Federal Income Tax Flashcards
Gross Income Definition
Any economic benefit or any clearly realized accession to wealth
Four Basic Principles: Realization
The increased or decreased value of an asset is not taken into account until it is REALIZED THROUGH THE SALE or other disposition of the asset
Four Basic Principles: Non-Cash Receipts
Gross income includes the FMV of any property RECEIVED and the fair market value of any SERVICES RENDERED
Four Basic Principles: Claim of Right
Property or funds received under a claim of right must be reported for tax purposes even though the taxpayer may later be required to return the property, funds or their equivalent.
Is illegally acquired property or money taxable? + Examples
Yes, stolen, embezzled, or otherwise illegally acquired property or money is considered taxable income
Tax Benefit Rule + Underlying Assumption for Unpaid Taxes
If a taxpayer takes a DEDUCTION in one year, and RECOVERS the property in a LATER year, the taxpayer has tax benefit income to the extent that the earlier deduction provided a TAX SAVINGS OR BENEFIT
Note: The underlying assumption is that the taxpayer received a tax benefit by reducing the amount of taxes he pays in year 1 of deduction
Specific Rules: Alimony and Child Support
The person paying alimony does not receive a deduction and the person receiving alimony does not have to include it in income. Child support is treated the same way; i.e., the payor does not get a deduction for amounts paid and the recipient does not include the amounts received in gross income.
Specific Rules: Prize and Awards + (1) Exception for Recognition Awards + (2) Exception for Employee Achievement Awards
Gross income includes the value of cash, property, or services received as a prize, award, or windfall
(1) Recognition awards excluded where: (i) the award is made in recognition of religious, charitable, or educational achievement, (ii) recipient was not involved with the selection process, (iii) no future services are required, and (iv) the award is turned over by the payor, at the direction of the recipient to a gov’t organization
(2) Employee Achievement Award excluded where: (i) value of the award is less than $400, (ii) award is for length of service or safety, (iii) presented at a meaningful presentation, (iv) not part of a disguised compensation
Specific Rules: Gambling Winnings and Losses
Gambling winnings are included in gross income. Gambling losses may be used to offset gambling winning but only to the extent of the winnings.
Special Rules: Cancellation of Indebtedness
The borrower has no gross income upon the initial RECEIPT of borrowed funds.
However, a taxpayer whose debt is cancelled or discharged at less than the full amount, has discharge of indebtedness income to the extent of the difference between the full amount of the obligation and the amount paid in satisfaction of the debt
Special Rules: Cancellation of Indebtedness - Exceptions + Tip RIGed
A cancellation of indebtedness that is less than the full amount would have to pay the difference as taxable income, UNLESS:
1) Reduction or re-negotiation of a purchase price (If the discharge of debt is because of a reduction in purchase price of a sale of good)
2) Insolvency (If the discharge of the debt occurs when the taxpayer is INSOLVENT or BANKRUPT)
3) Gift (If the lender intends to discharge as a gift)
Exclusion from Gross Income: Life Insurance Proceeds + Exception
GI does not include proceeds paid by reason of DEATH of the insured
Exception: When proceeds are paid in installments, ANY interest paid will be taxable
Exclusion from Gross Income: Inheritance
GI does NOT include amounts received by bequest, devise or inheritance
Exclusion from Gross Income: Gifts
GI DOES NOT include amounts received by gifts (meaning a transfer made out of detached and disinterested generosity)
Exclusion from Gross Income: Tort Awards - Compensatory Damages + Punitive Damages
Compensatory: Damages received on account of physical, personal, or sickness from compensatory damages are NOT INCLUDABLE in GI (but emotional damages are)
Punitive: Punitive damages received in ANY context are includable in GI
Employee-Related Exclusions: Receipts from Health and Accident Insurance
Value of employer provided health or accident insurance (i.e. premiums), reimbursements for medical expenses, and value of medical care received is NOT INCLUDED on GI
Employee-Related Exclusions: Life Insurance
Taxpayers may EXCLUDE the value of the first $50,000 of employer provided group term life insurance.
Gross income must INCLUDE the value of any excess life insurance coverage provided by the employer
Employee-Related Exclusions: Meals and Lodging
Employer provided meals and lodging EXCLUDED if: 1) provided for the convenience of the employer, 2) in-kind, 3) on the employer’s premises
Employee-Related Exclusions: Other Tax-Free Fringe Benefits to Employees
1) De minimis (i.e. pads and pens)
2) No additional cost to employer
3) Qualified employee discounts
4) Contributions to qualified pension plans
Qualified Scholarships
Scholarships for tuition, not for past or future services are excluded from GI
Deductions: Above the Line Deductions Definition + Examples + What is the result after calculating GI and Above the Line Deductions?
Ordinary and necessary BUSINESS expenses (not for individuals) of usual and customary nature
Ex: business interest, depreciation, capital losses
Result: Adjusted Gross Income
Deductions: Below the Line Deductions - When do you use itemized (non-business) deductions or standard deductions? + How much is the standard deduction? (Individual v. Couple)
If your total itemized (non-business) deductions exceed the standard deduction, you itemize and take the larger deduction, if they are less, you take the standard deduction
The standard deduction is $12k for an individual and $24k for married couples
Deductions: Itemized Deductions - Home Mortgage Interest Limit
Taxpayers may deduct home mortgage interest on mortgages of up to $750k on a principal and a second personal residence
Deductions: Itemized Deductions - State and Local Taxes Limit
State, local, or real estate taxes on property owned may be deducted up to $10,000
Deductions: Itemized Deductions - Unreimbursed Casualty Losses
Not deductible UNLESS incurred in connection with a federally declared disaster (i.e. Hurricane Katrina)
Deductions: Itemized Deductions - Unreimbursed Medical Expenses AGI Limit
Deductible to the extent they exceed 10% of AGI
Deductions: Itemized Deductions - Charitable Contributions AGI Limit + What are qualified charities?
Taxpayers may deduct the FMV of property and the amount of cash contributed to qualified charities up to 60% of AGI
A qualified charity is a 501(c)(3) or
Deductions: Itemized Deductions - Home Office Expense Rule
Expenses incurred in maintaining a home office are DEDUCTIBLE if the space is used EXCLUSIVELY for business on a REGULAR basis
Deductions: Itemized Deductions - Investment Fees or Expenses Rule
Taxpayers may deduct the fees or expenses that were necessary to GENERATE TAXABLE INCOME
Allocation: Assignment of Income Rule
Income must be taxed to he or she who EARNS it
Allocation: Who is taxed from investment income on property?
The OWNER of the property is taxed
When is it income?: Cash Method of Accounting
A cash method taxpayer reports income when she ACTUALLY RECEIVES the payment, and takes a deduction for eligible expenses when ACTUALLY MADE.
When is it income?: Constructive Receipt Rule
A taxpayer has “constructive receipt” when funds or property are CREDITED to her account, set apart, or otherwise made available so that she may draw upon them
When is it income?: Income in Respect of a Decedent (IRD)
If payment is received by an estate after D’s death, the executor must report the income on the ESTATE’S TAX RETURN, not his personal
When is it income?: Accrual Method of Accounting
Reports income and deductions when ALL EVENTS have occurred that fix the RIGHT to receive it, and when the amount can be determined with REASONABLE ACCURACY
Gains and Losses on Disposition of Property Rule
Whenever a gain is REALIZED (sale, disposition, or exchange) it must be RECOGNIZED for tax purposes
Basic Sale Formula + Define Amount Realized
Amount Realized - Adjusted Basis = Gain (or Loss)
AR: Money received, plus the FMV of property or services received, plus mortgages or liabilities to which the property sold is subject or which the buyer assumes
Cost Basis Rule
A taxpayer’s basis in property acquired by purchase is generally the COST OF THE PROPERTY, including money paid and borrowing incurred in connection with the purchase
Adjusted Basis Rule
Equal to the cost basis of such property PLUS improvements or renovations
Divorce Property Settlements Rule
A transfer of property between spouses (or Exes) incident to divorce is NOT
A TAXABLE EVENT to either party, and the spouse receiving will have the same basis the donor had
Basis in Gift Property
The recipient of a gift takes the DONORS basis
Basis in Inherited Property
The recipient’s basis in inherited property is the FMV of the property at the DATE OF DECEDENT’S DEATH
1031 Exchanges or Like-Kind Exchanges Rule + Remember Timeline
No gain or loss is recognized when a taxpayer exchanges REAL PROPERTY held for productive use in a business or for investment for like-kind property also held for productive use in business or for investment
Remember, gain is DEFERRED, not forgiven, and must occur within 18 months of each other
Involuntary Conversion Rule
No gain or loss is recognized if property INVOLUNTARY to theft, fire, seizure, is converted into property that is “similar or related in service or use”
Sale of Principal Resident Rule + Remember Within 2 Years Exception
Up to $250k of gain from the sale of a principal residence can be excluded if the property has been used and owned as the taxpayer’s PRINCIPAL for periods AGGREGATING two years during the five-years before the date of sale
Remember: This exclusion CANNOT be available if the taxpayer has used it within 2 years
Character of Income: Ordinary v. Capital Gains - Define + Which rate is higher?
Capital Gains: A gain from a capital asset (e.g.stocks, bonds, real estate for investment)
Ordinary Income: Salary, rents, interest, royalties
The top marginal tax rate on most long-term capital gains is LOWER than the top marginal rate on ORDINARY INCOME
Top marginal rate on long term capital gains is 20%. The top marginal rate on ordinary income is 37.0%. Long term means held for more than 1 year
