Tax Flashcards
Related parties are defined as
Family members: Spouse, child, grandchild, parent, sibling, or
Related entities: if the taxpayer owns more than 50% of the stock of the corporation or interests for LLC and partnerships
How are gains for related party transactions treated?
Normally, as if sold to an unrelated party
How are losses for related party transactions treated
Losses on transactions will not be recognized until the related party sells the asset to an unrelated party, depending on the subsequent sale price by the related party, the loss may be allowed, partially allowed, or totally disallowed.
How are the disallowed losses eventually treated upon sale to an unrelated party?
- Above original basis = fully allowed use of loss.
- In between original basis and fair market value on related party sale date = partially allowed use of loss and no recognized gain.
- Below fair market value on related party sale date = disallowed use of loss, recognizes losses below fair market value on related party sale date.
How are at risk and passive activity loss rules applied?
The at risk rules are always applied before the passive activity rules
What are the at risk rules?
The at risk rules states that taxpayer can only deduct losses to the extent that there is enough basis or the amount at risk
What are the passive activity rules?
The tax payer can only use passive losses to the extent that they have passive income. Any passive losses in excess of passive income will be suspended due to the passive activity rules.
What are the two types of interest in passive activities?
1 Private interest in an LLC partnership or S Corp.
2. Public interest in a publicly traded partnership PTP
How are private interest passive losses treated?
They are allowed to be netted against other private interest, passive income
How are PTP losses treated?
PTP’s income can only be netted against PTP losses from the same PTP. The only way this can happen is with current year PTP income being netted against a prior suspended loss from the same PTP.
Real estate activities are generally considered to be
Passive
How much may taxpayers deduct provided they actively participate in real estate
Up to a $25,000 loss
Active participation requires (real estate)
- Ownership of at least 10% of the property
- Substantial involvement in managing the property
$25,000 loss phase out (real estate)
- The $25,000 loss is allowed if the taxpayers MAGI is equal to or less than $100,000
- The $25,000 limit is phased out in the MAGI range from 100,000 to 150,000
- Ranges of 100,000 to 150,000 are the same regardless of your filing status
Calculating active participant real estate loss deduction
-The reduced amount from 100K to 150K for every 2K there is a 1K reduction
-Start with upper phase out limit subtract MAGI divide by two and that’s your portion of loss limit
Personal use property
- Allowed to rent for 14 days or less and not required to report income if rental usage is 14 days or less
- Deductions would include mortgage interest and property taxes as itemized deduction
- Only applies to the taxpayers primary residence and vacation home
Rental use property
- Personal use cannot exceed the greater of 14 days or 10% of the number of days the property is rented
- Trips made to the rental property for maintenance and repairs do not count as personal usage.
- All expenses allocated to the rental property are allowed and the property can produce passive losses, subject to the passive activity rules $25,000 loss limit.
Mixed used property
-The taxpayer is not able to meet the minimum personal use requirements.
- Personal usage is the is greater than 14 days or 10% of the number of days the property is rented
- Expenses must be allocated between personal use and rental use
- Deductions are limited to gross rental income may have no income, but not negative income. Any unused losses are carried forward to future years, but remain subject to net income rules.
IRC list the following as acceptable reasons for a reduced 121 exclusion
Job relocation
Employment changes, leaving you, unable to pay your living expenses
Qualifying for unemployment benefits
Health issues
Divorce or legal separation
Birth of twins, or other multiples
Damage to home from disaster
Condemnation or seizure of property
Other unforeseen circumstances
Ownership test and usage test section 121
- Ownership test must have owned the property for two out of the last five years usage test must have used the property as a personal residence for two out of the last five years
- Married: both spouses must meet the usage test. Only one spouse needs to meet the ownership test
Mixed use property
-The taxpayer is not able to meet the minimum personal use requirements (+14 days or 10% of days property is rented)
-Expenses must be allocated between personal use and rental use
-Deductions for direct rental expenses are deductible against rental income only
- Shared expenses such as mortgage interest, property taxes, utilities must be prorated based on the time the property is being used for rental vs personal use
-Any unused losses are carried forward, but remain subject to net income rules
Standard deduction (dependents)
$1300 or earned income +$450
Failure to file penalty
5% of unpaid taxes for each month or part of a month that a tax return is late up to 25% (5 mo)
When is the gift tax adjustment added to the donees basis?
- When the donor actually paid gift taxes and
- When the fair market value is > the donors basis
Appreciation factor = appreciation/ taxable amount of gift or FMV-basis/FMV-AE
(unless prior gifts were made to that recipient in the same tax year then you would not include the annual exclusion)
Gifted loss property
- Gifted loss property if the sale price is above the adjusted basis of the donor = Donee will use donors, original basis and inherit donors holding period
- Gifted loss property if the final sale is below the fair market value on the date of the gift = donee Will use fair market value on the date of the gift as basis and the holding period will be begin on the date of the gift
- sale price in between donors basis in fair market value on the date of the gift = no loss or gain, holding period is a non-factor
When is a receipt required for a charitable deduction?
Under $250
When is a donor letter required for a charitable deduction?
Gifts of 250+
Calculating the mortgage interest deduction on a mortgage over 750,000
The mortgage interest deduction is for mortgage interest on up to 750,000 of mortgage debt if total mortgage debt exceeded 750,000:
750k/total mortgage = %
% x IR paid = deduction
Charitable contribution five-year carryover
Contributions that exceed the AGI limitation in the current year can be carried forward for five succeeding years
- Subject to original percentage in carryover years
- Deducted after deducting, allowable contributions for the current year
- When from two years exist, the earliest carryover is used
Charitable contribution five-year carryover
Contributions that exceed the AGI limitation in the current year can be carried forward for five succeeding years
- Subject to original percentage in carryover years
- Deducted after deducting, allowable contributions for the current year
- When from two years exist, the earliest carryover is used
Rental use property
Personal use cannot exceeded the greater of:
- 14 days or 10% of the number of days the property is rented
Trips made to the property for maintenance and repairs. Do not count as personal use.
All expenses allocated to the rental property, and the property can produce passive losses, subject to passive activity rules ($25K loss limit)
Personal use property
Allowed to rent for 14 days or less and not required to report income if rental usage is 14 days or less
Deductions would only include mortgage interest in property taxes as itemized deductions
Only applies to Tax primary residence and vacation home
Rental use property deductions
Allows for deduction of certain expenses, these expenses, which may include mortgage interest, real estate taxes, casualty, losses, maintenance, utilities, insurance, and depreciation will reduce the amount of rental income that is subject to tax
Real estate professionals
Rental losses are different for real estate professionals. Rental losses are not considered passive and all real estate losses can be used to offset other income.
Passive activity rules
Once a loss passes the at risk rules, then and only then will the loss be subject to the passive activity rules. Taxpayer can only use passive losses to the extent that they have passive income any passive losses in excess of passive income will be suspended due to the passive activity rules.
At risk rules
The at risk rules states that taxpayer can only deduct losses to the extent that there is enough basis or amount at risk. The at risk rules are always applied before the passive activity rules.
Publicly traded partnership
PTP income can only meet netted against losses from the same PTP. The only way this can happen is with current year PTP income being debt against a prior suspended loss from the same PTP.
Which entities are the focus of at risk in passive activity loss rules
Pass through entities with private interests, such as S corps, limited partnerships, LLCs and general partnerships
How can suspended losses be released?
- Sold in taxable transaction. The full amount of suspended losses may be used to offset gain on the activity as well as other income, such as active and portfolio.
- Gift: suspended losses are added to the donees basis and therefore not deductible by the donor
- Sold to a related taxpayer: the losses remains suspended to the seller when the related party sells to an unrelated party. The original seller cannot deduct the losses.
- Inheritance: suspended losses are deductible on the decedents final tax return only to the extent that they exceeded the step up in basis.
Active participant real estate loss deduction
Magi limitations of 100 to 150,000
To calculate: upper limit-magi/2
Real estate active participation requires
The taxpayer ownership of at least 10% of the property and substantial involvement in managing the property
Scenarios for related party transaction
- above original basis: fully allowed use of loss
- In between original basis and fair market value unrelated party sale date: partially allowed use of loss and no recognized gain
- Below fair market value related party sale date: totally disallowed use of loss and related party recognizes losses below fair market value on related party sale date
How do related party transactions work?
Any gain on the transaction is treated normally as if sold to an unrelated party and losses on transactions will not be recognized until the related party sells to an unrelated party, depending on the subsequent sale price, the loss may be allowed, partially allowed, or totally disallowed.
Unrelated use property, charitable deduction
Produces a deduction only for the lesser of cost basis or fair market value
Related use property charitable deduction
Produces a charitable deduction equal to:
FMV = 30% of AGI
Basis = 50% of AGI
Penalty for negligence
20% penalty will apply to the amount of the deficiency
Penalty for fraud
A 75% penalty will apply to the amount of the deficiency
Frivolous return
Penalty is 5000
Failure to file
5% of the unpaid taxes for each month or part of a month that a tax return is late up to a max of 25%
Failure to pay
0.5% per month the taxes unpaid up to a maximum of 25%
What happens if both a failure to pay penalty failure to file penalty are applied in the same month?
The failure to file penalty is reduced by the amount of the failure to pay penalty for that month, combined for a total penalty of 5% for each month or part of a month that the return was late
What is the max number of members for an S Corp?
100
Members of a family may be treated as one owner
Does a plan contribution rate adjustment apply to employees?
No - if the plan contribution rate is 25% then that is what employees will get.
Section 179 overview
Allows businesses to deduct the full cost of qualifying Capital assets immediately. The deduction limit is up to 1.2 million of the acquisition cost which can be deducted as an ordinary expense in the year of purchase.
Depreciation
Annual income tax deduction for cost recovery for wear and tear, deterioration, or obsolescence of property
Tangible is buildings, machinery, vehicles, furniture, and equipment
Intangible is patents, copyrights, and software
Accelerated depreciation
Enables taxpayers to have more depreciation in the early years, and less at the end of the assets useful life, which increases cash flow. Accelerated depreciation follows the MACRS table modified accelerated cost recovery system.
Straight line depreciation
(Purchase price of an asset - salvage value) / useful life of the asset
Half or mid year convention: only half of the full amount of depreciation can be taken in the year the asset was put into service and another half is taken in the last year. For real estate there is a midmonth convention.
When does depreciation start and stop?
Depreciation starts when the property is placed in service for use in a trade or business or to produce income. Depreciation stops with the cost has been fully recovered or when it’s retired from service, which ever happens first.
Useful life for common depreciable assets
- auto five years
- computer five years
- Heavy machinery, seven years
- Office furniture seven years
- Residential real estate 27.5 years
- non-residential real estate 39 years
Who files the gift tax return if split gifts are less than the annual exclusion?
The donor spouse; the other spouse shows consent on form 709
Trust tax filing requirements
The fiduciary must file form 1041 for a taxable domestic trust that has:
> any taxable income for the year
> gross income of 600+ regardless of taxable income
> a beneficiary who is a non-resident alien
Student loan interest deduction applies to:
Unsubsidized federal Stafford loans
Subsidize federal Stafford loans
Federal Perkins loan
Federal grad plus loan
Federal parent plus loan
Federal consolidation loan
State education loans
Private student loans
What is the maximum for the student loan interest deduction?
2500 and subject to phaseouts
When must the accrual method be used?
Corporations must use the accrual method if the average annual gross receipts for the three taxable year ending with the prior taxable year exceeds 30 million (2024)
And when inventory is necessary to account for income, then accrual method must be used for purchases and sales .
What requirements must property meet to be depreciable?
- it must be property owned by the taxpayer
- it must be used in business or income producing activity
- It must have a determinable useful life
- it must be expected to last more than one year
Wait and see agreement
Method to transfer business interest that offers flexibility to both partners and the business
Passes BOB
Business has first option to purchase the deceased partner stock
Then the surviving partners have the option if business waves or purchases less than half
Then the business is required to purchase the deceased partners stock
Tangible personal property for section 179
- equipment purchase for business use
- tangible personal property used in business
- computers and off the shelf software
- office furniture and equipment
- certain business vehicles
Non-qualifying property for section 179
- Real property: land, buildings, land improvements
- Air conditioning and heating
- Property used outside the US
- Property used to furnish lodging
- Property acquired by gift or inheritance
- Property purchase from related parties
Section 179 phase out limit
The 1.22 million max deduction is reduced dollar per dollar if spending exceeds 3.05 million
Limitations on section 179 deduction
Limited to the firms net profit, excluding the 179 expense
Any excess 179 expense can be carried over to the next year‘s taxes
The remaining amount is also allowed to be depreciated using the appropriate depreciation methods useful life. The aggregation of the 179 expense and the depreciation on the residual amount will cause profits to be negative as you will be expensing the 179 expense up to net profits in addition to taking the first year of depreciation.
Section 179 - sole proprietorship
Sole proprietor can aggregate that business profit with unrelated W-2 wages for the purpose of calculating 179 expense deduction
LLC members and self-employment tax
Members of an LLC are subject to the SE Tax if the LLC is taxed as a partnership and the members are actively involved in the business
If the LLC elects to be taxed as a corporation members may not be subject to SE tax on distributions, but they would still owe payroll taxes on wages received as employees
This does not apply to passive members who are only investors
When is a receipt required for a charitable contribution?
For any charitable contribution under $250
When is a donor letter required for a charitable contribution?
For any charitable contribution of $250 or more
When is form 8283 required for a charitable contribution?
For any charitable contribution of $500 or more
When is a qualified appraisal required for a charitable contribution?
For any property contributed above $500
What is deductible when services are contributed to a charity?
- out-of-pocket transportation expenses ($.14 a mile)
- the cost cost of lodging
- the cost of meals away from home
Donors must have a written acknowledgment from each charity for any single contribution of ____ or more before the donors can claim each charitable contribution on their tax return
$250
The IRS looks closely at three situations to determine if interest must be imputed:
- loans provided out of love, affection or generosity
- Corporate shareholder loans from a corporation to its shareholder
- Compensation related loans from employer to employee
Five exceptions when imputed income does not apply:
- Loans between individuals totaling 10k or less, except when the borrowed funds are used to purchase income producing property.
- Corporate loans and compensation related loans totaling $10k or less.
- Debt subject to original issue discount provisions.
- Sales of property for 3K or less.
- When all payments are due within six months.
When loans exceed ___, the imputed interest is charged based on the AFR
$100,000
When loans are greater than ____ and up to including ____ the imputed interest is the lesser of:
$10,000; $100,000
- The AFR or
- The borrowers net investment income
With loans are greater than ____ and up to including ____ the imputed interest is the lesser of:
$10,000; $100,000
- The AFR or
- The borrowers net investment income
If the borrowers net investment income is ___ or less, imputed income will not apply
$1000
If a tax payer is subject to AMT in the current year:
- Accelerate income into the AMT year
- Deferred tax deductions until a regular tax year
3.8% Medicare surtax applies to the lesser of
NII or the excess of modified AGI over the thresholds (on Tax tables)
Two prong test for constructive receipt: income
- The right to receive income is established and not contingent upon a future event.
- The amount can be estimated with reasonable accuracy.
Exceptions to taxable cancellation of debt income
- bankruptcy
- insolvency
- Mortgage debt
- student loan public service loan forgiveness
Section 1245 property: unrecaptured depreciation
Taxed at ordinary income tax rates
Unrecaptured depreciation
Total amount of depreciation deductions taken
Special tax rate of 25% for 1250 (realty)
Recovery of past depreciation deductions upon sale
Exceptions to early WD penalties: qualified plans
- med expenses exceeding 7.5% of AGI
- age 59.5
- death
- disability
- 72T
- age 55 + separation from service
Exceptions to early WD penalties: IRA
- med expenses exceeding 7.5% of AGI
- education expenses
- age 59.5
- death
- disability
- health insurance premiums while unemployed
- 72T
- FT home purchase $10k
Form 8938
Used to report specified foreign financial assets, if the total value of those assets exceeds certain thresholds
Form 8938 threshold requirements
If you are married and you and your spouse file, a joint income tax return, you satisfied the reporting threshold only if the total value of your specified foreign financial assets is more than than 100,000 on the last day of the tax year or more than 150,000 at any time during the tax year for US residents
If you are unmarried or file separate returns, the reporting threshold is more than 50,000 on the last day of the tax year or more than 75,000 at any time during the tax year for US residents
FBAR
Report of foreign bank and financial accounts. US persons are required to file an FBAR if:
- the US person had a financial interest or signature authority over at least one financial account located outside of the US
- the aggregate value of all foreign financial accounts exceeded 10,000 anytime during the year
- must file FINCEN form 114 by tax deadline
FATCA
Foreign account tax compliance act
Requires certain individual US taxpayers holding financial assets outside the US that meet certain threshold reporting obligations to report those assets to the IRS on form 8938
Examples of financial accounts include savings, deposit, checking, and brokerage accounts
HSA non qualified withdrawal penalty
20%
Distributions after 65 are not subject to penalty (but are subject to regular income tax)
