have to add it to the cost basis of the property as explained later under Capitalization of Interest. Amended form Statement. Amended form   If you paid $600 or more of mortgage interest (including certain points) during the year on any one mortgage, you generally will receive a Form 1098 or a similar statement. Amended form You will receive the statement if you pay interest to a person (including a financial institution or a cooperative housing corporation) in the course of that person's trade or business. Amended form A governmental unit is a person for purposes of furnishing the statement. Amended form   If you receive a refund of interest you overpaid in an earlier year, this amount will be reported in box 3 of Form 1098. Amended form You cannot deduct this amount. Amended form For information on how to report this refund, see Refunds of interest, later in this chapter. Amended form Expenses paid to obtain a mortgage. Amended form   Certain expenses you pay to obtain a mortgage cannot be deducted as interest. Amended form These expenses, which include mortgage commissions, abstract fees, and recording fees, are capital expenses. Amended form If the property mortgaged is business or income-producing property, you can amortize the costs over the life of the mortgage. Amended form Prepayment penalty. Amended form   If you pay off your mortgage early and pay the lender a penalty for doing this, you can deduct the penalty as interest. Amended form Interest on employment tax deficiency. Amended form   Interest charged on employment taxes assessed on your business is deductible. Amended form Original issue discount (OID). Amended form   OID is a form of interest. Amended form A loan (mortgage or other debt) generally has OID when its proceeds are less than its principal amount. Amended form The OID is the difference between the stated redemption price at maturity and the issue price of the loan. Amended form   A loan's stated redemption price at maturity is the sum of all amounts (principal and interest) payable on it other than qualified stated interest. Amended form Qualified stated interest is stated interest that is unconditionally payable in cash or property (other than another loan of the issuer) at least annually over the term of the loan at a single fixed rate. Amended form You generally deduct OID over the term of the loan. Amended form Figure the amount to deduct each year using the constant-yield method, unless the OID on the loan is de minimis. Amended form De minimis OID. Amended form   The OID is de minimis if it is less than one-fourth of 1% (. Amended form 0025) of the stated redemption price of the loan at maturity multiplied by the number of full years from the date of original issue to maturity (the term of the loan). Amended form   If the OID is de minimis, you can choose one of the following ways to figure the amount you can deduct each year. Amended form On a constant-yield basis over the term of the loan. Amended form On a straight-line basis over the term of the loan. Amended form In proportion to stated interest payments. Amended form In its entirety at maturity of the loan. Amended form You make this choice by deducting the OID in a manner consistent with the method chosen on your timely filed tax return for the tax year in which the loan is issued. Amended form Example. Amended form On January 1, 2013, you took out a $100,000 discounted loan and received $98,500 in proceeds. Amended form The loan will mature on January 1, 2023 (a 10-year term), and the $100,000 principal is payable on that date. Amended form Interest of $10,000 is payable on January 1 of each year, beginning January 1, 2014. Amended form The $1,500 OID on the loan is de minimis because it is less than $2,500 ($100,000 × . Amended form 0025 × 10). Amended form You choose to deduct the OID on a straight-line basis over the term of the loan. Amended form Beginning in 2013, you can deduct $150 each year for 10 years. Amended form Constant-yield method. Amended form   If the OID is not de minimis, you must use the constant-yield method to figure how much you can deduct each year. Amended form You figure your deduction for the first year using the following steps. Amended form Determine the issue price of the loan. Amended form Generally, this equals the proceeds of the loan. Amended form If you paid points on the loan (as discussed later), the issue price generally is the difference between the proceeds and the points. Amended form Multiply the result in (1) by the yield to maturity. Amended form Subtract any qualified stated interest payments from the result in (2). Amended form This is the OID you can deduct in the first year. Amended form   To figure your deduction in any subsequent year, follow the above steps, except determine the adjusted issue price in step (1). Amended form To get the adjusted issue price, add to the issue price any OID previously deducted. Amended form Then follow steps (2) and (3) above. Amended form   The yield to maturity is generally shown in the literature you receive from your lender. Amended form If you do not have this information, consult your lender or tax advisor. Amended form In general, the yield to maturity is the discount rate that, when used in computing the present value of all principal and interest payments, produces an amount equal to the principal amount of the loan. Amended form Example. Amended form The facts are the same as in the previous example, except that you deduct the OID on a constant yield basis over the term of the loan. Amended form The yield to maturity on your loan is 10. Amended form 2467%, compounded annually. Amended form For 2013, you can deduct $93 [($98,500 × . Amended form 102467) − $10,000]. Amended form For 2014, you can deduct $103 [($98,593 × . Amended form 102467) − $10,000]. Amended form Loan or mortgage ends. Amended form   If your loan or mortgage ends, you may be able to deduct any remaining OID in the tax year in which the loan or mortgage ends. Amended form A loan or mortgage may end due to a refinancing, prepayment, foreclosure, or similar event. Amended form If you refinance with the original lender, you generally cannot deduct the remaining OID in the year in which the refinancing occurs, but you may be able to deduct it over the term of the new mortgage or loan. Amended form See Interest paid with funds borrowed from original lender under Interest You Cannot Deduct, later. Amended form Points. Amended form   The term “points” is used to describe certain charges paid, or treated as paid, by a borrower to obtain a loan or a mortgage. Amended form These charges are also called loan origination fees, maximum loan charges, discount points, or premium charges. Amended form If any of these charges (points) are solely for the use of money, they are interest. Amended form   Because points are prepaid interest, you generally cannot deduct the full amount in the year paid. Amended form However, you can choose to fully deduct points in the year paid if you meet certain tests. Amended form For exceptions to the general rule, see Publication 936. Amended form The points reduce the issue price of the loan and result in original issue discount (OID), deductible as explained in the preceding discussion. Amended form Partial payments on a nontax debt. Amended form   If you make partial payments on a debt (other than a debt owed the IRS), the payments are applied, in general, first to interest and any remainder to principal. Amended form You can deduct only the interest. Amended form This rule does not apply when it can be inferred that the borrower and lender understood that a different allocation of the payments would be made. Amended form Installment purchase. Amended form   If you make an installment purchase of business property, the contract between you and the seller generally provides for the payment of interest. Amended form If no interest or a low rate of interest is charged under the contract, a portion of the stated principal amount payable under the contract may be recharacterized as interest (unstated interest). Amended form The amount recharacterized as interest reduces your basis in the property and increases your interest expense. Amended form For more information on installment sales and unstated interest, see Publication 537. Amended form Interest You Cannot Deduct Certain interest payments cannot be deducted. Amended form In addition, certain other expenses that may seem to be interest but are not, cannot be deducted as interest. Amended form You cannot currently deduct interest that must be capitalized, and you generally cannot deduct personal interest. Amended form Interest paid with funds borrowed from original lender. Amended form   If you use the cash method of accounting, you cannot deduct interest you pay with funds borrowed from the original lender through a second loan, an advance, or any other arrangement similar to a loan. Amended form You can deduct the interest expense once you start making payments on the new loan. Amended form   When you make a payment on the new loan, you first apply the payment to interest and then to the principal. Amended form All amounts you apply to the interest on the first loan are deductible, along with any interest you pay on the second loan, subject to any limits that apply. Amended form Capitalized interest. Amended form   You cannot currently deduct interest you are required to capitalize under the uniform capitalization rules. Amended form See Capitalization of Interest, later. Amended form In addition, if you buy property and pay interest owed by the seller (for example, by assuming the debt and any interest accrued on the property), you cannot deduct the interest. Amended form Add this interest to the basis of the property. Amended form Commitment fees or standby charges. Amended form   Fees you incur to have business funds available on a standby basis, but not for the actual use of the funds, are not deductible as interest payments. Amended form You may be able to deduct them as business expenses. Amended form   If the funds are for inventory or certain property used in your business, the fees are indirect costs and you generally must capitalize them under the uniform capitalization rules. Amended form See Capitalization of Interest, later. Amended form Interest on income tax. Amended form   Interest charged on income tax assessed on your individual income tax return is not a business deduction even though the tax due is related to income from your trade or business. Amended form Treat this interest as a business deduction only in figuring a net operating loss deduction. Amended form Penalties. Amended form   Penalties on underpaid deficiencies and underpaid estimated tax are not interest. Amended form You cannot deduct them. Amended form Generally, you cannot deduct any fines or penalties. Amended form Interest on loans with respect to life insurance policies. Amended form   You generally cannot deduct interest on a debt incurred with respect to any life insurance, annuity, or endowment contract that covers any individual unless that individual is a key person. Amended form   If the policy or contract covers a key person, you can deduct the interest on up to $50,000 of debt for that person. Amended form However, the deduction for any month cannot be more than the interest figured using Moody's Composite Yield on Seasoned Corporate Bonds (formerly known as Moody's Corporate Bond Yield Average-Monthly Average Corporates) (Moody's rate) for that month. Amended form Who is a key person?   A key person is an officer or 20% owner. Amended form However, the number of individuals you can treat as key persons is limited to the greater of the following. Amended form Five individuals. Amended form The lesser of 5% of the total officers and employees of the company or 20 individuals. Amended form Exceptions for pre-June 1997 contracts. Amended form   You can generally deduct the interest if the contract was issued before June 9, 1997, and the covered individual is someone other than an employee, officer, or someone financially interested in your business. Amended form If the contract was purchased before June 21, 1986, you can generally deduct the interest no matter who is covered by the contract. Amended form Interest allocated to unborrowed policy cash value. Amended form   Corporations and partnerships generally cannot deduct any interest expense allocable to unborrowed cash values of life insurance, annuity, or endowment contracts. Amended form This rule applies to contracts issued after June 8, 1997, that cover someone other than an officer, director, employee, or 20% owner. Amended form For more information, see section 264(f) of the Internal Revenue Code. Amended form Capitalization of Interest Under the uniform capitalization rules, you generally must capitalize interest on debt equal to your expenditures to produce real property or certain tangible personal property. Amended form The property must be produced by you for use in your trade or business or for sale to customers. Amended form You cannot capitalize interest related to property that you acquire in any other manner. Amended form Interest you paid or incurred during the production period must be capitalized if the property produced is designated property. Amended form Designated property is any of the following. Amended form Real property. Amended form Tangible personal property with a class life of 20 years or more. Amended form Tangible personal property with an estimated production period of more than 2 years. Amended form Tangible personal property with an estimated production period of more than 1 year if the estimated cost of production is more than $1 million. Amended form Property you produce. Amended form   You produce property if you construct, build, install, manufacture, develop, improve, create, raise, or grow it. Amended form Treat property produced for you under a contract as produced by you up to the amount you pay or incur for the property. Amended form Carrying charges. Amended form   Carrying charges include taxes you pay to carry or develop real estate or to carry, transport, or install personal property. Amended form You can choose to capitalize carrying charges not subject to the uniform capitalization rules if they are otherwise deductible. Amended form For more information, see chapter 7. Amended form Capitalized interest. Amended form   Treat capitalized interest as a cost of the property produced. Amended form You recover your interest when you sell or use the property. Amended form If the property is inventory, recover capitalized interest through cost of goods sold. Amended form If the property is used in your trade or business, recover capitalized interest through an adjustment to basis, depreciation, amortization, or other method. Amended form Partnerships and S corporations. Amended form   The interest capitalization rules are applied first at the partnership or S corporation level. Amended form The rules are then applied at the partners' or shareholders' level to the extent the partnership or S corporation has insufficient debt to support the production or construction costs. Amended form   If you are a partner or a shareholder, you may have to capitalize interest you incur during the tax year for the production costs of the partnership or S corporation. Amended form You may also have to capitalize interest incurred by the partnership or S corporation for your own production costs. Amended form To properly capitalize interest under these rules, you must be given the required information in an attachment to the Schedule K-1 you receive from the partnership or S corporation. Amended form Additional information. Amended form   The procedures for applying the uniform capitalization rules are beyond the scope of this publication. Amended form For more information, see sections 1. Amended form 263A-8 through 1. Amended form 263A-15 of the regulations and Notice 88-99. Amended form Notice 88-99 is in Cumulative Bulletin 1988-2. Amended form When To Deduct Interest If the uniform capitalization rules, discussed under Capitalization of Interest, earlier, do not apply to you, deduct interest as follows. Amended form Cash method. Amended form   Under the cash method, you can generally deduct only the interest you actually paid during the tax year. Amended form You cannot deduct a promissory note you gave as payment because it is a promise to pay and not an actual payment. Amended form Prepaid interest. Amended form   You generally cannot deduct any interest paid before the year it is due. Amended form Interest paid in advance can be deducted only in the tax year in which it is due. Amended form Discounted loan. Amended form   If interest or a discount is subtracted from your loan proceeds, it is not a payment of interest and you cannot deduct it when you get the loan. Amended form For more information, see Original issue discount (OID) under Interest You Can Deduct, earlier. Amended form Refunds of interest. Amended form   If you pay interest and then receive a refund in the same tax year of any part of the interest, reduce your interest deduction by the refund. Amended form If you receive the refund in a later tax year, include the refund in your income to the extent the deduction for the interest reduced your tax. Amended form Accrual method. Amended form   Under an accrual method, you can deduct only interest that has accrued during the tax year. Amended form Prepaid interest. Amended form   See Prepaid interest, earlier. Amended form Discounted loan. Amended form   See Discounted loan, earlier. Amended form Tax deficiency. Amended form   If you contest a federal income tax deficiency, interest does not accrue until the tax year the final determination of liability is made. Amended form If you do not contest the deficiency, then the interest accrues in the year the tax was asserted and agreed to by you. Amended form   However, if you contest but pay the proposed tax deficiency and interest, and you do not designate the payment as a cash bond, then the interest is deductible in the year paid. Amended form Related person. Amended form   If you use an accrual method, you cannot deduct interest owed to a related person who uses the cash method until payment is made and the interest is includible in the gross income of that person. Amended form The relationship is determined as of the end of the tax year for which the interest would otherwise be deductible. Amended form See section 267 of the Internal Revenue Code for more information. Amended form Below-Market Loans If you receive a below-market gift or demand loan and use the proceeds in your trade or business, you may be able to deduct the forgone interest. Amended form See Treatment of gift and demand loans, later, in this discussion. Amended form A below-market loan is a loan on which no interest is charged or on which interest is charged at a rate below the applicable federal rate. Amended form A gift or demand loan that is a below-market loan generally is considered an arm's-length transaction in which you, the borrower, are considered as having received both the following. Amended form A loan in exchange for a note that requires the payment of interest at the applicable federal rate. Amended form An additional payment in an amount equal to the forgone interest. Amended form The additional payment is treated as a gift, dividend, contribution to capital, payment of compensation, or other payment, depending on the substance of the transaction. Amended form Forgone interest. Amended form   For any period, forgone interest is The interest that would be payable for that period if interest accrued on the loan at the applicable federal rate and was payable annually on December 31, minus Any interest actually payable on the loan for the period. Amended form Applicable federal rates are published by the IRS each month in the Internal Revenue Bulletin. Amended form Internal Revenue Bulletins are available on the IRS web site at www. Amended form irs. Amended form gov/irb. Amended form You can also contact an IRS office to get these rates. Amended form Loans subject to the rules. Amended form   The rules for below-market loans apply to the following. Amended form Gift loans (below-market loans where the forgone interest is in the nature of a gift). Amended form Compensation-related loans (below-market loans between an employer and an employee or between an independent contractor and a person for whom the contractor provides services). Amended form Corporation-shareholder loans. Amended form Tax avoidance loans (below-market loans where the avoidance of federal tax is one of the main purposes of the interest arrangement). Amended form Loans to qualified continuing care facilities under a continuing care contract (made after October 11, 1985). Amended form   Except as noted in (5) above, these rules apply to demand loans (loans payable in full at any time upon the lender's demand) outstanding after June 6, 1984, and to term loans (loans that are not demand loans) made after that date. Amended form Treatment of gift and demand loans. Amended form   If you receive a below-market gift loan or demand loan, you are treated as receiving an additional payment (as a gift, dividend, etc. Amended form ) equal to the forgone interest on the loan. Amended form You are then treated as transferring this amount back to the lender as interest. Amended form These transfers are considered to occur annually, generally on December 31. Amended form If you use the loan proceeds in your trade or business, you can deduct the forgone interest each year as a business interest expense. Amended form The lender must report it as interest income. Amended form Limit on forgone interest for gift loans of $100,000 or less. Amended form   For gift loans between individuals, forgone interest treated as transferred back to the lender is limited to the borrower's net investment income for the year. Amended form This limit applies if the outstanding loans between the lender and borrower total $100,000 or less. Amended form If the borrower's net investment income is $1,000 or less, it is treated as zero. Amended form This limit does not apply to a loan if the avoidance of any federal tax is one of the main purposes of the interest arrangement. Amended form Treatment of term loans. Amended form   If you receive a below-market term loan other than a gift or demand loan, you are treated as receiving an additional cash payment (as a dividend, etc. Amended form ) on the date the loan is made. Amended form This payment is equal to the loan amount minus the present value, at the applicable federal rate, of all payments due under the loan. Amended form The same amount is treated as original issue discount on the loan. Amended form See Original issue discount (OID) under Interest You Can Deduct, earlier. Amended form Exceptions for loans of $10,000 or less. Amended form   The rules for below-market loans do not apply to any day on which the total outstanding loans between the borrower and lender is $10,000 or less. Amended form This exception applies only to the following. Amended form Gift loans between individuals if the loan is not directly used to buy or carry income-producing assets. Amended form Compensation-related loans or corporation-shareholder loans if the avoidance of any federal tax is not a principal purpose of the interest arrangement. Amended form This exception does not apply to a term loan described in (2) above that was previously subject to the below-market loan rules. Amended form Those rules will continue to apply even if the outstanding balance is reduced to $10,000 or less. Amended form Exceptions for loans without significant tax effect. Amended form   The following loans are specifically exempted from the rules for below-market loans because their interest arrangements do not have a significant effect on the federal tax liability of the borrower or the lender. Amended form Loans made available by lenders to the general public on the same terms and conditions that are consistent with the lender's customary business practices. Amended form Loans subsidized by a federal, state, or municipal government that are made available under a program of general application to the public. Amended form Certain employee-relocation loans. Amended form Certain loans to or from a foreign person, unless the interest income would be effectively connected with the conduct of a U. Amended form S. Amended form trade or business and not exempt from U. Amended form S. Amended form tax under an income tax treaty. Amended form Any other loan if the taxpayer can show that the interest arrangement has no significant effect on the federal tax liability of the lender or the borrower. Amended form Whether an interest arrangement has a significant effect on the federal tax liability of the lender or the borrower will be determined by all the facts and circumstances. Amended form Consider all the following factors. Amended form Whether items of income and deduction generated by the loan offset each other. Amended form The amount of the items. Amended form The cost of complying with the below-market loan provisions if they were to apply. Amended form Any reasons, other than taxes, for structuring the transaction as a below-market loan. Amended form Exception for loans to qualified continuing care facilities. Amended form   The below-market interest rules do not apply to a loan owed by a qualified continuing care facility under a continuing care contract if the lender or lender's spouse is age 62 or older by the end of the calendar year. Amended form A qualified continuing care facility is one or more facilities (excluding nursing homes) meeting the requirements listed below. Amended form Designed to provide services under continuing care contracts (defined below). Amended form Includes an independent living unit, and either an assisted living or nursing facility, or both. Amended form Substantially all of the independent living unit residents are covered by continuing care contracts. Amended form A continuing care contract is a written contract between an individual and a qualified continuing care facility that includes all of the following conditions. Amended form The individual or individual's spouse must be entitled to use the facility for the rest of their life or lives. Amended form The individual or individual's spouse will be provided with housing, as appropriate for the health of the individual or individual's spouse in an: independent living unit (which has additional available facilities outside the unit for the provision of meals and other personal care), and assisted living or nursing facility available in the continuing care facility. Amended form The individual or individual's spouse will be provided with assisted living or nursing care available in the continuing care facility, as required for the health of the individual or the individual's spouse. Amended form For more information, see section 7872(h) of the Internal Revenue Code. Amended form Sale or exchange of property. Amended form   Different rules generally apply to a loan connected with the sale or exchange of property. Amended form If the loan does not provide adequate stated interest, part of the principal payment may be considered interest. Amended form However, there are exceptions that may require you to apply the below-market interest rate rules to these loans. Amended form See Unstated Interest and Original Issue Discount (OID) in Publication 537. Amended form More information. Amended form   For more information on below-market loans, see section 7872 of the Internal Revenue Code and section 1. Amended form 7872-5 of the regulations. Amended form Prev  Up  Next   Home   More Online Publications