Gross Income 2 - Business, Rental, Pass-Through Income

Question 1

How is business income reported?

Answer 1

Gross business income - business expenses to arrive at net business income which is then reported as one item on Form 1040.

Question 2

Normal items included as business income? (3)

Answer 2

Cash
Property (FMV)
Cancellation of Debt

Question 3

Basic list of common business expenses? (11)

Answer 3

(1) Cost of Goods sold
(2) Salaries/Commissions
(3) State and Local Business Taxes
(4) Office Expenses
(5) Actual Automobile expenses (in proportion used for business) or a standard mileage rate
(6) Business meal expenses at 50%
(7) Depreciation of Business Assets
(8) Employee Benefits
(9) Legal and Professional Services
(10) Bad Debts actually written off for accrual basis taxpayers
(11) Interest Expense on Business loans

Question 4

What is the income test to determine if the disallowed business interest expense rules apply?

Answer 4

The disallowance does not apply if the taxpayer’s average annual gross receipts for the prior three years are $30 million or less.

Question 5

If the limitation on business interest expenses applies, what is the amount of the limitation?

Answer 5

Business expense will be limited to the sum of
(1) business interest income,
(2) 30 percent of adjusted taxable income (business income excluding interest income and interest expense), and
(3) floor plan financing interest expense (has to do with vehicle sellers).

Question 6

Basic list of nondeductible Schedule C business expenses? (6)

Answer 6

(1) Salaries paid to sole proprietor (withdrawal)
(2) Federal income tax
(3) Personal portion of certain expenses
(4) Bad debt expense of cash basis taxpayer (assuming they never reported the income)
(5) Charitable contributions
(6) Entertainment expenses

Question 7

Examples of personal portion of certain expenses that will not be allowed a deduction?

Answer 7

(1) Automobile, travel, and meal expenses;
(2) Interest Expense (May be itemized deduction if mortgage or investment interest;
(3) State and local tax expense (may be itemized deduction)
(4) Health insurance of sole proprietor (Adjustment for AGI)

Question 8

What two taxes is net business income subject to?

Answer 8

Income tax and Self Employment tax

Question 9

How is self-employment tax calculated from net business income?

Answer 9

All self-employment income is subject to 2.9% Medicare tax. Social security 12.4% applies to first $168,000 (2024). Deduction for AGI allowed for half of SE tax paid.

Question 10

How is a net business loss treated on the return?

Answer 10

The loss may be used as a deduction against other forms of income subject to NOL and excessive business loss limitations.

Question 11

How to determine whether activity is a business or hobby?

Answer 11

Whether it is engaged in for profit?

Question 12

When is an activity presumed to be engaged in for profit?

Answer 12

The presumption exists when the activity is profitable in three of the past five years. Then, burden is on IRS to show the activity is NOT a business. Otherwise, proof is based on multiple factors.

Question 13

Tax Treatment of hobby?

Answer 13

Ordinary and necessary expenses not deductible. However, income still included.

Question 14

How is rental income reported on the 1040?

Answer 14

Calculated on Schedule E and net Rental Income or Loss is reported as one line item on 1040.

Question 15

Rental income/loss formula?

Answer 15

Gross Rental Income
+Prepaid Rental Income
+Rent Cancellation Payment
+Improvement-in-lieu of Rent
-Rental Expenses
=Net rental income/loss

Question 16

What are the tax treatment consequences of different lengths of time that property is rented?

Answer 16

If rented for fewer than 15 days, it is treated as personal residence.

If rented for 15 days or more and is used personally for the greater of (1) 15 days or (2) more than 10% of rental days, the property is treated as personal/rental residence.

If rented for 15 days or more but does not meet the personal use threshold above, treated as nonresidential rental property.

Question 17

Tax treatment of personal residence?

Answer 17

If rented for fewer than 15 days, it is treated as personal residence, so rental income is not included, and depreciation, utilities, and repairs are not deductible.

Question 18

Tax treatment of personal/rental residence?

Answer 18

Expenses must be prorated between personal and rental use. Rental expenses are deductible only to the extent of rental income.

Question 19

Tax treatment of nonresidential rental property?

Answer 19

All rental income and expenses included on Schedule E.

Question 20

Basic list of common separately stated items for flow-through entities? (10)

Answer 20

(1) Rental real estate income/loss
(2) Interest income
(3) Dividend income
(4) Royalties
(5) Net STCG/L
(6) Net LTCG/L
(7) Net 1231 G/L
(8) Charitable Contributions
(9) Section 179 expense deduction
(10) Guaranteed payments to partners (pships only)

Question 21

Tax treatment of Guaranteed Partner Payments to partners and pship?

Answer 21

Deducted from the partnerships ordinary income but included in the partner’s income as a separately stated item.

Question 22

Tax treatment of distributions to partners and S corp shareholders?

Answer 22

Not taxable to partner but not deductible from ordinary pass through income.

Question 23

Application of Self-Employment tax to Guaranteed Payments and S corp salary?

Answer 23

Guaranteed payments by partnerships are fully subject to self-employment taxes.
S corp salary recipients are employed by the corporation, not self-employed. Therefore, corporation pays half of SS and Medicare taxes and other half is withheld from employee paycheck.

Question 24

Application of self-employment tax to ordinary passthrough income of partnership and S corps?

Answer 24

SE tax will apply to partnership ordinary passthrough income if the partner is actively involved in the business. Not self employment income to limited partners.

S corp ordinary passthrough income is never considered self employment income.

Question 25

Describe the tax basis loss limitation for flow-through entities?

Answer 25

A loss can only be deducted by an entity owner to the extent of their tax basis .

Question 26

What happens an owner’s pass-through loss in excess of their tax basis?

Answer 26

The loss is carried forward indefinitely until the taxpayer gains more basis.

If the taxpayer disposes of their interest in the flow-through entity while holding unused losses, those losses disappear.

Question 27

What sources of losses does the Excess Business Loss Limitation apply to?

Answer 27

The Excess Business Loss Limitation applies to Schedule C business, Schedule E rental, and flow-through losses.

Question 28

Basic definition and tax treatment of Excess Business Loss?

Answer 28

Excess business losses are not allowed to be deducted in the current year. Excess business loss is the excess of aggregate business losses over aggregate business income plus a threshold amount for a given year. The threshold amount for singles is $305,000 (2024).

Question 29

How are Excess Business Losses preserved?

Answer 29

Carried forward as NOL.

Question 30

How long may NOLs created before 2018 be carried forward and how much yearly income may they apply to?

Answer 30

Can offset 100% of a year’s taxable income but can only be carried forward 20 years.

Question 31

How long may NOLs created after 2017 be carried forward and how much income may they apply to?

Answer 31

Can be carried forward indefinitely. Starting in 2021, can only offset 80% of taxable income.