UWorld Tax Compliance & Planning for Individuals

The donation of a long-term capital asset is valued for charitable contribution purposes at fair value (FV). Assume a taxpayer contributes inventory or a short-term capital asset to a charitable organization. What amount can be deducted?

If inventory or a short-term capital asset is contributed to a charitable organization, the deduction is limited to the lesser of the property's adjusted tax basis or FMV on the date of contribution.

Taxpayer W buys 1,000 shares of stock for $30 per share. Several years later when the stock is worth $40 per share, the stock is donated to a charitable organization. What gain does the taxpayer have to recognize? What amount of itemized deduction does the taxpayer have because of this gift?

When donated, long-term capital gain property is deductible at fair value (FV) & no taxable gain must be recognized. Thus, taxpayer W has no taxable (recognized) gain here but a charitable contribution of $40,000 (1,000 shares at $40 per share).

Describe the concept of kiddie tax.

Taxable income for a child is split into earned & unearned income.  Net unearned income exceeding $2,700 (2026) is taxed at the parent's marginal rate, if higher than the child's, when the child is:

• Under age 18, or

• Age 18, or a full-time student age 19 to 24 (under 24 at year-end), but only if earned income does not exceed 50% of the child's own support.

Describe the preferences for the alternative minimum tax (AMT).

• Percentage depletion over adjusted basis

• Interest on "private activity" municipal bonds (except for bonds issued in 2009 & 2010)

• Excess intangible drilling costs over 10-year straight-line amortization

• 7% of excluded gain on qualified small business stock (§1202) acquired before 9/27/2010

Describe the adjustments for the alternative minimum tax (AMT).

• Difference between AMT cost recovery & regular tax

• No installment method allowed

• No standard deduction allowed

  • Interest on home equity loans not allowed unless to improve residence

What are the alternative minimum tax rates?

26% & 28%

What determines whether a taxpayer should take a standard deduction or an itemized deduction?

The taxpayer deducts the greater of the standard deduction or itemized deductions.

What is a nonqualified stock option?

Nonqualified stock options (NQSOs) may be granted to employees, consultants, or contractors working for the company. These options receive no special tax treatment and are generally reported on a W-2 or 1099 in the year exercised. The employer is required to withhold payroll taxes on the amount reported (ie, difference between FMV on date exercised and exercise price).

What are the two tests to qualify for the foreign earned income exclusion?

In addition to having a tax home in a foreign country, the taxpayer must meet one of the following two tests to qualify for the foreign earned income exclusion:

1. Bona fide residence test: U.S. citizen must be a foreign resident for an uninterrupted period (excluding vacations or brief trips back to the U.S.) that includes an entire taxable year, or

2. Physical presence test: U.S. citizen or must be present in a foreign country for at least 330 consecutive full days in any 12-month period.

What is the formula for calculating imputed interest?

Loan principal × AFR % × Time = Imputed interest

What are the two “safe harbor” exceptions to the assessment of the underpayment penalty when a taxpayer is required to make estimated tax payments?

Prior year tax liability safe harbor exception: No penalty is assessed if the withholding and estimated tax payments during the year totaled at least 100% of the prior year total tax liability (ie, total tax reported on the tax return). If a taxpayer’s prior year’s adjusted gross income (AGI) is > $150,000, the percentage is increased to 110%.

Current year tax liability safe harbor exception: No penalty is assessed if the payments equal ≥ 90% of the total tax liability for the current year.

What are the de minimis exceptions to underpayment penalties of estimated taxes?

A de minimis exception to the underpayment penalty exists if the tax owed on the current tax return is < $1,000.

In addition, no penalty is assessed for any taxpayer that meets all of the following three requirements:

1. No tax liability (ie, taxes due) in the prior year

2. The prior tax year covered the entire 12 months of the year

3. The taxpayer is a U.S. citizen or resident alien for the entire current tax year

What is a qualified stock option?

Qualified stock options, commonly called incentive stock options (ISOs), are granted only to employees. For regular income tax purposes, ISOs are not taxed when received by the taxpayer (grant date) or when the taxpayer pays the exercise price (ie, strike price) to acquire the shares on the exercise date.

Would a young and healthy individual benefit more from an HSA or FSA plan?

Although both types of accounts use pre-tax dollars to fund the plan, HSAs offer a greater tax advantage because of the ability to invest unused funds and have the funds grow tax-free. Therefore, HSAs tend to be a better choice for individuals who are young and healthy because they have low health care expenses and the time for the unused funds to grow.

For individuals who have a chronic illness or anticipate high medical costs for other reasons, an FSA may be a better choice. Unlike HSAs that require a high deductible insurance plan, an FSA can be used with a low deductible health insurance plan which allows their insurance to cover medical costs sooner.

Describe the bunching deductions strategy with regards to individual income tax planning.

If a taxpayer’s total itemized deductions are approximately the same as the standard deduction, a taxpayer may benefit from bunching itemized deductions (ie, accelerating the amount of deductions) into a year in which the taxpayer plans to itemize, with the intention of taking the standard deduction in the following year. By bunching itemized deductions, a taxpayer can ensure the amount of itemized deductions exceeds the standard deduction. Then by alternating standard deduction and itemized deductions years, the taxpayer may be able to maximize deductions over a multiyear time frame.

Because individual taxpayers (using the cash basis) have some ability to control the timing of their deductions, they can shift multiple-year itemized deductions into a single tax year as they wish. Shifting deductions may result in a lower overall tax liability over a multiple-year period than if the taxpayer did not bunch deductions.

In addition, the OBBBA applies an overall limitation on itemized deductions for top-bracket taxpayers (taxable income in the 37% bracket) that effectively makes the savings from the deductions worth 35% instead of 37%.

Name some strategies for individuals to defer income.

• Contribute to pre-tax retirement accounts

• Postpone distributions from retirement accounts

  • Manage investments to defer earned income or gain from sales (ie, like kind exchanges and installment sales)

Describe unearned income with respect to the kiddie tax.

Unearned income is derived from investments (or property) in the child’s name whether the investment was gifted to the child (eg, by parents, grandparents) or acquired by the child. Examples include:

• Taxable interest (including earned by custodial accounts under the Uniform Gifts to Minors Act (UGMA))

• Dividends

• Capital gains

• Taxable scholarships

• Rents

• Royalties

Remember that unearned income is not the same as a child’s earned income such as wages, tips, commissions, and self-employment income. Earned income is always taxed at the child’s marginal tax rate.

What are some disadvantages of using a dependent care FSA plan?

Careful planning is required when determining how much should be contributed to the plan. Any unused money remaining in the fund does not carryover to next year and is forfeited by the taxpayer. The taxpayer does not have access to the total amount elected to be funded on the first day of the plan and distributions from the plan are available up to the current fund balance. The funds in the plan do not earn interest.

How is the standard deduction calculated for a taxpayer that is claimed as a dependent by another taxpayer?

A taxpayer claimed as a dependent by another taxpayer in 2026 has a standard deduction equal to the greater of (1) $1,350 or (2) $450 plus the taxpayer’s earned income (not to exceed the taxpayer’s regular standard deduction).

Describe the difference between pre-tax (traditional) and post-tax (Roth) retirement accounts.

Pre-Tax (Traditional) retirement accounts: Contributions are made with pre-tax dollars (ie, contribution dollars are excluded from income in year of contribution) and distributions are taxable in year of distribution.

Post-Tax (Roth) retirement accounts: Contributions made with post-tax dollars (ie, contribution dollars come from income subject to taxation) and distributions are not taxable in year of distribution.