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Potential AMT trap for owners of yachts.

Unwary yacht owners may find they owe alternative minimum tax (AMT) if they treat the boat as a second residence. Subject to limitations, interest paid on a loan used for the purpose of acquiring a second residence is normally deductible for income tax purposes (Sec. 163(h)(3)(a) and (4)(A)(i)(II)). However, interest paid on a yacht loan used as a second home is not deductible for AMT purposes. Sec. 56(e) limits the definition of qualified dwelling to a house, apartment, condominium or mobile home not used on a transient basis.

In order for interest paid for a loan on a second home to be deductible for the AMT calculation, the loan must be used for the purpose of acquiring, constructing or improving a "qualified dwelling," as defined by Sec. 56(e); this definition does not include yachts. Hence, interest paid on a yacht used as a second home is not deductible for the AMT calculation.

A taxpayer with a large loan on his yacht can easily have a large AMT problem. The unfortunate effect is that the taxpayer may derive little or no benefit from the interest paid on the boat. One solution is to use the boat as a principal residence, in which case the interest would be deductible for AMT (subject to the other home mortgage limitations). Another solution is for the taxpayer to either (1) refinance his house mortgage or (2) get a home equity loan and use the proceeds to pay down the loan on the boat.

If the yacht can qualify as a principal residence (within the meaning of Sec. 1034), the interest paid for the boat should be deductible for the AMT.

Regs. Sec. 1.1034-1(c)(3) provides that the determination of principal residence is based on facts and circumstances, including the good faith of the taxpayer.

In Thomas, 92 TC 206 (1989), the court examined a split occupancy situation and determined that a taxpayer's house qualified as a principal residence even though the taxpayer did not spend a majority of his time there. However, in Rev. Rul. 77-298, the IRS concluded that when the taxpayer (a congressman) alternated between two homes, the home that he occupied a majority of the time was ordinarily considered his principal residence.

The predominant factors appear to be a combination of intent and actual residency. Prudent tax planning should involve the collection of documentation to support the boat as a principal residence. Such documentation can include such items as utility and telephone bills, mail (to evidence where the taxpayer receives his mail), a ship's log, voting registration and the address shown on a driver's license.
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Title Annotation:alternative minimum tax
Author:Bernheim, Irving B.
Publication:The Tax Adviser
Article Type:Brief Article
Date:Feb 1, 1993
Previous Article:Income tax planning for trust and estate distributions.
Next Article:Management services are taxable.

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