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Freefile Taxes

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Freefile Taxes

Freefile taxes 5. Freefile taxes   Table and Worksheets for the Self-Employed Table of Contents Community property laws. Freefile taxes As discussed in chapters 2 and 4, if you are self-employed, you must use the rate table or rate worksheet and deduction worksheet to figure your deduction for contributions you made for yourself to a SEP-IRA or qualified plan. Freefile taxes First, use either the rate table or rate worksheet to find your reduced contribution rate. Freefile taxes Then complete the deduction worksheet to figure your deduction for contributions. Freefile taxes The table and the worksheets in chapter 5 apply only to self-employed individuals who have only one defined contribution plan, such as a profit-sharing plan. Freefile taxes A SEP plan is treated as a profit-sharing plan. Freefile taxes However, do not use this worksheet for SARSEPs. Freefile taxes Rate table for self-employed. Freefile taxes   If your plan's contribution rate is a whole percentage (for example, 12% rather than 12½%), you can use the table on the next page to find your reduced contribution rate. Freefile taxes Otherwise, use the rate worksheet provided below. Freefile taxes   First, find your plan contribution rate (the contribution rate stated in your plan) in Column A of the table. Freefile taxes Then read across to the rate under Column B. Freefile taxes Enter the rate from Column B in step 4 of the Deduction Worksheet for Self-Employed on this page. Freefile taxes    Example. Freefile taxes You are a sole proprietor with no employees. Freefile taxes If your plan's contribution rate is 10% of a participant's compensation, your rate is 0. Freefile taxes 090909. Freefile taxes Enter this rate in step 4 of the Deduction Worksheet for Self-Employed on this page. Freefile taxes Deduction Worksheet for Self-Employed   Step 1           Enter your net profit from line 31, Schedule C (Form 1040); line 3, Schedule C-EZ (Form 1040); line 34, Schedule F (Form 1040)*; or box 14, code A**, Schedule K-1 (Form 1065)*. Freefile taxes For information on other income included in net profit from self-employment, see the Instructions for Schedule SE, Form 1040. Freefile taxes       *Reduce this amount by any amount reported on Schedule SE (Form 1040), line 1b. Freefile taxes       **General partners should reduce this amount by the same additional expenses subtracted from box 14, code A to determine the amount on line 1 or 2 of Schedule SE. Freefile taxes     Step 2           Enter your deduction for self-employment tax from Form 1040, line 27             Step 3           Net earnings from self-employment. Freefile taxes Subtract step 2 from step 1     Step 4           Enter your rate from the Rate Table for Self-Employed or Rate Worksheet for Self-Employed     Step 5           Multiply step 3 by step 4     Step 6           Multiply $255,000 by your plan contribution rate (not the reduced rate)     Step 7           Enter the smaller of step 5 or step 6     Step 8           Contribution dollar limit $51,000     • If you made any elective deferrals to your self-employed plan, go to step 9. Freefile taxes         • Otherwise, skip steps 9 through 20 and enter the smaller of step 7 or step 8 on step 21. Freefile taxes       Step 9           Enter your allowable elective deferrals (including designated Roth contributions) made to your self-employed plan during 2013. Freefile taxes Do not enter more than $17,500     Step 10           Subtract step 9 from step 8     Step 11           Subtract step 9 from step 3       Step 12           Enter one-half of step 11     Step 13           Enter the smallest of step 7, 10, or 12     Step 14           Subtract step 13 from step 3     Step 15           Enter the smaller of step 9 or step 14       • If you made catch-up contributions, go to step 16. Freefile taxes         • Otherwise, skip steps 16 through 18 and go to step 19. Freefile taxes       Step 16           Subtract step 15 from step 14     Step 17           Enter your catch-up contributions (including designated Roth contributions), if any. Freefile taxes Do not enter more than $5,500     Step 18           Enter the smaller of step 16 or step 17     Step 19           Add steps 13, 15, and 18. Freefile taxes     Step 20           Enter the amount of designated Roth contributions included on lines 9 and 17. Freefile taxes     Step 21           Subtract step 20 from step 19. Freefile taxes This is your maximum deductible contribution. Freefile taxes                 Next: Enter your actual contribution, not to exceed your maximum deductible contribution, on Form 1040, line 28. Freefile taxes   Rate worksheet for self-employed. Freefile taxes   If your plan's contribution rate is not a whole percentage (for example, 10½%), you cannot use the Rate Table for Self-Employed. Freefile taxes Use the following worksheet instead. Freefile taxes Rate Worksheet for Self-Employed 1) Plan contribution rate as a decimal (for example, 10½% = 0. Freefile taxes 105)   2) Rate in line 1 plus 1 (for example, 0. Freefile taxes 105 + 1 = 1. Freefile taxes 105)   3) Self-employed rate as a decimal rounded to at least 3 decimal places (line 1 ÷ line 2) (for example, 0. Freefile taxes 105 ÷ 1. Freefile taxes 105 = 0. Freefile taxes 095)   Figuring your deduction. Freefile taxes   Now that you have your self-employed rate from either the rate table or rate worksheet, you can figure your maximum deduction for contributions for yourself by completing the Deduction Worksheet for Self-Employed. Freefile taxes Community property laws. Freefile taxes   If you reside in a community property state and you are married and filing a separate return, disregard community property laws for step 1 of the Deduction Worksheet for Self-Employed. Freefile taxes Enter on step 1 the total net profit you actually earned. Freefile taxes Rate Table for Self-Employed Column A  If the plan contri- bution rate is: (shown as %) Column B  Your rate is: (shown as decimal) 1 . Freefile taxes 009901 2 . Freefile taxes 019608 3 . Freefile taxes 029126 4 . Freefile taxes 038462 5 . Freefile taxes 047619 6 . Freefile taxes 056604 7 . Freefile taxes 065421 8 . Freefile taxes 074074 9 . Freefile taxes 082569 10 . Freefile taxes 090909 11 . Freefile taxes 099099 12 . Freefile taxes 107143 13 . Freefile taxes 115044 14 . Freefile taxes 122807 15 . Freefile taxes 130435 16 . Freefile taxes 137931 17 . Freefile taxes 145299 18 . Freefile taxes 152542 19 . Freefile taxes 159664 20 . Freefile taxes 166667 21 . Freefile taxes 173554 22 . Freefile taxes 180328 23 . Freefile taxes 186992 24 . Freefile taxes 193548 25* . Freefile taxes 200000* *The deduction for annual employer contributions (other than elective deferrals) to a SEP plan, a profit-sharing plan, or a money purchase plan cannot be more than 20% of your net earnings (figured without deducting contributions for yourself) from the business that has the plan. Freefile taxes Example. Freefile taxes You are a sole proprietor with no employees. Freefile taxes The terms of your plan provide that you contribute 8½% (. Freefile taxes 085) of your compensation to your plan. Freefile taxes Your net profit from line 31, Schedule C (Form 1040) is $200,000. Freefile taxes You have no elective deferrals or catch-up contributions. Freefile taxes Your self-employment tax deduction on line 27 of Form 1040 is $9,728. Freefile taxes See the filled-in portions of both Schedule SE (Form 1040), Self-Employment Income, and Form 1040, later. Freefile taxes You figure your self-employed rate and maximum deduction for employer contributions you made for yourself as follows. Freefile taxes Deduction Worksheet for Self-Employed   Step 1           Enter your net profit from line 31, Schedule C (Form 1040); line 3, Schedule C-EZ (Form 1040); line 34, Schedule F (Form 1040)*; or box 14, code A**, Schedule K-1 (Form 1065)*. Freefile taxes For information on other income included in net profit from self-employment, see the Instructions for Schedule SE, Form 1040. Freefile taxes $200,000     *Reduce this amount by any amount reported on Schedule SE (Form 1040), line 1b. Freefile taxes       **General partners should reduce this amount by the same additional expenses subtracted from box 14, code A to determine the amount on line 1 or 2 of Schedule SE. Freefile taxes     Step 2           Enter your deduction for self-employment tax from Form 1040, line 27 9,728           Step 3           Net earnings from self-employment. Freefile taxes Subtract step 2 from step 1 190,272   Step 4           Enter your rate from the Rate Table for Self-Employed or Rate Worksheet for Self-Employed 0. Freefile taxes 078   Step 5           Multiply step 3 by step 4 14,841   Step 6           Multiply $255,000 by your plan contribution rate (not the reduced rate) 21,675   Step 7           Enter the smaller of step 5 or step 6 14,841   Step 8           Contribution dollar limit $51,000     • If you made any elective deferrals to your self-employed plan, go to step 9. Freefile taxes         • Otherwise, skip steps 9 through 20 and enter the smaller of step 7 or step 8 on step 21. Freefile taxes       Step 9           Enter your allowable elective deferrals (including designated Roth contributions) made to your self-employed plan during 2013. Freefile taxes Do not enter more than $17,500 N/A   Step 10           Subtract step 9 from step 8     Step 11           Subtract step 9 from step 3       Step 12           Enter one-half of step 11     Step 13           Enter the smallest of step 7, 10, or 12     Step 14           Subtract step 13 from step 3     Step 15           Enter the smaller of step 9 or step 14       • If you made catch-up contributions, go to step 16. Freefile taxes         • Otherwise, skip steps 16 through 18 and go to step 19. Freefile taxes       Step 16           Subtract step 15 from step 14     Step 17           Enter your catch-up contributions (including designated Roth contributions), if any. Freefile taxes Do not enter more than $5,500     Step 18           Enter the smaller of step 16 or step 17     Step 19           Add steps 13, 15, and 18. Freefile taxes     Step 20           Enter the amount of designated Roth contributions included on lines 9 and 17     Step 21           Subtract step 20 from step 19. Freefile taxes This is your maximum deductible contribution $14,841                 Next: Enter your actual contribution, not to exceed your maximum deductible contribution, on Form 1040, line 28. Freefile taxes   See the filled-in Deduction Worksheet for Self-Employed on this page. Freefile taxes Rate Worksheet for Self-Employed 1) Plan contribution rate as a decimal (for example, 10½% = 0. Freefile taxes 105) 0. Freefile taxes 085 2) Rate in line 1 plus 1 (for example, 0. Freefile taxes 105 + 1 = 1. Freefile taxes 105) 1. Freefile taxes 085 3) Self-employed rate as a decimal rounded to at least 3 decimal places (line 1 ÷ line 2) (for example, 0. Freefile taxes 105 ÷ 1. Freefile taxes 105 = 0. Freefile taxes 095) 0. Freefile taxes 078 This image is too large to be displayed in the current screen. Freefile taxes Please click the link to view the image. Freefile taxes Portion of Form 1040 and Portion of Schedule SE Prev  Up  Next   Home   More Online Publications
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The Freefile Taxes

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