Basic Income Tax

Question 1

What is the Basic Tax Formula?

Answer 1

** AGI is the greater of:

Total itemized deductions or standard deduction
Less: Any QBI X 20% Deduction

Tax on Taxable Income
Less: Tax credits (including federal income tax withheld and other prepayments of federal income tax)

Question 2

What is the constructive receipt doctrine?

Answer 2

when income is readily available and that income is not subject to substantial limitations or restrictions that income is deemed to be constructively received and should be taxed

substantial limitations include:
- any substantial limitation or restriction on either the time or manner of payment
- the financial condition of the debtor makes payment of the income in question impossible

** when dividend check mailed, receipt occurs when investor receives the check or deposits to their account

Question 3

What qualifies Head of Household filing status?

Answer 3

unmarried or considered unmarried the last day of the taxable year

• files a separate return
• pays more than half the cost of keeping up his home
• spouse did not live in taxpayer’s home during the last 6M of the year
• taxpayer’s home was main home of taxpayer’s child for more than half the year
• taxpayer is eligible to claim a credit for that child
• a “qualifying person” generally must have lived w/ the taxpayer for more than half the year

Question 4

What length of time can a qualifying widower with qualified child be eligible to file as a qualifying widower?

Answer 4

2 year following the year in which the taxpayer’s spouse died IF ALL of the following APPLY:

• taxpayer was eligible to file a joint return w/ his or her spouse in the year in which the taxpayer’s spouse died
• taxpayer has not remarried
• taxpayer has a child or stepchild for whom the taxpayer can claim as qualified
• the child lived in the taxpayer’s home all year, AND
• taxpayer paid more than half the cost of keeping up a home during the year

Question 5

What is the Personal & Dependency Exemption about of children and family members?

Answer 5

$4,700 for 2023

Question 6

What additional standard deduction is available for individual who is BOTH blind and age 65 or older?

Answer 6

Single or HOH: $1,850 X 2 = $3,700
All other taxpayers: $1,500 X 2 = $3,500

Question 7

What taxpayers are ineligible for the standard deduction?

Answer 7

MFS when other spouse itemizes (both spouses must itemize)

nonresident aliens

individuals filing returns for tax year of less than 12 months

Question 8

Taxpayer claimed as a dependent of another taxpayer has a limited standard deduction. How is this standard deduction determined?

Answer 8

Dependent’s standard deduction is the greater of:

$1,250 OR

$400 + earned income (but not exceeding the normal standard deduction)

if dependent is age 65+ and/or blind, the standard deduction may be higher

Question 9

What are the 4 tests a Qualifying Child MUST meet?

** for purposes of HOH status, earned income tax credit, child tax credit, and the credit for child and dependent care services

Answer 9

Qualifying Child 4 Tests

1. relationship test
2. abode test
3. age test
4. support test

Question 10

What is the qualifying child abode test?

Answer 10

Qualifying Child must live with the taxpayer for more than half the year

Occupancy occurs even during temporary absences due to special circumstances such as illness, education, business, vacation, or military service.

Question 11

What is the qualifying child age test?

Answer 11

Child must be under 19 at end of the calendar year OR a student under 24 at end of the calendar year

Student: must be a full-time student at an educational institution during 5M of the calendar year

Question 12

What are the Tie-Breaker Rules if more than one person is eligible to claim a qualifying child?

Answer 12

Question 13

What are the 4 tests a Qualifying Relative MUST meet?

Answer 13

Qualifying Relative 4 Tests (ALL must be met)

1. relationship test
2. gross income test
3. support test
4. not a qualifying child test

Question 14

What satisfies the relationship test for a Qualifying Relative?

Answer 14

children, grandchildren, siblings (not half), parents, grandparents, stepparents, nieces, nephews, uncles, aunts, in-laws

COUSINS ≠ Qualifying Relative

can be unrelated person who has same principal residence as the taxpayer for the taxable year

Question 15

What is the Qualifying Relative Gross Income test?

Answer 15

Dependent’s gross income must be < personal exemption amount ($4,700 for 2023)

** Scholarships and fellowships do not count towards the gross income

Question 16

What does not count as income for the Qualifying Relative support test?

Answer 16

Income received by a dependent does not count as support provided by the dependent unless it is actually expended for that purpose.

For example, if income earned by an elderly parent is deposited in a savings account rather than expended for his own support, it does not count as support provided by the parent.

Question 17

Summary of tests that apply for a Qualifying Dependent Child and a Qualifying Dependent Relative

Answer 17

Question 18

In order to avoid penalties, when must a taxpayer file estimated taxes?

Answer 18

When BOTH of the following apply:

1. taxpayer expects to owe at least $1,000 after subtracting WH and credits
2. taxpayer expects withholdings and credits to be less than the smaller of:

• 90% of tax to be shown on the current year tax return, OR
• 100% of the tax shown on the prior year’s tax return (for all 12 months)

Question 19

What items are specifically included in Gross Income?

Answer 19

• annuity payments
• compensation for services (including certain fringe benefits)
• gross income derived from business
• gains derived from dealings in property
• interest & dividends
• rents & royalties
• alimony & separate maintenance payments for divorce decrees finalized by 12/31/18 (repealed for decrees after 12/31/18)
• income from life insurance and endowment contracts
• pensions
• discharge of indebtedness
• distributive share of partnership gross income
• income in respect of a decedent
• income from an interest in an estate or trust

Question 20

What is the annuity Exclusion Ratio?

Answer 20

Exclusion Ratio = Investment in the Contract / Expected Total Return

return of capital (pro rata portion of premiums) is received tax free

interest is taxable

Exclusion Ratio determines payment portion excluded from taxation

100% taxable after all capital is return from payments

Question 21

What is considered MAGI for purposes of Social Security taxation determination?

Answer 21

Taxpayer’s AGI (not including social security benefits) plus:

• tax-exempt interest
• interest earned on savings bonds used for higher ed
• amounts excluded from the taxpayer’s income for employer-provided adoption assistance*
• amounts deducted for interest paid for educational loans*
• income earned in a foreign country, a US possession, or Puerto Rico that is excluded from income
• items marked with an asterisk are the least likely to be tested on this list

Question 22

How do you determine Social Security benefit taxes?

Answer 22

When Hurdle 1 < [MAGI + 50% Benefits] < Hurdle 2:

Taxable Amount the Lesser of:
50% Social Security Benefits, or
50% [MAGI + 0.50 (Social Security Benefits) - Hurdle 1]

When [MAGI + 50% Benefits] > Hurdle 2:

Taxable Amount Lesser of:
85% Social Security Benefits, or
85% [MAGI + 0.50 (Social Security Benefits) - Hurdle 2], plus the lesser of:

• $6,000 for MFJ or $4,500 for all other taxpayers, or
• the taxable amount calculated under the 50% formula and only considering Hurdle 1

Question 23

What are the Imputed Interest rules for Below-Market Loans?

Answer 23

Question 24

What items are specifically listed as exclusions from income?

Answer 24

gifts and inheritances
life insurance proceeds
scholarships
gain on sale of personal residence (w/ limits)
qualified Roth account distributions
compensation for injuries & sickness
employer sponsored accident & health plans
child support payments received

Question 25

Under what circumstances are the proceeds of a life insurance policy excluded from gross income even if the policy is transferred for valuable consideration?

Answer 25

when the policy is transferred:

• to the insured
• to a partner of the insured
• to a partnership in which the insured is a partner
• to a corporation in which the insured is a shareholder or officer
• by a tax-free exchange or gift

Question 26

When are compensatory damages EXCLUDABLE from gross income?

Answer 26

Compensatory damages with bodily injury

**punitive damages are always part of gross income

Question 27

When is Group Term not taxable to employees?

Answer 27

employee has been terminated for disability

a qualified charity or an employer is named as beneficiary

Question 28

When are Meals & Lodging excluded from gross income?

Answer 28

meals and lodging excluded when furnished by the employer:

• on employer’s business premises, and
• for convenience of employer

** lodging excluded when employee is required to accept lodging as a condition of employment

Question 29

What is the employer fringe benefit limits for exclusion from income?

Answer 29

$5,250/yr = educational assistance programs

$15,950 = adoption assistance programs (excess can carry forward 5 yrs)

Question 30

What are Above-the-Line Deductions (for AGI)?

Answer 30

• trade or business expenses
• deductions from losses on sale or exchange of property
• deductions from rental and royalty property
• alimony payments (for decrees prior to 12/31/18)
• 50% of self-employment tax paid
• 100% of health insurance premiums paid by self-employed individual
• contributions to pension, profit sharing, annuity plans, IRAs, etc.
• penalty on premature withdrawals from time savings accounts or deposits
• interest on student loans
• HSAs
• teacher expense deduction (up to $300 on qualified expenses)

Question 31

What is not alimony?

Answer 31

elective non-alimony payments

any payments that could extend beyond the recipient’s life

child support
- any amounts reduced upon the happening of a contingency specifically relating to a child
- (e.g., Heath pays ex-wife Laura $2,000/mo until child is 18, then payments reduced to $1,200. In this case, $800 = child support, $1,200 = alimony)

rent-free occupancy of the home

Question 32

What are ITEMIZED Below-the-Line Deductions (from AGI)?

Answer 32

medical expenses (> 7.5% AGI floor)
certain state and local taxes ($10,000 limit)
contributions to qualified charitable organizations
casualty losses
certain personal interest expense
Qualified Business Income
miscellaneous itemized deductions not subject to the 2% floor

Question 33

What is the total deductible contribution limit for the tax year for itemized tax filers?

Answer 33

50% of the donor’s AGI

see table summary of the maximum deduction for various types of property and charities

Question 34

What is considered to be a private charity?

Answer 34

veterans organizations

fraternal orders

certain private foundations whose support comes from a small group as opposed to the public

Question 35

How are donations prioritized when a taxpayer contributes to both public and private charitable organizations during a year?

Answer 35

50% donations considered 1st

any charitable contribution deductions disallowed because of AGI limitations may be carried over for 5 years and are FIFO

carryover amounts retain their classifications as 20%, 30%, 50%, or 60% donations

Question 36

What categories of itemized deductions may be used to bunch for deduction clustering?

Answer 36

early payment of state income or property taxes

early payment of mortgage interest

medical expenses

charitable donations
** DAF allow for immediate tax deduction

Question 37

What is Qualified Business Income?

Answer 37

below the line deduction for pass-thru entities, not affected by taxpayer’s standard deduction

qualifying taxpayer can take both the QBI deduction and the greater of itemized or standard deduction
- sole proprietorships
- partnerships
- LLCs
- S corporations
- REITs
- Master Limited Partnerships (MLPs)

reduces taxable income but not AGI, deduction is generally 20% of QBI

For example, 37% marginal bracket taxpayer, tax on business income is 29.6% (37% X (1-20%))
** not a business expense against revenue

lesser of (1) combined QBI or (2) 20% of total taxable income excluding capital gains

Question 38

What is the Earned Income Credit?

Answer 38

Must have earned income and a qualifying child (relationship, residency, age tests)

Exception available for some taxpayers w/ no children (must be age 25 to 64)

Credit Amount = Applicable percentage rate X Earned Income
* determined by number of qualifying children
* use IRS tables to calculate exact credit amount

Question 39

What is the Child Tax Credit?

Answer 39

$2,000 for each dependent child under age 17 (includes step & foster children)

Phased out for MAGI above specified levels

Subject to limitations, up to $1,600/child may be refundable

Question 40

What is the Child & Dependent Care Credit?

Answer 40

Must have employment related costs for either:
- Dependent under age 13, or
- Handicapped or dependent spouse

Married taxpayers must file joint return to obtain credit

Credit Amount = Eligible care costs X Applicable percentage
- applicable percentage ranges from 20% to 35%

AGI > $43,000 @ 20%

QUALIFYING EXPENSES ARE LESSER OF $3,000 (ONE QUALIFIED INDIVIDUAL) and $6,000 (2+ QUALIFIED INDIVIDUALS)

Eligible care costs cannot exceed taxpayer’s or spouse’s earned income

Question 41

What is the American Opportunity Tax Credit?

Answer 41

Maximum credit per eligible student = $2,500 per year for 1st 4 years of post-secondary education
- 100% of first $2,000 of qualifying expenses, plus
- 25% of next $2,000 of qualifying expenses

Student must take at least 1/2 of full-time course load

Not eligible if student already has a 4 year degree

Refundable credit up to 40% or $1,000

Question 42

What is the Lifetime Learning Credit?

Answer 42

Maximum credit per taxpayer is 20% of qualifying expenses (up to $10,000/year)
- cannot be claimed in same year the American Opportunity Tax Credit is claimed

Income Limitations:
- Phased out for AGI of $160,000 to $180,000 (MFJ) and $80,000 to $90,000 (other filing statuses)

Taxpayer cannot receive double tax benefit for education expenses

Cannot claim a credit for amounts otherwise excluded from income (e.g., scholarships and employer-paid education assistance)

Question 43

What is the Kiddie Tax?

Answer 43

Net unearned income of a child under age 19 w/ a living parent is taxed at the parent’s rate and age 24 if child is a full-time student

• Unearned income
  
  • First $1,250 not taxed
  • Next $1,250 taxed to the child
  • Above $2,500 is taxed at the parental rate
• Earned income
  
  • Taxed to the child
• Standard Deduction
  
  • The greater of $1,250 or earned income plus $400.

Interest, dividends, capital gains, royalties, rents, pension and annuity income, unearned income from trusts

Question 44

What is the Alternative Minimum Tax (AMT)?

Answer 44

applies to individual taxpayers who take advantage of “items of tax preference”

taxpayer is liable for the greater of his regular tax liability or the AMT

Deductions allowed for:
- charitable contributions
- certain deductions for estate tax for income in respect of a decedent, gambling losses to the extent of winnings, casualty losses from federally declared disasters, and Medical expenses in excess of 7.5% AGI
- Section 199A qualified business income, qualified resident interest, and
- Investment interest to the extent of qualified net investment income

Question 45

What is the AMT Formula?

Answer 45

Question 46

What deductions are lost under AMT?

Answer 46

state and local taxes

itemized deduction subject to 2%

Question 47

What are AMT adjustment items for individuals?

Answer 47

accelerated depreciation for real and personal property that is allowable for regular tax purposes

the standard deduction if itemized deductions are not used

Question 48

What are AMT Preference Items?

Answer 48

arise because of deductions or exclusions that provide substantial benefits

unlike adjustments, preferences can only be positive (increase AMTI)

1. Percentage depletion - amount of depletion taken for regular tax > property adjusted basis at year end
2. Intangible drilling costs - requires 10Y amortization, currently deductible for regular tax; preference is excess regular tax deduction over [AMT amortization plus (65% X net oil & gas income)]
3. Interest on private activity bonds - not taxable for regular tax purposes, included in income for AMT purposes; expenses incurred carrying these bonds are not deductible for regular tax purposes but offset interest income in computing the AMT difference

Question 49

What are the Loss Limitations on Non-vacation Rental Property?

Answer 49

Non-vacation Rental Property
- some rental activities deemed passive losses and are only deductible to the extent of passive income
- 2 exceptions to this rule:
1. rental activities by dealers are considered active
2. residential rental losses up to $25,000 are deductible when AGI <= $100,000; phaseout between $100,000 and $150,000

Question 50

What are the Loss Limitations on Rental Vacation Homes?

Answer 50

subject to the same presumption as hobbies, not engaged in the activity for profit

may have both personal and rental use of a vacation home

no rental expenses > rental income allowed, expenses deducted in same order as for hobby

Fewer than 15 rental days:
- no gross rental income
- no deductible rental expenses

More than 14 rental days:
- treatment depends on amount of personal use
- IF PERSONAL USE DAYS ARE NOT MORE THATN THE GREATER OF 14 DAYS OR 10% OF FAIR RENTAL DAYS, taxpayer CAN DEDUCT ALL EXPENSES allocate to rental use even if loss results

rental losses subject to passive loss rules

Question 51

What are the Hobby Rules?

Answer 51

profit activity, can deduct expenses FOR AGI even in excess of activity income

if profit 3 out of 5 years (2 out of 7 for horses), it is presumed that taxpayer has profit motive

Question 52

What is recourse and non-recourse debt?

Answer 52

Debt used for partnerships

recourse debt increases basis, taxpayer is personally liable to repay

non-recourse debt does not add to basis, debt is secured by the investment itself and is not an obligation of the investor (taxpayer)

Question 53

What is Material Participation?

Answer 53

taxpayer must meet one of the following:

• participates > 500 hrs/year OR
• taxpayer participation constitutes essentially all participation
• greater than 100 hrs and the most of any participant
• taxpayer participates for 100 hrs in activity and their total participation in all such activities > 500 hrs

suspended losses at risk
- if from “at-risk” activity, they are NOT DEDUCTIBLE until the at-risk amount is positive from additions or income
- if losses suspended under passive activity rules, losses are deductible upon disposition