Tax Flashcards
ATRA 2012
- Top marginal tax rate from 39.6% to 35%
- Top marginal rate of dividends taxed at the cap gains rate of 20%
Excise Tax
Taxed at the Federal, State or Local Level
Restricted to a specific item (tobacco, alcohol, etc)
Severance Tax
Tax on natural resources
FUTA
- Federal Unemployment Tax
- Tax only paid by employer.
Not subject to FICA
- Child under 18 working for parents
- Must be sole proprietorship or general partnership where parent is proprietor or partner.
Wages not subject to FUTA
- Child under 21 working for parents
- Parents working for child
Statutory source of tax law
- Internal Revenue Code
- new legislation originates in the House Ways and Means Committee
Administrative Source of Tax Law
Internal Revenue Service
Execution of the tax code.
Regulations: official interpretation of the tax code:
- proposed regulations - not binding
- temporary regulations - binding until a final regulation is issued
- final regulation - full force and effect of the code itseld
Revenue Rulings
- Revenue rulings: used to give taxpayers insight into how IRS will handle transaction
Private Letter Rulings
- Issued for PROPOSED transaction
- Issued to a specific individual to know how to treat a specific situation.
- Only applicable to the specific taxpayer, but can be used to see precedents.
Determination letter
- Issued for a COMPLETED transaction
- Requested from the district director when the taxpayer has engaged in a transaction and would like to know how to handle it.
Sources of tax law
- Statutory
- Administrative
- Judicial
Revenue Procedures
Detail internal practices and procedures in the IRS
Judicial sources of tax law
- The body of decisions from US courts
- case law.
General statute of limitations on collection of taxes
- 3 years for audits and refunds
- 10 years for IRS to collect the funds
Significant underestimated of income statute of limitations
>25% understatement
6 years
Fraud statute of limitations and penalty
- No statute of limitations
- Penalty: 15% per month up to 75% of underpayment
Collection of deficiency by IRS
10 years
Refund claim by taxpayer statute of limitations
3 years
Failure to file penalty
5% per month or part thereof (full amt if only late by 1 day) up to 25% max
If also fail to pay, this penalty is reduced by .5%/month
File - Five percent
Failure to pay penalty
- .5% per month or part thereof (full amt if only late by 1 day) up to 25% maximum.
- Cannot be waived. .5% = interest on the money
- Can be in addition to the failure to file penalty.
- Pay - Point 5 percent
Accuracy-related penalty
20% of underpayment to 30%
Audits
- Can represent a client during an audit: ACE - Attorney, CPA, Enrolled Angent
- Can be random, based on document-matching (w2, etc), or based on related transactions.
- Can be by mail or in-person
- concluded in 3 ways:
- No change
- Agreed
- Disagreed
Courts
- Tax Court
- US District Court
- US Court of Federal Claims
Required to pay the tax to access court
- US District Court
- US Court of Federal Claims
- Must pay first and then sue to get a refund.
Tax Court
- Tax only
- Don’t have to pay tax first
- No max claim
- No jury
- Throughout US
- Appeals to : US Court of Appeals
Tax Court - Small Claims
- only tax cases
- Don’t have to pay tax first
- Max claim: $50,000
- No jury
- Courts throughout US
- No appeals
US District Court
- Hears all types of cases
- Required to pay tax first and then sue for refund
- No max claim
- Jury trial
- Throughout US
- Appeals to US court of appeals
US Court of Federal Claims
- Hears claims against the US gov’t
- Required to pay tax first and then sue for refund
- no max claim
- no jury trial
- Only heard in DC
- Appeals to US Court of Appeals - Federal Circuit
Taxable Income
Income - deductions
Tax Liability
Taxable income * Tax rate
Income
- Gross amount received.
- Does not include proceeds of borrowed money or return of basis
Gross income
Income minus certain exclusions.
Includes:
- capital gains
- alimony received
- unemployment comp
- compensation
- royalties
- interest
- dividends
- distributions from most retirement plans
- self-employment income
AGI
Adjusted Gross Income
Gross income minus above-the-line deductions (deductions for AGI)
Taxable Income
- AGI minus
- The greater of the standard deduction or itemized deductions
- personal and dependency exemptions
Tax liability
Tax on taxable income minus credits
Income excluded from gross income
- Cap WEST Work
- Return of CAPital
- Things that make you Whole: life insurance, payments for bodily damage, workman’s comp.
- Education: tuition, fees, book, not including room and board
- Support: child support
- Transfers: gifts and inheritances
- Certain fringe benefits at work
- Also, sale of primary residence, muni bonds, scholarships/fellowships for education
Deductions for AGI
Above-the-line deductions.
4Samish
4S’s:
- Self-employed business expense
- Self-employed health insurance deductions
- Self-employed retirement plans
- Self-employment tax (1/2 FICA)
Alimony payments
Moving Expense - if qualified (50 miles with residency requirement)
IRA Contributions
Student Loan interest deductions
HSA Contributions
Also, penalty on time savings account (penalty on CD early-withdrawal), tuition, losses from the sale of business property
Deductions FROM AGI
Below-the-line deductions:
My Income Tax Check Comes Monday
Medical and dental payments over 10% AGI
Interest - personal residence mortgage, acquisition indebtedness and equity indebtedness, investment interest expense
Taxes paid - state and local income tax, real estate taxes, personal propery taxes, foreign taxes paid
Charitable contributions
Casualty - theft, each one subject to $100 floor, all casualties must be in excess of 10% of AGI
Misc expenses: unreimbursed employment expenses, property taxes on car if they are paid to state, gambling losses to the extent of winnings; tax preparation
Credits
- Earned Income Credit
- Child and dependant care credit
- Child tax credit - $1000 per child under 17
- American Opportunities Credit, Lifetime Learning Credit
- Foreign Tax credit
- Credit for elderly/disabled
- Adoption Credit
MAGI
Modified Adjusted Gross Income: AGI that is used to determine eligibility for a deduction FOR AGI.
e.g. to determine whether one can deduct IRA contributions add back the contributions to the AGI and that is MAGI for that deduction,
Additional Standard Deduction
- Additional standard deduction for each taxpayer or spouse who is 65 years or older or blind.
- Each person gets for each criteria.
Taxpayers ineligible for standard deduction
Must itemize:
- married, filing separate if either spouse itemizes
- nonresident alien or dual status alien
- individual filing return for short tax year bc of change in annual accounting period.
Personal and dependency exemptions
- deductions from AGI
- Personal exemptions - taxpayer and spouse
- Dependency exemption - each dependent.
- Phased out for high income
- Someone claimed as a dependent on someone else’s return cannot take an exemption on his/her own return.
Credits
- dollar for dollar reduction in tax liability
- Credit for taxes witheld
- Credits for estimated tax payments
- qualifying tax credits:
- child and dependent care credit
- child tax credit
- earned income credit
- education credits (AOC, LLC)
- retirement savings credit
Marital Status
- Determination is made at close of the tax year
- If spouse dies during tax year:
- MFJ can still be used if surviving spouse does not remarry in tax year.
- If remarriage, deceased spouse file MFS.
Abandoned spouse
- Legally married taxpayer can use HOH status
- Criteria:
- married
- files seperately from spouse
- house is principal place of abode of dependent child
- furnishes over 1/2 cost of maintaining household
- taxpayer is abandoned.
Surviving Spouse status
- similar to MFJ status in benefits
- spouse must have died during either of the 2 preceding tax years
- must maintain a household that is the principal residence of dependent child
- not remarried
- taxpayer and spouse were eligible to file joint return at time of death.
Head of household
- must maintain a household which is primary residence for more than half the year of:
- qualifying child
- qualifying resident
- can also maintain a separate household for father or mother who qualifies as dependent.
Qualifying Child
Must meet 4 tests:
- relationship test
- abode test
- age test
- support test
Qualifying child relationship test
- taxpayer’s child
- descendent of the taxpayer’s child
- taxpayer’s sibling, step-sibling, half-sibling
- descendent of taxpayer’s sibling, step-sibling, half-sibling
Qualifying child abode test
- live with tax payer at least 1/2 year
- temporary absences due to school, illness, etc. are ok.
Qualifying child age test
- under age 19
- student under 24 - enrolled as a full time student for at least 5 months of the year
- disabled not subject to age test
Qualifying child support test
- child does not provide more than 50% of own support
- scholarships are not considered to be support.
Qualifying relative tests
- relationship test
- support test
- gross income test
- not a qualifying child
Qualifying relative relationship test
- all criteria of child test
- parent or grandparent
- stepparent
- niece/nephew
- aunt/uncle
- in-laws
- any individual who lives more than 50% of the year with taxpayer (except ex-spouse)
Qualifying relative gross income test
- gross taxable income less than exemption amount (e.g. 4K)
Qualifying relative support test
- taxpayer pays more than 50% of support
- scholarships are not considered support
- exceptions:
- multiple support agreements (multiple children supporting parents
- children of divorced parents
Multiple support agreements
50% rule for support of relative is satisfied if:
- provides more than 10%
- Those who provide more than 10% also provide more than 50% of total support
- others who qualify for previous support sign a statement agreeing not to claim an exemption for this person.
Children of divorced parents
- noncustodial parent can claim dependent if divorce decree specifies or custodial parents issue waiver
Qualifying relative join return test
- qualifying relative must not be filing MFJ with a spouse unless it is filed only to claim a refund.
Qualifying relative citizen or residency test
- dependent must be a citizen or national of the US or a resident of the US, Canada, or Mexico during some part of the year.
Standard deduction for a dependent
(dependent files own tax return)
- The greater of:
- $1,050 or
- earned income of the taxpayer plus $350 up to standard deduction of normal standard deduction for taxpayer’s filing status.
- Any additional SD’s for age or blindness are added.
Kiddie Tax
- Only amount of UI over 2100 is taxed at parents rate
- All earned income is taxed at child’s rate
- The UI under $2100 may be taxed at KR or not at all.
- child under 19 or full-time student under the age of 24.
- 1st subtract the 2100 from the unearned income to get how much is taxed at parents rate.
- Then calculate gross income and deduct SD to get taxable income.
- Subtract amt taxed at parents rate from taxable income.
- Then we have amt taxed at kid rate.
- Net Unearned Income (NUI) is amount taxed at that the parents rate.
- NUI = unearned income - $2,100
Income from discharge of indebtedness
Generally taxable
Inc/Ex. Muni Bonds
Excluded
Incl/Ex: Life insurance Proceeds
Generally excluded, except if transfered for value
Accelerated Death Benefits
- Excluded if person is terminally ill and used for qualifying care expenses.
Incl/Ex: Income from Roth IRA
Excluded if qualified
Incl/Exc: Educational Savings Bonds
Amount used to pay for qualified expenses. Proportionally taxed if sold for more than paid for educational expenses.
Incl/Excl: Improvements by tenants
Excluded
Incl/Excl: Gifts/Inheritances
Excluded
Incl/Excl: Compensation for sickness/injury
Excluded
Incl/Excl: Child Support
Excluded
Incl/Excl: Alimony Payments Received
Included
Incl./Excl: Property Settlements
Transfer of property under divorce agreement
Excluded
Incl/Excl: income from discharge of indebtedness
- If in bankruptcy, excluded
- If other discharge, included (e.g. short sale)
Incl/Excl: Scholarships
Excluded if pays for tuition and expenses, but included to the extent that it pays for room and board and was not payment for work.
Incl./Excl: Distaster Relief Payments
Excluded
Incl/Excl: qualified foster care payments
Excluded
Incl/Excl: Gifting of debt instruments
Gifting of bonds.
Donor and donee must report the interest based on the number of days it was owned by each during the year.
Qualified Dividend
- Distributed by US corp or qualified foreign corp
- Held for the 120 days before and after ex-dividend date.
Taxation of annuity payments if taken out prior to annuitization
(pre-1982 and post-1982)
Issued, pre-1982 annuity, taxed on FIFO basis - excluded until return of all capital.
Issued post-1982 annuity, taxed on LIFO basis
Under 59 1/2, pre-82 gains subject to 10% penalty; post-82 all subject to 10% penalty.
Annuitization tax
(post-1986)
- Exclusion ratio only applied until recovered all of basis, then 100% taxable
- Exclusion amount = (Investment in the contract/expected return) * annual distributions
- (pre-1982 exclusion ratio remains the entire time)
Surrender of annuity
- If surrendered for cash surrender value, the amount in excess of basis taxed as ordinary income.
- 10% if distribution prior to 59 1/2
Incl/Excl: Prizes and Awards
- Generally included.
- Scholarships generally not included unless for room and board.
- Employment achievement awards- as long as part of non-qualified plan, not available to all employees under $400 excluded.
- $1,600 for qualified plan (written plan that does not discriminate in favor of HCE’s)
Alimony taxation
In order to be alimony payment must be:
- in cash
- must be received by the spouse under divorce/separation agreement.
- agreement must not identify payment as ‘not alimony’
- payee and payor must not be members of the same household
- there cannot be any liability to make payments after the death of the recipient.
Alimony Recapture
- If alimony is front-loaded in the first 2 years by more than $15,000, than recapture come into play.
- Can be front-loaded by up to $37,500 in the first 2 years with no recapture.
- The amount of alimony recaptured in year 3 = r3
- R3 = P1 + P2 - 2P3 - 37500
- In the 3rd year, payor must add to income, payee deducts.
- Can be used to defer income tax until in a lower bracket in a later year.
Inputed Interest for Loans
Interest set at AFR - Applicable Federal Rate
Lender pays the tax
- Less than 10K, no inputed interest (can be 24K if 14K gift exclusion, plus 10K)
- If borrower has less than 1K net investment income, no inputed interest up to 100K
- For loans between 10 and 100K, pay inputed interest on lesser of net investment income or difference between AFR and below-market rate.
- For loans over 100K, difference between AFR and market rate
Tax Benefit Rule
If someone deducts an expense one and year gets reimbursed the next year, reimbursement must be included gross income
Incl/Excl: Gambling Winnings
Included
Incl/Excl: Jury Duty Pay
Included
Incl/Excl: Executor Fees
Included
Incl/Excl: Compensatory Damages
Included unless it is for bodily injury (making one whole).
Incl/Excl: Punitive damages
Included
Incl/Excl: Foster care payments
Some payments can be excluded.
Incl./Excl.: disaster relief payments
Generally excluded, but depends on disaster.
Exceptions to cash method
- OID’s
- Constructive receipt - if, e.g. dividend was issued but hasnt been received, counted as received.
- Loans
Exceptions to the accrual method
- Prepaid income
- advance payment for goods/services
- string attached: contingency/due diligence
Foreign Earned Income
- Qualified resident or citizen of the US may exclude $100,800 of earned income abroad.
- tax home in foreign country AND
- be a resident of the country for a full tax year OR
- be in that country for 330 days or more during 12 month period
Taxation of fringe benefits
- all fringe benefits are included in gross income unless a specific IRS provision excludes it OR
- the employee pays out of pocket for it.
Incl/Excl: Employer-paid medical insurance
Exclude
Incl/Excl: Employer payment of employee medical expenses
Exclude
Incl/Excl: Reimbursement of employee medical expenses after the year paid by employee
If deducted in prior year, must include
Incl/Excl: Group Term Life Insurance
- An employer can deduct total amount
- Premiums for up to 50K of coverage may be excluded from gross income.
- Must be available to all employees.
- Over 50K, use uniform premium table (table 1 rate) to determine premiums that are includable as gross income (in cents per $1,000 of coverage) and multiply by 12.
Incl/Excl: Meals and Lodging
- Excluded if provided for the convenience of the employer and on the employer premises.
Incl/Excl: No add’l cost service
- Excluded if there is no financial detriment to employer.
- Goods/services must be offered in the regular course of business.
- Airline employees stand-by; parking garage attendant.
- Must be nondiscriminatory
Incl/Excl: Employee discount
- Excluded if:
- for services, discount up to 20%
- for products, discount off profit margin. Can sell at cost
- Must be nondiscriminatory
- Deductible to employer
Incl/Excl: Lodging
Excluded if:
- On the employer premises
- Is furnished for the convenience of the employer
- Is a requirement of the job
Incl/Excl: Employer Gym
Excluded if:
- operated by employer
- located on premises
- all of the use of the facility is for employees and families.
Medical Expenses
Deductible over 10% of AGI (7.5% if 65 or older)
Qualified expenses are those
- Health insurance premiums (after tax - if self-employed, not subject to 10%. Then it’s an above-the-ling deduction)
- Capital Expenditures - chair-lift, etc. - Only deductible minus the amount of added-value to home.
- Nursing Homes/Special Schools
- Travel (based on mileage and lodging ($50/per person per night for up to 2 people)
- Non-deductible - elective cosmetic surgery, gym, marijuana, OTC
Capital Expenses for Medical Reasons
- Subject to 10% AGI Floor for all medical expenses.
- Deductible minus amount of increased home value (appraisal not deductible)
- If not increased value (for chair-lift, etc), no appraisal necessary
- Other expenses related to the capital expenses also deductible (extra electricity, water bill, etc)
Reimbursement for Medical Expenses
Only deduct amount not reimbursed.
If reimbursed in the year after, must add that amount to AGI.
Charitable Deductions
Deductible in current year and addtional 5-year carryforward.
Deductible less goods/services received
For donations that result in rights to buy season tickets, 20% of donation is deductible.
PNOF - Private non-operating foundation
If not enough money is going to public good.
Less charitable donation is deductible
Educational Assistance Programs
- Up to $5,250 maybe excluded from employee’s gross income.
- must be nondiscriminatory
- Any amount is deductible to employer
Dependent Care Assistance Fringe Benefit
- Benefit must be nondiscriminatory
- Employee must need the care in order to work
- Qualifying people:
- Dependent child under 13
- Dependent child unable to care for self
- Spouse if unable to care for self
- Employee can exclude the lesser of:
- 5K annually (2,500 married filing seperately)
- earned income of employee or spouse
Working Condition Fringe Benefit
- Any property/service provided to employee that enables employee perform job
- Travel expenses, cars, etc.
- Can be discriminatory (based on job description, etc)
De Minimis Fringe Benefits
- Value is so small that accounting for it is unecesary
- De Minimus meals - pizza for employees
- De Minimus transportation - occasional car service
- Can be discriminatory.
Moving expenses
- Qualified location - new job is at least 50 miles from old home.
- Employee must be full-time in new location from at least 39 weeks or 78 weeks if self-employed.
- Reasonable expenses are deductible along with transportation and lodging to get to new location.
- Non-deductible - meals, storage, house hunting.
Qualified Transportation and Parking Fringe Benefit
- $130/month for commuter pass/$250/month parking
- May be discriminatory
Adoption Assistance Programs Benefit
- up to $13,400 of expenses are excluded. Phase-outs apply
- Must be nondiscriminatory
- If adopting special needs child, employer can contribute $13,400 regardless of expenses
Tuition Reduction Plans
- Can benefit employee, spouse or dependents.
- Must be nondiscriminatory
Incl./Excl: Unemployment Compensation
Included in gross income
Incl/Excl: Worker’s Compensation
Excluded from gross income
SS income subject to tax
Up to 85% may be added to taxable income
If MAGI + 50% social security:
- lower than base amount threshold, no tax
- If between base amount and adjusted base amount, up to 50% taxed
- If over adjusted base amount, up to 85% taxed
MAGI = AGI + Muni income + Foreign Earned Income
SEE FORMULAS
Archer MSA’s
- Medical Savings Account
- Can only be offered by employer
- Above the line
- 20% penalty if under age 65 (like HSA)
- No longer offered
Trade and Business Expenses
- Above the line
- Must be ordinary and necessary
- For C-Corp, S-Corp, or Partnership, business expenses are deducted on entity tax return and net profit/dividends passed through to owners.
Roth IRA’s
- No current deductibility
- Qualified withdrawals are tax free.
- Phase-outs
- Married Filing Separately, phase out between 0 and 10K.
TIRA Deductible contributions
- Anyone can contribute to IRA
- Anyone can deduct IRA contributions if no qualified plans.
- If a person has a qualified plan, phase outs for TIRA deductibility (between 98 + 118K)
- Higher phase-outs if one spouse has qualified plan and one doesn’t.
Educator Expenses
- Above the line deduction
Student Loan Interest
- Up to $2,500 per year deductible above the line
- Phase-outs apply
- If student pays back parent loan, not deductible
- If parents pays back student loan, not deductible
Penalty on early withdrawal of savings
- e.g. CD - Above-the-line deductions
Research for purchase of new business
- If same business already engaged in, deductible above the line
- If new type of business, only deductible if business is actually acquired.
Home office deduction
- Must be business owner
- Must be used exclusively for business purposes
- Above the line
Schedule A
Itemized deductions:
- Medical Expenses
- Taxes
- Interest
- Charitable Contributions
- Casualty Losses
- Misc. Deductions
Deductible Taxes
- State and local income tax or sales tax
- Foreign income taxes
- Property Taxes
Nondeductible:
- fines/fees
- excise taxes
- Gift/estate taxes
Deductible Residence Interest
- Qualified residence interest: Limit 2 houses and total 1M in acquisition debt.
- HELOC up to 100K as long as secured by home
- Investment interest expense - margin interest to the extent of investment income
- Not muni-bond income
- Net Investment Income does not include preferentially treated income such as long term capital gains and qualified dividends
Nondeductible Interest
- Personal loans, bank, credit card, car, etc.
- Interest used to by tax free bonds (margin interest on muni’s)
Investment interest expense deduction
- Investment interest expense - margin interest to the extent of net investment income
- Interest expense on muni-bond income not deductible
- Net Investment Income does not include preferentially treated income such as long term capital gains and qualified dividend
- Can waive the ability to take preferential treatment on LT gains and Qual. dividends in order to use margin expense to offset.
50% Charity
- Public charity
- 50% of AGI can be deducted
- Year 1 gift plus 5 carryover years for 1 gift (6 total year)
Donations of property with LT CG, real estate, or related Tangible Property
LT Capital gain prop, real estate, or related (related to charity’s mission) tangible property:
if 50% charity:
- Can deduct up to 50% of AGI, if use basis for value
- Can deduct up to 30% of AGI if use Fair Market Value
if 30% charity:
- Must use basis and can deduct up to 20%
COST Donations
For donations of COST:
- Cash
- Ordinary income property
- Short-term capital gains
- Unrelated tangible property (unrelated use to charity’s mission) - must use BASIS, not FMV if
- Property with a loss
50% of AGI can be deducted for 50% Charity
30% of AGI can be deducted for 30% Charity (20% for tangible property of unrelated use
Casualty Losses
Losses/damages to property due to a sudden and unexepected event.
- Amount of loss lesser of:
- Decline in value after the loss or
- adjusted basis (less insurance proceeds received)
- $100 disallowance for each occurance
- Subject to 10% AGI floor
- Casualty loss is reduced by casualty gain
Business Casualty Loss
- Can take amount of loss plus amount depreciation when calculated lesser of decline in value or basis.
- Full basis eligible for write-off
- Not subject to 10% AGI Floor
- Not subject to $100 deductible.
Misc Deductions subject to 2% AGI Floor
- Hobby expenses
- Investment advisor fees
- Employee business expenses
- Losses on IRA’s when IRA has been terminated (full distribution of all IRA’s)
- Non-self-employed home office deduction (?)
- Tax advice and preparation
Misc Deductions NOT subject to 2% Floor (4)
- Gambling losses to the extent of winnings
- Credit for estate taxes imposed on IRD (income in respect to a decedent’s assets)
- Loss on the disposition of an annuity contract (taxpayer dies before getting back basis)
- Repayment of income (e.g. SS repayment when fails earnings test)
GEAR - Gambling, Estate Taxes, Annuity loss, Repayment
Phaseout of Itemized Deductions
- MFJ/QW: $309,900; Single: $258,250
- Only reduced up to 80% of deductions (can also take SD)
- Not phased out:
- Medical
- Casualty
- Gambling losses
- Margin
Fines/Fees/Bribes Kickbacks Deductibility
No deduction for:
- penalties
- fees
- bribes
- kickbacks
Illegal Business deductions
- Illegal trade or business, taxpayer can deduct ordinary, reasonable and necessary expenses.
- For drug dealing, only COGS is deductible
Political Contributions Deductibility
Not deductible
Excessive Compensation in publicly held companies
CEO and 4 other highly paid executives.
Only $1M in base compensation is deductible to a publicly held business.
Hobby Losses
- Hobby losses are only allow to the extent of gain.
- Gain is above the line/loss is below the line and subject to 2% floor.
- Must have a profit motive for it to be a business instead of a hobby.
- Hobby cannot generate losses
- Must have profit in 3 out of 5 years to be automatically a business; if not burden of proof is on taxpayer.
Hobby losses order of deductibility
- Tier I deductions (not subject 2% floor) (e.g. mortgage interest, property taxes)
- Non-depreciation expenses
- Depreciation, depletion, amortization
Rental of Vacation Property
- No taxable income if rented for 14 or fewer days per year. No expenses (except the normal mortgage int and prop taxes)
- If occupied by the owner by the greater of more than 14 days or 10% of the rental days, considered mixed use.
- If less than above, full rental property.
Full rental property taxation
- Report all income and deduct all ordinary, necessary, and reasonable expenses.
- Can take loss
- Passive loss, but is allowable if less than 25K and AGI is less than 100K
Mixed-use property taxation
- Can only take a loss to the extent of gain
- Expenses must be recognized in order of tier 1, tier 2 and tier 3 (like hobby expenses), but not subject to 2% floor.
- Tier 1 expenses are allocated based on number of rental days (but total interest/taxes will be taken on Schedule C)
- Rental income can be brought down to 0 on 1040 but no loss.
- expenses are pro-rated based on
Business Bad Debts
- Can be deducted if accrual accounting.
- Can offset income reported but not yet received.
- Deducted as ordinary loss in the year that it become partially OR wholly worthless.
Personal Bad Debt
- Allowed only when the debt becomes wholly worthless
- Treated as a short-term capital loss (as opposed to deduction)
Worthless securities
- taxpayer can take a loss if a security becomes worthless during the tax year.
- artificial sale date is December 31 unless sold for a penny on an earlier date (to take short-term loss)
Section 1244 Stock
- First 50K (100K MFJ) of losses on small business stock can be taken as an ordinary loss instead of a capital loss.
- Any amount over that amount would be capital loss.
- Gains treated at capital gains rate.
Net Operating Losses
- Trade or business that created an operating loss.
- Schedule C
- Can be taken as an above the line deduction against any income in current year.
- Can be carried back 2 years (amended return) and carried forward for 20 years.
- Can choose to not carry back by attached letter to 1040.
- NOL carrybacks do not affect past charitable deductions.
Depreciation
Represents portion of an asset placed in service in a trade or business that is used up in conduct of business for that year.
Excess Retirement Contributions penalty
6%
Early retirement distribution penalty
10% penality except:
- Age 59.5
- Disability
- Death
- Annuitization (72t)
- Used to pay medical expenses in excess of 10% AGI.
- QDRO’s
- Separation at age 55 from a qualified plan
- Used to pay tax levy
*
Late retirement distribution
50% penalty
Nonrefundable Credits
- Must be used in specific sequence
- Many can be carried forward or back
Foreign Tax Credit
- For taxpayer who mays foreign tax and US tax on the same money.
- Up to the amount taxed by foreign country.
- Can’t take exclusion and credit
- nonrefundable
Child and Dependent Care Credit
- nonrefundable
- Qualifying child/dependent:
- under age 13
- spouse/dependent physically/mentally incapacitated
- Only applicable to expenses up to lesser spouse’s earned income
- Applicable for up to 3K in expenses for 1 dependent, up to 6K for 2.
- Percentage of eligible expenses for credit starts at 20% for highest income.
- Usually given to custodial parent unless agreed otherwise
- If self or spouse is full time student or incapacitated, earned income is $250/month.
- Payments to relatives are eligible even if lives with taxpayer
- Housekeeping services can be included.
- Can’t file MFS
Credit for elderly and disabled
- nonrefundable
- must be both elderly and disabled
American Opportunity Tax Credit
- income phase out at 160K MFJ
- student must be pursuing degree
- 100% of first 2K and 25% of next 2K
- student must be enrolled at least half-time for 1 academic period.
- no felony drug conviction
- 4 years per student
Lifetime Learning Credit
- Unlimited number of years,
- Per tax filer credit (one per year)
- Don’t have to pursue degree
- Can have felony drug conviction
- 20% of first $10K
- Can’t take 2 credits on the same student
Child Tax Credit
- Phaseout
- nonrefundable
- $1,000 per child under 17
- child did not provide over 50% of own support
- must be a US citizen, resident, or US national
Earned Income Credit
- Refundable Credit
- Available to lower-income tax payers.
Adoption Expenses Credit
- Qualified adoption expenses
- Maximum credit is $13,400
- adoption of special needs child gets full credit regardless of expenses.
- income phase-outs
- eligible child is under 18 or physically/mentally handicapped
- nonrefundable. but can be carried forward 5 years.
- no MFS
Basis inclusions
- purchase price
- sales tax
- freight
- installation/testing costs
- all costs to get asset into operation
Basis from Estate
- Value at date of death or alternate valuation date 6 months later.
- Step-up basis
Basis of gifted property
- Basis is generally the donor’s carryover basis and holding period.
- Except when donor pays gift tax on the property.
- (Appreciation in the property/taxable gift) * gift tax paid = increase in basis for the donee. Add that amount to carryover basis.
- Except when has donor has a loss on the property.
Double Basis Rule
- Gifts of loss property triggers the double basis rule.
- Donor is disallowed from using the loss.
- Donee has one basis for loss and one basis for gain.
- If value is higher than original basis at sale, orignal basis is used.
- If value at time of sale is lower than the value at the time of gift, then value at time of sale is used.
- If value at time of salve is between the value at gifting and original basis, 0 capital gains.
- Holding period depends on what basis is used.
Divorce Basis
- Carryover basis and holding period.
Related party transaction
- Sale to a related party for a loss
- Double basis rule applies except holding period starts at sale date.
- Does not apply to inlaws, aunts/uncles, step siblings or cousins
Depreciation
- Cost recovery system that enables tax deduction for property over a number of years.
- Results in an adjusted tax basis or book value. Represents what’s left of tax shelter.
- Lowers basis by amount depreciated every year.
Real Estate Depreciation
- Straight-line depreciation of 27.5 years (39 years for commercial)
- Excludes land
- Includes improvements.
Section 179
- Election to take full depreciation in one year instead of capitalizing and depreciating.
- up to 25K in capital items per year
- Phased out if combined purchases for the year exceed 200K - dollar for dollar subtraction.
- Subtract amount from total placed in service
- Cannot be carried over.
- Cannot create a loss.
- An asset must be used at least 50% for business
- For small businesses.
MACRS Rate
Modified Accelerated Cost Recovery System
Rate of depreciation based on number of years to depreciate.
Can create a loss.
Property subject to depreciation
- Listed property.
- Has to be used predominantly for business.
Capital assets
- Everything that is not an ordinary asset or a Section 1231 asset.
Not Capital Assets
A - Accounts receivable
C- Copywrites, literary works, etc, in the hand of the author
I - Invetory
D - Depreciable assets
Mostly assets that will produce income and be subject to income tax later
Section 1231 Assets
- Long-term depreciable assets.
- Assets used in a business or trade or for the production of income.
- Gains are capital gains
- Losses are ordinary losses
- Business personal property (equipment) (1245) or real estate (1250)
- Gains are treated as capital gains, losses as ordinary losses after depreciation recapture. (referred to as Sec. 1231 gain)
- Held for over 1 year.
Ordinary Assets
- Sales related assets. Anything that will produce income and be subject to income tax rather than capital gains tax.
- Accounts receivable
- Copywrites, art, literary works in the hands of the author.
- Invetory
Depreciation Half-year and Mid-Quarter conventions
- If placed in service in the first 3/4 year, use half-year depreciation.
- If placed in service during last quarter, then use mid-quarter convention.
OID and Futures Contract Realization/Recognition
- Pay tax on phantom income even when has not been realized.
Natural Disaster recognition.
- Natural disaster/Casualty loss is a realization for tax purposes
Disallowed Losses
- Losses on sale of personal use asset disallowed.
- Losses on subsequent sale of property gifted or sold to a related party when FMV is less than owners basis.
- Wash sale - suspended loss.
Long-term gain/loss
- At least 1 year. Year and a day.
Inherited Property Holding Period
- If property is received from an estate, always long-term.
Gifted property holding period
- Double-basis rule
- If gifted property has a gain, carry-over holding period.
- Loss-property, holding period starts on date of gift.
Related property transaction holding period
- Double-basis rule
- Holding period starts at date of sale no matter whether sold at gain or loss.
Non-business bad debts
- Only recognized when completely worthless (business bad debts can be partially written off).
- Always treated as ST Capital loss.
LT Capital Gains Rate/Qualified Dividend rates
39.6% OI = 20%
25%-39.6% = 15%
0-15% = 0%
Unrecaptured Section 1250 gain rate
25%
Collectibles Rate
28%
Capital Losses
- Up to $3,000 can be deducted from ordinary income.
- Can be carried over indefinitely
Depreciation Recapture
- ONLY IF SOLD AT GAIN OR ABOVE ATB
- Inclusion of previously taken depreciation deductions as ordinary income if a gain results from property sale/exchange.
- Depreciation is added back to the capital gain on the property in the amount that was deducted over time.
- Partial recapture if sale price is between Basis and Adjusted Tax Basis (after depreciation)
- If sold at a loss from ATB, no recapture.
Adjusted Tax Basis (Depreciated)
- Original basis less total depreciated deductions
- Depreciation based on class life of asset.
Depreciated Asset Gain/Loss for 1245 assets (business equipment)
- Sale price less than adjusted basis = ordinary loss
- Sale price between adjusted basis (book value) and purchase price = ordinary gain
- Sale price in excess of purchase price plus recapture. Amount up to recapture = ordinary gain. Amount over recapture = capital gain.
Section 1250 Assets
- Real Estate or any straight-line depreciated asset.
- Straight-line depreciated assets: recaptured depreciation is always taxed 25%.
- To the extent that accelerated depreciation was used, difference between accelerated and what straight-line would have been is taxed as ordinary income.
- Recapture accelerated depreciated assets before straight line. Accelerated amount taxed at Ordinary Income rates.
- Amount of gain over depreciation recapture is taxed at CG rate.
Lookback provision for 1231 assets
- Net 1231 gains are treated as OI to the extent that taxpayer has non-recaptured net 1231 losses in last 5 years.
- Amount over this amount taxed at CG rate.
CAT ORN
- CAT: Computers, Autos, and Trucks - 5-year property, 1245
- O: Office furniture/fixtures - 7-year, 1245
- R: Residental real property - 27.5 year 1250
- N: Nonresidential real property 39.5 year, 1250
1245 Recapture
- Depreciable business personalty (not real estate)
- Gains are ordinary income on amount that had been depreciated.
- Amount over depreciation recapture taxed at capital gains rate.
- Losses in excess of recaptured amount taxed as ordinary losses.
Like-kind exchange qualifying items
- Assets held for trade or business
- Assets held for production of income (investments)
- NO personal use assets.
Like-kind requirements
- Must use escrow agent
- Replacement property must be identifited within 45 days.
- Closing must take place by the earlier of 180 days or due date of tax return on original property.
Like-kind related party transactions
- Property must be held for 2 years after the transaction or the deferred gain will be recognized.
- If the property is disposed of because of death or involuntary conversion within the 2-year timeframe, gain can still be deferred.
Boot
- Non-like-kind property received in an exchange (usually cash or debt forgiveness).
- Usually in addition to other like-kind property that is being exchanged.
- Makes up the difference in value between the 2 properties.
- Recognized gain for receiver. Boot received = recognized gain.
- Deferred loss for giver (added to basis in received property)
Debt in like-kind exchanges
- When mortgage or other debt is assumed during like-kind exchange:
- Party transferring the mortgage is receiving boot equal to the amount of debt relief.
- Party receiving the mortgage is giving boot.
Losses in 1031 exchanges
- Receiving boot does not result in recognition of a realized loss, but rather a reduction in basis.
- No realized losses in 1031 exchange.
- Receiver of boot for loss property results in basis reduction for new property.
Like-Kind Exchange taxation
- Keep old basis
- Recognize the lesser of boot received or realized gain - So, giver of boot generally has 0 gain
- Losses in an exchange are subtracted from carry-over basis (if boot received exceeds gain)
Conversion of personal residence to rental property
- Adjusted basis for purposes of depreciation = the lower of FMV at time of conversion or Basis in the property.
1033 Exchange - involuntary conversion
- replacement property must be of the same type as original
- generally have 2 years to replace property if destroyed; 3 years if condemned (emininent domain)
- time starts at end of year in which proceeds were received.
- Total proceeds received must be reinvested in new property.
Life insurance nontaxable exchange for:
- Life insurance
- MEC
- Annuity
MEC nontaxable exchange for:
- Mec
- Annuity
Annuity nontaxibly exchanged for:
- annuity
Transactions between spouses incident to divorce
- Carry-over basis and holding period
Personal residence sale taxation
- 500K MFJ/250K S excluded if meet ownership test (either spouse) and use test (both spouses_
- Both spouses must:
- live in residence 2 of 5 years
- no excluded personal residence gain in last 2 years.
- each spouse gets a 250K exclusion if they meet above requirements.
- No exclusion for the time it was a rental property if converted from a rental to a personal property even if other test are met.
- Amt not excluded taxed as LT cap gain
Proration of prinical residence exclusion
- Prorated exclusion if caused by:
- change in employment (50 miles_
- change of health (self or others)
- unforeseen circumstance
- # of months used or since last exclusion/24 * (exclusion amount - 250 or 500K)
- Prorated exclusion for the time it was not a rental property if converted from a rental to a personal property. Even if other tests are met.
Passive Activity Rules
- Can only lose as much as basis in the investment plus the amount at-risk (recourse loans)
- In most cases passive losses can only offset passive gains (not other types of income)
Passive activity
- activity in which the taxpayer does not materially particpate
- limited partnership interest
- all rental activities even if material participation
- losses only offset passive activity income - not other income - but can be suspended and carried forward.
- Passive losses can be taken against other forms of income only when the asset is sold or upon death.
Materal participation
- >500 hours
- >100 hours but most of any participant
- >100 house to several activities that add up to ?500 hours.
- to combine, all activities must be grouped into appropriate economic units; cannot be ungrouped.
At-risk rules
- Applied first
- taxpayer may not deduct more than the amount that he/she has at-risk for the investment
- loss above amount at-risk may be suspended.
- Suspended at-risk can be used when that amount becomes at-risk - profit in company, property contributed, add recourse debt and qualified nonrecourse debt.
- Nonrecourse debt (where taxpayer is not personally liable for debt) is not at risk.
Suspended losses upon death
- If basis is stepped up, reduce the suspended losses by the amount stepped up.
- If the asset is stepped down, deduct the full suspended loss.
Rental property passivity exceptions
Not considered passive income/loss if taxpayer materially participates AND:
- avg. period of customer use <7 days
- <30 days and personal services
- real estate professional
- individual investor: 25K in losses can offset other income, AGI under 100K (phased out) - does not have to materially participate. Active participation = mgmt decisions.
- if taxpayer is owner and active participant.
AMT Liability
- Excess of AMT over regular tax amount.
- Regular tax amount plus extra tax.
AMT
- All taxpayers must calculate regular tax and AMT
- Tentative minumum tax:
- Taxable income
- Plus disallowed deductions
- Minus adjustments = AMTI
- Minus exemptions
- = application of applicable AMT Rate (25%, 27%)
- TMT:
- less foreign tax credit
- less regular tax liability
AMT disallowed deductions
- standard deduction
- non-qualified mortage interest (cash-out refinance not qualified)
- state and local taxes
- 2.5% deducted medical expenses for 65 and over.
- Almost all misc deductions
AMT exemption amount
- MFJ: 83,400
- Single: $53,600
- Generally only pay AMT if deductions are more than the above exemptions.
AMT Phaseout thresholds
- MFJ: 158,900
- Single/HOH: 119,200
Private Activity Muni Bonds
- Preference for AMT
- Interest taxable under AMT
- PAMB’s issued in 2009 and 2010 are NOT subject to AMT
ISO’s
- Subject to AMT at excersize even if not sold for 2 years.
AMT Credit
- For ISO’s, tax paid under AMT will count as a credit in future years.
- AMT credit can be carried forward and used against regular tax in the future (but not AMT tax).
Sole Proprietorship
- disregarded entity
- form 1040 with schedules C or SE
Sole Prop advantages
- easy to form and operate
- easy to sell bus. assets
- few admin burdens
- pass through
Sole prop disadvantages
- limited sources of capital
- unlimited liability
- no guarantee of continuity
- SE tax
General partnership advantages
- more source of capital than sole prop
- more mgmt resource
- less admin burden than corps
- pass through income, but can be specially allocated (percentage allocations not necessarily based on capital contributed)
General partnership disadvantage
- transfer of ownership more complicated that sole prop bc of partners
- unlimited liability for self and partners
- income tax and basis adjustment complex
- business net income subject to SE tax
- few fringe benefits
General partnership
- Must have more than 1 person
- Form 1065
Limited partnership advantage
- pass-through taxation
- ownership interest flexible
- limited partners not personally liable unless they engage in mgmt.
Limited partnership
- at least 1 general partner
- at least 1 limited partner
Limited partnership disadvantages
- must file with state
- losses are general passive losses
Limited liability partnerships advantages
- pass through
- special allocations
- flexible ownership structure
- general partners insulated from acts of others.
- can file as corporation or partnership
Limited liability partnership disadvantages
- must file with state to register
- unlimited liability for own acts of malpractice.
Family limited partnership advantages
- control retained by senior family member (must have at least 1 general partner and 1 limited partner)
- valuation discounts are available for minority interests (because would be hard to sell at market price outside of family)
- annual exclusion gifts used to transfer interests
- some creditor protection
- can place restrictions on junior family members
- estate planning strategy.
Family limited partnership disadvantages
- attorney setup fees and costs
- periodic valuation costs
- operational requirements
- potential IRS challenges regarding valuation
Limited Liability Companies advantages
- members have limited liability
- number of members unlimited (can have 1 member)
- members can be individuals, trusts, corps, etc.
- pass through treatment
- distributions don’t have to be proportional to ownership interest
- multiple ownership classes
- can elect s corp, c corp, or partnership taxation.
LLC disadvantages
- can end at death or bankruptcy
- transfer of interests difficult
- some industries/professions not permitted to use
- laws vary state to state
- members not meeting exceptions are subject to SE tax (rental real estate not subject to SE)
Corporations advantages
- ease of ability to raise capital
- shareholders have limited liability
- unlimited life
- ease of ownership transfer
- more mgmt resources
- full array of fringe benefits
Corporations disadvantages
- double taxation - dividends not deductible to corp and shareholder also taxed
- admin burdens
- difficult to form and dissolve
- borrowing can be difficult
- requires registered agent
- requires fed tax ID number
S corps
- Like corporations
- must elect S corp status
- form 1120S
S corp advantages
- pass through tax treatment
- shareholders have limited liability
- distributions are exempt from SE tax (owner can receive w2) even if sole owner/employee/
S Corp Disadvantages
- Limited to 100 shareholders
- only one class of stock
- cannot have foreign ownership
- shareholder employees owning more than 2% will be taxed on some fringe benefits
- tax rate of individual may be higher than corporate tax rate
- borrowing may be difficult w/out stockholder personal guaratees.
AMT Preference Items
- Percentage depletion taken for regular rax in excess of adjusted basis at end of year.
- Intangible drilling costs: 10-year amortization must be used (deductible for reg. tax)
- Interest on private activity bonds
Dividends received deduction
Corporations take deduction for dividends received from another corporation based on amt, of ownership
- Less than 20% ownership: 70% deduction
- At least 20% and less than 80%: 80% deduction
- At least 80%: 100% deduction
Mileage deducted for non-self-employed
Only deduct mileage between 2 jobs - not from home.
Abandoned spouse
Can file as HOH;
Requires that the taxpayer pay for more than 50% of the upkeep of the home in which the qualifying individuals reside. The qualifying individuals need not be dependents of the taxpayer.
Interested on loans to buy tax-exempt muni’s
Not deductible
Lease inclusion amount
Designed to help to smooth the lease expense vs. the depreciation expense. The lease is front loaded.
Alimony including child support
If an agreement is reached between former spouses where the decreed amount of alimony is increased to include child support, then the additional alimony would be taxable to the recipient and deductible to the payor. The additional money cannot be based on any contingency such as with the child reaching the age of majority or death.
Mid-Month Convention
- All nonresidential real property and residential rental property uses mid-month convention.
- All property placed in service or disposed of in a month is said to be done so at the mid-point of the month.
Dividend Received Deduction
Corporations can deduct dividends received from other corporations. Deductible amount depends on ownership in that corporation:
- Less than 20% - 70% deduction
- Between 20% and 80% - 80% deduction
- At least 80% (affiliated corporations) - 100%
Personal Service Corporation
- C-Corp - health, law, engineering, architecture; accounting; actuarial services or consulsintg and virtually all stock owned by employees.
- Taxed at flat rate of 35%
Net operating loss carryback
Carried back 2 years, carried forward 20 years.
S Corp Requirements
- No more than 100 eligible shareholders
- Share owners must be US citizens or residents; estates; certain trusts; and charitable orgs.
- No insurance companies; DISC’s or certain financial institutions
- Only one class of stock (unless distinction is that one class has voting rights).
Personal Holding Company
60% of corporation’s AGI is from dividends; interest; rent; and royalties.
At any time during the last half of the tax year, more than 50% of stock owned, directly or indirectly by 5 or fewer ppl.
Corporation Tax Form
1120
S Corp Tax Form
1120S
LLC Tax Forms
1040 with Schedule C
1065
1120
1120S
1031 Exchange Property Purchase
Must be identified within 45 days of exchange
Close within 180 of exchange
Damaged for emotional distress (incl./excl)
Included unless attributable to physical injury or sickness or are paid reimbursement of actual medical expenses resulting from the emotional distress.
Charitable contributions by partnership
Personal expense
Capital Loss Ordering
If ST and LT losses are equal, take short term losses first.
Net Operating Loss Add-backs
- Any deduction for personal exemptions.
- Capital losses in excess of capital gains.
- The section 1202 exclusion…
- Nonbusiness deductions in excess of nonbusiness income.
- Net operating loss deduction.
- The domestic production activities deduction.
Non-prescribed medicine - Med expenses deduction
Generally ineligible except in case of insulin
C Corporation - Accounting method
Must use accrual
Determining economic unit in grouping of passive activities
- The similarities and differences in types of business.
- The extent of common control.
- The extent of common ownership.
Capital Recovery
Capital recovery is the expensing of certain acquisition costs. Bonds purchased at a premium are amortized over their life to expense the premium paid. The theory is that when they mature, their basis will be equal to their face value and not the face plus premium. Bond expenditures are, therefore, a recovery of capital.
Involuntary Conversion Recognition
In an involuntary conversion, the date of realization, not the payment date, determines the date of recognition.
Basis for depreciation
lesser of FMV or Basis
automatic mileage method
- Can be used on a car that is either purchased or leased by the taxpayer
- MACRS/Bonus depreciation not allowed
*
C-Corps and passive loss rule
C-corps are not subject to passive loss rules
Like-kind exchange realization
Total amount received less Adjusted Basis of property exchanging.
Discriminant Functions System Program
Chooses tax returns for audit
