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Income Tax Flashcards

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1
Q

Income Tax Authority Types

A

Internal Revenue Code: primary source for all tax law

Congressional Committee Reports: indicate intent of Congress

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2
Q

Tax Law Doctrines: Step, Sham, Substance over form & Assignment of income

A

Step Transaction: Ignore individual transactions, tax ultimate transaction

Sham Transaction: Lacks business purpose, economic substance ignored

Substance: Substance of transaction governs its tax consequence not just form

Assignment: Income is taxed to “tree that grows the fruit” although income may be assigned to another prior to receipt

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3
Q

Hobby loss

A

Eliminated. Any activity generating net profit in 3 out of 5 years is a business not a hobby. (2 out of 7 for Horses)

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4
Q

Categories for Taxpayers who are required to file income tax return & Filing Status

A

Categories:
Individuals (US Citizen)
Dependents
Children Under 24 (Kiddie Tax)
Self Employed
Aliens

Status:
Single: $13,850 standard deduction
Married filing separately: $13,850 standard deduction
Married filing jointly: $27,700 standard deduction
Head of Household: $20,800 standard deduction
Qualified Widower

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5
Q

Filing & Payment Dates

A

Must file by April 15th, possible 6 month extension to October 15th
- Failure to file is 5% of tax due each month up to 25% max

Payment dates: April 15th (1), June 15th (2), September 15th (3), January 15th (4)
- Failure to pay is 0.5% per month tax unpaid up to 25% max

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6
Q

Penalties for Incorrect tax returns (some way shape or form)

A

Frivolous: Omitted information ($5k)

Negligence: accuracy related (20% of underpayment attributable to negligence)

Fraud: intent to cheat government (75% of underpayment attributable to fraud)

Taxpayer may not be represented by CFP at audit. (Attorney, CPA, enrolled agent/actuary or anyone permitted by IRS)

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7
Q

Estimated Tax to avoid penalty

A

Lesser of
90% current years tax liability
100% of prior years liability
110% of prior years if AGI >$150k

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8
Q

Gross Income Included Elements

A

Wages, Salaries, Tips
Ordinary Dividends (Schedule B) - For GI sake Qualified Dividends included (taxed at LTCG rate)
Taxable Interest (Schedule B)
Business Income/Losses (Schedule C)
Capital Gains/Losses (Schedule D)
IRA Distributions
Pension/Annuities
Alimony received (divorced before 2019*)
Unemployment Income
Real Estate (Schedule E)
Taxable SS Income

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9
Q

Gross Income Exclusions

A

Gifts
Inheritances
Child support
Municipal Bond Interest
Worker’s Comp Payments
Compensatory Damages

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10
Q

Taxable vs Tax Free Fringe Benefits (Only major ones)

A

Tax Free: Occassional sport or theater tickets, premiums the employer pays for employee/spouse/dependent, same for up to $50k in premiums for employee life insurance, company car and employee assistance programs

Taxable: Health insurance premiums paid for self employed, partners and >2% owners of S-Corp. However it’s 100% deductible as adjustment to income on 1040 (medical, dental and long term care). Does not include disability premiums

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11
Q

Adjustments For AGI

A

For = Above the line

IRA contributions
Keogh or SEP contributions
1/2 Self Employment Tax = (Net income * .1413) * .5
100% of self-employment health insurance
Alimony from divorces prior to 2019
Student loan interest

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12
Q

AGI is reduced by the greater of the standard or itemized deduction.

A

Standard deductions
Single or MFS: $13,850
MFJ: $27,700
HOH: $20,800

Elderly: Extra $1,500 per person, jumps to $1,850 if >65
Blind: Extra $1,500 per person, jumps to $1,850 if >65
Child with unearned income: $1,250

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13
Q

Itemized Deductions From AGI

A

From = Below the line (4 letters)

Home mortgage interest
Charitable gifts
Personal property tax limited to $10k total for ‘d answers
State and local sales tax
Real estate taxes
Investment interest (margin account)
Medical, dental, LTC expenses > 7.5% AGI
Casualty losses from federally declared disaster area (formula below)

***No home office deduction

Casualty Loss:
Lesser of basis or FMV
- Insurance coverage
- $100
- 10% of AGI

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14
Q

How many personal exemptions are you allowed?

A

Zero

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15
Q

LTCG Rates and Kiddie Tax

A

Tax Bracket LTCG Rate
10-12% 0%
22-35% 15%
35-37% 20%

Kiddie Tax for unearned income
First 1,250 tax free
2nd 1,250 taxed at 10%
Remainder taxed at parents ordinary income rate

Kiddie Tax for earned income
If child has earned income + $400 > $1,250 standard deduction, use earned income +$400 as new standard

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16
Q

Self employment tax

A

Self employment income: Net schedule c income, board of directors fees, K-1 GP income, part time earnings

Total self employment income * .1413 = self employment tax

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17
Q

Child tax credit for expenses

A

Multiply numbers below by 20%
$3,000 for 1
$6,000 for 2 or more

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18
Q

Tax deduction vs tax credit

A

Lower tax bracket: Credit worth more than a deduction

Higher tax bracket: Deduction worth more than credit

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19
Q

Account methods

A

Cash: Businesses with $29mil ($25mil indexed) in revenues

Accrual: Used for goods and services

Hybrid: Mix of both

Cant be changed without IRS permission

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20
Q

Installment sale recognized gain

A

Gross Profit % = Profit / Sale Price

Installment amount * Gross Profit % = recognized gain

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21
Q

Inventory Valuation and Flow

A

LIFO: Typically use during times of inflation/rising prices

FIFO: Increases earnings and raises current cost of inventory

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22
Q

NOL

A

Net operating losses for pass through business can be carried forward indefinitely

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23
Q

Sole Proprietorship

A

For risk free entities

Advantages:
100% medical premiums deductible
Keogh or SEP available
Income or loss conduit to owner (gains or losses) on schedule C
No legal formalities

Disadvantage:
Unlimited Liability
Business dies with owner
Capital structure depends on owners personal resources

Tax:
Interest paid on debt is deductible

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24
Q

General Partnerships

A

For risk free entities

Advantages:
100% medical premiums deductible
Keogh or SEP available
Income conduit to owner (gains or losses)
Partnership agreement can be oral

Disadvantage:
Unlimited personal liability
Business dissolves on death, incapacity or bankruptcy of one partner
Capital structure depends on resources of partners

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25
Q

LLC (Risky entities)

A

Is a partnership if no more than 2 of the following:
Centralization of management, limited liability, continuity of life or free transferability of interests

If LLC may operate like a GP, then members can still be involved in daily operations

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26
Q

Pass Thru Businesses

A

Sole Prop, Partnership, S corp and other pass throughs may deduct up to 20 percent of income if the taxpayer has qualified business income.

Single taxpayer AGI < $182k or Joint <$364,200 can claim full deduction

Partnerships: Losses deductible up to basis.
Basis is cash contributed by partner, direct loans made by partner and partnership debt

S Corp: Losses deductible up to basis
Basis is cash contributed by shareholder, direct loans made by shareholder (3rd party loans not allowed)

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27
Q

LLP

A

Limited partnership where general partners are not personally liable for malpractice claims of the other general partner

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28
Q

C Corp

A

For profitable businesses

Advantages:
Separate tax entity
Unlimited investors (sale of stock)
Limited Liability
Continuity of life
Dividend received exclusion (50% if 20% owner, 65% if 20-80% owner & 100% if >80% owner)

Disadvantages:
Corporate formalities
Dividends paid after tax (Double taxation)
Double taxation on accumulated earnings beyond certain limit

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29
Q

PSC

A

C Corp owned by HALE individuals. Flat tax of 21%, for profitable businesses

H - Health
A - Accounting, Architectural, Actors
L - Law
E - Engineering

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30
Q

S Corp (Risky entities)

A

Becomes an S corp by unanimous election of shareholders

Advantages:
<= 100 shareholders
Only a single class of common stock, can be voting or non (not preferred)
Domestic corp
Individuals, estates and certain trusts can be shareholders
Files on 1120S

Disadvantages:
Corporate formalities
Sale of stock limited by eligibility standards

31
Q

Limited Partnership (Risky entities)

A

Any business can be a limited partnership. Must have one General Partner. Limited partner is passive investor and liable up to their capital contribution.

32
Q

Tax Forms

A

Corp: 1120 (Filing), W-2 (Employee), 1099 (Distributions)

Sole: Schedule C (Filing), Sched. C (Employee), N/A (Distribution)

Partnership: 1065 (Filing), W-2 (Employee), K-1 (Distributions)

S Corp: 1120S (Filing), W-2 (Employee), K-1unearned (Distributions)

33
Q

Differences between estates and trusts?

A
  1. Trust is created intentionally. Estate comes into existence by operation of law upon decedents death
  2. Estates operate for a limited period. Trusts operate for many years
  3. Estates move property to beneficiaries. Trusts may retain property
  4. Court supervises the estate. Trustee operates trust under private agreement
34
Q

Tax Filing of Estates and Trusts

A

Estate: File 1041, due on 15th of the fourth month after the entity’s year ends,
only file if either >$600 gross income, any taxable income or bene is a nonresident alien.
Estate can deduct admin costs, attorney fees and expense for preparing return

Trusts: Must file using calendar year, except charitable trusts

35
Q

Distribution to beneficiaries of trusts and estates for tax reporting

A

Beneficiaries must report all income to be distributed, whether or not it was received and all amounts actually paid or credited up to the amount of their distributed net income

36
Q

Grantor Trusts

A

Also known as tainted or defective trusts. The following violations taint the trust and tax the grantor rather than the trust itself.

  1. Trust income is/may be distributed or accumulated for later distribution to grantor or spouse
  2. Trust income is/may be used to discharge any legal obligation of the grantor
  3. Trust income is/may be used to pay premiums on life insurance of either grantor or spouse

Can also be tainted for estate tax if grantor….
1. Has Beneficial enjoyment: right to income or right to use/enjoy trust property
2. Has reversionary interest (interest that reverts back to grantor) that exceeds 5% at the time of death

All others would be non-grantor trusts

37
Q

ILIT

A

Insurance Life Insurance Trust

Unfunded: if yearly gift to the trust pays the insurance premium

Funded: If lump sum (corpus) is given at beginning and income generated pays premium.
Only the amount of the premium is taxable to the grantor. The remainder is taxed to the trust

38
Q

Simple Trust/Estate

A

Used as conduit for distributing income to beneficiaries. Beneficiaries pay the taxes not the trust.

Cannot make charitable gifts

39
Q

Complex Trust

A

Taxed as a separate entity.

It’s irrevocable and grantor has not retained any control

Income must or may be accumulated.

Income accumulated taxed to trust, income distributed taxed to beneficiary.

Can make charitable gifts, and corpus can be distributed

*Not all irrevocable trusts are complex

40
Q

Revocable Vs Irrevocable Trusts

A

Revocable: Grantor trusts, all income earned is taxed to the grantor. At death, trust becomes irrevocable corpus is either distributed or continues to later date.

Irrevocable: Grantor gives up all rights in property transferred to trust. It becomes a non grantor trust. Can be taxed as simple or complex depending on whether all income is distributed in that tax year

41
Q

Trust Tax Deductions (exceptions to what an individual can deduct otherwise similar)

A

Charitable deduction: Only for complex

Administrative expenses

All income the trust is required to distribute, doesn’t matter whether or not it’s actually distributed. Complex trust has a $300 exemption if it has to distribute all income and $100 if it is not required to distribute income

42
Q

DNI and DNI deduction

A

DNI (Distributable Net Income): Limits amount beneficiaries must report as gross income on distrubtion.

The deduction is the lesser of the DNI and the distributions for the year.

Must limit portion of distribution that is taxable to beneficiary

43
Q

Cost Basis & Adjusted Basis

A

Cost Basis = Original purchase price or investment in any asset + improvements (including legal fees, commission and sales tax)

Improvements: Increase cost basis, but must be capitalized first. Replacing A/C, plumbing or roof. Add fence, room. Pave Driveway. Incur assessment.

Repairs: Deducted as expenses, never affect cost basis. Repair or pay for something are typical key words.

Adjusted Basis = Cost basis less cost recovery (deductions). Deduction generates tax savings but reduces basis of the asset

44
Q

Amortization

A

Assets with no physical substance can still be recoverable similar to straight line depreciation

45
Q

Accretion

A

Creates phantom income for each year of the bond’s life for the discount earned on that bond (often for zero coupon bonds)

46
Q

Gifting property for income tax

A

Use the lesser of the FMV or the adjusted basis on date of gift.

If FMV is less than adjusted basis: Use following for actual sale of the gift

Gain if sale price is > Adjusted basis

Nothing if between the two

Loss if sale price is < FMV

47
Q

Community vs Noncommunity property: For marital property

A

Community: Receives a full step up in basis to FMV

Noncommunity (common law): 1/2 step up on basis to FMV

48
Q

MACRS vs Straight Line recovery

A

MACRS requires half year convention for year of acquisition (recovers faster). Its used for non residential real estate property

Recovery MACRS Straight Line
Year 5 year 7 year 5 year 7 year
1) 20% 14.29% 10% 7.14% (straight is half for both 5&7)
2) 20% 14.29%

49
Q

Property classes and recovery years

A

5 Year: Computer, Auto, Light Duty Trucks (1245 Property)

7 Year: Office furniture and fixtures (1245 Property)

27.5 Year: Residential rental property (1250 property)

39 Year: Nonresidential real property (1250 property)

CORN Accronym, residential is more useful therefore shorter schedule

50
Q

Expensing using 179 deduction

A

Allows for 1245 property to be deducted $ for $ to the taxable income for the taxpayer of any trade or business up to $1,160,000. Cannot create a loss though.

51
Q

1031

A

No gain or loss is recognized on exchange of certain like kind investments or for productive use in trade or business

Real estate is only qualifying property.
- Shopping center, rental property, apartment complex, farm, ranch

Taxpayer must use property for business purposes (no primary residence)

52
Q

Boot

A

Any consideration in addition to exchange in a 1031 exchange

Boot Received: recognized basis
Boot Paid: Add to your current basis
Basis carries over from last property

53
Q

1031 Calculations

A

Realized Gain: FMV of property acquired + boot - adjusted basis (amount will be provided)

Recognized Gain: Lessor of realized gain or boot received (if no boot received answer is 0)

Substitute basis: FMV of property acquired - (realized gain - recognized gain)

54
Q

Capital Gains and Losses

A

Short term gains & losses are netted against each other

Long term gains & losses are netted against each other

Remaining gains & losses are netted against each other (not gains & gains or losses & losses)

Only $3k of losses can be used to offset ordinary income

55
Q

LTCG and STCG Tax Rates

A

LTCG Single Joint HOH
0% <=44,625 89,250 59,750
15% <=492,300 553,850 523,050
20% Anything Above the numbers in 15%

STCG
Taxed at ordinary income rates, long term collectible rates are 28%

1250 property long term capital gains are taxed at LTCG rates, but a special 25% depreciation recapture is applied when property is sold

56
Q

Mutual Fund Shares Sale Tax Implication

A

3 methods

FIFO

Specific Identification: Identify specific shares to sell

Average Cost: Average cost of all shares held. (Total cost held / # shares held)

57
Q

Sale of Residence Code Section 121

A

Must have owned the home and it be their primary residence.

$500,000 is excluded from gross income on sale for joint, $250k for single

Can receive partial deduction if move is required by employer, health reasons or unforeseen circumstances (divorce or natural disaster). Deduction is percentage of how long you lived their prior to leaving

58
Q

Depreciation recapture

A

Applies to all 1245 property.

Business claims cost recovery depreciation as a deduction of ordinary income.

When 1245 property is sold for a gain:

Look back and recapture the lesser of total CRD’s taken or gain realized (ordinary income)

recover any excess gain as 1231 gain. (If CRD’s taken are < gain, the excess gain minus the CRD’s)

59
Q

Installment sale recapture

A

If taxpayer makes an installment sale of tangible personal property all depreciation recapture must be reported as income in the year of sale.

60
Q

Wash Sale

A

No loss deduction for sale of a stock that is repurchased within 30 days

61
Q

Related parties in like kind exchanges

A

Like kind exchanges and installment sales are subject to related party rules, meaning if they sell the property within 2 years any gain not recognized is recognized on the date of sale

62
Q

AMT

A

Alternative minimum tax rate is either 26 or 28%.

AGI or Post 1040 income + Pref Items + Add back items - exemptions. Multiply by AMT tax rate

Preference items that need to be added back for AMT calculation: IPOD
Intangible Drilling Cost (Excess depletion)
Private activity municipal bond
Oil & Gas percentage depletion
Depreciation (ACRS & MACRS, Not straight line)

Add back items:
Taxes: Property, state, city/income & sales
Bargain element: On incentive stock options

AMT Tax Payable = AMT - estimate regular tax (if answer is negative then its 0)

63
Q

How to avoid or postpone AMT

A
  1. Accelerate the receipt of taxable income or defer payment of taxes (property/state income), deductible medical expenses, or charitable giving (increases taxable income)
  2. Defer the exercise of ISO’s to a later date or disqualify it so it becomes a nonqualified stock option
  3. Purchase public purpose muni bonds (not private activity)
64
Q

Passive activity income

A

A trade or business where the taxpayer does materially participate.

There are two types of passive activities:
1. Rentals, both equipment and rental real estate, and oil royalties
2a. Limited partnerships
2b. Partnerships, S-Corps and LLC’s (both 2a and 2b the taxpayer cannot materially participate)

May only deduct the loss to the extent of income generated from another passive activity

65
Q

Publicly Traded Partnerships

A

Publicly Traded MLP’s: Cannot be used to offset losses from any other source. Losses are carried forward but can only be used for future income from that same partnership

Non-Publicly Traded MLP’s: Can uses losses to net against passive income generators. Can only take loss up to income generated can’t take extra.
PIG & PAL (Passive income generator & Passive Income Losses)

When owner disposes of their entire position in a passive activity or dies, any suspended losses are fully deductible in that year.

66
Q

Material and Active Participation

A

Material: Taxpayer is involved in the operation of an activity on a regular, continuous and substantial basis. (Generally not a limited partner)

Active: Requires bona fide involvement in management decisions. Must own >=10% interest in the property (can never be a limited partner).

67
Q

Passive Loss for Real Estate

A

Can deduct up to $25k in net losses for real estate. Phased out 2 for 1 with AGI between 100k-150k.

Principal Residence (Not a passive activity): Rented < 15 days, income excluded from gross income

Renting vacation home: included as a residence if owner uses it for personal purpose >14 days or 10% of the period of rental use.

68
Q

Best ways to lower AGI with

A

Invest in low income housing that generates losses and credits

Invest in GP’s that is losing money (unlimited liability and pass through losses)

69
Q

Special Circumstance Tax Implications

A

Widow: Can file jointly with deceased individual for that year. If they maintain the home for a dependent child, they can file jointly for the 2 years after the year of death

Divorce: Finalized after 12/31/2018, alimony payments are not deductible, and recipient doesn’t claim as income. Alimony is deductible if the below and finalized before 12/31/18 are met.
- Cannot live or file joint tax return together at time of payment
- Payments made in cash
a. Payments can be made to cover rent, mortgage, tax or tuition liabilities
b. If payee owns life insurance policy on payor, premiums paid would qualify for
payor if they make them
c. Payments in noncash (services, use of property etc) or payments to maintain
property owned by payor and used by payee all do not qualify
- Payments must be received by or FOB of payee spouse (not child support)
- Payments cannot extend beyond the death of recipient spouse

70
Q

Recapture of Alimony

A

Payments made in first two years - $37,500 = Recapture amount

Amount recaptured is treated as ordinary income to payor (because they deducted too much in years 1 & 2)

71
Q

Child Support

A

Nondeductible to payor and nontaxable to payee. Never considered as part of alimony

72
Q

Charitable Contributions and Distributions

A

Cash Contribution: Max 60% of AGI for total contribution (50% to public and 30% to private)

For Appreciated property
Public Organization: 50% of AGI
Private Organization: 30% of AGI
If using basis you can use up to 50% of AGI, up to 30% of AGI for FMV

Use Related: Real Estate and Stocks

Use-unrelated: Inventory, copyright, short term capital gain property, use-unrelated property (land or artwork). Must use basis but can take the full 100% up to the AGI limit of the organization donating too.

Properties with a loss must use lower number, short term must use basis

73
Q

Business Charitable Contributions

A

Business cannot deduct >10% of its taxable income for charitable gifts

Any business other than S-corp can deduct inventory as a gift.

CFP (20 decks)

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