Which is the largest tax collected by the U.S. government? What types of taxpayers are subject to this tax?
-Federal income tax
-Taxpayers of income tax are individuals, corporations, estates, and trusts
Describe the differences between a proportional, progressive, and regressive tax rate structure.
-Proportional
The rate is constant over all levels of the base
-Progressive
As the base increases, the rate increases
-Regressive
As the base increases, the rate decreases
A tax jurisdiction has 3 taxpayers. Ann has income of $10,000 and paid $2,000 tax. Bill has income of $10,000 and paid $2,000 tax. Charles had income of $50,000 and paid $8,000 tax. Assume income is reflective of ability to pay.
Is the tax horizontally eq
...
In reviewing the tax rate schedule for a single taxpayer, Chuck notes that the tax on $75,000 is $4,867.50 plus 25 percent of the taxable income over $35,350. What does the $4,867.50 represent?
$4,867.50 represents the tax paid on the first $35,350 of income
Comprised of:
10% * ($8,700 - $0) = $870
15% * ($35,350 - $8,700) = $3,997.50
Dontae stated that he didn't want to earn any more money because it would "put him in a higher tax bracket." What is wrong with Dontae's reasoning?
He will make more money so his taxable income will increase
Additional income earned does not affect rate paid on existing income
He will just pay the higher rate on new income
-This is the marginal rate
Chuck
Single
$75,000 taxable income
$10,000 nontaxable investment income
How much tax will he owe?
What is his average / effective / current marginal tax rate?
Tax Due = $14,780, computed as:
$14,780 = $4,867.50 + 25% x ($75,000 - $35,350)
Average tax rate:
19.71% (14,780/75,000)
Effective tax rate:
17.39% (14,780/85,000)
Current marginal tax rate:
25%
Chuck
Single
$75,000 taxable income
$10,000 nontaxable investment income
What is his marginal tax rate if he:
Earns an extra $40,000 in taxable income?
Takes an extra $40,000 in deductions?
First have to calculate new taxes due under each scenario
Earns extra $40,000, taxable income now $115,000
Now owes $25,660.50
Deducts extra $40,000, taxable income now $35,000
Now owes $4,815
(25,660.5-14,780) / (4,815-14,780) = 27.2%
(4,815-14,780) / (3
Hugh has the choice between:
City of Heflin bond at 6 percent [non-taxable]
Surething bond at 9 percent [taxable]
Assume that both bonds have the same nontax characteristics
Hugh has a 40 percent marginal tax rate, in which bond should he invest?
City of Heflin bond
After-tax return of 6% because it is not taxed
Surething bond
After-tax return of 5.4%
Calculated: (9% * (1-.40)) = 5.4%
Benita is concerned that she will not be able to complete her tax return by April 15. Can she request an extension to file her return? By what date must she do so? If so, what is the latest date that she could file her return this year without penalty?
Benita can file an automatic 6 month extension to file
By April 15th
Latest date she can file without penalty: October 15th
Unless October 15th is on a weekend or holiday
When must tax due be paid?
-original due date
[LO2] Approximately what percentage of tax returns does the IRS audit? What are the implications of this number for the IRS's strategy in selecting returns for audit?
In 2011, the IRS audited 1.1% of all individual tax returns
1.5% of corporations
In 2002, 0.57% of individuals audited by IRS
Collection from $5.7B to $12.4B from 2002-2011
[LO2] Simon just received a 30-day letter from the IRS indicating a proposed assessment. Does he have to pay the additional tax? What are his options?
Does not have to pay the tax at this time
Simon can either:
Agree and pay tax
Not respond or request appeals conference
-No agreement results in 90-day letter
Does not have to pay the tax at this time
Simon can either:
Agree and pay tax
Not respond or request appeals conference
No agreement results in 90-day letter
Temporary regulation
Last 3 years
Same life as final regulations in those 3 years
Proposed regulations
Proposed regulations have no time limit
Less weight than temporary or final regulation
[LO5] What is the general rule for how many authorities a research memo should discuss?
Enough to provide a clear understanding of the issue and interpretation of the law
Most will cite 3+ depending on complexity of tax issue and relevance of supporting sources
Need to consider those sources that go against your for strongest argument
[LO5] What is the difference between primary and secondary authorities? Explain the role of each authority type in conducting tax research.
Primary authorities
Secondary authorities
[LO1] Shane has never filed a tax return despite earning excessive sums of money as a gambler. When does the statute of limitations expire for the years in which Shane has not filed a tax return?
Statute of limitations is indefinite
Never filing a return is fraud
[LO1] Latoya filed her tax return on February 10th this year. When will the statute of limitations expire for this tax return?
3 years from later of (1) filing date or (2) original due date
Filed: 2/10
Original due date: 4/15
Statute ends 3 years from 4/15
[LO1] Using the facts from the previous problem, how would your answer change if Latoya understated her income by 40 percent? How would your answer change if Latoya intentionally failed to report as taxable income any cash payments she received from her c
Understated income by 40%
6 year statute of limitations
From 4/15
What if she overstated her deductions by 40%?
Intentionally failed to report income
Indefinite statute of limitations
[LO2] Paula could not reach an agreement with the IRS at her appeals conference and has just received a 90-day letter. If she wants to litigate the issue but does not have sufficient cash to pay the proposed deficiency, what is her best court choice?
US Tax Court within 90 days
Allows taxpayer to dispute before paying
[LO2] Yong's tax return was audited because he calculated his tax liability incorrectly. What IRS audit procedure identified his tax return for audit?
Document Perfection program
Checks for math errors on return
[LO5] What is the difference between primary and secondary authorities? Explain the role of each authority type in conducting tax research.
Primary
-Official sources of tax law
-Generated by legislative, judicial, or executive branch
Secondary
-Unofficial interpretations of tax law
-Never to be cited
[LO5] Aldina has identified conflicting authorities that address her research question. How should she evaluate these authorities to make a conclusion?
Consider three things:
Hierarchy - higher the better
Jurisdiction - in your jurisdiction, the better
Age - newer the better
[LO5] Georgette has identified a 1983 court case that appears to answer her research question. What must she do to determine if the case still represents "current" law?
Court history located in the citator
Will show history of case (appealed, upheld, overturned)
Will show subsequent cases that cite the case
Favorable: strengthen authority
Unfavorable: weaken authority
[LO1] "The goal of tax planning is to minimize taxes." Explain why this statement is not true.
Goal of tax planning to maximize wealth
Takes into consideration tax and nontax costs and goals
[LO1] Describe the three parties engaged in every business transaction and how understanding taxes may aid in structuring transactions.
Three parties to transactions
Taxpayer
Transacting party (the other party)
Government
Identifying these parties and their influence on a specific transaction greatly enhances effective tax planning
[LO7] What is the difference between tax avoidance and tax evasion?
Tax avoidance is using legal methods to reduce taxes
Tax evasion is using illegal methods to reduce taxes
Tax evasion is punishable by fines and/or imprisonment
[LO3] Why is understanding the time value of money important for tax planning?
Taxes paid are cash outflows
-Cash paid (outflows) later are better
-Deferring income to pay taxes later
Tax savings are cash inflows
-Cash savings (inflows) now are better
-Accelerating deductions to pay less taxes now
[LO2, LO3 PLANNING] Tesha works for a company that pays a year-end bonus in January of each year (instead of December of the preceding year) to allow employees to defer the bonus income. Assume Congress recently passed tax legislation that decreases indiv
Does this increase or decrease the benefits of the bonus deferral this year?
Decreased tax rate increases benefit of tax deferral
What if Congress passed legislation that increased tax rates next year?
Increased tax rate decreases/eliminates benefit of
[LO2, LO3 PLANNING] Reese, a calendar-year taxpayer, uses the cash method of accounting for her sole proprietorship. In late December she received a $20,000 bill from her accountant for consulting services related to her small business.
Reese can pay the
Option 1: pay the $20,000 bill in December
After-tax cost:
$20,000 x 30% marginal rate = $6,000 tax savings
$20,000 - $6,000 = $14,000 after tax cost
Option 2: pay the $20,000 bill in January
After-tax cost:
$20,000 x 40% marginal rate = $8,000 in tax sav
[LO2, LO3 PLANNING] Using the facts from the previous problem, when should Reese pay the bill if she expects her marginal tax rate to be 33 percent next year? 25 percent next year?
Option 1: pay in December
Still $14,000 after tax cost
Option 2: rate changes to 33% - pay in January
$20,000 x 33% = $6,600 tax savings next year
$6,600 x .893 = $5,894
After tax cost: $20,000 - $5,894 = $14,106
Option 1: pay in December
Still $14,000 af
Explain why paying dividends is not an effective way to shift income from a corporation to its owners.
Corporations do not get a deduction for dividends paid
-Profits taxed at corporate level
-Shareholders taxed on dividends received
Describe the business purpose, step-transaction, and substance-over-form doctrines. What types of tax planning strategies may these doctrines inhibit?
Business purpose
-IRS can challenge/disallow business expenses with no business reason
Step-transaction
-Collapse multiple transactions into one
Substance over form
-Substance of transaction more important than form
-What it is > what you say it is
Used t
Bendetta pays a lot of tax and owns a lot of rental properties
She wants to shift income to her daughter, Jenine
Instructs tenants to send checks to Jenine so she can report the income
Will this shift the income from Bendetta to Jenine? Why or why not?
No
What doctrine?
Assignment of income doctrine
Whoever earns it reports the income regardless of who actually receives it
Same scenario as Problem #49
How can Bendetta shift income to Jenine?
What are the disadvantages of doing this?
Could employ her daughter
Disadvantage: Jenine must actually perform the services, compensation must be reasonable
Transfer ownership of the properties to Jenine
Disadvantage: Have to give up property completely
Helen owns 1,000 shares of Fizbo Inc. stock
Purchased 11 months ago
Appreciated $20/share in 11 months
Capital gains rates apply
15% for long term, 35% for short term
How much would she save by waiting a month to sell?
Total gain: $20/share x 1,000 shares = $20,000
-Waits a month: $20,000 * 15% = $3,000
-Sells now: $20,000 * 35% = $7,000
Saves $4,000 in tax by waiting
What might prevent Helen from waiting to sell?
Addi
Duff hates taxes and is aggressive
He just now realized it is harder for IRS to track cash transactions, thanks to his genius friend
He contemplates not reporting his cash transactions
Is this tax planning?
-No, generally this is what we refer to as tax evasion
What are the risks with this strategy?
-Large monetary penalties
-Jail time
-And getting caught giving his friend a black eye
How are realized income, gross income, and taxable income similar, and how are they different?
Realized income
-all income resulting in transaction between parties
Gross income
-all realized income that is not excluded
Taxable income
-gross income minus deductions for and from AGI
Compare and contrast for and from AGI deductions. Why are for AGI deductions likely more valuable to taxpayers than from AGI deductions?
For AGI
-Above the line
-Reduce taxable income dollar for dollar
From AGI
-Below the line
-Only beneficial if you itemize deductions
What is the difference between a tax deduction and a tax credit? Is one more beneficial than the other? Explain.
Tax deduction
For AGI: Reduces taxable income dollar for dollar
From AGI: Potentially reduces taxable income (if itemize)
Tax savings of deduction = amount times marginal tax rate
Tax credit
Reduce tax liability by amount of credit
More beneficial?
Tax cr
David and Lilly Fernandez have determined their tax liability on their joint tax return to be $1,700. They have made prepayments of $1,500 and also have a child tax credit of $1,000. What is the amount of their tax refund or taxes due?
total tax 1700
child tax credit 1000
prepayments 1500
tax refund (800) [1-2-3]
{Planning} Rick, who is single, has been offered a position as a city landscape consultant. The position pays $125,000 in cash wages. Assume Rick files single and is entitled to one personal exemption. Rick deducts the standard deduction instead of itemiz
solution a
(1)gross income 125,000
(2)adjusted gross income 125,000
(3)standard deduction 5950 single taxpayer
(4)personal exemptions 3800 [3800 X 1 (personal exemption)]
(5)taxable income 115,250 [2-3-4]
(6)income tax liability 25,730.5 [(115,250-85650)*
In general terms, what are the differences in the rules for determining who is a qualifying child and who qualifies as a dependent as a qualifying relative? Is it possible for someone to be a qualifying child and a qualifying relative of the same taxpayer
Relationship requirement
-More inclusive in qualifying relative
Age requirement
-None on qualifying relative
-Gross income requirement
-None on qualifying child
Support
-Dependent provides < � for qualifying child
-Taxpayer provides > � for qualifying rel
Jason, 22 years old adopted son
Full-time student
Lived with parents 3 months, out of state the remainder
$9,500 in scholarships
$3,900 part-time job income
$4,000 support from the Samsons
solution a
relationship - yes, adopted son qualifies
age - yes < 24 and full time student (and younger than parents)
residence- yes temporary absences count as time in parents' home
support- The Samsons provided $4,000 of support for Jason. Jason provided
Francine's mother Donna and her father Darren separated and divorced in September of this year. Francine lived with both parents until the separation. Francine does not provide more than half of her own support. Francine is 15 years old at the end of the
solution a
relationship - yes Francine is Donna's daughter
age- Yes, under age 19 at end of year (and younger than Donna)
residence- Yes, Francine lived with Donna for more than half the year.
support - Yes, Francine does not provide more than half her ow
[LO 2] Jamel and Jennifer have 3 daughters, all of whom lived at home
Jade, 12
Lindsay, 17
Abbi, 22, full-time student, no gross income
None of the daughters provide more than half of her own support.
solution a
All daughter qualify as qualifying children status
May claim 5 exemptions
2 personal
3 dependency
solution b
Assume Abbi is married but still lives with her parents with her husband. Abbi files joint return with her husband and report $1,000 ta
What requirements do an abandoned spouse and qualifying widow or widower have in common?
Filing status:
-Abandoned spouse: HOH
-Qualifying widow: qualifying widow(er) with benefit of MFJ tax tables and MFJ std. deduction
Living with spouse
-Abandoned spouse: not for last 6 months
-Qualifying widow: not through death
Dependents
-Abandoned spou
For tax purposes, why is the married filing jointly tax status generally preferable to the married filing separately filing status? Why might a married taxpayer prefer not to file a joint return with the taxpayer's spouse?
MFJ
-Combine income and deductions
-More favorable tax rate schedules and higher phase-out thresholds for various tax benefits
MFS
-Generally for non-tax purposes
-Don't want anything to do with the other
-Don't want to be liable for spouses tax liability
Juan and Bonita are married and have two dependent children living at home. This year, Juan is killed in an avalanche while skiing.
solution a
What is Bonita's filing status this year?
Married filing jointly
solution b
Assuming Bonita doesn't remarry and still has two dependent children living at home, what will her filing status be next year?
Qualifying widow
-Within 2 years, not rem
Elroy, who is single, has taken over the care of his mother Irene in her old age. Elroy pays the bills relating to Irene's home. He also buys all her groceries and provides the rest of her support. Irene has no gross income.
solution a
What is Elroy's filing status?
Head of household
relationship- yes. irene is elroy's mother
support - yes. elroy provides > 1/2 of irene's support
gross income- yes irenes gross income < 3000
residence - not applicable
solution b
Assume the ori
In each of the following independent situations, determine the taxpayer's filing status and the number of personal and dependency exemptions the taxpayer is allowed to claim.
solution a
Frank is single and supports his 17-year-old brother, Bill. Bill earned $3,000 and did not live with Frank.
Filing status: single
Exemptions: 2
Bill is qualifying relative
[Why not HOH? - Bill did not live with Frank for half the year
QR rules?
Alexandra is a blind widow (spouse died five years ago) who provides a home for her 18-year-old nephew, Newt (Newt is Alexandra's brother's son). Newt's parents are dead, and so Newt supports himself. Newt's gross income is $5,000.
Filing status: Single
Exemptions: 1
1 personal, 0 dependency
Newt is not qualifying child or relative
[Qualifying child: he provides over half of his own support
Qualifying relative: she doesn't provide over half of his support and his income >3800
He doe
Received check last week of December. Waited until January to cash the check to avoid income recognition.
What if she didn't open the envelope?
What if she refused to check her mail in the last week of December?
Does not matter what she does, the income is unconditionally available to her in December
Doctrine of constructive receipt
Dewey is a lawyer who uses the cash method of accounting. Last year Dewey provided a client with legal services worth $55,000. This year Dewey requested that in lieu of paying Dewey $55,000 for the services, the client could make a $45,000 gift to Dewey's
Cash method taxpayer reports income on value of property received
$45,000 of income recognized
Who reports income?
Dewey, not his daughter
Assignment of income doctrine
For the following independent cases, determine whether economic income is present and, if so, whether it must be included in gross income (that is, is it realized and recognized for tax purposes?).
solution a
Asia owns stock that is listed on the New York Exchange, and this year the stock increased in value by $20,000.
Economic income of $20,000
No realization or recognition
solution b
Ben sold stock for $10,000 and paid sales commission of $250. Be
Louis files as a single taxpayer. In April of this year he received a $900 refund of state income taxes that he paid last year. How much of the refund, if any, must Louis include in gross income under the following independent scenarios? Assume the standa
solution a
Last year Louis claimed itemized deductions of $6,050. Louis's itemized deductions included state income taxes paid of $1,750.
Itemized deductions: $6,050
Less Standard deduction: (5,800)
Tax benefit: $250
Refund of: $900
Include in gross incom
Identify the amount, if any, that these individuals must include in gross income in the following independent cases. Assume that the individuals are on the cash method of accounting and report income on a calendar-year basis.
solution a
Elmer was an extremely diligent employee this year, and his employer gave him three additional days off with pay (Elmer's gross pay for the three days totaled $1,200, but his net pay was only $948).
Elmer should include in gross income the $1,2
Jerry has a certificate of deposit at the local bank. The interest on this certificate was credited to his account on December 31 of last year but he didn't withdraw the interest until January of this year. When is the interest income is taxed?
Earned the income last year
Brad purchased land for $45,000 this year. At year-end Brad sold the land for $51,700 and paid a sales commission of $450. What effect does this transaction have on Brad's gross income? Explain.
Sales price: $51,700
Less sales commissions: ($450)
Amount realized: $51,250
Less tax basis: ($45,000)
Amount recognized-gain: $6,250
Clem and Ida have been married for several years, but this year they decided to get divorced. In the divorce decree, Clem agreed to deed his car to Ida and pay Ida $10,000 per year for four years. Will either of these transfers qualify as alimony for tax
Transfer of cash under written agreement
Is not child support or property settlement
Spouses do not live together
Payments cannot continue beyond recipient's death
Larry Bounds has won the gold bat award for hitting the longest home run in major league baseball this year. The bat is worth almost $35,000. Under what conditions can Larry exclude the award from his gross income? Explain.
Scientific, literary, civic, or charitable achievement excluded only if:
Selected without any action on recipient's part
Recipient not required to perform substantial services
Transfer prize to qualified charity
Does not qualify
Rory and Nicholi both receive $15,000 Social Security
Nicholi's only source of income
Rory has $200,000 in other income
What percentage of benefits to include in gross income?
Nicholi
Low income
100% excluded from gross income
Rory
High income
85% included in gross income
Anne purchased an annuity from an insurance company that promised to pay her $20,000 per year for the next ten years. Anne paid $145,000 for the annuity, and in exchange she will receive $200,000 over the term of the annuity.
solution a
How much of the first $20,000 payment should Anne include in gross income?
Exclusion ratio = 72.5%
$20,000 * 72.5% = $14,500 excluded
$5,500 of each payment included in income
solution b
How much income will Anne recognize over the term of the
For each of the following independent situations, indicate the amount the taxpayer must include in gross income and explain your answer:
solution a
Phil won $500 in the scratch-off state lottery. There is no state income tax.
All $500 recognized
solution b
Ted won a compact car worth $17,000 in a TV game show. Ted plans to sell the car next year.
All $17,000 recognized (FMV)
solution c
Al
Nikki works for the Shine Company, a retailer of upscale jewelry. How much taxable income does Nikki recognize under the following scenarios?
solution a
Nikki buys a diamond ring from Shine Company for $10,000 (normal sales price, $14,000; Shine Company's cost, $8,000).
Pays more than cost, no income recognition
solution b
Nikki receives a 25% discount on jewelry restoration services offered by
Wally is employed as an executive with Pay More Incorporated. To entice Wally to work for Pay More, the corporation loaned him $20,000 at the beginning of the year at a simple interest rate of 1 percent. Wally would have paid interest of $2,400 this year
solution a
Corporation
$200 of interest income and $2,200 of imputed interest income
$2,200 compensation deduction
Individual
$2,200 compensation income
Interest not deductible because for personal purposes
solution b
Still $2,200 compensation income for
a) Steve was awarded a $5,000 scholarship to attend State Law School. The scholarship pays Steve's tuition and fees.
b) Hal was awarded a $15,000 scholarship to attend State Hotel School. All scholarship students must work 20 hours per week at the School
solution a
Excluded from gross income
solution b
Included in gross income
solution c
$12,000 scholarship excluded from gross income
$500 monthly stipend is included in gross income
Cannot exclude payments for food and housing
Grady is a member of a large family and received the following payments this year. For each payment, determine whether the payment constitutes realized income and determine the amount of each payment Grady must include in his gross income.
solution a
A gift of $20,000 from Grady's grandfather.
Realized, not recognized in income
solution b
1,000 shares of GM stock worth $120 per share inherited from Grady's uncle. The uncle purchased the shares for $25 each and the shares are worth $125 at y
a) Janus sued Tiny Toys for personal injuries from swallowing a toy. Janus was paid $30,000 for medical costs and $250,000 for punitive damages.
b)Carl was injured in a car accident. Carl's insurance paid him $500 to reimburse his medical expenses and an
solution a
$30,000 excluded, $250,000 recognized in gross income
solution b
Reimbursed medical costs excluded from gross income
Reimbursement for emotional distress associated with physical injury excluded from income
solution c
No physical injury, includ
Which is the largest tax collected by the U.S. government? What types of taxpayers are subject to this tax?
=-federal INCOME tax
-taxpayers of INCOME tax are Individuals, corporations, estates, and trusts
Describe the differences between a proportional, progressive, and regressive tax rate structure.
=-proportional
the rate Is constant over all levels of the base
-progressive
as the base increases, the rate increases
-Regressive
as the base increases, the rate Decreases
A tax jurisdiction has 3 taxpayers. Ann has income of $10,000 and paid $2,000 tax. Bill has income of $10,000 and paid $2,000 tax. Charles had income of $50,000 and paid $8,000 tax. Assume income is reflective of ability to pay.
Is the tax horizontally eq
...
In reviewing the tax rate schedule for a single taxpayer, Chuck notes that the tax on $75,000 is $4,867.50 plus 25 percent of the taxable income over $35,350. What does the $4,867.50 represent?
$4,867.50 represents the tax paid on the first $35,350 of income
Comprised of:
10% * ($8,700 - $0) = $870
15% * ($35,350 - $8,700) = $3,997.50
Dontae stated that he didn't want to earn any more money because it would "put him in a higher tax bracket." What is wrong with Dontae's reasoning?
He will make more money so his taxable income will increase
Additional income earned does not affect rate paid on existing income
He will just pay the higher rate on new income
-This is the marginal rate
Chuck
Single
$75,000 taxable income
$10,000 nontaxable investment income
How much tax will he owe?
What is his average / effective / current marginal tax rate?
Tax Due = $14,780, computed as:
$14,780 = $4,867.50 + 25% x ($75,000 - $35,350)
Average tax rate:
19.71% (14,780/75,000)
Effective tax rate:
17.39% (14,780/85,000)
Current marginal tax rate:
25%
Chuck
Single
$75,000 taxable income
$10,000 nontaxable investment income
What is his marginal tax rate if he:
Earns an extra $40,000 in taxable income?
Takes an extra $40,000 in deductions?
First have to calculate new taxes due under each scenario
Earns extra $40,000, taxable income now $115,000
Now owes $25,660.50
Deducts extra $40,000, taxable income now $35,000
Now owes $4,815
(25,660.5-14,780) / (4,815-14,780) = 27.2%
(4,815-14,780) / (3
Hugh has the choice between:
City of Heflin bond at 6 percent [non-taxable]
Surething bond at 9 percent [taxable]
Assume that both bonds have the same nontax characteristics
Hugh has a 40 percent marginal tax rate, in which bond should he invest?
City of Heflin bond
After-tax return of 6% because it is not taxed
Surething bond
After-tax return of 5.4%
Calculated: (9% * (1-.40)) = 5.4%
Benita is concerned that she will not be able to complete her tax return by April 15. Can she request an extension to file her return? By what date must she do so? If so, what is the latest date that she could file her return this year without penalty?
Benita can file an automatic 6 month extension to file
By April 15th
Latest date she can file without penalty: October 15th
Unless October 15th is on a weekend or holiday
When must tax due be paid?
-original due date
[LO2] Approximately what percentage of tax returns does the IRS audit? What are the implications of this number for the IRS's strategy in selecting returns for audit?
In 2011, the IRS audited 1.1% of all individual tax returns
1.5% of corporations
In 2002, 0.57% of individuals audited by IRS
Collection from $5.7B to $12.4B from 2002-2011
[LO2] Simon just received a 30-day letter from the IRS indicating a proposed assessment. Does he have to pay the additional tax? What are his options?
Does not have to pay the tax at this time
Simon can either:
Agree and pay tax
Not respond or request appeals conference
-No agreement results in 90-day letter
Does not have to pay the tax at this time
Simon can either:
Agree and pay tax
Not respond or request appeals conference
No agreement results in 90-day letter
Temporary regulation
Last 3 years
Same life as final regulations in those 3 years
Proposed regulations
Proposed regulations have no time limit
Less weight than temporary or final regulation
[LO5] What is the general rule for how many authorities a research memo should discuss?
Enough to provide a clear understanding of the issue and interpretation of the law
Most will cite 3+ depending on complexity of tax issue and relevance of supporting sources
Need to consider those sources that go against your for strongest argument
[LO5] What is the difference between primary and secondary authorities? Explain the role of each authority type in conducting tax research.
Primary authorities
Secondary authorities
[LO1] Shane has never filed a tax return despite earning excessive sums of money as a gambler. When does the statute of limitations expire for the years in which Shane has not filed a tax return?
Statute of limitations is indefinite
Never filing a return is fraud
[LO1] Latoya filed her tax return on February 10th this year. When will the statute of limitations expire for this tax return?
3 years from later of (1) filing date or (2) original due date
Filed: 2/10
Original due date: 4/15
Statute ends 3 years from 4/15
[LO1] Using the facts from the previous problem, how would your answer change if Latoya understated her income by 40 percent? How would your answer change if Latoya intentionally failed to report as taxable income any cash payments she received from her c
Understated income by 40%
6 year statute of limitations
From 4/15
What if she overstated her deductions by 40%?
Intentionally failed to report income
Indefinite statute of limitations
[LO2] Paula could not reach an agreement with the IRS at her appeals conference and has just received a 90-day letter. If she wants to litigate the issue but does not have sufficient cash to pay the proposed deficiency, what is her best court choice?
US Tax Court within 90 days
Allows taxpayer to dispute before paying
[LO2] Yong's tax return was audited because he calculated his tax liability incorrectly. What IRS audit procedure identified his tax return for audit?
Document Perfection program
Checks for math errors on return
[LO5] What is the difference between primary and secondary authorities? Explain the role of each authority type in conducting tax research.
Primary
-Official sources of tax law
-Generated by legislative, judicial, or executive branch
Secondary
-Unofficial interpretations of tax law
-Never to be cited
[LO5] Aldina has identified conflicting authorities that address her research question. How should she evaluate these authorities to make a conclusion?
Consider three things:
Hierarchy - higher the better
Jurisdiction - in your jurisdiction, the better
Age - newer the better
[LO5] Georgette has identified a 1983 court case that appears to answer her research question. What must she do to determine if the case still represents "current" law?
Court history located in the citator
Will show history of case (appealed, upheld, overturned)
Will show subsequent cases that cite the case
Favorable: strengthen authority
Unfavorable: weaken authority
[LO1] "The goal of tax planning is to minimize taxes." Explain why this statement is not true.
Goal of tax planning to maximize wealth
Takes into consideration tax and nontax costs and goals
[LO1] Describe the three parties engaged in every business transaction and how understanding taxes may aid in structuring transactions.
Three parties to transactions
Taxpayer
Transacting party (the other party)
Government
Identifying these parties and their influence on a specific transaction greatly enhances effective tax planning
[LO7] What is the difference between tax avoidance and tax evasion?
Tax avoidance is using legal methods to reduce taxes
Tax evasion is using illegal methods to reduce taxes
Tax evasion is punishable by fines and/or imprisonment
[LO3] Why is understanding the time value of money important for tax planning?
Taxes paid are cash outflows
-Cash paid (outflows) later are better
-Deferring income to pay taxes later
Tax savings are cash inflows
-Cash savings (inflows) now are better
-Accelerating deductions to pay less taxes now
[LO2, LO3 PLANNING] Tesha works for a company that pays a year-end bonus in January of each year (instead of December of the preceding year) to allow employees to defer the bonus income. Assume Congress recently passed tax legislation that decreases indiv
Does this increase or decrease the benefits of the bonus deferral this year?
Decreased tax rate increases benefit of tax deferral
What if Congress passed legislation that increased tax rates next year?
Increased tax rate decreases/eliminates benefit of
[LO2, LO3 PLANNING] Reese, a calendar-year taxpayer, uses the cash method of accounting for her sole proprietorship. In late December she received a $20,000 bill from her accountant for consulting services related to her small business.
Reese can pay the
Option 1: pay the $20,000 bill in December
After-tax cost:
$20,000 x 30% marginal rate = $6,000 tax savings
$20,000 - $6,000 = $14,000 after tax cost
Option 2: pay the $20,000 bill in January
After-tax cost:
$20,000 x 40% marginal rate = $8,000 in tax sav
[LO2, LO3 PLANNING] Using the facts from the previous problem, when should Reese pay the bill if she expects her marginal tax rate to be 33 percent next year? 25 percent next year?
Option 1: pay in December
Still $14,000 after tax cost
Option 2: rate changes to 33% - pay in January
$20,000 x 33% = $6,600 tax savings next year
$6,600 x .893 = $5,894
After tax cost: $20,000 - $5,894 = $14,106
Option 1: pay in December
Still $14,000 af
Explain why paying dividends is not an effective way to shift income from a corporation to its owners.
Corporations do not get a deduction for dividends paid
-Profits taxed at corporate level
-Shareholders taxed on dividends received
Describe the business purpose, step-transaction, and substance-over-form doctrines. What types of tax planning strategies may these doctrines inhibit?
Business purpose
-IRS can challenge/disallow business expenses with no business reason
Step-transaction
-Collapse multiple transactions into one
Substance over form
-Substance of transaction more important than form
-What it is > what you say it is
Used t
Bendetta pays a lot of tax and owns a lot of rental properties
She wants to shift income to her daughter, Jenine
Instructs tenants to send checks to Jenine so she can report the income
Will this shift the income from Bendetta to Jenine? Why or why not?
No
What doctrine?
Assignment of income doctrine
Whoever earns it reports the income regardless of who actually receives it
Same scenario as Problem #49
How can Bendetta shift income to Jenine?
What are the disadvantages of doing this?
Could employ her daughter
Disadvantage: Jenine must actually perform the services, compensation must be reasonable
Transfer ownership of the properties to Jenine
Disadvantage: Have to give up property completely
Helen owns 1,000 shares of Fizbo Inc. stock
Purchased 11 months ago
Appreciated $20/share in 11 months
Capital gains rates apply
15% for long term, 35% for short term
How much would she save by waiting a month to sell?
Total gain: $20/share x 1,000 shares = $20,000
-Waits a month: $20,000 * 15% = $3,000
-Sells now: $20,000 * 35% = $7,000
Saves $4,000 in tax by waiting
What might prevent Helen from waiting to sell?
Addi
Duff hates taxes and is aggressive
He just now realized it is harder for IRS to track cash transactions, thanks to his genius friend
He contemplates not reporting his cash transactions
Is this tax planning?
-No, generally this is what we refer to as tax evasion
What are the risks with this strategy?
-Large monetary penalties
-Jail time
-And getting caught giving his friend a black eye
How are realized income, gross income, and taxable income similar, and how are they different?
Realized income
-all income resulting in transaction between parties
Gross income
-all realized income that is not excluded
Taxable income
-gross income minus deductions for and from AGI
Compare and contrast for and from AGI deductions. Why are for AGI deductions likely more valuable to taxpayers than from AGI deductions?
For AGI
-Above the line
-Reduce taxable income dollar for dollar
From AGI
-Below the line
-Only beneficial if you itemize deductions
What is the difference between a tax deduction and a tax credit? Is one more beneficial than the other? Explain.
Tax deduction
For AGI: Reduces taxable income dollar for dollar
From AGI: Potentially reduces taxable income (if itemize)
Tax savings of deduction = amount times marginal tax rate
Tax credit
Reduce tax liability by amount of credit
More beneficial?
Tax cr
David and Lilly Fernandez have determined their tax liability on their joint tax return to be $1,700. They have made prepayments of $1,500 and also have a child tax credit of $1,000. What is the amount of their tax refund or taxes due?
total tax 1700
child tax credit 1000
prepayments 1500
tax refund (800) [1-2-3]
{Planning} Rick, who is single, has been offered a position as a city landscape consultant. The position pays $125,000 in cash wages. Assume Rick files single and is entitled to one personal exemption. Rick deducts the standard deduction instead of itemiz
solution a
(1)gross income 125,000
(2)adjusted gross income 125,000
(3)standard deduction 5950 single taxpayer
(4)personal exemptions 3800 [3800 X 1 (personal exemption)]
(5)taxable income 115,250 [2-3-4]
(6)income tax liability 25,730.5 [(115,250-85650)*
In general terms, what are the differences in the rules for determining who is a qualifying child and who qualifies as a dependent as a qualifying relative? Is it possible for someone to be a qualifying child and a qualifying relative of the same taxpayer
Relationship requirement
-More inclusive in qualifying relative
Age requirement
-None on qualifying relative
-Gross income requirement
-None on qualifying child
Support
-Dependent provides < � for qualifying child
-Taxpayer provides > � for qualifying rel
Jason, 22 years old adopted son
Full-time student
Lived with parents 3 months, out of state the remainder
$9,500 in scholarships
$3,900 part-time job income
$4,000 support from the Samsons
solution a
relationship - yes, adopted son qualifies
age - yes < 24 and full time student (and younger than parents)
residence- yes temporary absences count as time in parents' home
support- The Samsons provided $4,000 of support for Jason. Jason provided
Francine's mother Donna and her father Darren separated and divorced in September of this year. Francine lived with both parents until the separation. Francine does not provide more than half of her own support. Francine is 15 years old at the end of the
solution a
relationship - yes Francine is Donna's daughter
age- Yes, under age 19 at end of year (and younger than Donna)
residence- Yes, Francine lived with Donna for more than half the year.
support - Yes, Francine does not provide more than half her ow
[LO 2] Jamel and Jennifer have 3 daughters, all of whom lived at home
Jade, 12
Lindsay, 17
Abbi, 22, full-time student, no gross income
None of the daughters provide more than half of her own support.
solution a
All daughter qualify as qualifying children status
May claim 5 exemptions
2 personal
3 dependency
solution b
Assume Abbi is married but still lives with her parents with her husband. Abbi files joint return with her husband and report $1,000 ta
What requirements do an abandoned spouse and qualifying widow or widower have in common?
Filing status:
-Abandoned spouse: HOH
-Qualifying widow: qualifying widow(er) with benefit of MFJ tax tables and MFJ std. deduction
Living with spouse
-Abandoned spouse: not for last 6 months
-Qualifying widow: not through death
Dependents
-Abandoned spou
For tax purposes, why is the married filing jointly tax status generally preferable to the married filing separately filing status? Why might a married taxpayer prefer not to file a joint return with the taxpayer's spouse?
MFJ
-Combine income and deductions
-More favorable tax rate schedules and higher phase-out thresholds for various tax benefits
MFS
-Generally for non-tax purposes
-Don't want anything to do with the other
-Don't want to be liable for spouses tax liability
Juan and Bonita are married and have two dependent children living at home. This year, Juan is killed in an avalanche while skiing.
solution a
What is Bonita's filing status this year?
Married filing jointly
solution b
Assuming Bonita doesn't remarry and still has two dependent children living at home, what will her filing status be next year?
Qualifying widow
-Within 2 years, not rem
Elroy, who is single, has taken over the care of his mother Irene in her old age. Elroy pays the bills relating to Irene's home. He also buys all her groceries and provides the rest of her support. Irene has no gross income.
solution a
What is Elroy's filing status?
Head of household
relationship- yes. irene is elroy's mother
support - yes. elroy provides > 1/2 of irene's support
gross income- yes irenes gross income < 3000
residence - not applicable
solution b
Assume the ori
In each of the following independent situations, determine the taxpayer's filing status and the number of personal and dependency exemptions the taxpayer is allowed to claim.
solution a
Frank is single and supports his 17-year-old brother, Bill. Bill earned $3,000 and did not live with Frank.
Filing status: single
Exemptions: 2
Bill is qualifying relative
[Why not HOH? - Bill did not live with Frank for half the year
QR rules?
Alexandra is a blind widow (spouse died five years ago) who provides a home for her 18-year-old nephew, Newt (Newt is Alexandra's brother's son). Newt's parents are dead, and so Newt supports himself. Newt's gross income is $5,000.
Filing status: Single
Exemptions: 1
1 personal, 0 dependency
Newt is not qualifying child or relative
[Qualifying child: he provides over half of his own support
Qualifying relative: she doesn't provide over half of his support and his income >3800
He doe
Received check last week of December. Waited until January to cash the check to avoid income recognition.
What if she didn't open the envelope?
What if she refused to check her mail in the last week of December?
Does not matter what she does, the income is unconditionally available to her in December
Doctrine of constructive receipt
Dewey is a lawyer who uses the cash method of accounting. Last year Dewey provided a client with legal services worth $55,000. This year Dewey requested that in lieu of paying Dewey $55,000 for the services, the client could make a $45,000 gift to Dewey's
Cash method taxpayer reports income on value of property received
$45,000 of income recognized
Who reports income?
Dewey, not his daughter
Assignment of income doctrine
For the following independent cases, determine whether economic income is present and, if so, whether it must be included in gross income (that is, is it realized and recognized for tax purposes?).
solution a
Asia owns stock that is listed on the New York Exchange, and this year the stock increased in value by $20,000.
Economic income of $20,000
No realization or recognition
solution b
Ben sold stock for $10,000 and paid sales commission of $250. Be
Louis files as a single taxpayer. In April of this year he received a $900 refund of state income taxes that he paid last year. How much of the refund, if any, must Louis include in gross income under the following independent scenarios? Assume the standa
solution a
Last year Louis claimed itemized deductions of $6,050. Louis's itemized deductions included state income taxes paid of $1,750.
Itemized deductions: $6,050
Less Standard deduction: (5,800)
Tax benefit: $250
Refund of: $900
Include in gross incom
Identify the amount, if any, that these individuals must include in gross income in the following independent cases. Assume that the individuals are on the cash method of accounting and report income on a calendar-year basis.
solution a
Elmer was an extremely diligent employee this year, and his employer gave him three additional days off with pay (Elmer's gross pay for the three days totaled $1,200, but his net pay was only $948).
Elmer should include in gross income the $1,2
Jerry has a certificate of deposit at the local bank. The interest on this certificate was credited to his account on December 31 of last year but he didn't withdraw the interest until January of this year. When is the interest income is taxed?
Earned the income last year
Brad purchased land for $45,000 this year. At year-end Brad sold the land for $51,700 and paid a sales commission of $450. What effect does this transaction have on Brad's gross income? Explain.
Sales price: $51,700
Less sales commissions: ($450)
Amount realized: $51,250
Less tax basis: ($45,000)
Amount recognized-gain: $6,250
Clem and Ida have been married for several years, but this year they decided to get divorced. In the divorce decree, Clem agreed to deed his car to Ida and pay Ida $10,000 per year for four years. Will either of these transfers qualify as alimony for tax
Transfer of cash under written agreement
Is not child support or property settlement
Spouses do not live together
Payments cannot continue beyond recipient's death
Larry Bounds has won the gold bat award for hitting the longest home run in major league baseball this year. The bat is worth almost $35,000. Under what conditions can Larry exclude the award from his gross income? Explain.
Scientific, literary, civic, or charitable achievement excluded only if:
Selected without any action on recipient's part
Recipient not required to perform substantial services
Transfer prize to qualified charity
Does not qualify
Rory and Nicholi both receive $15,000 Social Security
Nicholi's only source of income
Rory has $200,000 in other income
What percentage of benefits to include in gross income?
Nicholi
Low income
100% excluded from gross income
Rory
High income
85% included in gross income
Anne purchased an annuity from an insurance company that promised to pay her $20,000 per year for the next ten years. Anne paid $145,000 for the annuity, and in exchange she will receive $200,000 over the term of the annuity.
solution a
How much of the first $20,000 payment should Anne include in gross income?
Exclusion ratio = 72.5%
$20,000 * 72.5% = $14,500 excluded
$5,500 of each payment included in income
solution b
How much income will Anne recognize over the term of the
For each of the following independent situations, indicate the amount the taxpayer must include in gross income and explain your answer:
solution a
Phil won $500 in the scratch-off state lottery. There is no state income tax.
All $500 recognized
solution b
Ted won a compact car worth $17,000 in a TV game show. Ted plans to sell the car next year.
All $17,000 recognized (FMV)
solution c
Al
Nikki works for the Shine Company, a retailer of upscale jewelry. How much taxable income does Nikki recognize under the following scenarios?
solution a
Nikki buys a diamond ring from Shine Company for $10,000 (normal sales price, $14,000; Shine Company's cost, $8,000).
Pays more than cost, no income recognition
solution b
Nikki receives a 25% discount on jewelry restoration services offered by
Wally is employed as an executive with Pay More Incorporated. To entice Wally to work for Pay More, the corporation loaned him $20,000 at the beginning of the year at a simple interest rate of 1 percent. Wally would have paid interest of $2,400 this year
solution a
Corporation
$200 of interest income and $2,200 of imputed interest income
$2,200 compensation deduction
Individual
$2,200 compensation income
Interest not deductible because for personal purposes
solution b
Still $2,200 compensation income for
a) Steve was awarded a $5,000 scholarship to attend State Law School. The scholarship pays Steve's tuition and fees.
b) Hal was awarded a $15,000 scholarship to attend State Hotel School. All scholarship students must work 20 hours per week at the School
solution a
Excluded from gross income
solution b
Included in gross income
solution c
$12,000 scholarship excluded from gross income
$500 monthly stipend is included in gross income
Cannot exclude payments for food and housing
Grady is a member of a large family and received the following payments this year. For each payment, determine whether the payment constitutes realized income and determine the amount of each payment Grady must include in his gross income.
solution a
A gift of $20,000 from Grady's grandfather.
Realized, not recognized in income
solution b
1,000 shares of GM stock worth $120 per share inherited from Grady's uncle. The uncle purchased the shares for $25 each and the shares are worth $125 at y
a) Janus sued Tiny Toys for personal injuries from swallowing a toy. Janus was paid $30,000 for medical costs and $250,000 for punitive damages.
b)Carl was injured in a car accident. Carl's insurance paid him $500 to reimburse his medical expenses and an
solution a
$30,000 excluded, $250,000 recognized in gross income
solution b
Reimbursed medical costs excluded from gross income
Reimbursement for emotional distress associated with physical injury excluded from income
solution c
No physical injury, includ