BU - Tax Flashcards
What is the flow of the tax formula - high level
Income
-minus exclusions
Gross income
-minus deductions FOR AGI
AGI
-minus deductions FROM AGI
Taxable Income
-multiplied tax rate
Gross Tax
-minus tax credits
Final tax due
-minus prepayments
Net tax payable or refund due
What is included in “income”
both taxable and non-taxable income from ANY source
What is gross income
income reduced by exclusions
includes wage, dividends, capital gains, business income, retirement distributions
What is AGI
measure of income that falls between Gross income and taxable income
it is important because it is used in tax computations
What is taxable income
AGI reduced by deductions FROM AGI
the amount of income that is taxed and is used to determine tax rates
What is gross tax?
the tax assessed against the money you earn
can be further reduced by applicable tax credits
What are exclusions from income?
exclusions are income that are not taxable
IF I ADDED SCAM PAM
Inheritances & gifts
Fringe benefits
Interest on education savings bonds (Series EE/I)
Accident & health plan - ER premiums
Death benefits (life insurance proceeds)
Dependent care assistance program (public assistance)
Education assistance program - up to $5250
Debt discharge - certain circumstances
Scholarship
Compensatory damage compensation
Accident & health plans - amounts received
Meals & lodging for EEs
Personal residence sale up to $250k/$500k
Adoption assistance program - up to $14890 (22) AGI phaseout
Municipal bond interest
AGI calculation
Gross income - deductions for AGI (above the line deductions or adjustments to income)
What are deductions for AGI (Above the line)
Be Ms Hearts
Business expenses
Educator expenses
Moving expenses
Self employment tax - ER portion
HSA & Health Ins. Premiums (SE)
Early withdrawal penalties
Alimony payments before 2019
Retirement account contributions
Traditional IRA contributions
Student loan interest
Itemized Deductions
Schedule A
Below the line or deductions FROM AGI
If filing MFS, and one itemizes, so will the other
- Unreimbursed medical/dental expenses - exceeding 7.5% of AGI
- Taxes paid: State, local and property taxes - up to $10k
- Interest paid: Mortgage interest paid on up to $750k and Investment interest limited to net investment income
- Gifts to Charity: cash limited to 60% of AGI, private and public different maxes
- Casualty/Theft losses: FEDERALLY DECLARED DISASTER, lesser of FMV or BASIS - Insurance PMT - $100 deductible; losses in excess of 10% AGI
Mortgage interest qualifies if you buy, build or substantially improve primary or secondary home
Standard Deduction
Higher if taxpayer is 65+ and/or blind
Tax Deductions v Tax Credits
Deductions reduces taxable income; credit lowers tax due
Deductions adjust before tax rates: credit adjusts after tax rates
Deductions reduce tax by marginal percentage; credit reduces tax due dollar to dollar
Deductions are more valuable to high income tax payers; credit benefit all tax payers
Refundable and non refundable credits
Refundable:
Earned Income Credit
Add’l child tax credit
American Opportunity Credit
Premium Tax Credit
Nonrefundable:
Child & Dependent Care Credit
Child Tax Credit
Retirement Savings Contribution Credit
Lifetime Learning Credit
Forgiveness of Debt is …
A taxable event
Tax Forms/Schedules & Functions
Form 1040 Individual Income Tax Return
Form 1040X 1040 Amended Tax Return
Form 1040ES Est. Tax for Individuals
Form 1041 Estates and Trusts
Form W-2 Wages & Taxes
Schedule 1 Add’l Income and Adjustments to Income
Schedule A Itemized Deductions
Schedule B Interest and Dividend Income
Schedule C Profit/Loss from Business
Schedule D Capital Gains/Losses
Schedule E Rental and Royalty Income
Schedule F Profit or Loss from Farming
Schedule H Household Employment Taxes
Schedule SE Self Employment Tax
Schedule K1 Partnership Distributions
706 Estate & GSTT
709 Gift & GSTT
1098 Mortgage Interest Statement
1099-DIV Dividends & Distributions
1099-INT Interest Income
1099-NEC Non-employee comp
1099-MISC Miscellaneous Income
1099-R Retirement Distributions
Form 4868 Extension of time to file
Form 5498 IRA contributions Individuals
Form 8606 Nondeductible IRAs
Tax Filing Status
Marital status on 12/31 determines the whole year
Sometimes more than one filing status may apply
Single - unmarried, divorces or legally separated
MFJ - married, spouse dies in current year
MFS - married & filing separately
HoH- unmarried, and taxpayer paid more than 1/2 of cost to keep up home for themselves and a qualifying person
Qualifying Widow(er) w/Dependent - spouse dies during tax year & a there is a dependent child
MFJ
Married & spouses agree to file
Income + deductions for both used
Not allowed in one spouse is a non-resident alien
Jointly + separately liable
Head of Household
Single or unmarried
Pay more than 1/2 housing costs
Qualifying child - lived w/taxpayer more than 1/2 the year
Qualifying relative - provided at least 50% annual living expenses
MFS
2 separate returns
Each spouse separate items + income, deduction and credits
If one itemizes, the other must too
Lose credits: Child & dependent care, earned income, adoption, AOTC, LLC, student loan interest
Reduced credits: child tax credit & savers credit
Must file when gross income exceeds $5
Widow(er)
Not married
Year of death = MFJ or MFS
Year 2 & 3 = QW if 50% of household expenses & claim qualifying child
Estimated Tax Payments
Form 1040-ES
May be required if taxpayer has income that doesn’t withhold taxes such as investment income, rents, self employment and capital gains.
To avoid penalty on underpaid amounts, the est. quarterly payments must be 25% the lesser of the following amounts:
- 90% of the tax liability shown on the current year return
- 100% of the tax liability shown on the previous year return if the AGI was $150k or less
If AGI is greater than $150k ($75k MFS), no penalty if quarterly payments equal:
- 110% of the prior year’s tax
- 90% of the current year’s tax
Tax Penalties Reasons (4)
Taxpayer does not:
File a tax return on time
Pay any taxes owed on time and in the right way
Prepare an accurate return
Provide accurate information returns
Types of Penalties
Negligence - Deficiency of tax liability if there was no intent to defraud
Fraud - taxpayer intends to defraud
Frivolous return - “go pound sand” written across the return
Failure to File -
Failure to Pay -
Understatement of liability - if the tax withheld from W-2 or estimated payments is less than required
Tax Penalty amounts
Negligence - 20% to the amount of deficiency
Fraud - 75% to the amount of deficiency
Frivolous Return - $5000
Failure to file - 5% of unpaid taxes for each month or part of month the return is late up to 25%
Failure to pay - .5% per month tax is unpaid up to 25%
Understatement of liability - based on amount of underpayment, when it was due and interest rate for underpayments published quarterly
Failures by the tax preparers:
to give copy to taxpayer $50/each
to signed returned $50/each
to provide identification number: $50/each
to retain copy or list: $50/each
to correct information: $50/each
to be diligent in determining eligibility for certain tax benefits: $545 for HoH or the following credits - dependent credits, add’l child tax credit, child tax credit, AOTC, Earned income tax credit, LLC
S Corp
Limited liability
Max 100 owners (members of a family may be treated as 1)
Only one class of ownership interests
Dividends are not taxed
C Corp
Limited liability
Two levels of income tax
Liquidation is taxable to corp and shareholders
Losses are not deductible by shareholders
Partnerships
Limited partners have protection from partnership’s debt
Must have at least 2 owners
Limited Liability Company
Limited liability
Sole Proprietorship
No limited liability
Only 1 owner
NO classes of ownership
Losses are deducted on the owner’s tax return
Self Employment Tax
Made up of social security and Medicare (12.4% & 2.9%)
If taxable income is more than $147K, then only the 2.9% applies to the excess (1.45 ER an 1.45 EE)
1/2 of the SE tax is adjusted to income on Schedule 1 (For AGI deduction)
1/2 of SE tax is subtracted from net earnings from self employment in the calculation of the max contribution to retirement
Calculate Self Employment Tax
- Get Net Earnings
- Multiply Net Earnings by .9235
- Multiply Step 2 by .153 to get SE tax
Remember to subtract 1/2 of the SE tax FOR AGI
Accounting Methods
Cash Method - recognizes expenses when they are paid and revenue when they are actually or constructively received
Constructive receipt - occurs when the funds are available without restrictions
Accrual Method - recognizes revenue when the “right to receive” exists (account receivables); recognizes expenses when the liability can be clearly established
Hybrid method - accrual for inventory purchases and sales of the inventory, but cash used for service portion
Inventory & Accounting Method
When prices are rising:
FIFO = higher profit, higher tax liability, realistic inventory value
LIFO = lower profit, lower tax liability, understated inventory value
When prices are falling:
FIFO = lower profit, lower tax liability, realistic inventory value
LIFO= higher profit, higher tax liability, overstated inventory value
Specific Identification: major advantage is that both inventory and COGS are accurate
Depreciation items and requirements
Tangible items such as: buildings, machinery, vehicles, furniture and equipment
Intangible items such as: patents, copyrights and computer software
Must meet ALL the following:
- must be property owned by the taxpayer
- must be used in business or income producing activity
- must have determinable useful life
- must be expected to last more than 1 year
Depreciation Types
Straight-line
- (Purchase Price - salvage value)/useful life = yearly deduction *except year 1 and last year*
Accelerated
- Used to increase cash flow or max deduction
- Adjusted basis x MACRS rate
Useful Life
ACHORN
Auto = 5 years
Computers = 5 years
Heavy Machines = 7 years
Office Furniture = 7 years
Residential Real Estate = 27.5 years
Non-residential Real Estate = 39 years
Depreciation Notes
Depreciation reduces the owner’s basis
Not Capital Assets
ACID
Accounts or note receivable from ordinary business
Copyrights (literary, musical or artistic composition, letter, memo)
Inventory or property held primarily for sale to customers
Depreciable property used in business (1231 assets)
Methods to Determine Cost Basis
FIFO - IRS default, cost determined from the shares that were purchased first
Avg Cost - determined by averaging all purchases
Specific ID - best and most powerful
Net Capital Gain =
Excess of net LTCG over net STCL
Netting Capital Gains process
- Separate short term and long term into baskets
- Net each basket
- Net the two baskets together
Taxation on LT and ST gains
Long-term - see tax tables Short-term - ordinary tax rates 3.8%
Net Investment Income tax can be triggered
Capital Gains
Taxable income determines LTCG tax rate 0/15/20 STCG is taxed at ordinary rates
Unrecaptured 1250 gains are taxed at 25% Collectibles = 28%
Net Investment Income tax of 3.8% could be triggered
$3000 Capital loss per year, ($1500 for MFS), allowed and excess can be carried over indefinitely
Net Investment Income
is the amount that gross investment income & cap gains net income exceeds the allowable deductions
will owe the tax if net investment income AND MAGI are over thresholds
Tax is the lesser of net investment income OR excess of the MAGI over threshold
Items NOT investment income
Wages Unemployment comp
Operating income from non passive business
Social security benefits
Alimony Tax-exempt interest
SE income
Distributions from certain qualified plans
Tax exempt interest on gov’t obligations
1231 Property - what is it and how is it taxed?
Property that is used in trade or business AND Property held for the production of income
Gains are taxed at capital gains
Losses are taxed as ordinary losses
1231 parts
1245 - personalty (furniture, computers, carpet)
1250 - realty (buildings, barns, rental property)
1245 Property Taxation
- Original cost - depreciation = adjusted basis
- If the property is sold below adjusted bass > reported as ordinary loss
- If the property is sold between adjusted basis > the amount over adjusted basis will be recaptured as ordinary income
- If the property is sold above original cost > the amount above adjusted basis will still be recaptured at ordinary income , but the amount over the original cost will be taxed as capital gains
1250 Property Taxation
- Original cost - depreciation = adjusted basis
- If the property is sold below adjusted bass > reported as ordinary loss
- If the property is sold between adjusted basis > the amount over adjusted basis will taxed at 25% (unrecaptured gain)
- If the property is sold above original cost > the amount above adjusted basis will still be taxed at 25% (unrecaptured gain), but the amount over the original cost will be taxed as capital gains
Section 1031: Like Kind Exchanges
Allows for the deferral of gain or loss recognition on realty for realty exchanges
Only applies to 1231 property, and must be realty for realty
Boot is non-qualifying property
Boot kicks in tax
Section 1031: Time Requirements
The taxpayer has 45 days from the date of transfer to identify potential replacement properties
The replacement must be received and the exchange completed no later than whichever is earlier:
- 180 days after the transfer of the original property OR
- the due date (with extensions) of the tax return for the tax year in which the transfer of original property occurs
Section 1031: Definitions
- Amount Realized: FMV of qualifying property received +/- net boot
- Realized Gain: the amount realized - the basis of the property transferred
- Recognized Gain: the lesser of realized gain or net boot received******
- Deferred Gain: the realized gain - recognized gain
- Substituted basis: FMV of qualifying property received - the deferred gain
Section 267: Related Party Transaction
Related person: spouse, child, grandchild, parent, sibling, entities where taxpayer owns more than 50% of the stock
Gains are treated normally
Losses will not be recognized until asset is sold to an unrelated party
Losses may be allowed, partially allowed or disallowed.
The related party purchaser is who has a chance to use the loss
What entities are “pass-through”
S-Corp, Partnerships, LLC
At-Risk Rule
applies before the passive activity rules
states that he taxpayer can only deduct losses to the extent that there is enough basis (amount at risk)
If a loss passes the at-risk rules, THEN the loss will be subject to the passive activity rules
What are the two types of interests in passive activities
Private interests - LLC, partnership or S-corp
Public interests - publicly traded partnership
How do you handle Private interests and PTPs losses
- Separate private interests from PTPs
- Private interest passive losses are allowed to be netted against all private interest passive income, Losses can not exceed income
- PTPs income can ONLY be netted against PTP losses from the SAME PTP. You can only do this by netting current year PTP income against a prior suspended loss from the same PTP
passive activity rules
passive losses can only used to the extent of passive income
excess passive losses will be suspended
Rental activities are considered passive activities except when…
taxpayer ownership is at least 10% of the property AND substantial involvement in managing the property
Actively participate in rental real estate can deduct up to
$25k loss if MAGI is equal to or less than $100k
$25k is phased-out if MAGI is $100k-$150k
no loss allowed if MAGI is over $150k
Active participant: Real Estate Loss Deduction Calculation
(150k - MAGI)/2 = max loss allowed
3 categories for tax treatment of property
Personal Use
Rental Use
Mixed Use
Personal Use requirements of property
Rented for less than 14 days
Not required to report rental income
Can deduct mortgage interest and taxes as itemized deduction
only applies to primary and vacation home
Rental Use Property requirements
Personal Use is less than 14 days or 10% of days rented
Trips to property for maintenance and repairs do not count as personal usage
All expenses allocated to the property are allowed and the property can produce passive losses subject to the passive activity rules
Mixed Use property requirements
Personal use is more than 14 days or 10% of days rented
Expenses must be allocated between personal and rental use
Deductions are limited to gross rental income
Unused losses are carried forward to future years
Determining Rental property category
Is rental use less than 14 days? Yes then personal use
Is personal use less than 14 days or 10% of days rented? yes than rental use
If no, then mixed.
Section 121: Personal residence Sale Exclusion
Cannot recognize loss for personal residence sale
Exclusion can be used every 2 years (730 days)
Taxpayer must meet both usage and ownership test
If married, both spouses have to pass the usage test and 1 spouse must meet the ownership test
Taxpayer who do not meet the ownership or usage test, or use the the exclusion more than once within 730 days, may qualify for reduced exclusion
IRC lists the following as acceptable reasons for a reduced exclusion:
- Job relocation
- Employment change leaves you unable to pay your living expenses
- Qualifying for unemployment benefits
- Health issues
- Divorce or legal separation
- Birth of twins or other multiples
- Damage to home from disaster
- Condemnation or seizure of the property
- Other unforeseen circumstances
Section 121 Reduced exclusion
(#of days or months in home)/(either 730 days or 24 months) x 250k (or $500k) exclusion to get the prorated exclusion
Section 121 Usage and Ownership Tests
Single taxpayer
must have owned the home for 2 years out of the last 5 years and used it for 2 out of the last 5 years
Married taxpayers
One must have owned the home for 2 years out of the last 5 years and both must have used it for 2 out of the last 5 years
Charitable Contributions: Record keeping requirements
Gifts less than $250 require a receipt
Gifts more than $250 require a donor letter
Donor responsible for obtaining written communication from organization
Charitable Contributions: Services
Can only deduct un reimbursed expenses incurred
Examples: unreimbursed transportation expenses, lodging, meals while away from home
Mileage can be deducted at .14/mile rate
Services are not deductible
Charitable Contributions: Auctions
Purchase price minus FMV = contribution deduction
Charitable Contributions: Use Related and Use UnRelated
Related: charity makes use of the donated property in a manner consistent with exempt purpose
Deduction is 30% of FMV or 50% of cost basis
Unrelated: charity uses property in a way unrelated to the exempt purpose (art given to school that will not use it for education purposes)
Deduction is the lesser of cost basis or FMV
Charitable Contributions: Types and Max Deductions
Cash - no valuation needed, 60% for public and 30% for private
LTCG - Donor elects FMV (30% public and 20% private) or Basis (50% public and 30% private)
Ordinary - capital assets held for less than 12 months, or property created by donor, inventory 50% public and 30% for private)
Charitable Contributions: Carryover
Contribution in excess of AGI limit in the current year can be carried over for 5 succeeding years
Subject to the original percentage limits in the carryover years
Deducted after deducting current year contributions
Carryovers 2+ years, the earliest carry over is used first
Alimony Recapture: conceptual
This only applies for alimony agreements before 2019 & alimony payments decrease or stop during the first 3 years
If applicable, the payor will have to include in income in the 3rd year (previously deducted) & payee can deduct from income in the 3rd year (previously reported as income)
Alimony Recapture: test and calculations
Is P1 - P2 > $7500? AND Is P2-P3 > $15K
If no - then no alimony recapture require, did not front load
If yes - then decide which calculation to use
- P2-P3 >$15000 then use P1 + P2 - 2(P3) - $37,500 = recaptured
- P2-P3=$15000 then use P1 - [(P2 + P3) / 2] - $15,000 = recaptured
Imputed Interest Income: conceptual
The IRS authorized to impute an interest charge if the taxpayer charges less than adequate
IRS looks closely at gift loans, corporate shareholders loans and compensation related loans greater than $10k
Exceptions are loans or gifts less than $10k, debt subject to original issue discount provisions, sales of property less than $3k and when all payments are due within 6 months
When do apply imputed interest income
Loan amount = $10k or less then no imputes
Loan amount = $10k-$100k then it is the lesser of NII and AFR (if NII is $1000 or less, no imputed interest)
Loan amount = $100k+ then the AFR is used
Alternative Minimum Tax: conceptual
AMT applies to taxpayers with high economic income by setting a limit to ensure those taxpayers at least pay a minimum tax
Applies to individuals, corporate and trust tax returns
When AMT exceeds regular tax liability, the difference is known as AMT payable
If a taxpayer is subject to AMT in the current tax year:
- Accelerate income* into the AMT year
- Defer tax deductions* until a regular tax year
The optimal strategy would be to do as above until the AMT liability equals the regular tax liability.
Alternative Minimum Tax: calculation flow
Regular taxable income
Add in tax preference items
Add in standard deduction (if TP does not itemize)
Add/Subtract AMT adjustments and tax preference items
= AMTI (Alternative Minimum Taxable Income)
Subtract Exemption Amounts (phased out)
= AMT Bases
X AMT tax rates
= Gross AMT Tax
Subtract AMT foreign tax credit
= Tentative Minimum Tax
Subtract Regular tax liability
= AMT
Foreign Accounts: When are you required to file an FBAR
Foreign Bank and Financial Accounts
When US person has a financial interest in or signature authority over at least one account outside the US
and
The aggregate value exceeds $10k at any time during the year
Must file FinCEN Form 114 by tax deadline (Financial Crimes Enforcement Network)
Foreign Accounts: When are you required to file Form 8938
US Taxpayer holds financial assets outside the US of certain threshold - due with 1040
Financial accounts include: savings, deposit, checking and brokerage accounts held with a bank or broker
Thresholds:
MFJ (US residents) $100k on last day or $150k at any point
MFS or Single (US resident) $50k on last day or $75k at any point
MFJ (non US) $400k on the last day or $600k at any point
MFS or Single (non US) $200k on last day or $300k at any point
Kiddie Tax applies to…
dependent children under 19 or full-time students under 24 that is claimed as a dependent by parents
Kiddie Tax: Earned Income v. Unearned Income
Earned: wages, tips, professional fees, any amount received for performing work
Unearned: interest, dividends, capital gains, rents, royalties
Distributions of unearned income from a trust are also unearned income to a beneficiary of a trust
Kiddie Tax: Standard deduction for dependent
$1150 or earned income + $350, but not more than the standard deduction for single
Kiddie Tax: calculation of just unearned income
Unearned Income - $1150
next $1150 is taxed at 10%
Remaining is taxed at parents tax rate, this is the “kiddie tax”
Add the $115 to the “kiddie tax” to get total tax due
Kiddie Tax: calculation of just earned and unearned income
Step 1: Gross Income (this is earned + unearned) Minus the standard deduction (this is the greater of the $1150 or earned income +350) = Child’s taxable income
Step 2: (Unearned income - $2300) x parent’s tax rate = parent’s tax due
Step 3: (Child’s taxable income - amount taxed at parent’s rate) x 10% = Child’s tax due
Step 4: Add parent’s tax due + child’s tax due = total tax due
If an expenditure either improves the efficiency of an asset or extends the life of an asset beyond the end of the year
the expenditure should generally be capitalized.
Corporate charitable deductions are limited to _____ of the corporation’s taxable income for the year.
25%
Application form to change accounting periods
Form 1128
Qualifying child must meet these tests
Relationship
Age
Abode
Support
S Corp and Personal Services adopt this accounting period
calendar year
Criminal tax fraud carries a max penalty of
$100k and prison up to 5 years, or both.
Statue of Limitation for tax return
3 years from the date the tax return was filed
6 year if tax payer omits items of gross income in total excess of 25% of gross income
Unlimited/indefinite if fraud
Section 179 Expense Election
only pertains to property used in trade or business NOT for property for the production of income
$1,080,000 max amount is reduced dollar for dollar to the extent the firm exceeds $2.7M in capital spending
The deduction of any elected 179 expense is limited to the firm’s net profit, not including 179 expenses
Any elected 179 expense that is limited by profitability can be carried over to next year’s taxes
For purpose of profitability, a sole-pro can aggregate net business profit with unrelated W-2 wages
