Above-the-Line Deductions and Losses Flashcards
A taxpayer who materially participates in rental real estate activities in the current year may offset some losses and credits from the activity against nonpassive income (salary, self-employment earnings, etc.) provided that the taxpayer performs more than 50% of his or her personal services for the year in real property trades or businesses in which (s)he materially participates and the number of service hours performed in those real property trades or businesses in which (s)he materially participates is more than A. 750 B. 1,000 C. 500 D. 450
750
Answer (A) is correct.
After December 31, 1993, the losses from rental real estate activities may offset nonpassive income if the taxpayer meets two requirements: (1) More than 50% of personal services performed during the year are performed in the real property trades or businesses in which (s)he materially participates, and (2) the taxpayer performs more than 750 hours of service in the real property trades or businesses in which (s)he materially participates [Publication 925 and Sec. 469(c)(7)(B)].
Ms. Seabreeze had the following during the current year: Alimony received (post-2018 divorce) $ 6,000 Wages 14,000 Net loss from self-employment (10,000) Interest income 5,000 For the purpose of an IRA, Ms. Seabreeze had compensation for the current year of A. $6,000 B. $4,000 C. $14,000 D. $19,000
$14,000 Answer (C) is correct. Section 219(f) defines compensation as earned income. Wages are the most common example of earned income. Alimony from a post-2018 divorce is not taxable to the recipient and therefore is not included as compensation for this purpose. There is no provision for reducing earned income by net losses from self-employment. Interest income is not earned income. Therefore, for the purpose of an IRA, Ms. Seabreeze had compensation of Wages $14,000 Total compensation $14,000
Larry and Marge Strong are married and living together. They have decided to file joint federal income tax returns for 2019. Larry is an active participant in his employer’s pension plan. Marge is not an active participant in any plan. Each contributed $6,000 to an individual retirement account (IRA) on February 1, 2020. Larry’s adjusted gross income is $100,000 and Marge’s is $98,000. The deductible portion of Marge’s contribution to her IRA is A. $0 B. $1,200 C. $6,000 D. $3,000
$3,000
Answer (D) is correct.
The Taxpayer Relief Act of 1997 revised the limits for deductions for active plan participants. Since Larry is an active plan participant, and his income exceeds the phaseout range provided in Sec. 219(g)(8) for active plan participants, he is not allowed a deduction. However, since Marge is not an active plan participant (in 1998 and later years), she may deduct her contribution as long as she does not exceed the AGI limits in Sec. 219(g)(7). When one spouse is not an active plan participant, the IRA phaseout occurs when the couple’s AGI is between $193,000 and $203,000. Since the combined AGI of Larry and Marge equals $198,000, the phaseout limit applies. A shortcut method of calculating the reduced dollar limit is to subtract the AGI from the initial amount at which the deduction is limited to zero ($203,000 in this case) and multiply the difference by 0.6. Accordingly, the deduction is limited to $3,000 [($203,000 – $198,000) × 0.6].
If the shortcut calculation of the reduced dollar limit produces a result that is not a multiple of $10, it is rounded to the next highest multiple of $10. However, if the result is less than $200 but more than zero, the reduced limit is $200.
Maria received $40,000 in wages, and her husband Scott had a net gain of $8,500 on a passive partnership interest. Scott also had a $35,000 loss from a rental real estate activity in which he actively participated. How much of the rental loss can they deduct on their current-year joint income tax return? A. $25,000 B. $35,000 C. $0 D. $33,500
$33,500
Answer (D) is correct.
All rental activity is passive. However, a person who actively participates in rental real estate is allowed to deduct up to $25,000 of losses from the passive activity from other than passive income (Publication 925). Since Scott is deemed to actively participate in the rental real estate activity, he may offset the $8,500 of passive income with the passive loss and deduct an additional $25,000 of his wife’s active income, for a total of $33,500 ($8,500 + $25,000).
Caitlin served as a kindergarten aide for 1,000 hours. She incurred $350 in expenses for books and supplies used in the classroom and was not reimbursed by the school. What amount is Caitlin entitled to as the educator’s expense deduction on her income tax return? A. $175 B. $350 C. $250 D. $0
$250
Answer (C) is correct.
Primary and secondary school educators may claim an above-the-line deduction for up to $250 annually in unreimbursed expenses paid or incurred for books and supplies used in the classroom. An eligible educator is an individual who, for at least 900 hours during a school year, is a kindergarten through grade 12 teacher, instructor, counselor, principal, or aide (Publication 553). Therefore, Caitlin may deduct $250 as an educator’s expense.
James (33) and his wife Erica (31) established a Health Savings Account (in conjunction with a high-deductible health plan) on February 1, 2019. The annual health plan deductible is $10,000. What is the maximum amount that can be contributed to the Health Savings Account? A. $7,000 B. $10,000 C. $8,000 D. $6,417
$7,000
Answer (A) is correct.
For family coverage, the taxpayer or his or her employer can contribute up to the amount of the annual health plan deductible, but not more than $7,000 for 2019. Under the last-month rule, a taxpayer is eligible for the entire year if the taxpayer is eligible on the first day of the last month of the year (Publication 969).
In 2019, Rusty paid $5,000 of interest on a qualified education loan. Rusty is not claimed as a dependent by another taxpayer. What is the maximum deduction available to him for the education loan interest? A. $2,000 B. $5,000 C. $2,500 D. $0
$2,500
Answer (C) is correct.
Individuals are allowed to deduct interest paid during the tax year on any qualified education loan. The maximum amount that may be deducted is $2,500.
Under which condition may a taxpayer claim the student loan interest deduction?
A. The student loan is from a related person.
B. The taxpayer is legally obligated to pay interest on a qualified student loan.
C. The taxpayer’s filing status is married filing separately.
D. Someone is claiming an exemption for the taxpayer on his or her tax return.
The taxpayer is legally obligated to pay interest on a qualified student loan.
Answer (B) is correct.
According to Publication 17, a taxpayer may claim the student loan interest deduction if all four of the following requirements are met:
Filing status is any filing status except married filing separately.
No one else is claiming an exemption for the taxpayer on his or her tax return.
The taxpayer is legally obligated to pay interest on a qualified student loan.
The taxpayer paid interest on a qualified student loan.
Which of the following is NOT a payment deductible as alimony for pre-2019 divorces?
A. Payments for child support required by the divorce decree.
B. Payments for medical expenses of your spouse under the terms of the divorce decree.
C. Half of the mortgage payment on a home jointly owned with your ex-spouse when required by the divorce decree.
D. Payments for life insurance premiums required by the divorce decree.
Payments for child support required by the divorce decree.
Answer (A) is correct.
For pre-2019 divorces, alimony and separate maintenance payments are gross income to the recipient and deductible by the payor. The following are the requirements for qualified alimony payments.
The payment must be made in cash or equivalent.
Payment must be received on behalf of a spouse under a divorce or separation agreement.
Payee spouse and payor spouse must not be members of the same household at the time of payments.
The payor spouse is not liable for any payments after the death of the payee spouse.
The spouses must not file joint returns with each other.
In addition, child support payments and any part of an alimony payment designated as child support are not deductible. Since child support payments are not deductible to the payor, these payments are not considered alimony (Publication 17).
Archer MSA contributions are subject to an annual limitation, which is
A. A percentage of the required “high deductible” health plan amount.
B. Only the income earned from the business in the case of a self-employed individual.
C. Only the compensation earned from the employer or the income earned from the business in the case of the self-employed.
D. Only the compensation earned from the employer.
A percentage of the required “high deductible” health plan amount.
Answer (A) is correct.
Participation in an Archer MSA is conditioned upon coverage under a high-deductible plan [Sec. 220(c)(2)]. Contributions are subject to an annual limitation, which is a percentage of the deductible of the required high-deductible health plan. For individual coverage, the annual limit is 65% of the deductible. For family coverage, the annual limit is 75% of the deductible. If one spouse has family coverage, both spouses fall under the 75% limit and must split the amount between themselves. No deduction is allowed if an individual received excludable employer contributions (Publication 969).
Which of the following would be considered passive activity income?
A. State, local, and foreign income tax refunds.
B. Personal service income.
C. Alaska Permanent Funds dividends.
D. None of the answers are correct.
None of the answers are correct.
Answer (D) is correct.
There are two kinds of passive activities: (1) trade or business activities in which the taxpayer does not materially participate and (2) rental activities, unless the taxpayer is a real estate professional (Publication 925).
Which of the following items might be considered alimony for a divorce executed prior to 2019?
A. Payments made for the 12-month period after the death of the recipient spouse.
B. Premium paid under a divorce or separation agreement for insurance to the extent that the other spouse owns the policy.
C. Child support payments.
D. Noncash payments.
Premium paid under a divorce or separation agreement for insurance to the extent that the other spouse owns the policy.
Answer (B) is correct.
For divorces executed prior to 2019, Sec. 215 allows a deduction for alimony or separate maintenance payment as defined under Sec. 71. For divorces executed prior to 2019, Sec. 71(b) defines alimony as any payment in cash if (1) it is received under a divorce or separation instrument, (2) the instrument does not designate the payment as not includible in gross income, (3) the payee spouse and payor spouse are not members of the same household at the time the payment is made, and (4) there is no liability to make such payment for any period after the death of the payee spouse. Premiums paid under a divorce or separation agreement for insurance to the extent that the other spouse owns the policy may be considered alimony if the other conditions are met (Publication 17).
Joe divorced Renee in 2018. During the current year, per the divorce decree, Joe made the following payments to Renee:
The entire mortgage payment on house jointly owned
$9,600
Tuition for their child
2,800
Child support
6,000
Life insurance premiums on policy owned by Renee
5,400
What is the amount Joe can deduct as alimony on his tax return?
A. $5,400
B. $11,400
C. $10,200
D. $8,200
$10,200
Answer (C) is correct.
For a pre-2019 divorce, Sec. 215 allows a deduction for alimony or separate maintenance payments as defined under Sec. 71. For a pre-2019 divorce, Sec. 71(b) defines alimony as any payment in cash if (1) it is received under a divorce or separation instrument, (2) the instrument does not designate the payment as not includible in gross income, (3) the payee spouse and payor spouse are not members of the same household at the time the payment is made, and (4) there is no liability to make such payment for any period after the death of the payee spouse. The mortgage payment attributable to Renee’s ownership, or $4,800 ($9,600 payment × 50%), is deductible as alimony. The life insurance premium payment is deductible as well (Publication 17). Therefore, the total alimony deduction is $10,200 ($4,800 mortgage payment + $5,400 life insurance premiums).
Rick and Stacy were divorced in February of the current year. Requirements of the divorce decree and Stacy’s performance follow:
Transfer title to their residence to Rick. Stacy’s basis was $95,000, the fair market value was $105,000, and the residence was subject to a mortgage of $90,000.
Make the mortgage payments of $1,000 per month (beginning in March) for the remaining 20 years or until Rick dies, if sooner.
Pay Rick $500 per month (beginning in March) for 6 years or until Rick dies, if sooner. Of this amount, $200 is designated as child support.
Stacy’s current-year alimony deduction is
A. $15,000
B. $0
C. $18,000
D. $3,000
$0
Answer (B) is correct.
For divorces executed after 2018, alimony is nondeductible to the payor and not included in the gross income of the recipient.
In the current year, Heidi, a self-employed individual, had net profits from her Schedule C business of $125,000. Besides her Schedule C deductions, Heidi took an $8,831 deduction for her Social Security taxes, and her deduction for self-employed health insurance was $650. Heidi also realized a $30,000 loss from her rental real estate activity in which she actively participated. What is Heidi’s deductible rental real estate loss for the current year? A. $12,825 B. $25,000 C. $12,500 D. $12,175
$12,825
Answer (A) is correct.
The $25,000 allowance of losses from active participation in rental real estate activities against nonpassive income is reduced by 50% of the amount by which adjusted gross income (determined without regard to Social Security benefits, IRA contributions, and passive losses) exceeds $100,000 [Sec. 469(i)(3)]. The health insurance, however, must be subtracted from her net profits, for a total of $124,350 ($125,000 net profits – $650 health insurance). Heidi’s adjusted gross income exceeds $100,000 by $24,350. Therefore, the $25,000 allowance is reduced by $12,175 ($24,350 × 50%). This leaves $12,825 of losses ($25,000 allowance – $12,175 reduction) that can be deducted (Publication 925).
When funds from an Archer MSA are distributed for qualified medical expenses, these funds are
A. Generally included in the income of the taxpayer.
B. Generally excluded from the income of the taxpayer.
C. Allocated between contributions made by the employer and the employee, and only the amount attributed to the contributions of the employee are included in income of the taxpayer.
D. Always included in the income of the taxpayer.
Generally excluded from the income of the taxpayer.
Answer (B) is correct.
Distributions for qualified medical expenses incurred for the benefit of the individual, a spouse, or dependents are generally excluded from income. Qualified medical expenses usually are unreimbursed expenses that would be eligible for the medical expenses deduction (Publication 17).
Mrs. Domino made deductible contributions to traditional individual retirement accounts for several years. Mrs. Domino decides to withdraw $10,000 from one of her accounts in 2019. Mrs. Domino is 61 years old. How does this transaction affect Mrs. Domino’s tax return for 2019?
A. Mrs. Domino does not have to report anything because she is older than 59 1/2 years.
B. Mrs. Domino does not have to report any amount because this was not withdrawn from a Roth IRA.
C. Mrs. Domino must report all of the distribution received but can elect to use the 10-year option.
D. Mrs. Domino must report the entire amount of $10,000.
Mrs. Domino must report the entire amount of $10,000.
Answer (D) is correct.
Traditional IRA contributions are made before-tax. Distributions made from a traditional IRA before the age of 59 1/2 years are subject to federal income tax and a 10% penalty tax. Distributions from a traditional IRA after the age of 59 1/2 years are subject to federal income tax only and must be reported. Mrs. Domino must report the distribution from her traditional IRA (Publication 17).
Julie and Frank were married on March 10. Both are full-time third-grade teachers, and they equally incurred a total of $350 in expenses for books and supplies used in the classroom and were not reimbursed by the school. What amount are they entitled to deduct as an education expense on their joint income tax return? A. $175 B. $350 C. $500 D. $250
$350
Answer (B) is correct.
Primary and secondary school educators may claim a $250 deduction for AGI annually in unreimbursed expenses paid or incurred for books and supplies used in the classroom. For MFJ taxpayers, the deduction limit is doubled ($500) but no more than $250 each. The deduction may not exceed actual expenses of $350.
Who is eligible for an Archer MSA in 2019?
A. All individuals who elected coverage in a high-deductible health plan and are only employed by a small employer with no more than 50 workers when the Archer MSA is established.
B. All individuals who elected coverage in a high-deductible health plan.
C. A maximum of only 750,000 individuals who have elected coverage in a high-deductible health plan and are either self-employed or employed by a small employer with no more than 50 workers when the Archer MSA is established (Publication 969).
D. A maximum of 750,000 individuals who have elected coverage in a high-deductible health plan and are only self-employed.
A maximum of only 750,000 individuals who have elected coverage in a high-deductible health plan and are either self-employed or employed by a small employer with no more than 50 workers when the Archer MSA is established (Publication 969).
Answer (C) is correct.
The Health Insurance Act of 1996 limited the availability of MSAs during the pilot period (1997-2000) to 750,000 individuals who buy a high-deductible health insurance plan and are either self-employed or employed by a small employer. The law defines a small employer as one with no more than 50 workers. The Archer MSA Program is still limited to 750,000 people (Publication 969).
Bonnie received $30,000 in wages, and her husband Clyde had a net loss of $2,500 on his Schedule C (the loss was not a hobby loss under the tax code). Clyde materially participated in his Schedule C activity. They had dividend income of $1,500. Clyde also had a $20,000 loss from a rental real estate activity in which he actively participated. How much of the rental loss can they deduct on their current-year joint income tax return? A. $10,000 B. $20,000 C. $0 D. $2,500
$20,000
Answer (B) is correct.
Since Clyde is deemed to actively participate in the rental real estate activity, he avoids the passive activity limitation rules. Thus, they may deduct the entire amount of the loss (up to $25,000) from the rental real estate activity (Publication 527).
Mr. K paid $500 a month for 3 months to his estranged wife while they were negotiating a written separation agreement. Mr. K filed a separate return for the current year. An agreement reached June 1 of the current year required Mr. K to pay $300 a month as alimony. Mr. K made payments of $2,100 for the period June 1 to December 31 of the current year. What is Mr. K’s correct alimony deduction for the current year? A. $3,000 B. $3,600 C. $0 D. $900
$0
Answer (C) is correct.
For divorces executed after 2018, alimony is nondeductible to the payor and not included in the gross income of the recipient.
Todd and Susan divorced on September 1, 2019. As part of the divorce decree, beginning in September, Todd was to make payments of $2,000 a month for the balance of the year to Susan’s doctor for recent medical expenses, child support payments of $500 per month, and $1,500 a month for the mortgage payment on a jointly owned home. Susan and the children will continue to live in the home. What is the amount that Todd can deduct as alimony for 2019? A. $9,600 B. $4,200 C. $16,000 D. $0
$0
Answer (D) is correct.
For post-2018 divorces, alimony is nondeductible to the payor and not included in the gross income of the recipient.
Sol and Julia Crane are married and filed a joint return for 2019. Sol earned a salary of $125,000 in 2019 from his job at Troy Corporation, where he is covered by his employer’s pension plan. In addition, Sol and Julia earned interest of $5,000 in 2019 on their joint savings account. Julia is not employed, and the couple had no other income. On January 15, 2020, Sol contributed $6,000 to an IRA for himself and $6,000 to an IRA for his spouse. The allowable IRA deduction in the Cranes’ 2019 joint return is A. $12,000 B. $6,000 C. $11,000 D. $0
$6,000
Answer (B) is correct.
Contributions may be made to an individual retirement account and deducted even if an employee is covered by an employer’s plan. The Taxpayer Relief Act of 1997 revised the limits for deductions for active plan participants. Since Sol is an active plan participant, and his income exceeds the phaseout range ($103,000 – $123,000) provided in Sec. 219(g)(8) for active plan participants, he is not allowed a deduction. However, since Julia is not an active plan participant (in 1998 and later years), she may deduct her contribution, as long as she does not exceed the AGI limits in Sec. 219(g)(7). The IRA phaseout rules do not apply to Julia since, when one spouse is not an active plan participant, the IRA phaseout does not occur until the couple’s AGI is between $193,000 and $203,000, which is not the case in this problem.
With regard to the passive loss rules involving rental real estate activities, which one of the following statements is true?
A. The passive activity rules do not apply to taxpayers whose adjusted gross income is $300,000 or less.
B. The term “passive activity” loss limitations does not apply to a rental real estate activity when the individual performs more than 50% of his or her personal services during the year in real property trades or businesses in which (s)he materially participates and at least 750 hours of service are performed in those real property trades or businesses in which (s)he materially participates.
C. Gross investment income from interest and dividends not derived in the ordinary course of a trade or business is treated as passive activity income that can be offset by passive rental activity losses when the “active participation” requirement is not met.
D. Passive rental activity losses may be deducted only against passive income, but passive rental activity credits may be used against taxes attributable to nonpassive activities.
The term “passive activity” loss limitations does not apply to a rental real estate activity when the individual performs more than 50% of his or her personal services during the year in real property trades or businesses in which (s)he materially participates and at least 750 hours of service are performed in those real property trades or businesses in which (s)he materially participates.
Answer (B) is correct.
Passive activities generally include any activity involving the conduct of a trade or business or the production of income in which the taxpayer does not materially participate (Sec. 469). However, an individual may avoid passive activity limitation treatment on a rental real estate activity if two requirements are met: (1) more than 50% of the individual’s personal services performed during the year are performed in the real property trades or businesses in which the individual materially participates, and (2) the individual performs more than 750 hours of service in the real property trades or businesses in which the individual materially participates. If 50% or less of the personal services performed are in real property trades or businesses, the individual will be subject to the passive activity limitation rules (Publication 925).
Which of the following is a true statement concerning losses from passive activities?
A. Losses from one passive activity may offset income from another passive activity.
B. Losses from each passive activity are not deductible, regardless of income earned in other passive activities.
C. The losses may offset passive income, such as interest and dividends, but not business income or earned income.
D. The rules apply to losses but not credits.
Losses from one passive activity may offset income from another passive activity.
Answer (A) is correct.
In general, losses from passive activities may not offset nonpassive income such as salary, interest, dividends, or active business income (Sec. 469). However, deductions from one passive activity may offset income from the same passive activity, and losses from one passive activity may generally offset income from another passive activity (Publication 925).
Rebecca graduated from college in 2018. She refinanced her qualified education loans in 2019 with another loan. She is not claimed as a dependent by another taxpayer. What is the maximum deduction available to her for the $3,000 paid for education loan interest in 2019? A. $3,000 B. $0 C. $2,500 D. $1,500
$2,500
Answer (C) is correct.
Individuals are allowed to deduct interest paid during the tax year on any qualified education loan. The maximum deduction for 2019 is $2,500. A qualified education loan also encompasses debt used to refinance the qualified education loan. Note, however, that if a homeowner obtains a home equity loan to refinance the qualified education debt, the homeowner may not utilize both the mortgage interest deduction and the education loan interest deduction (Publication 17).
All of the following are true about Health Savings Accounts EXCEPT
A. The amount that may be contributed to a taxpayer’s Health Savings Account does not depend on the nature of the taxpayer’s coverage and age.
B. The taxpayer need not have the insurance for the whole year to contribute the full amount.
C. A Health Savings Account can be a custodial account set up with a U.S. financial institution.
D. A Health Savings Account can be a tax-exempt trust.
The amount that may be contributed to a taxpayer’s Health Savings Account does not depend on the nature of the taxpayer’s coverage and age.
Answer (A) is correct.
The amount that may be contributed to a taxpayer’s Health Savings Account depends on the nature of the taxpayer’s coverage and age. A Health Savings Account is a tax-exempt trust or custodial account set up with a U.S. financial institution in which money can be saved exclusively for future medical expenses. The taxpayer is no longer required to have the insurance for the whole year to contribute the full amount.
Erica received $40,000 in wages, and her husband Paul had a net loss of $2,000 on his Schedule C. Paul materially participated in his Schedule C activity. They had interest income of $500. Paul also had a $28,000 loss from a rental real estate activity in which he actively participates. How much of the rental loss can they deduct on their current-year joint income tax return? A. $500 B. $28,000 C. $25,000 D. $25,500
$25,000
Answer (C) is correct.
Since Paul is deemed to actively participate in the rental real estate activity and Paul and Erica’s adjusted gross income is less than $100,000, they are allowed to deduct $25,000 against other income (Publication 925).
All of the following types of income are considered includible compensation for purposes of deductible contributions to an individual retirement account EXCEPT
A. Self-employment income.
B. Partnership income of an active partner providing services to the partnership.
C. Pension distributions.
D. Wages.
Pension distributions.
Answer (C) is correct.
Section 219(f) defines compensation as earned income. Pension distributions are not generally considered earned income; rather, they are treated as a passive form of income.
Ron and Stacy are divorced in 2017. He pays her $50,000 of alimony in 2018, $39,000 in 2019, and $28,000 in 2020. What is the amount of recapture that Ron must include in his 2020 income? A. $1,500 B. $0 C. $1,000 D. $15,000
$1,500 Answer (A) is correct. The recapture is computed as follows: Alimony paid in 2nd year: $39,000 Alimony paid in 3rd year: $28,000 Add $15,000 floor to 28,000: $43,000 Line 1 minus line 3: $0 Alimony paid in 1st year: $50,000 Adjusted alimony paid in 2nd year (line 1 minus line 4): $39,000 Total alimony from 2nd and 3rd years: $67,000 Divide line 7 by 2: $33,500 Add $15,000: $48,500 Line 5 minus line 9: $1,500 Alimony recapture (line 10 plus line 4): $1,500
Passive activity rules apply to A. S corporations. B. Partnerships. C. Grantor trusts. D. Closely held corporations.
Closely held corporations.
Answer (D) is correct.
Although passive activity rules do not apply to grantor trusts, partnerships, and S corporations directly, they do apply to the owners of these entities. The passive activity rules apply to individuals, estates, trusts, personal service corporations, and closely held corporations (Publication 925).