Unit 2 Income Tax Fundamentals & Calulations: Deductions & Credits

Question 1

How do you get to taxable income?

Answer 1

AGI is reduced by either the standard or itemized deduction which ever is larger.

Question 2

What are the standard deductions?

Answer 2

Single
Married Filing Jointly
Married Filing separately
Head Of Household
Qualifying Widower (2 years after spouses death)

Question 3

What are the additional Standard deductions?

Answer 3

You get an additional deduction if you are over 65 and another one if you are blind. So if you are 65 and blind you would be able to get both so it would double.

Question 4

What schedule are itemized deductions reported on?

Answer 4

Schedule A

Question 5

Deductible expenses must be?

Answer 5

ordinary and necessary

Question 6

What are the 3 accounting methods used for taxes and timing of deductions?

Answer 6

Cash Basis - Generally deductible in the year expenses is paid.
Accrual Basis - generally deductible in year that the expense is incurred.
Deduction Clustering benefit - cash basis tax payers may choose to pay expenses in the current year or the next in order max the amount that is deductible.

Question 7

What are the major itemized deductions?

Answer 7

Medical Expenses
Taxes
Interest
Personal Casualty Loss
Charitable Contributions

Question 8

Medical Expense Deduction

Answer 8

Includes expenses for taxpayer, taxpayers spouse and dependents (anyone on the tax return)
Must not have reimbursed by the insurance company
The aggregate must be in excess of 7.5% of AGI to be claimed.

Question 9

Taxes deduction

Answer 9

deduction for state, local, personal property taxes, state and local sales tax, foreign income and real-estate taxes.

capped at a total of $10,000

Question 10

What are the 5 types of interest expense?

Answer 10

Consumer interest like credit cards (never deductible)

Qualified residence interest

Investment Interest expense

Business Interest

Passive activity interest

Question 11

Mortgage Interest Deduction

Answer 11

limit of indebtedness is $750,000

can be an equity loan, home equity line of credit, 2nd mortgage

proceeds of the loan must be used to buy, build or improve the taxpayers home that secures the loan

Question 12

Personal Casualty Losses deduction

Answer 12

deductible if only incurred in a federally declared disaster.

limited to the amount of the casualty loss

steps to calculation of the deduction

1. take the lesser of the taxpayers adjusted tax basis in the property or the difference between the FMV of the property before the loss and the FMV after the loss.
2. Subtract any insurance amounts reimbursing the taxpayer for the loss
3. Subtract $100
4. Subtract 10% of the AGI
5. The result equals the amount of deductible casualty loss.

Question 13

What are the most important misc itemized deductions?

Answer 13

1. Federal estate tax attributable to items included in the taxpayers gross estate as income in respect of a decedent
2. Gambling losses and transaction expenses to the extent of gambling winnings
3. impairment-related work expenses for handicaped taxpayers
4. unrecovered investment in annuity contract when annuity terminates because taxpayer died

Question 14

What are the two types of reimbursed employee expenses?

Answer 14

Accountable plan - turn in receipts to employer to be reimbursed. does not show up in income.

non accountable plan - shows up in income

Question 15

Investment interest expense deduction

Answer 15

deductible up to the amount of investment income

Question 16

Deduction for Home office expense

Answer 16

Must be self employed and is a line item on schedule C

Two methods of calculating

1. Regular method
   a. exclusively used for bus. on regular basis
   b. % of home used for business
   c. actual expenses determined and records maintained
   d. Home related itemized deductions apportioned between schedule A and Business Schedule
   e. Depreciation deduction for portion of home used for bus.
   f. Recapture of depreciation on sale of home
   g. deductions cannot exceed gross income from business use of home less business expenses
   h. amount in excess of gross income limitation may be carried over
   I. loss carryover from use of regular method in prior year may be claimed if gross income test is met in current year
2. Simplified option
   a. exclusively used for bus. on regular basis
   b. Allowable square footage of home use for business not to exceed 300 ft
   c. Standard $5 per square foot used to determine home business deduction.
   d. Home related itemized deductions claimed in full on Schedule A.
   e. No deprecation deduction
   f. no recapture of deprecation upon sale of home
   g. deductions cannot exceed gross income from business use of home less business expenses
   h. amount in excess of gross income limitation may not be carried over
   I. loss carryover from use of regular method in prior year may not be claimed.

Question 17

Are legal and accounting fees deductible?

Answer 17

only when incurred in connection with a trade or business or for the production of rents and royalties.

Question 18

Are worthless securities deductible?

Answer 18

considered a capital loss and must be completely worthless.

Question 19

Are bad debts deductible

Answer 19

yes as an ordinary loss

Question 20

Who is considered a qualifying child?

Answer 20

tax payers child, step child, foster child, sibling, step sibling, or a descendent of any of the previously listed.

must have lived with the tax payer for over half the year.

must pass an age test: under 19 or a full time student under 24 or is permently or totally disabled.

must not have provided 50% of own support

individual cannot claim another dependent

cannot file a joint return

must be a us citizen, us national, or resident of the us, Mexico or Canada.

Question 21

Who is considered a qualifying relative?

Answer 21

not a qualifying child and must have a specified relationship to taxpayer

Parent, in-law, niece, nephew, aunt, uncle or is unrelated to the taxpayer but the individual resided in the taxpayers principle home during the tax year

must have provided half of there support for the year.

If the qualifying relative is a parent of the taxpayer, the parent does not have to reside in the home of the taxpayer.

Question 22

What is the Marginal income tax rate?

Answer 22

the tax rate that is paid on the last taxable dollar

Question 23

What is the effective tax rate?

Answer 23

it is the percentage of your income that you actually pay taxes on.

Total tax Liability / Taxable income

Question 24

How do tax credits work?

Answer 24

They reduce the tax lability dollar for dollar. may reduce AMT liability as well

Question 25

What is the difference between a refundable and non refundable tax credit?

Answer 25

Refundable tax credit - can exceed the tax payers liability for a refund

nonrefundable tax credit - can only reduce your tax liability to 0

Question 26

American Opportunity Tax and Lifetime learning Credits?

Answer 26

help pay families expenses of post secondary education.
Qualifying students;
  taxpayer
  taxpayers spouse
  taxpayers dependent children
  other dependents

Question 27

The Child and dependent care credit

Answer 27

non refundable

have earned income

must be working or looking for work

keep a home for qualifying individual

child must be under 13

can be for a spouse who cannot take care of themselves or any other person that cannot mentally or physically take care of themselves

capped at $3000 for individual and $6,000 for two or more eligible

over $43000 dollars a year in income you can only claim 20% of the $3000 or $6,000

Question 28

What is the Child tax credit?

Answer 28

Non refundable $2000 tax credit for each qualifying child under the age of 17 (max 16)

subject to certain income thresholds

Question 29

What is the Adoption Credit?

Answer 29

Non refundable

credit up to $14,080 in 2019

taken in year adoption is final

subject to MAGI phase out limits

Question 30

Foreign Tax credit

Answer 30

Avoids double taxation by foreign country or u.s possession and the u.s.

may use foreign tax credit or foreign earned income exclusion but not both

non refundable

Question 31

Payment of taxes due formula

Answer 31

Regular tax lability
minus nonrefundable credits
add other taxes payable (i.e. tax penalty on early ira withdrawal's)
subtract refundable credits and payments
equals taxes owed or refund