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Here in Texas we don't have a state income tax; however, my siblings and I recently sold some property in North Carolina that we inherited from our grandfather via our mother. It turns out that in addition to federal capital gains taxes I will also have to file a NC state income tax return. I seem to recall that state income taxes paid can be deducted on the federal income tax return. Is this true and if so is that deduction made during the same tax year?

~ Stillwell
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I seem to recall that state income taxes paid can be deducted on the federal income tax return. Is this true and if so is that deduction made during the same tax year?

Yes, state and local income taxes go on 1040 Schedule A, Line 5. Instructions on what can and cannot be deducted are here:

http://www.irs.gov/pub/irs-pdf/i1040sa.pdf

See page 3. The deduction is taken for the tax year in which the taxes were paid.

however, my siblings and I recently sold some property in North Carolina that we inherited from our grandfather via our mother.

I don't want to create more questions, but you need to be certain that there hasn't been any oversight of step-ups in cost basis for property, Generation Skipping Transfers, split interest, and gifting rules when dealing with this type of transaction.

Bill
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The deduction is taken for the tax year in which the taxes were paid.

So the duction would be made on the 2007 fedral return for the state taxes paid for the 2006 return?

I don't want to create more questions, but you need to be certain that there hasn't been any oversight of step-ups in cost basis for property, Generation Skipping Transfers, split interest, and gifting rules when dealing with this type of transaction.

My grandfather originally bought the property way back when. He passed away in 1969 so my grandmother would have been the sole owner at that time. When she died, half went to my mother and then to us after she passed away. So no gifts were made and no generations were skipped. What we were using as the cost basis was the appraised value listed on my mother's inventory from the probate records filed with the county. Since there are 5 of us I would use (net gains - cost basis)/5 = my cap gains. Is that what you mean by split interest? I'm not sure what a step-up in cost basis would be.

~ Stillwell
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My grandfather originally bought the property way back when. He passed away in 1969 so my grandmother would have been the sole owner at that time. When she died, half went to my mother and then to us after she passed away. So no gifts were made and no generations were skipped. What we were using as the cost basis was the appraised value listed on my mother's inventory from the probate records filed with the county. Since there are 5 of us I would use (net gains - cost basis)/5 = my cap gains. Is that what you mean by split interest? I'm not sure what a step-up in cost basis would be.

It sounds to me like your calculation of the taxable gain is fine.

Back to your Schedule A question, yes the NC tax you pay in 2007 will be deductible on your 2007 Federal return. But.

Since you live in TX you'll use the sales tax deduction on Schedule A for 2006. I'm not sure whether that deduction has been extended through 2007 or not, but if it has, in 2007 you'll need to choose whether you'll deduct state and local income tax, IOW what you pay NC, or sales tax. You can't do both.

Phil
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Since you live in TX you'll use the sales tax deduction on Schedule A for 2006. I'm not sure whether that deduction has been extended through 2007 or not, but if it has, in 2007 you'll need to choose whether you'll deduct state and local income tax, IOW what you pay NC, or sales tax. You can't do both.

Good point. I don't recall if the sales tax deduction is being extended either, but I'm sure the NC taxes are going to be greater.

Thanks,

~ Stillwell
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>> Good point. I don't recall if the sales tax deduction is being extended either, but I'm sure the NC taxes are going to be greater. <<

Yes, it was extended through 2007 a few days ago.

#29
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>> Good point. I don't recall if the sales tax deduction is being extended either, but I'm sure the NC taxes are going to be greater. <<

Yes, it was extended through 2007 a few days ago.


Actually, you're a bit premature. Congress passed the extenders, but they haven't been signed yet by President Bush. There's no reason to think that he won't sign it, but until he does, sales tax is not deductible.

Ira
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<<< >> Good point. I don't recall if the sales tax deduction is being extended either, but I'm sure the NC taxes are going to be greater. <<

Yes, it was extended through 2007 a few days ago.

Actually, you're a bit premature. Congress passed the extenders, but they haven't been signed yet by President Bush. There's no reason to think that he won't sign it, but until he does, sales tax is not deductible.

Ira>>>

Also be aware that IRS has already printed all the tax forms and they don't include the sales tax deduction. It will be, by their estimate, 6 weeks before they get revisions ready. So don't plan on filing early this year. And check www.irs.gov for the latest info. You should also be able to download sales tax tables and revised forms there.

Oh, and if you've already bought a tax prep program like Turbo Tax, you'll have to download a revision to that too when they get it ready.

Taxes are going to be even more fun than usual this year!

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Also be aware that IRS has already printed all the tax forms and they don't include the sales tax deduction. It will be, by their estimate, 6 weeks before they get revisions ready.

They've already announced that they will not revise the forms. They will come out with instructions shortly and plan a publicity blitz so people know what to do. Commercial software programs will be revised, but they have to then be tested and approved, so don't expect those to be ready January 1.

I've already seen people making up instructions, such as "use the 2005 Schedule A," in some forums. Please, folks, wait for the IRS. Something someone gins up might work, but it also might cause a whole lot of processing delays.

It shouldn't be long because this isn't IRS's first time at this rodeo. In my day the OK to print deadline was mid-September, but Congress has made later changes before. I suspect that IRS had everything figured out in advance and is waiting for the bill to be signed.

They also need to make sure that Congress didn't slip something into it that they weren't expecting. There's an article in today's Washington Post about a couple of provisions nobody knew about that sneaked through in the chaotic last days of this Congress.

Phil
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