104-10 Tax Compliance, Tax Management, and Tax Procedure

Question 1

2 parts of income tax planning

Answer 1

1. Substantive tax law (Units 1-9)

2. Tax procedure (Unit 10)

Question 2

Tax Accounting Methods

Answer 2

There are several. Focus in this course:

1. Cash method
2. Accrual method
3. Hybrid method

Question 3

Cash method of accounting

Answer 3

A taxpayer generally reports income when any cash is collected (or the constructive receipt income tax doctrine applies) and reports expenses when any cash payment is made

Method may be used by:

• individuals
• sole proprietorships
• partnerships that do not have C corporations as partners and whose annual gross receipts for any 3-yr proceeding period don’t exceed $25 million
• C corps if avg annual gross receipts for any 3-yr proceeding period do not exceed $25 million
• Qualified personal service corporations

Question 4

Accrual method of accounting

Answer 4

Requires recognition of taxable income in the same tax year it is reported on the taxpayer’s financial statements when the income is earned in any year and the expenses are reported as they are incurred

Mandatory for a business that maintains inventory - an exception applies if the avg annual gross receipts are $25 mill or less or if it is a service business and the avg annual gross receipts are $25 mill or less

Question 5

Hybrid method of accounting

Answer 5

A combination of the accrual method and the cash method of accounting

The taxpayer may account for some items of income using the accrual method (e.g. the sale of merchandise) and other items using the cash method (e.g. income from services)

Question 6

2 commonly used methods to establish the cost of business inventory

Answer 6

1. First in, first out (FIFO)

2. Last in, last out (LIFO)

Question 7

Changes in accounting methods

Answer 7

Must be approved by the IRS

Errors on returns do not require IRS approval. They may be corrected by filing an amended return (IRS Form 1040X) w/ the IRS

Question 8

Calendar vs Fiscal year

Answer 8

Calendar year: any 12 month period ending on December 31

Fiscal year: a 12-month period ending on the last day of any month other than December

Accounting period changes require IRS approval

Question 9

Net operating loss (NOL)

Answer 9

Benefits cyclical businesses who might otherwise lose money without receiving any benefit

NOLs allowed for: self-employed individuals, regular corporations, and estate and trust entities

Benefit not allowed for: partnerships or S corporation flow-through entities

NOLs can be carried forward indefinitely
The loss is limited to 80% of the total taxable income reported for the carryforward years (each year - only 80%)

Question 10

Business purpose doctrine

Answer 10

Stipulates that a transaction will not be effective for income tax purposes unless it is intended to achieve a genuine business purpose other than tax avoidance

Question 11

Assignment-of-income doctrine

Answer 11

Fruit of the tree

A taxpayer who earns income and is the source of that income (i.e., the tree) cannot assign that income (i.e., the fruit) to someone else for income tax purposes (i.e., separate the fruit from the tree)

Question 12

Tax benefit rule or doctrine

Answer 12

This rule converts otherwise nontaxable receipts into taxable income

Most common example: reimbursement in a subsequent year for medical expenses paid and deducted in a previous year. Because the taxpayer received a tax benefit the application of the rule results in the taxability of subsequent medical reimbursements.

Question 13

Required to qualify for capital gains treatment

Answer 13

An asset needs to be categorized as a capital asset or an asset given this effect under the Tax Code

Rental real estate is ineligible for capital asset treatment

Asset held longer than 12 months (plus one day) becomes a long-term asset and is subject to lower tax rates

Question 14

Tax-exempt income

Answer 14

Not have income from an investment taxed at all

Avoidance of taxable income

Question 15

3 factors in determining whether an income tax return is required to be filed for the year:

Answer 15

1. Gross income
2. Filing status
3. Age

Question 16

Following individuals are not required to file unless their income is equal to or exceeds their applicable standard deductions

Answer 16

1. Single individuals
2. Heads of households
3. Surviving spouses/qualifying widowers

MFJ not required to file unless their combined gross income equals or exceeds the basic standard deduction amounts
Same w/ MFS for their filing

Question 17

2019 Filing Requirements before taxpayers are required to file an income tax return

Answer 17

Filing Status and Age // 2019 Minimum Gross Income

Single:
Under Age 65 – $12,200
Age 65 or older – $12,850

MFJ:
Both spouses under age 65 – $24,400
One spouse age 65 or older – $25,700
Both spouses age 65 or older – $27,000

MFS:
All taxpayers regardless of age – $12,200

Head of household:
Under age 65 – $18,350
Age 65 or older – $20,000

Qualifying widow(er):
Under age 65 – $24,400
Age 65 or older – $25,700

Question 18

Return due date

Answer 18

Must be filed w/ the IRS by the taxpayer no later than April 15th

If this date falls on a weekend or holiday, the return is due on the next business day

6-month extension (generally to Oct 15 or 6 months after the required filing date if the taxpayer uses a fiscal year) of time to file (not to pay because the estimated amount of tax due must be paid on or before April 15) may be requested on IRS Form 4868

Question 19

Interest on underpayments and overpayments to the IRS

Answer 19

Same rate by the IRS for each

Question 20

Tax penalties

Answer 20

May be generally categorized as 3 types:

1) Failure-to-file
2) Failure-to-pay
3) Underpayment penalties

Question 21

Failure-to-file (FTF)

Answer 21

Assessed by the IRS at a rate of 5% per month (or partial month) up to a 25% max

Question 22

Failure-to-pay (FTP)

Answer 22

Assessed by the IRS at a rate of 0.5% per month (or partial month) up to a 25% max
If both the FTF and FTP penalties are assessed, the FTF penalty is reduced by the FTP penalty

Question 23

Underpayment penalties

Answer 23

1. Criminal Fraud: tax evasion. If convicted - fines, imprisonment, or both
2. Civil Fraud: If imposed, penalty is 75% of the portion of tax underpayment attributable to fraud
3. Negligence penalty: 20% of the portion of the underpayment attributable to negligence
4. Frivolous return: omits certain info necessary to determine the taxpayer’s liability, such as her SSN
   - penalty is $5,000 for each frivolous return filed
   - usually done to pester the IRS to make their job more difficult

Question 24

3 Types of Audits performed by the IRS

Answer 24

1. Correspondence audit: usually performed through the mail because the disputed tax issue is minor
2. Office audit: usually restricted in scope to a specific item or items and is performed at the IRS office by an office auditor
3. Field audit: an examination of numerous items and is usually performed on the premises of the taxpayer (such as a business office) by a revenue agent

Question 25

Who can represent a taxpayer before the IRS in an audit proceeding

Answer 25

1. Licensed attorneys (can be any type, even personal injury attorney)
2. CPA
3. Enrolled agents or enrolled actuaries
4. Certain unenrolled individuals, such as an unenrolled tax return preparer (after presenting satisfactory evidence of authority to represent the client)

Question 26

Requirements the IRS must follow to assure taxpayer rights

Answer 26

1. The IRS must disclose the criteria it uses in selecting returns for audit.
2. The IRS must take steps to protect the confidentiality of personal and financial information.
3. The IRS must follow due process when imposing tax levies.
4. The IRS must provide clear explanations in any tax notices or inquiries.

Question 27

When the IRS assesses interest on the underpayment of income taxes by a taxpayer, when does the interest begin to be calculated?

Answer 27

Interest on underpayments (or overpayments) runs from the unextended due date of the tax return (i.e., April 15 of any given year if the individual taxpayer has a calendar tax year).