Deducting software expenses

April 1, 2002
Recently, I purchased a new software system for my office at considerable expense.

By Charles Blair, DDS & John McGill, MBA, CPA, JD

Recently, I purchased a new software system for my office at considerable expense. I had included this cost under "office supplies and expense" so that it would be fully deductible, but my accountant says that this is not correct.

Your accountant is right. As a general rule, the cost of purchased software can be written off during a three-year period from the date it is placed in service, according to Section 167(f)(1). However, software that is bundled into the stated price of computer hardware can be treated as hardware costs and can be written off during a single tax year using the Section 179 expensing election ($24,000 in 2002).

I am in the process of doing some estate planning, and my attorney recommended the use of a revocable living trust. He said that I should transfer the title to my personal residence into the trust to avoid probate costs and delays. I am concerned that should I later sell my personal residence, I would not be able to take advantage of the $500,000 gain exclusion that I would enjoy if I retained personal ownership. Is this correct?

No. Under the tax law, you are treated as the owner of any assets held within a revocable living trust. As such, you must include any income generated on such assets transferred into the trust on your individual income tax returns. Furthermore, as long as you have used the home as your personal residence for at least two years, you would be eligible for the $500,000 gain exclusion even if the property is titled in the name of your revocable living trust.

Some time ago, I transferred title to my personal residence out of our joint names and solely into my wife's name for estate planning and asset-protection purposes. I recently heard that I would not be eligible for the $500,000 gain exclusion upon the sale of our home unless the home was titled in both of our names. Is this correct?

No. Under the current tax law, the $500,000 gain is available to any married couple who has used the home as their personal residence for at least two years, regardless of whether the home is titled in the name of one or both spouses.

I practice with two other doctors who are the sole shareholders in our corporation. We currently are planning on buying out the oldest doctor in the group, having the corporation pay a relatively small amount to redeem his stock since this amount is nondeductible, and paying the remaining consideration to him in exchange for his agreement not to compete with us for a five-year period. Since our payments to the retiring doctor for his covenant not-to-compete are being made over a five-year period, and he agrees not to compete with us for a five-year period, can we deduct the payments made over the same time period, or must we use a 15-year write-off period as my accountant suggests?

Follow your accountant's advice. The Tax Court recently held that under Section 197, a 15-year write-off period applies to a covenant not-to-compete entered into when a corporation redeems the stock of one of its owners. Even though payments are made over a five-year period, and the covenant not-to-compete covers a five-year term, the redemption constitutes the acquisition of an interest in a trade or business, so Section 197 applies to require a 15-year write-off. See Frontier Chevrolet Co. vs. Commissioner, 116 TC 23 (5/15/01).

I understand that the amount I can contribute to IRAs for myself and my wife have increased considerably under the new tax law. How much can I put in for future years?

The limit on contributions to IRAs has been increased from $2,000 in 2001 to $3,000 in 2002-2004, $4,000 for 2005-2007, and $5,000 per year thereafter. Beginning in 2008, the $5,000 ceiling will be adjusted annually for inflation. Doctors age 50 and older may contribute an additional $500 in 2002-2005, and an additional $1,000 per year thereafter, as a "catch-up" contribution to their IRA.

Dr. Blair is a nationally known consultant and lecturer, and is a member of the American Academy of Dental Practice Administration. McGill is a tax attorney, CPA, and MBA, and is the editor of the Blair/McGill Advisory, a monthly newsletter helping dentists to maximize profitability, slash taxes, and protect assets. The newsletter ($177 a year) and consulting information are available from Blair/McGill and Company, 2810 Coliseum Centre Drive, Suite 360, Charlotte, NC 28217 or call (704) 424-9780.

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