Chapter 6 Flashcards
Business Expenses and Expenses for the Production of Income.
Reasonable compensation
Reasonable compensation may be loosely defined as that amount that would ordinarily be paid to an employee for similar services by similar companies operating in similar circumstances.
Health Insurance Premiums Paid on Behalf of Self-Employed Individuals
Generally health insurance premiums and expenses are itemized (below the line) deductions for individuals however in the case of self-employed individuals this is a above the line deduction.
Commuting Expenses
Normally commuting is a non-deductible expense, unless you have a home office. A temporary work location can lead to a deductible commute under certain circumstances. Essentially, a temporary work location is one that is expected to last for no longer than one year, and actually lasts for no longer than one year. If a taxpayer has a temporary work location that is outside the taxpayer’s metropolitan area, a trip from the taxpayer’s home to the temporary work location and back is deductible business transportation, rather than nondeductible commuting. However, if the temporary work location is within the taxpayer’s metropolitan area, additional rules apply.
Business Gifts
The deduction for business gifts that are ordinary and necessary business expenses will be disallowed to the extent they exceed $25 per donee. A husband and wife are considered one donor, and they are limited to $25 per donee. Gifts to spouses of business associates are deemed to be gifts to the business associate, unless the spouse is also a bona fide business associate of the taxpayer.
Gifts of admission tickets to business associates for such entertainment as the theater or sporting events are considered nondeductible entertainment expenses.
Entertainment Expenses
Prior to 2018, taxpayers could take a deduction for 50 percent of the expenses of entertaining prospective and current business clients at sporting, theater, and other entertainment events. Under the Tax Cuts and Jobs Act, beginning in 2018, entertainment expenses generally are not deductible.
The Qualified Business Income Deduction
A 20% deduction provision was enacted to give a tax break to individuals - including sole proprietors, owners of limited liability companies, partners in partnerships, owners of S corporations, trusts, and estates. While the flat 21% corporate income tax rate was made permanent in the tax law, this 20% deduction starts in 2018 and ends in 2025.
To arrive at the deduction amount (before the limitation for higher-income taxpayers), 20% is multiplied by the LESSER of:
• QBI (defined above);, OR
• The taxpayer’s taxable income (before the 20% deduction), less any net capital gain.
“Principal Place of Business”Test
In 1999, Congress provided a special avenue for taxpayers to qualify under the “principal place of business” test. Under this provision, a taxpayer can pass the principal place of business test if the taxpayer uses the home office for “administrative or management activities,” and there is no other fixed location where the tax- payer performs a substantial portion of such activities for the business conducted in the home office.
Renting a Vacation Home - Rental or Residence?
The vacation home will be treated for tax purposes as a rental property if the number of days that the home is used as a residence during the year does not exceed the greater of:
• 14 days, or
• 10 percent of the number of days during the year that the property is rented at fair market value.
If either of these standards are not met then the property is treated as a residence, not as a rental property, and the so-called “vacation home” rules apply.
How do the vacation home rules work?
The basic intent of these rules is that the taxpayer should not be permitted to claim a tax loss with respect to a property that is essentially a residence. In other words, deductions in excess of the income generated by the property are not permitted. To enforce this limitation, the gross income from the rental use is computed first. Next, that portion of mortgage interest and property taxes that is allocable to the days
of rental use is subtracted from the rental income. Next, any expenses such as advertising
and broker’s fees that are attributable solely to rental use are subtracted from the remaining income. The resulting figure is the maximum amount of expenses paid for depreciation, repairs, maintenance, and utilities for the property that is deductible. At any point in the calculation at which the rental income is reduced to zero, no further deductions are permitted. Any amounts disallowed by this calculation can be carried forward to future tax years subject to the same limitations.
THE “2 PERCENT FLOOR” ON MISCELLANEOUS ITEMIZED DEDUCTIONS
Miscellaneous itemized deductions generally will not be deductible from 2018 through 2025. Their deductibility resumes in 2026 and future years. Most miscellaneous itemized deductions can be deducted only to the extent that they exceed 2 percent of AGI for the taxable year. For example, if a taxpayer’s adjusted gross income is $100,000, miscellaneous itemized deductions are allowable only to the extent the total of such deductions exceeds $2,000. Miscellaneous itemized deductions may be defined as itemized deductions other than medical expenses, interest, taxes, charitable contributions, and casualty and theft losses. Miscellaneous itemized deductions are covered here because the majority of these are either employee business expenses or expenses for the production of income that are discussed in this chapter. Miscellaneous itemized deductions are generally subject to the 2 percent floor
Country club dues are deductible entertainment expenses if the use of the facility is primarily for furtherance of the taxpayer’s business.
False
Country club dues along with other entertainment expenses are not deductible.
QBI deductions may still be allowed for non-service businesses for taxpayers who exceed the income phaseout limitation, but is calculated differently from the QBI deduction for taxpayers under the phaseout income threshold.
True
A taxpayer has a choice between itemizing business transportation expenses or taking a standard mileage rate specified by the IRS.
True
Business deductions are allowed for an office in the home whether or not the office is used exclusively for the taxpayer’s business.
False
Deductions are generally available for an office at home only if the taxpayer uses the office exclusively for business.
A taxpayer who invited some of his business customers to his daughter’s wedding may deduct the cost of the wedding as a business entertainment expense.
False
Although the guests were mostly business customers, the expense would be denied because the event was not related to the taxpayer’s trade or business. Also, under the TCJA, entertainment expenses have been suspended.
