Tax Planning Flashcards
The Tax Formula
Income - exclusion = Gross income
Gross income - above the line deductions= AGI
AGI - below the line deductions (itemized or standard deductions = Taxable income
TI * Rate rate = Gross Tax
GT - tax credits = Final Tax Due
FTD - prepayments = Net tax payable or refund due
Exclusions
Sources of income that are omitted from the tax base and tax law treats as non-taxable
Above the Line Deductions
Educators Expenses- up to $300 per individual
Business expenses for government employees, reservists who travel more than 100 miles to perform duties and performing artists
HSA- after tax contributions
Moving expenses- active duty military
Retirement contributions for self employed
Health insurance premiums
Traditional IRA contributions
Student loan interest, up to $2,500
HSA Contributions
Must have a HDHP to contribute
Not be claimed as a dependent
Not be over 65
Not be covered by medicare
Maximum contributions
$3,850 - single
$7,750 - MFJ
+$1,000 if over the age of 55
Self Employment Tax
Applies to employer’s Part of FICA
Net SE profit * .9235
.9% of medicare tax is not deductible
2023- 50% of self employment tax is tax deductible
SEP Tax deductions
Lesser of:
$66,000
25% of Self Eployment earnings
(Net SE - SE tax ) * .20
Simple IRA Tax Deduction
Deduction for both employer and employee contributions
$15,5000
50+ - additional $3,500
3% match is also deductible
Alimony Tax Deduction
2018 and before- deductible to payor
Gross income to recipient
2019 to present - not deductible to payor
Not included in gross income to recipient
Self-Employed Health Insurance
Coverage for self, spouse and dependents
Limited to self employment income
Not deductible if other health insurance coverage was available
100% of premiums deductible
Traditional IRA Contribution deductions
Full deductible below phase out ranges
File single - 73-83k if covered by a workplace plan
MFJ - 116-136k when individual making contributions is covered by a workplace plan
218-228 k when individual is not covered by workplace plan but spouse is
MFS- 0-10k
Contribution limit is $6,500 plus $1,000 if 50 or older
Above vs Below the line deductions
Above the line deductions are typically preferred since they lower AGI allowing you to qualify for other programs and deductions
Itemized Deductions
Below the line deductions
Only itemize if it is greater then the standard deduction (Single/MFS $13,850, HoH $20,800 MFJ- $27,700)
or they must because they are MFS and spouse is itemizing
When Itemizing Helps
Large uninsured medical/dental event
Mortgage interest or real property taxes are high
Large “other itemized deductions”
Large uninsured casualty or theft losses from a federally declared disaster
Made large contributions to a qualified charity
List of itemized deductions
Medical expesnses in excess of 7.5% of AGI
State and Local taxes ($10,000 limit)
Interest paid on 1st and 2nd homes, up to $750,000 of debt
Charity- Cash up to 60% AGI
Casualty and Theft losses- must be federally declared
lessor of FMV or Basis -Insurance PMTS - $100 deductible (in excess of 10% of AGI)
Standard Deduction
Single - 13,850
HoH 20,800
(+ 1,850 if 65+, blind or both or both above)
MFS- 13,850
MFJ - 27,700
QW - 27,700
(+ 1,500 if 65+, blind or both or all above)
Marginal Tax Rate vs. Average Tax Rate
Marginal tax rate is the amount of tax you will pay on the next dollar earned
Average tax rate is the overall share of income paid in taxes
ATR= Total tax paid/Total income
Marginal tax rate is always higher
Tax Credit
Lower Tax due
Adjusted after tax due is calculated
Reduced tax due on a dollar to dollar basis
Benefits all taxpayers the same regardless of marginal tax rate
Tax Credit Classification
Refundable
Non-Refundable
Refundable Taxes
If a tax credit exceeds liability excess is refunded to the taxpayer
i.e. Earned income, additional child tax credit, American opportunity, and Premium tax credits
Non-Refundable Tax credits
May only be used to offset liability
i.e. child and dependent care credit, child tax credit, retirement savings contributions, lifetime learning credit
Tax Filing Status
Single
Married Filing Jointly
Married Filing Separately
Qualifying Window(er) with a dependent child
Head of Household- must be unmarried, pays at least 1/2 of housing cost and qualifying child lives with you at least 1/2 the year
Estimated Tax Payments
Use form 1040-ES
To avoid penalty you must either pay 90% of this years liability or 100% of last years (AGI must be less then 150K)
No penalty is imposed if current years tax is less then $1,000 or had no tax liability last year
Estimated Tax Payment Due Dates
Payment Period Due Dates
Jan 1-Mar 31 Apr 15
Apr 1-May 31 Jun 15
June 1-Aug 31 Sept 15
Sept 1-Dec 31 Jan 15
Tax Penalties for
Not filing a return on time
Not paying any taxes owed on time and in the right way
Not preparing an accurate return
Not providing accurate information on your return
Tax Penalties and How Much
Negligence- 20% to the amount deficient
Fraud- 75% to the amount deficient
Frivolous return- $5,000
Failure to file- 5% of unpaid taxes each month for a maximum of 5 months (minimum of $485 if 60 days or more late)
Failure to pay- 0.5% up to 25%
Failure to file and failure to pay together max out at 5% for the first 5 months
Tax Penalties for Tax Preparers
$55
Failure to furnish a copy to tax payer
Failure to sign return
Failure to furnish ID number
Failure to retain a copy or list
Failure to file correct information on return
Failure to be diligent in determining eligibility for certain tax benefits $560 per failure
Tax Entities: Limited Liability
S-Corp- yes for all shareholders
C-Corp - Yes for all shareholders
Partnerships- No except limited partners from partnership debts
LLC- Yes, always
Sole proprietorship- None
Tax Entities: Number of owners allowed
Sole - 1
Partnership at least 2
S-Corp- Maximum of 100 (members of a family may count as 1)
C-Corp- No restrictions
LLC- No restrictions
Tax Entities: Class of Ownership Interest
Sole- None. only 1 owner
S-Corp- 1- but voting and non-voting shares permitted
C-Corp- Multiple classes permitted
LLC- Multiple classes permitted
Partnership - Multiple classes permitted
Tax Entities: Level of Income Tax
Sole- 1
Partnership - 1
LLC- 1
S-Corp- Generally 1, some states tax corporation as well (double tax will result)
C-Corp - 2
Tax Entities: Deductiblity of Losses
C-Corp- No
Sole - Losses deducted on owners tax return
S-Corp- Yes, up to tax basis; not including any part of corporations debt
Partnership/LLC- Yes up to tax basis; includes allocable shares of debt for which they are liable
Tax Entities: Dissolution
Easiest
Sole Proprietorship
Partnership
LLC
S-Corp
C-Corp
Most Complex
Accounting Methods
Each taxpayer, individual or business, must use a consistent accounting method
The most common are the cash method and the accrual method
There is also a hybrid method
Cash Method
Recognizes expenses when they are actually paid and revenue when they are actually or constructively recieved
Accrual Method
Revenue is recognized when the right to receive it exists (completed construction)
Expense is recognized when liability can clearly be established, not when paid
Corporations, other then s-corps, must use accrual if gross receipts for 3 taxable years prior to current year exceeds $29MM
When inventory is used, accounting for income accrual method must be used
Hybrid Accounting Method
Used if taxpayer would prefer cash method but sell inventory
The accrual method must be used for inventory purchased and sale of inventory
Cash method may still be used for the service portion of the business
Pricing Environment (rising prices)
FIFO LIFO
Profits
Tax Liability
Inventory Value
FIFO LIFO
P- Higher Lower
TL Higher Lower
IV Realistic Understated
Pricing Environment (falling prices)
FIFO LIFO
Profits
Tax Liability
Inventory Value
FIFO LIFO
P- Lower Higher
TL Lower Higher
IV Realistic Overstated
Inventory Accounting Methods
FIFO- First in First out
LIFO- Last in First Out
Specific Identification- can only be used when you can differentiate inventory by purchase lot
Inventory valuation and amount charged are always accurate when using specific identification
Depreciation
Is an annual income deduction that allows taxpayer to recover the cost over the time the property is used
It is an allowance for the wear and tear, deterioration or obsolescence of the property
To depreciate the property must…
be owned by the tax payer
be used for business or an income producing activity
have a determinable useful life
It must be expected t last more than 1 year
Depreciation: Straight Line
The same amount of depreciation is deducted each year over the useful life of the property
Formula = (Purchase Price-Salvage Value) / Useful life
Half year is used for the first and last year
Depreciation Accelerated
Modified accelerated cost recovery system (MARCS)
Enables Taxpayers to have more depreciation in the early years and less at the end of the asset’s useful life
Increases cash flow
Useful Life of Depreciable Assets
Auto- 5 years
Computers - 5 years
Heavy Machines - 7 years
Office Furniture - 7 years
Residential Real Estate- 27.5 years
Non-residential (Commercial) real estate- 39 years
Section 179 Does qualify
Equipment purchased for business
Tangible Property used for business
Computer and off the shelf software
Office Furniture and Office equipment
certain business vehicles
Section 179 does not qualify
Real property
HVAC equipment
Property outside the US
Property used to furnish lodging
Property acquired by gift or inheritance
Property purchased from related party
Section 179
Allows businesses to deduct the full cost right away rather than depreciate over time
Must be used in trade or business not income producing property
Up To 1,160,000 in 2023, for up to 2,890,000 in capital spending reduced dollar for dollar after
limited to firms net profit; excess carries over to future years
Depreciation “Rules”
Straight line- Predictible deductions over the usable life
MACRS- Larger (accelerated) deductions in early years of the usable life
Section 179- Full deduction in the year it was put into service
Capital assets are not . . .
ACID
Accounts Receivable
Copyrights
Inventory
Depreciable Property
Cost Basis accounting methods
FIFO- Default method
Average cost method- Cost basis is determined by averaging all purchases of the item
Specific Identification- the taxpayer selects which shares are to be reported as sold
Once you commit to a particular method you must continue to use that method until the asset is completely sold
Capital Gains Rates
Short term rates are based on ordinary income rates
Unrecaptured 1250 gains are taxed at 25%
3.8 NII (net investment income) could be triggered due to capital gains
Up to $3,000 capital losses can be claimed each year for Single, Head of Household and MFJ; MFS is $1,500. Additional looses can carry over indefinitely
Section 1231/1245/1250 property
1231 property is used in trade or business and held for production of income
1245 is property that is used in a trade or business such as furniture, computers, carpet
1250 is realty that is used in trade of business
1245 recapture is ordinary income
1250 recapture is 25% tax rate
Section 1031
Exchange of property where the gains are not recognized and losses are not deducted
must be a 1231 property
Must exchange realty for realty
Boot is non-qualified property
1031 Timing Requirement
45 days from date of sale of relinquished property to identify potential replacement properties
180 days after the date of sale of the original property to complete transaction
or
due date (with extensions) of the tax return for the year the property was sold, which comes first)
Order and explain at-risk and passive activity rules
At Risk always comes first
Your basis is all you can lose. Once some amount is at risk of loss you look at passive activity rules.
Passive activity- Losses can only be used to offset other passive gains
Publicly traded partnerships (PTP) can only offset the same PTP
Real Estate Active Participant Losses
Up to a $25,000 deduction
Fully deductible if MAGI in under $100,000
Not deductible at all after $150,000
Reduced $1 for every $2 made between phase out range
Rental Property Categories: Rental use property
Not the greater of 14 days or 10% of the number of days the property is rented can it be used for personal use
Trips made for maintenance and repairs do not count as personal use
Expenses are allowed as passive losses
Rental Property Categories: Personal Property
Rented for 14 days or less does not need to report income
Rental Property Categories: Mixed Used Property
Personal use is greater than 14 days or 10% of the days the property is rented
Expenses must be allocated between personal and rental use
Deductions are limited to gross rental income
Personal Residence sale exclusion: Reasons for reduced Exclusion
Job Relocation
Employment Change (reduced income)
Qualifying for unemployment benefits
health issues
divorce or legal separation
Birth of twins or multiples
Damage to home from disaster
Condemnation or seizure of the property
other unforeseen circumstances
Personal Residence sale Exclusion
Single- $250,000
MFJ- $500,000
Can be claimed once every two years
Reduced exclusion is possible if you qualify
Personal Residence Sale Exclusion: Ownership and Usage test
Owner 2 of the last 5 years
Used 2 of the last five years
In filing MFJ only one spouse needs to pass the ownership test but both must meet the usage test to receive the full benefit
Charitable Contributions: Cash
Does not require valuation
AGI thersholds are generally higher than non-cash contributions
Max 60% of AGI for donations to public charities and 30% of AGI for private foundations
Charitable Contributions: Long term Capital Gain Property
Must be a capital asset help for more than 1 year
Donor can elect to value at FMV or Basis
FMV- 30% AGI for public charities 20%AGI for private foundations
Basis- 50% AGI for public Charities and 30% for private foundations
Charitable Contributions: Ordinary Income Property
Property that if sold would result in ordinary income or short term capital gains
Capital asset held less than 12 months, property created by the donor (works of art, literary compositions etc) or inventory
Max
50% AGI for public charities and 30% AGI for public foundations
Charitable contribution Carry-Over
Can be carried over to each of the next 5 succeeding years
Only used after the current years deductions
If 2 or more years carry over exists, use the oldest first
Charitable Contributions: Public Charities
Churches, hospitals, medical research centers affiliated with a hospital, schools colleges and universities
Have an active program of fundraising
Receives income from the conduct of activities in furtherance of the organizations exempt purpose
Charitable Contributions: Private Foundations
Have a single major funding source (gifts from a single family or corporation)
Most primarily make grants to other charitable organization and to individuals
Charitable Contributions: Use Related
The Charity makes use of the donated property in a manner consistent with it’s exempt purpose
Can deduct up to…
FMV- 30% of AGI
Basis- 50% of AGI
Charitable Contributions:
Use Unrelated
A use unrelated to the exempt purpose or function of the qualified organization. For governmental units it is anything other than exclusively public purpose
Produces a deduction only for the lesser of Cost basis or FMV
Charitable Contributions: Record Keeping Requirements
Donor must have a bank record for monetary contributions
Donor must obtain a written acknowledgement for a single contribution of $250 or more
Charitable Contributions: Contributions of Service
Can only deduct unreimbursed expenses (i.e. out of pocket transportation, cost of lodging, cost of meals when away from home)
Law permits $0.14 per mile deduction instead of actual cost of operating an automobile
Charitable Contributions: Auction Donations
Taxpayer may only claim a deduction for the excess of the purchase price over its fair market value
Imputed Interest
IRS imputes interest charges if a taxpayer charges less than an adequate rate of interest
3 types of Imputes interest
Gift Loans
Corporate shareholder loans
Compensation related loans (from employer to employee)
4 Exceptions to Imputed Interest
Loans of $10,000 or less unless between individuals and used to purchase income producing property
Debt subject to original issue discount (OID) provisions
Sale of property for $3,000 or less
When all payments are due within 6 months
Imputed Interest calculations
If Net Investment Income (NII) is $1,000 or less- no imputed interest if loan is $100,000 or less
If loan is $10,000 or no imputed interest
If $10,001-$100,000 imputed interest is the lesser of NII or loan* AFR
If loan is above $100,000 use AFR to impute interest
Assume AFR is 4%
AMT Preferences
Increase AMTI- Exclusions of gain on qualified small business stock or private activity bond interest
AMT Adjustments
Can Increase of decrease AMTI
Home mortgage interest and investment interest, incentive stock options exercised and depreciation deduction
AMT Formula
Regular taxable income + Tax Preferred items + Standard deduction (if TP does not itemize) +/- Amt adjustments and tax preferenced items = AMTI
AMTI - Exemption amount =AMT base
AMT base*Tax Rate = AMT tax
AMT Tax- AMT foreign tax credit = Tentative minimum tax
TMT- regular tax liability = AMT
Kiddie Tax
Applies to Children UNDER age 19 or full time students UNDER 24
Net unearned income more then $2,500 threshold amount subject to tax rate at parents highest marginal tax rate
Kiddie Tax: Standard deduction
The greater of
$1,250 or
amount of earned income + $400 (up to $13,850, regular standard deduction)
Kiddie Tax: Unearned income calculation
First $1,250 is tax free
Second $1,250 is taxed at the child’s rate (Typically 10%)
Remaining is taxed at the parents highest rate rate
Net Investment Income (NII)
Is the amount by which the sum of gross investment income and the capital gain net income exceed the allowable deduction
NII tax is 3.8%
Net investment Income Thresholds
MFJ- 250,000
MFS- 125,000
Single - 200,000
HoH - 200,000
Qualifying Widow(er)- 250,000
Calculating Net Investment Income Tax
Tax Applies to the lesser of:
Net investment income
or
The excess of MAGI over the threshold limit
* 3.8%= NII tax
