Assignment 5 - The Tax Mgmt Process Flashcards
- 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
grantor trust
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
constructive receipt
increases in income that just keep up w/ inflated living costs resulting in moving taxpayers into higher income tax brackets, w/ higher tax rates
bracket creep
provision that allows an unincorporated business to be taxed as a corp or a partnership, eliminating a judgment call by the tax preparer
“Check the Box” regulation
total tax payable divided by taxpayer’s taxable income
will always be lower than marginal income tax rate
avg income tax rate
indexing for inflation
- 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
tax of net unearned income of kids age 18 or younger to the child at the parents’ top marginal fed’l tax rate
kiddie tax
- 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
income in respect of decedent (IRD)
where one has received income of some kind and has it in possession
actual receipt
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.
assignment of income
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
capital gains and losses
tax rate on new L/T cap gains
15%
how is net S/T cap gains taxed?
as ordinary income
tax rate on net cap gains on collectibles
max of 28%
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
constructive sales
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
“nonrecognition provisions”
- 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
“nonrecognition provision”
- 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
alternative min. tax (AMT)
used as the subtracted portion from the amt realized when determining the cap gain from exchg/sale of cap asset
adjusted basis
gross income less “above the line” deductions
adjusted gross income
the prop. taxpayers own
exp - CS/PS, bonds, inv. RE, collectibles, partnership interests, personal residences, and other personal assets
cap assets
adjusted gross income less “below the line” itemized deductions such as mortgage interest
taxable income
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
marginal income tax rate
this rule was introduced to have certain itemized ded. for income tax purposes reduce for taxpayers whose AGI exceeded a threshold amt
Pease Limitation
How are assets in Grantor Trusts taxed?
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
taxation of irrevocable trusts
- 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
limitations for shifting income to children and grandchildren
- 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”
common examples of IRD items
- 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
tax relief for IRD items
- 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
CASH BASIS income receipt for tax purposes
- 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
ACCRUAL BASIS income receipt for tax purposes
- items of income are includable in gross income for the yr in which the right to receivable become determinable w/ reasonable accuracy
Net Capital Gains
constructive sale of an appreciated fin. position
- enters into a short sale of the same or substantially identical prop (in effect, selling short against the box)
- enters into an offsetting notional principal contract (a swap) w/ respect to the same or substantially identical prop.
- enters into a futures or forward contract to deliver the same or substantially identical prop.
- has entered into one of the previous transactions and acquires the same property as the underlying prop in the position
- to the extent prescribed in regs, enters into other trans. having substanitally the same effect as the transactions reviously named
Taxation of an Incorporated Corporation
(has not elected S-corp status)
taxable as corporation
Taxation of a NONincorporated Corporation
(has elected S-corp status)
electing small business corp
not taxed as a corp
will have pass-through status
Tax treatment of C-corp
- 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.
- 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
accumulated earnings tax
taxation of partnerships
- 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
this type of business is traded on an established securities mkt or on a substantially equivalent secondary mkt
publicly traded partnerships
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
S-Corps
- 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.
limited liability companies (LLCs)
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.
simple trusts
- 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
complex trusts or estates
