Tax 8-5,6 Additional Taxes

Question 1

Additional Taxes

Identify allowable deductions for computation of the alternative minimum tax.

(LO 8–5,6)

Answer 1

medical expenses in excess of 10% of adjusted gross income

casualty losses in excess of 10% of adjusted gross income and the $100 floor

gambling losses to the extent of gambling winnings

qualified housing interest

investment interest expense to the extent of qualified net investment income

estate taxes paid on a decedent’s income

charitable contribution deduction

Question 2

Additional Taxes

Identify itemized deductions from Schedule A, Form 1040, that are not allowed as deductions against the alternative minimum taxable income.

(LO 8–5,6)

Answer 2

Primarily, state, local, and property taxes are not allowed, nor are Tier II miscellaneous deductions.

Question 3

Additional Taxes

Explain the effect of a personal itemized deduction that is not allowed as a deduction in calculating the alternative minimum tax.

(LO 8–5,6)

Answer 3

It serves to increase the amount of, or the likelihood of triggering, the AMT

Question 4

Additional Taxes

Explain how tax planning is affected by the difference between personal itemized deductions and the deductions allowable against the alternative minimum taxable income.

(LO 8–5,6)

Answer 4

If the alternative minimum tax is triggered, it significantly reduces the ability to minimize taxes through the use of allowable deductions.

Question 5

Additional Taxes

Bob Coffman has a regular tax of $33,751 and an alternative minimum tax of $41,874. Identify the amount of alternative minimum tax payable.

(LO 8–5,6)

Answer 5

$41,874 AMT
- $33,751 regular tax
= $8,123 amount of alternative minimum tax payable

Question 6

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

accelerated cost recovery deductions

(LO 8–5,6)

Answer 6

They generally will create an AMT adjustment as the recovery period is generally longer for AMT purposes.

Question 7

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

straight-line cost recovery deductions

(LO 8–5,6)

Answer 7

They may create an AMT adjustment due to a longer cost recovery period on assets.

Question 8

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

interest deductions on a residence

(LO 8–5,6)

Answer 8

A portion may not be deductible in computing AMT taxable income. For regular tax purposes, the interest on up to $100,000 of home equity indebtedness is generally deductible regardless of how the borrowed funds were used. For AMT purposes, qualified housing interest, the interest paid only to purchase, build or substantially improve the principal (and one other qualified residence), is deductible.

Question 9

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

intangible drilling costs

(LO 8–5,6)

Answer 9

A portion will be a preference item.

A type of income, normally tax-free, that may trigger the alternative minimum tax (AMT) for taxpayers. Tax preference items include private-activity municipal-bond interest, the qualifying exclusion for small business stock and excess intangible drilling costs for oil and gas, if this amount exceeds 40% of AMT income.

Question 10

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

percentage depletion

(LO 8–5,6)

Answer 10

A portion will be a preference item.

A type of income, normally tax-free, that may trigger the alternative minimum tax (AMT) for taxpayers. Tax preference items include private-activity municipal-bond interest, the qualifying exclusion for small business stock and excess intangible drilling costs for oil and gas, if this amount exceeds 40% of AMT income.

Question 11

Additional Taxes

Mike and Linda are married taxpayers filing a joint tax return. In 2016, their AGI is $350,000, and their investment income (included in the AGI) is $90,000. They have investment interest expense of $6,000 and deductible Tier II investment expenses (after the 2% of AGI limitation) of $4,000. Calculate the Medicare contribution tax that they must pay.

8-6

Answer 11

Mike and Linda will pay a $3,040 Medicare contribution tax (3.8% on $80,000).

3.8% Medicare Contribution Tax Paid on Lessor of AGI in Excess of AGI threshold

Medicare Contribution Tax (Net Investment Income Tax)

$90,000 Investment Income
- $6,000 Investment Income Expense
- $4,000 Tier II Investment Expense (after 2%)
= $80,000 Net Investment Income

or

$350,000 AGI
- $250,000 Threshold Amount (250k/200k)
= $100,000 Excess Amount

The lesser:
$80,000 Net Investment Income
* 3.8%
= $3,040 Tax Owed

Question 12

Additional Taxes

Tammy is a single taxpayer. In 2016, her AGI is $225,000, including a net long-term capital gain of $40,000. Calculate the Medicare contribution tax that she must pay.

8-6

Answer 12

Tammy will pay a $950 Medicare contribution tax (3.8% on $25,000).

$40,000 Net Investment Income

or

$225,000 AGI
- $200,000 Threshold Amount (250k/200k)
= $25,000 Excess Amount

The lesser:
$25,000 Net Investment Income
* 3.8%
= $950 Tax Owed

Question 13

Additional Taxes

Most taxpayers are allowed an exemption against alternative minimum taxable income. This exemption is phased out in certain situations.

Explain how the phaseout of the exemption affects high-income taxpayers.

8-6

Answer 13

The phaseout decreases or eliminates the exemption amount, thus increasing the likelihood of, or the amount of, the AMT.

Question 14

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

accelerated cost recovery deductions

(LO 8–5,6)

Answer 14

They generally will create an AMT adjustment as the recovery period is generally longer for AMT purposes.

Question 15

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

straight-line cost recovery deductions

(LO 8–5,6)

Answer 15

They may create an AMT adjustment due to a longer cost recovery period on assets.

Question 16

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

interest deductions on a residence

(LO 8–5,6)

Answer 16

A portion may not be deductible in computing AMT taxable income. For regular tax purposes, the interest on up to $100,000 of home equity indebtedness is generally deductible regardless of how the borrowed funds were used. For AMT purposes, qualified housing interest, the interest paid only to purchase, build or substantially improve the principal (and one other qualified residence), is deductible

Question 17

Additional Taxes

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

intangible drilling costs

(LO 8–5,6)

Answer 17

A portion will be a preference item.

A type of income, normally tax-free, that may trigger the alternative minimum tax (AMT) for taxpayers. Tax preference items include private-activity municipal-bond interest, the qualifying exclusion for small business stock and excess intangible drilling costs for oil and gas, if this amount exceeds 40% of AMT income.

Question 18

Explain how each of the following advantages from certain investments or personal activities may impact the alternative minimum tax calculation.

percentage depletion

(LO 8–5,6)

Answer 18

A portion will be a preference item.

A type of income, normally tax-free, that may trigger the alternative minimum tax (AMT) for taxpayers. Tax preference items include private-activity municipal-bond interest, the qualifying exclusion for small business stock and excess intangible drilling costs for oil and gas, if this amount exceeds 40% of AMT income.

Question 19

Additional Taxes

Briefly discuss the Medicare contribution tax.

The tax is 3.8% of the [lesser / greater] of

(1) the net investment income, or
(2) the excess of the modified AGI (MAGI) over a specified threshold amount.

(LO 8–5,6)

Answer 19

Lesser

The threshold amount is $250,000 for married taxpayers filing jointly (and surviving spouses), $125,000 for married taxpayers filing separately, and $200,000 for single or head of household.

Question 20

Additional Taxes

Briefly discuss the Medicare contribution tax.

_____ income includes the income from interest, substitute interest, dividends, substitute dividends, passive business income, annuities, net capital gains, net royalties, and net rental income.

(LO 8–5,6)

Answer 20

Investment

Question 21

Additional Taxes

Briefly discuss the Medicare contribution tax.

_____ _____ income is investment income reduced by deductible investment expenses (penalty on the early withdrawal of savings, investment interest expense, as computed for regular tax purposes) and tier II miscellaneous itemized deductions directly related to the production of income (investment counsel and advisory fees, subscriptions to investment advisory publications, and certain custodial fees), after the 2% of AGI limitation.

(LO 8–5,6)

Answer 21

Net investment

Question 22

Additional Taxes

Medicare Contribution Tax

Manny and Carol are married taxpayers filing a joint tax return. In 2016, their AGI is $245,000, and their net investment income is $80,000.

What, if any, Medicare tax will they pay?

8-6

Answer 22

$0

$80,000 Net Investment Income

or

$245,000 AGI
$250,000 Threshold Amount (250k/200k)
-$5,000 Excess Amount

They will not pay a Medicare contribution tax. This is because the lesser of the net investment income ($80,000) or the AGI in excess of the threshold amount ($250,000) is zero.

Question 23

Additional Taxes

Medicare Contribution Tax

Paul and Tina are married taxpayers filing a joint tax return. In 2016, their AGI is $350,000, and their net investment income (included in the AGI) is $80,000.

What, if any, Medicare tax will they pay?

8-6

Answer 23

$80,000 Net Investment Income

or

$350,000 AGI
- $250,000 Threshold Amount (250k/200k)
= $100,000 Excess Amount

The lesser:
$80,000 Net Investment Income
* 3.8%
= $3,040 Tax Owed

Question 24

Additional Taxes

Medicare Contribution Tax

Tim and Jennifer are married taxpayers filing a joint tax return. In 2016, their AGI is $275,000, and their net investment income is $80,000.

What, if any, Medicare tax will they pay?

8-6

Answer 24

$950 Tax Owed

$80,000 Net Investment Income

or

$275,000 AGI
- $250,000 Threshold Amount (250k/200k)
= $25,000 Excess Amount

The lesser:
$25,000 Net Investment Income
* 3.8%
= $950 Tax Owed

Question 25

Additional Taxes

Medicare Contribution Tax

Joe and Robin are married taxpayers filing a joint tax return. In 2016, their AGI is $290,000, and their net investment income is $0.

What, if any, Medicare tax will they pay?

8-6

Answer 25

They will not pay the 3.8% Medicare contribution tax.

This is because the lesser of the net investment income ($0) or the AGI in excess of the threshold amount ($290,000 – $250,000, or $40,000) is zero.

Question 26

Additional Taxes

Module Check

7. Which one of the following is not a step in the calculation of the alternative minimum tax, as presented in the module?
8. Adjusted gross income is decreased by any tax preference and adjustment items.
9. Adjusted gross income is increased by any tax preference items and increased or decreased by the adjustment items.
10. The net amount of alternative minimum taxable income is reduced by an appropriate exemption amount to arrive at the AMT base.
11. The AMT payable is reduced by any refundable credits.

(LO 8-6)

Answer 26

1. Adjusted gross income is decreased by any tax preference and adjustment items.

When calculating the alternative minimum tax, adjusted gross income is increased by any tax preference items and increased or decreased by the adjustment items.

Reducing the AMT payable by any refundable credits, and personal nonrefundable credits, is a step in the alternative minimum tax calculation.

Question 27

Additional Taxes

Module Check

8. Which one of the following is not an allowable itemized deduction against alternative minimum taxable income?
9. medical expenses in excess of 10% of adjusted gross income
10. charitable contributions
11. qualified housing interest
12. state and local income taxes

(LO 8-6)

Answer 27

4. state and local income taxes

State and local income taxes, as well as property taxes, are not an allowable itemized deduction.

Question 28

Additional Taxes

Module Check

20. Which one of the following is not a tax preference or adjustment item?
21. bargain element on the exercise of an incentive stock option
22. tax-exempt interest on qualified private-activity municipal bonds issued in 2008
23. excess intangible drilling costs
24. charitable contributions deduction

(LO 8-6)

Answer 28

4. charitable contributions deduction

A charitable contribution deduction is allowed under the alternative minimum tax.

The bargain element (the excess of the FMV over the exercise price) on the exercise of an incentive stock option is a preference item or adjustment for AMT purposes.

Tax-exempt interest on a qualified private-activity municipal bond issued in 2008 is a tax preference item. The interest on bonds issued in 2009 and 2010 is not a preference item.

Excess intangible drilling costs, arising from an oil and gas activity, are a tax preference item.

Question 29

Additional Taxes

Module Check

22. Larry and Mary are married taxpayers filing a joint tax return. In 2016, their AGI is $360,000, and their investment income (included in the AGI) is $100,000. They have investment interest expense of $7,000 and deductible Tier II investment expenses (after the 2% of AGI limitation) of $5,000. What is the amount of Medicare contribution tax that they must pay?

$3,344

$3,800

$4,180

(LO 8-6)

Answer 29

$3,344

$100,000 Investment Income
- $7,000 Investment Income Expense
- $5,000 Tier II Investment Expense (after 2%)
= $88,000 Net Investment Income

or

$360,000 AGI
- $250,000 Threshold Amount (250k/200k)
= $110,000 Excess Amount

The lesser:
$88,000 Net Investment Income
* 3.8%
= $3,344 Tax Owed

Question 30

Additional Taxes

Module Check

24. Theresa is a single taxpayer. In 2016, her AGI is $235,000, including a net long-term capital gain of $44,000. What is the amount, if any, of Medicare contribution tax that she must pay?

$0

$1,330

$1,672

(LO 8-6)

Answer 30

$1,330

$44,000 Net Investment Income

or

$235,000 AGI
- $200,000 Threshold Amount (250k/200k)
= $35,000 Excess Amount

The lesser:
$35,000 Net Investment Income
* 3.8%
= $1,330 Tax Owed

Question 31

Additional Taxes

Module Check

25. Which one of the following is not subject to the Medicare contribution tax?
26. municipal bond interest
27. net capital gains
28. income from annuities
29. dividends

(LO 8-6)

Answer 31

1. municipal bond interest

Municipal bond interest is not subject to the Medicare contribution tax. Only taxable items, such as net capital gains, net rental income, annuity income and dividends, for example, are subject to the Medicare contribution tax.

Question 32

Additional Taxes

What is a preference item?

(LO 8–5,6)

Answer 32

A type of income, normally tax-free, that may trigger the alternative minimum tax (AMT) for taxpayers. Tax preference items include private-activity municipal-bond interest, the qualifying exclusion for small business stock and excess intangible drilling costs for oil and gas, if this amount exceeds 40% of AMT income.

Question 33

Additional Taxes

Practice Test 1

38. Which one of the following is not a preference item or adjustment for purposes of the individual alternative minimum tax?

interest from a qualified private-activity municipal bond issued in 2007

the excess of ACRS depreciation over the straight-line allowance

the excess of percentage depletion over the property’s adjusted basis

investment interest in excess of net investment income

(LO 8-5)

Answer 33

investment interest in excess of net investment income

“Investment interest in excess of investment income” is a made-up phrase. The other choices are all preference items or adjustments. Remember that interest from private-activity municipal bonds issued in 2009 and 2010 is not a preference item.

Question 34

Additional Taxes

Practice Test 1

47. Which of the following are allowable itemized deductions for purposes of computing the alternative minimum tax?

I. charitable deductions
II. qualified housing interest
III. medical expenses in excess of 10% of AGI
IV. real estate taxes

I and II only

II and III only

I, II, and III only
.
II, III, and IV only

(LO 8–5,6)

Answer 34

I, II, and III only

Option IV, real estate taxes, is the only itemized deduction listed that is not allowed for AMT purposes.

Question 35

Practice Test 2

Calculate Taxable Income

11. Mary West is a single taxpayer, age 67. She has the following itemized deductions:

$15,950 Home mortgage interest 
$3,120 State income taxes
$1,480 Property Taxes 
$2,000 Charitable contributions
$500 Gambling losses (to the extent of winnings)
$4,600 Unreimbursed Employee expenses
$400 Tax preparation fee
$16,200 Medical expenses

Mary’s AGI for 2016 is $238,500. What amount of Mary’s itemized deductions, if any, would be allowed for purposes of the AMT?

$17,950

$18,450

$18,950

$34,950

(LO 8-5)

Answer 35

$18,450

$15,950 Home mortgage interest
+ $2,000 Charitable contributions
+ $500 Gambling losses (to the extent of winnings)
= $18,450

Of the itemized deductions listed, only the qualifying home mortgage interest of $15,950, the charitable contributions of $2,000, and the gambling losses to the extent of winnings of $500 are allowable for purposes of the alternative minimum tax. Tier II miscellaneous itemized deductions are not allowed for the AMT, and medical expenses are only deductible to the extent that they exceed 10% of AGI for AMT purposes.