Money Management Q&As

Piling one tax break on top of a second

Q. In 2003, I moved out of the house I owned and lived in for many years, but I rented it instead of selling it. I've taken depreciation on the house since then, which reduced my cost basis to $220,000. Now I've signed a contract to exchange it next month for another rental property worth $500,000. Will I have to pay any tax on my $280,000 gain this year?

A. No. You're entitled to exclude $250,000 from the sale, because the home was your main residence for at least two of the five years before the date of sale or exchange. You can defer tax on the remaining $30,000 until you sell the property you receive in exchange, since the trade involves two pieces of investment real estate.

Q. My husband and I are divorcing, and I worry that the IRS might impose back taxes in connection with previously filed joint returns. Should I insist on a clause in the settlement agreement making him responsible for them?

A. It's a good idea, but you could still be liable for any amounts owed if the IRS can't collect from him. In that case, the IRS would relieve you of liability only under limited circumstances-for instance, if you show you had no reason to know of your ex-husband's errors or misrepresentations or if payment would cause you significant economic hardship. IRS Publication 971 gives full details.

What to look for in a car warranty

Q. I found your article on evaluating extended appliance warranties very helpful (in the Jan. 21, 2005 issue, available at http://www.memag.com). What's your advice on buying an extended car warranty?

A. Resist the dealer's pressure to sell you one at the time of purchase. Because the purchase warranty protects you for a substantial period, you have time to shop around for price and adequate coverage. You want a policy that includes your expensive accessories, like computer-operated systems, and covers both mechanical breakdowns and wear and tear. Look for one that doesn't exclude collateral damage-for example, engine damage due to a faulty thermostat. Check if you have a choice of repair shops and whether the warranty company pays the bill or reimburses you for the charges.

Higher limits on health savings plans

Q. An employee with a health savings account (HSA) under our practice's high-deductible plan will turn 55 this year. How would that affect her HSA contribution limit?

A. It can go up as much as $200. The 2005 limit for participants under age 55 is $5,250 if they have family coverage with a policy deductible of at least that amount (or $2,650 for self-only coverage with a deductible of $2,650 or more). Participants who were 55 or older at the start of the year can contribute an extra $600 for 2005. This "catch-up" increase is prorated for those becoming 55 during the year-i.e., 4/12 of $600 for someone with a birthday in September.

Basic HSA contributions can't exceed policy deductibles, which must be a minimum of $2,000 for family coverage or $1,000 for self-only coverage. If your employee's policy had a $2,200 deductible, say, the basic contribution limit would be $2,200, but the $200 catch-up would still apply, raising the 2005 total to $2,400.