Federal Taxation III: Deductions

Question 1

Three mutually exclusive categories of activities/transactions

Answer 1

1. Personal
2. Trade/Business
3. Investment

Question 2

Ordinary and Necessary

Answer 2

the nature of the expenditure is customary and appropriate under the circumstances

Question 3

Reasonable

Answer 3

an expenditure cannot be extravagant in amount

Question 4

Capitalize

Answer 4

accounting method used to delay the recognition of expenses by recording the expense as long-term asset

Question 5

Prepaid interest

Answer 5

must always be amortized over the life of the loan

Question 6

Capitalize vs Repair

Answer 6

1. Costs capitalized if they increase the property’s useful life or adapt it to a new/different use
2. Costs are repairs if they maintain normal operating condition of asset but do not increase its value or lengthen its life

Question 7

Deductions “for” AGI

Answer 7

primarily business related expenses, and are subject to fewer limits than itemized deductions

Question 8

Moving Expenses

Answer 8

must be associated with a job change or a first job.

1. new job must add 50 miles to old commute to justify deduction
2. must be active in new job for substantial period after move
3. limited to reasonable amounts paid to move possessions/transport costs. Not meals.

Question 9

Substantial period of employment

Answer 9

1. Employee: 39 weeks during next 12 months

2. Self-employed: 39 weeks + additional 78 weeks during next 24 months

Question 10

Student Loan Interest

Answer 10

Deduction limited to $2,500 of interest that is not otherwise deductible

Question 11

Accountable Plan (substantiated expenses)

Answer 11

If reimbursement is included in income, deduction is FOR AGI

If reimbursement is NOT included in income, NO deduction

Question 12

Reimbursement not under accountable plan

Answer 12

must be included in income - deduction is a 2% misc itemized deduction

Question 13

Expenses not reimbursed by employer

Answer 13

deduction is 2% misc itemized deduction

Question 14

Travel Expenses

Answer 14

Limited to trips with a business purpose

Question 15

Meals and lodging

Answer 15

Can be claimed when taxpayer is “away from home” overnight

Question 16

Entertainment (5)

Answer 16

Closely Regulated, limited to 50%

1. must involve someone with business relation
2. substantial discussion must occur (before/during/after on same business day)
3. no deduction for facility/club dues (unless public service, prof. org, trade assoc)
4. deduction for tickets is limited to face value of ticket
5. business gifts limited to $25 per year per donee

Question 17

Education Expenses

Answer 17

Not deductible if:

1. to meet minimum standards of current job
2. to qualify taxpayer for a new trade or business

Deductible if:

1. to maintain or improve existing skills in current job
2. to meet requirements of employer or imposed by law to retain employment

Question 18

Deductible Losses

Answer 18

generated through disposition of business (not personal) assets

Question 19

Deductible Bad Debts

Answer 19

deductible is loan is made in a trade activity.

can only be deducted using write off method

Question 20

Deductible Non-business bad debts

Answer 20

Any bona fide loan that is not made in a trade capacity, but has bona fide profit motive.

Deductible as short-term capital losses in year of complete worthlessness

Question 21

Limitation on deduction of losses (3)

Answer 21

1. netting rules generally allow deductible losses to offset gains without limit
2. Capital Loss > Capital Gain = $3,000 ded. limit for individuals
3. Special rule if Section 1244 stock (losses deductible up to $100K, gains still capital gains)

Question 22

Net Operating Loss Carryback/Carryover

Answer 22

Carryback = 2 years
Carryover = 20 years

Question 23

NOL allowed for?

Answer 23

Only business(including rental)/casualty losses

Question 24

Hobby Expenses

Answer 24

Only deductible if the hobby generates revenue. 2% misc only. Excess cannot carry over.

Question 25

Vacation Home Expenses

Answer 25

Considered rental property if:

1. rented more than 15 days
2. not used for personal more than 14 days or 10% of rented days
3. All rent taxable net of rental expenses, pro-rated for % of rental days only.
4. Loss is allowable.

Question 26

Passive Activity Losses

Answer 26

Expenses and revenues from passive activities are netted and expenses in excess of revenue (the passive loss) are suspended.

Question 27

Rental Real Estate: Passive activity loss exception

Answer 27

If taxpayer actively manages rental realty by owning 10% of the property and significantly participating in decision-making:

1. can deduct max loss of $25K per year
2. phased out with AGI over $100K at rate of 50% over the $100k ($1 for every $2)