US Tax benefits for having a boat in charter

[jmschmidt]

Not so fast buckaroo. The tax laws have all changed, there was a period after the great recession when you could basically deduct the cost of a business boat but no more. But that deduction still had to comply with what I say below.
If you own the boat (title in your name) and manage it yourself (good luck) and spend at least documented 750hrs a year doing so, you generally can consider it as an active income or loss producer. But if you have it owned in a pass-through entity like a corporation or LLC and you aren't the full-time operator/manager, it is considered a passive activity. This means any bottom-line profits are fully taxable to you personally each year but any passive activity losses are carried forward until you terminate the activity, i.e. sell the boat.
That's right passive activity gains are fully taxed to you every year but passive-activity losses must be carried forward to the end of the activity.
And then, and only then, do you get to offset your personal income with the accumulated losses, if any. But, at that point you also have to recapture all that depreciation that gave rise to those passive losses carried forward and pay tax on them at a higher rate than long-term capital gains.
When you sell the boat, if there is any profit left in the venture at that point you get to pay taxes on that at long-term capital gain rates.
Most of us are only doing this to get our two-weeks use of the boat per year (Oh, sorry, almost forgot that part, yep, just like your mountain cabin, two-weeks a year personal use, that's all you get, more than that your management company is supposed to 1099 you for the value of your personal use. Foreign (BVI) manager usually don’t do that so it is a case of “do you feel lucky today punk, well do ya.”
Like they say, "If it were easy lawyers would do it." No, they just bill you for their time when you’ve screwed it all up.
Not so in the 1950-60, then it was the Wild West and that's how a lot of people got rich on real estate.

[Montanan]

Originally Posted by Hoosierdoc

What I saw was 50% of purchase price year 1, with a bonus 50% of the remaining balance year 1 also. I saw that as 75%, though I'm not sure. I saw my half-share basis as around $121k in year 2, so only $12,100 depreciated that year.

Tax savings year 2-5 went down to about $1300 in my estimate, as there should be about $6k in "income", the difference between mortgage and charter revenue. the tax savings used to be about $5k until I saw the bonus depreciation year one, that front-loaded it a bit more and reduced future depreciation amounts.

I guess you can play with it depending on how much AGI you have to offset

Note that your payments for interest on your boat mortgage should be deductible against the income provided from the charter. But the principal payments made on your loan will not be deductible. Presently, the cost of money is modest, say 4% on a boat loan, so your interest deduction will be modest. The income from your charter will not be sheltered in subsequent years if you are allowed to accelerate the depreciation to the first year. You will likely have significant marginal tax obligations in years when you don't have major depreciation deductions. Again assumes the boat is predominately used for charter in the USA so as to be allowed qualification for USA tax deductibility.

Don't confuse income and cashflow, nor confuse taxable income and true income. They are very distinct values and timing of recognition.

I recommend that you prepare a spreadsheet analysis with your complete projection from inception to end of vessel ownership and then share that with a taxation specialist that is knowledgeable about these kind of business structures, along with the key assumptions upon which projection of cashflow and taxable events are based [and / or this CruisersForum, if you wish]. If your vessel is to be chartered in foreign waters then you should seek guidance from specialist of those nations, not just an American taxation specialist as you will open yourself up to foreign taxation exposure by doing business in such country, [note that chartering your boat is doing business where ever that boat goes].

The USA governments [Federal and State] are not in the business of providing tax incentives for investing in overseas boat charter businesses. There are comparatively rather few sailboat charter fleets based in the USA, many, many more charters in the Caribbean and Mediterranean and tropical locations. I am not up to speed on how Federal taxation applies to the US territories, e.g, Puerto Rico and USVI, but each of those has their own taxation jurisdiction to attend. [And I suppose if POTUS Trump gets his way, perhaps Greenland. ] But one could make arrangements for chartering your sailboat say in Chicago, which is called the Windy City, so should have fair breezes for sailing on their Great Lake; albeit might be a bit frosty during winter which would temper the demand for bookings of the boat but make such off-peak period thence available for your personal use / i.e., owner charter time; you mentioned two weeks per year, perhaps during the Holy Days around Hanukkah and Christmas and New Years. With northern climates I suspect the charter income is reduced due to seasonality, although there is similarly the hurricane/typhoon/cyclone season to contend with in the tropics which likely put off charterer demand. When I look at sailboats for charter on the East Coast their individual vessel booking calendars typically have mostly availability with rather few days / weeks of reservations booked, so the income potential must be kind of limited. But heck it probably pays for some of the expenses of ownership. Similar to say, vacation rental properties and AirBnB of lake front property here on Flathead Lake; prime properties for family gatherings are in keen demand during the awesome summer period here in the Last Best Place, but never seen a rental property come with the use of any of the owners boat(s), exception being SUPs and kayaks. Most, if not all, property owners wouldn't trust a stranger to operate their boats in fear of damage and injuries and liability.

[Montanan]

The charter boat scheme is so very much like investing in timeshare properties in Florida. Beware of their hard sale, as it could become a hard sail.

If the two weeks on your beat up / shared property [boat] is of value to you then hey have at it.

Reminds me of the song by Rush - Something for Nothing with its subtle nautical theme.

Lyrics

Waiting for the winds of change
To sweep the clouds away
Waiting for the rainbow's end
To cast its gold your way
Countless ways
You pass the days

Waiting for someone to call
And turn your world around
Looking for an answer to
The questions you have found
Looking for
An open door

Oh you don't get something for nothing
You don't get freedom for free
You won't get wise
With the sleep still in your eyes
No matter what your dreams might be

No you don't get something for nothing
You can't have freedom for free
You won't get wise
With the sleep still in your eyes
No matter what your dream might be

What you own is your own kingdom
What you do is your own glory
What you love is your own power
What you live is your own story

In your head is the answer
Let it guide you along
Let your heart be the anchor
And the beat of your song

Oh you don't get something for nothing
You can't have freedom for free, no
Whoa you don't get something for nothing
You can't have freedom for free

https://www.youtube.com/watch?v=pMAJmJCG2tI

[NPCampbell]

Originally Posted by jmschmidt

If you own the boat (title in your name) and manage it yourself (good luck) and spend at least documented 750hrs a year doing so, you generally can consider it as an active income or loss producer.

For 2018 it is 500+ hours
OR
100+ hours a year AND spend more time involved than any other single person

The second test is considerably easier to achieve.



Publication 925 (2018), Passive Activity and At-Risk Rules

A trade or business activity isn’t a passive activity if you materially participated in the activity.

Material participation tests. You materially participated in a trade or business activity for a tax year if you satisfy any of the following tests.
You participated in the activity for more than 500 hours.
Your participation was substantially all the participation in the activity of all individuals for the tax year, including the participation of individuals who didn’t own any interest in the activity.
You participated in the activity for more than 100 hours during the tax year, and you participated at least as much as any other individual (including individuals who didn’t own any interest in the activity) for the year.
The activity is a significant participation activity, and you participated in all significant participation activities for more than 500 hours. A significant participation activity is any trade or business activity in which you participated for more than 100 hours during the year and in which you didn’t materially participate under any of the material participation tests, other than this test. See Significant Participation Passive Activities , under Recharacterization of Passive Income, later.
You materially participated in the activity (other than by meeting this fifth test) for any 5 (whether or not consecutive) of the 10 immediately preceding tax years.
The activity is a personal service activity in which you materially participated for any 3 (whether or not consecutive) preceding tax years. An activity is a personal service activity if it involves the performance of personal services in the fields of health (including veterinary services), law, engineering, architecture, accounting, actuarial science, performing arts, consulting, or any other trade or business in which capital isn’t a material income-producing factor.
Based on all the facts and circumstances, you participated in the activity on a regular, continuous, and substantial basis during the year.

[Montanan]

Originally Posted by NPCampbell

For 2018 it is 500+ hours
OR
100+ hours a year AND spend more time involved than any other single person

The second test is considerably easier to achieve.



Publication 925 (2018), Passive Activity and At-Risk Rules

A trade or business activity isn’t a passive activity if you materially participated in the activity.

Material participation tests. You materially participated in a trade or business activity for a tax year if you satisfy any of the following tests.
You participated in the activity for more than 500 hours.
Your participation was substantially all the participation in the activity of all individuals for the tax year, including the participation of individuals who didn’t own any interest in the activity.
You participated in the activity for more than 100 hours during the tax year, and you participated at least as much as any other individual (including individuals who didn’t own any interest in the activity) for the year.
The activity is a significant participation activity, and you participated in all significant participation activities for more than 500 hours. A significant participation activity is any trade or business activity in which you participated for more than 100 hours during the year and in which you didn’t materially participate under any of the material participation tests, other than this test. See Significant Participation Passive Activities , under Recharacterization of Passive Income, later.
You materially participated in the activity (other than by meeting this fifth test) for any 5 (whether or not consecutive) of the 10 immediately preceding tax years.
The activity is a personal service activity in which you materially participated for any 3 (whether or not consecutive) preceding tax years. An activity is a personal service activity if it involves the performance of personal services in the fields of health (including veterinary services), law, engineering, architecture, accounting, actuarial science, performing arts, consulting, or any other trade or business in which capital isn’t a material income-producing factor.
Based on all the facts and circumstances, you participated in the activity on a regular, continuous, and substantial basis during the year.

What is Material Participation Tests
Material participation tests of §459 of the Internal Revenue Code (IRC) evaluate whether a taxpayer has materially participated in a trade, business, rental or other income-producing activity. Passive activity rules limit the deductibility of losses when a taxpayer’s participation fails to meet at least one of the seven material participation tests.


BREAKING DOWN Material Participation Tests
Material participation in an income-producing activity is, generally speaking, an activity that is regular, continuous and substantial. Income-producing actions, in which the taxpayer materially participates is an active income or loss. An active loss is deductible but subject to at-risk rules or other limitations imposed by the Internal Revenue Code (IRC).


Passive activity rules apply to participation that fails to meet one of the material participation tests. Passive participation in an income-producing venture is participation that is not regular, continuous and substantial. Income producing actions, in which the taxpayer passively participates is passive income and loss. Passive activity rules limit the deductibility of any passive loss.

The Seven Material Participation Tests
For any tax year, a taxpayer, or their spouse, qualifies as materially participating in a venture if they satisfy any one of the seven material participation tests.

Test 1: participation for more than 500 hours.
Test 2: activity that constituted all participation substantially.
Test 3: involvement for more than 100 hours and not less than the participation of any other individual.
Test 4: which is a significant participation activity, combined with all significant participation activities, for more than 500 hours. A significant participation activity is a business in which the taxpayer participates, without qualifying for any of the other six tests, for more than 100 hours.
Test 5: participation during any five (5) of the preceding ten (10) taxable years.
Test 6. which is a personal service activity, for any three (3) prior taxable years. Personal service activities are activities in which capital is not a material income-producing factor such as health, law, engineering, architecture, accounting, actuarial science, performing arts, or consulting.
Test 7. partaking for more than 100 hours and based on all of facts and circumstances, on a regular, continuous, and substantial basis.

Limitations on Material Participation
Not all time spent in certain activities will count toward the 100-hour or 500-hour thresholds of Tests 1, 3, 4 or 7.

Time spent as an investor will not count unless they can show direct involvement in the day to day management of the activity. Taxpayers who do work, not customarily done by an owner, is not counted towards material participation hours, nor is time spent commuting. Work undertaken for the primary purpose of avoiding the disallowance of losses under the passive loss rule is not material participation. And finally, participation in a purely managerial activity where other managers receive no compensation cannot be counted.

The participation of limited partners in enterprises owned by them is passive participation unless they pass material participation tests one, five or six. When a taxpayer participates in two enterprises operated through the same pass-through entity, at least one of the seven tests for each venture must be met to be considered to have materially participated in both activities.

Documenting Material Participation
Taxpayers with an ownership interest in a venture receive participation credit for work done for it. By identifying the hours spent and the nature of work done, a taxpayer establishes their participation. A taxpayer bases participation on records they maintain such as appointment books, calendars, narrative summaries, or any other reasonable means.

For further information see the "Material Participation" section at pages 5 to 6 of Internal Revenue Service (IRS) Publication 925.

[Montanan]

If the vessel in charter is based in foreign waters, i.e., not in the USA and thus not qualifying for USA depreciation, I am unsure but there is the added prospect that the charter investment and its income might fall under:

A Passive Foreign Investment Company
or
Foreign personal holding company income (FPHCI)

which would increases the complexity considerably.

Devil is in the myriad of details. So definitely not a 1040EZ.

[NPCampbell]

Originally Posted by Montanan

If the vessel in charter is based in foreign waters, i.e., not in the USA and thus not qualifying for USA depreciation, I am unsure but there is the added prospect that the charter investment and its income might fall under:

A Passive Foreign Investment Company
or
Foreign personal holding company income (FPHCI)

which would increases the complexity considerably.

Devil is in the myriad of details. So definitely not a 1040EZ.

I've been diving into this as this could change my opinion of chartering.

I'm assuming you are saying that you can't depreciate a vessel in foreign waters due to this clause in pub 946:

Publication 946 (2018), How To Depreciate Property
• Section 179 Deduction • Special Depreciation Allowance • MACRS • Listed Property
Excepted Property
Even if the requirements explained earlier under What Property Qualifies are met, you cannot elect the section 179 deduction for the following property.

• Property used predominantly outside the United States, except property described in section 168(g)(4) of the Internal Revenue Code.
• Property used by governmental units or foreign persons or entities, except property used under a lease with a term of less than 6 months.

However, if you read section 168(g)(4) referred to above it appears it is allowed:

26 U.S. Code § 168. Accelerated cost recovery system
(g) Alternative depreciation system for certain property
(4) Exception for certain property used outside United StatesSubparagraph (A) of paragraph (1) shall not apply to—(C) any vessel documented under the laws of the United States which is operated in the foreign or domestic commerce of the United States;

[Montanan]

Originally Posted by NPCampbell

I've been diving into this as this could change my opinion of chartering.

I'm assuming you are saying that you can't depreciate a vessel in foreign waters due to this clause in pub 946:


However, if you read section 168(g)(4) referred to above it appears it is allowed:

I would read that exception to involve the the United States’ Merchant Fleet used in foreign and domestic commerce. Just another way of subsidizing our Merchant Mariners so as to offset the three times higher cost of the operation of American ships and crews versus open flag registered ship fleets. There being many methods that the Federal government subsidizes what is left of our country's merchant fleet. About two percent of the volume of USA commerce shipping is handled by the US Merchant fleet. It has been a while since I was kept knowledgeable about our Maritime Administration subsidy programs and interlinks. The US Merchant Fleet was once mighty but now is tiny about 180 vessels, less than 0.5% of ships worldwide; in 1960 the US merchant fleet accounted for about 17% of the number of ships worldwide. Without the massive subsidies and cargo mandates there would be no US merchant fleet.

The Maritime Administration manages the programs enacted and funded by Congress to support the U.S. foreign trade fleet. Three major program areas included in the administration are, the Maritime Security Program [MSP], Voluntary Intermodal Sealift Agreement Program [VISA], and Cargo Preference, are interlocking mechanisms to sustain a fleet aligned with military sealift requirements, Government-financed export cargoes, and commercial cargo. I suppose one should add the IRS tax incentives to the list of continuing subsidization of our merchant fleet.

Think about the Tax Policy basis, there is fundamentally valid national security reasons to subsidize a US flag cargo fleet, but there is no valid reason to subsidize recreational charter boats operating in the caribbean or mediterranean. There is no link to the USA economy involving yachts operated outside of USA waters. Heck if they let such scheme be allowed, one would also purchase beach front condos in the tropics and rent them out and take accelerate depreciation against your USA taxable income which of course is ridiculous to even conceive. Sorry to say, a yacht on Lake Como in Switzerland is not going to be allowable for USA tax depreciation. But be sure such business in the foreign waters will be taxable by the local jurisdiction in which they occur, greatly complicating a USA person's tax reporting and tax obligations and invoking foreign source income to the USA taxation, in addition to the foreign country taxation.

[Montanan]

In further recognition of the lack of time value of money, do note that interest rates are beginning to head NEGATIVE. When interest rates go negative you get paid by your lender to borrow their money. We are living in a topsy turvy world. Now boat loans haven't gone negative yet, but think about that if it does happen.

FYI.

"What if I said I wanted to borrow $100 from you and pay you back $99 five years later? Would you do it?

Hell no!

And yet this is exactly what’s happening right now in the banking systems of Japan, Germany, France, and other European countries.

Negative interest rates — where the lender gets paid back less than they’ve loaned — now add up to 30%, (and counting), of the global tradable bond universe, according to JPMorgan (JPM). You may have seen for instance that Germany just sold the first negative yielding 30-year bond issue.

In case you’re wondering, yes, this is crazy.

“It’s really unusual and really distorting the global financial system,” says Torsten Slok, chief economist at Deutsche Bank Securities (DB). “I spend all my time talking about it.”

"Yes, the U.S. ten year Treasury yields 1.59%, not close to 0%, but negative rates seem to be creeping ever closer. For instance, negative interest rates haven’t come to U.S. corporate debt, but Euro-denominated bonds issued by the likes of blue-chips Apple (AAPL), McDonald’s (MCD), and Pepsi (PEP) carry negative yields.

And in Europe, it was postulated that negative rates would never fly in the consumer sphere in terms of banks paying back depositors less than they put in their savings accounts, but that’s now changing. Banks in Denmark and Switzerland are now charging customers to hold deposits. And on the flip side, and also in Denmark, mortgages with negative rates are available. That’s right, you get a mortgage from the bank, and the bank essentially pays you each month. A three-year adjustable rate mortgage priced at negative .28% there recently.

“Helt vildt,” as the Danes might say. Translation: “Totally nuts.”

https://www.yahoo.com/finance/news/n...150324580.html

[Happ]

Take whatever tax information the charter company is providing you and take it to a CPA. Your personal situation is unique to you. Only a CPA knowing your personal situation can advise you.

[Karlt]

I am not a CPA but I researched this and did this last year. Under the tax law that was passed last year, you can purchase a boat and place it in a business such as a charter company, and deduct 50% of the cost of the boat the first year and then it is an accelerated deprecation over 7 years.

Yes you can deduct it from your personal income if you actively manage it as a business. The difference is "active" versus "passive" management. You have to keep a log of active management of 100 hours per year. If it is passive then the deduction is limited to the business income.

In addition to depreciation, I deduct equipment costs for the boat and travel expenses to go to the boat to perform maintenance.

[sailingharry]

The huge downside of depreciating an asset is selling it. You buy a $500K boat, you depreciate it 100% (and take $500K in writeoffs over several years) and then sell it for $400K -- and get $400K in income for that single year. Many of us would write off at lower tax rates than we would pay on the income. Or, you don't depreciate it at all (of course, you can't do that), and when you sell it you get a single $100K write off -- a much better financial situation!

[bstreep]

Without reading this, there was just an article in Cruising World about this subject. They said that the chances of surviving an audit was about 50/50.

[belizesailor]

Originally Posted by bstreep

Without reading this, there was just an article in Cruising World about this subject. They said that the chances of surviving an audit was about 50/50.

Havent read the article, but this is quite a common practice. If its set up and run properly its not an issue. Could be that only about 50% actually set this up and operate it properly. Ive been around the charter industry for over 20 years and owned boats in charter. If someone is trying to pretend their private use boat is in charter service...then they've got a potential problem that wont pass an audit...and its surprising how many try that. That may also then key other regulatory issues for them depending on venue. Ive also been audited while taking depreciation on a boat, it was not the issue that prompted the audit, nor was it an issue during the audit (nor was anything else as it turned out...IRS end up cutting me a check).

Note however, that all my experiences were under prior years tax laws.

[01kiwijohn]

Originally Posted by sailing_gal

No, the 2017 tax cut did not make this possible. What it did do was take away any deductions if the activity was considered a hobby and not a business. If you use your boat personally at all, the IRS will most likely disallow any losses related to a charter "business". You should go to the IRS website at www.irs.gov and type in the search box "hobby vs business" and read the entire publication that the IRS has regarding the difference between a hobby and a business.

And watch the dates of the items you are reading. Anything printed prior to 2018 about how to deduct hobby expenses is obsolete right now, because they are no longer deductible.

The Hobby vs Business determination has always been the determining issue.