R1 - Individual Taxation - Part 1

Question 1

What is the amount of social security benefits that is taxed, and how is this calculated?

Answer 1

Social security benefits are taxed as follows:

1. Tax-free for taxpayers with adjusted gross income (AGI) below $25,000
2. 50% taxable from $25,000 - $50,000
3. 85% is taxable if the AGI is above around $50,000

Question 2

Are property settlements pursuant to a divorce decree taxable?

Answer 2

If a divorce settlement provides for a lump-sum payment or property settlement by a spouse, that spouse gets no deduction for payment made, and the payments are not included in the gross income of the spouse receiving the payment. These transfers of property do not generage a gain or loss to be taxable.

Question 3

How are payments (e.g., lump-sum payment or property settlement) allocated, If a decree or agreement on a divorce specifies that payments are to be made, but then payments fall short?

Answer 3

The payments will be first allocated to child support (until the entire child support obligation is met) and then to alimony. If the payment received is less than the child support, then the income allocated to alimony is $0. Alimony income is considered if total receipts from former spouse exceed the required child support amount.

Question 4

What are the requirements for payments to be qualified as alimony?

Answer 4

1. Payment must be in cash or its equivalents
2. Payment cannot extend beyond the death of the payee-spouse
3. Payment must be legally required pursuant to a written divorce (or separation) agreement.
4. Payment cannot be made to members of the same household.
5. Payments must not be designated as anything other than alimony
6. The spouse may not file a joint tax return

Alimony paid is not deductible and alimony received is not considered taxable income for all divorces or separations after December 31, 2018.

Question 5

What is the maximum allowed amount to be deducted for carryforward capital losses for an individual taxpayer?

Answer 5

An individual taxpayer can offset any carryforward capital losses with capital gains from the current year using the ownership percentage in the entity (e.g., S-copr, LLC). Any amount remaining of the carryforward capital loss can be deducted up to $3,000 per year.

Question 6

Is workers’ compensation received taxable?

Answer 6

No, workers’ compensation is non-taxable, and it is excluded from gross income compensation received under a workers’ compensation act for personal injury or sickness.

Question 7

What is the formula to compute the amount taxable and non-taxable of an annuity?

Answer 7

Formula to compute the nontaxable and taxable amount:

Cost Recovery Pmt Amount (nontaxable) = total Annuity/expected recovery term (# years *12 months)
Nontaxable amount = Cost Recovery Pmt amount * # of pmts made during the year (in months)
Taxable amount = Annual pmt (or annuity amount) - Nontaxable amount

Question 8

What is the maximum capital loss deductible amount for an individual taxpayer?

Answer 8

The maximum amount of capital losses to be deductible for an individual taxpayer annually is $3,000. For a single individual it’s $1,500.

Question 9

How is the income of a guaranteed payment by a partnership to a partner recorded by the partner?

Answer 9

The guaranteed payment by a partnership to a partner for services provided are treated as self-employment income. These payments are subject to self-employment tax (social security and medicate) in addition to income tax.

Question 10

How is the income of a guaranteed payment for services provided by a shareholder to the S corporation recorded?

Answer 10

The shareholder is receiving a salary (W-2) rather than a guaranteed payment for services rendered to the S corporation. The shareholder is employed rather than self-employed.

Half of social security and Medicare taxes are paid by the corporation and half are withheld from the shareholder’s salary.

Question 11

What are the limitations based on taxable income level to determine if a taxpayer is eligible for the QBI deduction?

Answer 11

A taxpayer qualifies for the QBI deduction if taxable income before QBI deduction is limited to the following taxable income levels:

Filing Status Taxable Income before QBI Deduction
Single and all other $170,050 - $220,050
Married filing jointly $340,100 - $440,100

Question 12

How is the QBI deduction calculated?

Answer 12

Tentative QBI deduction = QBI * 20%

Question 13

How is the QBI deduction calculated for W-2 wages and property limitation?

Answer 13

The QBI deduction is limited to the greater of:
1. 50% of W-2 wages for the business
2. 25% of W-2 wages for the business + 2.5% of the unadjusted basis immediately after acquisition (UBIA) of all qualified property

The W-2 wages and property limitation does not apply to real estate investment trust (REIT) or publicly traded partnership (PTP) income.

Question 14

How is the Overall taxable income limitation related to Section 199A QBI Deduction determined?

Answer 14

The total section 199A QBI deduction is the lesser of:
1. Combined QBI deductions for all qualifying business
2. 20% of the taxpayer’s taxable income (before the QBI deduction) in excess of net capital gain (net LTCG - net STCL - qualified dividend income)

Question 15

How is the excess amount of the tentative QBI deductions calculated?

Answer 15

Excess Amount = (Tentative QBI deduction = QBI * 20%) - [(QBT’s W-2 Wages = the greater of: (W-2 wages * 50%) or (W-2 wages*25% + 2.5% of unadjusted basis immediately after acquisition (UBIA) of all qualified property)]

Question 16

how is the phase-in amount to calculate the QBI deduction determined when the taxpayer’s taxable income is in between the established threshold?

Answer 16

If the individual’s taxable amount is in between the range of the taxable income limitation (depending if a single or married filing taxpayer), the amount is phased in to determine the correct reduced QBI deduction. The difference between the taxpayer’s taxable income and limitation (e.g., 170,050) is adjusted (divided) by a “reduction amount” based on how far the taxpayer is into the phase-in range ($50,000, single, or $100,000, MFJ).

Filing Status Taxable Income before QBI Deduction
Single and all other $170,050 - $220,050
Married filing jointly $340,100 - $440,100

Formula to determine the Phase in % and Reduced QBI deduction:
Taxpayer’s taxable income 192,550
- Threshold amount (lowest range) (170,050)
=Taxable income into the phase-in range 22,500/
divided: Phase-in range (adjustment) 50,000
Phase-in % 45%

Reduction Amount = Excess Amount (tentative QBI deduction - QBT’s wages deduction) * phase in %
Reduced QBI deduction = Tentative QBI deduction - Reduction amount

Question 17

What is the amount employees can exclude from income related to the group-life insurance?

Answer 17

Employees may exclude from income the value of life insurance premiums the employer pays on an employee’s behalf for up to $50,000 of group-term life insurance.

Question 18

What is the amount deductible for a business meal in the schedule C?

Answer 18

The amount deductible for a business meal is 50% of the amount spent

Question 19

Are club memberships deductible as a business expense in the Schedule C?

Answer 19

No, club memberships are no longer deductible as a business expense in the Schedule C

Question 20

How is passive activity income/loss treated when the taxpayer disposes of the entire passive activity?

Answer 20

The passive gain or loss from the passive activity for the year, as well as any cumulative suspended PALs for the activity, are treated as active income or loss.

Question 21

How to calculate the basis of a new building in an involuntary conversion?

Answer 21

Formula to compute the basis of the new building in an involuntary conversion:

insurance proceeds
less: adjusted basis (old)
= Realized gain
less: Gain recognized (insurance proceeds - cost of new building)
= Gain not recognized

cost of new building
less: Gain not recognized
= Basis of the new building

Question 22

How can a person qualify for the Child and Dependent Care credit?

Answer 22

The child and dependent care credit are the lowest of the:
a. The maximum allowable work-related expenses to care for a qualifying child:
1) $3,000 for one qualifying person
2) $6,000 for two qualifying people

b. The work-related expense is 20% of the lowest earned income spouse (if married filing jointly)

Question 23

What are the requirements for a qualifying person to qualify for the Child and Dependent Care credit?

Answer 23

The child and dependent care credit is available to taxpayers who maintain a household, work, and incur eligible expenses for the care for the following qualifying persons:
- A dependent qualifying child who is under age 13 when the care is provided.
- A disabled dependent of any age who is unable to care for himself, and half of the support is provided by the taxpayer
- A spouse who is disabled and not able to take care for himself or herself.

Question 24

What is the tax effect of capital gains and losses in an investment property?

Answer 24

• stocks and bonds have both gains and losses reported

Question 25

What is the tax effect of capital gains and losses in personal property?

Answer 25

• Home and furnishing -
  
  1. Gains are reported, but losses are not reported.
  2. losses cannot be offset against the sale of stocks and bonds
• Skiing and Recreation - Gains are reported, but losses are not

Question 26

Are rental expenses deducted as rental expenses if the property was rented for less than 15 days?

Answer 26

If the property was rented for less than 15 days in the year, and not rented out again, not rental income is included and rental expenses are not deducted.

The property taxes will not be deducted in schedule E, but will be deducted in Schedule A as itemized deductions.

Question 27

When does the kiddie tax apply?

Answer 27

The kiddie tax apply when a child receives unearned income from the parents. Unearned income includes interest, dividends and capital gains issued from a brokerage account (portfolio income)

Question 28

How is the unearned income applicable to the kiddie’s tax?

Answer 28

• A child with less than $2,300 of unearned income is not subject to the kiddie tax.
• Child would have more than $2,300 of unearned income for the Kiddie’s tax to apply.
• Kiddies tax does not apply to the child’s earned income.

Child’s Unearned Income Tax Rate
$0 - $1,150 0%
$1,151 - $2,300 Child’s rate
$2,301 and over Parent’s rate

Question 29

How is Kiddie’s tax computed when the unearned income exceeds $2,300?

Answer 29

Formula to compute the kiddie tax:

Unearned income
- child’s standard deduction ($1,150)
- Child’s tax rate (1,150)
= parent’s marginal rate

When there is earned income by the child, the standard deduction is the greater of $1,150 or earned income plus $400, not to exceed $12,950 (standard deduction for single)

Question 30

What is the taxpayer’s ownership interest that is a flow-through entity?

Answer 30

the taxpayer’s tax basis on the investment, adjusted for items such as income, deductions, distributions, and debt.

Question 31

When can a loss be flowed through to the owner’s individual income tax return?

Answer 31

A loss can only be flowed through to the owner’s individual income tax return and deducted to the extent of the owner’s tax basis.

Question 32

When can a loss be suspended?

Answer 32

A loss in excess of the owner’s tax basis is suspended until the tax basis is reinstated in future years, and carried forward indefinitely.

Suspended losses due to insufficient tax basis remaining when the owner disposes of his or her interest in the flow-through entity are lost.

Question 33

What is the loss limitation to deduct rental losses when a taxpayer actively participates in real estate (mom-&-pop rule)?

Answer 33

$25,000 of rental losses can be deducted against earned income if the owner has active participation in real estate and AGI is under $100,000.

Question 34

Can the taxpayer actively participating in real estate deduct losses when the AGI is between $100,000 and $150,000?

Answer 34

Yes, the taxpayer will have to phase out the difference between the AGI falling between $100K and $150K by multiplying it by 50 cents on the dollar. The phase-out amount is deducted from the total loss deductible limitation to arrive at the deductible amount.

Formula to compute the new deductible loss amount:
Taxpayer’s AGI
- Phase out range (100K)
= difference
* phase-out amount (.50)
= Total phase-out amount

Total loss deductible limitation (25K)
- Total phase-out amount
= loss deductible amount

Question 35

Are personal (nonbusiness) bad debt losses deductible?

Answer 35

A personal (nonbusiness) bad debt loss is treated as a short-term capital loss in the year the debt becomes totally worthless.

Question 36

What entities qualify for the Uniform Capitalization Rules?

Answer 36

All business enterprises that meet the criteria for implementation (including sole proprietorships, partnerships, and corporations).

Question 37

What costs are required to be capitalized under the Uniform Capitalization Rules?

Answer 37

Costs required to be capitalized include:
1. Direct materials
2. Direct labor - compensation, vacation pay, and payroll taxes
3. Indirect Costs - An allocation must be applied, such as factory overhead (capitalizable expenses). Examples include the following:
- Utilities - Pension contributions
- Warehousing costs - Engineering and design
- repairs - Repackaging
- maintenance - Spoilage and scrap
- indirect labor (e.g., supervisory) - Administrative supplies
- rents - storage
- depreciation and amortization - insurance

Question 38

What costs are not required to be capitalized under the Uniform Capitalization Rules?

Answer 38

Costs required to not be capitalized include the following:
1. Selling
2. Advertising
3. Marketing expenses
4. Certain general and administrative expenses
5. Research
6. Officer compensation not attributable to production services.

Question 39

How is the Kiddie’s tax computed when the child has unearned and earned income?

Answer 39

1. Calculate the parent’s marginal tax rate if unearned income > $2,300.
   parent’s tax rate = Unearned income - child’s standard deduction (1150) - child’s tax rate (1150)
2. Add the unearned and earned income. The total of the two is subtracted from the parent’s tax rate.
3. The child’s standard deduction is computed and deducted from step 2 above by taking the greater of:
   a. Child’s standard deduction (1150)
   b. earned income + $400

Question 40

When do you take the QBI deduction and how is taxable income calculated?

Answer 40

The QBI deduction is taken if there is any flow-through income remaining after calculating AGI and deducting it for either the standard deduction or itemized deduction.

You have your gross income, then subtract adjustments which are above the line deductions to arrive at AGI. From AGI, we take the below the line deductions, either the standard deduction or itemized deduction. After that, if we have a flow-through income, we can further take the QBI deduction.

Question 41

What is the formula to compute rental income?

Answer 41

Formula to compute rental income is as follows:
Gross rental income
+ Prepaid rental income
+ Rent cancellation payment
+ Improvement-in-lieu of rent
- rental expenses
= Net rental income or net rental loss

Question 42

Are security deposits included in rental income?

Answer 42

If security deposits are held separately and not available to be applied to last month’s rent (as in segragated account), they are a liability of the taxpayer and not included in income in the year received.

Question 43

What eligible “flow-through” U.S. entities are considered Qualified Business Income (QBI)?

Answer 43

The flow-through U.S. entities includes individuals, partnerships, S corps, most LLCs, and trusts.

Question 44

What eligible “flow-through” US entities are considered Specified Service Trade or Business (SSTB)?

Answer 44

The flow-through U.S. entities considered SSTBs includes health, law, accounting, actual science, performing arts, consulting, athletics, financial services.

Question 45

What is the QBI rule when the taxable income is at or below the threshold for a single ($170,050) or MFJ ($340,100) taxpayer?

Answer 45

If QTB os SSTB -> Full 20% QBI deduction.

Question 46

What is the QBI rule when the taxable income is above the threshold for a single ($220,050) or MFJ ($440,100) taxpayer?

Answer 46

1. If QTB -> “Full W-2 wage and property limitation” applies
2. If SSTB -> No QBI deduction allowed

Question 47

What is the QBI rule when the taxable income is in between the threshold for a single ($170,050 - $220,050) or MFJ ($340,100 - $440,100) taxpayer?

Answer 47

1. If QTB -> “Phase-in of W-2 wage and property limitation” (if limitation is less than 20% of QBI)
2. If SSTB -> “QBI, W-2 wages, and qualified property amounts are reduced,” then phase-in of W-2 wages and property limitation using reduced amounts.

Question 48

How is an ordinary loss from a flow-through entity treated when the individual particiaptes in more than one business?

Answer 48

The ordinary loss from the business is allocated using a prorata allocation by adding the ordinary income of all the businesses and determine a percentage of the business income from each business to the total ordinary income. This percentage is then multiplied by the ordinary loss. This new ordinary income is used to calculate the AGI and taxable income.

prorata allocation = (entity business income/total business income from all entities) * ordinary loss

Question 49

How is the section 199A QBI deduction computed?

Answer 49

Section 199A QBI deduction is computed by taking the lesser of:
1. Combined QBI deduction from all flow-through entities (sum of QBI deductions)
2. 20% of the taxpayer’s taxable income in excess of net capital gains

Question 50

How is the early withrawal of interest funds from a savings account (CD) reported in the tax return?

Answer 50

The interest earned is reported as taxable income and the early withdrawal penalty is reported as an adjustment to AGI and it’s deductible the year the penalty is incurred.

Question 51

What are deductible medical expenses?

Answer 51

1. Medicine and prescription drugs, including Medicare part D premiums
2. Doctors
3. Medical and accident insurance premiums (including qualified LT care premiums, although the deduction is limited based on the age of the taxpayer)
4. Medical necessary surgery
5. Transportation to medical facility (actual cost, or allowance (8 cents per mile for 2022))
6. Physically disabled costs
7. expenses incurred by the physically disabled for the removal of structural barriers in their residences to accomodate a disability.

Question 52

How is adjusted gross income and taxable income computed (AGI)?

Answer 52

Taxpayer’s gross income (total income)
Less: adjustments (SHAMPOO)
= AGI
Less: standard deduction or itemized deduction
Less: QBI deduction
= taxable income

The AGI is reported in the taxpayer’s 1040.

Question 53

When is active or material participation considered in a trade or business?

Answer 53

Material participation of a taxpayer in a trade or business is considered when he/she participates more than 500 hours during the tax year.

Question 54

Are life insurance proceeds paid because of the death of the insured included in gross income?

Answer 54

No, the proceeds of a life insurance policy paid because of the death of the insured are excluded from gross income of the beneficiary.

Question 55

Is jury duty payment included as gross income?

Answer 55

Judy duty payments are compensation for services provided and therefore included in gross income.

Question 56

Are personal (physical) injury or illness award included as part of gross income?

Answer 56

No, personal (physical) injury or illness award are nontaxable and should be excluded from gross income damages received as compensation for personal (physical) injury or illness.

Question 57

Are accident insurance premiums paid by the taxpayer included in gross income?

Answer 57

No, exclude from gross income all payments received (even with multiple recoveries) if the individual paid all premiums for the insurance.

Question 58

What amount can be excluded from gross income for payments made by the employer on behalf of an employee’s educational expense and/or student loan?

Answer 58

Up to $5,250 may be excluded from gross income. The formula to calculate the taxable income is as follows:

Employer reimbursement of college tuition
Less: exclusion amount ($5,250)
= Taxable amount of employer reimbursement

Question 59

What amount is excludable from gross income related to educational scholarships?

Answer 59

For degree-seeking students, scholarships and fellowships grants are deducted only up to amounts actually spent on tuition, fees, books, and supplies (not room and board)

Question 60

Are gifts and inheritance included in gross income and taxable?

Answer 60

No, gross income does not include property received from gifts and inheritance; however, any income recived from from such property (e.g., interest income, rental income, etc.) after the property is in the hands of the recepient is taxable.

The FMV of the inherited property is only used to determine the basis in the property receive.

Question 61

When is a taxpayer allowed to deduct an overall “excess business loss” for the year?

Answer 61

The overall “excess business loss” for the year is determined by adding all the active business income/loss and deducting the passive activity losses after applying the PAL limitation (passive losses netted against passive activities) to determine the Year aggregate business income (loss). Then apply the allowable aggregate business loss limitation (single taxpayer - $270,000, MFJ - $540,000) to determine the business loss carried forward as a NOL.
Formula is as follows:
Independent contractor income
+Active business income/loss
+Passive activity loss (apply PAL limitation)
=Aggregte business income (loss)
-/+ Allowable aggregate business loss limitation (270K (S) or 540K (MFJ)
= Excess business loss carried forward as an NOL

Question 62

When is a gain taxable?

Answer 62

In order for a gain to be taxable, the gain must be both realized and recognized.

Question 63

What is realization?

Answer 63

Realization requires the accrual or receipt of cash, property, or services, or a change in the form or the nature of the investment (a sale or exchange)

Question 64

What is recognition?

Answer 64

Recognition means that the realized gain must be included on the tax return (i.e., there is no provision that permits exclusion or deferral under the Internal Revenue Code).

Question 65

Are damages awards deductible?

Answer 65

To determine whether a damages award is excludable, one must determine what the damages were paid “in lieu of.” Thus, if a damage award is compensation for lost profit, the award is income.

Question 66

Are punitive damages award deductible?

Answer 66

No, punitive damages are fully taxable as ordinary income if received in a business context or for loss of personal reputation.

Question 67

Are punitive damages awards received by an individual due to personal injury taxable?

Answer 67

Yes, punitive damages received by an individual in a personal injury case are also taxable except in wrongful death cases where state law has limited wrongful death awards to punitive damages only.

Question 68

Where are rental expenses (e.g., real estate taxes) for a passive activity reported in the 1040?

Answer 68

The rental expenses (e.g., real estate taxes) are reported as a deduction from passive income. The passive activity income is reported in schedule E as an adjustment to arrive at AGI (for AGI-above the line)

Question 69

What are non-deductible expenses for a self-employed individual?

Answer 69

Business expenses that are not reported in the schedule C for a sole proprietor are the following:
1. salaries paid to the sole proprietor (considered a withdrawal)
2. Federal income tax
3. Personal portion of:
- Automobile, travel, and meal expenses
- interest expense: this may be reported as an itemized deduction if mortgage interest or investment interest is paid.
- State and local tax expense: Reports as an itemized deduction on schedule A
- Health insurance of a sole proprietor: Although this is not reported on schedule C as an expense, it is reported as an adjustment to arrive at AGI.
4. Bad debt expense of a cash basis taxpayer (who never reported the income).
5. Charitable contributions: Report a an itemized deduction on schedule A.
6. Entertainment expenses.

Question 70

What are considered capital assets (real and personal property) held by an individual taxpayer?

Answer 70

1. personal automobile
2. Furniture and fixtures in the home of the taxpayer
3. stock and securities of all taxpayers (except those held by dealers)
4. Personal property not used in a trade or business
5. Real property not used in a trade or business
6. Interest in a partnership
7. Goodwill of a corporation
8. Copyright, literary, musical, or artistic composition that have been purchased
9. Other assets held for investment.

Question 71

Is the taxpayer allowed to deduct losses for the sale of personal property?

Answer 71

No, the taxpayer is not allowed to deduct losses for the sale of real or personal property, but the taxpayer is required to report the gain.