1. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Taxation of Business Entities 1 Chapter 16 Introduction to the Taxation of Individuals

2. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 2 Tax Formula FIGURE 16.1

3. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 3 Income -Broadly Conceived Includes all the taxpayer’s income, both taxable and nontaxable –Essentially equivalent to gross receipts It does not include a return of capital or receipt of borrowed funds

4. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 4 Partial List of Exclusions from Gross Income Accident insurance proceeds Annuities (cost element) Bequests Child support payments Cost-of-living allowance (for military) Damages for personal injury or sickness Gifts received Group term life insurance, premium paid by employer (for coverage up to $50,000) Inheritances Interest from state and local (i.e., municipal) bonds Life insurance paid on death Meals and lodging (if furnished for employer’s convenience) Military allowances Minister’s dwelling rental value allowance Railroad retirement benefits (to a limited extent) Scholarship grants (to a limited extent) Social Security benefits (to a limited extent) Unemployment compensation (to a limited extent) Veterans’ benefits Welfare payments Workers’ compensation benefits Exhibit 16.1

5. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 5 Gross Income The Internal Revenue Code defines gross income broadly as ‘‘except as otherwise provided..., all income from whatever source derived’’ Gross income does not include unrealized gains

6. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 6 Partial List of Gross Income Items (slide 1 of 2) Alimony Annuities (income element) Awards Back pay Bargain purchase from employer Bonuses Breach of contract damages Business income Clergy fees Commissions Compensation for services Death benefits Debts forgiven Director’s fees Dividends Embezzled funds Employee awards (in certain cases) Employee benefits (except certain fringe benefits) Estate and trust income Farm income Fees Gains from illegal activities Gains from sale of property Gambling winnings Group term life insurance, premium paid by employer (for coverage over $50,000) Exhibit 16.2

7. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 7 Partial List of Gross Income Items (slide 2 of 2) Hobby income Interest Jury duty fees Living quarters, meals (unless furnished for employer’s convenience) Mileage allowance Military pay (unless combat pay) Notary fees Partnership income Pensions Prizes Professional fees Punitive damages Rents Rewards Royalties Salaries Severance pay Strike and lockout benefits Supplemental unemployment benefits Tips and gratuities Travel allowance (in certain cases) Treasure trove (found property) Wages Exhibit 16.2

8. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 8 Deductions - Individual Taxpayers Individual taxpayers have two categories of deductions: –Deductions for adjusted gross income (AGI) –Deductions from adjusted gross income

9. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 9 Deductions For AGI (slide 1 of 2) Sometimes known as above-the-line deductions –On the tax return, they are taken before the ‘‘line’’ designating AGI

10. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 10 Deductions For AGI (slide 2 of 2) Deductions for AGI include: –Ordinary and necessary expenses incurred in a trade or business –One-half of self-employment tax paid –Alimony paid –Certain payments to an IRA and Health Savings Accounts –Moving expenses –Fees for college tuition and related expenses –Interest on student loans –The capital loss deduction, and –Others

11. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 11 Adjusted Gross Income (AGI) AGI is an important subtotal –Serves as the basis for computing percentage limitations on certain itemized deductions such as Medical expenses Charitable contributions Certain casualty losses –e.g., Medical expenses are deductible only to the extent they exceed 7.5% of AGI This limitation might be described as a 7.5% “floor” under the medical expense deduction

12. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 12 Example –AGI Calculation

13. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 13 Deductions From AGI (slide 1 of 3) Deductions from AGI include: –The greater of: Itemized deductions, or The standard deduction –Personal and dependency exemptions

14. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 14 Deductions From AGI (slide 2 of 3) A partial list of itemized deductions includes: –Medical expenses (in excess of 7.5% of AGI) –Certain taxes and interest –Charitable contributions –Casualty Losses (in excess of 10% of AGI) –Deductions for expenses related to The production or collection of income, and The management of property held for the production of income –Certain miscellaneous itemized deductions (in excess of 2% of AGI)

15. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 15 Deductions From AGI (slide 3 of 3) The standard deduction is the sum of two components: –Basic standard deduction Amount allowed is based on taxpayer’s filing status –Additional standard deductions Available for taxpayers who are –Age 65 or over, and/or –Blind Two additional standard deductions are allowed for a taxpayer who is age 65 or over and blind Amount allowed depends on filing status

16. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 16 Standard Deduction (slide 1 of 2) The basic standard deduction (BSD) amount depends on filing status of taxpayer Filing status 2009 2010. Single $5,700 $5,700 MFJ, SS 11,400 11,400 HH 8,350 8,350 MFS 5,700 5,700 TABLE 3.1

17. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 17 Standard Deduction (slide 2 of 2) Additional standard deduction (ASD) –For taxpayers age 65 or older and/or legally blind Filing Status 2009 2010. Single $1,400 $1,400 MFJ, SS 1,100 1,100 HH 1,400 1,400 MFS 1,100 1,100 TABLE 3.2

18. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 18 Determining Standard Deduction Examples (2010 tax year): –Taxpayer is single, blind, and age 65 or older SD = $5,700 (BSD) + $1,400 (ASD) + $1,400 (ASD) = $8,500 –Taxpayers are married, filing jointly, one blind, and both age 65 or older SD = $11,400 (BSD) + $1,100 (ASD) + $1,100 (ASD) + $1,100 (ASD) = $14,700

19. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 19 ARRTA of 2009 - Two New Standard Deductions (slide 1 of 2) ARRTA of 2009 provides two new, temporary, tax incentives to stimulate home ownership and the sale of autos –Provisions allow nonitemizers to deduct real property taxes and sales tax paid on purchase of autos as special standard deduction –Property taxes on a personal residence and sales taxes on a personal auto normally are deductions from AGI Thus, the standard deductions alternative is a tax windfall for taxpayers who do not itemize

20. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 20 ARRTA of 2009 - Two New Standard Deductions (slide 2 of 2) These new standard deductions are limited in duration (i.e., through 2009) –Congressional action to extend the provisions is to be expected if the current economic downturn continues

21. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 21 ARRTA of 2009 - Standard Deduction For Real Property Taxes Currently, this temporary standard deduction for real property taxes is available for 2008 and 2009 tax returns –The amount allowed is the lesser of The amount paid, or $500 ($1,000 on a joint return)

22. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 22 ARRTA of 2009 - Sales Tax Paid On The Purchase Of Autos This temporary standard deduction is available for auto sales tax paid on purchases that occur from Feb. 17 through Dec. 31, 2009 –Deduction cannot exceed tax on first $49,500 of purchase price –Deduction is phased-out when taxpayer’s AGI exceeds $125,000 ($250,000 on a joint return) –Purchased vehicle (e.g., cars, SUVs, light trucks, motorcycles) cannot exceed gross weight of 8,500 lbs. –Original use must commence with the taxpayer

23. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 23 Taxpayers Ineligible For Standard Deduction Certain taxpayers cannot use the SD: –Married, filing separately, when either spouse itemizes deductions –Nonresident aliens –Individual filing return for tax year of less than 12 months because of change in annual accounting period

24. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 24 SD Limit For Person Claimed as Dependent Individual claimed as dependent has a BSD in 2010 limited to the greater of: – $950 or – $300 plus earned income (but not exceeding normal BSD) ASD amount(s) still available

25. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 25 Examples of SD Limit (slide 1 of 2) Dependent’s SD (2010 tax year): –A blind child who earns $200 and is claimed by parents as a dependency exemption SD = $950 (BSD) + $1,400 (ASD) = $2,350 –A child who earns $1,500 and is claimed by parents as a dependency exemption SD = $1,800 [BSD equal to greater of $950 or ($300 + $1,500 earned income)]

26. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 26 Examples of SD Limit (slide 2 of 2) Examples of dependent’s SD (2010 tax year) –A child who earns $6,000 and is claimed by parents as a dependency exemption SD = $5,700 [BSD limited to normal amount]

27. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 27 Personal and Dependency Exemption Amounts Amounts –2009: $3,650 per exemption –2010: $3,650 per exemption Personal and dependency exemptions –One per taxpayer (two personal exemptions when married, filing jointly) and for each dependent Exception: Individual claimed as dependent by another taxpayer does not receive a personal exemption

28. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 28 Personal and Dependency Exemptions In Year Of Death Personal exemption allowed on joint return for spouse who dies during the year –Example: Tom and Betty were married in 1990. Tom dies on February 1, 2010. A personal exemption may be claimed for Tom on the taxpayers’ 2010 joint return.

29. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 29 Dependency Exemptions (slide 1 of 2) A dependency exemption is available for one who is either a qualifying child or a qualifying relative –A qualifying child must meet the following tests: Relationship Abode Age, and Support

30. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 30 Dependency Exemptions (slide 2 of 2) One objective of the Working Families Tax Relief Act of 2004 (WFTRA of 2004) –Establish a uniform definition of qualifying child for purposes of the: Dependency exemption Head-of-household filing status Earned income tax credit Child tax credit Credit for child and dependent care expenses

31. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 31 Relationship Test The child must be the taxpayer’s: –Son or daughter –Stepson or stepdaughter –Brother or sister –Stepbrother or stepsister –Half brother or half sister, or –A descendant of such individual (e.g., grandchildren, nephews, nieces) A child who has been adopted, or whose adoption is pending, qualifies A foster child may also qualify

32. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 32 Abode Test A qualifying child must live with the taxpayer for more than half of the year –Temporary absences from the household due to special circumstances (e.g., illness, education) are not considered

33. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 33 Age Test The child must be under age 19 or under age 24 in the case of a student –A student is a child who, during any part of five months of the year, is enrolled full time at a school or government-sponsored on-farm training course –Individuals who are disabled are not subject to the age test

34. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 34 Support To be a qualifying child, the individual must not be self-supporting –Cannot provide more than one-half of his or her own support –In the case of a full-time student, scholarships are not considered to be support

35. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 35 Tiebreaker Rules In situations where a child may be a qualifying child for more than one person –Tiebreaker rules specify which person has priority in claiming the dependency exemption Table 3.4

36. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 36 Qualifying Relative In order to claim a dependency exemption for a qualifying relative, the following tests must be met: –Relationship –Gross income –Support

37. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 37 Relationship Test The relationship test for a qualifying relative is more expansive than for a qualifying child. Also included are the following relatives: –Lineal ascendants (e.g., parents, grandparents) –Collateral ascendants (e.g., uncles, aunts) –Certain in-laws (e.g., son-, daughter-, father-, mother-, brother-, and sister-in-law) The relationship test also includes unrelated parties who live with the taxpayer

38. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 38 Gross Income Test Dependent’s gross income must be less than the exemption amount ($3,650 for 2010)

39. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 39 Support Test Taxpayer must provide more than 50% of the qualifying relative’s support –Only amounts expended are considered in the support test –Scholarships are not considered in the support test Two exceptions to the support test: –Multiple support agreements –Children of divorced parents

40. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 40 Multiple Support Agreements Allows one member of a group providing > 50% of support to claim individual even though no one person provides > 50% support –Eligible parties must provide > 10% of support –Each eligible party must meet all other dependency requirements Example - Allows children of elderly parent to claim exemption for parent when none individually meets the 50% support test

41. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 41 Children of Divorced Parents Special rules apply if the parents meet the following conditions: –They would have been entitled to the dependency exemption had they been married and filed a joint return –They have custody (either jointly or singly) of the child for more than half of the year Under the general rule, the parent having custody of the child for the greater part of the year (i.e., the custodial parent) is entitled to the dependency exemption –General rule does not apply if A multiple support agreement is in effect Custodial parent issues a waiver in favor of the noncustodial parent

42. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 42 Other Rules for Dependency Exemptions In addition to fitting into either the qualifying child or the qualifying relative category, a dependent must also meet: –The joint return, and –The citizenship or residency tests

43. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 43 Joint Return Test Dependent cannot file a joint return with spouse unless: –Filing solely for refund of tax withheld –No tax liability exists for either spouse –Neither spouse required to file return

44. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 44 Citizenship or Residency Test Dependent must be a U.S. citizen or a resident of U.S., Canada, or Mexico for some part of the calendar year in which the taxpayer’s tax year begins –An exception provides that an adopted child need not be a citizen or resident of the U.S. (or a contiguous country) as long as his or her principal abode is with a U.S. citizen

45. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 45 Filing Requirements (slide 1 of 2) General Rule: Tax return must be filed if gross income is ≥ the sum of the standard deduction and exemption amount ASD for blind does not apply for this determination –Special rules apply for dependents and self- employed taxpayers

46. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 46 Filing Requirements (slide 2 of 2) Tax return of an individual is due on or before the 15th day of the 4th month after taxpayer’s year end –Most individuals are calendar year taxpayers, thus, due date is April 15 May obtain a 6 month extension of time to file –Excuses a taxpayer from penalty for failure to file, not from penalty for failure to pay If more tax is owed, extension request (Form 4868) should be accompanied by check for balance of tax due

47. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 47 Filing Status There are 5 filing statuses –Single –Married, filing jointly –Surviving spouse (qualifying widow or widower) –Head of household –Married, filing separately Filing status affects tax rate brackets, standard deduction, and other amounts

48. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 48 Single Filing Status Includes a taxpayer who is unmarried or separated from spouse by a divorce decree or separate maintenance agreement and does not qualify for another filing status –Marital status is determined as of the last day of the tax year When a spouse dies during the year, marital status is determined as of the date of death

49. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 49 Married Filing Jointly (MFJ) Filing Status Married as of last day of taxable year, or Spouse dies during taxable year

50. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 50 Surviving Spouse Filing Status Same tax rate brackets as married, filing jointly File as surviving spouse for 2 years after death of spouse if taxpayer maintains a home in which a dependent child lives

51. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 51 Married Filing Separately Filing Status Married but not filing a return with spouse and not abandoned spouse

52. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 52 Head of Household (HH) Filing Status Must be unmarried as of end of year or an abandoned spouse Must pay > half the cost of maintaining a household which is the principal home of a dependent for more than half of tax year –A dependent must satisfy either the qualifying child or the qualifying relative category A qualifying relative must also meet the relationship test

53. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 53 Exception to the HH Requirements HH may be claimed if taxpayer maintains a separate home for his or her parents –At least one parent must qualify as a dependent

54. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 54 Abandoned Spouse Allows married taxpayer to file as Head of Household if taxpayer: –Does not file a joint return –Paid > half the cost of maintaining a home –Spouse did not live in home during last 6 months of tax year –Home was principal residence of taxpayer’s child for > half of year –Can claim child as a dependent

55. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 55 Taxes Rates Tax liability is computed using either the Tax Table method or the Tax Rate Schedule method –Most taxpayers must use the Tax Tables For 2010 the tax rates are 10%, 15%, 25%, 28%, 33%, and 35%

56. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 56 Kiddie Tax (slide 1 of 4) Net unearned income (NUI) of child is taxed at parents’ rate –Child must be under age 19 at end of year (or under age 24 if a full-time student) –NUI generally equals unearned income less $1,900 (2010 tax year)

57. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 57 Kiddie Tax (slide 2 of 4) Unearned income includes: –Taxable interest –Dividends –Capital gains –Rents –Royalties –Pension and annuity income, and –Unearned income from trusts

58. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 58 Kiddie Tax (slide 3 of 4) Computing NUI for Kiddie Tax for 2010: –Unearned income –Less: $950 –Less: The greater of: i) $950, or ii) Allowable itemized deductions connected with production of unearned income –Equals: net unearned income

59. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 59 Kiddie Tax (slide 4 of 4) Net unearned income taxed at parents’ rate –Remainder of taxable income taxed at child’s rate Two options for computing the tax –A separate return may be filed for the child The tax on net unearned income (referred to as the allocable parental tax) is computed as though the income had been included on the parents’ return – Form 8615 is used to compute the tax –The parents may elect to report child’s income on their own return Certain requirements must be met

60. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 60 Alimony and Separate Maintenance Payments (slide 1 of 3) Alimony is: –Deductible by payor –Includible in gross income of recipient

61. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 61 Alimony and Separate Maintenance Payments (slide 2 of 3) Property settlements –Transfer of property to former spouse –No deduction or recognized gain or loss for transferor –No gross income and carryover of transferor’s basis for transferee

62. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 62 Alimony and Separate Maintenance Payments (slide 3 of 3) Child support payments –Payments made to satisfy legal obligation to support child of taxpayer –Nondeductible by payor and not taxed to recipient (or child) May be difficult to determine whether an amount received is alimony or child support –If amount of payment would be reduced due to some future event related to the child (e.g., child reaches age 21), such reduction is deemed child support

63. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 63 Prizes and Awards General rule: FMV of item is included in income Exceptions: Taxpayer designates qualified organization to receive prize or award (subject to other requirements) Employee achievement awards of tangible personal property made in recognition of length of service or safety achievement (limits apply)

64. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 64 Unemployment Compensation Prior to 2009, unemployment compensation was taxable in full Under ARRTA of 2009 the first $2,400 of unemployment compensation is excluded from gross income –Although this relief from taxation is limited to 2009, an extension can be expected as long as the current recession continues.

65. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 65 Social Security Benefits If a taxpayer’s income exceeds a specified base amount, as much as 50% or 85% of Social Security retirement benefits must be included in gross income Taxable amount is determined through application of two complex formulas

66. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 66 Gifts and Inheritances (slide 1 of 3) Gifts are nontaxable to donee if: –Transfer is voluntary without adequate consideration, and –Made out of affection, respect, admiration, charity, or donative intent

67. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 67 Gifts and Inheritances (slide 2 of 3) Inheritances are nontaxable to beneficiary Income earned on gifts or inheritances is taxable under normal rules –Example: Father gifts corporate bond to daughter. Gift is excluded from daughter’s gross income, but interest income earned after gift date is taxable to her.

68. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 68 Gifts and Inheritances (slide 3 of 3) Transfers by employers to employees do not qualify as excludible gifts –May be excludible under other provisions, e.g., employee achievement awards

69. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 69 Scholarships and Fellowships An amount paid to or for the benefit of a student to aid in pursuing a degree at an educational institution –Nontaxable to extent of tuition and related expenses (e.g., fees, books, supplies, and equipment required for courses) Amounts received for room and board are taxable

70. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 70 Damages (slide 1 of 3) Tax consequences of receipt of damages –Depends on type of harm taxpayer experienced –The taxpayer may seek damages for: Loss of income Expenses incurred Property destroyed Personal injury

71. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 71 Damages (slide 2 of 3) Tax treatment of damages received for: –Loss of income Generally, taxed the same as the income replaced –Exceptions exist related to personal injury –Reimbursement for expenses incurred Not income, unless the expense was deducted –Damages that are a recovery of the taxpayer’s previously deducted expenses are generally taxable under the tax benefit rule

72. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 72 Damages (slide 3 of 3) Tax treatment of damages received for: –Property damaged or destroyed Treated as an amount received in a sale or exchange of the property – Thus, taxpayer has realized gain if damage payments exceed property’s basis –Personal injury Receives special treatment

73. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 73 Compensation for Injuries and Sickness (slide 1 of 3) Personal injury damages –Compensatory damages received on account of physical personal injury or physical illness are excludible Includes amounts received for loss of income associated with the physical personal injury or physical sickness –All other personal injury damages are taxable Compensatory damages for nonphysical injury All punitive damages

74. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 74 Compensation for Injuries and Sickness (slide 2 of 3) Workers’ compensation –Although may be payment for loss of wages, workers’ compensation is specifically excluded from gross income

75. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 75 Compensation for Injuries and Sickness (slide 3 of 3) Accident and health insurance benefits –Benefits received under policy purchased by taxpayer are excludible Even if benefits are substitute for income –Different rules apply if the accident and health insurance protection was purchased by the individual’s employer

76. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 76 Educational Savings Bonds Interest on Series EE U.S. Savings Bonds may be excluded from income if: –Proceeds used to pay for qualified higher educational expenses –Bonds issued after 12/31/89, and –Bonds issued to person at least 24 years old Exclusion is phased-out once modified AGI exceeds threshold amount

77. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 77 Itemized Deductions (slide 1 of 2) Personal expenditures that are deductible from AGI as itemized deductions include: –Medical expenses –Certain taxes –Mortgage and investment interest –Charitable Contributions –Miscellaneous itemized deductions

78. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 78 Itemized Deductions (slide 2 of 2) Itemized deductions provide a tax benefit only to extent that, in total, they exceed the standard deduction amount for the taxpayer

79. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 79 Medical Expenses (slide 1 of 6) Medical expenses are deductible to the extent unreimbursed medical expenses, in total, exceed 7.5% of AGI

80. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 80 Medical Expenses (slide 2 of 6) Example of medical expense deduction limitation: –Amy has AGI of $10,000 and medical expenses of $1,000 –Amy’s medical expense deduction = $250 [$1,000 – ($10,000 × 7.5%)]

81. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 81 Medical Expenses (slide 3 of 6) Example of medical expense deduction limitation: –Bob has AGI of $4,000 and medical expenses of $1,000 –Bob’s medical expense deduction = $700 [$1,000 – ($4,000 × 7.5%)]

82. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 82 Medical Expenses (slide 4 of 6) Expenditures for: –The diagnosis, cure, mitigation, treatment, prevention of disease, or –The purpose of affecting any structure or function of the body of the taxpayer, spouse, or dependents –Includes prescription drugs and insulin

83. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 83 Medical Expenses (slide 5 of 6) Does not include the cost of items such as : –Unnecessary cosmetic surgery –General health items –Nonprescription drugs If cosmetic surgery is deemed necessary, it is deductible as a medical expense – Cosmetic surgery is necessary when it ameliorates A deformity arising from a congenital abnormality A personal injury, or A disfiguring disease

84. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 84 Medical Expenses (slide 6 of 6) Medical expenditures are deductible in year paid –Includes payment by check or credit card

85. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 85 Nursing Home Expenditures If primary reason for being in nursing home is medical, costs (including meals and lodging) qualify If primary purpose of placement in home is personal, only specific medical costs qualify (no meals or lodging)

86. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 86 Special School Expenditures Medical expense deduction may include the expenses of a special school for a mentally or physically handicapped individual –Deduction is allowed if a principal reason for sending the individual to the school is the school’s special resources for alleviating the infirmities –In this case, the cost of meals and lodging, in addition to the tuition, is a proper medical expense deduction

87. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 87 Capital Medical Expenditures May include a pool, air conditioners if they do not become permanent improvements, dust elimination systems, elevators, etc. Must be medical necessity, advised by a physician, used primarily by patient, and expense is reasonable Full amount of cost is medical expense in year paid Maintenance on capital expenditures also medical expense

88. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 88 Capital Improvement to Home Deductible medical expense only to extent cost exceeds increase in value of home –Appraisal costs related to capital improvements are also deductible, but not as medical expenses Exception: removal of structural barriers to home of handicapped are deemed to add no value to home –Thus, full amount is a medical expense

89. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 89 Medical Care of Spouse and Dependents Taxpayer may deduct cost of medical care for spouse and dependents –Dependents need not meet gross income or joint return tests –Medical expenses of children of divorced parents can be deducted by non-custodial parent even though child is claimed as dependent of custodial parent

90. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 90 Medical Transportation and Lodging Transportation costs to and from medical care are deductible –Mileage allowance of 16.5 cents per mile (in 2010) may be used instead of actual out-of-pocket automobile expenses The cost of meals while en route to obtain medical care is not deductible

91. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 91 Medical Insurance Premiums (slide 1 of 2) Premiums paid for medical care insurance are deductible medical expenses –If employer pays all or part of taxpayer’s medical insurance premiums the amount paid by employer is Not included in gross income by employee Not deductible by the employee as medical expense

92. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 92 Medical Insurance Premiums (slide 2 of 2) For self-employed, 100% of insurance premiums are deductible for AGI –Includes amounts paid for taxpayer’s spouse and dependents –Not allowed if taxpayer is eligible to participate in a subsidized health plan maintained by any employer of the taxpayer or the taxpayer’s spouse

93. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 93 Health Savings Accounts Used in conjunction with a high deductible medical insurance policy –Employee contributions to HSA are deductible for AGI and earnings on funds in account are not taxable –Deductible contributions are limited to the sum of the monthly limitations. The monthly deductible amount is limited to the lesser of one twelfth of: The annual deductible under a high deductible plan or $3,050 for self-only ($6,150 for family coverage) in 2010 –Withdrawals from HSA are excludible to the extent used for qualified medical expenses

94. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 94 Taxes (slide 1 of 4) State, local, and foreign income and real property taxes are deductible in the year paid –Real property taxes do not include taxes assessed for local benefits e.g., Special assessments for streets, sidewalks, curbing, and other similar improvements State and local personal property taxes based on value (ad valorem) are deductible in the year paid

95. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 95 Taxes (slide 2 of 4) Other taxes such as FICA, excise, etc., are not deductible –May be deductible if incurred in business or production of income activity Fees are not deductible as tax

96. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 96 Taxes (slide 3 of 4) Real estate taxes for year property is sold must be apportioned between the buyer and the seller –Failure to correctly apportion requires offsetting adjustments to seller’s amount realized and buyer’s adjusted basis

97. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 97 Taxes (slide 4 of 4) Can elect to deduct either state & local income taxes or sales/use taxes –For state and local income taxes, deduct amounts paid during year: Amounts withheld Estimated tax payments Amounts paid in current year for prior year’s liability –For sales/use taxes, deduct either: Actual sales/use tax payments or Amount from an IRS table –Table amount may be increased by sales tax paid on certain specific items (e.g., Purchase of motor vehicles, boats, etc.) If deduction is taken for sales/use taxes paid rather than state income taxes, the additional standard deduction for qualified motor vehicle taxes allowed in 2009 may not also be taken

98. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 98 Interest Expense Deduction of interest expense is limited to: –Interest on qualified student loans –Investment interest –Qualified residence (home mortgage) interest –Business interest Personal interest expense is not deductible

99. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 99 Interest on Qualified Student Loans Deductible for AGI, subject to limits –Maximum deduction is $2,500 per year –Deduction is phased out for taxpayers with modified AGI (MAGI) between $60,000 and $75,000 ($120,000 and $150,000 on joint returns) –Not allowed for those claimed as a dependent or for married filing separate returns

100. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Investment Interest (slide 1 of 5) Definition: interest on loans whose proceeds are used to purchase investment property, e.g., stock, bonds, land Deduction of investment interest expense is limited to net investment income

101. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Investment Interest (slide 2 of 5) Net investment income: –Investment income less investment expenses

102. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Investment Interest (slide 3 of 5) Investment income: –Gross income from interest, dividends, annuities, and royalties not derived from business –Net capital gains and qualified dividends are treated as investment income only if elected Amount elected as investment income is not eligible for the 15%/0% rates that otherwise apply to net capital gain and qualifying dividends

103. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Investment Interest (slide 4 of 5) Investment expenses: –All expenses (other than interest) directly related to investment income that are allowed as a deduction –Application of 2% of AGI floor for some investment expenses must be considered in computing amount of net investment income

104. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Investment Interest (slide 5 of 5) Investment interest disallowed in current year due to limitation is carried forward to future years until ultimately used –Deductibility subject to net investment income limitation in carryover years

105. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 105 Qualified Residence Interest (slide 1 of 4) Interest on indebtedness secured by the principal residence and one other residence (qualified residences) Interest must be on acquisition indebtedness or home equity loans

106. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 106 Qualified Residence Interest (slide 2 of 4) Acquisition indebtedness: amounts incurred to acquire, construct, or substantially improve the qualified residences –Interest paid on aggregate acquisition indebtedness of $1 million or less ($500,000 for married, filing separately) is deductible as qualified residence interest

107. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 107 Qualified Residence Interest (slide 3 of 4) Home equity indebtedness: loans secured by qualified residences Interest is deductible only on portion of home equity loan that does not exceed the lesser of: –$100,000 ($50,000 for married, filing separate), or –FMV of home – acquisition indebtedness

108. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 108 Qualified Residence Interest (slide 4 of 4) Thus, maximum loans on qualified residences that will produce qualified residence interest is $1.1 million Interest on mortgage debt exceeding $1.1 million or on mortgage debt relating to nonqualified residence (e.g., second vacation home) is nondeductible personal interest

109. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 109 Interest Paid For Services (slide 1 of 2) “Points” paid for the use or forbearance of money qualify as deductible interest –Cannot be a service charge if they are to qualify as deductible interest Points generally must be capitalized and amortized over the life of loan

110. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 110 Interest Paid For Services (slide 2 of 2) Exception: Points paid in the acquisition or improvement of principal residence –Entire amount of such points are deductible in the year paid –Points paid to refinance an existing home mortgage must be capitalized and amortized over the life of the new loan

111. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 111 Mortgage Insurance Payments Mortgage insurance premiums are deductible as interest if they relate to a qualified residence of the taxpayer –The deduction begins to phase out for taxpayers with AGI in excess of $100,000 ($50,000 for married taxpayers filing separately)

112. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 112 Classification of Interest Expense Whether interest is deductible for AGI or as an itemized deduction (from AGI) depends on purpose of indebtedness –If related to a business or the production of rent or royalty income Interest is deductible for AGI –If incurred for personal use, such as qualified residence interest Deduction is reported on Schedule A, Form 1040 if taxpayer itemizes However, interest on a student loan is a deduction for AGI –If the taxpayer incurs debt in relation to his or her employment Interest is considered to be personal, or consumer, interest

113. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 113 Charitable Contributions (slide 1 of 2) Individuals and corporations may deduct contributions made to qualified domestic organizations Contributor must have donative intent and expect nothing in return –If contributor receives tangible benefit, the FMV of such benefit reduces the amount of the charitable contribution deduction

114. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 114 Charitable Contributions (slide 2 of 2) Exception to tangible benefit rule –Allows deduction of 80% of amount paid for the right to purchase athletic tickets from colleges and universities

115. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 115 Contribution of Services No deduction is allowed for the contribution of services –Unreimbursed expenses related to the services are deductible –Out-of-pocket transportation costs or a standard mileage rate of 14 cents per mile are deductible –Deductions are also permitted for transportation, reasonable expenses for lodging, and the cost of meals while away from home incurred in performing the donated services

116. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 116 Nondeductible Items The following items may not be deducted as charitable contributions: –Dues, fees, or bills paid to country clubs, lodges, fraternal orders, or similar groups –Cost of raffle, bingo, or lottery tickets –Cost of tuition –Value of blood given to a blood bank –Donations to homeowners associations –Gifts to individuals –Rental value of property used by a qualified charity

117. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 117 Qualified Organizations To be deductible, contributions must be to a qualified domestic nonprofit organization or state or possession of U.S. or any subdivisions thereof –Many (but not all) qualified domestic charities are listed in IRS Publication #78

118. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 118 Record-Keeping Requirements No deduction is allowed for charitable contributions unless the taxpayer has appropriate documentation and substantiation –The specific type of documentation required depends on the amount of the contribution and whether the contribution is made in cash or noncash property –Special rules may apply to gifts of certain types of property (e.g., used automobiles) where Congress has noted taxpayer abuse in the past

119. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 119 Ordinary Income Property Defined: assets that would produce ordinary income or short-term capital gain if sold Contribution amount –FMV of asset less ordinary income (or STCG) potential; generally the lower of adjusted basis or FMV

120. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 120 Capital Gain Property Defined: assets that would produce long- term capital gain or Section 1231 gain if sold Contribution amount –Generally FMV of asset

121. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 121 Charitable Contribution Limitations (slide 1 of 4) 50% limit –In no case can the charitable contribution deduction for a year exceed 50% of the taxpayer’s AGI –Contributions of cash, ordinary income property, and certain capital gain property (where the contribution amount is adjusted basis) are subject to the 50% limit (50% assets) –Generally, applies to contributions to public charities e.g., Churches, schools, hospitals, and Federal, state, or local governmental units Also applies to private operating foundations and certain private nonoperating foundations

122. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 122 Charitable Contribution Limitations (slide 2 of 4) 30% limit –Charitable contribution deduction for certain assets cannot exceed 30% of the taxpayer’s AGI Applies to 30% assets which are: –Capital gain property for which the contribution amount is FMV –Certain contributions to private nonoperating foundations

123. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 123 Charitable Contribution Limitations (slide 3 of 4) 30% limit –Taxpayer can elect to treat capital gain property as 50% assets by limiting the amount of such contributions to their adjusted bases –Referred to as the reduced deduction election Enables the taxpayer to move from the 30% limitation to the 50% limitation

124. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 124 Charitable Contribution Limitations (slide 4 of 4) 20% limit –Certain contributions of capital gain property to private nonoperating foundations

125. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 125 Charitable Contributions Carryover Contributions that cannot be taken in current year due to limitations may be carried forward for 5 years –Contributions carried forward retain their classification e.g., If the contribution originally involved 30% property, the carryover will continue to be classified as 30% property in the carryover year –When using carryovers, current contributions are used first, then carryovers used on a FIFO basis

126. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 126 Example of Charitable Contribution AGI Limits Taxpayer, AGI $100,000, contributed $40,000 cash and long-term stocks with a FMV of $35,000 and a basis of $8,000 to a University 50% limit = $50,000 30% limit = $30,000 –Amount of deduction = $50,000 (40,000 cash + 10,000 stock) –Contribution carryforward = $25,000 stock (as 30% asset)

127. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 127 Miscellaneous Itemized Deductions Some expenditures are deductible only to the extent they exceed 2% of AGI Examples include: –Professional dues –Uniforms –Tax return prep fees –Job-hunting costs –Certain investment expenses –Hobby losses –Unreimbursed employee expenses

128. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 128 Misc. Itemized Deductions Not Subject to 2% of AGI Floor Examples include: –Gambling losses to the extent of gambling winnings –Impairment-related work expenses of a handicapped person –Deduction for repayment of amounts under a claim of right if more than $3,000 –Unrecovered investment in an annuity contract when annuity ceases by reason of death

129. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 129 Adoption Expenses Credit (slide 1 of 2) Credit for qualified adoption expenses incurred in adoption of eligible child –Examples of expenses: adoption fees, court costs, attorney fees Maximum credit is $12,170 (in 2010) –Credit is phased-out ratably for modified AGI between $182,520 and $222,520

130. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 130 Adoption Expenses Credit (slide 2 of 2) Eligible child is one that is –Less than 18 years of age, or –Physically or mentally incapable of taking care of himself or herself Nonrefundable credit –Excess may be carried forward for five years Married taxpayers must file jointly to claim

131. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 131 Child Tax Credit (slide 1 of 2) Credit amount is $1,000 per child Eligible children are: –Under age 17, –US citizen, and –Claimed as dependent on taxpayer’s tax return

132. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 132 Child Tax Credit (slide 2 of 2) Credit is phased out by $50 for each $1,000 of AGI above specified levels –$110,000 for joint filers –$55,000 for married filing separately –$75,000 for single

133. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 133 Child and Dependent Care Credit (slide 1 of 4) General qualifications for credit –Must have employment related care costs for a Dependent under age 13, or Dependent or spouse who is physically or mentally incapacitated and who lives with the taxpayer for more than one-half of the year

134. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 134 Child and Dependent Care Credit (slide 2 of 4) Credit amount –Eligible care costs × applicable percentage –Applicable percentage ranges from 20% to 35% depending on AGI Married taxpayers must file a joint return to obtain credit

135. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 135 Child and Dependent Care Credit (slide 3 of 4) Eligible care costs defined –Costs for care of qualified individual within taxpayer’s home or outside home If outside home, physically or mentally incapacitated dependent or spouse must spend at least 8 hours a day within taxpayer’s home –Amount of costs that qualify is the lesser of actual costs or $3,000 for one qualified individual, and $6,000 for two or more qualified individuals

136. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 136 Child and Dependent Care Credit (slide 4 of 4) Earned income limitation –Amount of eligible care costs cannot exceed lower of taxpayer’s or spouse’s earned income –Full-time student or disabled taxpayer or spouse are deemed to have earned income up to maximum per month limits

137. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 137 Education Tax Credits (slide 1 of 5) 2 education tax credits are available –American Opportunity credit (previously known as the Hope scholarship credit) –Lifetime learning credit Both nonrefundable credits are available for qualifying tuition and related expenses –Books and other course materials are eligible for the American Opportunity credit (but not the lifetime learning credit) –Room and board are ineligible for both credits

138. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 138 Education Tax Credits (slide 2 of 5) Maximum credits –American Opportunity credit maximum per eligible student is $2,500 per year for first 4 years of postsecondary education 100% of the first $2,000 of tuition expenses plus 25% of the next $2,000 of tuition expenses –Lifetime learning credit maximum per taxpayer is 20% of qualifying expenses (up to $10,000 per year in 2010) Cannot be claimed in same year the American Opportunity credit is claimed

139. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 139 Education Tax Credits (slide 3 of 5) Eligible individuals include taxpayer, spouse, and taxpayer’s dependents To be eligible for American Opportunity credit, student must take at least 1/2 of full- time course load –No such requirement for lifetime learning credit

140. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 140 Education Tax Credits (slide 4 of 5) Both education credits are subject to income limitations, which differ for 2009 and 2010 –In addition, 40% of the American Opportunity credit is refundable and the entire credit allowed may be used to offset a taxpayer’s AMT liability The lifetime learning credit is neither refundable nor an AMT liability offset The American Opportunity credit is phased out, beginning when the taxpayer’s modified AGI reaches $80,000 ($160,000 for married taxpayers filing jointly) –The credit is completely eliminated when modified AGI reaches $90,000 ($180,000 for married taxpayers filing jointly)

141. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 141 Education Tax Credits (slide 5 of 5) The lifetime learning credit amount is phased out when modified AGI reaches $50,000 ($100,000 for MFJ) –The credit is completely eliminated when AGI reaches $60,000($120,000 for MFJ) Taxpayers are prohibited from receiving a double tax benefit associated with qualifying educational expenses –Can’t claim education credit and deduct the same expenses –Can’t claim the credit for amounts that are excluded from income e.g., scholarships, employer-paid educational assistance –May claim an education tax credit and exclude from gross income amounts distributed from a Coverdell Education Savings Account as long as the distribution is not used for the same expenses for which the credit is claimed

142. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 142 Earned Income Credit (slide 1 of 3) General qualifications for credit –Must have earned income from being an employee or self-employed –For 2009 and 2010, ARRTA of 2009 increases Credit percentage for families with three or more children, and Phaseout threshold amounts for married taxpayers filing joint returns

143. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 143 Earned Income Credit (slide 2 of 3) Credit amount (2010 tax year) –Applicable percentage rate × earned income Rate and maximum amount of earned income determined by number of qualifying children Phase-out of credit begins when earned income (or AGI) exceeds $21,460 for MFJ with qualifying child ($16,450 for other taxpayers) Use IRS tables to calculate exact credit amount

144. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 144 Earned Income Credit (slide 3 of 3) Credit for taxpayers having no children –Available to taxpayers aged 25 through 64 Credit amount for couple filing jointly with no qualifying children (2010 tax year) –7.65% × earned income (up to $5,980) –Phase-out of credit begins when earned income (or AGI) exceeds $12,490 for MFJ ($7,480 for others)

145. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. 145 Making Work Pay Credit In 2009 and 2010, the ARRTA of 2009 includes a refundable income tax credit of up to $400 ($800 for MFJ) –Calculated at a rate of 6.2% of earned income –Phases out at a rate of 2% of modified AGI above $75,000 ($150,000 for MFJ) Most receive this refundable credit in their paychecks as a reduction in withholding

146. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. If you have any comments or suggestions concerning this PowerPoint Presentation for South-Western Federal Taxation, please contact: Dr. Donald R. Trippeer, CPA trippedr@oneonta.edu SUNY Oneonta