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Frequently Asked Questions TOP
Frequently Asked QuestionsNOTE: Gift and estate tax questions, see 1 - 4. Sales of a residence or investment property, see questions 5 and 6. Foreign investors and taxpayers, see questions 7-9.
1. Question: My parents gifted me $10,000 in cash. Which is true: (a) My parents must pay gift tax; (b) Neither of us pays gift or income tax; (c) I must pay income tax; (d) I must pay gift tax.
Answer: (b) Neither party pays gift or income tax on this transfer. Generally, annual gifts to an individual aggregating $10,000 or less in value are excluded from gift taxes. Husbands and wives are permitted to make annual gifts of $20,000 per year, per donee.
2 Question: My parents receive stock dividends of $10,000 per year. Which statement is correct: (a) They may avoid income taxes by gifting the dividends to me; (b) They may avoid gift taxes by gifting the stock in trust for 5 years, naming me as beneficiary; (c) They must pay income tax on the dividends, but will avoid gift taxes if they transfer the dividends to me.
Answer: (c). (a) is wrong because your parents cannot avoid income taxes by transferring to you income they would have received. If they gifted their actual stock, then future dividends would be taxed to you. Note: gifts can be made by any person to any person, not just relatives. (b) is also incorrect. Gifts of a future interest, such as a gift in trust, do not qualify for the annual gift tax exclusion. Note: married U.S. taxpayers may make unlimited gifts between themselves, but gifts to a non-resident alien spouse are limited to a total of $100,000 per year.
3. Question: My parents give me stock worth $10,000. Their basis (the amount paid) for the stock was $1,000. Which is true: (a) My parents must pay gift tax; (b) I must pay gift tax; (c) If I sell the stock for $10,000, my gain will be $9,000 and I must pay income taxes; (d) If the stock is sold for $10,000, my gain will be zero and I will not owe tax; or (e) Neither of us pays gift or income tax.
Answer: (c) You receive a carryover basis of $1,000 in the stock (the donor’s basis becomes yours). A later sale at $10,000 produces a taxable capital gain of $9,000 to you. You also add the donor’s holding period to your own. For instance, if your parents owned the stock for 12 months, then you owned it for seven months, your holding period would total 19 months, qualifying you for the lower capital gains rate (usually 20%, but 10% if you are in the 15% tax bracket).
4. Question: When father died in 2000, I inherited his entire estate (a $100,000 bank account). Which is true: (a) My father’s estate must pay estate tax; (b) I must pay estate tax; (c) Neither of us pays estate or income tax; (d) I must pay income tax on the $100,000.
Answer: (c). An estate, not its beneficiaries, is primarily liable for estate taxes. In this case, since your father’s estate is below $675,000 (the unified gift and estate tax credit equivalent for 2000), his estate will not owe federal taxes. California does not separately tax an estate.
5. Question: If I sell my principal residence, may in exclude the gain if I purchase a replacement residence for the same or higher price?
Answer: No. The previous IRC Section 1034 rules involving the purchase
of a replacement residence and the once-in-a-lifetime exclusion of $125,000 for those over
age 55 have been repealed. Under the new law, you may exclude up to $250,000 of your
capital gain provided you have owned and lived in your residence an aggregate of at least
2 of 5 years prior to sale (the "ownership" and "use" test). You may
tack on ownership and use of a prior residence, as long as you rolled over the gain from
the sale of your prior residence to your current residence under prior law (IRC Section
1034). The new exclusion applies to one home sale per two-year period.
Married couples filing jointly may exclude up to $500,000 in gain, provided: (1) either
spouse owned the residence; (2)
both spouses meet the use test; and (3) and neither spouse has sold a residence within the
last two years.
If a married couple each owns and occupies a separate residence and files jointly, each
may exclude up to $250,000 in gain.
Also, if it is a new marriage and one spouse sold a residence within 2 years before the
marriage, the other spouse may
exclude up to $250,000 in gain on a residence owned prior to the marriage.
Note: If your gain is higher than the exlcusion, you will pay tax on the excess gain.
6. Question: We are considering selling our investment real estate for a considerable profit. Is it possible to sell it without paying tax on the gain?
Answer: No. In your situation, consider using the tax-free exchange rules
under tax code Section 1031, which permit the owner to acquire replacement real property
(which must be held for investment), without paying tax on the transaction. Section 1031,
however, merely defers the payment of tax until the replacement property (or properties if
a series of exchanges occurs) is eventually sold. However, any cash you receive,
including a net reduction on the debt you owe (or other other non-like-kind property) is
taxable.
You must use caution to complete the exchange in accordance with Section 1031; you cannot
actually or constructively
receive your proceeds, then purchase another property. Usually professional guidance is
needed to navigate through these
rules.
7. Question: A father, a non-resident alien (the donor), gifts to his U.S. resident daughter $1,000,000 in funds from his foreign bank account. Does either father or daughter owe tax on this transfer?
Answer: No, neither party owes taxes on a transfer from a foreign bank account by a Non-resident alien to a U.S. taxpayer, although because the gift exceeds $100,000, the recipient must report the gift. However, if the father made the gift on condition that she purchase real estate, then the money would be considered a taxable gift of U.S. real estate. The moral: Foreign donors should make unconditional gifts of cash.
8. Question: I am a student on an F-1 visa and have lived in
the U.S. since 1998. Last year, I made $50,000 in short-term capital gains by day trading
in stocks. Will I pay U.S. taxes on these gains?
Answer: No. Foreigners entering the U.S. temporarily on an F-visa, an M-visa,
or as a student on a J-visa or a Q-visa are not considered residents in this country for
U.S. tax purposes. Therefore, you are not taxed on your long-term or short-term capital
gains from the sale of stock and securities. Likewise, you cannot deduct any capital
losses. Note: The sale of U.S. real property always is taxable, whether or not the
seller is a non-resident foreigner or student. Foreign students should file Form 8843 to
claim this non-residency exemption. All non-resident foreigners, including students,
should provide their brokers with Form W-8 (Certificate of Foreign Status) to avoid having
their trades reported to IRS.
9. Question: As a non-U.S. resident or citizen
interested in purchasing U.S. stocks via the Internet or through a U.S. broker, how will I
be taxed?
Answer: Non-U.S. residents and citizen investors, in general, do not pay U.S.
taxes and cannot deduct losses on stock sales. Dividends, interest and royalties, however,
are usually taxed at a flat 30%, enforced through withholding by the company making the
payment to you, unless a lower treaty rate applies.
Remember, stock in a U.S. corporation is subject to estate taxes and as a foreigner your
estate-tax exemption is limited to $60,000. Therefore, if you die owning U.S. stock worth
more than $60,000, you could owe estate taxes. Generally, ownership of U.S. stocks through
a foreign corporation will eliminate this potential tax trap.