Income Tax

Question 1

What are the eligibility requirments for a

Subchapter S Corporation?

Answer 1

• Number of shareholders is limited to 100
• The Corporation can only have a single class of outstanding Common Stock (no preferred), but the Common can be voting or non-voting.
• Must be a Domestic Corporation Only individuals, estates and certain Trusts may be shareholders.

NOTE: Non-resident aliens (persons who are neither citizens nor permanent residents of the US) cannot be shareholders.

Question 2

Tax Basis for Partnership / LLC

Answer 2

• Cash invested
• Direct loans made to the partnership
• Partnership Debt: Loans made to the partnership - not the partner (bank loans)

NOTE: S-Corp basis does NOT include bank loans even if the S-Corp owner personally guarantees the debt.

Question 3

Property Classes

Answer 3

1245 Property

• 5 year: Computers, Autos, Trucks
• 7 year: Office Equipment except computers,

1250 Property

• 27.5 year: Residential rental property
• 39 year: Non-residential real property

Remember: CATCORN

Question 4

Boot / Gain Recognized / Basis

Answer 4

No Boot Received: Recognized Gain is zero

When Boot is Received, just answer the recognized gain is the boot received

• Boot paid is added to Basis
• Basis carries over from the prior property

Question 5

Netting Capital Gains and Losses

Answer 5

Step 1:

• ST Capital Gains and ST Losses are Netted
• LT Capital Gains and LT Losses are Netted

Step 2:

• If a Gain and Loss remain, they are again Netted

Step 3:

• If a Loss remains after Netting Capital Gains and Losses, only $3,000 of the Net Losses can be used to offset ordinary income

Question 6

Sale of a Personal Residence (Section 121)

Answer 6

$250K (single) and $500k (MFJ) of Gain from the sale is tax-free if lived in for 2 out of the last 5 years.

• Exception available if taxpayer lives in the residence less than two years and moves because of a new job, for health reasons, etc. Receives a pro-rated amount.

Question 7

Recapture (1245 Property)

Answer 7

When the sole proprietor purchases equipment and takes Depreciation (Cost Recovery Deduction - CRD), the CRDs offset the sole proprietor’s ordinary income.

When the sole proprietor sells the equipment for a gain, the sole proprietor must:

• 1st: Look back and recapture the lesser of the CRDs taken or the Gain realized as 1245 Gain (ordinary income)
• 2nd: Recover any excess gain as 1231 (capital gain)

Question 8

Section 179

Qualifying vs. Non-Qualifying Property

Answer 8

Qualifying:

• Tangible Personal Property
• 1245 Property

Non-Qualifying:

• Real Estate
• 1250 Property
• Intangible (owning a franchise)

Question 9

AMT Preference Items

Answer 9

• Excess Intangible Drilling Costs (IDC)
• Private Activity Municipal Bond
• Oil and Gas Percentage Depletion / Excess intangible drilling costs (IDC)
• Depreciation (ACRS/MACRS) but not straight line

Remember: I.P.O.D.

Question 10

AMT Add-Back Items

AMT Not-Deductible Items

Answer 10

Add Back:

• Incentive Stock Option Bargain Element
• Property and Income Taxes
• Miscellaneous Deductions - Specifically watch out for financial advisor fees
• Home Equity interest NOT used for home improvement

Non-Deductible:

• Standard Deduction

Question 11

Postponing AMT

Answer 11

• Accelerating receipt of taxable income or deferring the payment of property taxes, state income taxes, deductible medical expenses or charitable giving, the regular tax (1040) may exceed the AMT payable (more taxable income)
• Deferring exercise of incentive stock options (preference item) to a later date or disqualifying the ISO so that it becomes NQSO (subject to ordinary income tax).
  
  • Purchase public purpose muni bonds instead of private activity bonds.

Question 12

Historic Rehabilitation Programs

Answer 12

Historic Rehabilitation programs that are held as passive activity may generate a Deduction:

• Equivalent Tax Credit of up to $25,000.

The benefit of this Deduction:

• Equivalent Tax Credit phases out between $200- 250k of AGI.

How does the Deduction Equivalent tax credit work?

• Calculate tax to determine the maximum marginal tax bracket. If it is 25%, for example, then you multiply $25,000 by 25% to get $6250.

Question 13

Low Income Housing Credit

Answer 13

Low-Income Housing programs that are held as passive activity may generate a Deduction:

• Equivalent Tax Credit up to $25,000. There is NO phase out.
• The Low Income Housing Credit is allowed annually over a 10 year “credit period.”
• The Depreciation is straight-line over 27.5 years.

How does the credit work?

• For example, multiply 35% by $25,000 to get a credit of $8750.

NOTE: Because there is no phaseout, it produces a higher credit.

Question 14

Types of Phantom Income

Answer 14

Insurance:

• Lapse of Policy Loan
• Section 162 Life/Disability

​Investments:

• Zero/Strip Income
• TIPS
• Declared but not paid Dividends

Tax:

• K-1 Income from LP/FLP
• Recapture Retirement
• NUA
• 20% withholding plan distributions, Secular Trust

Question 15

Charitable Giving

Answer 15

Calculate the Maximum Deductible - 60% of AGI

• Calculate the eligible amounts given to 50% organizations (public charities) such as all churches, schools, hospitals and organizations such as United Way, Red Cross, Humane Society, etc.
• Calculate the eligible amounts given to 30% organizations (private charities) such as private non-operating foundations, war veteran groups, and fraternal orders.

Question 16

Charitable Giving (Types of Property - 60% Charities)

Answer 16

• Long-Term Appreciated Property, using FMV deduct up to 30% of AGI
• Use-unrelated Property, ST Capital Gain Property using basis deduct up to 50% of AGI

Question 17

Sources of Federal Tax Law/Authority

Answer 17

• Internal Revenue Code: Primary Source of all tax law.
• Treasury Regulations: Great authority, but not law.
• Revenue Rulings and Revenue Procedures: Administrative interpretation. May be cited.
• Congressional Committee Reports: Indicate the intent of Congress. May not be cited.
• Private Letter Rulings: Apply to a specific taxpayer .
• Judicial Sources: Court decisions interpret

Question 18

Step Transaction

Answer 18

Ignore the individual transaction and instead tax the ultimate transaction

• Example: The XYZ Corporation sells property to an unrelated purchaser who subsequently resells the property to a wholly owned subsidiary of XYZ.

Question 19

Sham Transaction

Answer 19

A transaction that lacks a business purpose and economic substance will be ignored for tax purposes.

• Example: A sale by XYZ to ABC, but both XYZ and ABC are owned by the same persons.

Question 20

Substance Over Form

Answer 20

The substance of a transaction, and not merely its form, governs its tax consequences.

• Example: The president of XYZ has the company loan him the money he needs. He never intends to repay the loan or take a salary.

Question 21

Assignment of Income

Answer 21

Income is taxed to the tree that grows the fruit, even though it may be assigned to another prior receipt.

• Example: Mr. T owns XYZ, an S Corp. He directs that all income be paid to his son. Mr. T reports no income.

Question 22

Dates for Paying Estimated Taxes

Answer 22

• April 15
• June 15
• September 15
• January 15

Question 23

IRS Penalties

Answer 23

• Frivolous Return: $5000
• Negligence: Penalty is 20% of the portion of the underpayment attributed to negligence.
• Civil Fraud: Penalty is 75% of the portion of the tax underpayment attributable.
• Failure to File: Penalty is 5% of the tax due per month, with a maximum of 25%.
• Failure to PAY: Penalty is 0.5% per month the tax is unpaid, with a maximum of 25% (Pay-Point)

Question 24

Federal Withholding Tax Underpayment Penalty

Answer 24

To avoid, pay the lesser of:

• 90% of the current year’s tax liability
• 100% of the prior year’s tax liability (or 110% if the last year’s adjusted gross income exceeded $150,000)

Question 25

Adjustments for Adjusted Gross Income (AGI)

Answer 25

The second step in the 1040 calculation is adjusted gross income. It is Total Income (or Gross Income) less adjustments to income.

The main Adjustments or Deductions to Income are:

• IRA Contributions
• Self-employment Tax
• Self-employment Health Insurance (100%)
• Keogh or SEP Alimony paid

Question 26

Schedule A Itemized Deductions

Answer 26

• Medical, Dental, and LTC (10% of AGI)
• Casualty and Theft Losses
  
  • Presidentially Declared
• Real Estate Taxes**
• Investment Interest Expense
  
  • Limited to Net Investment Income
• Home Mortgage Interest
  
  • 750,000 for all filers except MFS (375,000)
  • 1,000,000 (before December 16, 2017.)
• State and Local Taxes**
• Personal Property Tax**
• Charitable Gifts
  
  • 60%
  • 50%
  • 30%
  • 30%
  • 20%

**Limited to $10,000/yr.

Question 27

Casualty Losses (Calculation of the Deductible Loss)

Answer 27

First: Use the lesser of basis or FMV

Second: Subtract any insurance coverage

Third: Subtract $100 (floor)

Fourth: Subtract 10% of AGI. Must be a presidentially declared “natural disaster”

Question 28

Kiddie Tax

Answer 28

All net UNEARNED income of a child who has:

• NOT attained the age 18
• Is 19-23 and a full-time student
• Has at least one parent alive

…is taxed at Trust Rates regardless of the source of the assets.

Children under 18 are entitled (2019) to a Standard Deduction amount ($1,100) and an additional $1,100 of unearned income will be taxed at the child’s rate (10%).

Question 29

Self-Employment Income

Answer 29

• Net Schedule C Income
• General Partnership Income (K-1 income)
• Board of Directors fees
• Part-time earnings (1099) NOT wages or K-1 distributions from an S Corp

Question 30

Self-Employment Tax Calculation

Answer 30

The Taxable Wage Base will not exceed $132,900 (2019).

• If you added up the self-employed income, and you exceeded $132,900, you did something wrong. Why? Social Security tax stops at $132,900 (2019).

Shortcut: Multiply Self-employment Income by 0.1413

Question 31

Tax Credits

Answer 31

• Credit for child and dependent care expenses
  
  • he Child and Dependent Care Credit can be worth from 20% to 35% of some or all of the dependent care expenses you paid. The percentage you use depends on your income. If your income is below $15,000, you will qualify for the full 35%. The percentage falls by 1% for every additional $2,000 of income until it reaches 20% (for an income of $43,000 or more).
  • The 20%-35% is taken from up to $3,000 of expenses paid for one Qualifying Person, or from up to $6,000 of expenses paid for two or more Qualifying Persons. Therefore, the maximum Child and Dependent Care Credit is worth $2,100 (based on 2 or more dependents and $6,000 or more of qualifying expenses).
• Child Tax Credit (up to $1,400 could be refundable)
  
  • Taxpayers can claim a child tax credit (CTC) of up to $2,000 for each child under age 17 who is a citizen. The credit is reduced by 5 percent of adjusted gross income over $200,000 for single parents ($400,000 for married couples). If the credit exceeds taxes owed, taxpayers can receive up to $1,400 of the balance as a refund, known as the additional child tax credit (ACTC) or refundable CTC. The ACTC is limited to 15 percent of earnings above $2,500 (figure 1).
• Adoption Credit
• Elderly and Disabled Credit
• Foreign Tax Credit
• Earned Income Credit (refundable)

Question 32

Accounting Methods

Answer 32

• Cash: Mandatory where taxpayer’s records reflect only cash transactions, and there are no inventories.
• Accrual: Mandatory for purchases and sales where there are inventories.
• Hybrid: Combines accrual for inventory portion of business and cash for cash portion of business.
• Percentage of Completion: For long-term contracts where the contract will not be completed within the taxable year started.

Question 33

Personal Service businesses that should stay away from

doing a regular Corporation

Answer 33

• Health
• Accounting / Architectural
• Law
• Engineering

Remember: H.A.L.E.

Question 34

Realized Gain vs Recognized Gain

What’s the difference?

Answer 34

• Realized is Economic or Inherent Gain at the time of the transaction.
• Recognized is the past of Realized that is immediately taxable.

Question 35

An individual is required to file a tax return if earnings from self employment (1099) are more than ______?

Answer 35

$400