Tax Planning

Question 1

Tax Exclusions (Exemptions)

Answer 1

“MD-CRIDSS”

Muni Bond Interest

Death Benefits. Only when taken as a lump sum. There could be a taxable component if the DB is turned into an annuity income stream and/or held at the insurance company.

Compensatory damages received

Residence (personal) sale gain. You need to fulfill the ownership and use tests for the full exclusion amount.

Inheritances & Gifts received.

Debt discharged - only if student loan is part of PSLF (Public Service Loan Forgiveness) Program OR Insolvency.

Scholarships - Be aware of the ‘coordination of benefits’ when pairing scholarships with 529 / Coverdell ESA disbursements. You can’t use two tax benefits on the same scholarship dollars. If there is scholarship intended to be applied to tuition, you see if there’s a balance remaining, and there is where you can start applying a 529 or Coverdell disbursement.

Support payments received (Child Support and/or Alimony beginning 2019)

Question 2

Above-the-Line (“deductions for AGI”)

Answer 2

Greater of itemized or standard deduction.

Found on Schedule 1, Part 2 (Adjustment to Income).

“Use H-E-R-B’s to make AGI”: Health, Education, Retirement, Business Owner expenses

• HSA contributions with after-tax money
• Self-employed Health Insurance premiums (Medical, Dental and LTCi) - including spouse and dependents. Limited to SE income. N/A if the spouse has insurance coverage through her ER.
• Pre-tax retirement account contributions (includes SEP, SIMPLE and qualified plans).
• Pre-tax Traditional IRA contributions – must have earned income. Subject to phaseout based on active participant status.
• ER portion of Self-employment tax (50%)
• Student loan interest paid (up to $2500) subject to phaseout.
• Alimony paid for agreements that took effect prior to 2019 (deduction ended in 2018).
• Early withdrawal penalties.

Question 3

Itemized Deductions: Below-the-Line (“deductions from AGI”)

Answer 3

SALT (State and Local Taxes). $10,000 limit. City, County or Municipal taxes

Income taxes OR Sales taxes (you cannot deduct both)

Real Estate taxes (not business-related)

Personal property taxes (i.e., cars, boats)

Unreimbursed qualified medical and dental expenses exceeding 7.5% AGI.

QBI (Qualified Business Income) - a.k.a. Sec 199A deduction

Mortgage interest paid for primary and secondary residences up to $750k of debt

Investment interest expenses (i.e., margin loan interest) that is lesser than or equal to your NII. For example, if you have $3,000 in margin loan interest but NII of only $1,000, you can only deduct the $1,000 in the current year. The IRS does allow you to carry forward the disallowed deduction into future years.

Qualified Charitable Gifts
Up to 60% AGI

Federally declared disaster losses
Lesser of (FMV or Basis) minus Insurance reimbursements minus $100 deductible = Net casualty loss. Any amount above 10% of your AGI is deductible.

These are found on Schedule A.

Question 4

How long does a business taxpayer have from the date of the 1231 transfer of the relinquished property to identify potential replacement properties?

Answer 4

45 days

Question 5

How long does the replacement property have to be received, and the exchange completed, after the transfer of the relinquished 1231 property in the exchange OR the due date (with extensions) of the tax return for the tax year in which the transfer occurs (whichever is earlier)?

Answer 5

180 days

Question 6

1031 Like-Kind Exchanges (for Businesses)

Answer 6

Amount Realized: FMV of the qualifying property received +/- net boot.

Realized Gain: The amount realized minus the basis of the property transferred.

Recognized Gain: The lesser of the realized gain or the net boot received.

Deferred Gain: Realized gain minus Recognized gain.

Net boot cannot be lower than zero.

Question 7

American Opportunity Tax Credit

AOTC

Answer 7

Partially refundable tax credit.

The amount of the credit is 100% of the first $2,000 of qualified education expenses you paid for each eligible student and 25% of the next $2,000. You can get a maximum annual credit of $2,500 per eligible student.

If the credit brings the amount of tax you owe to zero, you can have 40% of any remaining amount of the credit refunded up to $1,000.

Question 8

Nonrefundable Tax Credits

Answer 8

* Lifetime Learning Credit (per family)
* Child & Dependent Care Credit
* Child Tax Credit
* Retirement Savings Contribution Credit (“Savers Credit”)

Question 9

To calculate the equivalent tax deduction when given a tax credit

Answer 9

Credit ÷ Marginal Tax Bracket

Solving for deduction: D in deduction for DIVIDE

Question 10

To calculate the equivalent tax credit when given a tax deduction

Answer 10

Deduction x Marginal tax bracket

Question 11

Personal Residence Sale Exclusion

Sec 121 ownership and usage tests

Answer 11

Taxpayer must meet both the ownership and usage tests:
* Must have owned the property 2 out of the last 5 years
* Must have used the property as the personal residence for 2 out of the last 5 years.

If married, both spouses must meet the usage test (us/both). But, only one spouse needs to meet the ownership test.

Question 12

Personal Residence Sale Exclusion

Sec 121 reduced exclusion: acceptable reasons

Answer 12

Taxpayers who do meet the ownership or usage test or use the exclusion more than once in a two-year period may qualify for a reduced exclusion.

Acceptable reasons include:
* Job relocation
* Employment change leaves you unable to pay your living expenses
* Qualifying for unemployment benefits
* Health issues
* Divorce or legal separation
* Birth of twins or other multiples
* Damage to the home from a disaster
* Condemnation or seizure of the property
* Other unforeseen circumstances

Question 13

Personal Residence Sale Exclusion (Sec 121)

Calculating the partially reduced capital gain exclusion

Answer 13

Step 1: Calculate the reduced exclusion:
(# of qualified days ÷ 730) x $500,000 (or $250k for Single/HoH).

Step 2: Calculate the taxable amount: Gain minus the reduced exclusion.

Question 14

What types of property qualifies for Section 179?

Answer 14

• Equipment purchased for business use
• Tangible personal property used in business
• Computers and off-the-shelf software
• Office furniture and office equipment
• Certain business vehicles

Real Estate / Land DOES NOT qualify.

Allows business to deduct the full cost of qualifying capital assets right away rather than depreciating over the useful life. Limit is $1,160,000.

The expense deduction is limited to the business’s net profit.

Sole proprietor can pull in the spouse’s unrelated W2 income to increase the ‘businesses’ total net income for maximizing expense deductions.

Any elected §179 expense that exceeds net profit can be carried over until infinity. Or, you can use up your 179 deduction and use depreciation in the same tax year.

Question 15

Business Property Depreciation

Straight-Line Depreciation: When is it appropriate and how do you calculate it?

Answer 15

Even, predictable deductions over the usable life of the property.

Calculation:
(Purchase price minus Salvage value) ÷ Useful Life = Annual depreciation

Salvage value is book value of an asset after all depreciation has been expensed.

When using the formula, the solution will be the full year’s depreciation amount. If you are using the half-year convention, and you are in the first or last year of the asset’s useful life, the annual depreciation amount will be reduced by half.

Question 16

Business Property Depreciation

What is the benefit for a business owner to use MACRS?

Answer 16

Accelerated depreciation (larger deductions) in the early years and less at the end of the asset’s useful life to help **free up cash flow. **

Tables/Rates will be provided (% rates for depreciation) to find the amount in a given year for a specific asset/useful life.

Question 17

Business Property Depreciation

Useful life for common depreciable assets

Answer 17

Autos = 5 years
Computers = 5 years

Heavy machines = 7 years
Office furniture = 7 years

Residential real estate = 27.5 years
Commercial real estate = 39 years

Question 18

Business Property Depreciation

Business property depreciation options

Answer 18

When faced with a business depreciation question, review the scenario to determine the specific business cash-flow/deduction NEEDS and match them to the depreciation SPEED.

• Even, predictable deductions over the usable life: Straight-Line
• Full deduction in the year the property was put into service: Section 179
• Larger (accelerated) deductions in earlier years of the usable life: MACRS

NOTE: If the question asks what is the “maximum deduction” or “total deduction available”, this is when you elect to expense under Sec 179 an amount equal to the net profit, and then depreciate the residual amount (meaning to subtract the 179 depreciated amount) over the useable life of the property via MACRS in the same year.

First & Last Years: use half-year convention

Question 19

Rental Real Estate: Maximum Losses for Active Participants

Answer 19

Can use real estate losses up to $25,000 to offset not just passive income, but also ordinary income and portfolio income (i.e., investment income).

Phaseout limit: $25,000 loss is allowed if the taxpayer’s MAGI is ≤ $100,000. Amount between $100,000 to $150,000 is reduced by 50%. To calculate:
Upper range of limit ($150,000) minus their AGI, and multiply by 50%. This is the maximum deductible loss.

Question 20

Rental Real Estate: Requirements to be considered an Active Participant

Answer 20

• Taxpayer ownership of at least 10% of the property, AND
• Substantial involvement in managing the property.

Passive activities are considered

Question 21

Section 199A

Qualified Business Income Deduction (QBID)

Answer 21

Deduction is based on the taxpayer’s personal tax return, not their pass-through tax return.

Calculation for the deduction is the lesser of:
* 20% of QBI, or,
* 20% x (taxable income minus capital gains minus standard deduction).

Below-the-line deduction.

Question 22

Child Tax Credit

Answer 22

under age 17 at the end of the year
Up to $2000 credit

• The child must be eligible to be claimed as a dependent on the taxpayer’s return and live at the same residence as the taxpayer for more than half the year.
• The child cannot provide more than half of their own financial support during the tax year.

Partially refundable, but assume nonrefundable for the exam.

Question 23

Child & Dependent Care Credit

Answer 23

under the age of 13 or an incapacitated dependent or spouse.

Remember 20% for eligible expenses for AGI above $45,000.

Nonrefundable

Question 24

Selling property at a LOSS to a related party

“Wait and See” Approach

Answer 24

Seller cannot use the loss. It is the related party purchaser who has a chance to use the loss incurred by the related party seller. Depending on the subsequent sale price by the related party, the loss may be:
* allowed,
* partially allowed, or
* totally disallowed.

(see Google docs notes for graphics)

Question 25

Charitable Gifts

Maximum Annual Charitable Deductions to Public Charity

% of AGI

Answer 25

Cash Gifts = 60% of AGI

LTCG AGI % thresholds:
FMV = 3 letters = 30% of AGI
Basis = 5 letters = 50% of AGI

Ordinary Income Property = 50% of AGI.
Includes STCGs, capital assets held 12 months or less, property created by donor (copyrights, works of art), and inventory. Remember A-C-I-D!

When donating highly appreciated stock, it is more advantageous to deduct using FMV even though the percentage is less than the basis.

Question 26

Charitable Gifts

Maximum Annual Charitable Deductions to Private Foundation

% of AGI

Answer 26

Cash Gifts = 30% of AGI

LTCG AGI % thresholds:
FMV = 20% of AGI
Basis = 30% of AGI

Ordinary Income Property = 30% of AGI.
Includes STCGs, capital assets held 12 months or less, property created by donor (copyrights, works of art), and inventory. Remember A-C-I-D!

Question 27

Capital Gains & Losses

Property that is NOT classified as a capital asset includes…

acronym

Answer 27

A C I D
Accounts or notes receivable acquired in the ordinary course of a trade or business for services
Copyrights created by or for the taxpayer; a literary, musical, or artistic composition; a letter, memo, or similar property. Any other copyrights not created by or for the taxpayer are capital assets.
Inventory or property held primarily for sale to customers in the ordinary course of a trade or business
Depreciable property used in business to produce income (e.g., Section 1231 assets).

The $3000 capital loss per year can be claimed for Single, HoH and MFJ. MFS is limited to $1500.
If a net capital loss is more than these limits, you can carry the loss forward indefinitely.

Question 28

Capital Gains & Losses

Maximum capital loss

Answer 28

The $3000 capital loss per year can be claimed for Single, HoH and MFJ.
MFS is limited to $1500.

If a net capital loss is more than these limits, you can carry the loss forward indefinitely.

Question 29

Tax Penalties

Answer 29

Failure to File: 5% per month (or part of a month) of the unpaid taxes that a tax return is late up to a maximum of 25%. “Failure to File is Five Percent.”

Failure to Pay: 0.5% per month of the unpaid tax up to a maximum of 25%.

Defraud: 75% penalty

Negligence: If there was no intent to defraud, a 20% penalty is applied to the deficiency amount.

If both a Failure to File and Failure to Pay penalty are applied in the same month, the maximum penalty is 5% for the first 5 months (thereby reaching the 25% limit). After that, the 0.5% monthly penalty would continue (until it maxes out at 25%).

Question 30

Tax deductible IRA contribution for Active Participant

Calculating phaseout deduction

Answer 30

[(high phaseout limit - AGI) ÷ total phaseout range] x contribution

Question 31

Charitable Contributions

Use-unrelated

Answer 31

Donor does NOT have choice between using FMV or Basis. Must use lesser of the two.

Question 32

Kiddie Tax

Unearned Income Only calculation

Answer 32

For children under age 19 (or 24 if full-time student), the kiddie tax applies only to unearned income for a child that receives investment-type income.

Net unearned income of more than $2500 is subject to the parent’s highest marginal tax rate.

The first $1250 is tax fee (the dependent’s standard deduction amount).
The next $1250 is taxed at the child’s tax rate (assume 10%) or $125, and
The remaining amount is taxed at the parent’s highest marginal tax rate.

Question 33

Kiddie Tax

When a dependent child has Earned + Unearned Income, what is the calculation to determine the parent’s tax due (Kiddie Tax) and the Child’s tax due?

Answer 33

Step 1 (CHILD’s TAXABLE INCOME): Gross income minus the child’s standard deduction, which is the greater of $1250 or the amount of earned income plus $400 (limited to $13,850).

Step 2 (PARENT’s TAX): Unearned income minus the first $1250 minus the next $1250 equals the parent’s taxable amount. Multiply that by the parent’s highest marginal rate to get the parent’s tax due (Kiddie Tax).

Step 3 (CHILD’s TAX): Child’s taxable income (Step 1) minus the parent’s taxable amount (from Step 2) multiplied by the child’s tax rate (assume 10%) to get the child’s tax due.

Question 34

Inventory Valuations & Accounting Methods

In a rising price environment, what is the impact on profit margins, the tax liability, and the inventory value using LIFO?

Answer 34

LIFO in a rising price environment = Lower profit margins, Less tax liability, Understated inventory value (all three are negatively impacted).

FIFO = higher profits, more tax liability, and more realistic inventory valuations. The default IRS method is FIFO.

More profit, HIGHER tax! … Less Profit, LOWER tax!

Question 35

Alternative Minimum Tax (AMT)

What is the optimal strategy for a client that is subject to AMT?

Answer 35

If a taxpayer is subject to AMT:

1. Accelerate income into the AMT year. Examples: Roth conversions, IRA distributions.
2. Defer tax deductions until a regular tax year. Example: Hold off on a charitable contribution.

The optimal strategy is to use both until the AMT liability equals the regular tax liability.

Question 36

Alternative Minimum Taxable Income (AMTI)

Calculating AMTI

Answer 36

Start with Regular taxable income!!

Add / Subtract: AMT adjustments to regular taxable income. Most common are positive ISO adjustment at exercise, (not NQSO), mortgage interest, investment interest.

Add:** standard deduction** (if taxpayer does not itemize).

Add: tax preferences. Most common is gain on qualified small business stock.

Note that adjustments & preference items are calculated before exemptions (the opposite of the 1040 formula). And the exemptions are not used to calculate AMTI.

AMT adjustment becomes negative at ISO sale (cancel themselves out).

Question 37

Imputed Interest Income

Answer 37

Loans between individuals < $10,000 are not imputed.

When loans > $10,000 and up to $100,000, the imputed interest is the lesser of the AFR or the borrower’s NII.
If the borrower’s NII is $1,000 or less, imputed income will not apply.

Loans > $100,000 will use the AFR to calculate imputed interest.

The lender is responsible for paying taxes on the imputed interest of a loan because she offered the loan BELOW what the IRS considers a ‘reasonable interest rate,’ so she is responsible to impute the interest and include it on her tax return.

Question 38

FICA Tax

Answer 38

FICA Tax: Social Security + Medicare = 7.65% (7…6…5)

Social Security portion = 6.2%

Medicare portion = 1.45%

The Social Security eligibility age is 62.

Question 39

Does depreciation increase or decrease basis?

Answer 39

Depreciation reduces the tax basis.

Your basis will increase by the amount of major improvements you make to the property, and will decrease by
the amount of depreciation deductions you take on your tax return.

Question 40

What are income sources that will be taxed at Ordinary Income rate?

Answer 40

• Annuity withdrawals
• RMDs
• NQSOs: bargain element
• ISOs: disqualified distribution, bargain element
• Sec 1245 property sold at gain - depreciation recapture
• Sec 1231 recaptured losses
• Kiddie Tax
• Taxable Social Security retirement benefits (maximum is 85%, but might be 50% or even 0)
• Unemployment benefits
• Disability benefits (ER-paid premiums)
• Roth conversions

Question 41

Section 1231

Subcategory 1245 property

Answer 41

Moveable items (Sec 179 property)

Gains above original basis are taxed as Cap Gains, AND
the entire amount of depreciation must be recaptured as ordinary income.

Losses below adjusted basis are ordinary losses.

Best of both tax worlds!

Question 42

Section 1231

Subcategory 1250 property

Answer 42

Real Estate

Same general principles apply to 1250 as they do with 1245, except for a special tax treatment of 25% for unrecaptured gain.
If you sell between the original basis and adjusted basis or above = unrecaptured gain tax rate of 25%.

1250 – remember 25% (Oreo)

Question 43

1031 Like-Kind Exchange

When utilizing a 1031 business realty for business realty exchange, what type of trust can be used to hold the real estate property?

Answer 43

Delaware Statutory Trust (DST)

Question 44

Tax Forms & Schedules

What are the typical tax forms and schedules that a retirement income recipient would receive?

Answer 44

1099-R (RMDs, Annuity distros, Pensions, Qualified Plan distros, QCDs)
SSA-1099/SSA-1042S (Social Security Retirement Benefits received)
1099-DIV (Investment dividends)
1099-INT (Interest income…CDs, Bond coupon)
Schedule B (for 1099-DIV & 1099-INT)
Schedule D (Capital Gains / Losses from Taxable account sales, TLH, Cap Gain netting)

Question 45

Below-the-Line Deductions

Deducting investment interest

Answer 45

You can only take a deduction for investment interest expenses that is lesser than or equal to your net investment income (NII).

For example, if you have $4,000 in margin loan interest but NII of only $1,000, you can only deduct the $1,000 in the current year. The IRS does allow you to carry forward the disallowed deduction into future years.

Question 46

Kiddie Tax

Kiddie Tax applies to what age?

Answer 46

Kiddie Tax applies to children under age 19 or full-time students under age 24.

Question 47

What age limit qualifies for the Child Tax Credit?

Answer 47

Under age 17 at the end of the year

Up to $2000

Question 48

Foreign Account Tax Compliance Act (FATCA)

Threshold reporting obligations for U.S. taxpayers holding financial assets outside the U.S.

Answer 48

Form 8938 Threshold Requirements (2023):

Joint Income Tax Return (U.S. Residents)
* Total value > $100,000 on the last day of the tax year or more than $150,000 at any time during the tax year.
* If unmarried or separate tax returns, it’s half of the above values.

Joint Income Tax Return (Non-U.S. Residents)
* Total value > $400,000 on the last day of the tax year or more than $600,000 at any time during the tax year.
* If unmarried or separate tax returns, it’s half of the above values.

Question 49

Net Investment Income Tax (NIIT)

NIIT applies to the lesser of…

Answer 49

NII
or
MAGI above filing status thresholds

(provided on Tax Table)

Question 50

Underpayment Tax Penalty

Answer 50

To achieve Safe Harbor, use whichever one allows you to pay the LEAST during the year:

If AGI was greater than $150,000 ($75,000 MFS), you need to pay the LESSER of 90% of TY total taxes due OR 110% paid the prior year.

If AGI was $150,000 or less, you need to pay the LESSER of 90% of TY total taxes due OR 100% of the taxes paid the prior year.

Question 51

Tax Forms

Form 1098

Answer 51

Mortgage Interest Statement

Includes the amount of outstanding principal on the mortgage as of January 1 of the current year

Question 52

Tax Forms

Form 1041

Answer 52

Estates & Trusts

Trustee must file Form 1041 for a taxable domestic trust that has:
* Any taxable income for the tax year,
* Gross income of $600 or more (regardless of taxable income),
* A beneficiary who is a non-resident alien.

Question 53

Tax Forms

Schedule B

Answer 53

Interest & Ordinary Dividend Income

for 1099-DIV & 1099-INT

Question 54

Tax Forms

Form 706

Answer 54

Estate & GSTT Tax Return

6 for six feet under

Question 55

Tax Forms

Form 1099-R

Answer 55

Withdrawals from qualified retirement accounts

RMDs, Annuity distros, Pensions, Qualified Plan distros, QCDs

Question 56

The default IRS method for determining cost basis is

Answer 56

FIFO