Recently a New York State Tax Appeal Tribunal upheld an administrative law judge’s ruling on a 2009 tax case regarding a unique interpretation of what constitutes a “permanent residence.” The decision was based on the fact that, though the home was occupied only a few weeks a year by the owners, it could have been lived in all year round. Simple enough, except that the owner lived and worked in another state and had not been complying with the New York state income tax regulations. Simple but a real game changer.

The basics of the case are as follows: A Connecticut couple bought a second home for vacation use on Long Island for approximately $260,000.00 some years ago. During their ownership they complied with all tax laws regarding mortgage interest and property tax deductions based upon their minimal personal use.  New York state income tax had been assessed only on the husband’s income earned while working in New York.

With this new ruling, the couple has been found to have been in non-compliance with the New York State Tax Code, and the state has made an additional demand regarding income earned by both husband and wife outside of NY. This additional tax bill amounts to $1.06 million. New York tax experts say this ruling is a complete departure from how summer second homes have been treated by NY.  It has the potential to raise the tax bill for thousands of second home owners in the city and other vacation home areas in the state.

Last week’s analytic report numbering visits to the Spencer Hughes website showed gains in the number of inquiries from Connecticut, Massachusetts and New Jersey residents. Small surprise to me, for I expect an increase of inquiries to New Hampshire, which has no state income tax, should this interpretation be applied to out-of-state second home owners in the Catskills, Finger Lakes, Adirondacks and Thousand Islands areas. And the possibility of other cash-strapped states adopting the NY ruling is also very real. This would certainly provide support for second home property values in our state.
Jim Ferriman    Jferriman@spencerhughes.com     603-267-9866 & 603-520-5385

Can a vacation 2nd home qualify for a 1031 tax deferred exchange? The answer is an unequivocal “maybe.” Clear enough? There certainly are established tax breaks that can make a vacation home more affordable, and use of this knowledge is how tax specialists earn their daily bread. I strongly suggest you meet with one for the latest IRS rulings and to maximize your benefits.

One very basic rule is to document the length of time per year that you and your family members spend at your vacation home, and whether it is held for personal use and enjoyment or for investment purposes. This, along with any rental income you may derive from it, will determine how the property is treated for tax purposes.  The three basic categories for review are: Use a lot/Rent a lot; Use a little/Rent a lot; and Use a lot/Rent a little.

What qualifies for a 1031 exchange?

It is accepted that a 2nd property that is used fewer than 14 days per year by the owner and rented out the rest of the year, is considered to be an investment property and qualifies for a 1031 exchange. Furthermore, raw land with no improvements and held solely for appreciation purposes qualifies for a 1031 exchange. Again, this at times may seem like a somewhat moving target, and discussion with your tax advisor would be my advice.

If your 2nd home is used exclusively for family vacations, the interest on a mortgage would be deductible just as interest on your first home is treated. And as important, local property taxes may be deducted on your second home. If your 2nd home is for seasonal use only, and you rent it out for 14 days or less in a calendar year, you can receive rent without claiming it on your income tax return. You can also still claim the same deductions in that the IRS considers it to be a vacation home.

Some formerly seasonal homes, bought many years earlier, and then later used as the principal residences of  newly retired owners following improvements, may qualify for the up to $500,000 tax free profit upon its sale after 2 years of primary use. However, federal legislation has been adjusting this break recently to apply tax to a pro-ration of the total years of 2nd home ownership to that of primary residence.

Confused? It is daunting at times, but 2nd home ownership reality is made more possible for many by navigating through the existing rules and regulations – and for, by and large, very enjoyable results.
Jim Ferriman

According to a National Association of Realtors (NAR) statistic the combined total of second home sales in 2005 accounted for 4 out of every 10 real estate transactions. The NAR determined that these second home buyers bought 41% of the time for vacation purposes, 31% for use as a family retreat and 28% to diversify their investments.

Now, why would anyone at the end of 2009 care about statistical data from 2005? We can assert that the underlying motivations for the buyers haven’t changed. Mortgage interest rates remain attractive, the stock market is still uncertain, the geo-political scene is roughly the same and congress is no more or less united on any clear objective.

From a realtor’s standpoint home values appeared to have reached a short term peak during the summer of 2006 and since then the difference between the listing and closing price of the average residence has widened, in short the market has shifted to the buyer’s advantage.

The basic axiom of real estate is and has always been that of location. This certainly holds firmly for the second home buyer. The appeal of the area, the activity options available, the quality of life, the distance from the primary residence, the services present and the general interest in the area are key to the second home buyer.

What does the Lakes Region offer in amenities to the second home buyer? The local chamber of commerce of Wolfeboro, Meredith, Gilford, Tuftonboro, Alton and Moultonborough would be happy to recount the outstanding features of the Lake Winnipesaukee area for you and I suggest that you take the time to review all the information available. The key to a happy and successful second home investment is the research effort and continued discussion involving the whole family.

What brought me to the area was water. The Western part of the country is drying up at the same time it is filling up. Water experts have for a number of years warned that the net result for the inevitable water restrictions on land west of the 100th meridian line may well be calamitous for the large population centers. I believe them. And as someone once said, “good waterfront acreage is becoming scarcer and scarcer”.

Well, deer season starts in a week. Most of the Lakes Region fall into the J1 and J2 hunting sections, among the most productive in the state. Time to put away the golf clubs, stow the boat and clean the rifle. Another compelling reason for the New Hampshire second home buyer to consider property in the Lakes Region.

Regards,

Jim Ferriman      Jferriman@spencerhughes.com     603-520-5385