Flashcards in Module 3 Deck (49)
Michael, age 14 in 2021, has the following income: $3,000 taxable interest income and $5,000 earned income from a paper route. His parents claim Michael as a dependent on their income tax return. How much of Michael’s income, if any, is taxed at his parents’ marginal tax rate?
A. $0 B. $800 C. $2,100 D. $3,000
How much is the total tax due on Michael’s income in 2021? (Assume his parents’ marginal tax rate is 24%.)
A. $0 B. $265 C. $377 D. $636
Of Michael’s unearned income ($3,000), $800 would be taxed at his parents’ marginal tax rate. This is calculated as $3,000 – $2,200 = $800.
The total tax due on Michael’s income in 2021 is $377.
$5,000 (earned income) - $3,000 (unearned income) = $8,000 (gross income)
($5,350) (standard deduction of earned income + $350) - $2,650 (taxable income) = ($800) (taxed at his parents’ marginal tax rate of 24% = $192)
$1,850 (taxed at Michael’s rate of 10% = $185)
Total tax due $377
Terry is the owner of a rare postage stamp worth $1,000. He purchased the stamp several years ago for $100. Terry donates the stamp to the local university this year. Which of the following statements is CORRECT and why?
A. He will receive a deduction of $100 because the stamp is considered a collectible.
B. He will receive a deduction of $1,000 because the stamp is capital gain property.
C. He will receive a deduction of $100 because the property is use-unrelated.
D. He will receive a deduction of $1,000 because the stamp was held long term.
The property is use-unrelated to the recipient (the local university). If tangible personal property is use-unrelated, the donor’s deduction is based on the lesser of the taxpayer’s adjusted basis in the property given or the FMV on the date of the gift.
Which of the following is considered a 50% organization for purposes of the charitable income tax deduction?
I. Donations to All Saints Church by its members
II. Donation of a bulletproof vest to local sheriff’s office
III. Donations by John Pickard to the Pickard Family Foundation, which he established
IV. Donations to the Wounded Warrior Project
I, II, and IV
The Pickard Foundation is a private foundation funded by one individual.
Margo and Paul are married and are big supporters of their church, and their children attend the K-12 school it sponsors. Tuition is $33,000 this year for their three children. David is their CFP® professional and is doing a preliminary review of their finances in September so adjustments can be made by December 31, if needed. When reviewing their expenditures, he finds a check for $33,000, made out to the church and marked as a donation. There is no supporting documentation for the donation but the canceled check. Paul tells David the check is a donation paying the tuition for his children at the church-sponsored school. What should David tell Paul about this donation?
A. The church is a 50% organization and the donation will be deductible, subject to AGI limits.
B. The check is to pay for tuition, which is nondeductible to Margo and Paul.
C. David should ask Paul and Margo to get a letter from the church attesting that the $33,000 is a donation.
D. The canceled check is sufficient to document the $33,000 as a donation
Because the check is actually to pay the tuition for the children at the church-sponsored school, the $33,000 is not deductible as a charitable contribution.
This year, Charles donated $50,000 of stock in a closely held corporation to a charity called Education for Homeless Children. He presents a letter from the charity to his tax preparer detailing the date, the amount of the securities, and their value. The preparer tells his client that Charles may not be able to take a charitable deduction for the donation. Why?
A. Charles must add a copy of the determination letter for the charity to his income tax return in order for the donation to be deductible on his return.
B. The preparer is incorrect. Charles has all the documentation he needs for the charitable deduction.
C. A taxpayer may not donate non-publicly traded stock to a charity.
D. Before Charles can take the deduction, he must have the stock value substantiated by a qualified appraiser.
A contribution of nonpublic stock in an amount in excess of $10,000 must have the stock value substantiated by a qualified appraiser.
On January 1 of this year, Dennis loaned his daughter, Betty, $80,000 interest free to purchase a new personal residence. There were no other loans outstanding between Dennis and Betty at this time. Betty’s only income was her salary of $45,000 and $3,000 of interest income. Dennis had investment income of $50,000. If the relevant federal interest rate for this year was 6%, which of the following statements regarding this loan is CORRECT?
A. Betty must include $4,800 of imputed interest income ($80,000 × 0.06) on the loan.
B. Dennis must recognize imputed interest income of $4,800.
C. Dennis must recognize imputed interest income of $3,000.
D. Betty is allowed a deduction for imputed interest expense of $4,800.
The imputed interest income inclusion is limited to Betty’s net investment income of $3,000 because the loan is not more than $100,000 and is made between individuals. The federal rate inclusion is $4,800 ($80,000 × 0.06), which is more than Betty’s net investment income. Dennis also makes a gift to Betty of the $3,000 amount of imputed interest.
On July 1 of this year, Jason needs $12,000 to resolve some emergency plumbing repairs for his home. His supervisor, Jack, recommends to their employer, Blue Line, Inc., that the company lend Jason the cash he needs so the repairs may be made quickly. The loan is approved with a 2% interest rate at a time when the federal interest rate is 4.5%. At the end of the year, Jason reports to Blue Line that he has investment income of $750. Which of the following statements is CORRECT?
A. Jason has imputed interest income equal to his investment income of $750.
B. Blue Line, Inc., has $270 of interest income and $150 of compensation expense.
C. Because Jason’s investment income is less than $1,000, Blue Line, Inc., does not have to recognize interest income or compensation expense relative to this loan.
D. Blue Line, Inc., has made a gift loan to Jason.
Blue Line, Inc., and Jason have entered into a below-market compensation-related loan. Because this loan is more than $10,000, the lender-employer has interest income for the last half of the tax year of $270 [($12,000 × 0.045) ÷ 2]. Because Jason pays 2% interest for 6 months, [($12,000 × 0.02) ÷ 2 = $120], the employer has a compensation expense of $150 ($270 – $120) and Jason has compensation income of $150. A below-market loan from an employer is a compensation-related loan, not a gift loan. The amount of Jason’s investment income has no bearing on the amount of interest imputed on this below-market loan because this is not a gift loan between individuals.
On January 20 of the current year, Stacy brings her tax records to Dawn, a CFP® professional, to prepare her annual income tax return for the last tax year. As Dawn reviews the documents, she notices that there is no earned interest reported by the bank on a sizable savings deposit Stacy has with the institution. When Dawn questions Stacy, she says she did not have to report interest income in the last tax year because she did not receive anything from the bank last year saying she earned any interest. What should Dawn tell Stacy about the interest income on the savings deposit at the bank?
A. Stacy received the interest when it was earned on her deposit last year, and it is includable in her income for last year.
B. Because the bank has not notified Stacy of the interest earned on her savings deposit, she does not have to report it.
C. Stacy is required to report the interest earned last year on her savings deposit on her current year income tax return because she will receive notice of the amount this year on a Form 1099 from the bank.
D. The constructive receipt rule does not apply to bank savings accounts.
Stacy must report the interest earned on her savings account on her last year’s tax return. If she does not have the exact amount when she files her return, she can simply call the bank to get it. The interest was constructively received last year. If Stacy had closed her account last year, she would have received her original deposit plus the interest earned up to the date of withdrawal because it was credited to her account.
All of the following are positive adjustments for individuals in calculating AMT except
A. personal casualty loss.
B. standard deduction amount.
C. additional standard deduction amount.
D. property tax deduction.
A personal casualty loss is not a miscellaneous itemized deduction and is permitted for both regular tax and AMT calculations. The standard deduction amount, the additional standard deduction, and the property tax deduction are disallowed for AMT purposes and are, accordingly, positive adjustments.
In which alternative minimum tax formula is the exemption amount used?
I. When calculating alternative minimum taxable income (AMTI)
II. When calculating alternative minimum tax base (AMT base)
Once AMTI is determined, then calculate the amount of individual AMT payable, as follows.
AMTI – applicable AMT exemption (based on filing status) = alternative minimum tax base
Which of the following would assist the taxpayer in avoiding the imposition of the individual AMT in the current year?
A. Exercising incentive stock options
B. Purchasing private activity bonds issued prior to January 1, 2009
C. Prepaying real property taxes
D. Exercising nonqualified stock options
Exercising nonqualified stock options (not incentive stock options) would assist the taxpayer in avoiding individual AMT in the current year. The exercise of such options would result in regular income tax and could, therefore, avoid the imposition of AMT (that is, the taxpayer would pay the greater of regular income tax or individual AMT). All the other items constitute a positive AMT adjustment or tax preference item.
Luis has an AMT credit from last year of $4,000. How can it be used?
A. Luis can use the credit this year against his regular income tax liability.
B. Luis must carry the AMT credit forward to credit against a future AMT liability.
C. Neither of these options is available to Luis.
D. Luis cannot carry this credit forward at all.
The individual AMT paid in any one year may be used as a credit against regular income tax in a future year (indefinitely). Because it was created last year, it can be used this year.
Is the cost of appraisal deductible?
The costs of an appraisal are not deductible.
Ron gave a painting to the local art museum in the current year. The painting had a fair market value of $34,000. He paid $16,500 for it five months ago. The museum will display the painting among its collection. Based on the information provided for Ron and Sandy, what is Ron's charitable contribution deduction?
Because the artwork is appreciated property held for less than one year, its sale would result in a short-term capital gain. Consequently, the deduction is limited to the lesser of the fair market value or the basis of the gifted property.
Which of the following is NOT an allowable itemized deduction against alternative minimum taxable income?
A) Charitable contributions
B) State and local income taxes
C) Medical expenses greater than 7.5% of adjusted gross income
D) Qualified housing interest
State and local income taxes, as well as property taxes, are not allowable itemized deductions. A deduction is allowed for medical expenses in excess of 7.5% of adjusted gross income (for 2021). A deduction is allowed for charitable contributions. A deduction is allowed for qualified housing interest.
Alternative minimum taxable income (AMTI) is calculated how?
regular taxable income (from IRS Form 1040) + positive AMT adjustments − negative AMT adjustments + AMT preference items = AMTI
Which of the following adjustment/preference items is also an exclusion item for the purposes of the alternative minimum tax (AMT)?
I. ISO bargain element
II. Exclusion of gain from Section 1202 qualified small business stock
III. Percentage depletion of oil and gas properties in excess of the taxpayer's adjusted basis at year end
Statements II and III are correct. Statement I is incorrect. The ISO bargain element is not an exclusion item; it is a deferral item.
Francine and Marshall have three children: Bill, Curt, and Rachel. For 2021
I. Bill, age 11, has $1,250 of interest income.
II. Curt, age 13, has $2,950 of salary from a part-time job.
III. Rachel, age 19, a part-time student for four months of the year, has $5,100 of dividends and capital gains.
Whose income is subject to income tax at the parents' tax brackets?
None of the children
The parents' marginal tax rates apply to unearned income above $2,200 for 2021. Rachel has unearned income above $2,200. However, because Rachel is 19 and is not a full-time student, she is not subject to the kiddie tax rules. The kiddie tax stops applying in the year that the child turns 19, if the child is not a full-time student. The parents' tax rate does not apply to earned income, so Curt is not subject to the kiddie tax. The kiddie tax applies to children who are under 19 years of age, or who are under 24 if a full-time student. The kiddie tax does not apply to a child who is married and files a joint return for the tax year, or if the child has earned income that exceeds half of his support. Also, the kiddie tax applies only where the child has at least one living parent. (A full-time student is an individual who is a full-time student for at least five calendar months during the tax year.)
The kiddie tax rules apply to the unearned income of a child under age 19 (under age 24 if a dependent full-time student providing less than 50% of own support)
Abby, age 16, has earned income of $8,605 and interest income of $750 in 2021. She is claimed as a dependent on her parents' income tax return. What is Abby's taxable unearned income in 2021?
Abby's taxable unearned income in 2021 is $0 ($750 unearned income − $1,100 standard deduction for unearned income). The standard deduction cannot create a negative amount.
By definition, the percentage depletion in excess of adjusted basis and the tax-exempt interest on qualified private-activity bonds are preference items for purposes of the AMT. Remember that interest on private-activity municipal bonds issued in 2009 and 2010 is not a preference item for the AMT. The medical expenses in excess of 7.5% of adjusted gross income (for 2021) and the gambling losses to the extent of gambling income are both treated as allowable itemized deductions / adjustments for AMT purposes.
In a compensation-related below-market loan of $10,000 or less, no interest is imputed and no compensation results.
Maxine, an individual taxpayer, donated $100,000 in cash to a qualified public charity in Year 1. Her adjusted gross income was $150,000 in Year 1 and $150,000 in Year 2. She makes no donations to charity in Year 2. How much of a tax deduction will she be allowed for this gift in each of the two tax years?
Individual cash donations to qualified public charities are limited to 60% of adjusted gross income, but excess amounts may be carried over in subsequent tax years. Sixty percent of Maxine's Year 1 AGI was $90,000. In Year 1, she can deduct $90,000 of the gift. In Year 2, she can deduct the remainder of $10,000.
Amy, age 12, is claimed as a dependent on her parents' income tax return. During 2021, she earned $2,200 from a summer job. She also earned $2,600 in interest and dividends from investments that were given to her by her grandfather five years ago. How much of Amy's income, if any, will be taxed to her in 2021 using her grandfather's marginal tax rate of 32%?
When applying the kiddie tax, the parents' marginal tax rate is always used (regardless of the source of unearned income). Therefore, none of the income is taxed to Amy using the grandfather's tax rate. $400 of income ($2,600 − $2,200) is taxed to Amy at her parents' marginal tax rate.
Mary created an irrevocable trust for her two minor sons. She named her bank as trustee. The trust property earned $75,000 in the first year and had taxable income of $68,000 after deducting expenses. This income was left to accumulate for future distributions to be made to each son equally when the youngest son attains age 18. To which of the following will the income of the trust be taxable?
The trust will pay the taxes since the trust is irrevocable and no distributions are allowable until the youngest son attains age 18.
The wages paid to a child under the age of 18 from an unincorporated business are not subject to FICA or unemployment taxes. Earned income is not subject to the kiddie tax, and the child's full standard deduction of up to $12,550 (for 2021) may be used to shelter his earned income.
In 2021, Lonnie, age 17, is claimed as a dependent on his parents' income tax return and has $3,200 of interest and short-term capital gain income from an UTMA account that was established many years ago. Lonnie's parents, who file jointly, have taxable income of $130,000 (22% MFJ tax bracket). What is Lonnie's income tax liability for 2021?
The first $1,100 of unearned income is sheltered by the child's limited standard deduction. The next $1,100 is taxed to the child, at the child's marginal income tax bracket. All unearned income in excess of $2,200 (for 2021) is taxed to the child at the parents' top marginal tax rate. The parents' tax rate is 22% up to $172,750 of taxable income (rate schedule provided in textbook or downloaded from this online course dashboard). The kiddie tax applies to children who are under 19 years of age or who are under 24 if a full-time student. (A full-time student is an individual who is a full-time student for at least five calendar months during the tax year.) The kiddie tax does not apply to a child who is married and files a joint return for the tax year, or if the child has earned income that exceeds half of his support. Also, the kiddie tax applies only where the child has at least one living parent.
Which of the following statements regarding alternative minimum tax (AMT) are true?
I. AMT reduces the tax benefits from certain types of deductions and tax preferences allowable for regular tax purposes.
II. Depreciation allowable for AMT can never be the same as that allowable for regular tax purposes.
III. It may be advantageous to accelerate ordinary income into years when AMT will be paid.
IV. It is often advantageous to not accelerate the payment of state income and real estate taxes when AMT will be paid in the current year.
I, III, & IV
The common strategies related to income tax planning are often reversed when dealing with the AMT. Thus, rather than accelerating certain itemized deductions, we often would defer payment (if possible) of those items that are not deductible for AMT purposes. We often will accelerate income that would have been taxed at the highest marginal rates in future years into the current year to be taxed at the AMT rates of 26% or 28%.
Jim is planning to make a charitable contribution to a local university, a qualifying charitable organization. He is going to contribute a piece of real estate that he has owned for six years. The fair market value of the property is $80,000 and his basis in it is $55,000. He has an AGI of $120,000. What can you accurately tell Jim about the effect of a 50% election?
A) The current-year deduction is $55,000 with no carryforward.
B) The current-year deduction is $40,000 with a $15,000 carryforward.
C) The current-year deduction is $60,000 with a $20,000 carryforward.
D) The current-year deduction is $55,000 with a $25,000 carryforward.
A 50% election allows a deduction based on the property's basis with a 50% of AGI limitation. Remember that the election applies to gifts of long-term capital gain property to a 50% organization only.