Income Tax - Exam 1

What is a tax?

PMT. required by the GOVT. that is unrelated to a specific benefit/service received from the GOVT. Fund operations and raise REV.

3 Components of a Tax:

1. PMT. is required, not voluntary

2. PMT. is imposed by federal, state, or local GOVT.

3. PMT. isn’t tied to a specific benefit received by the payer.

Tax Base

AMT. being taxed. Expressed in monetary terms.

Tax Rate

% imposed on tax base.

Average Tax Rate:

• Payers level of taxation on each dollar.

• Helps budget tax EXP.

• Total Tax/Taxable INC.

Effective Tax Rate:

• Payers AVG. RTE. of tax on each dollar of total INC.

• Comparing tax burdens.

• Total Tax/Total INC.

Marginal Tax Rate:

• RTE applied to next additional dollar of taxable INC.

• Tax planning.

• Tax/Taxable INC.

Proportional (flat)Tax:

Constant tax RTE. throughout tax base.

Progressive Tax:

Imposes an increasing marginal tax RTE. as tax base increases.

Federal Taxes (ranked in order of REV. generated):

1. Income

2. Employment/Unemployment

3. Excise (fuel)

4. Transfer (estate/gift)

State & Local Taxes (ranked in order of REV. generated):

1. Sales

2. Property

3. Income

4. Excise (fuel)

5 Criteria Used to Evaluate Tax SYS.

1. Sufficiency: Calculating how much tax must be generated & making sure the SYS. provides these REVS. (Use of REV. forecasting.)

2. Equity: how tax burden should be distributed among tax payers. (Looks @ fairness.)

3. Certainty: Payer is able to determine when & where to pay taxes and how to determine tax.

4. Convenience: collect PMT. w/o hardship to payer.

5. Economy: MIN. compliance & admin. cost associated w/ tax SYS.

Tax Payer filing requirements:

1. Corporations: all must file regardless of taxable INC.

2. Individuals: filing is determined by filing status, age, & gross INC.

Due Dates:

1. Individuals: 15th day of 4th month following end of tax year.

2. C. Corps: 15th day of 4th month following end of tax year.

3. S. Corps: 15th day of 3rd month following end of tax year.

If due date falls on a Saturday, Sunday, or holiday, due date is extended to next BUSA day.

Statue of Limitations:

If a payer files a return w/ incorrect info. the time in which the payer amends the return or the IRS notices the deficiency is known as the statue of limitations. Generally ends 3 years after date return was filed or original due date.

IRS Computer Systems:

1. Discriminant Function (DIF): scoring system

2. Document Perfection: checks math errors

3. Info. Matching Program: compares return data to info. IRS has

Correspondence Examination:

• Most common audit

• Conducted by mail, 1-2 errors on return, narrow in scope, least complex, requires documentation for errors.

Office Examination:

• 2nd most common audit.

• Conducted in local IRS office, broader in scope, small business & mid.-high income payer, payer can attend alone or w/ representation or let the tax advisor/attorney attend on their behalf.

Field Examination:

• Least Common.

• Broadest in scope & most complex, held @ payers BUSA. or where recirds are maintained, lasts weeks to years, usually a BUSA or complex individual return.

Judicial Process:

After payer has exhausted remedies w/ IRS, dispute can be taken to a federal court.

1. U.S. District Court (local)

2. U.S. Court of Federal Claims (national)

3. U.S. Tax Court (national, tax experts)

Tax Law Sources:

1. Primary: official source of tax law.

   • Statutory: IRS Code

   • Judicial: rulings by court

   • ADMIN: IRS pronouncements

2. Secondary: unofficial tax authorities; help explain primaries.

   • tax services

   • tax articles

IRS Code:

EX. §2(a)(1)(A)

1. § = section

2. 2 = section #

3. (a) = subsection

4. (1) = paragraph designation

5. (A) = subparagraph designation

Tax Professional Responsibilities:

1. Tax profs. are subject to various statues, rules, and codes of conduct.

2. Failure to comply w/ rules can result in a bar from practicing before the IRS or a revocation of CPA license.

Tax Payer/Practitioner Penalties:

1. Civil: monetary fines. Imposed when either party violates tax rules w/o reasonable cause, intentional disregard, willful disobedience & fraud.

2. Criminal: less common. Usually used in tax evasion, higher penalties, can go to prison.

Individual Income Tax Formula:

Gross INC.

- Deductions for AGI

=AGI

- Greater Itemized/Standard Deduction

- Qualified BUSA INC. Deductions

= Taxable INC

* Tax RTE.

= Income Tax LIAB.

+ Other Taxes

= Total Tax

- Credits

- Prepayments

= Tax Due/Refund

Realized Income:

generated when there are measurable changes in property rights between 2 parties.

Recognized Income:

reported on 1040.

Excluded Income:

INT. from bonds, gifts, inheritance, life INS. proceeds, gain on sale of residence.

Deferred Income:

INC. included in a subsequent tax year… installment sales.

Ordinary Income:

INC. taxed @ ordinary RTE. provided in tax RTE schedule.

• Losses offset INC. taxed @ ordinary RTE.

Capital Income:

Gains/Losses on disposition/sale of capital assets.

• Capital assets: stocks, bonds, personal residence, personal vehicle, etc.

• All assets EXCEPT: A/R, INV, supplies

Capital Gains & Losses:

*G&L must be netted*

1. LTCG: in excess of STCL are taxed @ preferential RTE,

2. STCG: taxed at ordinary RTE.

3. Net Capital Losses: Limited to $3K/yr. Deducted against ordinary INC (reducing AGI). Over $3K are carryforward.

“FOR” AGI Deductions:

“Above the line deductions”

EX. alimony paid (B4 2019), BUSA exp. (SCH C), rental exp. (SCH E), net capital losses, contributions to IRA, student loan INT PD.

“FROM” AGI Deductions:

“Below the line deductions”

• Greater of Itemized or Standard Deductions; INT exp. (mortgage), charitable contributions, medical exp, taxes PD.

• Qualified BUSA INC. Deductions:

  Qualified BUSA INC.

  X 20%

  =QBI Deduction

Standard Deductions for 2024

1. MFJ: 29,200…1,550

2. QSS: 29,200…1,550

3. MFS: 14,600…1,550

4. HoH: 21,900…1,950

5. Single: 14,600…1,950

Tax Credits:

• Reduces tax LIAB dollar-for-dollar.

• Qualifying Child: $2K

• Qualifying Relative: $500

Tax Prepayments:

• PMTS. already made toward tax LIAB. Taxes w/held in wages, EST. PD. during year, over PD in prior year.

Qualifying Child Test:

1. Child isn’t self-supporting (no more than ½ income).

2. Son, daughter, (adopted, step, or foster) child, brother, sister, half-bro/sis, step-bro/sis, grandchild, nephew, & niece.

3. Under 19 or 24 if student. (must be enrolled in school for at least 5 months of year).

4. Live w/ payer for over ½ of YR. (school and medical care don’t count as absences).

Qualifying Relative Test:

1. ½ of support must be furnished by payer.

2. Parent, grandparent, aunt, uncle, in-laws, step-father/mother, plus all includes in QC test. Can also be a friend but the friend has to live in the household for the entire YR.

3. Gross income is < $5,050.

Tiebreaker Rules:

If a child qualifies as a dependent under multiple people, tiebreaker rules determines who has priority in claiming that child.

Married Filing Joint (MFJ):

• Married as of last day of YR.

• If 1 spouse dies the other may file MFJ in the YR of death.

Married Filing Single (MFS):

• Not beneficial from a tax perspective.

• Higher tax RTES., can lose benefits.

• If one itemizes, the other must also itemize.

Qualifying Surviving Spouse (QSS):

• Same tax bracket as MFJ.

• Available for 2 YR’s after spouse death.

• Void if spouse remarries.

• Spouse must maintain household for a dependent child.

Single:

• Unmarried & doesn’t qualify for any other filing status.

• Marital status is determined by last day of tax YR.

Head of Household (HoH):

• Unmarried, divorced or an “abandoned spouse” @ yr. end.

• Not a QSS.

• Has a “qualifying person” live in payers home for at least ½ of YR.

What is an “abandoned spouse”?

• Payer is married @ YR end.

• Doesn’t file a joint return w/ spouse.

• Lived apart for at least 6 months.

• Payer pays > ½ cost of maintaining a household that serves as a primary residence for a qualifying child.