Question: Frank and Mercy divorced on Jan. 11, 2018, but continued to live together through 2021. Frank paid alimony to his ex-spouse in 2021. Does Mercy pay taxes on the alimony, and can Frank deduct the alimony payments?

Answer: No. Mercy will not pay taxes on the alimony payments and Frank will not be able to deduct the payments. Generally, alimony payments under pre-2019 divorce decree are deductible by the payer and includable as income by the recipient. However, there are requirements that must be met for these to occur. One of the requirements is that the payee and the payer cannot be members of the same household at the time the payments were made. Because the two were still living together at the time, these payments will not count as taxable income to Mercy and will not be deductible for Frank.

Question: When the IRS issued Rev. Proc. 2015-13, it gave taxpayers the opportunity to correct missed or incorrect methods of depreciation as an automatic accounting change using Form 3115, Application for Change in Accounting Method, through a §481(a) adjustment. Can a tax professional leave the annual depreciation expense off a taxpayer’s return and “save” these deductions for a later year in which an accumulation of deductions would best serve the taxpayer? Would knowingly or purposely omitting annual depreciation deductions and picking them up in a later year under §481(a) create legal or ethical implications for paid preparers?

Answer: No. You cannot intentionally omit a taxpayer’s annual depreciation deductions so that the taxpayer can use them in a year in which they would be more advantageous. Circular 230, Regulations Governing Practice before the Internal Revenue Service, requires tax return preparers be knowledgeable about the returns they prepare. Every tax professional knows that depreciation is an annual deduction that accounts for the natural deterioration of an asset. Intentionally omitting the deduction could be considered a violation of Circular 230 §10.21, Knowledge of client’s omission; §10.22, Diligence as to Accuracy; §10.34, Standards with respect to tax returns and documents, affidavits, and other papers for Tax Return Positions known to be potentially unreasonable; or §10.35, Competence.

Correcting missed depreciation due to an honest oversight is the reason why §481(a) was added to the tax code. Intentionally omitting depreciation to maximize deductions in another tax period goes against the Circular 230 standards for tax preparers and is likely inviting risk to your continuation in the profession. The §481(a) adjustment should be used by a tax preparer to provide knowledgeable salvation to the novice taxpayer who missed depreciation due to ignorance. It should not be used as an intentional disregard of the law disguised as a planning tool.

Question: Sue operated a wholesale business as a sole proprietorship, reporting income and expenses on Schedule C (Form 1040), Profit or Loss from Business (Sole Proprietorship). During COVID-19, the business failed. However, she still must make payments on bank debt for an inventory loan and a line of credit for the business. Can she deduct any of those payments of former business expenses on her current Form 1040, U.S. Individual Income Tax Return?

Answer: Yes, Sue’s interest expense on this debt can be reported on Schedule C (Form 1040) as an expense attributable to a prior business activity [Dowd v. Comm’r, 68 T.C. 294 (T.C. 1977)]. The original use of the debt proceeds determines the character of the interest expense and how it may be reported. Presumably, if Sue has self-employment (SE) income from other sources, she can also use the loss from this Schedule C (Form 1040) to reduce the income subject to SE tax.

Question: Pedro lives in Spain. He owns real estate in the U.S. and receives rental income of $12,000 during the year. Pedro is unmarried, has never been to the U.S., and meets the definition of a nonresident alien. The rental income was his only U.S.-sourced income. Must Pedro file a U.S. tax return and, if so, is he allowed to claim the standard deduction?

Answer: Yes, Pedro will be required to file a tax return using Form 1040-NR, U.S. Nonresident Alien Income Tax Return. Since the real estate is in the U.S, he has U.S.- sourced income that must report on a federal income tax return.

Because Pedro is considered a nonresident alien and is not married to a U.S. citizen or resident with whom he is making an election to be treated as a U.S. resident, he is not eligible to claim the standard deduction; his allowable standard deduction is $0.

Question: Mary passed away in 2020 at the age of 80. She had a traditional IRA account from which she had been withdrawing her required minimum distributions (RMDs). Her daughter Lucy, who was a designated beneficiary, wants to know the tax implications of inheriting the IRA and her options for distributions.

Answer: As a designated beneficiary, Lucy has two options for the IRA she inherited from Mary.

Option 1
As a non-spouse beneficiary, Lucy may choose to roll over Mary’s IRA when it is transferred in a direct trustee-to-trustee transfer to another traditional IRA if the new IRA is in Mary’s name for Lucy’s benefit. Since Mary was required to take RMDs at the time of her death, Lucy must then take RMDs over her life expectancy and distribute the remaining balance by the end of the 10th year following the year of Mary’s death (2030).

Option 2
Lucy can liquidate or cash out the plan completely and pay ordinary income taxes on the distribution for the year in which she withdraws the money.