Page 73 - Small Business Taxes

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8990 8990 Limitation on Business Interest Example. Celina, a calendar-year taxpayer, Amounts paid within 30 days. If you re-
Expense Under Section 163(j) borrows $100,000 on January 4 and immedi- ceive loan proceeds in cash or if the loan pro-
See chapter 12 for information about getting ately uses the proceeds to open a checking ac- ceeds are deposited in an account, you can
treat any payment (up to the amount of the pro-
count. No other amounts are deposited in the
publications and forms. account during the year and no part of the loan ceeds) made from any account you own, or
principal is repaid during the year. On April 2, from cash, as made from those proceeds. This
Allocation of Interest Celina uses $20,000 from the checking account applies to any payment made within 30 days
for a passive activity expenditure. On Septem-
before or after the proceeds are received in
ber 4, Celina uses an additional $40,000 from cash or deposited in your account.
The rules for deducting interest vary, depending the account for personal purposes. If the loan proceeds are deposited in an ac-
on whether the loan proceeds are used for busi- Under the interest allocation rules, the entire count, you can apply this rule even if the rules
ness, personal, or investment activities. If you $100,000 loan is treated as property held for in- stated earlier under Order of funds spent would
use the proceeds of a loan for more than one vestment for the period from January 4 through otherwise require you to treat the proceeds as
type of expense, you must allocate the interest April 1. From April 2 through September 3, Cel- used for other purposes. If you apply this rule to
based on the use of the loan's proceeds. ina must treat $20,000 of the loan as used in the any payments, disregard those payments (and
Allocate your interest expense to the follow- passive activity and $80,000 of the loan as the proceeds from which they are made) when
ing categories. property held for investment. From September applying the rules stated earlier under Order of
• Nonpassive trade or business activity inter- 4 through December 31, she must treat funds spent.
est. $40,000 of the loan as used for personal purpo- If you received the loan proceeds in cash,
• Passive trade or business activity interest. ses, $20,000 as used in the passive activity, you can treat the payment as made on the date
• Investment interest. and $40,000 as property held for investment. you received the cash instead of the date you
• Portfolio interest. Order of funds spent. Generally, you treat actually made the payment.
• Personal interest. loan proceeds deposited in an account as used Example. Giovanni gets a loan of $1,000
In general, you allocate interest on a loan the (spent) before either of the following amounts. on August 4 and receives the proceeds in cash.
same way you allocate the loan proceeds. You • Any unborrowed amounts held in the same Giovanni deposits $1,500 in an account on Au-
allocate loan proceeds by tracing disburse- account. gust 8 and on August 18 writes a check on the
ments to specific uses. • Any amounts deposited after these loan account for a passive activity expense. Also,
The easiest way to trace disburse- proceeds. Giovanni deposits his paycheck, deposits other
TIP ments to specific uses is to keep the Example. On January 9, Olena opened a loan proceeds, and pays his bills during the
same period. Regardless of these other trans-
proceeds of a particular loan separate checking account, depositing $500 of the pro-
from any other funds. ceeds of Loan A and $1,000 of unborrowed actions, Giovanni can treat $1,000 of the de-
posit he made on August 8 as being paid on Au-
funds. The following table shows the transac- gust 4 from the loan proceeds. In addition,
Secured loan. The allocation of loan proceeds tions in her account during the tax year. Giovanni can treat the passive activity expense
and the related interest is generally not affected he paid on August 18 as made from the $1,000
by the use of property that secures the loan. Date Transaction loan proceeds treated as deposited in the ac-
Example. Marge and Jeff secure a loan January 9 $500 proceeds of Loan A and count.
with property used in their business. They use $1,000 unborrowed funds Optional method for determining date of
deposited
the loan proceeds to buy an automobile for per- reallocation. You can use the following
sonal use. Jeff and Marge must allocate interest January 14 $500 proceeds of Loan B method to determine the date loan proceeds
expense on the loan to personal use (purchase deposited are reallocated to another use. You can treat all
of the automobile) even though the loan is se- February 19 $800 used for personal purposes payments from loan proceeds in the account
cured by business property. February 27 $700 used for passive activity during any month as taking place on the later of
P.L. 115-97, section 11043, limited the June 19 $1,000 proceeds of Loan C the following dates.
• The first day of that month.
! deduction for mortgage interest paid on deposited • The date the loan proceeds are deposited
CAUTION home equity loans and line of credit. November 20 $800 used for an investment in the account.
For more information, see Pub. 936.
December 18 $600 used for personal purposes However, you can use this optional method only
Allocation period. The period for which a loan Olena treats the $800 used for personal pur- if you treat all payments from the account dur-
ing the same calendar month in the same way.
is allocated to a particular use begins on the poses as made from the $500 proceeds of Loan
date the proceeds are used and ends on the A and $300 of the proceeds of Loan B. She Interest on a segregated account. If you
earlier of the following dates. treats the $700 used for a passive activity as have an account that contains only loan pro-
• The date the loan is repaid. made from the remaining $200 proceeds of ceeds and interest earned on the account, you
• The date the loan is reallocated to another Loan B and $500 of unborrowed funds. She can treat any payment from that account as be-
use. treats the $800 used for an investment as made ing made first from the interest. When the inter-
entirely from the proceeds of Loan C. She treats est earned is used up, any remaining payments
Proceeds not disbursed to borrower. Even the $600 used for personal purposes as made are from loan proceeds.
if the lender disburses the loan proceeds to a from the remaining $200 proceeds of Loan C
third party, the allocation of the loan is still and $400 of unborrowed funds. Example. You borrowed $20,000 and used
based on your use of the funds. This applies For the periods during which loan proceeds the proceeds of this loan to open a new savings
whether you pay for property, services, or any- are held in the account, Olena treats them as account. When the account had earned interest
thing else by incurring a loan, or you take prop- property held for investment. of $867, you withdrew $20,000 for personal pur-
erty subject to a debt. poses. You can treat the withdrawal as coming
Payments from checking accounts. first from the interest earned on the account,
Proceeds deposited in borrower's account. Generally, you treat a payment from a checking $867, and then from the loan proceeds,
Treat loan proceeds deposited in an account as or similar account as made at the time the $19,133 ($20,000 − $867). All the interest
property held for investment. It does not matter check is written if you mail or deliver it to the charged on the loan from the time it was depos-
whether the account pays interest. Any interest payee within a reasonable period after you write ited in the account until the time of the with-
you pay on the loan is investment interest ex- it. You can treat checks written on the same day drawal is investment interest expense. The in-
pense. If you withdraw the proceeds of the loan, as written in any order. terest charged on the part of the proceeds used
you must reallocate the loan based on the use for personal purposes ($19,133) from the time
of the funds.
Page 14 Chapter 4 Interest