Assignment 5 - The Tax Mgmt Process

Question 1

• type of trust whose income is taxed to and whose ded. may be taken by the creator or settlor of the trust regardless of whether the grantor receives such income

Answer 1

grantor trust

Question 2

when income has been credited to a taxpayer or set apart from him/her so the taxpayer can actually receive it at any time w/o limitation

Answer 2

constructive receipt

Question 3

increases in income that just keep up w/ inflated living costs resulting in moving taxpayers into higher income tax brackets, w/ higher tax rates

Answer 3

bracket creep

Question 4

provision that allows an unincorporated business to be taxed as a corp or a partnership, eliminating a judgment call by the tax preparer

Answer 4

“Check the Box” regulation

Question 5

total tax payable divided by taxpayer’s taxable income

will always be lower than marginal income tax rate

Answer 5

avg income tax rate

Question 6

indexing for inflation

Answer 6

• applies to indiv. tax brackets, deductions, personal exemptions, and other features
• ensures tax code keeps pace w/ the price of money
• otherwise, “bracket creep” will happen

Question 7

tax of net unearned income of kids age 18 or younger to the child at the parents’ top marginal fed’l tax rate

Answer 7

kiddie tax

Question 8

• this occurs when the indiv. was entitled to gross income subj. to fed’l income tax that wasn’t included in the decedent’s gross income for the year of his/her death
• these items are amts the decedent has a right to receive and would have received had he or she not died - treated as income items to the recipient of them after the decedent’s death
• income will be subj. to recipient as gross income after the death

Answer 8

income in respect of decedent (IRD)

Question 9

where one has received income of some kind and has it in possession

Answer 9

actual receipt

Question 10

income from property is taxable to owner of the prop.

giving the income to another indiv. while still maintaining ownership does not shift tax liability for that income to that person.

Answer 10

assignment of income

Question 11

this arises from the sale/exchg of cap. assets

difference b/w amt realized (value received from the sale)and adjusted basis.

recognized in yr of sale/exchg

Answer 11

capital gains and losses

Question 12

tax rate on new L/T cap gains

Answer 12

15%

Question 13

how is net S/T cap gains taxed?

Answer 13

as ordinary income

Question 14

tax rate on net cap gains on collectibles

Answer 14

max of 28%

Question 15

sales which use hedging techniques to elim. risk of owning securities w/o actually selling the securities and realizing a cap gain

prohibited by IRS

Answer 15

constructive sales

Question 16

deferring income taxation on any cap gain to some future trans. or event when there may or may not be a tax due.

Tax Code defers this recognition

Answer 16

“nonrecognition provisions”

Question 17

• Sect. 1031: Exchg. of prop. held for productive use or inv. (stks, bonds, notes…)
• Sect. 1035: Certain Exchg’s of ins. policies
• Sect. 354: Exchg’s of stk and sec’s in certain reorgs.
• Sect. 351: transfer to corp. controlled by transferor (prop for corp. stk)
• Sect. 721: nonrec. of gain or loss on contrib. to partnership
• Sect. 1041: transfers of prop. b/w spouses or incident to divorce
• Sect. 1036: Stk for Stk of same corp.
• Sect. 1042: sales of stk to ESOPs or certain coops

Answer 17

“nonrecognition provision”

Question 18

• tax that is over and above a taxpayer’s regular income tax
• s/b avoided at all costs
• calc. by adding certain tax preferences to an indiv’s reg. taxable income; certain adjmnts are +/- from it

Answer 18

alternative min. tax (AMT)

Question 19

used as the subtracted portion from the amt realized when determining the cap gain from exchg/sale of cap asset

Answer 19

adjusted basis

Question 20

gross income less “above the line” deductions

Answer 20

adjusted gross income

Question 21

the prop. taxpayers own

exp - CS/PS, bonds, inv. RE, collectibles, partnership interests, personal residences, and other personal assets

Answer 21

cap assets

Question 22

adjusted gross income less “below the line” itemized deductions such as mortgage interest

Answer 22

taxable income

Question 23

this tax is normally used for planning purposes

assumes that the income or ded. being considered come at the top bracket or are the last itmes received or paid

may tend to overstate the effect of ordinary income taxes

doesn’t effect cap gains b/c they are usually taxed at a lower rate

Answer 23

marginal income tax rate

Question 24

this rule was introduced to have certain itemized ded. for income tax purposes reduce for taxpayers whose AGI exceeded a threshold amt

Answer 24

Pease Limitation

Question 25

How are assets in Grantor Trusts taxed?

Answer 25

assets are taxed for fed’l income tax purposes only

• income/ded are treated as income and ded. of the grantor
• taxable to or taken by him/her

Question 26

taxation of irrevocable trusts

Answer 26

• taxed as separate entities w/ their own tax rate
• trust/estate - tax brackets are steeply progressive
• therefore, planning should not include holding alot of taxable income in trusts

Question 27

limitations for shifting income to children and grandchildren

Answer 27

• tax law provides that an indiv. who is elig. to be claimed as a dependent on another taxpayer’s return may not take a personal exemption on his/her own return (no double exemptions)
• dependent’s exemption may not exceed the larger of (1) a specified amt indexed for inflation or (2) an amt plus the dependent’s earned income, subject to the regular standard deduction limits
• “Kiddie Tax”

Question 28

common examples of IRD items

Answer 28

• distrib. from qualified retirement plans, IRAs (not ROTH), TSA or 403(b)
• accrued and untaxed int. on U.S. savings bonds
• death benef. under nonqualified DC plans
• distrib. of untaxed inv. income from inv. annuity contracts
• taxable portion of pmts made after death from sales made on the installment method

Question 29

tax relief for IRD items

Answer 29

• usually taxed heavily
• relief - allowing recipient to take an itemized income tax ded. on his/her fed’l fed’l estate tax attributable to IRD item in the decedent’s estate
• calculated by taking the fed’l estate tax payable w/ the IRD item included in the decedent’s estate and then calculating the estate tax w/o the IRD item

Question 30

CASH BASIS income receipt for tax purposes

Answer 30

• most are indiv. and sm. businesses
• items of income (or expenses) are considered received (or pd), and hence taxable for income tax purposes in the yr they are actually constructively received

Question 31

ACCRUAL BASIS income receipt for tax purposes

Answer 31

• items of income are includable in gross income for the yr in which the right to receivable become determinable w/ reasonable accuracy

Question 32

Answer 32

Net Capital Gains

Question 33

constructive sale of an appreciated fin. position

Answer 33

1. enters into a short sale of the same or substantially identical prop (in effect, selling short against the box)
2. enters into an offsetting notional principal contract (a swap) w/ respect to the same or substantially identical prop.
3. enters into a futures or forward contract to deliver the same or substantially identical prop.
4. has entered into one of the previous transactions and acquires the same property as the underlying prop in the position
5. to the extent prescribed in regs, enters into other trans. having substanitally the same effect as the transactions reviously named

Question 34

Taxation of an Incorporated Corporation

(has not elected S-corp status)

Answer 34

taxable as corporation

Question 35

Taxation of a NONincorporated Corporation

(has elected S-corp status)

Answer 35

electing small business corp

not taxed as a corp

will have pass-through status

Question 36

Tax treatment of C-corp

Answer 36

• Net Operating Loss = bus. ded. exceed its bus. gross income subj to tax w/ certain adjmnts. may carry back an NOL to each of the 2 preceding yrs and then any remaining loss may be carried forward to each of the following 20 yrs
• Cap gains/loss = can ded. cap losses only to the extent they have cap gains; any unused net cap loss from a yr can be carried back to each of the 3 preceding yrs and then any remaining loss can be carried forward to each of the following 5 yrs.

Question 37

• this tax is intended to apply to corps that have accumulated earnings inside the corp to avoid income taxation on divs that might otherwise have been pd to shareholders
• only applies to earnings and profits that are accumulated beyond the reasonable needs of the business
• only accumulated income that exceeds a min of $250,000 per yr is potentially subj to this tax

Answer 37

accumulated earnings tax

Question 38

taxation of partnerships

Answer 38

• partnership, itself, doesn’t pay taxes
• partnership reports each partner’s share of partnership’s taxable income or loss as well as certain separately stated items due to the partner
• partner then includes this distributive share in the partner’s income and any other tax items such as guaranteed salary pmts on his/her own tax return

Question 39

this type of business is traded on an established securities mkt or on a substantially equivalent secondary mkt

Answer 39

publicly traded partnerships

Question 40

this type of business is organized like other corporations, but have elected to not pay corporate income tax.

instead - profits, losses and other tax items are passed through to the shareholders in proportion to their holdings.

taxable to the shareholder on their indiv. returns

Answer 40

S-Corps

Question 41

• these businesses are organized by filing articles of org. w/ the state.
• members can manage the entity, have limited liability for the debts and obligations, generally can elect to be taxed like partnerships for fed’l income tax purposes under the check-the-box regs
• adv. both of corps and partnerships.
• not taxable entities - profits, losses and other tax items are passed on to their members for inclusion on their indiv. personal tax returns.

Answer 41

limited liability companies (LLCs)

Question 42

type of trust that must distribute all income currently, the trustee doesn’t distribute corpus currently, and they have no charitable beneficiaries

benef. are taxed on the current income distrib. and the trust gets a tax ded. for those distrib.

Answer 42

simple trusts

Question 43

• trusts where income can be accumulated, where corpus is distrib. or that have charitable beneficiaries
• trustee has discretion to pay out or to accumulate current income and to distrib. corpus to beneficiaries
• income may be taxed to beneficiaries who receive distrb or to the trust or estate

Answer 43

complex trusts or estates