EXAM NOTES (MINI EXAMS AND SE) Flashcards
GAIN ON ISO = SP Less: grant price/option price/purchase price
GAIN on ISO (statutory stock option) is NOT RECOGNIZED until the sale occurs.
NQSO to be included in compensation at bargain element which is FMV - option price
$25-$10
Logan, an employee of Argon Industries, earned a salary of $60,000 in Year 2. In addition, the following two transactions between Logan and Argon occurred in Year 2: Logan received a bonus of 100 shares of publicly traded stock worth $13,000 with a basis to Argon of $8,000, and Logan purchased 1,000 shares of unrestricted Argon stock pursuant to a nonstatutory stock option plan for $10 per share when stock was valued at $25 per share. What amount of compensation should Argon report in Logan’s Form W-2 for Year 2?
The salary of $60,000 is included in the Form W-2. The FMV of the bonus of $13,000 is included in the Form W-2. Because the stock option was nonstatutory, the bargain element is included in Form W-2 as well. The stock is worth $25 per share and the option price is $10 per share. That is a bargain element on nonstatutory stock options of $15 per share on 1,000 shares. That is $15,000. $60,000 + $13,000 + $15,000 = $88,000.
Passive activity losses are only deductible against passive activity income. Michael does not have any passive activity income. The dividend income is not considered passive income. An exception for rental real estate, the “mom-and-pop exception,” allows taxpayers to deduct up to $25,000 of net passive losses attributed to rental real estate in which the taxpayer actively participates. To use this exception, the taxpayer must own at least 10% of the rental activity. Phase-out of the $25,000 allowance begins at $100,000 AGI.
$25,000 limit
10% ownership in property and
phase out once AGI is above $100,000
Zero deduction allowed or completely phased out once AGI reached $150,000
Rule: Rental real estate activities are passive activities, and losses from them are generally not allowed to be used as an offset against income from any nonpassive activities. However, there is a limited exception to this general rule in the case where a taxpayer owns at least 10 percent of the property and actively participates in rental real estate. Under this exception, up to $25,000 of passive losses may be used to offset income from nonpassive sources. This $25,000 allowance is reduced (not below zero) by an amount equal to 50 percent of the amount by which the taxpayer’s modified AGI exceeds $100,000 (becoming fully phased-out at modified AGI of $150,000). In this case, modified AGI of $125,000 is $25,000 higher than the $100,000 floor. The allowance of the $25,000 exception (which would apply in Gena’s case) is reduced by 50 percent of the difference (or $12,500). Therefore, the amount allowable to be used to offset against nonpassive sources is $12,500. Note that MFS filers are not allowed any loss deduction amount unless they lived apart the entire year. If MFS filers do live apart for the entire year, they each can claim a maximum deduction of $12,500 before the phase-out, which begins when MAGI exceeds $50,000.
Nonsystematic risk is risk that does not affect an entire “system”; therefore, an investor can protect against nonsystematic risk by diversifying investments.
Systematic risk is risk that affects entire systems such as the capital markets or the economy as a whole. Systematic risk CANNOT be mitigated through diversification.
Currency risk is an example of systematic risk. Systematic risk is risk that affects entire systems such as the capital markets or the economy as a whole. Systematic risk cannot be mitigated through diversification.
Inflation risk is an example of systematic risk. Systematic risk is risk that affects entire systems such as the capital markets or the economy as a whole. Systematic risk cannot be mitigated through diversification.
Jack Block is a single 58-year-old taxpayer and is considering different retirement plan options which will offer him the best tax advantage. He currently is in the 24 percent tax bracket but expects to be in the 12 percent tax bracket in 2 years when he retires and uses the money to buy a sailboat. He is going to open and contribute $8,000 to a SIMPLE IRA or a Roth IRA, or purchase a 10-year annuity. Which order best represents the priority of the different retirement plan options for Jack’s situation?
Ans. SIMPLE IRA, Roth IRA, 10-year annuity
Jack will be withdrawing the money in two years to purchase the sailboat. The SIMPLE IRA has an immediate tax benefit of 24 percent when the contributions are deducted and will have a tax cost of 12 percent in two years when the contributions and earnings are withdrawn, resulting in a net tax savings. The Roth IRA will have a nonqualified distribution in two years, and, therefore, the earnings will be subject to tax. The annuity will be paid over 10 years, with the earnings taxed annually, thus Jack may not have the funds to purchase his sailboat.
Choice “A” is incorrect. Although the Roth IRA will have a nonqualified distribution and be subject to taxes on the earnings, it is still a better option than the annuity. The annuity will be paid over 10 years, with the earnings taxed annually, thus Jack may not have the funds to purchase his sailboat.
Choice “B” is incorrect. The tax savings on the SIMPLE IRA make it the best option.
Choice “C” is incorrect. The Roth IRA will have a nonqualified distribution in two years, and, therefore, the earnings will be subject to tax. The tax savings on the SIMPLE IRA make it the best option.
Fup, L low LOW FREQ HIGH FREQ
LOW SEVERITY R Retention R Reduction
HIGH SEVERITY R Transfer R Avoidance
Choice “C” is correct. For risks that involve low loss severity and high loss frequency, the most suitable technique is reduction. Installing security cameras often discourages thieves and reduces the risks associated with theft.
Choice “A” is incorrect. For risks that involve low loss severity and low loss frequency, the most suitable technique is retention. These risks rarely occur, and if they do, their financial impact is inconsequential.
Choice “B” is incorrect. For risks that involve high loss severity and low loss frequency, the most suitable technique is risk transfer (insurance). The insured shares the risk with the insurance company and the retained portion has low financial impact.
Choice “D” is incorrect. For risks that involve high loss severity and high loss frequency, the most suitable technique is avoidance. Insurance premiums on a vacation home in an area prone to flooding could be cost prohibitive. Instead of owning the vacation home, renting the vacation home would avoid the risk.
C CORP
If shareholder donates property for shares, control group owns >=80% and there is a mortgage assumed by the corporation, there are 2 scenarios:
(a) If NBV or AB >=Mortgage assumed by the corp, no taxable gain to the shareholder
(b) If Mortgage assumed > NBV, the difference is a taxable gain or taxable income to shareholder.
Implication 1: (Gain to shareholder = Mortgage - AB/NBV)
Implication 2: This makes basis = Zero.
Implication 3: Corp’s Basis in property = Mortgage amount
Single = MAx amount of Business loss deduction in the current year = $305,000
MFJ = $610,000
(Partnership losses)
Rental real estate is passive activity by definition.
C CORP
Non Liquidating Cash distributions
Current EP and AEP = DIVIDENDS , (dividends are taxable to the shareholders)
Anything in excess of Current EP and AEP = NON-TAXABLE Return of Capital to the extent of shareholder’s BASIS
Anything in excess of basis which includes PAID-IN CAPITAL = CAPITAL GAIN to the shareholder. (distribution from paid-in capital is not taxable to the shareholder).
OR in other words
When basis is not sufficient, it results in Capital gain
Only Corps are eligible for DRD not individuals.
CONSOLIDATED RETURN = use original basis to calc gain on sale to unrelated party.
Intercompany gains and intercompany dividends are ELIMINATED
INDIVIDUALS =Underpayment penalty
LESSER OF :
- 90% of current year’s tax
- 100% of prior year tax (110% if prior year AGI >150,000)
Loans subject to Imputed Interest Rules:
- Gift loans - between individuals (friends and family members)
- Compensation related loans-between employer and employee, or independent contractor and person for whom the contractor provides services.
- Corp-Shareholder Loans-Between a corp and a shareholder of the corp
- Tax Avoidance loans - a Below market loan where the avoidance of federal tax is a main purpose of the interest arrangement.
- Loans to QUALIFIED CONTINUING CARE FACILITIES - any loan to any qualified continuing care facility, pursuant to a continuing care contract where lender (or lender’s spouse) is age 65 or older at the end of the year.
e.g.
Although the imputed interest rules do not apply to the $6,000 loan under the de minimis exception, Bridgett would still need to include the actual interest received from her nephew in her taxable interest income.
. Only the actual interest received, not the imputed interest, is included in Bridgett’s taxable income because the amount of the loan is $10,000 or less.
IMP - Imputed interest need not be included in the tax return when loan is below 10k de minimus rule. Report only actual interest received from loan
De Minimis Exceptions for Loans of $10,000 or less:
IMPUTED INT RULES DO NOT apply to any day on which total ourstanding amount of loans is $10,000 or less for the following types of loan:
- Gift loans between individuals: as long as the funds are not used to purchase income producing assets.
- Compensation related and corporate shareholder loans - if avoidance of federal tax is not a principal purpose of the interest arrangement.
EXCEPTIONS for loans without significant tax effect on FEDERAL Tax LIABILITY of the borrower or lender:
1. Govt subsideized loans, such as student loans
2. Loans provided by a lender to the general public that are consistent with the lender’s normal business practices, such as no-interest financing on an automible or a zero-interest period on a credit card.
3. Loans to assist an employee with work relocation
4. Certain loans to/from a foreign person
5. Gift loans to a section 501(c)(3) charitable organization, if total o/s loans between the borrower and lender is no more than $250,000 at all times during the year.
GIFT LOANS OF 100,000 or less:
1. For gift loans b/w individuals, if the O/S loans between lender and borrower total $100,000 or less, the foregone int included in the lender’s income and deducted by the borrower is limited to the amount of the borrower’s NII for the year.
(a) If borrower’s NII is $1000 or less, the foregone interest is treated as ZERO.
(B) the foregone interest limitation does not apply if avoidance of federal tax is one of the main purposes of the interest arrangement.
CHATGPT
CECL METHOD: By estimating expected credit losses over the life of the asset and recognizing a provision for loss at the time of origination. The company’s historical loss experience is taken into consideration.
: A. A credit loss is recognized as an expense in the income statement and an allowance for doubtful accounts is created
An impairment in the value of an asset- report credit loss in Balance sheet.
FEIE = $126,500
Foreign earned income includes:
- Bonuses
- Commissions
- professional fees
- Salaries and wages
- Tips
AMTI (represents economic income) - implemented to ensure that high income taxpayers who use certain tax breaks under the tax law to reduce their tax liability PAY AT LEAST some MINIMUM amount of income tax. Pay AMT amount if it is more than the TP’s REGULAR TAX amount.
AMTI = Regular taxable income
+/- Adjustments (these are timing differences +PAL, no adjustment required for property expensed under section 179, NOL, Installment method, contracts % vs. completed contract method)
+ Tax Preferences (itemized dedn net of taxable tax refunds and Std deduction if claimed)
_____________________________________
AMTI
PREFERENCE ITEMS: ALWAYS ADD BACK
Add back: pvt activity loan govt bonds
% DEPLETION deduction
Pre-1987 accelerated dep on REAL property and leased PERSONAL PROPERTY (excess over SL for property placed in service before 1987)
e.g.
Public purpose municipal (state and local) bond interest is exempt from both regular federal income tax and AMT, so no adjustment is necessary to calculate AMTI.
Choice “B” is incorrect. Corporate bond interest is included in both regular taxable income and AMTI, so no adjustment is necessary to calculate AMTI.
Choice “C” is incorrect. U.S. government bond interest is included in both regular taxable income and AMTI, so no adjustment is necessary to calculate AMTI.
CORPUS Income = total of
Casualty gains
Capital losses
Capital gains
DNI
both taxable and nontaxable income and expenses including 100% of the trustee fee or trust admin expenses (excludes capital gain or loss - no need to count in)
DNI - DO NOT SPLIT TRUSTEE FEE, DO NOT INCLUDE CORPUS
TRUSTEE manages the trust property.
Trusts are separate taxpaying entities.
GRANTOR creates the trust.
GENERAL partneship can be formed by _____
verbal or written agreement or by conduct.
No need to file with the state.
APPRECIATING in value = Gift now
Depreciating in future = Inheritance or bequethed will be better
Kiddie tax = earned income +450 or Std deduction whichever is lower.
First 1300 Std dedn
Next to be taxed at child’s rate
Remaining at parents’ rate
NQSO WITH READILY DETERMINABLE VALUE
Taxable as ordinary income
NQSO WITHOUT READILY DETERMINABLE VALUE
Exercise price - Grant/option price = ORD INCOME to be included in COMP
ESPP recognize comp when vesting date - option lapses
Beneficiary’s ROTH IRA must have been maintained for _________
lifetime limit on transfers from 529 plan to ROTH IRA is $35,000
15 years
Maximum estate limit with no liability
$13,610,000
ISO = OPTION EXERCISE price cannot be less than the FMV of the stock on the grant date (GRANT PRICE=FMV at the time of GRANT)
ISO cannot be more than 10%
Should be held for 2 years from grant date and 1 year from exercise date
It’s a statutory stock option
NO INCOME is recognized on the date of grant
ESPP
Should not be less than 85% of the FMV of the stock when granted or exercised (whichever is less )
has to be less than 5%
Should be held for 2 years from grant date and 1 year from exercise date
It’s a statutory stock option
ONLY NQSOs have income on the date of grant if readily ascertainable value is available.
Check Sim
Future int gifts are NOT ELIGIBLE for the annual exclusion ($18,000)but will still be counted as TAXABLE income
(WHOLE AMOUNT)
S corp has separate stock and debt basis unlike partnership
A Section 382 ownership change occurs when one or more “5-percent shareholders” increase their aggregate ownership of the loss corporation’s stock by more than 50 percent over the lowest stock percentage owned by those shareholders during the testing period. A “5-percent shareholder” is any shareholder who owns 5 percent or more of the loss corporation’s stock at any time during the testing period. The testing period is the three-year period ending on, but including, the date of the change in ownership (the testing date).
The individual is a “5-percent shareholder” whose ownership has increased by more than 50 percent (60% current ownership – 8% previous ownership) during the testing period. Therefore, the current year acquisition of the loss corporation’s stock is a Section 382 ownership change.
SEC 382 OWNERSHIP CHANGE
BEFORE- 5% shareholders
AFTER -more than 50% shareholders
Gift can be given to anyone whose identity can be determined in the FUTURE. E.g. UNBORN CHILD.
Gift tax exclusion of $18,000 will still apply
Rule: Filing a consolidated return is a privilege afforded to affiliated groups of corporations (Code Sections 1501 and 1504(b)), and it can only be filed if all of the affiliated corporations consent to such a filing. An affiliated group has ownership through a common parent. The common parent must directly own at least 80% of the voting power of at least one of the affiliated (includible) corporations and at least 80% of the value of the stock of that corporation, and the other corporations not controlled by the parent must be controlled under the 80% ownership test by an includible corporation. Not all corporations are allowed the privilege of filing a consolidated return.
ORGs that cannot file CONSOLIDATED RETURN:
Examples of those that are denied the privilege include:
S corporations,
Foreign corporations,
Most real estate investment trusts (REITs),
Some insurance companies, and
Most exempt organizations.
Charitable contribution of LTCG or appreciated property held for more than 1 year, is generally deductible at FMV UNLESS:
Charitable org uses it for UNRELATED PURPOSE OR SELLS IT , then charitable deduction allowed is only UPTO the ADJUSTED BASIS
