There are many tax breaks in the U.S. that favor the wealthy. For example, the ability to pay lower tax rates on long-term capital gains disproportionately benefits the rich -- in fact, 70% of the tax savings provided by this went to households with incomes above $1 million. However, with a little creativity, some of the items that wealthy Americans can successfully write off are simply outrageous.
I recently had a conversation with Dave DuVal, VP of Customer Advocacy at TaxAudit.com, and he shared three particularly interesting and ridiculous tax breaks of the 1%.
Deductions for a million-dollar yacht
Technically, expenses related to a yacht aren't normally deductible -- a yacht, or any boat for that matter, is usually considered a leisure item.
However, because of the IRS' definition of a home, certain individuals have successfully written off the interest they pay on their yacht's loan. According to DuVal, in order to be considered a home, there must be a kitchen, bedroom, and a bathroom, which yachts often have.
The IRS allows taxpayers who itemize to deduct mortgage insurance on a first and second home, on up to $1 million in total mortgage debt. In other words, if a wealthy individual owns their primary residence free and clear, and has a $1 million loan on a yacht, he or she could potentially deduct all of the interest they pay on that debt.
Additionally, the IRS allows property taxes to be deducted on all homes, not just first and second. Alternatively, if the yacht is run as a business -- that is, if it's rented out most of the time -- it won't qualify as a second home, but can get a bunch of business-related tax breaks instead.
One crazy "medical" deduction
Have you ever dreamed of adding a top-of-the-line swimming pool to your home? What if you could write off some of the cost while you're at it?
DuVal mentioned several cases of homeowners adding swimming pools -- some of which were quite expensive -- to their homes and writing them off as a medical expense. How? A physician wrote a note that said a water-based exercise regimen would provide specific medical benefits.
In this case, a deduction would only be allowed for the amount the pool's cost exceeds the added value to the home. For example, if the pool cost $100,000 and increased the home's market value by $60,000, this could potentially result in a $40,000 medical deduction.
Now, keep in mind that deductions for medical expenses are only allowed if they exceed 10% of adjusted gross income for taxpayers under age 65, so for the 1% to use this deduction, we'd have to be talking about a pretty expensive pool. Still, there are pools that cost well into the millions of dollars, so this definitely has the potential to be quite a lucrative deduction.
Better than the tuition deduction
If you go back to school, there are several deductions and credits you may be able to qualify for. For example, the American Opportunity Credit provides up to $2,500 per year for the first four years of college, and the tuition and fees deduction allows taxpayers to deduct up to $4,000 in qualified expenses. However, some people have gotten a little more creative.
DuVal shared the story of one person who went back to school and obtained an MBA at an approximate cost of $100,000 -- and proceeded to deduct the entire amount as a business expense.
Admittedly, this is a gray area, and some criteria need to be met for this to qualify. For example, to consider education a business expense, the course(s) needs to help maintain or improve your job skills, and the purpose of the education cannot be to qualify you for a new trade or business. However, if the purpose of your MBA simply enhances your current skills in your current job, it's possible to make this deduction work, no matter how high the amount is.
The list goes on...
This is by no means an exhaustive list of the over-the-top tax breaks wealthy Americans have claimed. For example, I read a story about one individual who regularly hosted client meetings at his home, so he deducted the cost of landscaping his property as a home office expense. The point is that as long as so much of the U.S. tax code is somewhat open to interpretation, "creative" tax deductions like these will always be around.