Tax Terminology Flashcards
Accelerated depreciation
A depreciation method that allows larger deductions in the early years of an asset’s “life” and smaller deductions at the end of the period. (See “Straight-line depreciation.”)
Accrual method (or accrual basis)
One of two main accounting methods for determining when a transaction has tax significance. The accrual method says that a transaction is taxed when an obligation to pay or a right to receive payment is created (for example, at the time products are delivered, services rendered, billings sent, etc.). This method is used by all but the smallest businesses. (See “Cash method (or cash basis).”)
Adjusted basis
The cost of property (or a substitute figure-see “Basis”) with adjustments made to account for depreciation (in the case of business property), improvements (in the case of real estate), withdrawals or reinvestment (in the case of securities, funds, accounts, insurance or annuities), etc. Adjusted basis is part of the computation for determining gain or loss on a sale or exchange and for depreciation.
Adjusted gross income
The amount of income considered actually “available” to be taxed. Adjusted gross income is gross income reduced principally by business expenses incurred to earn the income and other specified reductions (such as alimony).
Alternative minimum tax
An alternative tax system that says: your tax shall not go below this level. The alternative minimum tax works by negating (or minimizing) the effects of tax preferences or loopholes.
Amortization
The write-off of an amount spent for certain capital assets, similar to depreciation. This tax meaning is different from the common meaning of the term that describes, for example, payment schedules of loans.
Applicable Federal Rates (AFRs)
Minimum interest rates that must be charged on various transactions that involve payments over a number of years. If the parties to a transaction do not adhere to these rates, the IRS will impute the interest. (See “Imputed interest.”)
- At-risk rules
Rules that limit an investor’s deductible losses from an investment to the amount invested. Complications arise when investors finance their investment through loans that they are not personally on the hook for (non-recourse financing). Without these rules, investors could raise their deduction limit considerably without being at-risk for the actual loss.
Basis
The starting point for computing gain or loss on a sale or exchange of property or for depreciation. (See “Adjusted basis.”) For property that is purchased, basis is its cost. The basis of inherited property is its value at the date of death (or alternative valuation date). The basis of property received as a gift or a nontaxable transaction is based on the adjusted basis of the transferor (with some adjustments). Special rules govern property transferred between corporations and their shareholders, partners and their partnership, etc.
Cafeteria plan
A plan maintained by an employer that allows employees to select from a menu of taxable and nontaxable benefits.
Capital expenditures
Amounts spent to acquire or improve assets with useful lives of more than one year. These expenditures may not be deducted, but are added to the basis of the property (See “Adjusted basis.”) and, for business property, may be converted into deductions through depreciation or amortization.
- Capital gain or loss
Gain or loss from the sale or exchange of investment property, personal property (such as a home) or other “capital asset,” which is often entitled to preferential tax treatment.
Carrybacks and carryforwards
Deductions that may be transferred to a year other than the current year because they exceeded certain limits. These deductions are typically carried back to earlier years first and, if they exceed the limits for those years, are then carried forward to later years until the deduction is used up. Charitable contributions and net operating losses are examples of deductions that may be carried back or forward.
Cash method (or cash basis)
One of two main accounting methods for determining when a transaction has tax significance. The cash method says that a transaction is taxed when payment is made. This method is used by most individuals. (See “Accrual method (or accrual basis).”)
Community property
A system governing spousal ownership of property and income that is the law in certain western and southern states and Wisconsin. The differences between community property and “common law” can change how federal tax law applies to spouses. For example: married taxpayers filing separately in a common law state do not have to report income earned by the other spouse. They do have to report income earned in a community property state.
Deferred compensation
An arrangement that allows an employee to receive part of a year’s pay in a later year and not be taxed in the year the money was earned.
Depletion
A system similar to depreciation that allows the owner of natural resources (for example: a coal mine or an oil well) to deduct a portion of the cost of the asset during each year of its presumed productive life.
Earned income
Income earned by working for it. Interest, dividends and other kinds of profits are examples of unearned income.
Earned income credit
A tax credit available to individuals with low earned income. An individual is entitled to the full amount of this credit even if it exceeds the amount of tax otherwise due.
Employee stock ownership plan (ESOP)
A type of profit-sharing plan in which benefits come in the form of stock in the employer.
Estimated tax
Quarterly down payments on a year’s taxes that are required (on April 15, June 15, September 15, and January 15) if the total year’s taxes will exceed $1,000 and the amount is not covered by withholding.
Federal Insurance Contributions Act (FICA)
Social security taxes (for both old-age, survivors and disability insurance-OASDI-and Medicare).
Federal Unemployment Tax Act (FUTA)
Unemployment taxes
Filing status
One of four tax ranks determined by your marital status, your dependents and the way you file your tax return: (1) single, (2) married filing jointly, (3) married filing separately and (4) head of household. Filing status determines your tax rates and your eligibility for various tax benefits (for example: alimony deduction, IRA deduction, standard deduction, etc.).
