Chapter 5 Flashcards
Exclusions from Gross Income.
Whats are exclusions
An item that is not included in income:
- An item is not defined as income.
- An item is not taxable under the U.S. Constitution.
- An item is expressly excluded under a provision in the internal revenue code.
A gift is defined as a gratuitous transfer of property. To be considered a gift, the following elements are essential:
- A competent donor
- A clear intention on the donors behalf to make the gift
- A donee capable of receiving the gift
- Must be irrevocable
- A donor’s relinquishment of domain and control
Ultimately, the question of gift or compensation is resolved by reviewing the donor’s dominant reason for making the transfer.
Taxation of interest on:
Muni Bonds
U.S. treasury Bonds
Education savings bonds
Muni Bonds
- Generally free form federal taxation. States usually exempt tax on their own state issued bonds.
U.S. treasury Bonds
- ARE included in federal gross income. May be exempt from state or local tax.
Education Savings Bonds
- Not included in gross income if used for qualified higher educational expenses.
If a sale of a exempt security is SOLD at a gain or loss the proceeds could result in a taxable event.
True
Social Security and Railroad benefits (and similar like kind benefits)
Prior to 1984, Social Security and railroad retirement benefits were excluded from gross income.
Currently, recipients of Social Security and railroad retirement benefits may have up to 85 percent of their benefits subjected to tax. Sec. 86 of the Internal Revenue Code outlines the procedures for determining if a benefit is taxable.
Modified Adjusted Gross Income
Modified adjusted gross income is adjusted gross income with certain modifications. These modifications include the adding back of both tax-exempt interest received and the amount of deductible higher education expenses.
Social Security recipients should be aware that tax-exempt interest from municipal bonds and bond funds could indirectly increase the amount of Social Security benefits subject to tax.
What is provisional income?
Provisional income is defined as “modified adjusted gross income” plus one-half of the Social Security or tier 1 railroad retirement benefits.
Internal Revenue Secs. 104 through 106.
Deals with a variety of benefits that may be received tax free by individuals on account of injuries or sickness. Such benefits include: • medical expense reimbursement plans, • disability policies, • workers’ compensation acts, • certain damages, and • government disability programs.
LTC payments exclusion from gross income
As a medical expense reimbursement, long-term care reimbursements are excluded from gross income, subject to certain restrictions. For 2018, the exclusion for benefits paid from qualified long-term care insurance contracts is $360 per day per covered individual, as adjusted for inflation. Amounts in excess
of the daily exclusion are also excluded from gross income to the extent that actual long-term care expenses exceed the daily benefit and are not otherwise reimbursed.
A non-discrimination plan
To satisfy the nondiscrimination requirements for benefits, the same type and amount of benefits must be provided for all employees covered under the plan regardless of their compensation. In addition, the dependents of other employees cannot be treated less favorably than the dependents of highly-compensated individuals. However, because diagnostic procedures are not considered part of a self-funded plan for purposes of the nondiscrimination rule, a higher level of this type of benefit is permissible for highly-compensated employees.
The following employees would not affect a plans non-discrimination status:
- employees who have not completed 3 years of service
- employees who have not attained age 25
- part time employees (25 hours/week or less, 35 hours or less if full time workers in the same role complete significantly more hours)
- workers who work less than 7 months a year, season workers.
- employees covered by a collective bargaining agreement
Section 132 Fringe Benefits
Section 132 provides guidelines for a broad range of employer benefits. These fringe benefits fall into the following five major groups: no-additional-cost services, qualified employee dis- counts, working condition fringes, transportation fringes, and de minimis fringes.
No Additional-Cost Services
The value of services an employee receives from an employer for which the employer incurs no additional costs is tax-free. The best example is the airlines which allow employees and immediate family members to fly free on a stand-by basis. Another example is a hotel which allows employees to stay overnight free.
Qualified Employee Discounts
Discounts an employee receives from an employer are generally not taxable. For example, if Ann works at a department store and can purchase items at a 25% discount, Ann does not pay income or Social Security tax on this fringe benefit. If Ann works for a company that provides a service rather than a product, such as dry cleaning, Ann can receive a tax-free discount of up to 20% off the normal price.
Working Condition Fringes
Examples of working condition fringe benefits include:
• dues to professional organizations,
• subscriptions to professional journals,
• use of a company car to the extent it is business related,
• bodyguards in sensitive situations,
• business travel, and
• job related education expenses.
Transportation Fringes
Employees may exclude up to $260 per month of employer-provided parking, employer-provided transit passes, or employer-provided van pooling. Benefits provided by the employer in excess of $260 per month are included in the employee’s gross income.
De minimis Fringes
Items which are so small that accounting for them would be an administrative burden are considered tax-free de minimis fringes. Examples of de minimis fringes include:
• photocopying,
• typing of personal letters by the company’s secretary,
• use of company computers and printers for personal items,
• postage on occasional personal items,
• use of company materials, including reference materials,
• coffee and soda,
• birthday cakes,
• occasional lunch or supper money,
• company parties,
A gift of property must be in a form sufficient to vest legal title to the property in the donee.
True
A bequest of a specific sum paid in three or fewer installments is generally not taxable as income.
True
If damages paid pursuant to a lawsuit represent lost wages, they will generally be excludible from the recipient-taxpayer’s gross income.
False
Damages that are paid for lost wages are not excludible from gross income. Rather, damages paid for physical injuries are excludible under IRC Sec. 104, subject to special rules for punitive damages and damages for emotional distress.
Amounts received under workers’ compensation acts are excludible from gross income.
True
Benefits received by a single parent under a qualified dependent-care assistance program are included in the taxpayer’s gross income to the extent they exceed $2,500.
False
A single parent can exclude up to $5,000 of benefits under a qualified dependent-care assistance program.
The first-tier base amount for a married couple filing a joint return is $25,000 for purposes of determining the taxability of their Social Security benefits.
False
The amount is $32,000
A taxpayer who receives a jury award in a lawsuit for personal injuries of a physical nature can exclude the award from his or her gross income if no portion of the award is for punitive damages.
True
Employer-paid benefits for the loss of an arm, leg, or other bodily function are excludible from the gross income of the employee who receives the benefit.
True
If a gift of property is excludible from taxation, the income generated by the gift will also be treated as a gift and received tax free by the donee.
False
Income received from a gift is not subject to exclusion as a gift. If the income is otherwise taxable, it must be included in the donee’s gross income.
Income received from nongovernmental purpose bonds is subject to the alternative minimum tax.
True
Employer contributions to an accident and health plan are included in the gross income of the covered employees.
False
Employer contributions to an accident and health plan are not included in the gross income of employees.
Income from public purpose municipal bonds is exempt from federal income taxation.
True
Any gain realized on the sale of a tax-exempt municipal obligation is also tax exempt.
False
A tax-exempt municipal obligation means that the interest received may be excluded from gross income. If a gain is made on the sale of the municipal obligation, then the gain realized is currently taxable.
One essential element of a gift is that the donor be competent to make it.
True
Benefits received from an employer-financed medical expense plan are generally included in an employee’s gross income to the extent they provide reimbursement for the medical expenses of the employee’s dependents.
False
Employer-financed medical expense benefits are generally tax exempt if they provide reimbursement for the medical expenses of an employee or the employee’s spouse or dependents.
A taxpayer who personally purchases an individual disability income policy or major medical policy will not have to include the value of any benefits in income.
True
Interest on all U.S. Treasury obligations is tax exempt.
False
Interest earned on United States obligations is generally fully taxable as ordinary income unless the bond qualifies for the exclusion for Series EE bonds used to pay educational expenses.
Modified adjusted gross income, for purposes of determining the taxation of Social Security benefits, is generally defined as adjusted gross income plus tax-exempt interest income and the amount of deductible higher education expenses claimed by the taxpayer in determining AGI.
True
Benefits paid from qualified long-term care insurance contracts are excludible from gross income subject to certain limitations.
True
Distributions from an ABLE account are tax-free to the extent of the annual gift tax exclusion.
False
Distributions are entirely tax-free if made for qualified disability expenses and the amount of the distribution does not exceed qualified disability expenses. To the extent the distribution exceeds qualified disability expenses, the excess is taxed under Code Sec. 72 (using the exclusion ratio).
Under the rules for a self-funded medical-reimbursement plan, the plan will be discriminatory in favor of highly compensated employees if it reimburses those employees for a larger portion of their medical expenses than other employees are reimbursed.
True
If the yield for a tax-exempt investment is 7 percent, the equivalent yield for a taxable investment is 11.11 percent if a taxpayer has a marginal income tax rate of 37 percent.
True
