Types of Taxable income Flashcards
Which of the following is NOT taxable income under IRS regulations?
A. Interest payments
B. Alimony payments
C. Royalty payments
D. Bonus payments
The best answer is B.
Earned income, under the tax code, has different definitions, depending on the regulation involved. The income items that are taxed at “earned income” rates (currently a maximum of 37%) includes wages, bonuses, social security payments, and royalties received (such as royalties earned for writing a book).
Interest income received is classified as “portfolio” income. Portfolio income, depending on the type, can be taxed at lower rates (for example, cash dividends received are currently taxed at a maximum of 15% unless an individual is in the maximum tax bracket, in which case cash dividends are taxed at 20%; while interest received is taxed at a maximum of 37%).
Starting in 2019, alimony is no longer taxable to the recipient, nor is it deductible to the payer.
All of the following are defined as “portfolio income” under IRS guidelines EXCEPT:
A. dividends received from common stock holdings
B. interest income received from bond holdings
C. proceeds from the sale of securities in excess of the tax basis of those securities
D. royalties received from oil and gas limited partnership holdings
The best answer is D.
Income from partnership interests is defined as “passive income” under IRS rules. Royalties from oil and gas limited partnerships are thus “passive income.” Passive income can only be offset by passive losses. Portfolio income consists of dividends, interest, and net capital gains on securities (except for direct participation program interests, which are considered to be passive investments). Portfolio gains can only be offset against portfolio losses.
A customer has invested in a real estate business that is being managed by a third party. Any income from the investment would be characterized for tax purposes as:
A. portfolio income
B. passive income
C. earned income
D. alternative income
The best answer is B.
Passive income and loss is defined as that derived from real estate investments and limited partnership investments. Passive losses can only be offset against passive income. Passive losses cannot be offset against investment income or earned income.
All of the following items are included as deductible passive losses on the income tax returns of limited partnership investors EXCEPT:
A. depletion allowances
B. intangible drilling costs
C. principal payments on secured debt
D. interest payments on secured debt
The best answer is C.
Interest payments on loans, intangible drilling costs (the cost of drilling for oil and gas), and depletion allowances (the recovery of monies paid to buy the oil or gas reserve) are all tax deductible items under the Internal Revenue Code since they are “ordinary and necessary business expenses.” Repayment of principal on a loan is not tax deductible.
Passive losses from an investment in a limited partnership can be offset by which of the following?
I Earned Income
II Interest Income
III Capital Gains Income
IV Passive Income
A. I and II only
B. III and IV only
C. IV only
D. I, II, III, IV
The best answer is C.
Income received from direct investments in real estate and limited partnership investments is characterized under the tax code as passive income. Passive losses can only be offset against other passive income - they cannot be offset against earned income; nor can they be offset against portfolio income such as interest received and capital gains.
An investor in a limited partnership generating passive losses can offset these against:
A. income generated from direct investments in real estate
B. dividends received from blue chip corporations
C. capital gains generated from the sale of partnership units
D. income generated from investments in municipal bonds
The best answer is A.
Under the Tax Code, passive losses can only be offset against passive income. They cannot be offset against portfolio income (interest, dividends, capital gains) or earned income. Passive income and loss is defined as that derived from real estate investments and limited partnership interests. Note that any capital gain on the sale of a partnership unit is “portfolio income;” not passive income.
A customer has $10,000 in passive losses from a limited partnership investment. If the customer has $3,000 of passive income for that tax year, the customer may deduct:
A. 0
B. $3,000
C. $5,000
D. $10,000
The best answer is B.
Passive losses (which are derived from direct investments in real estate and limited partnership investments) can only be offset against other passive income. Since there is $3,000 of passive income for this tax year, only $3,000 of passive losses can be deducted. The unused $7,000 of passive losses are carried forward and can be offset in later years against passive income generated in those years.
The lower 15% tax rate applies to:
I cash dividends received from stock investments
II stock dividends received from stock investments
III stock splits received from stock investments
A. I only
B. I and II
C. II and III
D. I, II, III
The best answer is A.
Only cash dividends received from stock investments (both common and preferred) qualify for the lower 15% tax rate (or 20% for individuals in the highest tax bracket). Stock dividends and stock splits are not taxable as income, rather for tax purposes, the cost basis per share is reduced for the distribution and the number of shares is increased proportionately.
Cash payments made to investors (except for extremely high earners) from which of the following investments are subject to the lower 15% maximum tax rate?
I Common stocks
II Preferred stocks
III Convertible bonds
IV Non-convertible bonds
A. I only
B. I and II
C. III and IV
D. I, II, III, IV
The best answer is B.
Interest payments received from bond investments (whether the bonds are convertible or not) do not qualify for the lower 15% tax rate. Also note that this rate is raised to 20% for individuals in the highest tax bracket.
Which statements are TRUE regarding the taxation of capital gains?
I A capital gain is considered to be short term if a position is liquidated at a profit after being held for 1 year or less
II A capital gain is considered to be short term if a position is liquidated at a profit after being held for over 1 year
III For investors in the maximum tax bracket, any short term capital gains will be taxed at the same tax rate as that bracket
IV For investors in the maximum tax bracket, any short term capital gains will be taxed at a lower rate than that bracket
A. I and III
B. I and IV
C. II and III
D. II and IV
The best answer is A.
Under Internal Revenue rules, a capital gain (or loss) is considered to be short term if a position is liquidated after being held for 1 year or less. Short term capital gains are taxed at ordinary income rates with a maximum rate of 37% (the maximum individual tax rate).
If the position is held for over 1 year (1 year and 1 day), then any gain or loss is long term. Gains on assets held over 12 months are taxed at a maximum rate of 15%. (Note that this rate is raised to 20% for taxpayers in the highest tax bracket.)
Under IRS regulations, a gain or loss upon current disposition of an asset is first considered to be long term if the asset has been held for over:
A. 6 months
B. 1 year
C. 2 years
D. 5 years
The best answer is B.
Under IRS rules, a security’s holding period is considered to be long term if it exceeds 1 year. Gains on assets held over 12 months are taxed at a maximum rate of 15%. (Note that this rate is raised to 20% for individuals in the highest tax bracket.)
Which statement is TRUE about taxation of capital gains?
A. Short term capital gains are taxed at higher rates than long term capital gains
B. Short term capital gains are taxed at lower rates than long term capital gains
C. Short term capital gains are taxed at the same rate as long term capital gains
D. Short term capital gains are taxed at ordinary income rates; long term capital gains are tax deferred
The best answer is A.
The maximum tax rate on short term capital gains is 37% (the same as for earned (ordinary) income). For assets held over 12 months, the maximum tax rate drops to 15%. (Note that this rate is raised to 20% for individuals in the highest tax bracket.)
A customer has $7,000 of capital losses and $3,000 of capital gains in a tax year. On that year’s tax return, the investor has a:
A. $3,000 capital loss deduction with no loss carryforward
B. $3,000 capital loss deduction and a $1,000 loss carryforward
C. $4,000 capital loss deduction with no loss carryforward
D. $7,000 capital loss deduction
The best answer is B.
The tax law allows capital gains and losses to be netted each year. Net capital gains are fully taxable at the tax bracket. However, only $3,000 of net capital losses can be deducted in any year. Any losses above this amount can be carried forward to the next tax year. This customer has a net $4,000 capital loss, of which $3,000 can be deducted this year and $1,000 must be carried over to next year.
A customer in the 28% tax bracket has $4,000 of capital gains and $12,000 of capital losses. How much unused loss is carried forward to the next tax year?
A. 0
B. $3,000
C. $5,000
D. $8,000
The best answer is C.
The customer has a capital gain of $4,000 and a capital loss of $12,000 for a net capital loss of $8,000. Since only $3,000 of net capital losses can be deducted in a tax year, $5,000 of the loss cannot be deducted. This $5,000 loss is carried forward to the next tax year.
A customer in the 28% tax bracket has $6,000 of capital gains and $10,000 of capital losses. How much unused loss is carried forward to the next tax year?
A. 0
B. $1,000
C. $2,000
D. $3,000
The best answer is B.
The customer has a capital gain of $6,000 and a capital loss of $10,000 for a net capital loss of $4,000. Only $3,000 of net capital losses can be deducted in a tax year, so $1,000 of the loss is carried forward to the next tax year.
