August, 2001 FAQs: Sale of Property Received by Gift; Selling ISO stock; Foreign Earned Income Credit Rules; and Placing a Residence in Trust then Selling it.

Copyright © 2001  Robert L. Sommers, all rights reserved.

Question 1:  My parents gifted a parcel of undeveloped land in equal shares to my sister and me in 1993.  We sold the land in 2000 for a gross price of $37,000 and, after costs and fees, netted $34,000.  What is our gain?  

Answer 1:  That depends on the basis of the property when it was gifted to you.  You take the basis that your parents had in the property (a carryover basis) since this was a gift transaction.  For raw land, the basis is usually the purchase price paid by your parents.  Thus, you will pay tax on the gain (the amount you realize from the sale, less your basis in the property).  If, however, you inherited the property, then you would be entitled to use, in general, the fair market value ( a stepped-up basis) at date of the decedent's death as your basis and a later sale of the property for the same amount would not produce a capital gain.  The lesson:  From an income tax standpoint, it is usually advantageous to inherit appreciated property rather than receive it as a gift. 

Question 2:  If I early exercised ISO stock and held it for more than 12 months, would I qualify for long-term capital gains taxation - it has not been 24 months since the grant date?

 Answer 2:  The rules with incentive stock options are that you must not sell or transfer stock acquired through the exercise of an incentive stock option within 2 years from the date the option was granted to you.  Also, you must hold the stock for at least 12 months after exercising the option.  In your case, it could depend on whether you early exercised and made a Sec 83(b) election along with your early exercise (usually the two go together).  If you made a Sec. 83(b), you would receive long-term capital gains or loss treatment on any gains occurring after exercise if you held the stock for more than 12 months after making the Sec 83 (b) election.

Question 3:  As an American living in Switzerland, my CPA informed me about the American tax credit I am entitled to receive, up to $70,000. I do not understand the concept. Would I get a percentage of the $70,000 back?

Answer 3:  No. As a U.S. citizen, you are taxed on your world-wide income.  For U.S. tax purposes, however, you may elect to exclude $74,000 for 1999 and $76,000 for 2000 in earned income when computing your U.S. taxes, if you remain outside the U.S. for at least 330 days during a 12-month period or are considered a bona fide resident of a foreign country.   Earned income includes wages, salaries, professional fees, commissions, bonuses and other types of compensation for personal services actually rendered,  Note: Un-earned income (interest, dividends, rents, capital gains and other forms of profits or distributions from entities) does not qualify for this exclusion. You will still have to pay any taxes the foreign country levies on you.  Check out the IRS Publication dealing with U.S. taxpayers working in a foreign country.

Question 4:  Can a person place a residence in a trust and then have the trust sell it?  Could the trust receive payments for the sale, say over 5 years with a balloon payment, structured in any way the grantor elects?

 Answer 4:  Why would anyone want to do this?  If the trust is irrevocable, then the taxpayer has a gift tax liability on the transfer and the trust cannot use the principal residency exemption upon the later sale.  If the trust is revocable, it will be considered a "grantor" trust.  A grantor trust is essentially ignored for tax purposes and the grantor is considered the taxpayer.  Check out my estate planning class on my website - it has articles for non-attorneys.

 As far as receiving payments over a 5-year period, the owner can structure the sale in such a manner without using a trust.  The owner would pay tax on the payments when he receives them under the installment sales rules.