All Subjects Flashcards
Cost recovery
Periodic expensing of TANGIBLE property including real and personal property used in business
Depletion
The expensing of NATURAL RESOURCES as they are being used up
Amortization
Periodic expensing of the cost of INTANGIBLE assets
Basis for Depreciation
The lower of FMV or Adjusted Basis
Complement Products
An increase in the price of product A causes a decrease in the demand for product B. (Hot dogs and hot dog buns)
Residential Real Property Depreciation Rate
27.5 years. (Apartment Building)
Commercial Real Estate Depreciation Rate
39 years. (Hotel)
Kal has taxable income this year of $6 million. He purchased $2,594,000 worth of depreciable property this year and is trying to calculate his §179 deduction. What is the correct amount?
Since he placed into service more assets than allowed under the limitation you must calculate the phase-out.
2,594,000 placed into service less 2,590,000 placed into service limit = 4,000
$1,040,000 - $4,000 = $1,036,000.
Section 179 deduction limit
$1,040,000
Amounts over $2,590,000 will be reduced $1 for every dollar over.
Election to expense cannot exceed income. Cannot create loss.
Types of qualified plans that allow loans
All plans except SIMPLEs and SEPs
Top heavy plans
Are concerned with key employees, not highly compensated.
CODA
Cash or Deferred Arrangement
A parent-subsidiary group exists if the parent company owns what percentage of voting stock in another corporation?
At least 80%
Form 709
A gift tax return (Form 709) is required for all split gifts, and both spouses must consent and are required to sign the gift tax return. Any donor who makes a gift during a calendar year must file a gift tax return (Form 709), unless all of the gifts are less than or equal to the annual exclusion, or are not subject to gift tax, such as qualified transfers, transfers to spouses, or transfers to charities.
UTMA vs UGMA
UTMA accounts can gift any type of property
Form 706
The federal estate tax return, Form 706, must be filed if a decedent’s gross estate, plus adjusted taxable gifts, is greater than the applicable estate tax credit equivalency (also called the applicable estate tax exclusion amount) for the year of death. Due 9 months after death. A 6-month extension is possible but interest will accrue.
The buyer’s adjusted basis in property transferred in exchange for a SCIN
is the fair market value of the property at the date of the sale regardless of the number of payments made by the seller.
A buyer’s adjusted basis of property purchased with a private annuity
is equal to the sum of all annuity payments paid
Gifts not eligible for the annual exclusion
Gifts of a future interest. Crummey powers make gifts a present interest.
Items included in decedent’s gross estate within 3 years of death gifted to a trust
Gift tax paid & death benefit of a life insurance policy
Assess that transfer by law
JTWROS
Assets that qualify for the unlimited marital deduction
Assets minus debt.
Amount of principal gifted to a charitable trust that must go to the charity
10%
Type of charitable trust that does not require an annual distribution
Unit trusts allow IOUs to accumulate in years where trust income doesn’t meet the calculated distribution amount
Cross Purchase Agreement
A buy/sell strategy where each owner buys a life insurance policy on every other owner. This is more expensive for young owners who have to buy policies on older partners but it’s the most equitable because they are paying their fair share of the cost of the business.
Entity Agreement
A buy/sell strategy where the company buys 1 policy for each owner. Ex. an 80-year-old owner that owns 80% of the business would be paying more of the premium than his 20 year-old grandson who is only a 20% owner.
Installment Sales
Owner-financed sale of business
SCIN
Has a higher than normal interest rate in order to receive the self cancelling feature of the installment note if the seller dies before term of the agreement. Basis for new owner is sale price - regardless of how many payments were made to seller before death.
Private annuity
Sale of business to a family member for a lifetime annual payment. If the seller outlive the expected number of years the seller will pay more than he intended.
How much money can be transferred annually inter vivos to a non-US citizen spouse?
$157,000. Note that $0 qualifies for the unlimited marital deduction.
Underqualification
means that too much of the decedent’s property was subject to estate tax at the death of the first spouse due to a failure to make adequate use of the unlimited marital deduction.
When too few assets pass to a decedent’s surviving spouse, and, as such, the decedent’s taxable estate is greater than the applicable estate tax exemption, the decedent’s estate is said to be underqualified.
Overqualification
When too many assets pass to a surviving spouse, resulting in an increase in overall estate taxes for the family when the surviving spouse dies, the unlimited marital deduction is said to be overqualified. When a decedent’s taxable estate is less than the applicable estate tax exemption, the estate is said to be overqualified.
Common objectives of life insurance
- Protect income stream for beneficiaries
- Sources of funds for education
- Provide liquidity at death
- Source for retirement income
- Create or sustain family wealth
IRC Transfer for Value Exceptions
The IRC states that the transfer-for-value rule will not apply when there is a transfer of a life insurance policy to any of the following individuals:
• the insured,
• a partner of the insured,
• a partnership in which the insured is a partner,
• a corporation in which the insured is a shareholder or officer,
• a transferee who takes the transferor’s basis in the contract
5 & 5 Rule
If an individual has a general power of appointment over the annual contribution made to the trust, and the value of the general power of appointment does not exceed the greater of (1) $5,000, or (2) five percent of the trust corpus, the general power of appointment is ignored, and the beneficiary will not trigger gift tax if there is more than one party to the trust. This exception is often referred to as the “5-and-5” rule.
IRD
The Income in Respect of Decedent (IRD) rules state that when an individual has chosen to defer income during his lifetime, the value of those deferrals at death will not qualify for a step-up in basis. Instead, whoever receives the decedent’s income tax deferred accounts must pay income tax on the distributions received from the accounts.
IRC Section 303
IRC Section 303 states that the estate of a deceased shareholder may redeem enough shares to cover the death taxes (federal and state estate, inheritance, and generation-skipping transfer taxes), funeral expenses, and administrative expenses of the decedent; and the shares redeemed for this purpose will qualify for capital gains tax treatment.
To qualify for a Section 303 redemption, more than 35 percent of the decedent’s adjusted gross estate must consist of the closely held business interest. In the event that the decedent owned interests in several closely held businesses, the fair market value of all of the closely held business interests can be aggregated to meet the 35 percent test provided that the decedent owned at least 20 percent of each company’s outstanding stock. In addition, the shareholder redeemed must be responsible for the payment of the estate taxes, administration expenses, and funeral expenses.
IRC Section 6166
When the executor of the estate elects to make installment payments of estate tax under Section 6166, it is possible to extend the payment of estate taxes attributable to the closely held business over a 14-year period. The first four years of payments are of interest only, followed by 10 payments that amortize the estate tax liability over the payment period (although may be paid over a shorter period).
(1) the value of the business interest must exceed 35 percent of the value of the decedent’s adjusted gross estate,
• (2) the business interest must be a closely held business (i.e., a sole proprietorship; a partnership if at least 20 percent of the total capital interest is included in the decedent’s gross estate; a partnership with 45 or fewer partners; a corporation if at least 20 percent of the voting stock is included in the decedent’s gross estate; a corporation with 45 or fewer shareholders), and
• (3) the entity must have been actively engaged in the conduct of a trade or a business at the date of the decedent’s death.
Abatement
the reduction in an estate when there is insufficient assets to satisfy all legatee provisions
Ademption
One common problem is that assets specifically bequeathed to legatees have been disposed of prior to the decedent’s death. In these cases, unless the testator has provided some alternative asset, such legatee is usually not entitled to any replacement asset. This extinction of the legacy is called ademption.
Devisee
a gift of real property through a will
The standard deduction for a dependent on another taxpayer’s return
is the greater of $1,100 or earned income + $350 (up to a maximum of $12,400, the standard deduction for a single taxpayer).
Unearned income standard deduction under kiddie tax rules
1,100 tax free, next 1,100 at the child rate, anything above is at the parent’s tax rate SECURE Act 2019
What percent of Social Security is subject to tax calculation
Combined income = tax exempt interest + foreign income + ½ of Social Security benefit. Plug this into the grid.
ACID
All assets are capital assets except ACID (Accounts/notes receivable, Copyrights and creative works, Inventory, and Depreciable property used in a trade or business).
Life Insurance in Qualified Plans
Any qualified plan may purchase life insurance. As long as life insurance is not the primary focus of the plan, the government allows this exception from the ultimate retirement benefit promise because the death benefit of the life insurance policy is payable to the employee’s spouse and other survivors at the employee’s death. - Premiums paid by the employer for the life insurance policy, however, are taxable to the employee at the time of payment, to the extent of the Table I cost of insurance. - To maintain its qualified plan status, a qualified plan that includes life insurance must pass either (1) the 25 percent test or (2) the 100-to-1 ratio test.
25 percent test
• The 25 percent test consists of two tests, a 25 percent test and a 50 percent test. The test used depends upon the type of life insurance provided by the plan. • If a term insurance or universal life insurance policy is purchased within the qualified plan, the aggregate premiums paid for the life insurance policy cannot exceed 25 percent of the employer’s aggregate contributions to the participant’s account. • If a whole life insurance policy is purchased within a qualified plan, the aggregate premiums paid for the whole life insurance policy cannot exceed 50 percent of the employer’s aggregate contributions to the participant’s account
Bypass Trust
A bypass trust is always a non-marital trust. The income beneficiary will not have inclusion and the trustee does not need to seek permission.
QTIP assets
QTIP assets are always included in the gross estate of the surviving spouse. The QTIP trust may or may not be a GST trust.
Investment options within 403(b) plans
Funds within a 403(b) account can only be invested in either insurance annuity contracts, life insurance, or mutual funds.
Penalty for non-qualified HSA distributions
Income tax and a 20% penalty. The penalty will be waived if the individual has attained 65 years of age.
Medicare Advantage
Works like an HMO, PPO, or POS plan. It will cover vision, dental, and hearing that are not covered under part A or B.
Most restrictive type of group disability?
Any occupation
SIMPLE IRA employer contributions
3% match, or 2% non-elective contribution. The employer may elect to lower the 3% match to 1% in 2 out of 5 years. Immediate vesting.
403(b) plans
Not qualified plans. Can be funded by the employee and employer. Can only be established by 501(c)3 tax-exempt organizations - a charity or public school district. There are 2 additional names: Tax-deferred Annuity (TDA), and Tax Sheltered Annuity (TSA). Employer can require that the employee fund the account with a minimum of $200/yr. and that the employee work 20 hours/week, and that the employee not be a student at the school. Same contribution limits as 401(k) plans but there is additional $3,000/yr catch-up rule for employees with 15 years of service and are within 5 years of retirement at a Health, Education, or Religious organization. Total contribution limits: $57,000 or 100% of compensation (employee and employer). A 403(b) plan may be adopted by an employer that is a tax-exempt organization or that is a public school system. Organizations that are wholly owned by a state or local government are usually not eligible employers, but a state hospital organized as a separate 501(c)(3) organization will be eligible. Also eligible is an agency of a state that is part of a public school system and an educational organization, such as a college or private school.
Bonus features of 457 plans
- Can make an additional $19,500 catch-contribution during the 3 years prior to retirement 2. There are no 10% early withdrawal penalty at any age upon termination of service. 3. Does not count as a retirement plan for AGI purposes so participants may also a deductible IRA contribution in addition to a deductible 457 plan contribution. Home cooking for government employees!
Gifting of stock options
NQSOs can be gifted during life. ISOs can only be gifted upon death and heirs must exercise within 90 days.
Taxation of NQSO at exercise
The executive will recognize W-2 income for the appreciation of the fair market value of the stock over the exercise price (often referred to as the bargain element), income and payroll tax withholding will apply, and the employer will have an income tax deduction for the same amount.
Reverse Gift
If an heir receives property from a decedent that was acquired by the decedent through a gift from the same heir within one year of the decedent’s death, the heir/donor takes the decedent’s basis (which will be the donor’s basis). The heir/donor does not receive a step-to fair market value in the adjusted basis of the property.
Hedging
Hedging is taking an opposite futures position than the investor’s inherent underlying position.
Futures & Hedging
A long position in a futures contract is when the investor buys a futures contract. A short position in a futures contract is when the investor sells a futures contract. A long hedge means that the investor owns (buys) the futures contract to insure a certain price of a commodity that he or she does not yet own. Hedging is taking an opposite futures position than the investor’s inherent underlying position.
Initial Margin
The initial margin reflects the amount of equity an investor must contribute to enter a margin transaction. Regulation T set the initial margin at 50% and was established by the Federal Reserve. On the exam assume 50% margin requirement unless stated otherwise in the question.
Example: To purchase 100 shares of Starbucks trading at $50 per share with an initial margin requirement of 75%, Joe must contribute 100 x $50 x 0.75 = $3,750, and he will borrow $1,250 (100 x $50 x 0.25) from his broker.
Maintenance Margin
The minimum amount of equity required before a margin call.
Margin Call
Loan/ 1 - Maintenance Margin
Systematic risks which cannot be reduced through diversification
(PRIME): Purchasing power (inflation) risk Reinvestment rate risk Interest rate risk Market risk Exchange rate risk
If r-squared is greater than or equal to 0.70…
…then Beta is an appropriate measure of total risk. If r-squared is less than 0.70, then Beta is not an appropriate measure of total risk and standard deviation should be used to measure total risk
Tactical asset allocation
Tactical asset allocation is an active management portfolio strategy that rebalances the percentage of assets held in various categories in order to take advantage of market pricing anomalies or strong market sectors.
The minimum failure to file penalty
the lower of $435 or 100% of the tax due
The minimum failure to file penalty
if a tax return is filed more than 60 days late the lower of $435 or 100% of the tax due
Dividend Distribution Taxation
Dividend distributions are taxable each year. Non-dividend distributions are taxable to the extent they exceed basis.
Adjusted Gross Estate
The adjusted gross estate is determined by deducting the following items from the gross estate: • Funeral expenses; • Last medical expenses; • Administrative expenses; • Debts of the decedent; • Losses during estate administration
The Taxable Estate
The taxable estate is the adjusted gross estate less the unlimited charitable and marital deductions
Blockage Discount
A blockage discount is a discount attributable to the value of large blocks of corporate stock that are listed on a public exchange. The theory behind a blockage discount is that a large amount of stock included in the decedent’s gross estate cannot be liquidated at one time without a decrease in the stock’s market price.
Key Person Discount
A discount may be allowed for a business in which a key person has died or becomes disabled, called a key person discount.
Residential Rental Losses
Residential rental losses up to $25,000 are deductible by taxpayers with AGI less than or equal to $100,000. Phase out is between $100,000 and $150,00
Security Market Line
Dots below the line are overvalued and those above the line are undervalued. The slope of the line is determined by the market risk premium.
Coefficient of Determination
A coefficient of determination of .75 means that 75% of the risk is systematic and 25% is unsystematic. A fully diversified portfolio has no unsystematic risk.
Social Security Disability Payments
There is always a 5-month delay before the start of Social Security disability payments.
Bypass (Credit Shelter) Trust
A bypass (or credit shelter) trust, also known as a “B Trust,” is commonly used in estate planning. A bypass trust can be either an inter vivos (during lifetime) or a testamentary (at death) trust.
Net operating losses
Net operating losses can be deducted from up to 80% of net operating income. The remainder carries forward to future years.
Self-employment income deductibility
Self-employed individuals may deduct 50% of their self-employment tax from AGI.
Student loan interest deductibility
It is subject to AGI limitations
December 15, 2017
The date at which the acquisition debt on mortgages drops from $1 million-$750,000. HELOC interest is only deductible on interest use for improving the property.
HSAs
HSA funds not used for qualified medical expenses after age 65 will incur income taxes, but not the 20% penalty. Remember that the catch-up contribution for HSAs is for those 55 and older, not the typical 50 and over we see for IRA catch-up contributions.
CAPITAL ASSET PRICING MODEL
The Capital Asset Pricing Model (CAPM) calculates the relationship of risk and return of an individual security using the Beta (b) as its measure for risk. • The CAPM formula is often referred to as the Security Market Line (SML) equation because its inputs and results are used to construct the SML. • The difference between the (rm - rf) is considered the market risk premium, that is how much an investor should be compensated to take on a market portfolio versus a risk-free asset.
Disadvantage to Entity Insurance
No step up in basis for remaining partners as with cross-purchase agreements
Waiting period for Social Security Disability
5 Months
Short-Term Disability
Covers up to 2 years of benefits. (Usually group)
Maximum Family Social Security Benefits
Approximately 175% of PIA
R2
A high R2 value (between 85 and 100) indicates the fund’s performance patterns have been in line with the index. The higher the R2 value, the less non-systematic risk present.
NPV
NPV is a better method for evaluating projects than the IRR method. The NPV method:
Employs more realistic reinvestment rate assumptions.
Is a better indicator of profitability and shareholder wealth.
Mathematically will return the correct accept-or-reject decision regardless of whether the project experiences non-normal cash flows or if differences in project size or timing of cash flows exist.
Trust income taxation
Trusts with income pay income tax on that income.
Securities sold qualify for capital gains tax treatment but usually aren’t taxes as they are considered corpus.
Commerce Clearing House (CCH)
Commerce Clearing House (CCH) provides plain language interpretation of tax law.
full employee FICA rate
7.65% (6.2% + 1.45%). Amounts earned over $137,700 will be taxed at the Medicare rate of 1.45%.
RIA
Registered investment advisor needs to be spelled out. You cannot use the acronyms.
Chapter 13 Bankruptcy
Voluntary restructuring and of debt. Preferable over Chapter 7.
Chapter 7 Bankruptcy
Involuntary. Relief through liquidation. Cannot dismiss 3 years of back taxes, Alimony, Child Support, and Student Loan debt.
Stagflation
Persistent high inflation combined with high unemployment and stagnant demand in a country’s economy
Alimony Recapture Formula
Shortcut formula to determine if there is an excess alimony payment: P1 + P2 – 2P3 – $37,500 = Recapture. If greater than 0, then excess alimony.
Chapter 11 Bankruptcy
Relief through reorganization for business or self-employed individuals
Alimony Taxation
Alimony received is no longer income to payee nor deductible by payor for divorce decrees written or materially modified after 12/31/2018. Alimony for divorces finalized prior to 12/31/18 will be grandfathered into the old rules.
