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Income Tax > Chapter 16 - Investment and Personal Financial Planning > Flashcards

Chapter 16 - Investment and Personal Financial Planning Flashcards

1
Q

Define Accelerated Death Benefits

A

Payments made under a life insurance contract to ensured individuals who are terminally or chronically ill.

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2
Q

Define Annual Gift Tax Exclusion

A

The annual amount that a donor can give to each done that is excluded from taxable gifts.

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3
Q

Define Capital Gain Distribution

A

A distribution of long-term capital gain recognized by a mutual fund to investors in the fund.

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4
Q

Define Cash Surrender Value

A

The amount paid to the owner of a life insurance policy on the liquidation of the policy.

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5
Q

Define Collectibles

A

Tangible capital assets such as works of art, antiques, gems, stamps, and coins.

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6
Q

Define Donee

A

An individual or organization that receives a gift

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7
Q

Define Donor

A

An individual who makes a gift

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8
Q

Define Inside Buildup

A

Annual increase in value of a life insurance or annuity contract.

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9
Q

Define Inter Vivos Transfer

A

A transfer of property occurring during the life of the property owner.

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10
Q

Define Investment Interest Expense

A

Interest paid by an individual on debt incurred to purchase or carry investment property.

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11
Q

Define Lifetime Transfer Tax Exclusion

A

The cumulative amount of transfers that an individual can make during life or at death without incurring federal transfer tax.

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12
Q

Define Long-Term Capital Gain or Loss

A

Gain or loss resulting from the sale or exchange of a capital asset owned for more than one year.

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13
Q

Define Market Discount

A

The excess of a bond’s stated redemption value over the price paid for the bond in a market transaction.

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14
Q

Define Material Participation

A

An owner’s regular, continual, and substantial involvement in the day-to-day operation of an active business.

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15
Q

Define Mutual Fund

A

A diversified portfolio of securities owned and managed by a regulated investment company.

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16
Q

Define Net Investment Income

A

Income from investment assets reduced by expenses directly related to the production of investment income.

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17
Q

Define Nonbusiness Bad Debt

A

An uncollectible debt held by an individual creditor that is unrelated to the individual’s business.

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18
Q

Define Original Issue Discount (OID)

A

The excess of a bond’s stated redemption value over the issue price.

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19
Q

Define Passive Activity

A

An individual’s interest in (1) an active business in which the individual does not materially participate or (2) rental activity.

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20
Q

Define Passive Income Generator (PIG)

A

A interest in a profitable passive activity.

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21
Q

Define Private Activity Bonds

A

Tax-exempt bonds issued by state or local governments for nongovernmental purposes such as industrial development.

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22
Q

Define Probate Estate

A

Property owned by a decedent and disposed according to the terms of a valid will or state intestacy laws.

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23
Q

Define Qualified Dividend Income

A

Dividends received from taxable domestic corporations and certain qualified foreign corporations eligible for a preferential individual tax rate.

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24
Q

Define Qualified Small Business Stock

A

Stock in a corporate business that meets certain statutory requirements. Individuals who recognize gain on qualified small business stock may be eligible to exclude 50, 75, or 100 percent of the gain from income.

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25
Q

Define Rental Activity

A

An activity where payments are principally for the use of tangible property for an extended period of time. Rental activities are passive activities.

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26
Q

Define Reorganization

A

A statutorily defined transaction in which one corporation acquires another, one corporation divides into two corporations, or a corporation changes its capital structure.

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27
Q

Define Section 1244 Stock

A

The first $1 million of stock issued by a corporation for cash or property. Some portion of the loss on the disposition of Section 1244 is ordinary to individual investors.

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28
Q

Define Securities

A

Financial instruments including equity interests in business organizations and creditor interests such as savings accounts, notes, and bonds.

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29
Q

Define Series EE Savings Bonds

A

Long-term debt instruments issued by the U.S. government at a discount.

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30
Q

Define Short-Term Capital Gain or Loss

A

Gain or loss resulting from the sale or exchange of a capital asset owned for one year or less.

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31
Q

Define Taxable Estate

A

The aggregate fair market value of property owned by a decedent or transferred because of the decedent’s death reduced by allowable deductions

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32
Q

Define Testamentary Transfer

A

A transfer of property occurring on the death of a property owner

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33
Q

Define Treasury Inflation-Protected Securities (TIPS)

A

Long-term U.S. debt instruments with a fixed interest rate on an inflation-adjusted principal amount.

34
Q

Define 28% Rate Gain or Loss

A

Long-term capital gain or loss rom the sale or exchange of collectibles or qualified small business stock.

35
Q

Define Unearned Income Medicare Contribution Tax

A

A 3.8% tax on an individual taxpayer’s net investment income, the revenues from which are earmarked for the Medicare trust funds.

36
Q

Define Unlimited Marital Deduction

A

A deduction in the computation of a decedent’s taxable estate equal to the value of property transferred to the decedent’s surviving spouse.

37
Q

Define Unrecaptured Section 1250 Gain

A

Section 1231 gain on the sale of business realty that would be recaptured as ordinary income under the full recapture rule.

38
Q

Where does the distinction between business and investment activities lie?

A

The extent of the individual’s personal involvement in the activity.

39
Q

What are financial assets?

A

Legal claims on the production assets owned by a business entity or other organization. They are intangible property rights. (CDs, bonds, etc)

40
Q

What does the worth of a financial asset depend upon?

A

The underlying value oft he production assets subject to their claim.

41
Q

For cash basis taxpayers, when do individuals recognize dividend or interest income?

A

In the year in which they actually or constructively received payment

42
Q

What are dividends and interest characterized as?

A

Ordinary income, and income interest is taxed at regular individual rates.

43
Q

Which kind of dividend is subject to a preferential rate structure?

A

Qualified Dividend Income.

44
Q

Who generally does and does not tax you on the interest earned from tax-free bonds?

A

The federal government does NOT tax you

State and local governments COULD tax you

45
Q

On what basis are treasury bills issue upon and how are they payable?

A

They are issued on a discount basis.

They are payable at a fixed maturity date

46
Q

What is the range of maturity periods that treasury bills can have? Treasury notes? Treasury Bonds?

A

Bills - Less than 1 Year
Notes 1 -10 years
Bonds - 10 -30 years

47
Q

How are Treasury notes and bonds issued? Bear? Are payable?

A

Issued at face value
Bear a fixed rate of interest
Payable at six-month intervals.

48
Q

How are TIPS payable?

A

At a fixed rate of interest on a principal amount adjusted semiannually for inflation or deflation based on the Consumer Price Index.

49
Q

How is the interest issued on US government debt instruments taxed?

A

By the federal government

Not buy the state or local governments.

50
Q

When do cash basis taxpayers who purchase short-term debt obligations at a discount recognize the income?

A

When the obligation matures.

51
Q

What must purchasers of bonds do to avoid the requirement of accruing the market discount as interest income over the life of the bond.

A

Purchase the bond in a market transaction at a lower price than the bond’s stated redemption value at maturity.

52
Q

What is the investment element of a life insurance policy called?

A

Cash surrender value

53
Q

If a person liquidated a whole life insurance policy (for instance), what would be the basis for any tax? How is it taxed?

A
  • He would liquidate for its cash surrender value, in this case the owner recognizes the excess cash surrender value over his investment in the policy (total premiums paid)
  • As ordinary income
54
Q

What can make life insurance contracts a tax-preferred investment?

A

The deferral of tax on inside buildup

55
Q

What are the tax implications of a life insurance policy held till the death of the insured

A

The beneficiary excludes the death benefit from gross income and the accumulated return on the owner’s investment in the life insurance contract escapes tax entirely.

56
Q

How can the maximum tax benefit of a life insurance policy be applicable without the insured having died?

A

With accelerated death benefits. The premature payments are classified as nontaxable death benefits.

57
Q

What portion of an annuity contract payment is taxed? As what?

A
  • The portion of each annuity payment representing a distribution of accumulated earnings.
  • As ordinary income.
58
Q

What portion of an annuity contract payment is nontaxable?

A

The portion representing a return of the owner’s investment

59
Q

How long will a person receiving annuity payments have an apply the exclusion ratio?

A

Until they recover their entire $75,000

60
Q

What happens if an individual receiving annuity payments dies before recovering their entire investment?

A

The unrecovered portion is allowed as an itemized deduction on their final Form 1040

61
Q

What does a life insurance contract protect against vs. an annuity contract?

A

Dying to soon vs. living too long.

62
Q

What does the cost basis of a security include?

A
  • The price of the securities

- Any front-end fees or load charges. (thereby raising the cost basis and reducing the possible gain to be taxed)

63
Q

What affect to the following activities have on cost basis:

  • Reinvest dividends
  • Receives a nontaxable distribution with respect to shares of stock
  • OID income accrues on a debt instrument.
  • Inflation adjusted debt instrument increases principal value
A
  • Increases the cost basis
  • Decreases the cost basis
  • Increases the cost basis
  • Increase the cost basis
64
Q

Why could the gain realized on the sale of a security not the same as the amount of money made investing in a security?

A

The gain is reduced by the reinvested dividend cost basis where that really is additional money made.

65
Q

If an investor sells some securities but can’t identify which specific shares where sold (and their specific cost basis) how is the basis determined? What method is now available to individuals who sell mutual funs or shares of stock acquired after 2010?

A
  • By a First In, First Out Method (FIFO)

- Average cost basis method

66
Q

Besides capital losses resulting from the sale or exchange of capital assets, what two other events result in a capital loss?

A
  • When an investor determines that a security has become worthless during the year. This event is treated as a deemed sale of the security on the last day of the year for an amount realized of zero.
  • When an individual who loaded money to another party determines that the debt is uncollectible. The unpaid balance of the nonbusiness bad debt is recognized as a capital loss.
67
Q

How is the capital loss from a nonbusiness bad debt classified?

A

A short-term loss, regardless of the time period of the debt.

68
Q

What is the term for the summation of a person’s net short-term gain and net long-term gain?

A

Net Capital Gain

69
Q

How are long term gains categorized as 28 percent rain gain taxed?

A

A maximum rate of 28%, therefore only beneficial if the regular rate that would apply to such gain exceeds 28%.

70
Q

How is a person’s Net Capital Loss treated?

A

Only $3,000 of the net capital loss can be used to reduce taxable income in a tax year. The nondeductible portion of the loss is carried forward indefinitely to be combined with the individual’s future capital gains and losses. Carryforwards retain their character as short-term or long-term loss.

71
Q

How long do individuals need to hold qualified small business stock for them to qualify to realize the capital gain rate when they sell of exchange that stock?

A

5 years.

72
Q

Who can own qualified small business stock?

A

Only individuals that it was issued to originally in exchange for money, property, or services rendered to the issuing company.
-Individuals can’t purchase qualified business stock from other shareholders.

73
Q

In relation to investment assets, what kind of expenses can be deducted?

A

Ordinary and necessary expenses paid or incurred for the management, conservation, or maintenance of an investment property.

74
Q

When does the classification of a business interest (general or passive partner) have tax consequences? How?

A

If the business operates at a loss.
The owner of the passive activity can deduct the loss only to the extent of income generated by other passive activities. Any disallowed loss is carried forward as suspended passive activity loss.

75
Q

What are the three components of the transfer tax system?

A

The gift tax
The estate tax
The generation-skipping transfer tax.

76
Q

When is gift tax levied?

A

On the transfer of property by an individual during their life for which the transferor does not receive adequate consideration in money or money’s worth.

77
Q

What is the name for the amount of money every donor can give to any done that is excluded from the donor’s taxable gifts for the year called?

A

A de minimis amount.

78
Q

Why might gift tax not be paid on taxable transfers that exceed the annual exclusion amount?

A

Because they do not have to pay it until the cumulative amount of taxable gifts made during the donor’s lifetime exceeds a lifetime transfer tax exclusion.

79
Q

What is the tax rate on the amount of gifts in excess of the lifetime exclusion?

A

40%

80
Q

When is estate tax due?

A

Within 9 months of the date of death.

-There are extensions to both filing and payment deadlines.

81
Q

When does the cost basis of a security holding step up (or down) during a transfer?

A

When the transfer happens because of death. It gets bumped to the FMV on the day of death.

Income Tax (11 decks)

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