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CPWA Test Prep > Tax Planning > Flashcards

Tax Planning Flashcards

1
Q

What is the Marginal Tax Rate?

A

The tax rate applied to the next dollar of income earned or deduction. Important for decision-making on incremental income.

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2
Q

Explain Effective Tax Rate.

A

The average tax rate paid on total income, calculated by dividing total taxes by total income.

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3
Q

What is Alternative Minimum Tax (AMT)?

A

A parallel tax system ensuring high-income taxpayers pay a minimum tax, adjusting taxable income for preferences and exclusions.

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4
Q

Describe Tax Bracket Stacking.

A

A strategy to allocate income across years or taxpayers, maximizing lower tax brackets to reduce the overall tax burden.

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5
Q

What are the 2024 AMT exemption amounts for married filing jointly?

A

$133,300, with a phase-out beginning at $1,218,700.

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6
Q

What is Distributable Net Income (DNI) in trusts?

A

Limits a trust’s deduction for beneficiary distributions and determines the taxable income passed to beneficiaries.

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7
Q

How are Incentive Stock Options (ISOs) taxed?

A

Not taxed at grant or exercise if held for two years from grant and one year from exercise. Gains taxed as long-term capital gains if held.

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8
Q

Explain the Qualified Business Income (QBI) Deduction.

A

A 20% deduction on qualified income for pass-through entities, subject to business type and income limits.

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9
Q

What is the Kiddie Tax?

A

Applies parents’ tax rate to a child’s unearned income above $2,600, limiting tax savings from income-shifting to children.

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10
Q

What is Net Investment Income Tax (NIIT)?

A

A 3.8% tax on the lesser of net investment income or MAGI above $250,000 (MFJ) or $200,000 (Single).

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11
Q

Describe a §1031 Like-Kind Exchange.

A

Allows tax deferral on gains from real property exchanges for similar properties, deferring taxes on gains without loss recognition.

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12
Q

What is a Wash Sale?

A

Disallows loss deduction if substantially identical securities are repurchased within 30 days before or after the sale.

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13
Q

Define a Crummey Trust.

A

A trust allowing annual gifts to qualify for the gift tax exclusion by granting beneficiaries a temporary withdrawal right.

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14
Q

What are above-the-line deductions?

A

Deductions taken before calculating AGI, including student loan interest, IRA contributions, and self-employed health insurance.

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15
Q

Explain the Kiddie Tax exemption threshold.

A

The first $2,600 of a child’s unearned income is tax-free; income above this may be taxed at the parent’s rate.

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16
Q

Describe capital gain tax rates for 2024.

A

0% up to $94,050 (MFJ), 15% for $94,051 to $583,750 (MFJ), and 20% over $583,750 (MFJ).

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17
Q

What is a Charitable Remainder Trust (CRT)?

A

A trust providing income to beneficiaries for a term with the remainder going to charity, allowing an immediate charitable deduction.

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18
Q

Define “basis” in partnership interest.

A

Basis starts with the partner’s contributions, adjusted for income, distributions, and allocated debt, affecting gain or loss on sale.

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19
Q

Describe Qualified Dividend Income.

A

Qualified dividends, from U.S. or qualified foreign companies held for a minimum period, are taxed at long-term capital gains rates.

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20
Q

What is Phantom Income in Partnerships?

A

Income allocated to a partner that is taxable even if not distributed, requiring the partner to pay tax on allocated income.

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21
Q

Explain capital gain tax treatment for collectibles.

A

Gains on collectibles are taxed at a maximum rate of 28%, different from the general long-term capital gains rates.

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22
Q

What are Passive Loss Limitations?

A

Limits deductions for passive losses to the amount of passive income, with unused losses carried forward until passive income is available.

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23
Q

Define Step-Transaction Doctrine.

A

Prevents tax avoidance through structured transactions without a business purpose by treating multiple steps as one for tax purposes.

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24
Q

Explain mortgage interest deduction limits.

A

Deductible on up to $750,000 of acquisition debt for primary and secondary homes; HELOC interest deductible if used to improve the home.

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25
What is the Economic Substance Doctrine?
Requires transactions to have economic substance beyond tax benefits to qualify for deductions.
26
How is mortgage insurance treated for tax purposes?
Deductible as mortgage interest if acquired under allowable dates and phased out for higher incomes.
27
Describe Adjusted Gross Income (AGI).
Income after 'above-the-line' deductions, used to calculate further tax and eligibility for certain credits and deductions.
28
What is a Flow-Through Entity?
A business structure like partnerships and S-corporations where income, credits, and deductions pass through to owners’ personal tax returns.
29
Explain the Self-Employment Tax.
Applies a combined rate of 12.4% for Social Security and 2.9% for Medicare on net earnings from self-employment, with limits on the SS portion.
30
Define Realized vs. Recognized Gains.
Realized gains are calculated upon sale, but only recognized gains are taxable if they trigger a taxable event.
31
What are the limitations for charitable contributions of appreciated assets?
Contributions of appreciated assets held over a year are deductible at FMV, subject to AGI limits, with excess deductions carried forward.
32
How does AMT apply to ISOs?
The spread between FMV at exercise and exercise price for ISOs is an AMT preference item, added to AMTI for AMT calculation.
33
What are Deductible Investment Interest Expense Rules?
Deductible only up to the amount of net investment income, with disallowed amounts carried forward to future years.
34
Explain Passive Activity and Income.
Income from business activities where the taxpayer does not materially participate, often including rental activities, offset only by passive losses.
35
Define Estimated Tax Payments.
Estimated Tax rules prevent penalties if payments equal 100% of last year’s tax (110% for high income) or 90% of the current year's tax.
36
What is Substantial Economic Effect in Partnerships?
Allocations must reflect the economic arrangement among partners and have a real economic impact beyond tax effects.
37
Describe Net Operating Loss (NOL) Carryforwards.
NOLs can offset future taxable income, with restrictions on how much can be used each year to reduce taxes.
38
What is the 20% QBI Deduction?
A deduction for pass-through income from qualified businesses, with income limits and certain exclusions for specified service trades.
39
What is a Like-Kind Exchange (IRC §1031)?
A deferral of gain on exchanges of real property held for investment or business for similar properties, deferring taxes on gains.
40
Define 'Basis' in Tax Context.
Represents the owner’s original investment in an asset, adjusted for income, expenses, and withdrawals, affecting taxable gain on sale.
41
Explain AMT adjustments for ISOs.
AMT requires adding the spread between exercise price and FMV as an AMT preference item, increasing AMTI.
42
What is the Tax Impact of Charitable Deductions?
Charitable deductions reduce taxable income, with limits based on AGI and the type of property donated.
43
What is a Qualified Personal Residence Trust (QPRT)?
A trust where the grantor retains use of a residence for a term, after which the home passes to beneficiaries, reducing gift tax value.
44
Define Adjusted Gross Income (AGI).
Total income minus above-the-line deductions. AGI determines eligibility for various credits and tax benefits.
45
Describe the purpose of a Grantor Retained Annuity Trust (GRAT).
Allows the grantor to retain annuity payments while transferring future appreciation to beneficiaries, minimizing gift tax.
46
What is the Substance-Over-Form Doctrine?
IRS doctrine stating that the tax treatment of a transaction is based on its economic substance rather than its formal structure.
47
Explain the concept of Phantom Income in Partnerships.
Income allocated to a partner that is taxable, even if not distributed, requiring the partner to pay tax on their share of the income.
48
What is a Qualified Terminable Interest Property (QTIP) Trust?
A trust providing income to a surviving spouse, with the remainder passing to other beneficiaries upon their death, often used in estate planning.
49
How are charitable contributions of appreciated stock treated?
Contributions of appreciated stock held over a year are deductible at fair market value, subject to AGI limits, with excess carried forward.
50
Define the Net Investment Income Tax (NIIT) threshold.
NIIT applies to individuals with MAGI over $250,000 for MFJ or $200,000 for singles, taxing the lesser of net investment income or MAGI excess.
51
What is the Kiddie Tax for 2024?
Unearned income over $2,600 for a child under 19 or 24 (if a student) is taxed at the parent’s rate to prevent income-shifting for tax reduction.
52
Explain the Uniform Transfers to Minors Act (UTMA).
Allows assets to be held in a custodial account for a minor, with transfers made tax-free, often used for educational or savings purposes.
53
Describe Distributable Net Income (DNI) for trusts.
DNI determines the maximum taxable amount distributed to beneficiaries and limits the trust's deduction for those distributions.
54
How does AMT affect incentive stock options (ISOs)?
The spread between exercise price and FMV of ISOs is an AMT preference item, increasing alternative minimum taxable income (AMTI).
55
What is an intentionally defective grantor trust (IDGT)?
A trust where the grantor pays income tax on trust income, allowing assets to grow outside the grantor's estate for estate tax purposes.
56
Define tax basis in a partnership.
Reflects the partner's share of contributions, income, and allocated debt, adjusted for withdrawals and expenses, impacting gain or loss.
57
What is the annual exclusion for gifts?
The amount that can be gifted tax-free per recipient each year, set at $17,000 for 2024, without affecting the lifetime exemption.
58
Explain above-the-line deductions vs. below-the-line deductions.
Above-the-line deductions reduce AGI, while below-the-line deductions (itemized) apply after AGI to determine taxable income.
59
What is the purpose of a 529 plan?
A tax-advantaged savings plan for education expenses, where contributions grow tax-free and withdrawals are tax-free if used for qualified expenses.
60
Describe 'qualified dividends.'
Dividends meeting certain holding period requirements from U.S. or qualified foreign corporations, taxed at favorable long-term capital gains rates.
61
What is the benefit of a Health Savings Account (HSA)?
Contributions are tax-deductible, grow tax-free, and withdrawals are tax-free for qualified medical expenses, with no 'use it or lose it' policy.
62
Explain carryover basis in estate planning.
A method where gifted assets retain the donor's cost basis, potentially resulting in capital gains tax for the recipient upon sale.
63
Define a Qualified Charitable Distribution (QCD).
A tax-free transfer from an IRA directly to a charity for individuals 70½ or older, up to $100,000 annually, reducing taxable income.
64
What is a section 2503(b) trust?
A trust providing for annual mandatory income distributions to a minor, qualifying for the annual gift tax exclusion.
65
How is AMT calculated for individuals?
Calculated by adding preference items and AMT adjustments to regular income, then applying AMT rates and subtracting the AMT exemption.
66
What is a step-up in basis?
The adjustment of an inherited asset’s cost basis to its FMV at the decedent’s death, minimizing capital gains upon sale.
67
Explain the passive loss limitation rules.
Limits passive losses to the amount of passive income; unused losses are carried forward until passive income or sale of the activity.
68
Describe the “at-risk” rules.
Limits a taxpayer’s deductible losses to the amount invested in an activity, including certain types of qualified nonrecourse debt.
69
Define 'effective tax rate.'
The average tax rate calculated by dividing total tax by total income, reflecting the overall tax burden on income.
70
Explain what constitutes a “material participant” in a business.
An individual who meets IRS-defined criteria of active involvement in a business, allowing them to offset active income with business losses.
71
What is a Section 2503(c) minor’s trust?
A trust providing income for a minor, with remaining assets passing to them at age 21, allowing for annual gift tax exclusions.
72
Define adjusted gross income (AGI).
Total income minus above-the-line deductions, serving as a threshold for eligibility for certain credits and deductions.
73
Describe an irrevocable life insurance trust (ILIT).
A trust holding life insurance policies to keep proceeds out of the insured's estate, providing tax-free benefits to beneficiaries.
74
What is a bypass trust?
A trust using the estate tax exemption of the first spouse to die, preserving assets for beneficiaries while minimizing estate taxes.
75
Define Qualified Domestic Trust (QDOT).
A trust allowing non-citizen spouses to qualify for the marital deduction, deferring estate tax on assets passed to them.
76
What is depreciation recapture?
The portion of a gain on a sale taxed as ordinary income to the extent of previously claimed depreciation deductions.
77
Explain the Uniform Gift to Minors Act (UGMA).
Allows minors to own assets in a custodial account until reaching the age of majority, with tax benefits for growth in the account.
78
What are capital gain tax rates for short-term vs. long-term?
Short-term gains are taxed at ordinary income rates; long-term gains are taxed at reduced rates (0%, 15%, or 20%) based on income.
79
Define installment sale.
A sale allowing the seller to receive payments over time, reporting gains as they are received to spread out tax liability.
80
What is a Net Operating Loss (NOL)?
A financial loss that can be used to offset taxable income in future years, reducing tax liability.
81
What is a Net Operating Loss (NOL)?
A business loss that can offset future taxable income, with limitations on how much can be applied each year to reduce taxes.
82
Explain the carryforward rules for capital losses.
Capital losses exceeding capital gains can offset up to $3,000 of ordinary income each year, with remaining losses carried forward.
83
Describe a charitable lead trust (CLT).
A trust providing income to a charity for a term, with remaining assets passing to non-charitable beneficiaries, often used for tax benefits.
84
What is the purpose of a Family Limited Partnership (FLP)?
A partnership for estate planning that allows parents to transfer business assets to family members while retaining control.
85
Define a stretch IRA.
A strategy allowing beneficiaries to withdraw required minimum distributions over their lifetime, maximizing tax-deferred growth.
86
What are required minimum distributions (RMDs)?
Mandatory withdrawals from retirement accounts starting at age 72, based on life expectancy and account balance.
87
Explain the charitable deduction AGI limits.
Charitable cash contributions to public charities are limited to 60% of AGI, with a 5-year carryforward for excess amounts.
88
What is a disregarded entity?
A single-member LLC or other entity ignored for tax purposes, with income reported on the owner's individual tax return.
89
Describe the Qualified Small Business Stock (QSBS) exclusion.
Allows gains from the sale of qualified small business stock held for five years to be excluded from income, up to specific limits.
90
What is the AMT rate for individuals?
26% on AMTI up to $232,600 and 28% on amounts over $232,600.

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