Monthly Archives: February 2016

The Land of Wonky Tax Deductions

It’s tax season everyone! This is the time of year where people complain about taxes if they owe any money, or rave about their huge refunds. If they owe, they blast the government and those who run it, and if they get a refund they brag to their friends about their new vacation plans to coworkers since they showed Uncle Sam who is boss! When in reality they were just bad tax planners for the previous year. (Just as a heads up, this post is meant to be tongue-in-cheek and not political by any means)

I read A LOT of articles, blogs, and books about personal finance, financial independence, business, etc. I always love when someone from the FIRE community gets featured in a big financial news outlets, and all the comments that come with it. Sometimes when the general public catches wind of tax loss harvesting, Roth conversion ladders, or ACA subsidies they flip out and claim that people are taking advantage of or gaming “the system” and have some harsh things to say.

By no means am I trying to pick sides or say anyone is in the right or wrong, but this whole issue brought an idea to my head. As most of you know I am an accountant by trade and have done my own personal taxes since I was 15. Through my personal finance and tax reading (I’m an exciting guy) I have run into some pretty wild tax deductions out there. Many of them are allowed for people with six figure incomes as well. So what am I going to do about these wonky tax deductions? Make fun of them of course!

I believe many of these deductions have been around so long that people are so used to taking them, they don’t take a step back and think about how amusing some of them are and ask who they are benefiting. Let’s take a look at some of my favorites below! As a heads up, with regards to a majority of the deductions mentioned below, there are income limit phase outs which limit the use of these deductions as your income goes up, so not everyone can take advantage.

  1. Mortgage interest deduction – This is the probably the most common deduction people are aware of. You are able to reduce your taxable income by the amount of mortgage interest you pay. Some may think that there would be some kind of limit on the amount of interest you can deduct, because certainly you wouldn’t think a person owning a McMansion would be able to deduct all of their mortgage interest. Well you are somewhat correct. You are able to deduct all your mortgage interest on up to ONE MILLION dollars worth of debt. It doesn’t stop there, it’s not only for your primary residence, but also your secondary residence. So you’re able to deduct all the interest related to your $600k primary home mortgage along with the interest related to your $400k mortgage on the lake house. This makes me a sad renter (not).
  2. HELOC interest deduction – If deducting the interest on your primary residence and your lake house isn’t cool enough, you can also reduce your taxable income by the amount of interest you paid on your Porsche that you bought with your home equity line of credit. Have a little equity in your home? Go to the bank and take out a HELOC. You’re able to use this money on anything you want, not just making improvements to your house. So obviously you should use it to buy a Porsche! You’re able to deduct the interest you paid on up to $100 thousand of home equity debt, no matter what you spent the money on.
  3. PMI – So back in 2006, you bought your dream home. The bank was nice and didn’t make you put anything down! One problem with a no-money-down mortgage is that you have to pay private mortgage insurance. Well the government feels bad that you bought a house that you can’t afford, so they let you deduct your private mortgage insurance!
  4. Moving expenses – Live on the East coast and got a new bang up job in in Silicon Valley? Your moving expenses are tax deductible!
  5. Tuition expenses – Your rich parents make too much to take this deduction but they want to pay for your college. They’re allowed to gift you $28 thousand a year, tax-free and then you’re able to deduct $4,000 a year in tuition expenses. That’s $4,000 of your internship money, tax free, plus a free education! Not too shabby!
  6. Loss carryforward – Lost your hat in investing in that solar company that some guy at the bar pitched you? Well there is some light at the end of the tunnel. You’re allowed to deduct up to $3 thousand a year from your income for investment losses. You lost $10 thousand you say? That’s okay you can carry forward the $7 thousand you couldn’t take this year, and carry it into the following years until it is all used up.

Now the next item isn’t related to most individuals but I think is the craziest tax rule out there, so I figured I’d share it with you all:

Carried interest – This by far, in my opinion, is the craziest rule with regard to personal income taxes. Without getting too into the nitty gritty, partners in a hedge funds or private equity funds get compensated based on the performance of their fund. As long as their fund performs well, they get a huge fee that you read about in the news. So when Mr. Hedgefundtitan makes $200 million dollars in a year, since he’s doing such a service to the public, he’s allowed to defer his income and pay capital gains rates on that income which caps out at 20%. If he was you or I earning that money, we’d have to pay 39.6% since we aren’t partners in a hedge fund… womp womp. That’s a savings to Mr. Hedgefundtitan of almost $40 million!

In closing, there are a ton of laws and rules out there that may benefit certain individuals, and sometimes that individual may not be you. Nothing ever is going to completely make sense in terms of who is benefiting or not benefiting, so personally I like to control what I can and brush off the things that are not in my power. Oh and of course I love to poke fun at some tax laws in the process.

Will you be getting a refund or owing this year? Do you love or hate tax season?