Nondeductible Expenses Some expenses that you incur as an investor are not deductible. Stockholders' meetings.You cannot deduct transportation and other expenses that you pay toattend stockholders' meetings of companies in which you have nointerest other than owning stock. This is true even if your purpose inattending is to get information that would be useful in making furtherinvestments. Investment-related seminar.You cannot deduct expenses for attending a convention, seminar, orsimilar meeting for investment purposes. Single-premium life insurance, endowment, and annuitycontracts.You cannot deduct interest on money you borrow to buy or carry asingle-premium life insurance, endowment, or annuity contract. Single premium annuity contract as collateral.If you use a single premium annuity contract as collateral toobtain or continue a mortgage loan, you cannot deduct any interest onthe loan that is collateralized by the annuity contract. Figure theamount of interest expense disallowed by multiplying the currentinterest rate on the mortgage loan by the lesser of the amount of theannuity contract used as collateral or the amount of the loan. Systematic borrowing on insurance.Generally, you cannot deduct interest on money you borrow to buy orcarry a life insurance, endowment, or annuity contract if you plan tosystematically borrow part or all of the increases in the cash valueof the contract. This rule applies to the interest on the total amountborrowed to buy or carry the contract, not just the interest on theborrowed increases in the cash value. Tax-exempt income.You cannot deduct expenses you incur to produce tax-exempt income.Nor can you deduct interest on money you borrow to buy tax-exemptsecurities or shares in a regulated investment company (mutual fund)that distributes only exempt-interest dividends. Short-sale expenses.The rule disallowing a deduction for interest expenses ontax-exempt securities applies to amounts you pay in connection withpersonal property used in a short sale or amounts paid by others forthe use of any collateral in connection with the short sale. However,it does not apply to the expenses you incur if you deposit cash ascollateral for the property used in the short sale and the cash doesnot earn a material return during the period of the sale. Short salesare discussed in chapter 4. Expenses for both tax-exempt and taxable income.You may have expenses that are for both tax-exempt and taxableincome. If you cannot specifically identify what part of the expensesis for each type of income, you can divide the expenses, usingreasonable proportions based on facts and circumstances. You mustattach a statement to your return showing how you divided the expensesand stating that each deduction claimed is not based on tax-exemptincome. One accepted method for dividing expenses is to do it in the sameproportion that each type of income is to the total income. If theexpenses relate in part to capital gains and losses, include thegains, but not the losses, in figuring this proportion. To find thepart of the expenses that is for the tax-exempt income, divide yourtax-exempt income by the total income and multiply your expenses bythe result. Example.You received $6,000 interest; $4,800 was tax-exempt and $1,200 wastaxable. In earning this income, you had $500 of expenses. You cannotspecifically identify the amount of each expense item that is for eachincome item, so you must divide your expenses. 80% ($4,800 tax-exemptinterest divided by $6,000 total interest) of your expenses is for thetax-exempt income. You cannot deduct $400 (80% of $500) of theexpenses. You can deduct $100 (the rest of the expenses) because theyare for the taxable interest. State income taxes.If you itemize your deductions, you can deduct, as taxes, stateincome taxes on interest income that is exempt from federal incometax. But you cannot deduct, as either taxes or investment expenses,state income taxes on other exempt income. Interest expense and carrying charges on straddles.You cannot deduct interest and carrying charges that are allocableto personal property that is part of a straddle. The nondeductibleinterest and carrying charges are added to the basis of the straddleproperty. However, this treatment does not apply if: All the offsetting positions making up the straddle eitherconsist of one or more qualified covered call options and the optionedstock or consist of section 1256 contracts (and the straddle is notpart of a larger straddle), or The straddle is a hedging transaction. For information about straddles, including definitions of theterms used in this discussion, see chapter 4. Interest includes any amount you pay or incur in connection withpersonal property used in a short sale. However, you must first applythe rules discussed in Short Sale Expenses under ShortSales in chapter 4. To determine the interest on market discount bonds and short-termobligations that are part of a straddle, you must first apply therules discussed under Deferral of interest deduction for marketdiscount bonds and Deferral of interest deduction forshort-term obligations (both under Interest Expenses,earlier). Nondeductible amount and basis adjustment. Figure the nondeductible amount of interest and carrying chargesthat must be added to the basis of the straddle property as follows. Add together: Interest on indebtedness incurred or continued to buy orcarry the personal property, and All other amounts (including charges to insure, store, ortransport the personal property) paid or incurred to carry thepersonal property. Subtract from the amount in (1): Interest (including OID) includible in gross income for theyear on the personal property, Any income from the personal property treated as ordinaryincome on the disposition of of short-term government obligations oras ordinary income under the market discount and short-term bondprovisions -- see Discount on Debt Instruments inchapter 1, The dividends includible in gross income for the year fromthe personal property, and Any payment on a loan of the personal property for use in ashort sale that is includible in gross income.