1. Tax Consequences of Personal Activities 17-1 Chapter 17 McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.

2. 17-2 Gross Income Section 61 states that gross income means all income from whatever source derived – even income from personal activities

3. 17-3 Gratuitous Receipts Prizes and awards are included in gross income Scholarships are excluded to the extent spent on: Tuition, books, fees, equipment required by institution Gifts, inheritances, and life insurance death benefits are excluded from gross income

4. 17-4 Legal Settlements and Government Payments Legal settlements are included in gross income unless compensation for physical injury or illness Workers’ compensation payments are excluded Unemployment compensation payments are included Need-based payments such as welfare and food stamps are excluded Social security: 85%, 50%, or 0% included in gross income depending on income level

5. 17-5 Divorce Property settlements are nontaxable Transferred property takes a carryover basis Alimony is taxable to the recipient, deductible above-the line by the payer Child support is neither taxable nor deductible

6. 17-6 Personal Use Assets and Personal Expenses Personal use assets Personal use assets may not be depreciated Gains on sale are generally capital gain Losses on sale are not deductible No deduction is allowed for personal, living, or family expenses except for: Medical expenses Local, state, and foreign income tax payments Home mortgage interest Charitable contributions

7. 17-7 Personal Expenses - Medical Taxpayers may deduct the excess of unreimbursed expenses over 7.5% of AGI as an itemized deduction Qualifying medical expenses include: Clinics, hospitals, long-term care facilities Medical aids (e.g., hearing aids, crutches) Prescription drugs Medical insurance premiums Doctors, dentists, chiropractors

8. 17-8 Personal Expenses - Taxes Individuals are allowed an itemized deduction for: Real or personal property taxes paid on nonbusiness assets Either state and local sales taxes or state and local income taxes Costs of tax compliance (e.g. tax preparation fees) are miscellaneous itemized deductions

9. 17-9 Personal Expenses – Charitable Contributions General limit – Itemized deduction limited to 50% of AGI for cash donation (less for capital assets) Carryover excess as an itemized deduction for 5 years Deduction amount LT capital assets = FMV of property Other property = lesser of FMV or basis

10. 17-10 Tax Subsidies for Education EE Savings Bonds Deduction for qualified tuition and fees Deduction for interest on qualified education loans American Opportunity Credit Lifetime Learning Credit Coverdell education savings accounts Qualified tuition programs

11. 17-11 Casualty Losses Casualty and theft losses Loss equals lesser of adjusted basis or decline in FMV of property resulting from casualty or theft Loss reduced by insurance reimbursement Loss in excess of $100 floor per casualty is deductible Deduction limited to excess of aggregate losses over 10% AGI

12. 17-12 Hobby and Gambling Losses Activity not entered into for profit (hobby) Revenue is included in gross income Expenses are miscellaneous itemized deductions limited to the amount of revenue from hobby If the activity generates a profit in 3 of 5 years, the IRS presumes it is a business and losses are deductible Gambling losses Itemized deduction but not miscellaneous Limited to gambling winnings

13. 17-13 Home Mortgage Interest Qualified residence interest is an itemized deduction Interest on acquisition debt up to $1 million Interest on home equity debt up to $100,000 Deduction is available for mortgage on principal residence and one other personal residence

14. 17-14 Vacation Home Rental Residence is subject to vacation home rules if the owner’s days of personal use exceed the greater of 14 days or 10% of rental days Expenses attributable to rental days are deductible to the extent of rental revenues Vacation home rental can’t generate a net loss deductible against other income Nondeductible loss carries forward

15. 17-15 Gain on Sale of Principal Residence $250,000 exclusion of gain on sale of home Owner must have used the home as a principal residence for two years out of the five years ending on date of sale Exclusion doubled to $500,000 for MFJ Exclusion applies to only one sale in a two-year period Owners who sell a home but don’t satisfy the above requirements may be eligible for a reduced exclusion if the sale was necessitated by: Change of employment Health reasons Unforeseen circumstances

16. 17-16 Itemized Deductions as AMT Adjustments Medical deductions are allowed only to the extent they exceed 10% AGI Deductions for state and local taxes are disallowed Miscellaneous itemized deductions are disallowed Interest on home equity debt is disallowed