Taxation Terms Flashcards
Limited Liability Company
A corporate structure whereby the members of the company cannot be held personally liable for the company’s debts or liabilities. A limited liability company is a hybrid type of legal structure that provides the limited liability features of a corporation and the tax efficiencies and operational flexibility of a partnership.
The “owners” of an LLC are referred to as “members.” The members can consist of individuals, corporations or other LLCs.
Unlike shareholders in a corporation, LLCs are not taxed as a separate business entity. Instead, all profits and losses are “passed through” the business to each member of the LLC. LLC members report profits and losses on their personal federal tax returns, just like the owners of a partnership would.
Taxable Capital Gains
A capital gains tax (CGT) is a tax on capital gains, the profit realized on the sale of a non-inventory asset that was purchased at a cost amount that was lower than the amount realized on the sale. Capital gains are realized from the sale of property.
individuals and corporations pay income tax on the net total of all their capital gains. Short-term capital gains are taxed at a higher rate: the ordinary income tax rate. The tax rate for individuals on “long-term capital gains”, which are gains on assets that have been held for over one year before being sold, is lower than the ordinary income tax rate
Limited Partnership
A partner in a partnership whose liability is limited to the extent of the partner’s share of ownership. Limited partners generally do not have any kind of management responsibility in the partnership in which they invest and are not responsible for its debt obligations. For this reason, limited partners are not considered to be material participants.
Because they are not material participants, the income that limited partners realize from their partnerships is treated as passive income, and can be offset with passive losses.
Pass-Through Entity
A legal business entity that passes income on to the owners and/or investors. Pass-through entities are a common device used to limit taxation by avoiding double taxation. Only the investors/owners are taxed on revenues, not the entity itself.
commonly grouped into limited, general and limited liability partnerships, along with income trusts and limited liability companies. Although flow-throughs are considered non-entities for tax purposes
Depreciation deductions
A decline in value of the property/assets over time.
Straight Line Depreciation: spreads out the cost of an asset equally over its lifetime. Does this by dividing the difference between an asset’s cost and its expected salvage value by the number of years it is expected to be used.
Accelerated Depreciation: allows greater deductions in the earlier years of the life of an asset. The straight-line depreciation method spreads the cost evenly over the life of an asset. On the other hand, a method of accelerated depreciation allows you to deduct far more in the first years after purchase.
Cost basis
The original value of an asset for tax purposes (usually the purchase price), adjusted for stock splits, dividends and return of capital distributions. This value is used to determine the capital gain, which is equal to the difference between the asset’s cost basis and the current market value. Also known as “tax basis”.
Passive losses
Generally, losses from passive activities that exceed the income from passive activities are disallowed for the current year. Disallowed passive losses are carried forward to the next taxable year. Passive activities include trade or business activities in which you do not “materially participate.” You materially participate in an activity if you are involved in the operation of the activity on a regular, continuous, and substantial basis. In general, rental activities, including rental real estate activities, are also passive activities, even if you do materially participate. However, rental real estate activities in which you materially participate are not passive activities if you qualify as a “real estate professional.”
For tax purposes, rentals generally are passive activities and are subject to the passive loss disallowance rules. See IRC § 469(c)(2). A loss from a passive activity is not currently deductible
As long as a taxpayer participates in management decisions in a bona fide sense, he actively participated in the real estate rental activity. There is no specific hour requirement. However, the taxpayer must be exercising independent judgment and not simply ratifying decisions made by a manager.
Phantom income
Income paid to a taxpayer during the tax year that is not constructively received at the taxpayer’s end. Phantom income is not terribly common, but does manifest itself in such investments as limited partnerships, where the earnings are taxed but not received.
Loan forgiveness is another form of Phantom Income. The creditor essentially “pays” the delinquent borrower the amount of debt forgiven
Capital gains
The proceeds of sale of a property. Cash paid to seller. And cash paid to lender to repay unpaid principal balance of any non-recourse mortgage.
State Income Taxes
Tax levied on income at the state level. State income taxes have their own set of deductions and credits that may be awarded for certain activities, such as contributing to a state-sponsored 529 plan. Taxpayers who itemized deductions on their federal returns may deduct state taxes paid on Schedule A.
