Flashcards in Quick Tax Deck (95):
Steps in Determining Tax Liability
1. Determine Gross Income (GI)
2. Subtract Above the Line Deductions to get Adjusted Gross Income (AGI)
3. Subtract Standard or Itemized Deductions to get Taxable Income (TI)
4. Multiply by Tax Rate (Tentative Liability)
5. Subtract any Available Credits (Final Tax Liability)
Four Essential Tax Questions
1. What is Income?
2. To Whom is it Income?
3. When is it Income?
4. What is the Character of the Income?
Defined: any economic benefit or any clearly realized accession to your wealth.
Defined: the increased or decreased value of an asset is not taken into account for tax purposes until it is realized through the sale or other disposition of the asset.
Defined: gross income includes the FMV of any property received and the FMV of any services rendered.
Claim of Right
Property received WITHOUT RESTRICTION as to USE OR DISPOSITION
Rule: property or funds received under a claim of right MUST BE REPORTED for tax purposes, even though the TP may later be required to return the property, funds, or their equivalent.
Tax Benefit Rule
Rule: if TP takes ANY deduction in one tax year and recovers the property that gave rise to the deduction in a later tax year, the TP has tax benefit income, to the extent that the earlier deduction provided an actual tax savings or a tax benefit to TP.
Rule: unless otherwise provided in the written agreement, alimony is taxable to the receiving spouse and deductible to the paying spouse.
1. Writing: pursuant to a written divorce or separation agreement
2. No Cohabitation: must have separate residences
3. Must Cease at or Before Death: does not survive death of payor
4. Made in Cash or Cash Equivalent: checks are ok
Rule: child support is not taxable to the receiving spouse and is not deductible to the paying spouse.
In Disguise: if a payment is reduced upon a contingency relating to a child, the amount of the reduction is considered child support
-Ex: $1,000,000 until Jr. turns 21, then $700,000
Prizes and Awards
Rule: gross income includes the value of cash, property, or services received as a prize, award, or windfall.
Examples: raffle prizes, gambling or lotto winnings, treasure trove findings.
Cancellation of Indebtedness
Rule: a TP whose debt is cancelled or discharged at less than the full amount has COD income to the extent of the difference between the full amount of the obligation and the amount paid in satisfaction of the debt.
Exceptions to COD Income (RIG)
1. Reduction in Purchase Price: usually involves a renegotiation of the original purchase price in the sale of goods
2. Insolvency: if the discharge occurs when the TP is insolvent or bankrupt, there is no immediate discharge of indebtedness income.
3. Gift: if the lender intended the discharge as a gift, the COD Income rules will NOT apply.
Exclusions: Life Insurance Proceeds
Rule: gross income does not include proceeds paid by reason of the death of the insured.
Exception: when proceeds are paid in installments, any interest paid will be taxable income.
Rule: gross income does not include amounts received by bequest, devise, or inheritance.
Rule: gross income does not include amounts received by gift.
Defined: a transfer made out of detached and disinterested generosity, such as love, affection, or charity.
Exclusions: Tort Awards
Rule #1: gross income does not include damages received on account of a physical personal injury or sickness (includes lack of consortium for injured's spouse)
Rule #2: By themselves, damages for emotional distress are not considered damages received on account of a physical injury, unless connected to an underlying physical injury claim.
Rule #3: punitive damages are ALWAYS taxable as income.
Exclusions: Qualified Scholarships
Rule: qualified scholarships for tuition and related expenses are excluded from gross income.
Qualified: must not be payment for past or future services, and must be primarily for the benefit of the individual.
Employee Exclusions: Receipts from Health and Accident Insurance
Rule: the value of employer provided health or accident insurance coverage, i.e. the premiums paid by the employer are excluded from gross income.
Note: health insurance reimbursements for medical expenses actually incurred are also EXCLUDED from gross income.
Employee Exclusions: Life Insurance by/through Employer
Rule: TP may exclude the value of the FIRST $50,000 of employer provided group term life insurance.
Note: gross income include the value of any excess life insurance coverage provided by the employer.
Employee Exclusions: Meals and Lodging
Rule: Employer provided meals and lodging are excluded if...
1. Provided for the Convenience of the Employer
2. Actually Provided by the Employer
3. On the Premises of the Employer
Employee Exclusions: Fringe Benefits
1. De Minimus: too small to account for
2. No Added Cost: in ordinary course of business
3. Qualified Employee Discounts: up to 20%
4. Contributions to Qualified Pension Plans: if made by the employer
5. Employee Safety/Length of Service Awards: an exception to the "No Gifts to Employees Rule"
Types of Deductions
1. Above the Line
2. Choice of Itemized or Standard Deduction
Above the Line Deductions
1. Ordinary and Necessary Business Expenses:
-Ex: salary to employees, rent for office space, office supplies
2. Depreciation: only for business assets that waste over time
3. Net Capital Losses: usually stocks
5. Moving Expenses
6. Limited Deduction for School Loan Interest
Itemized Deductions: Home Mortgage Interest
Rule: TP may deduct mortgage interest on mortgages up to $1,000,000 in the aggregate on a principal and a second personal residence.
Note: TP may also deduct interest on a home equity loan of up to $100,000, when borrowing from the value of the home.
Itemized Deductions: State and Local Taxes
Rule: taxes paid to state and local governments are deductible, with the exception of the sales tax.
Itemized Deductions: Unreimbursed Casualty Losses
Rule: unreimbursed casualty losses are deductible...
1. If the loss is greater than $100
2. If the loss is Sudden and Unexpected
3. But only to the Extent that those losses in the aggregate exceed 10% of TP's AGI.
Itemized Deductions: Unreimbursed Medical Expenses
Rule: unreimbursed medical expenses are deductible to the extent that they, in the aggregate, exceed 10% of TP's AGI.
Itemized Deductions: Charitable Contributions
Rule: TP generally may deduct the FMV of property and the amount of cash contributed to qualified charities.
Itemized Deductions: Miscellaneous Deductions
Rule: TP may deduct eligible miscellaneous deductions to the extent that, in the aggregate, they exceed 2% of TP's AGI.
Examples: unreimbursed employee business expenses, certain educational expenses (CLE course, Lara's classes)
Itemized Deductions: Personal vs. Business Expenses
Rule: personal expenses are NOT deductible
Legal Fees: not deductible if incurred in a personal setting
But: legal fees incurred in a business or investment setting are deductible.
Itemized Deductions: Investment Fees or Expenses
Rule: TP may deduct the fees or expenses that were necessary to generate taxable income
Examples: broker fees, advertising.
Defined: a special form of deduction for taxable income
Rule: TP are entitled to one exemption for themselves and one for each dependent.
Dependent: a member of the household to whom you provide at least 50% of the required support.
Allocation of Income
Rule #1: income must be taxed to the person who earns it
-The (No) Assignment of Income Rule
Rule #2: Income from property is taxed to the person who owns that property.
Cash Method of Accounting
Rule: where the TP reports income when she receives payment and takes deductions for eligible expenses when she makes payments.
Constructive Receipt: occurs when funds or property are credited to TP's account, set apart, or otherwise made available so that TP may draw upon them.
Note: usually for personal accounting settings
Accrual Method of Accounting
Rule: where the TP reports income when all events have occurred that fix the right to receive it, and when the amount can be determined with reasonable certainty
Deductions: taken when all events have occurred that establish the fact of liability, and when the amount can be determined with reasonable accuracy.
Note: usually in business accounting settings
Gains and Losses on Disposition of Property
Realization: the sale, disposition, or exchange of property
Recognition: only occurs when recorded on a tax return
Rule: unless a specific statutory or C/L exception applies, a realized gain must always be recognized for tax purposes.
Basic Sale Formula
G/L = AR - AB
AR: includes the money received, plus the FMV or property or services received, plus mortgages or liabilities to which the property sold is subject or which the buyer assumes.
Cost Basis Rule
Rule: a TP's basis on property acquire by purchase is generally the cost of the property, including the money paid and mortgages or liabilities incurred in connection with the purchase.
Upward: can be adjusted upward to reflect additional costs or improvements.
Downward: can be reduced to reflect deductions previously taken for depreciation or tother previous tax-free recoveries of basis.
Divorce Property Settlements
Rule: a transfer of property between spouses or former spouses that is incident to divorce is NOT a taxable event to either party.
Note: the receiving spouse will have the same basis that the donor spouse had in the property (also known as Substituted Basis)
Basis in Gift Property
Rule: the recipient of a gift takes the donor's basis.
Note: also known as the Substituted Basis Rule
Basis in Inherited Property
Rule: the recipient's basis in inherited property is the FMV of the property at the date of the decedent's death.
Rule: no gain or loss is recognized if property that was involuntarily converted due to theft, fire, seizure, requisition, or condemnation is converted into property that is "similar or related in service or use."
Note: if the involuntarily converted property is converted to money, TP avoids recognition of a gain or loss if he purchases a similar replacement property within 2 years,
Note: gain or loss will be recognized to the extent that the money received exceeds the cost of the replacement property.
Rule: no gain or loss is recognized when TP exchanges property held for productive use in a business or for investment for like-kind property also held for productive use in business or for investment.
Sale of a Principal Residence
Rule: TP does not recognize up to $250,000 (or $500,000 for joint returns) of gain from the sale of a principal residence if the property has been used and owned by TP for periods aggregating two years during a five year period ending on the sale date.
Options for Choice of Business Entity
1. Sole Proprietorship
2. General Partnership
3. Limited Partnership
4. C Corporation: double taxation
5. S Corporation
6. Limited Liability Company
Ordinary Income vs. Capital Gains
-Ex: salary, rents, interest, royalties
Capital Gains: generally, any income that is not ordinary income, taxed at a lower rate than ordinary income.
-Ex: stock or real estate held for investment
Double Tax Regime: corporations pay income upon profits AND shareholders pay a tax upon dividends received from the corporation.
Corporations: Gain or Loss
1. To Corporation: there is no gain to a corporation upon the receipt of property or money upon formation/incorporation.
2. To S/H's: there is no gain or loss to S/H's upon forming a corporation where (a) S/H's contribute property, (b) in exchange for stock, and (3) the S/H's are in control (80% or more) of the corporation after the exchange.
Rule: S/Hs are taxable on the dividends they received.
1. Dividend: a corporate distribution made out of the corporations's earnings and profits.
2. Most dividends paid by domestic corporations are now eligible for preferential capital gains treatment.
3. To the extent that a distribution is NOT made out of earnings and profits, it is treated as a tax-free recovery of the S/H's basis.
Basic Pass-Through Principle
Rule: the pass-through entity itself pays not tax at the entity level
-Ex: general partnerships, limited partnerships, LLCs and S Corps.
Note: unlike the C Corporation, the pass-through entity is a single tax entity.
Formation of a Pass-Through Entity
Rule: the transfer of property to a general or limited partnership, an LLC, or a S Corp. in return for a general partnership interest, a limited partnership interest, or stock in an S Corp. is NOT a taxable event.
Profits and Losses of Pass-Through Entities
Rule: each partner, owner, investor, or S/H of a pass-through entity generally reports his distributive share of income or loss on his individual tax return, whether or not a distribution was actually received.
Note: subject to loss limitation rules, each partner, owner, investor, or S/H of a pass-through entity is entitle to report his share of the entity's loss.
Subchapter S Corporations
Rule: an eligible C Corporation may become a pass-through S Corporation by making the election.
Eligibility: the corporation must have no more than 100 S/H's
The Estate and Gift Tax: Overview
Rule: the estate and gift taxes are imposed on the donor upon the transfer of wealth to another, distinct from income tax.
Note: Both taxes apply a unified rate structure and generally adopt similar tax principles and definitions.
Gift Tax: Overview
Rule: a gift tax is imposed on any completed or irrevocable donative transfer.
Gift: an exchange for less than full and adequate compensation.
Examples: a bargain sale of property to a family member, an interest-free loan to a family member, an interest in a joint bank account.
Gift Tax: Annual Exclusion
Rule: each TP may exclude the first $14,000 in gift transfers per year, per donee.
Gift Tax: Marital Deduction
Rule: a gift transfer from one spouse to another is eligible for a 100% marital deduction.
Gift Tax: Lifetime Exemptions
Rule: TP are entitled to a $5,000,000 lifetime exemption for gift tax purposes.
Note: to the extent the TP has used any of the lifetime gift exemption, it will reduce the available estate tax exemption.
Estate Tax: Overview
Rule: the decedent's gross estate includes the value of all assets beneficially owned at the time of death as well as certain lifetime transfers.
Note: executors must file an estate tax return within 9 months of the decedent's death if the gross estate exceeds $5,000,000.
Note: Virginia repealed its state-level estate tax in 2006.
Estate Tax: Lifetime Transfers
Rule: Lifetime Transfers Included in the Gross Estate...
1. Transfers with a Retained Life Estate
2. Transfers with a Retained Power to Alter or Revoke
Estate Tax: Life Insurance
Rule: Proceeds of Life Insurance are Included in Gross Estate...
1. If the Proceeds are Receivable by the Executor, or
2. If the Decedent Possessed any Incidents of Ownership at the time of his Death.
-Examples: (1) the right to change the beneficiaries, (2) the right to pledge against the policy, and (3) the right to cash-surrender value.
Estate Tax: Exclusions and Deductions
1. Estate Tax Exemption
2. Unlimited Marital Deduction
3. New Estate Tax Exemption "Portability" Rules
Estate Tax: Estate Tax Exemption
Rule: the decedent's gross estate is entitled to an effective exemption of $5,000,000.
Note: any gift tax exemption previously used by the decedent will count against the estate tax exemption.
Estate Tax: Unlimited Marital Deduction
Estate Passing to Spouse
Rule: the portion of the estate that passes to the SS is entitled to an unlimited marital exemption.
Terminable Interest Exception Rule: unless the executor makes a qualified terminable interest payment election, no marital deduction is allowed for transfers to a SS if the decedent spouse's property or interest may ultimately be received by anyone other than the SS.
Estate Tax: New Estate Tax Exemption "Portability" Rules
Rule: if the decedent's executor makes a proper, timely election, the decedent's executor will be entitled to use a unused portion of the decedent's estate tax exemption.
Note: such an election effectively doubles the available estate tax exemption.
1. Funeral and Administrative Experts
2. Debts Owed by the Decedent at Death
3. Charitable Contributions
If a Subchapter S corporation has earnings but does not distribute them, the earnings are taxed to the shareholders in the current year and...
each shareholders' basis in corporate shares is increased by his or her proportionate undistributed share.
Damages for emotional distress are not excluded from gross income if
they are paid in conjunction with damages for defamation or libel.
When does a cash method taxpayer realize gain on stock that has increased in value since it was purchased by the taxpayer?
In the year the taxpayer sells the stock
when property is exchanges with a corporation for its stock....The corporation's basis in the property is ______ to the shareholder's basis in the property plus_________
equal; any gain recognized by the shareholder at the time of the sale
If a taxpayer receives a gift of stock that was worth $1,000 when the donor purchased it, but has a present fair market value of $700, and he sells the stock for $400, what is the loss he may report on his tax return?
For purposes of capital gains, what is a taxpayer's basis for property given to the taxpayer as a gift during the donor's life?
the basis the property had in the hands of the donor
If a taxpayer receives a settlement of $250,000 for property damage to a capital asset with an original basis of $500,000, what is the appropriate tax treatment, assuming that the asset had an adjusted basis of $300,000 immediately before it was damaged?
50k can be deducted, as casualty lost
What is true about Subchapter S corporations?
- Shareholders generally must be individuals (e.g., a partnership may not be a shareholder).
- There may be no more than 100 shareholders.
- There may be only one class of stock.
-income is taxed the shareholders only
Ann T. Polly inherited $500,000. She decided to use some of her money to help her nephew Tom and his long-time friend Huck attend university. She paid each young man's $20,000 tuition bill directly to the university. She also gave Tom a check for $40,000 to reimburse him for the tuition he had paid in his first two years. What are the gift tax consequence of Ann's actions?
Neither $20,000 tuition payment is subject to gift tax, but the $40,000 reimbursement check will be taxed unless applied against Polly's unified credit.
*a tuition payment made on behalf of any other person is not considered a taxable gift if the payment is made directly to the institution
Wagering losses are allowed only to the extent of the taxable year's __________ from wagering transactions.
Under the general rule, what is the minimum holding period to qualify for long-term capital gain treatment?
More than 12 months.
Taxpayer recently came into some money and would like to give her three children $4 million each. Neither Taxpayer nor her deceased spouse had ever made a taxable gift before. Putting aside the annual gift exclusion, will Taxpayer owe any federal gift tax?
Yes, on the portion of the gift beyond her and her husband’s inflation-adjusted $10 million unified credit amount.
How long are Virginia taxpayer s required to retain suitable records and documents substantiating all information contained on any tax return for a period of how many years from the required date for filing a return to which such records or documents pertain?
What percentage of the cost of meals incurred while travelling on buiness is allowable as a deduction?
Under VA unemployment compensation act, each eligible individual who is unemployed in any week is entitled to a benefit equal to his weekly benefit amount less any part of the wages payable to him for such week that is in excess of $______
All lottery tickets printed after July 1, 1997 must bear a toll-free telephone number for what?
Gamblers Anonymous or other orgs that provides assistance to compulsive gamblers
Deductions for business gifts are limited to a max of $___ per person during each taxable year
As of 2015 what are the standard deduction amounts for single taxpayers and married taxpayers filing jointly, respectively?
$6300, and $12,600
All of the ordinary and necessary expenses paid or incurred during the taxable year in carrying on a business are dedcutible. How do courts determine what is "ordinary and necessary"?
expenses are common or accepted in the particular business or profession and that they relate to producing the current year's income. Reasonable salaries, office rentals, office supplies, and traveling expenses are all deductible when incurred for business purposes.
Prizes and awards are generally included in gross income except when:
1) made in recognition of religous, charitable, scietific, educational artisit, literary or civic achievment,
2) recipient was selected without any action on his part
3) recipient is not required to render future services AND
4) proceeds of award are turned over to a governmental or charitable organization.
Employee achievement awards are excluded from gross income when:
a) cost of the award does not exceed calcuble amount allowable as a deduction to the employer
b) award is for length of service or safety acheivment
c) award is presented as part of a meaningful presentation
d) the award is not presented under circumstances suggesting disguised compensation.
If the dwelling is rented for fewer than ______ during the year, no deductions are allowed and income from the rental is not included in the gross income.
State and local income, real property, and personal property taxes are
__________. Nonbusiness state and local sales taxes are ______________.
deductible; not deductible
What is a "nonrecognition transaction" and how does it work?
Capital gains are DEFERED on property that is traded for stock, IF the contributing SHs must be in control of the corporation IMMEDIATELY AFTER TRANSFER and they must control at least 80% of the stock.
What is a SH appraisal right, and when can it be exercised?
A) A SHs sole remedy when he is against a fundamental corporate change. Right to recover FMV of shares had before a sale.
B) To exercise right, the Sh must 1) notify the corporation beforehand of his intent to vote against the planned changed and 2) must actually vote against the plan.
Beware, SHs only pay taxes on CORPORATE DISTRIBUTIONS THAT ARE CONSIDERED DIVIDENDS. How are dividends distinguished from DISTRIBUTIONS?
dividend is any distribution of property out of the current taxable year OR accumulated earnings and profits.
[Beware of problems where the distributions are combination of taxable income and not taxable income]
How are the following entities governed:
b) General Partnership
c) Limited Partnership
d) Limited Liability Corporation
corp: centralized - govenred by Board of directors (elected by shareholders) and officers (elected by BoD).
GP: decentralized, no division between ownership and management. Each partner has an equal right to participate in management of partnership.
LP: Limited partners have no right to participate in management, general partners govern.
LLC: governed by its members.
How will income of the following entites be taxed under federal income law:
b) General Partnership
c) Limited Partnership
d) Limited Liability Corporation
A) double taxation: profits and dividends. Can qualify for single taxation if less than 100 shareholder
B) Single taxation. Partners pay taxes only on their share of profits.
C) Same as B.
D) LLC can elect partnership or corporate taxation