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What is Gross Income?
A. Gross Income = All income received minus exclusions.
- B. Procedure
- 1. Identifiy all sources of income
- 2. Determine taxable v. excludable sources
- 3. Determine amount taxable
- 4. Determine proper period for recognition
What is Income?
Definition in Sec. 61 of IRC of 1986.
Gross Income means all income from whatever source derived.
What is Realization?
a. A change in the form and/or substance of the taxpayer's property or property rights.
b. The involvement of a second party - generally an arms-length transaction.
What are the major categories of Income Sources?
- A. Earned Income
- B. Unearned Income
- C. Transfer From Others
- D. Imputed Income
What is Earned Income?
Income received from the performance of labor or services.
What is Assignment of Income?
An attempt to transfer income earned by a higher marginal rate taxpayer to a family member who is in a lower tax bracket. Foiled by the assignment of income doctrine. Entity that earns income must pay tax on it regardless of who receives the income.
What constitutes a Receipt of Income?
1. Cash Equivalent Approach - anything received that has a fair market value will trigger income recognition. Income can be received in cash, goods, services, lodging, stock, etc.
2. Constructive Receipt
What is Unearned Income?
Earnings from investments and gains from the sale, exchange, or other disposition of investment assets. Unearned income represents the return on an investment.
- 1. Interest and Dividend Income
- a. Dividends taxed at long-term capital gains rates
- 2. Rental and Royalty Income
- b. GI = Income received less related expenses.
3. Annuities - a series of equal payments received over equal time periods for a determinable period of time.
What portion of the future receipts constitute a return of capital and what portion of the future receipts represent a return on capital?
Formula for capital investment portion:
- Exclusion ratio = Cost of the Contract
- Number of Payments
Amount included = Payments received minus Amount Excluded
What happens with an annuity when outliving the life expectancy occurs?
More payments are received on the annuity than were provided in the exclusion ratio calculation.
When the period used to calculate the exclusion ratio passes, all subsequent payments are fully taxable.
What happens with an annuity on Early Death?
Not all expected payments are received.
In the year of death, a deduction is allowed for any investment in the annuity that has not yet been excluded.
What is the calculation of gain/loss on sale of investments?
- Proceeds from Sale of Property
- - Selling Expenses
- Amount Realized from Sale of Property
- - Adjusted Basis in the Property
- Gain (Loss) on Sale
How is the Income from Conduit Entities treated?
The owner of conduit entity held as an investment includes the conduit's income on their return.
Any payments received from the conduit (withdrawals, dividends) are not income. They are returns of the taxpayer's investment (reduce basis).
What is the tax treatment of Prizes and Awards?
1. Prizes and Awards - generally taxable.
a. Awards received for literacy, scientific, educational, and charitable achievements may be excluded from tax if they are immediately given to a governmental or qualified charitable organization.
b. Awards of tangible personal property for employee achievement based on length of service or safety are allowed an exclusion of up to $400 of the value of the award. Exclusion goes up to $1,600 if made out of a qualified plan.
What is the tax treatment of Unemployment Compensation and Workers' Compensation?
Unemployment Compensation - always taxable
What is the tax treatment of Alimony, Child Support, and Property Settlements?
- Alimony - taxable
- Child Support - not taxed
- Property Settlements - not taxed
What is the tax effect of Below Market Rate Loans?
a. All loans are deemed to carry interest at the applicable federal interest rate.
- b. This results in an imputation of interest owed from the borrower to the lender.
- 1. Lender has interest income; Borrower has interest expense from this imputed interest
What is the tax effect of Imputed Interest?
An imputed payment of cash from the lender is deemed to occur to pay the lender the interest imputed.
- 1. The taxability of this imputation depends on the relationship that exists between the borrower and the lender.
- a. Gift Loan
- b. Employment Related Loans
- c. Shareholder Loans
What is a Gift Loan?
Loans made between family members. Gifts are not taxable to either the donor or the donee.
What is an Employment Related Loan?
Loans made between an employer and an employee. The imputed payment of cash is deemed to be compensation paid from the employer to the employee.
Result: Income to the employee, deduction for the employer.
What is a Shareholder Loan?
Loan made between a corporation and a shareholder. If the corporation makes the loan, the imputed payment of cash is considered to be a dividend paid to the shareholder.
Result: Income to the shareholder, no deduction for the corporation.
If the shareholder makes the loan to the corporation, the imputed payment of cash is deemed to be a contribution to the capital of the corporation.
Are there any exceptions for certain loans?
De Minimis Loans - any loan less than $10,000 is exempted from the imputed interest rules.
Gift Loans under $100,000.
a. Interest imputed on the loan cannot exceed the borrower's net investment income.
b. If the borrower's net investment income is less than $1,000, no interest is imputed on the loan. ie. The loan is exempted from the imputed interest rules.
What are the tax effects of Payment of Expenses by Others?
Anytime one taxpayer pays the expenses of another taxpayer the taxpayer whose expenses were paid has realized an increase in wealth.
a. The increase in wealth constitutes income, unless the payment is made as a valid gift.
b. Most income recognition situations involve payments in a business setting.
What is the tax effect of Bargain Purchases?
When one taxpayer confers a benefit on another taxpayer by allowing them to purchase property at a price below market value, the "bargain" element is taxable to the purchaser.
a. Purchases made at arm's-length are not taxable.
b. Most bargain purchases occur in business settings. The Substance of the sale is an attempt to compensate.
What is the Capital Gains and Loss Netting Procedure?
1. Identify all capital gains and losses occurring during the year as being short-term gains and losses, long-term gains and losses, collectibles gains and losses, gains on qualified small business stock, and unrecaptured Section 1250 gains.
2. Combine all long-term gains and losses to determine a net long-term position for the year. Collectibles gains and losses, gains on qualified small business stock, and unrecaptured Section 1250 gains are treated as being held long term. Combine all short-term gains and losses to determine a net short-term position for the year.
3. If the positions determined in Step 2 are opposite (one is a gain, one is a loss), net the two positions together to obtain either a gain or a loss position for the year.
If the positions determined in Step 2 are the same (both are gains or both are losses), no further netting is necessary.
What is the treatment of Short-term Capital Gain for individuals?
12 months or less.
What is the treatment of Adjusted Net Capital Gain for Individuals?
More than 12 months.
Taxed at 15%.
What is the tax treatment of Unrecaptured Section 1250 Gain?
More than 12 months.
Taxed at a maximum rate of 12%.
What is the tax treatment of Net Collectible Gain?
More than 12 months.
Taxed at a maximum rate of 28%.
What is the tax treatment of Gain on Qualified Small Business Stock?
More than 5 years.
50% of gain in excluded. Remaining gain is taxed at a maximum rate of 28%.
What is the tax treatment of Short-term Capital Loss?
12 months or less.
Deductible loss for AGI; limited to $3,000 per year with indefinite carryforward of excess loss to future year's netting.
What is the tax treatment of Long-term Capital Loss?
More than 12 months.
Deductible loss for AGI; limited to $3,000 per year with indefinite carryforward of excess loss to future year's netting. Any short-term losses are applied against the $3,000 limit before long-term losses are deducted.