In: Accounting
Ridge is a generous individual. During the year, he made
interest-free loans to various family members when the Federal
interest rate was 3%. What are the Federal tax consequences of the
following loans by Ridge?
a) On June 30, 2017 Ridge loaned $12,000 to his cousin, Jim, to buy
a used truck. Jim's only source of income was his wages on various
construction jobs during the year.
b) On August 1,2017 Ridge loaned $8,000 to his niece, Sonja. The
loan was meant to enable her to pay her college tuition. Sonja
reported $1,200 interest income from CDs that her parents had given
her.
c) On September 1,2017 Ridge loaned $25,000 to his brother, Al, to
start a business. Al reported only $220 of dividends and interest
for the year.
d) On September 30,2017 Ridge loaned $150,000 to his mother so that
she could enter a nursing home. His mother's only income was $9,000
in Social Security benefits and $500 interest income received.
Solution:-
a. The imputed interest amount for six months is $180 ($12,000 × .03 × .5). However, the imputed interest rules do not apply because the loan was less than $100,000, and Jim does not have any investment income.
b. The imputed interest rules do not apply because this gift loan was for less than $10,000, and it was not used to purchase income producing property.
c. The imputed interest for four months is $250 ($25,000 × .03 × 4/12). Because the amount of the loan exceeds $10,000 and the borrower had net investment income that is less than the imputed interest amount, the imputed interest is limited to an amount equal to Al's net investment income of $220. This amount would be reported as interest income for Ridge and as interest expense for Al. However, since this amount does not exceed $1,000, no interest is imputed.
d. The imputed amount for three months is $1,125 ($150,000 × .03 × 3/12). This amount is reported as interest income by Ridge and as interest expense by his mother. The investment income limitation does not apply to this loan because the loan exceeded $100,000.