Chapter 17- (2Qs) Tax Considerations Flashcards
Regressive vs Progressive taxes
Regressive- Levied at the same rate regardless of income level
Eats up a larger fraction of the poor’s expendable income because they spend more of their salable income
Progressive- Increase with income
Marginal Tax rate is the tax rate paid for the next dollar received
Alimony
Payment under a divorce court order to an ex-spouse
Usually deductible for spouse making payment and includable for spouse receiving
Eligible to be made as an IRA contribution
Child Support
NOT Allimony
Not deductible by parent paying or includable in income by recipient
Passive income
Income from rental property, LPs and enterprises where individual is not an active participant
Rental property is not considered so if used for GREATER of 14 days or 10% of total days property is rented
Dividend Income
Qualified dividends are taxed at a maximum rate of 15%
Non-Qualified are taxed as ordinary income
Interest
Interest received from a debt security is taxed at ordinary income level
Unless it is federal (exempt from state) or a municipal (exempt from Fed and maybe state) issues.
Taxation of Reinvested Distributions
Taxable even though the cash is reinvested
Must split out dividends and capital gains (reported on the 1099)
Capital gains distributions are usually taxed as long term gains
Whole amount reinvested is not taxed again, increases cost basis
Retirement Plan Distributions
Taxed at ordinary income tax rate unless:
Taken before 59 1/2 (10% withdrawl fee)
Not taken before April 1st the year following reaching 70.5
Roth
Alternative Minimum Tax
Items that must be added back into taxable income:
- Accelerated depreciation on property placed in service in 1986
- LPP costs such as research and development
- Local tax and interest on non income producing investments
- Private purpose municipal bonds
- Incentive stock options that are buyable below FMV
Must pay higher of AMT or regular tax unless exempt due to income level
Margin Expenses
Margin interest is tax deductible unless margin was used to purchase muni’s
Cannot exceed interest income, dividends and cap gains
Effective tax rate
Marginal tax rate is not paid on whole amount
Only paid on amount over a specific level
Effective tax rate is average amount paid on ordinary income
Filing Status
Based on marital status as of the last day of the year
Best to file jointly or head of household if those apply
Death benefit from an insurance policy
Not taxable to the beneficiary of a policy unless over estate tax limit
Premiums are generally non deductible
IF however the policy is acquired by or transferred to an irrevocable life insurance trust, you may be able to deduct the premium as a gift
Insurance policy taxation
Loaned cash is not considered taxable
Cash value over cost basis from a policy surrender is considered taxable
Partial withdrawals are not usually taxable unlike an annuity
Net Capital Gains and Losses
Short term Net
Long term Net
=Overall capital gain
Capital Losses can be carried forward if over the maximum 3,000 a year
Which Shares are sold
3 methods
FIFO- Shares held longest are sold (not good for rising market)
Share identification- Most commonly used for stock sales, must keep track of cost basis
Average cost basis- May only be used for mutual funds, may not change from without IRS permission
Wash Sale
May not use capital losses to offset gains if purchasing the same or subtantially the same security within 30 days
Loss is carried to new cost basis though
Substantially identical= stock rights, call options, warrants and convertible securities
For debt, if one of the following three are different then ok:
Issuer
Maturity
Coupon
Gifts
Gifted securities carryover the basis
If it is a charitable gift, the person gifting would receive FMV of securities as deduction
Inherited Securities
Heirs receive shares at FMV in date of death
Does not apply with annuities
Sale of a residence
If it is the primary residence, you do not recognize the first 500,000 in profit or 250,000 for single
Must live in 2 out of past 5 years
Long term capital gain if over
Business Taxations
Sole Proprietor- Report on Schedule C on individuals tax return date
Partnerships- Schedule 1065 is filed with Schedule K-1s for each partner indicating their share of profit/loss
LLC- Not a taxable entity, must file as corporation, partnership or sole proprietorship. Same filing procedure if filling as any of the above
Corporation- C corp would file its own return on form 1120. Dividends are double taxed if paid out.
S corp- Taxed like partnership only file on 1120s
Dividends paid to other corporations holding your stock are 70% tax deductible (avoids triple taxation)
Tax filling dates
Partnerships and Multi Member LLCs- Form 1065 and K-1s due on March 15 and are to be paid on March 15th
C Corp- May choose a different fiscal year.
Taxes are due on 4th month 15th day after end of fiscal year
Reported on 1120
Sole P- Schedule C, April 15th
Trust taxation
Considered a legal person
Non-distributed income is taxed at highest rate if in excess of 12,400
Distributable Net Income is reduced by fees paid for buying and selling securities
Reinvested capital gains are not distributable income
If not distributed to beneficiaries, beneficiaries are still taxed
Portability of unused tax exemption
Allows for both spouses to use federal exemption for estate tax
Each person is given lifetime 5.45 million estate exemption on death
Spouses have unlimited exemption
Gifts during life lower estate exemption
Generation Skipping trusts
Allows for assets to be distributed to grandchildren overtime by parents
The value of the estate is calculated based on what the assets were worth going in
If parent distributing dies, the trustee has to pay Generation-skipping transfer tax
Direct Skip
Asset left directly to a beneficiary two generations below
Donor has to pay a generation-skipping transfer tax
Estate Tax
Imposed on transfer of substantial assets at death
Avoided if to a spouse or charity
Gross Estate vs Taxable Estate
Gross Estate -
Funeral expense, charity, and debts of descendent = Adjusted Gross Estate
- unlimited marital and charitable deductions
= Taxable estate
Alternative Valuation date
Executor may choose date of death or 6 months later
If asset is sold below appraised value but at FMV then FMV is used.
FMV would not be a forced sale price or a price significantly below actual value
Estate Tax Pay date
No later than 9 months after death
Can request extension but will have to pay interest on amount owed
Estate tax computation on form 706
If income and capital gains are generated, the nondistribbuted income will be taxed like a trust (max over 12,300)
Form 1041 is used for estate income tax
Taxation of gifts
May give up to $14,000 per year (FMV)
Non-US spouses may be subject to gift tax
May give up to 5.45 during life of donor without incurring gift tax (total)
Anything over 14,000 in a year, donor must file form 709
Taxation of Foreign Securities
If taxes are withheld by another country, may use that amount as a credit against current income
Stock dividend Taxation
Investors are not subject to tax
Cost basis is shifted downward
100 shares owned at cost of 50
10 share stock dividend
110 share owned at 5000/110
