Barry & Howard
pbs tax & bookkeeping service
It takes tough economic times like these to discover so-called hidden costs because we are so attuned to figuring out where every dollar goes.
When a trucker gets rid of his truck because he is becoming a company driver, going out of business, retiring, changing professions entirely, had a repossession or filed bankruptcy, he or she could owe a large tax bill.
How can this be? Let’s review a truck purchase transaction.
As an example, you buy a truck for $100,000. You set it up for three years’ depreciation. You put $20,000 down and borrow $80,000 against the truck to be paid over five years. Let’s assume you have the truck for four years, which means you have taken a full $100,000 depreciation. Let’s also assume you owe $25,000 on your loan at the end of four years.
You decide you will no longer be an owner-operator and sell the truck to become a company driver. If you sell the truck for $30,000 and you owe $25,000, your net check is $5,000. However, you have to pay income taxes on the gain on the sale of the truck.
“What do you mean a gain on the sale of the truck?” says the owner-operator. “I bought the truck for $100,000 and sold it for $30,000. I feel I lost $70,000 not to mention the $20,000 down payment and the $60,000 I paid against the loan plus all the interest.”
Unfortunately, this is true. According to the tax law, there is a gain as follows: truck cost $100,000, depreciation $100,000. So, according to the Internal Revenue Service, you have an adjusted cost basis of zero — your cost less your depreciation taken. Therefore, whatever you sell the truck for is a gain since you’ve had the benefit of writing off your depreciation. In this case, you sold the truck for $30,000 and you have an adjusted cost basis of zero. Therefore, you will show a $30,000 gain on your income tax return.
The balance due on your loan has no bearing in computing gain or loss in the eyes of the IRS. That was just how the truck was financed. As far as the IRS is concerned, you could have paid cash for the truck; therefore, if you sold it for $30,000 and had an adjusted cost basis of zero before taxes, you had a $30,000 taxable gain, same as before. However, you walked away with $30,000 in cash since you are not paying off any loan.
The taxes on the $30,000 gain can amount to anywhere between $4,000 to $8,000 or even $10,000, depending on your tax bracket.
Even if you file bankruptcy or have your equipment repossessed, there could be a taxable gain to report to the extent of what you paid for the equipment less the depreciation taken compared with the market value of the equipment at the time of the repossession or bankruptcy.
Also, there may be a problem of loan forgiveness, which could be taxable.
It’s still risky to ask the IRS for advice. During the March and April 2003 tax-filing season, auditors from the Treasury posing as taxpayers went to IRS taxpayer assistance centers to ask questions about the tax law.
IRS personnel answered only 72 percent of the questions correctly, answered 25 percent incorrectly, and suggested that the taxpayers do their own research or referred them to someone else in the rest of the cases.
The fact you relied upon bad advice received from the IRS will not relieve you of any resulting tax liability.
Frequently asked question
If my wife and I take a home mortgage out from our parents instead of a bank, do we have to report the interest we pay to the IRS?
The interest does not have to be reported by your parents on a Form 1098 as commercial lenders must do, however, the interest must be reported as income on their income tax return. By the same token, you do not have to report the interest on a 1099, but remember the interest is deductible by you only if it meets mortgage interest requirements, one of which is that the debt must be secured by the home.
This article has been presented by PBS Tax & Bookkeeping Service, a company that has been providing income tax and bookkeeping services to the trucking industry for more than a quarter century. Contributions to this article were made by Shasta May, director of business development for PBS. If you would like further information, please contact us at 1-800-697-5153. Visit our Web site at www.pbstax.com.
“Everyone’s financial situation is different. This article does not give and is not intended to give specific accounting and/or tax advice. Please consult with your own tax or accounting professional.”