Chris Patrick Tax Outline

Patrick – Tax Outline Gross Income 26 USC 61 Glenshaw Glass Test Income w/o Receipt of Cash or Property Exclusions §102: Exclusions of Gifts and Inheritances §132: Exclusion from gross income: §119: Exclusions for Meals and Lodging §74: Prizes and Awards §117: Qualified scholarships Gains from Dealing in Property Adjusted Basis §1015: Property Acquired by Gift §1041: Transfers b/t husbands and wives §1014: Property Acquired from a Decedent Amount Realized Part Sale - Part Gift §101: Life Insurance Proceeds Income from Discharge from Indebtedness §104 Damages and Related Receipts Separation and Divorce Alimony Property Transfers Incident to Divorce §71(c): Child Support §121: Exclusion of Gain from a Sale of Personal Residence §103: Interest received from state or municipal bonds 2 2 2 2 3 3 3 5 6 6 7 7 7 7 7 8 8 8 9 9 10 10 11 11 11 12 Income Deductions §62: Adjusted Gross Income Defined §162: Trade or business deductions §195: Deductions for start up costs §162: Traveling and Transportation §274: Disallowance of entertainment, etc, expenses §212: Expenses for the production of income §163: Deductions for Interest Paid §163(h): Disallowance of deduction for personal interest §163(h)(3): Qualified Residence Interest Points §221: Educational Loan Interest §163: Deductions for Investment Interest Paid: borrow money to invest §164: Deductions for Taxes Paid §217: Deductions for Moving Expenses §213: Deductions for Medical Expenses §222: Deduction for Qualified Higher Education Expenses (Qualified tuition and related expenses) §170: Charitable deductions §165(h): Casualty and Theft Losses §63(c): Standard Deduction Personal Exemption Deduction §151(d): Identifies the Amt of the deduction §152: Defines Dependants §151: Do you get to take the Personal Deduction of a Dependant? 13 13 13 14 14 17 17 18 18 18 18 19 19 19 20 20 21 22 22 22 22 23 23 23 1/23 Patrick – Tax Outline Gross Income 26 USC 61 Income includes income from any source (or territory) derived, unless there is a specific exclusion. Cesarini v. US Bought a piano for $15. Found $4,467.00 in the piano. Rule: Generally allowed 3 years to file and amended return. Rule: When you get something (Recognize economic benefit), it is income. Rule: Something cannot be income until you determine that it is yours. (when something is yours  state law) Recognition of Income: Income that you must report on a tax return. - Increase in value of a piano is not income. o Must have triggering event to recognize the gain as income Distinct item v. Bargain Purchase/Appreciation Buying the piano and getting something else inside the piano. The item inside is a distinct item, and thus is income, as opposed to the actual item that what purchased (no income if it is worth more than what you paid for it). Old Colony Trust Co. v. Commissioner Old Colony Trust paid Mr. Woods a lot of money in salary, and paid his taxes for him. Wood didn’t declare this money as income. IRS challenges this and calls it income. Rule: The company’s payment of his income tax IS income. Rule: Income doesn’t have to be received directly, as long as it is paid on your behalf (derived an economic benefit). Rule: The receipt of property instead of cash, it is income to the FMV of the property. Commissioner v. Glenshaw Glass Co. Compensatory damages were reported as income, but punitive damages were not included as income. Are punitive damages income? Old definition of income: the gain derived from capital, from labor or from both combined. New Standard Definition: Accession of wealth, clearly realized, and over which the taxpayers have complete dominion Glenshaw Glass Test: Is there a net accession to wealth, over which the taxpayer has complete dominion? 3 Prong Test 1. Net accession to wealth 2. Clearly realized 3. Taxpayer has complete dominion Income can be indirect – Old Colony Trust Income can be a prize – Game Shows Rule: Borrowing is not income b/c it does not increase your wealth. It creates a corresponding obligation to pay it back. - Under a consumption based tax scheme, borrowing money is income. Rule: Illegally gained Money is income Charley v. Commissioner Charging clients for first class airfare, bought coach tickets, used frequent flyer miles to upgrade to first class, and pocketed the difference. It is income. Income b/c transaction was additional compensation (or sold his FF miles and pocketed money). Income w/o Receipt of Cash or Property Rule: No income if you live in your own house - Same is true if you do your own work (so your own taxes as a tax atty) Dean v. Commissioner Rule: If you live in a house owned by another rent free, it is income. - Even if you own the other entity that owns the house Rule: Bartering is income for both parties Any exchange you do is income for both parties Rule: Assuming a typical bargained for exchange, when you have knowledge of one side of a barter transaction, assume the other is of equal value. Rule: if you consume your own goods (grow your own food) it is NOT income when you pick it or eat it yourself, but it is income if you sell it or trade it. 2/23 Patrick – Tax Outline Exclusions Rule: Everything is income unless there is a SPECIFIC inclusion §102: Exclusions of Gifts and Inheritances (a) General Rule: Gross income does not include the value of property acquired by gift, inheritance, bequest, devise, or inheritance (b) Income shall not exclude from gross income: a. The income from any property referred to in subsection (a) b. Where the gift, bequest, devise, or inheritance is of income from property, the amount of such income. (c) Employee gifts. a. Subsection (a) shall not exclude from gross income any amount transferred by or for an employer to, or for the benefit of, an employee. Exclusion for Gifts Commissioner v. Duberstein Duberstein gave Berman business leads. As a thank you, Berman gave Duberstein a gift (Cadillac). Berman deducted the car as a business expense. Court determined it was income for Duberstein, even though he didn’t want or need the car. Berman wouldn’t have given the car w/o the previous business leads. Rule: Look at the transferor’s intent. Tax Definition of a Gift: Donor is required to give out of detached and disinterested generosity. Here the fact that it was in a business setting was fishy. - The more removed from a business setting the more likely it is a gift. Sometimes you can assume a detached and disinterested generosity Look for a family member giving a gift to someone. Gifts in Employment Settings Not excluded under 26 USC 102. Parts will be covered by fringe benefits. - Reg. § 1.102 o 102(c) only applies to transfers in the employment context. You must prove a relationship outside of work for the transfer to qualify as a gift. Family or friend relationship but also employer/employee relationship is enough to qualify as a gift. Rule: Any gift that is given company wide is not given outside the employment relationship. Inheritance Transfers are excluded from GI The difficult part is determining “what is an inheritance?” Lyeth v. Hoey If grandma died intestate, the grandson gets assets that would not be GI. Here they settle and grandson gets some money. It is still inheritance and is therefore not GI. Exclusions for Fringe benefits Statutory Fringe Benefit Exclusions - §132 Additional exclusions - §119 §132: Exclusion from gross income: Gross income shall not include any fringe benefit which qualifies as a1. No additional cost service (§132(b)) a. The term “no additional cost service” means any service provided by an employer to an employee for use by such employee if: i. Line of Business Test: Such service is offered for sale to customers in the ordinary course of the line of business of the employer in which the emplouyee is performing services and 1. Levels playing field b/t conglomerates and mom and pop shops 2. You can work in more than one line of business. a. The higher you are in a company, the more likely you are to work in multiple line of business. 3/23 Patrick – Tax Outline ii. No Substantial Additional Cost Requirement: The employer incurs no substantial additional cost in providing such services to the employee (regardless of any amount paid by the employee for such service). b. If you are involved in a labor intensive environment, it is not considered “no additional cost” – reg. 1.132(a)(5) c. §132(h) – Spouses, dependant children, widower, disabled employees, retired employed (in airline context, parents) are all considered to be the employee. d. §132(j) - Must not discriminate b/t types of EEs Qualified employee discount (§132(c)) a. Must meet the Line of Business Test b. Any employee discount with respect to qualified property or services to the extent such discount does not exceed i. In the case of property, the gross profit percentage of the price at which the property is being offered by the employer to customers (§132(c)(1)(A)) 1. Gross Profit Percentage: (Aggregate sales price – Aggregate cost)/Aggregate sale price a. Calculated on a company wide basis ii. In the case of services, 20 percent of the price at which the services are being offered by the employer to customers. (§132(c)(1)(B)) c. §132(c)(4) - Does not apply to Real Property d. §132(h) – Spouses, dependant children, widower, disabled employees, retired employed (in airline context, parents) are all considered to be the employee. e. §132(j) - Must not discriminate b/t types of EEs Working condition fringe (§132(d)) a. Any property or services provided to an employee of the employer to the extent that, if the employee paid for such property or services, such payment would be allowable as a deduction under §162 or §167. i. Bar dues, magazines, etc… ii. “Hinges on deductions” 1. If EE paid the costs, they would be business deductions. 2. If you are entitled to a business deduction for it you don’t have to include it as income. b. This can be discriminatory (only highly compensated EEs) c. Grand Scheme, this doesn’t cost tax dollars b/c it would be deducted if it were included. De minimis fringe (§132(e)) a. Any property or service the value of which is so small as to make accounting for it unreasonable or administratively impartibly. b. Examples of what is excludable Reg. 1.132-6(e)(1); Page (973) c. Examples of what is not excludable Reg. 1.132-6(e)(2); Page (974) d. Rule: Must be in service or property, not cash e. §132(e)(2) – On premise eating facility i. On or near the business premises of the ER ii. Revenue derived from such facility normally equals or exceeds the direct operating costs of such facility iii. Cannot be discriminatory iv. i.e. Atty dining room. 1. All Attys pay something for it, but they don’t pay full price. 2. Costs should cover the costs of operating the facility a. Interpreted to only require the cost of food 3. Is Atty dining room discriminatory? a. No. Even though all support staff cannot buy food there. i. Partner’s only eating facility is discriminatory Qualified transportation fringe (§132(f)) a. Any of the following provided by an employer to an employee: i. Transportation in a commuter highway vehicle if such vehicle if such transporation is in connection with travel between the employee’s residence and plact of employment ii. Any transit pass iii. Qualified Parking (§132(f)(1)(c)) 1. Parking provided to an employee on or near the business premises of the employer or on or near a location from which the employee commutes to work 2. 3. 4. 5. 4/23 Patrick – Tax Outline by transportation described in sub (a), in a commuter highway higheay vehicle, or by carpool. Such term shall not include any parking on or near property used by the employee for residential purposes. 2. $175, adjusted for inflation a. Inflation i. 2003 – $190 per month ii. 2004 – $ b. Value of the parking spot is the value of a similar spot in the area Qualified moving expense reimbursement (§132(g)) a. (See §217 Deductions for Moving Expenses) i. Two tests to determine if it is qualified moving 1. Distance Test a. Distance b/t your old job and your new home and your new job and your new home must be 50 miles or more 2. Time Test a. Must work 39 weeks out of first year b. Or 78 weeks out of first two years if you are opening your own business/self employed Qualified retirement planning (§132(h)) a. Employer provided financial planning services. b. Has not previously tested on this On premises gym/athletic facilities (§132(j)(4)) a. Gross income shall not include the value of any on-premises athletic facility provided to his employees. b. Must be on the premises, operated by ER, substantially used by EEs, spouse, Children, etc… (Basically not open to the public) 6. 7. 8. Be careful: Always look to see if something qualifies for more than one type of discount. i.e. discount on hotel rooms may be both no additional cost fringe and qualified EE discount. Rule: §132(i) – Reciprocal agreements a. Only for No additional cost fringe. b. Any service provided by an ER to an EE of another ER shall be treated as provided by the EE of such EE if i. There is a written agreement b/t the ERs ii. Neither ER incurs any substantial additional costs in providing such service or pursuant to such agreement (including foregone revenue). Discrimination. Rule: if you discriminate when it is illegal to do so, 100% of the benefit value is income to the officer. - Non discrimination provision “has teeth to it” - Designed to be punitive in nature Rule: Higher-up in a conglomerate likely is still within the same line of business. - Likely that you are working in more than one line of business, so the test is likely met. Airlines, retail, hotel, etc… all within the comptroller’s line of business Rule: Drinks are de minimis fringe benefits §119: Exclusions for Meals and Lodging There shall be excluded from gross income of an employee the value of any meals or lodging furnished to him, his spouse, or any of his dependents by or on behalf of his employer for the convenience of the employer, but only if – 1. Meals a. The meals must be furnished on the business premises or the employer 2. Lodging a. The employee is required to accept such lodging as a condition of his employment b. For the convenience of the employer c. On the business premises of his employer Lodging as a Benefit Herbert G. Hatt - Living in the funeral home. 5/23 Patrick – Tax Outline Requirements 1. Must be on the business premises 2. The employee is required to live there as a condition of their employment a. Not fatal that the employee is also the employer 3. Lodging is for the convenience of the employer Rule: If you live adjacent to the business, it is likely close enough to qualify as “on the premises.”  Across the street – Close enough; A block away – Too far What if the nature of EEs work does not require EE to live on the premises as a condition of employment  Not excludable. All income. What if ER and EE simply agreed to a clause in the employment contract requiring EE to live in the residence  Not for the convenience of the ER. Not excludable. What if EEs work and contract require EE to live on the premises and ER furnishes EE and family $3k worth of groceries during the year.  Assuming it is for the convenience of the ER: Lodging is excludable. Are groceries fixings or meals? Now it doesn’t matter. Groceries are likely no considered to be meals. What if ER transferred residence to EE in fee simple  No longer the ER’s business premises  FMV of the house would be income § 74: Prizes and Awards §74(a): Gross income generally includes amounts received as prizes and awards §74(b): Gross income does not include prizes & awards for religious, charitable, scientific, educational, artistic, literary, or civic achievement if: a. Recipient was selected without any action on his part; b. Prize is not conditioned on future services by recipient; c. Prize is transferred by payer to a specific (approved) charity §74(c): Exception for certain employee achievement awards a. Must relate to length of service or safety b. Aspects of excepted awards: i. Must be employed for at least (5) years and never received such an award previously ii. Amount (a) Amount is geared to the amount the employer qualifies for a deduction under §274(j) (b) Value cannot exceed $400. iii. Must be tangible personal property; iv. Must be awarded as a part of a meaningful ceremony v. Award cannot be mere disguised compensation - Cash awards are not excluded c. Safety Awards i. Must be awarded to individuals other than managers, administrators, clerical employee or other employee ii. Only excepted if 10% of an employer’s qualified employees receive such awards during the year. § 117: Qualified scholarships §117(a): Excludes amounts received as a “qualified scholarship” by a degree candidate at an educational organization. §117(b): Qualified Scholarship: any amount received as a scholarship/fellowship grant to the extent it is used for qualified tuition and related expenses d. Must be a candidate for a degree e. §170(b)(1)(A)(ii): Qualified Institution: must be a real place–where there is a campus, formalized instruction f. §117(b)(2): Qualified Tuition and Related Expenses that are Excluded from Gross Income include: i. Tuition; ii. Enrollment fees; iii. Books; iv. Supplies and equipment g. Not excluded from Gross Income: i. Personal living expenses 6/23 Patrick – Tax Outline ii. Meals and lodging iii. Travel and research iv. §117(c): Payment for teaching, research or other services by the student required as a condition for receiving the otherwise excludable amount. Gains from Dealing in Property Rule: Increase in value is not gain. It requires realization (triggering event) to qualify as a gain. Questions to ask 1. Any time you have a transfer of an asset (sale or disposition) ask ―is there a realized gain or ?‖ 2. If so, ask ―is it recognized?‖ a. Rule: All realized gains are recognized, unless there is a specific exception i. There are some. (e.g. Gain from the sale of a personal residence (§121), transfer of assets b/t spouses or former spouses (§1041)) 3. If yes to both, ask ―is there any special (favorable) treatment?‖ a. E.g. capital gains or losses (taxed at lower rates than regular income). b. End of the semester stuff Realization of Gains and Losses Formula: AR – AB = Realized Gain or Loss Adjusted Basis Options are included in the cost for the property (part of basis) Adjustments from §1016. a. If you make capital expenditures with respect to a property it increase the basis in that property. i. Substantial improvements, permanent in nature. Reg. §1.61-2(d)(2)(i) Rule: if you do home improvement work yourself, you cannot add the value of your labor to the costs to increase your basis §1015: Property Acquired by Gift Taft v. Bowers Rule: Recipient of gift does not have income. But their basis is the same as the donor’s basis. It transfers with the property. General Rule: The donee takes the same basis as the donor (Cary over basis) Exception: Special Loss Rule: Unless if at the time of the gift the FMV is less than the basis and the donee sells it for a loss 2 Parts to Exception: 1) FMV is LESS than donor’s AB 2) Donee is suffering a LOSS on the sale §1041: Transfers b/t husbands and wives - (a) when transferor makes a transfer to their spouse has no gain or loss recognized as a result of that transfer. o Non-recognition provision - (b) address the basis component o Always carry over basis o NOT THE COST OF THE TRANSFER - Also applies to transfers to ex-spouses (if they are incident to divorce) - Rule: The special loss rule does not apply §1014: Property Acquired from a Decedent (a) The basis of property in the hands of a person acquiring the property form a decedent, or to whom the property passed from a decedent shall be (if not sold, exchanged, or otherwise disposed of before the decedent’s death by such person); - (1) The fair market value of the property at the date of the decedents death Rule: Basis to the receiver is the FMV at the time of the decedent’s death. - Rule: Property acquired from a decedent gets a step-up (or step-down on a loss) basis 7/23 Patrick – Tax Outline Exception: If the receiver gave the property to the decedent within a year prior to their death, the basis remains the initial basis of the initial purchase by the receiver. Community Property: Deceased spouse can devise property to anyone they want - Most homes are titled in Joint Tenancy - JT carries with it the automatic right of survivorship - JT: only the decedent’s portion of the joint property steps up on death - Community Property: As long as the decedent held at least ½ of the property, all of the basis of the property steps up on death - Both the decedent’s and the survivor’s Community property: Under §1014(b)(6) all of the property’s basis steps up on death of one spouse - evens out the practice of the historical situation - man earns money, owns it all, wife gets it at death - Not fair to CP states where the wife vests as it is earned. - This makes it the same as CL states (New basis for property at death) CA has a new state of title – CP with right of survivorship Amount Realized 1001(b): Definition. Cash recvd and FMV of all property recvd What about services? International Freighting v. Commissioner Rule: Amt realized is the FMV of the service. - Money means anything you receive that is worth money (svcs) Crane v. Commissioner Rule: When you buy property, the fact that you buy it with cash or a loan doesn’t matters. Your basis is the purchase price. Rule: What is included in a purchaser’s adjusted basis is both the cash paid and the amt of the loan recv’d with the property Rule: seller’s income includes the cash recv’d and the amt of the loan that has been avoided. Rule: How much you have borrowed in a house (or equity) has nothing to do with income/tax on the sale. Rule: Basis is the price, no matter how you paid for it (Cash of mtg.) Part Sale - Part Gift Reg. 1.1001-1(e): If consideration does not exceed the seller’s basis, the gift nature takes over. If the consideration does exceed the seller’s basis, the sale component overrides the transaction. Reg. 1015-4(a): Transferee takes the greater of either the carryover basis or the consideration paid by the transferee. - Anything transferred where the transferee takes the obligation to pay the loans, it is a part sale/part gift - Problem 1(f), page 153 Rule: If you forfeit property to the bank, it is deemed to be sold to the bank for the FMV of the property. - you can still have a gain on a property that is upside down §101: Life Insurance Proceeds Rule: gross income does not include amounts received (whether in a single sum or otherwise) under a life insurance contract, if such amounts are paid by reason of the death of the insured. - Reason; life insurance is a substitute for support, so when want the person to receive the full benefit 4 parties in an insurance situations 1. Insurance Company 2. Insured 3. Beneficiary 4. The Owner of the Policy (can be someone not the insured) Rule: Interest earned from the insurance proceeds is income. § 101(c) Rule: You must prorate an annuity-like payout to represent the excludable portion and income portion of each payment. 8/23 Patrick – Tax Outline - 100k/25 year life expectance = 4k excluded per year  8k per year is income Rule: If you live longer than your life expectance, in an annuity-like payout, the payment scheme continues (the same ratio of income to non income continues after the life expectancy has passed). - All pymts have same % of income and excluded. Break for taxpayer. Sales of Insurance Benefits §101(a)(2): transfer of insurance benefits for valuable consideration, the amt excluded from gross income shall not exceed the amt of consideration paid + any subsequent premiums paid on the policy. - §101(A)(2)(b): Unless the seller (beneficiary) sells the insurance benefits to a company/organization that the seller has an interest in (is a stockholder, officer, owner, partner, etc…). then it is all excluded - Doesn’t matter if you are selling to children - §101(A)(2)(a): If you have a carry over basis transferee (spouse), don’t apply the 101(a)(2) exclusion from income rule. - Exclude the gain - Applies to spouses or in part sale part gift situation Income from Discharge from Indebtedness Discharging debt is income Zarin v. Commissioner Contested Liability Doctrine: you must first determine the amount of the debt before you can determine the amt of the forgiveness. If liability is contested, the determination of a settlement also determines the uncontested debt. Rule: Only uncontested debt can be forgiven and generate income to the borrower. §108: Non recognition provision for discharge for indebtedness (1) In general.--Gross income does not include any amount which (but for this subsection) would be includible in gross income by reason of the discharge (in whole or in part) of indebtedness of the taxpayer if-(B) the discharge occurs when the taxpayer is insolvent, (3) Insolvency exclusion limited to amount of insolvency.--In the case of a discharge to which paragraph (1)(B) applies, the amount excluded under paragraph (1)(B) shall not exceed the amount by which the taxpayer is insolvent. Rule: If a debt is discharged b/c taxpayer is insolvent it is not income to the point of insolvency. - Limitation: It can only be excluded to the degree that they are insolvent (§108(3)) REAL LIFE: If you can use §108 (BK or insolvency), in real life you don’t stop there. The idea of the section is that if the person can’t pay the debt, they can’t pay the tax on the gain. Lets people get back on their feet. Exclude the gain from income, BUT we will extract a price from you (§1017, complex section). Requires the taxpayer to eliminate the tax benefits in other arena’s by the amt of the gain that is forgiven (adjusts basis so the sale of the house is greater down the road). Look to see if a debt is forgiven - Is it a gift Get the correct amt - Is it disputed Can they pay the debt back - BK or Insolvency Look for Poor and Rich Situations - Page 180 questions - Is paymt part discharge and part gain from sale of property or services §104 Damages and Related Receipts §104 Compensation for injuries or sickness (a) In general.--Except in the case of amounts attributable to (and not in excess of) deductions allowed under section 213 (relating to medical, etc., expenses) for any prior taxable year, gross income does not include (1) amounts received under workmen's compensation acts as compensation for personal injuries or sickness; (2) the amount of any damages (other than punitive damages) received (whether by suit or agreement and whether as lump sums or as periodic payments) on account of personal physical injuries or physical sickness; 9/23 Patrick – Tax Outline Rule: The code does not exclude punitive damages or damages that are not “physical” and from a physical tort. - Libel, slander, IIED, etc… not physical, therefore not excluded under §104 Rule: Damages for loss of earnings is not taxed, even though the earnings would have been taxed, as long as they come from physical injury. Rule: Punitive damages are not excluded from income by §104. Exception: Punitive damages in a case from wrongful death and if there is a statute, which only provides for punitive damages, that was in place prior to 1995 are excluded from income (§104(c)). Rule: Damages for emotional distress is not excludable form income under §104, unless the ED is a result of an underlying cause of action is a physical tort. - A non-physical tort that causes physical pain or sickness is not excludable - Exception: Reimbursement for medical expenses are excludable Separation and Divorce Three areas 1. Alimony 2. Property Transfers Incident to Divorce 3. Child Support Alimony If it qualifies, it is income to the payee spouse and a deduction to the payor spouse. Payee spouse does not want this to qualify Rule: Spousal Support is income to the recipient spouse, and a deduction to the payor spouse Rule: Child Support is NOT income to the recipient spouse, not is it a deduction to the payor spouse. Rule: Property transfers that are incident to divorce carry no tax consequences §71: Inclusion Provision Rule: If it is income to the recipient under §71, it is a deduction to the payor under §215. 6 Items to be Alimony (Alimony = Income) 1. Must be in cash a. Includes checks, wire transfers b. As opposed to property or IOU 2. Must be through divorce or separation instrument a. 4 Main Areas Where This Will Occur: i. Couple get divorced and have divorce decree ii. Couple is legally separated with a legal decree iii. Couple is married still, BUT they are informally separated with a written agreement calling for the payment of spousal support iv. Couple still married but payments are still directed under a support decree (couple is getting a divorce) 3. Instrument DOES NOT designate the payment as non-alimony a. If they otherwise qualify as alimony, the parties themselves can still designate that its not to be treated as alimony for tax purposes b. Allows parties to control the tax treatment i. Can affirmatively opt out of alimony treatment ii. CANT opt into alimony treatment 4. In the case of a legal (by court order) divorce/separation, parties CANNOT be living together in the same household a the time of payment a. Watch for one spouse letting the other stay with them b. Doesn’t matter if its separate, cant be same cartilage, like garage, guest house, cabana, etc. 5. No liability beyond death of payee 6. To qualify as alimony, it CAN’T be child support Reg. 1.71-1T(b). IOU’s don’t count, even when they are paid off If the payments are obligated to go for a certain amount of years, this could go past the death of payee. If there is even a POSSIBILITY the payments may extend past the death of the payee spouse, it simply does NOT qualify as alimony. If you are silent as to the death of the payee spouse, some states say it automatically terminates upon the death of the payee spouse. RULE: Depends on local law…recognize possibility and then answer both ways. 10/23 Patrick – Tax Outline a payment cannot occur while the payor and payee spouse are living together in the same household. Front-Loading Provision: If there are large amounts of alimony that are skewed, much larger in the early years, then you have to apply a formula to “take some of that out” - Part is Child Support Indirect Alimony Problems, page 207 (a) Payor pays payees rent…payments on behalf of payee meets the requirements of alimony. Reportable as income, and deductible even thought not paid directly to spouse. As if payor just gives it to payee. (b) Payor gives payee money for mortgage payments…this is alimony. It is just like making payment right to the payee and then payee paying the mortgage. (c) Payor pays mortgage payments and real estate payments for upkeep on the house where payee lives which payor owns. This is NOT alimony. The payments are benefiting himself because to the extent that the payor has an interest, it is not alimony. -- If it was owned ½ and ½ in community property, he’d get a deduction for the half he doesn’t own if he only owned half the property. Property Transfers Incident to Divorce Rule: No income recognized if the transfer is incident to divorce - Property transfers b/t spouses – Carry over basis §1041 - Property transfers b/t ex-spouses – Same if the transfer is incident to divorce §1041 - What is incident to divorce – §1041c - The transfer is incident to divorce if the transfer of property - (1) occurs w/in 1 year of the date the marriage ceases or - (2) is related to the cessation of the marriage - Reg. §1.1041-1t(b) Q/A 7: related to the cessation of the marriage: this transfer is called for in the divorce decree and it is occurs within 6 years of the termination of the marriage. §1041: Incident to divorce: occurs w/in 1 year of divorce, or relates to cessation of the marriage (any transfer that occurs pursuant to the divorce or separation instrument and occurs generally w/in 6 years, longer is just presumption that it is not related to cessation of the marriage). §71(c): Child Support Alimony excludes child support §71(c): Child support - Rule: Child support is not income to the recipient, nor is it a deduction to the payor spouse Child support is paid before alimony. Child welfare is more important. No exclusion for paying child support, but there is one for alimony §121: Exclusion of Gain from a Sale of Personal Residence (a) Exclusion.--Gross income shall not include gain from the sale or exchange of property if, during the 5-year period ending on the date of the sale or exchange, such property has been owned and used by the taxpayer as the taxpayer's principal residence for periods aggregating 2 years or more. (b) Limitations.— (1) In general.--The amount of gain excluded from gross income under subsection (a) with respect to any sale or exchange shall not exceed $250,000. (2) Special rules for joint returns.--In the case of a husband and wife who make a joint return for the taxable year of the sale or exchange of the property-(A) $500,000 limitation for certain joint returns.--Paragraph (1) shall be applied by substituting "$500,000" for "$250,000" if.-(i) either spouse meets the ownership requirements of subsection (a) with respect to such property; (ii) both spouses meet the use requirements of subsection (a) with respect to such property; and (iii) neither spouse is ineligible for the benefits of subsection (a) with respect to such property by reason of paragraph (3). (B) Other joint returns.--If such spouses do not meet the requirements of subparagraph (A), the limitation under paragraph (1) shall be the sum of the limitations under paragraph (1) to which each spouse 11/23 Patrick – Tax Outline would be entitled if such spouses had not been married. For purposes of the preceding sentence, each spouse shall be treated as owning the property during the period that either spouse owned the property. (3) Application to only 1 sale or exchange every 2 years.-(A) In general.--Subsection (a) shall not apply to any sale or exchange by the taxpayer if, during the 2-year period ending on the date of such sale or exchange, there was any other sale or exchange by the taxpayer to which subsection (a) applied. (B) Pre-May 7, 1997, sales not taken into account.--Subparagraph (A) shall be applied without regard to any sale or exchange before May 7, 1997. Rule: exclude up to $250,000 for single individual individuals ($500,000 for married filing jt return) - Can be used once every two years Two Basic Requirements: 1. Ownership a. Look back 5 years, must have been owned for 2 years in the last 5 years. 2. Use a. Must have been used as a principle residence for 2 years They do not have to be consecutive years. - could have rented the condo four years ago. Lived in it as a renter for 2 years. Bought the house. Then moved out and rented it to another. Rule: As long as you have an aggregate 2 years of primary ownership and 2 years of ownership (can be one year, then out for two years, in for one year) you meet the requirements to not recognize the gain. Rule: For spouses, only one spouse must meet the ownership test, but both must meet the use test Reg. 1.121-1(b): Principle residence. - What qualifies as a home? Co-op, Boats, RV, as long as it has sleeping, eating and bathroom facilities. §121(C): under certain conditions, if you fail the test, you might be able to prorate the non-recognition under certain circumstances. - health, work related, or unforeseen circumstances Reg 1.121-3T: Deals with this proration - Safe harbours that automatically meet this provision - Moving for a job change has requirements about mileage of the move - Moving for health: - Unforeseen circumstances include natural or man made disasters, acts of war or terrorism, divorce or legal separation, multiple births from the same pregnancy, If no longer married both tests can still be met 1. Ownership Test a. Each sold ½ for 250k. Wife’s basis – 50k. Husband’s basis – 50k. Each have realized gain of 200k. Wife’s tests: she has onwed her ½ for a long time, she used it 4 of the last 5 years  both tests met. 250k not recognized. Husband’s tests: used it for 2 years, has only owned it for 1 year. Doesn’t meet the tests. But he gets to tack on to his wife’s ownership due to the gift pursuant to § 1041. i. §121(d)(3)(A). 2. Use Test a. Husband does not meet the use test, but does meet the ownership test due to §121(d)(2)(A). But husband is deemed to be using the house as principle residence. Therefore he gets to add the wifes post divorce use of the wife so he can meet the use test. 250k is not recognized. i. §121(d)(3)(B) §103: Interest received from state or municipal bonds Excludes all interest paid on obligation of a state or subdivision there of (cities bonds for: airport, bridges, etc…) Double Tax Free State/Local bonds are tax free from federal income tax. Double tax free bonds are also not taxable for state income purposes. Triple Tax Free If there is a city tax, it would be not taxable for city income tax purposes. 12/23 Patrick – Tax Outline Income Deductions You get no deductions unless there is a specific provision allowing the deduction. Questions Is something deductible? Where is it deductible? - Most common deductions are below the line §62: Adjusted Gross Income Defined §162: Trade or business deductions a) In general.--There shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including-(1) a reasonable allowance for salaries or other compensation for personal services actually rendered; (2) traveling expenses (including amounts expended for meals and lodging other than amounts which are lavish or extravagant under the circumstances) while away from home in the pursuit of a trade or business; and (3) rentals or other payments required to be made as a condition to the continued use or possession, for purposes of the trade or business, of property to which the taxpayer has not taken or is not taking title or in which he has no equity. Requirements for §162 1. Ordinary and Necessary 2. Expenses 3. Paid or Incurred 4. Carrying any trade of business Rule: Employees, self employed/independent contractors/sole proprietorship all can incur business expenses. What are regular/normal business deductions? - Travel, Rent, Utilities, Payroll, cleaning fees, maintenance, etc… Ordinary and Necessary Welch v. Helvering Co. went BK. Debts were discharged. Taxpayer started a new business in the same community. Taxpayer begins to pay back the discharged debts. Good PR to pay back the old debts, despite no obligation to do so. Tries to deduct the debt payments as business expenses. Is it an “ordinary and necessary” expenditure? Necessary: look to the subjective outlook of the tax payer. Really means did the tax payer think it was appropriate and helpful. - This is rarely a problem. Ordinary: look to the objective standard. Is this sort of thing that someone would ordinarily do? Expense (v. capital expenditure) Expenses may entitle a person to a deduction. - Capital expenditures DO NOT bring about a deduction. - Rule: Capital expenditures increase the basis in property. Ex: If you run a business and own a building, and you double the size of the building the cost is not a business expense, it is a capital expenditure - Look for a major improvement Ex: Cleaning crew comes in and cleans the building is an expense. Reg. 1.162-4: The cost of incidental reapir that don’t add to the value of the property or extends its life, can be deducted as an expense §263: Capital Expenditures: No deduction shall be allowed… WESTLAW Reg. 1.263(a)-1, 2: NO deducation for any amt paid for new building, betterment, increast the value of the property. - Examples of cap. Expenditures: cost of acquisition, improvement, etc… for value beyond the taxable year. While carrying out any trade or business 13/23 Patrick – Tax Outline Morton Frank Moved to purchase a newspaper/radio station. Tried to deduct the moving/business expenses associated with moving to AZ and then back to Ohio. Travel is all in search of a new business. Are expenses associated with the hunting for a new business “carrying out a trade or business?” Rule: “In pursuit of a trade or business” does not qualify as “carrying on a trade or business.” You must be in a trade or businesses to be carrying on a trade or business. Start up costs in a new trade or business do not qualify under §162. Rule: If you are not yet in that trade or business, you cannot deduct the expenses, but you can increase your basis in the business by the amt of the expenses. Rule: If you already are in the trade or business, start up costs are expense that can be deducted in the present year, §195: Deductions for start up costs Start-up Expenses (expenses incurred before you actually owned the business) Deductible ABOVE the Line  This is an elective section  Taxpayer can elect to amortize start-up expenditures over a period of not less than 5 years  Does not apply to an individual seeking employment Problems on page 339 Rule: If you start your own business you can amortize under §195, but if you are an employee, you cannot. - §195 only applies to actually starting a business Rule: Must be in the business for a period of time, not just one day, prior to changing jobs (time length is not determined). - Lawyer for 3 months was enough, engineer for a year was not long enough. - At least a few months. (6 months?) Rule: at some point after you cease being employed in a trade or business you are no longer in that trade or business. - Time limit is unknown - 3 years is too long, a few months, is ok. Rule: You don’t have to be successful in finding new work. Still searching for something within the trade or business. Job hunting deductions: if you are hunting for a brand new job in an area unrelated to where you work, your job hunting expenses are not deductible. If you are looking for a job in your current line of work, and they are ordinary and necessary, then they are deductible. Where are the ordinary and necessary business deductions deductible? 1. If you are self employed, IC, sole proprietor, §62 places them above the line. 2. If you are an employee, the deductions are below the line (itemized deductions). a. Sub-Category of itemized deductions (misc. itemized deductions) that are deductible only to the extent that they exceed 2% of AGI. i. §162 expenses as an employee §162: Traveling and Transportation Two categories 1. Local Transportation a. Going somewhere locally for business i. Going to see a client or going to court b. Can be for either employee or self employed 2. Traveling away from home (not local travel) a. Far enough away and you are away long enough that a normal person would stay over night i. Business trip is an example Local Transportation Rule: Personal commuting is not deductible Rule: going to and from a job is not a deductible business expense Rule: Parking at work is not deductible, it is part of the commute This is about you going from the office to another location Rule: once you are at work going somewhere else on business, it is deductible; parking at the client’s would be deductible as well 14/23 Patrick – Tax Outline Costs associated with driving your own car 2 methods 1. Figure out the actual cost of using your car a. Wise to keep track (you often get a larger deduction b. Where you went, the number of miles you drove all year, the number of business miles  give you a percentage. c. That percentage times all car costs (maintenance, registration, insurance, pymt, etc…) that is your deduction 2. Apply the standard mileage rate a. Still have to keep track of miles driven, but you apply a flat per mile rate for business miles. b. Standard rate varies by year i. 2003 rate – 36 cents per mile ii. 2004 rate – 37.5 cents per mile Rule: If you are going to a “regular place of work” the travel b/t home and that place of work is not deductible - You can have more that one regular place of work - Rev ruling 99-7: commuting b/t your home and a place that is not your regular place of business is deductible, even if it is within the local area. Rule: transportation b/t 2 different jobs is deductible, but going from either job home is commuting Traveling Away From Home Sleep and Rest Rule: if you are far enough away for long enough, you qualify for traveling away from home. - denotes you are traveling away from home Rule: You can still deduct transportation, but you also get to deduct the cost of lodging, meals (sort of), as well as incidentals - Lodging: must still be ordinary, not extravagant - Meals are deductible (sort of): Can only deduct 50% of the cost of your meals. - Incidentals: cab fare, cost of calling home, laundry, pressing clothes What is a home? To be deductible, you must be away from home. IRS defines home as the metropolitan area in which you work. Traveling away from home means that you are far enough away from home that a reasonable person would want to stay overnight. Once you are away from home, not only do you get your transportation cost, you also get your - lodging - 50% of the cost of meals (§ 274(n)) – these meals include taking out / entertaining a client. Traveling away from home must be deemed temporary, usually less than one year. If you are teaching in London, you can deduct all the transportation, lodging, 50% of meals, incidentals. Does everyone have a home? Rosenspan v. US IRS usually says that your home is your principal place of business. If you don’t have a PPB, then it’s where your residence is. If you don’t have that either, you don’t have a home (he really said this), so your home is just where you are and you can’t deduct traveling expenses. He still gets his deductions for business transportation for going from place to place to place, but not the “traveling away from home” stuff. Old exam question H&W are married and live in LA. W works in SF and flies there every Monday and home every Friday. What is deductible? Nothing!!! Above or Below the Line? If you are self-employed, it is an above the line deduction. The same expenses incurred by an employee are below the line. But the requirements are the same for both; it’s just where you deduct shit. Bed & Breakfasts 15/23 Patrick – Tax Outline You should break out the meal component and only take 50% of it. This is BS – what if you never ate the meal? You would still pay the same cost … Trip must be primarily for business purposes Reg 1.162-2(a), (b): If your trip is primarily for business travel is deductible (how many days you spent there, why you went there. Ask the question – if it were not for this business thing, would I have gone there?) Rule: It is either completely covered, or completely not covered - But the other stuff you have to split up. - The lodging for M, Tu, Wed are deductible, as are 50% of the meals for those days. - But no lodging or meals for Thurs or Fri. - If trip was primarily for fun, then nothing would be deductible for her transportation there and back. - But the days are just a factor, but if you went there honestly for the business trip, then it’s a business trip, even if you take a vacation while you’re there. - If you go to Disney and dedice to take a “seminar” while you’re there, that’s not a business trip. Bringing your family/friends on the trip § 274(m)(3) – you can’t deduct the cost of your families coming w/ u on the trip. What if you drove and brought your families? You can deduct full cost here b/c there is no extra cost due to family. Airfare – reduced rates if you stay Saturday If you could have come home Friday, but stayed Saturday night and saved $600 in reduced airfare by doing that, then you can take that $600 and count it towards you’re fun days. This counts for all “fun days” not just the extra ones that you stayed for the cheaper airfare. Education expenses under §162 Hill v. Commissioner Per requirements, teacher had to either (1) get college credits, or (2) read 5 books and take an exam on them. Most people would do (2), but she did (1), and did so at Columbia University. IRS tried to argue that everyone else reads the books and takes the exam, so she was doing something out of the ordinary b/c her colleagues don’t do this. It doesn’t have to be common, just ordinary. Rule: If the state or your employer says that you can do any of a number of things, then any of those things are ordinary. Coughlin v. Commissioner Dude goes to the NYU Tax Institute. He wants to deduct this. Employer didn’t require him to go to this; neither did the law. But he felt that he needed to go to this to keep current on tax info. Reg. 1.162-5(a)(1) says that this is deductible. Reg. 1.162-5(b)(2): the minimum education required to enter into a field is not deductible. Logic: it’s not in connection w/ carrying on a trade or business. If you take a course of study (law school, med school) that qualifies you for a specific new trade or business, it is not deductible. Business school would be different b/c it doesn’t qualify you for a particular trade or business. Education out of town What if you go to a seminar out of town? you can deduct your transportation, cost of semiar, lodging, meals @ 50%, etc… Again, you have to break out the cost of the meals and take 50% of it. Page 392 – problem #1: A – surgeon goes to law school b/c it will help her to give better testimony as an expert witness. It doesn’t matter that she doesn’t plan on going into it, it’s not deductible b/c it qualifies her for a new trade or business. B – dentist, enrolls in orthodontist school. IRS has ruled on this: it is still the same trade or business, it is just an expansion of your existing trade or business. C – CPA who enrolls part-time in law school to help her better perform her duties in law school. Still not deductible, b/c it qualifies her for a new trade or business. But if she just took law classes offered by a CPA association, that would be ok. D – lawyer enrolls in LLM Tax program. Assuming that D was working as a lawyer for a while, this would just be an extension or specialization of her practice, so this would be deductible. §274(m)(2) – deals w/ limitations for education 16/23 Patrick – Tax Outline §274(m)(2) says that travel in the form of education (traveling Europe as education) is not considered an education expense, so it is not deductible. But if you are actually going somewhere for a seminar, that’s different and it is excludable. Rule: Education seminars are generally deductible. Rule: The transportation to and from, meals @ 50%, lodging, would also be deductible, assuming that it’s in your trade or business, as long as the primary purpose of your trip is business, and not vacation. Business Entertainment and Meals §274: Disallowance of entertainment, etc, expenses If you are entertaining clients, you must meet the requirements of §274. Makes it tougher 50% limitation on qualifying business expenses In order to be deductible it must be directly related to or associated with the active conduct of a trade or business 1. “Directly Related To” a. During that entertainment, you must be doing business b. Reg. 1.274-2: directly related to test i. 1.274-2(c)(7): Examples that are not directly related: little or no possibility of engaging in trade or business, including taxpayer was not present, circumstances too distracting (night club, theater, sporting events, cocktail parties) 1. Rebutable presumptions 2. “Associated with” a. Usually easier to meet b. Reg. 1.274-2(d): associated with test i. Rule: If your entertainment immediately proceeds or follows a legit business meeting, it meets the test. Entertainment facilities General rule: not deductible Entertainment facilities include things such as a sail boat, a ski lodge, hunting cabin, swimming pools, tennis courts, and bowling alleys. With respect to facilities, you get no deduction, even if you meet the directly related to test or the associated with test. - Can you deduct the normal cost of your crew that would be on duty on the boat anyway? Or only extra crew that you have to hire as part of the entertainment. - The actual cost of the meal while on the boat, etc…, would be deductible (assuming it meets the other criteria), the gasoline for the boat, the crew for the boat associated with the entertainment, are all deductible. What you cannot deduct is the cost of maintaining the boat, etc…. - In a nutshell, you cannot deduct the big-ticket items, e.g., the boat, the cabin, etc… Rule: 274(b): Business gifts: business gifts cannot exceed $25 per year per donee. Rule: §274(l)(1)(A): Entertainment Tickets: deduction limited to 50% of the face value of the ticket. Uniforms - If your clothes are adaptable to normal street wear (you can wear it on the street and not look like a freak), it is NOT considered to be a uniform. Thus, suits and ties are not part of your uniform. Jockey silks, on the other hand, are uniforms. - Military uniforms are adaptable to normal street ware §212: Expenses for the production of income 1. Ordinary and Necessary 2. Expenses 3. Paid 4. For the purpose of: a. §212(1): Production or collection of income b. §212(2): Mgmt, conservation or maintenance of property held for the production of income c. §212(3): In connection with the determination, collection, or refund of any tax i. §212(3): You can deduct money spent to determine, collect, or refund your taxes. 1. Any taxes, not just sales tax 2. tax advice is deductible §212 any amounts associated with a rental property are above the line. 17/23 Patrick – Tax Outline Commissions are not expenses Renting of places to store other investments (gold bars) is below the line. - §212 expense not associated with rentals falls under the misc. itemized deduction (only if it exceeds 2% of gross income) Rule: Filling out schedule E is associated with rentals, above the line §212(3): Deduction of bills for tax determination/planning/etc… Rule: If a partly deductible bill is not itemized, none of the bills is deductible. Ask for an itemized bill. §163: Deductions for Interest Paid General Rule: There shall be allows as a deduction all interest paid or accrued within the taxable year on indebtedness §163(h): Disallowance of deduction for personal interest. In the case of a taxpayer other than a corporation, no deduction shall be allowed under this chapter for personal interest pair or accrued during the taxable year. - (2) for the purposes of this subsection Personal Interest is any interest other than: - (A) Trade or Business Interest is NOT personal interest (personal interest used for business purposes) (other than the trade or business of performing services as an employee) - Rule: Employees accruing interest in a business context is business interest. - (B) Investment Interest is NOT personal interest (interest on money borrowed to buy an investment: Apt Building, etc…) - (D) Qualified Residence Interest is NOT personal interest. - §163(h)(3) defines qualified residence interest - (F) Student Loan Interest is NOT personal interest §163(h)(3): Qualified Residence Interest Must have 2 things 1. Qualified Residence a. §163(h)(4)(A): Principle residence of the taxpayer i. And one other residence of the taxpayer (selected by the taxpayer) 1. Allows you to deduct interest on your second home (vacation home) 2. Second residence (1) must not be rented at all during the year, (2) or if it is rented out, you or your family must use it for personal use for more than the greater of 14 days or 10% of the time rented out. 2. Proper Type of Indebtedness a. §163(h)(3)(B): Acquisition Debt i. Funds borrowed to acquiring, construct, substantially improve a qualified residence. ii. The loan must be secured by the residence. iii. Limitations 1. $1M Cap: only interest on the first million of loan is deductible (not 1M in interest but interest on the first million of loan). 2. If you have two homes, the loans are combined and together can’t exceed the $1M limitation. iv. Refinancing is acquisition indebtedness v. Cash Out Refinancing can be deducted as acquisition indebtedness up to the amt owed. The remainder if used for personal items is home equity debt. b. §163(h)(3)(C): Home Equity Debt i. Allows you to get a loan for non-house expenditures and have the interest deducted. 1. use for things like paying off student loans, going on vacation, buying cars, etc… ii. Rule: Must be insured by a qualified residence 1. Limit: Only up to $100k total debt a. Split funds for substantial improvement as acquisition debt. Points Points are prepaid interest First look to make sure that the loan qualifies for interest being deductible (qualified residential interest) §461(g): 18/23 Patrick – Tax Outline Rule: If you prepay something, you can only take the deduction in the year in which it would accrue. Here, you can deduct points over the term of years (assuming it is qualified residence income) Rule: Cannot deduct interest paid up front. Rule: Any non deducted points will be deductible in the year in which the property is sold. §461(g)(2): Exceptions Rule: Points for the purchase or improvement of the principle residence are all deductible upfront. §221: Educational Loan Interest §221 is deductible ABOVE THE LINE To be deductible you must have 1. Qualified Education Loan a. Any money you are borrowing as long as you are not burrowing it from an relative b. Student must be at least ½ time 2. Qualified Education Expenses a. Money borrows for tuition, books, fees, room and board (living expenses included) 3. Eligible Higher Education Institution a. Post high school education/college/trade school 4. Limitations a. §221(b)(1): Maximum amount of interest that is deductible is $2,500 b. §221(b)(2)(B): Limitations Based on Modified AGI i. Modified AGI 1. AGI before the §221 deduction 2. It determines what the deduction for educational loans are, then the deduction is subtracted from it to determine actual AGI ii. Single 1. If MAGI is b/t 0 and 50,000 there is no phase out 2. If MAGI is b/t 50,000 and 65,000 there is a phase out 3. If MAGI is more than 65,000 there is no deduction iii. Married 1. If MAGI is b/t 0 and 100,000 there is no phase out 2. If MAGI is b/t 100,000 and 130,000 there is a phase out 3. If MAGI is more than 130,000 there is no deduction §163: Deductions for Investment Interest Paid: borrow money to invest Section 163(h)(2): Interest associated with stock…pay something called margin interest. - When you buy a stock on margin, you buy a stock for not its full price. You are borrowing the money to be able to buy the stock and make it up by paying the margin interest. BASIC RULE: You are entitled to deduct investment interest that you are paying to the extent that you have net investment income. - If you are showing a profit, to the degree that you have this profit, you can deduct the interest. - Net investment income is determined by looking at the income from ALL investments - Congress doesn’t want your interest expenses from investment to put you in a loss situation, that is why we have this. §164: Deductions for Taxes Paid Above or Below the Line? Following taxes shall be allowed as a deduction under this section: - State and local and freight real property taxes - Big deduction you will get every year, whether imposed by state, local, or foreign means - State and local personal property taxes - Dmv things - State and local, and foreign, income, war profits, and excess profits taxes Cramer v. Comm’r Rule: In order to get a deduction for something, it must be YOUR obligation to pay. Helping someone by paying the taxes they are liable for will not get you a deduction.  For daughter to have been able to get this deduction, she needed to be on title with her mother, making her jointly and severally liable for the property taxes along with mom. RULE: SECTION 164(d): You must apportion taxes based on the days of ownership. 19/23 Patrick – Tax Outline §217: Deductions for Moving Expenses This deduction is above the line Only the reasonable expenses of moving household goods and personal effects from old house to new house, AND traveling including lodging. Food not allowed. But can deduct the cost of moving you, family, kids, pets, stuff...all at a reasonable cost. Two requirements: Conditions of the Allowance – Section 217(c) 1) Distance Test – Have to move a certain distance, cant just be down the street. a. RULE: Need to know 3 Things: i. Old home location ii. Old work location iii. New work location 1. RULE: Take distance from old home to new work, subtract distance from old home to old work…and it has to be at least 50 miles or farther away. 2. Ex. Old home – Malibu, old work is in Calabasas (diff is 10 miles), new job is in Ventura (diff b/w here and Malibu is 58 miles) a. Take difference of these 2 numbers, and you get 48…not enough. 3. If you don’t have a old place of work, then you just have to be moving 50 miles 4. Old job doesn’t have o be in the same line of work as new one 2) Time/Work Test – Predicated on the idea that you are going to work someplace. Don’t have to be working already like in Section 162. a. Section 217(c)(2): i. 2 Variations 1. Employee a. Must work 39 weeks in the first year (need not be continuous, add up total time) 2. Self-Employed a. Not only do you have to 39 weeks out of the first year, you must also look o the first 2 years and ask, “did you work for 78 weeks?” i. Can bunch up all the time at the end in the 2 nd year or wont qualify ii. Can take the deduction in the year you move, but on the form say you basically plan on meeting the work test. Rule: If you are reimbursed for your moving expenses, they are excluded under §132(a)(6) (a qualified moving fringe), therefore it is not a deduction for a moving expense, and don’t need to report under §217. - You don’t also get the deduction. §213: Deductions for Medical Expenses General Rule: You are entitled to deduct medical expenses for you and for dependents only to the extent that the expenses exceed 7.5% of AGI.  Example: 100k of AGI; you can only deduct qualifying medical expenses to the extent they exceed 7500. If you have 8000 in expenses, you only get a 500 deduction. §213(d)(1): Medical Care Rule: Code allows for deduction of medical expenses of yourself, a spouse, or a dependant Deductible BELOW THE LINE  Diagnosis, insurance, cure, mitigation, treatment, or prevention of disease or for the purpose of affecting any structure of the body. o Costs for doctors/dentists, hospital costs, hospital stays, chiropractor, ambulance costs… o Meals are fully deductible while in the hospital, taxes. o Transportation expenses deductible when essential to care referred to in (A). o Health Insurance deductible Interest: Borrow money to pay for a medical expenditure: is interest deductible? No. It is personal. §213(b) Limitation: Drugs must be prescribed or, be insulin to count. Capital Expenditures Raymon Gerard 20/23 Patrick – Tax Outline Rule: Difference b/t the cost of the medical expense (Air conditioner) and the increased value in the property is a §213 medical care deduction - What was not a deduction goes toward basis §263(a)(1): There shall be no deduction for capital expenditures because capital expenditures increase your Adjusted Basis [AB]. Rule: You can deduct the cost to the extent that it does not improve the value of the house. This is the only time we are concerned with the increase in value of the house when determining the adjustment in the basis. Reg. §1.213-1(e)(iii): Codification of Raymon Gerard holding.  All maintenance costs are always deductible if considered a medical expense.  Rule: Electricity to run a medical device is also deductible in full. Medical expenses by definition – fully qualify for medical care expense - Things so specific they fully qualify as medical care expenses (even though they are capital expenditures) - Wheel Chairs - Ramps/widening doorways of houses to allow for wheel chair access - Seeing eye dog - Artificial limb - Elevator is like Raymon Gerard When there is too much ―fun‖ involved it is not for medical expenses – case by case basis - lap pool, but not swimming pool - Jacuzzi tub is more likely than Jacuzzi §213(d)(9): Cosmetic Surgery Medical care does not include cosmetic surgery, unless it is necessary to repair a congenital abnormality or to rebuild for accident or disease - designed to be nonelective cosmetic surgery, but Drs. Bend this sometimes. Problems, page 565 1a. Increased value 2100, cost 4100. deduction 2000, basis increased by 2100. 2000 + 320 + 400 + 300 = 3020 12,000* 7.5% = 900. 3020 – 900 = 2120 1c. Maintenance and electricity IS deductible. Unless they no longer need the facility. - Even if the increase in value is greater than the cost, you can still deduct the operations, maintenance cost, and cost to repair. Traveling for Medical Reasons Commissioner v. Bilder Rule: If doctor tells you to go to warm weather, the cost of going to Florida for 3 months first year and 2 months for second year is not deductible. - Simply moving for health reasons does not warrant a medical deduction. - The transportation costs are deductible but, the costs of living there are not deductible. §213(d)(2): Medically-related transportation costs Rehabilitation Programs Deductible, whether prescribed by a doctor or not, are deductible medical expenses (alcohol, smoking rehabs: but, not Nicorette gum b/c not a Rx drug). Rev.Rul. 99-28: Smoking Cessation expenses are a deductible medical expense, even if self-prescribed - If you buy nicorette patches on your own, with no doctor prescription or not a part of the program, it is not deductible. §222: Deduction for Qualified Higher Education Expenses (Qualified tuition and related expenses) Only in place until 2005 This deduction, if allowed, is ABOVE THE LINE - also §§221: Student Loans, 217: Moving Qualified Tuition and Related Expenses Include: tuition and Feed - Not books, not for room and board - The most exclusive You are allowed to somewhat prepay this and get a deduction. - As long as you are paying for a semester that starts within 3 months of the beginning of the year, the tuition qualifies 21/23 Patrick – Tax Outline - Can prepay for spring in fall, not summer in fall Will not have to be responsible for the computation of the deduction. Maximum deduction amounts are: - 2002-03: $3,000 - 2004-05: $4,000 §170: Charitable deductions Gifts to charities are deductible Below the Line §170(c): Charitable Contribution Defined - Must be a qualified charitable organization - Examples of qualified charities: government, religious, educational, hospitals, veterans orgs., fraternal societies, non-profit cemetery companies. Limitations - No minimum, deduct from first dollar given - Generally, there are some maximum deductions for cash - 50% of AGI and what you give. o If you donate more, the excess carries over for the next year - If make a single gift of more than 250, need receipt. - $75 or more gift with contribution o If make a contribution to a charity dinner of 1000 but receive a dinner worth 80, you can only deduct net amount given = 920. o So, if value of what you are getting is $75 or more, subtract that amount from contribution and deduct the rest. - Contribution must benefit organization as a whole. Can’t earmark the money for a specific individual. - Must not be made to a specific person’s benefit Examples - Cannot give a gift of 10k to Pepperdine and want it to go to a scholarship for a particular student. - Sponsor-a-Child organizations are okay because the money is actually going to the organization. - Churches: give money to the general church fund and then the bishop gives out money to individuals (put name on the envelope but, check payable to the church). IRS does not pursue this even though this practice is technically improper. §165(h): Casualty and Theft Losses Deduction taken below the line (itemized). Uninsured Losses: If something is damaged, stolen, etc. you may be entitled to a deduction for the part not covered by insurance. Two Major Restrictions v. §165(h)(1): The first $100 per incident does not count. (a) You get no deduction for the first $100. vi. §165(h)(2): After the deductible, the rest of the expense is subject to a 10% of AGI floor. So, you can only deduct what is in excess of 10% of AGI. If your AGI is 100k you would only be able to deduct losses in excess of 10k. Rule: It must be sudden. Not termites. §63(c): Standard Deduction - 2002: Single $4,700 - 2002: Head of Household $6,900 - 2002: Married Filing Jointly - $7,850 - 2003: Single $4,750 - 2003: Head of Household $7,000 - 2003: Married Filing Jointly - $9,500 (2x single rate) o In 2005, it goes back to 175% (maybe 170%) Additional Standard Deduction (Historical Source) Additional amount if you are a certain age or you have sight impairment to a particular degree - 2002: Single $1,150 - 2002: Married Filing Jointly - $950 - 2002: Head of Household $1,150 - 2003: Single $1,150 22/23 Patrick – Tax Outline - 2003: Married Filing Jointly - $950 - 2003: Head of Household $1,150 These are extra amounts on top of the regular standard You qualify if you are: o 65 years old or older  Measured by the last day of the tax year  Ex. Single and 65 in 2003: Std deduction = 1150+4750=5900 If you are sight impaired and 65 years old, you get the additional amt twice If you are married, both blind, both over 65 you get it 4 times. Caveat: if you are a dependant of another, you may not get these full standard deductions Personal Exemption Deduction §151(d): Identifies the Amt of the deduction The basic amt is: o 2002: $3000 o 2003: $3050 One Personal Exemption Deduction per person – the question is who gets to deduct it Every person has a deduction. - You can sometimes take dependant’s personal exemption deduction, if certain conditions are met o Two Questions  Is the person your dependant  §152: Defines Dependants  Do you get their personal deduction  §151: Do you get to take the Personal Deduction of a Dependant? §152: Defines Dependants To be a dependant that person must be a citizen, national, etc for a part of the taxable year. - §152(a): Relationship Test o Qualifying relationships: Son, daughter, descendant of either (grandchildren, etc…), step children, father or mother, grandparents, nephew, niece, aunt, uncle, in-laws  Catchall: Also individuals who live in the house and are a member of their household  All but the catchall (not relative), don’t have to live with you. - §152: Support Test o You must provide more than ½ of the support for that person §151: Do you get to take the Personal Deduction of a Dependant? Dependant must meet one of these three requirements: 1. Have "gross income" less than the "exemption amount" for that year 2. Be your child who is under the age of 19 at the end of the year 3. Be your child who is under the age of 24 at the end of the year and is a full-time student for some part of each of five months during the year Caveats: If someone else can take your deduction, you cannot take it Steps in computing TI 1. Determine Gross Income 2. Determine Adjusted Gross Income (above the line deductions) 3. Determine Itemized Deductions 4. Determine That Person’s Standard Deduction? (which is more?) a. Are they impaired? 5. Determine Personal Exemption Deductions 6. AGI – (Greater of Itemized Deduction or Standard Deduction) – personal deduction 23/23