EA Indviduals Review - Part 3 Flashcards
Casualty and Theft Losses
Damage, destruction, or loss of property resulting from an identifiable event that is sudden, unexpected, or unusual.
Losses that do not qualify:
- Damage by pets
- Progressive deterioration
- Car accident
- Arson if committed by or on behalf of taxpayer
- Accidental breakage of china
- Losses in real estate value form market fluctuations
- Loss of property, unless it is result of sudden, unexpected, and unusual event
To Deduct Casualty and Theft Losses
Must prove:
- Type of casualty loss and date of occurrence
- Taxpayer was legal owner of the property
- Whether the loss was subject to insurance reimbursement
“Single event rule”
When calculating decrease in FMV of property the following is not considered:
- Actually replacement cost
- Item’s sentimental value
- Related expenses such as cost of temporary housing or rental car
- A decline in market value or property near a casualty area
Reporting a Casualty Loss or Gain
Must complete Form 4684, can only be claimed if taxpayer itemizes deductions
Replacement period begins on the date the property was damaged, destroyed, or stolen and ends 2 yrs after the close of the 1st tax year in which any part of the gain is realized . If main home or contents is located in a federally declared disaster area, the replacement period is 4 yrs.
Nonbusiness Casualty Loss Limits
$100 Rule - Deductible only to the extent that it exceeds $100. Taxpayer has to reduce total loss for each event by $100.
10% Rule - Taxpayer can deduct the total of all loss during the year (after reduction of 100$) only to the extent the total is more than 10% of his AGI. Rule does not apply to a net disaster loss within a federally declared disaster area.
MFJ who have a loss form the same event are treated as if they are one person
1. Calculate the lesser of the FMV or adjusted basis of the item prior to the loss
2. Subtract any payments/reimbursements from insurance
3. Subtract 100$ for each event
4. Subtract 10% of taxpayer’s AGI
Insurance Reimbursements
Taxpayers can deduct qualified casualty and theft losses to their homes, household items, and vehicles. IF the property is covered by insurance, a taxpayer can’t deduct a loss unless he files a claim for reimbursement. IF the taxpayer decides not to file an insurance claim but has a deductible, he can claim the amount of the insurance deductible as his loss
Taxpayer does not have to reduce his casualty loss by insurance payments received to cover living expenses in the following situations:
- When a taxpayer loses use of main home bc of a casualty
- When gov’t authorities do not allow a taxpayer access to his main home bc of a casualty or a threat of one.
Theft Losses
Theft loss may be deducted in the year is discovered, regardless of when it actually occurred. If property is later recovered, the recovery must be reported as income in year it is recovered, but only to amount that was reduced in tax in earlier years.
Insurance Cost
Cost of insurance or other protection is not deductible as a casualty loss, but it is deductible as a business expense by business taxpayers
Miscellaneous Expenses Subject to the 2% Limit
Unreimbursed Employee Business Expenses - Certain work related expenses can be deducted as itemized deductions
- Must be paid or incurred during the tax year
- Must be for carrying on the business of being an employee
- Must be “ordinary and necessary”
Meals and Entertainment Expenses
- Main purpose of the meal or entertainment was active conduct of business
- Taxpayer conducted business during entertainment period
- Taxpayer had more than a gen3eral expectation of some other specific business benefit at a future time
Employee Travel Expenses
- Going from one work location to another in the course of business
- Visiting clients or customers
- Going to a business meeting away from the regular workplace
- Traveling from a first job to a second job in the same day
- Going from the taxpayer’s home to a temp workplace
Any amts reimbursed by employer are not deductible
Tax Home and Work Location
Travel and meal expenses are considered deductible if the taxpayer is traveling away from his tax home, determined by two factors
- Travel is away from the general area or vicinity of the taxpayers’ tax home
- The trip is long enough or far enough away that a taxpayer can’t reasonable be expected to complete the round trip without sleep or rest
Can deduct:
- Cost of getting to business destination
- Meals and Lodging (meals up to 50%)
- Taxi Fares
- Dry cleaning
- Use of car
- Computer rental fees
- Baggage charges
- Tips on eligible expenses
Special Department of Transportation Rules
Certain taxpayers subject to the Department of Transportation’s “hours of service” limits can deduct 80% of meal expenses while traveling away from their tax home.
Temporary Work Assignments
If in temporary nature, expenses can be deducted (one year or less), but if an indefinite work assignment incurs travel expenses those are not deductible.
Special rules for Military Members
Members of the armed forces on a permanent duty assignment overseas are not considered to be traveling away from home, and can’t deduct travel expenses for meals and lodging while on duty
Convention Travel
A taxpayer can deduct the cost of travel and attendance to conventions in the US or North America. For cruises their is a 2K annual cap on deductions or 4K if both spouses went on qualifying cruise ship conventions they must file MFJ
Home Office
If portion of house is used for business this may be deducted
Deduction is calculated based on percentage of the home that is used for business
- Divide the sq footage of the home used for business by the total sq footage of the home
- Divide the number of rooms used for business by the total number of rooms in the home (if all rooms are same size
Simplified Option:
- A deduction of 5$ per sq foot for the space in home that is used for business with allowable st footage of 300sq feet (max deduction of 1500)
- No depreciation deduction or recapture of depreciation upon sale of the home
- Home - related itemized deductions, such as for mortgage interest and real estate taxes, may be claimed in full on Sch A, without allocation of portions to the home office space
Can choose between methods each year
Job Search Expenses
Can deduct job searches for same occupation.
Not acceptable
- Job search expenses for a new occupation
- Living expenses incurred during a period of unemployment between the end of a job and the nest period of employment
- Job search expenses incurred by a taxpayer looking for a job for the first time
Job-Related Education
The cost of courses designed to maintain or improve for a present job required by employer or law can be deducted
- Round trip to school can be deducted
Gifts to Clients
Can deduct no more than 25$ for business gifts, if in the case of both spouses giving a gift they are treated as one
Investment Expenses
investment expenses directly connected with the production of investment income are deductible.
Hobby Expenses
Only deductible up to amount of hobby income
Legal Fees
Most are not deductible, but are if they are incurred when attempting to produce or collect taxable income, such as legal advice related to collecting alimony or earning investments
Tax Preparation Fees
Deductible
Misc Deductions not Subject to 2% Limit
- Gambling Losses to Extent of Gambling Winnings
- Work Related expenses for those with a disability
- Amortizable premium on taxable bonds - Excess of bond premiums (amount paid for bond is greater than stated principal amt)
- Casualty or theft losses from income-producing property (stocks, bonds, etc)
- Estate tax on income in respect of a decedent
- Deductions for nonresident Aliens
Misc Deductions not Subject to 2% Limit Cont.
Bad Debts
Bad Debt Deductions
If taxpayer can’t collect money owed to him, must have a basis in it, meaning already included amount in income or has already loaned out the cash
Business bad Debts: A loss from the worthlessness of a debt that either was created or acquired in operating a trade or business or was closely related to the business when it became partly or totally worthless. IF unable to collect it is a bad debt, but business can take a deduction on debt if amt was included in gross income for the year or was claimed in prior year
Non Business Bad Debts:
- Be totally Worthless - partly can’t be counted
- Be genuine - considered a gift if money is lent to a friend or a relative
- Have basis to taxpayer - Must have been included in income or loaned out in cash
- Be claimed only in year the debt becomes worthless
Subject to capital loss limit of 3K per year, or 1500 if MFS
Nondeductible Expenses
- Lunch with coworkers or meals while working late
- Club dues
- Residential telephone lines and home securities systems
- Home repairs, insurance and rents
- Losses form sale of a home, furniture, etc
- Broker’s commissions
- Burial or funeral expenses
- Fees and licenses
- Fines and penalties for breaking the law
- Life and disability insurance premiums
- Campaign expense
- Check writing fees
- Investment related seminars
- Lost of misplaced cash
- Political contributions
- Value of wages never received or lost vacation time
- Expenses of attending stockholder’s meetings
- voluntary unemployment benefit fund contributions
- Voluntary unemployment benefit fund contributions
- Adoption expenses
- Travel expenses for another individual
- Interest on a personal credit card
- Expense of earnign or colectgion tax exempt income
Tax Credits
Directly reduces a taxpayer’s liability on a dollar-for-dollar basis, which means it is usually more valuable than a tax deduction for the same dollar amount that only reduces the amount of taxable income
Nonrefundable Tax Credits
Reduces liability for the year to zero but not beyond that, so any remaining credit is not refunded to the taxpayer
- Foreign Tax Credit
- Credit for Child and Dependent Care Expenses
- Child Tax Credit
- Adoption Credit
- American Opportunity Credit
- Lifetime Learning Credit
- Retirement Savings Contributions Credit
- Residential Energy Credits
Refundable Tax Credits
Can reduce taxpayer’s liability to zero and also generate a payment to the taxpayer for the amount by which the credit exceeds the amount of tax he would otherwise owe
- Additional Child Tax Credit
- Earned Income Credit
- Premium Tax Credit
Credit for Child and Dependent Care Expenses
Ranges from 20%-35%, Limit on qualifying expense is 3K and 6K for two or more children
- Qualifying Person Test
- Earned Income Test - Not available for MFS
- Work Related Expense Test - Must be looking for work
For Education, Care outside home, transportation, fees and deposits paid to preschool, household services
Do not apply for Tuition and costs of Kinder and above, Summer school/tutoring, cost of sending child to overnight camp (day camps qualify), cost of transportation not provided by a care provider, forfeited deposit to day care center. Don’t apply for food, clothing, education or entertainment
- Joint Return Test: Must file MFJ
- Provider Identification Test: Provide info of care provider
Child Tax Credit
Taxpayers below certain thresholds can claim credit for child under age 17. Up to 1K per child, and if tax liability is zero credit cant be taken bc there is no tax to reduce
- Dependent of taxpayer
- Meets relationship test
- Meets age criterion
- Does not provide own support
- Lived with taxpayer for 6 mo of yr
- Is a US citizen
Additional Child Tax Credit
Available for certain individuals who do not qualify for the full amount of nonrefundable Child Tax Credit. Must be able to qualify for Child Tax Credit even though he does not meet full amount
Allows for up to 1K for each child after subtracting amount of Child Tax Credit, and with earned income of over 3K credit is based on lesser of:
- 15% of taxable earned income that is more than 3K
- Amount of unused Child Tax Credit
Adoption Credit
Expenses directly related to adoption of a child
- Special Needs Child:
- Unsuccessful Adoptions: Can’t take credit for foreign children until adoption is final
- Timing of Payment
Education Credits
- American Opportunity Credit Degree Requirement Workload No felony drug conviction Four yrs undergrad education - Lifetime Learning Credit No workload requirement Non-degree courses eligible All levels of post-secondary education Unlimited number of yrs Can still reduce taxable income by 4K if they do not qualify for either education credit
Earned Income Credit
EIC is a fully refundable federal income tax credit for lower income people who work and have earned income and AGI is under certain thresholds
- Qualifying Income for the EIC
- Qualifying Children
- Relationship Test
- Age Test
- Joint Return Test
- Residency Test
- EIC Income Limits
- EIC Fraud and Penalties
- **Read pgs 240-243
Retirement Savings Contributions Credit
Allowed a nonrefundable credit of up to 1K (2K if MFJ) for eligible contributions to an IRA or employer-sponsored retirement plan,. Amount of the credit is the eligible contribution multiplied by the applicable credit rate, which is based on filing status and AGI
Must be at least 18 yrs old and not a full time student or a dependent.
AGI can’t be more than
- 60K for MFJ
- 45K for HOH
- 30K for S, MFS, or QW
To figure credit, subtract amount of distributions received from his retirement plans received in the 2 yrs before yr credit is claimed, year credit is claimed, and period after end of credit year but fore due date for filing return for credit yr
Residential Energy Credits
Taxpayer who purchases certain qualified energy-efficient improvements for home can qualify for a nonrefundable tax credit.
- Residential Energy Efficient Property Credit (30%)
- Non-Business Energy Property Credit (10%) - Existing homes only, total amount claimed is 500$, with only 200$ of limit for windows
- Plug-In Electricity Motorcycles and 3 Wheeled Vehicles
- Qualified Fuel Cell Vehicle Credit
- Alternative Fuel Vehicle Property
Affordable Care Act Tax Provisions
Each individual must have qualifying health care coverage, known as minimum essential coverage, for each month of the year. Requirement applies to all ages.
- Employer-sponsored coverage, including self-insured plans, COBRA, and retiree coverage
- Coverage purchased in either the federal “marketplace” or a state health insurance marketplace, which are also called exchanges
- Medicare Part A and Medicare Advantage plans
- Most Medicaid coverage
Certain types of veterans health coverage
- Most types of TRICARE coverage
Coverage that provides only limited benefits does not qualify as minimum essential coverage.
Exemptions
More than 30 exemptions that excuse an individual from the requirements to have minimum essential coverage. If exemption is approved, taxpayer will receive an exemption certificate number (ECN)
Exemptions:
- Affordability Based on Projected Income: don’t have access to coverage based on income
- General Hardship: Suffered a hardship that makes them unable to obtain a coverage
- Religious Conscience: Religious beliefs opposed to coverage
- Ineligibility for Medicaid
- Policy Cancellation
- Incarceration
- Health Care Sharing Ministry
- Indian Tribes
- Income below the filing threshold
- Unaffordable Coverage
- No Expansion of Medicaid
- Short Coverage Gap
- Citizens Living Abroad/Some Noncitizens - 330 days outside US during a yr, US citizens who are residents of a foreign country
Penalties
IF a taxpayer does not have minimum coverage for each month of the year and does not qualify for an exemption, he will face a penalty called the share responsibility payment (SRP) when he files his return. Owes 1/12 of the annual SRP for each month he or his dependents do not have coverage and do not qualify for an exemption.
SRP is the greater of:
- 1% of household income that is above the tax return filing threshold for the taxpayer’s filing status
- The family’s flat dollar amount of 95$ per adult and 47.50$ per child under 18, limited to a family max of $285. Bronze level qualified health plan that would cover everyone who does not have coverage or qualify for an exemption. Avg premium for a bronze plan is $204/individual or $2448 /individual for the year
Premium Tax Credit
To help eligible taxpayers pay for health insurance premiums. Credit is based on income and only available for those who purchased their insurance through a federal or state exchange. Based on a sliding scale, so the higher the income, the lower amount of the credit.
Must meet all filing requirements:
- Filing status: Must file MFJ if married
- Not a dependent
- Income Requirement: Must be at least 100% but not more than 400% of federal poverty line
- Enrollment in a Marketplace Plan: Must have enrolled at some point during year in one or more qualified health plans
- Not otherwise eligible for min essential coverage: Can’t have been eligible for min essential coverage, but if an eligible plan was not affordable they would not be disqualified. Generally a plan with annual premium for self-only coverage that exceeds 9.5% of household income
Advance Premium Tax Credit Payments
The amount of credit is estimated using info the taxpayer provides about family size and income. When enrolling in a plan, taxpayer must choose whether to have some or all of the benefit of the expected credit paid in advance to his insurance co or wait to claim all the benefit on his tax return. IF the credit allowed is less than advance credit payments received, the difference will be subtracted from refund or added to balance due.
Advance Premium Tax Credit Payments Cont.
Credit is refundable. If amount of the credit is more than the amount of tax liability, taxpayer may receive the difference as a refund. In no tax is owed, a taxpayer can receive full amount of the credit as a refund.
IRS is providing automatic penalty relief for taxpayers who owe additional tax as a result of excess advance payments
To qualify:
- Be current on tax filing and payment obligations
- Have a balance due for tax year bc of excess advance payments of Premium Tax Credit
- Report the amount of excess advance tax credit payments on times filed return
Due Diligence for Tax Return Preparers
IRS has mandated due diligence requirements specific to the Affordable Care Act, but requirements for filing a return apply. A preparer must ask client if he had min essential coverage for each month of the year.
Preparer should follow these general principles:
- Rely in good faith without verification of info that a client provides
- Should not ignore the implications of the information
- Should make reasonable inquiries if the info appears incorrect, inconsistent, or incomplete
Net Investment Income Tax (NIIT)
Affordable Care Act imposes a net investment income tax on higher income payers. Applies to individuals, estates, and trusts. For individuals a 3.8% tax is imposed on the lesser of:
- Individual’s net invest income for the year
- Any excess of individuals MAGI for tax year following these thresholds
MFJ/QW - 250K
MFS - 125K
S/HOH - 200K
Net Investment Income Tax Cont.
NIIT subject to the tax includes:
- Interest, unless tax-exempt
- Dividends
- Capital Gains
- Rental and Royalty Income
- Non-qualified annuities
- Income from business involved in trading of financial instruments/commodities
- Income from business that are passive activities for the taxpayer
- **Read pgs 257-259
Additional Medicare Tax
ACA (Affordable Care Act) imposes an additional Medicare tax of .9% that applies to a taxpayer;s earned income in excess of following thresholds:
MFJ - 250K
MFS - 125K
S/HOH/QW - 200K
An employer is required to withhold the additional Medicare tax if employee is paid more than 200K regardless of filing status, or has wages from another employer. SE can’t deduct one-half of additional .9% tax
If an employer withheld amounts for an employee who earns more than the 250K MFJ threshold, they can apply the overpayment against any other type of tax that may be owed on return.
Alternative Minimum Tax
Limits the extent to which these tax benefits can be used to reduce the total amount of income tax paid by higher-income taxpayers. AMT is owed only if the minimum tax is greater than the regular tax.
1..Starting with AGI less itemized deductions for regular tax purposes (or with AGI taxpayers who are not claiming itemized deductions)
2. Eliminating or reducing certain adjustments and preferences (the exclusions, deductions, and credits that are allowed in computing regular tax) to derive AMT income
3. Subtracting AMT exemption amount in #3 by applicable AMT rate
4. Subtracting the AMT Foreign Tax credit
AMT rate is 25% in certain ranges
Credit for Prior Year Min Tax
A nonrefundable credit applied for AMT paid in prior years to extent that the regular tax in the current year is > than tentative min tax
Kiddie Tax
Investment income earned by dependent children may be taxed at the parent’s rate. Does not apply to earned income, it applies only to investment income.
- Child’s investment income is more than 2K
- Child is under age 18 or a full time college student under age 24
- Child is required to file a tax return for the tax yr
- At least one of the parents was alive at end of yr
- Child does not file a joint return for the tax yr
Kiddie tax can be avoided only if child is 18 or older and has enough earned income to provide greater than half of his support, the tax would be based on child’s tax rate and not the parents.
Nanny Tax
- Taxpayer pays household employee cash wages of 1900$ or more, SS and Medicare taxes must be withheld for total of 15.3% unless taxpayer chooses to pay both the employer’s and employee’s shares.
- If wages are less than this threshold, no SS or Medicare taxes are due
- For 1000$ or more in a quarter, taxpayer must pay federal unemployment tax.
First Time Homebuyer Credit Repayment
First time homebuyers who claimed a special tax credit in 08 are required to repay a portion of the funds received over a 15 yr period. If home purchased in 08 was sold repayment is limited to the amount of gain on the sale if sale is to unrelated taxpayer.
Foreign Income Taxes
- Foreign Earned Income Exclusion: Income up to a certain threshold is not taxed. Max foreign earned income is $99,200. If MFJ and both live abroad, both can claim foreign earned income exclusion
Must be able to pass one of two tests in order to claim exclusion if US citizen - Bona Fide Residence Test
- Physical Presence Test
Does not apply to wages of military
Bona Fide Residence Test
US citizen who is a bona fide resident of a foreign country for an entire yr.
Physical Presence Test
US Citizen who is physically present in a foreign country or counties for at least 330 full days during 12 months.
Foreign Housing Exclusion or Deduction
Can claim an exclusion or a deduction for foreign housing costs up to 13,888$, applies only to amounts paid by an employer and paid with SE earnings.
Foreign Income Taxes
Taxes paid to a foreign country can be deducted against or credited against US income tax. Whichever results in lowest tax.
Foreign Tax Credit
Designed to relieve taxpayers of the double taxation burden when their foreign source income is taxed by both US and foreign country. Nonresidents not applicable.
- Tax must be imposed on taxpayer
- Taxpayer must have paid or accrued the tax
- Tax must be a legal and actual foreign tax liability
- Tax must be an income tax
Can’t claim both a deduction and a credit but can alternate turns in next year
Can’t claim credit for taxes paid on any income that has already been excluded using foreign earned income exclusion or foreign housing exclusion
Applies to any type of income, including investment income
Interest or penalties paid to foreign countries, tax imposed for international terrorism and foreign oil or gas extraction income do not apply.
Nonrefundable but allowed a one-yr carryback and 10-yr carryforward of unused credit amount
FDAP Income
Fixed, Determinable, Annual, or Periodic income applies to foreign persons earning income in US. Deductions are not allowed against FDAP income, and it is taxed at a flat 30% rate
Reporting Foreign Accounts and Assets
Foreign Account Tax Compliance Act (FATCA)
- Statement of Specified Foreign Financial Assets:If holds foreign assets of more than 50-75K (100-150KMFJ) must file Form 8938
- FBAR: Reporting mandate for those with foreign accts more than 10K
- Penalties: Failure to file a required FBAR can subject a taxpayer to penalties up to criminal penalties of 250K and 5 yrs in prison
- Reporting Foreign Gifts: US individuals who received large gifts may be required to file form 3520 (information return) for gifts of 100K or more or 15, 538$ from a foreign corp or partnership
Retirement Accts
Traditional IRA: Not taxed until distributed
Roth IRA: Paid with after tax income and are not deductible, but withdrawals are not taxed.
Traditional IRA
- Person over 70 1/2 can’t contribute
- Contribution limit is lesser of 5.5K or 6.5K if age 50 or older
- Contributions are deductible depending on AGI, Filing Status, whether taxpayer and/or spouse is covered by an employer retirement plan
- No Filing Requirements unless nondeductible contributions are made
- Mandatory Contributions (RMDs) by April 1 of year following the yr a taxpayer reaches 70 1/2, can result in 50% penalty tax equal to amount taxpayer should have withdrawn but did not
- Distributions from a traditional IRA are taxed as ordinary income, distributions before 59 1/2 are subject to an extra 10% tax (see pg 283)
- Income Limits (phase out deductibility) is based upon AGI if taxpayer and/or spouse are covered by an employer plan (see pg 281)
IRAs can’t be owned jointly, each spouse must have theri own IRA acct
Roth IRA
- No age Limit
- Contribution limit is lesser of 5.5K or 6.5K if age 50 or older
- Contributions are not deductible
- Filing requirement related to conversion of a traditional IRA to a Roth IRA. None related to contributions made directly to a Roth IRA
- There are no mandatory distributions unless IRA owner dies
- Distributions are not taxed
- There are income limits for contributions, but none affect conversion of a traditional IRA to a Roth IRA
Traditional IRA Rules
To make contributions to an IRA
- Must be under 70 1/2
- Must have qualifying taxable compensation
IF covered by an employer plan and income is too high, the deductible IRA contribution will be phased out
Taxable alimony counts as qualifying compensation
Traditional IRA Rules - Compensation for Contributions
Does not include
- Rental Income
- Dividend/Interest Income
- Pension or annuity income
- Deferred Compensation
- Prize winning or gambling income
- Items that are excluded from income, Foreign earned income and housing costs
Splitting Contributions Between IRA Accts
A person may have IRA accounts with multiple financial institutions and may split his annual contributions between accts. May choose to split his contributions between a traditional IRA and Roth IRA
Deductibility of Traditional IRA Contributions
May not be able to deduct all of his traditional IRA contributions. Deductiblity is based on income, filing status and whether taxpayer and spouse are covered by an employer retirement plan.
Taxpayer (and spouse) not covered by an employer plan: No limitation on deductiblity of his/their contributions to traditional IRA and can deduct smaller of:
- 5.5K (6.5K if 50 or older) or 11K (13K if 50 or older) if filing MFJ
- 100% of qualifying compensation
Taxpayer (or spouse) covered by an employer plan:
- Phased out at levels of MAGI (see pg 281)
Form 8606
Taxability of Distributions
Distributions from a traditional IRA are generally taxable in the year they are received except for:
- Rollover to another retirement plan
- Qualified charitable distributions (if 70 1/2 or older can make contribution up to 100K or 200K if MFJ)
- Tax-free withdrawal of contributions
- Distributions of nondeductible contributions
Penalty on Early Distributions and Exceptions
If before age 59 1/2 they are subject to 10% tax. There are some exceptions:
- Taxpayer has unreimbursed medical expenses that exceed 10% of AGI
- Distributions do not exceed the cost of his medical insurance
- Taxpayer is disabled
- Distributions are not more than qualified higher education expenses
- Distributions are used to buy, build, or rebuild a 1st home
- Distributions are used to pay IRS due to a levy
- Distributions are made to a qualified reservist (active duty)
IRA Rollovers
A rollover is a transfer from one retirement plan or acct to another retirement plan or acct.
- Rollover to Health Savings Acct: Can take a tax free rollover if distribution is not more than 3.3K for individual health plan or 6.5K for family health plan, can only be done once in lifetime
- Rollover after Death of an IRA Owner: Can elect to treat IRA as being his own or can roll over IRA balance to his own IRA acct or other types of retirement plans
Conversion of a Traditional IRA to Roth IRA
Required to pay income taxes on the amount of pretax (deductible) contributions converted, as well as the growth in value resulting from earnings on those contributions. An inherited traditional IRA is not eligible to be converted to ROTH IRA unless it is inherited from a spouse.
Recharacterization (IRA)
May undo or reserve a rollover or conversion of one type of IRA to a different type thru recharacterization, it is as if the conversion or rollover never occurred. Can only be done through a trustee, and it must be complete by Oct 15 of year after initial conversion was made
- Include in transfer any net income allocable to the contribution. If there was a loss, the net income may be a negative amount
- Report the recharacterization on the tax return for the year during which the contribution was made
- Treat the contribution as having been made to the second IRA on the date that it was actually made to the first IRA
Excise Tax on Excess Contributions (IRA)
If a taxpayer accidentally contributes more to his IRA than is allowed, the excess contribution is subject to a 6% excise tax.
Contributions made in the year a taxpayer reaches age 70 1/2 are also considered excess contributions. The excess contribution and all related earnings must be withdrawn from the IRA before the due date.
The 6% penalty will apply only to the amounts earned on the excess contribution.
The taxpayer must also report the earnings on the excess contributions as taxable income for the year in which the withdrawal is made.
For each year that excess amounts remain in the IRA, must pay the 6% tax. This tax can never exceed 6% of the value of the taxpayer’s IRA at end of tax yr.
Prohibited Transactions (IRA)
Improper use of IRA
- Borrowing money from IRA
- Selling property to IRA
- Using an IRA as security for a loan
- Buying property for personal use with IRA funds
Acct ceases to be treated as an IRA and its assets are treated as if having been distributed on the first day of the year.
Retirement Plans for Businesses
- SEP plans: Provide a simplified method for employers to make contributions to a retirement plan for themselves and their employees. An employer can make contributions directly to an individual SEP-IRA acct, funded strictly by employer
- SIMPLE plans: If business has 100 or fewer employees who received at least 5K of compensation during the preceding yr. Employees can choose to make salary reduction contributions rather than receiving these amounts as part of their regular pay. Employer can contribute matching or nonelective contributions, structured either as SIMPLE IRA, or SIMPLE 401K
Qualified Retirement Plans
- Defined contribution plans
- Defined benefit plans
Defined Benefit Plans
Traditional pension plan promises a specified benefit amount or annuity for each participant after retirement. Typically based on formulas that consider the participant’s years of service with the employer and his earnings history. Contributions are not optional
Defined Contribution Plans
Provides an individual account for each participant in the plan depending upon how the plan is structured. Provides benefits to each participant based on the amounts contribute to the participant’s acct, along with investment income or losses.
- Contributions: Based on percentage of employee’s compensation and are generally made on a pre-tax basis. Can contribute a max of 17, 500 (23K for 50 +). Contributions can’t exceed employee compensation amount
- Distributions: May be made either on a periodic basis, such as annuity payments or as a lump sum. Distributions are not permitted prior to when the participant retires or otherwise terminates employment, dies, becomes disabled, or reaches age 59 1/2. Earlier distributions subject to 10% penalty tax
Loans from Qualified Plans
May allow participants to borrow specified portions for their individual balances. Loan can be no more than the lesser of 50K or the greater of 10k or 50% of the vested portion of the acct balance.
- Hardship Distributions: 401K plan may allow participants to receive hardship distributions because of an immediate and heavy financial need, such as sudden medical or funeral expenses. Limited to amount of the employee’s elective deferrals and generally do not include any income earned on the deferred amounts. T
Estate and Gift Taxes
An estate is a separate legal entity that is created when a taxpayer dies. Estate tax is a tax on the transfer of assets or property from an individual’s estate to his beneficiaries after his death.
- Form 1040
- Form 1041
- Form 706
Final Income Tax Return (1040)
“Deceased” written after taxpayer’s name. The filing deadline is April 15 of the year following death.
Income in Respect of a Decedent
Income in respect of a decedent (IRD) is any taxable income that was earned bu not received by the decedent by the time of death. IRD is not taxed on the final return of deceased. IRD reported on return of person (or entity) that receives the income. IRD retains same nature that would have applied if deceased taxpayer were still alive. Deduction is not subject to 2% floor.
Form 1041: Tax return for Estates and Trusts (Deceased)
1041 is a fiduciary return used to report the following items for a domestic decedent’s estate, trust, or bankruptcy estate:
- Current income and deductions, including gains and looses from disposition of the entity’s property and excluding certain items such as tax-exempt interest (Distributable Net Income/DNI)
- A deduction for income either held for future distribution or distributed currently to the beneficiaries (income distribution deduction) that is limited to DNI
- Any income tax liability
Estates are not allowed to take Credit for the Elderly or Disabled, Child Tax Credit, or Earned Income Credit. Due the 14th day of the 4th month following the end of the entity’s tax year, but is subject to an automatic extension of 5 months if From 7004 is filed
Estate Tax (Gross Estate)
May apply to the decedent’s taxable estate, which is the gross estate less allowable deductions
Gross Estate: Based upon FMV of decedent’s property which is not necessarily equal to his cost
- FMV of all tangible and intangible property owned partially or outright by the decedent at the time of death
- Life insurance proceeds payable to the estate or for policies owned by the decedent, payable to the heirs
- Value of Certain annuities or survivor benefits payable to the heirs
- The value of certain property that was transferred within three years before the decedent’s death
Estate Tax Cont. (Gross State Deductions)
Once Gross Estate has been Calculated, certain deduction are allowed
- Funeral Expenses paid out of estate
- Estate administrative expenses
- Debts owed at time of death
- The marital deduction (from estate to spouse)
- Charitable deduction (from estate to charities)
- The state death tax deduction (estate taxes paid to any state)
Not deductible
- Federal estate taxes paid
- Alimony paid after taxpayer’s death
Decedent’s Medical Expenses
Debts not paid before death, including medical expenses subsequently paid on behalf of the decedent, are liabilities that can be deducted from the gross estate on the estate tax return. If medical expenses for the decedent are paid out of estate during one yr period beginning with day after death, the personal rep can elect to treat all or part of the expenses as paid by the decedent at the time they were incurred, and can deduct them on decedent’s final return
Marital Deduction
Transfers from one spouse to the other are typically tax-free. To receive unlimited deduction, the spouse receiving the assets must be a US citizen and legal spouse and have outright ownership of the assets. If spouse is not a US citizen, assets transferred tax-free are limited to an annual exclusion amount, which is 145K
Form 706: Estate Tax Return
After taxable estate is computed it is added to the value of lifetime taxable gifts. Max estate tax rate is 40%
- Basic Exclusion Amt - may be used to reduce or eliminate gift and/or estate taxes. 5.34 mil for 2014
- Deceased Spousal Unused Exclusion (DSUE): Unused portion of the decedent’s predeceased spouse’s basic exclusion (the amount that was not used to offset gift or estate tax liabilities). Predeceased spouse must have died on or after Jan 1, 2011 and a portability election must be made to claim the DSUE on behalf of the surviving spouse’s estate.
Applicable Credit (Estate Tax Return)
Gross estate tax described above is reduced by the applicable credit, also referred to as the unified credit, which is a tax credit amount that corresponds with the basic exclusion amount and if applicable the DUE available to a surviving spouse. $2,081,800 for 2014, due date is nine months are the decedent’s date of death. Six month extension with Form 4768, Tax is due by the due date and interest is accrued on any amounts owed not paid at that time. Assessment period for estate tax is three years after the due date for a timely filed estate tax return. 4 yrs for transfers from an estate.
Inheritances
Cash inheritances are generally not taxable to the beneficiary, although the beneficiary may be responsible for a related estate tax liability that has not been satisfied
Basis of Estate Property
Although cash inheritances are not subject to federal income tax, money received from the sale of inherited property may be taxable. Basis of property inherited from a decedent is generally one of the following
- FMV of property on the date of death
- FMV on an alternate valuation date, if elected by the personal rep
- The value under a special-use valuation method for real property used in farming or another closely held business, if elected by personal rep
- The decedent’s adjusted basis in land to the extent of the value excluded from the taxable estate as a qualified conservation easement
Alternative Valuation Date (Basis of Estate Property)
If elected, the alternate valuation date is 6 mo after the date of death. Estate value and related estate tax must be less than they would have been on the date of the taxpayer’s death
Jointly Owned Property (Basis of Estate Property)
Property that is jointly owned by a decedent and another person will be included in full in the decedent’s gross estate unless it can be shown that the other person originally owned or otherwise contributed to the purchase price.
Surviving owner’s basis in the property is added to value of the party of the property included in the decedent estate. Any deductions for depreciation allowed to the surviving owner for his portion of the property are subtracted from the sum
See pg 303-304
Generation-Skipping Transfer Tax (GST)
Bequests made to skip persons, person belongs to a generation or two below the generation of the donor. GST exemption is same as estate tax basic exclusion (5.34 mil) and tax rate is set at max estate tax rate of 40%. Imposed separately and in addition to the estate and gift taxes. Any payments for tuition or medical expenses on behalf of a skip person that are made directly to an educational institution are exempt from gift tax and GST
Gift Tax
May apply to the transfer of property by one individual to another whether the donor intends the transfer to be a gift or not. Imposed on the donor, not the receiver, of the property. Subject to a combined exclusion amount of 5.34 mil and min gift tax rate is 40%
Gift Tax Cont.
Following gifts are not taxable:
- Gifts to an individual that do not exceed the annual exclusion amount. Exclusion amount is 14K per donee
- Tuition or medical expenses paid directly to the institution for someone else
- Unlimited gifts to a spouse, as long as the spouse is a US citizen (or gifts up to 145K to a spouse who is not a US citizen)
- Gifts to a political org for its use
- Gifts to a qualifying charity
- A parent’s support for a minor child. This may include support required as part of a legal obligation,m such as by divorce decree
Form 709 must be filed if
- Taxpayer gives more than the annual exclusion amount to at least one individual (except US citizen spouse)
- A taxpayer “Splits gifts” with a spouse
- Gives a future interest to anyone other than a US citizen spouse
Applying the Applicable Credit to Gift Tax
Must calculate the amount of gift tax on the total taxable gifts and apply the applicable credit for the year
Gifts by Married Couples
Gift can be considered as being one-half from one and one-half from the other, this is known as splitting. Allows a married couple to give up to 28K to an individual without making a taxable gift. both spouses must consent to split gift. Each spouse must generally file his/her own individual gift tax return.
Basis of Property Received as a gift (Gifts by married couples)
To determine gain/loss on gift:
- Gift’s adjusted basis to the donor just before given to taxpayer
- Gifts FMV at the time it was given to taxpayer
- Any gift tax actually paid on appreciation of property’s value while held by the donor
If a taxpayer sells property at a loss, the taxpayer’s basis would be the lower of the donor’s adjusted basis or the FMV at the time of the gift
The value of a gift is its FMV value on date of the gift. May be less than its FMV to the extent that the donee gives the donor something in return.
