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Deduct Your Investment Interest

     Have you borrowed money to buy property that you hold for investment? If so, you may be able to deduct the interest you pay as an expense on your tax return. This type of interest in considered investment interest. It does not include any qualified home mortgage interest or any interest taken into account in computing income or loss from a passive activity. Interest you incurred to produce tax-exempt income is not deductible.

Investment Property. Property that produces interest, dividends, annuities, or royalties not derived in the ordinary course of a trade or business is considered property held for investment. Property held for investment also includes property that produces gain or loss (not derived in the ordinary course of a trade or business) from the sale or trade of property producing these types of income or held for investment. An interest in a trade or business activity in which you did not materially participate (other than a passive activity) is also considered investment property.

Allocation of Interest Expense. If you pay interest on debt that was incurred for business or personal purposes as well as for investment, you must allocate the debt among those purposes. The only part that you can deduct as investment interest is the interest on the part of the debt used for investment purposes.

Limit on Deduction. Your deduction for investment interest expense is generally limited to the amount of your net investment income. If there is a portion that you could not deduct because of this limit, you can carry that amount over. The carried over amount is treated as investment interest paid or accrued in that next year. The disallowed investment interest can be carried over to the next tax year even if it is more than your taxable income in the year the interest was paid or accrued.

Net Investment Income. The amount of your net investment income is determined by subtracting your gross income from property held for investment (such as interest, dividends, annuities, and royalties). Investment income excludes Alaska Permanent Fund dividends. You can choose to include or not include qualified dividends or net capital gains.

Choosing to Include Qualified Dividends. Generally, investment income does not include net capital gain from disposing of investment property, although you can choose to include all or part of your net capital gain in investment income. Make this choice by completing Form 4952. If you choose to include any amount of your net capital gain in investment income, you must reduce your net capital gain that is eligible for the lower capital gains tax rates by the same amount.

Investment Income of Child Reported on Parent’s Return. The part of your child’s interest and dividend income that you choose to report on your tax return is included in investment income. You can choose to include or not include as investment income any part of their income that is from qualified dividends. If part of the amount you report is your child’s capital gain distributions, that part generally does not count as investment income although you can choose to include all or parts of it.

Investment Expenses. Your investment expenses are your allowed deductions (other than interest expense) that are directly connected with the production of investment income. Investment expenses that are included as a miscellaneous itemized deduction are allowable deductions after applying the 2% limit.

Losses from Passive Activities. In determining your investment income or investment expenses, do not include income or expenses that you used in computing income or loss from a passive activity.

Form 4952. Generally, use Form 4952, Investment Interest Expense Deduction, to figure your deduction for investment interest. However, if you meet all of the following tests, you do not have to complete Form 4952 and you can deduct all of your investment interest.
Your investment interest expense is not more than your investment income from interest and ordinary dividends minus any qualified dividends
You do not have any other deductible investment expenses
You have no carryover of investment interest expense from 2010

Your tax preparer can provide you with more information regarding the treatment of investment interest on your income tax return. StrataTax, a San Diego consulting and tax services firm, is available year-round to assist you with income tax preparation and tax planning.  Call us at (858) 225-7720 to setup your free initial consultation or visit us at for more information.


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TAX ADVICE DISCLAIMER: Please be advised that in order to ensure StrataTax’s compliance with the rules and standards required by the Internal Revenue Service (IRS), we are informing you that any tax advice contained in this communication, including attachments, is not intended or written to be used for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or promoting, marketing or recommending this transaction or a tax related matter to another party.

Posted on 2012-01-12, By: *

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