ACC 221 Tax Accounting Ch 1


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ACC 221 Tax Accounting Ch 1

  1. 1. Income Tax Fundamentals 2009 edition Gerald E. Whittenburg Martha Altus-Buller 2009 Cengage Learning
  2. 2. <ul><li>Since 1913 - adoption of 16 th amendment - the constitutionality of income tax has never been questioned </li></ul><ul><li>Income taxes serve a multitude of purposes </li></ul>2009 Cengage Learning
  3. 3. <ul><li>Raise revenue </li></ul><ul><li>Tool for social and economic policies </li></ul><ul><ul><li>Social policy encourages desirable activities and discourages undesirable activities </li></ul></ul><ul><ul><ul><li>Can’t deduct penalties </li></ul></ul></ul><ul><ul><ul><li>Can deduct charitable contributions </li></ul></ul></ul><ul><ul><ul><li>Credits for higher education expenses </li></ul></ul></ul><ul><ul><li>Economic policy as manifested by fiscal policy </li></ul></ul><ul><ul><ul><li>Encourage investment in capital assets </li></ul></ul></ul><ul><ul><li>Both economic and social </li></ul></ul><ul><ul><ul><li>Exclude gain on sale of personal residence up to $250,000 ($500,000 if married) </li></ul></ul></ul>2009 Cengage Learning
  4. 4. <ul><li>Individual </li></ul><ul><ul><li>Taxable income includes wages, salary, self-employment earnings, rent, interest and dividends </li></ul></ul><ul><ul><li>An individual may file simplest tax form qualified for </li></ul></ul><ul><ul><ul><li>1040EZ </li></ul></ul></ul><ul><ul><ul><li>1040A </li></ul></ul></ul><ul><ul><ul><li>1040 </li></ul></ul></ul><ul><ul><li>If error made on one of the three above forms, can amend with a 1040X </li></ul></ul>See next slide 2009 Cengage Learning
  5. 5. <ul><li>Individual </li></ul><ul><ul><li>1040EZ </li></ul></ul><ul><ul><ul><li>Single or Married Filing Jointly [MFJ] </li></ul></ul></ul><ul><ul><ul><li>Must not be 65 or older and/or blind </li></ul></ul></ul><ul><ul><ul><li>Must not claim any dependents </li></ul></ul></ul><ul><ul><ul><li>Taxable income must be under $100,000 </li></ul></ul></ul><ul><ul><ul><ul><li>Only wages, salaries or unemployment and not more than $1,500 taxable interest income </li></ul></ul></ul></ul><ul><ul><ul><li>Not received advanced earned income credit </li></ul></ul></ul>2009 Cengage Learning
  6. 6. <ul><li>Individual [continued] </li></ul><ul><ul><li>1040A </li></ul></ul><ul><ul><ul><li>Generally used by taxpayers who are not self-employed and don’t itemize deductions </li></ul></ul></ul><ul><ul><li>1040 </li></ul></ul><ul><ul><ul><li>If taxpayer doesn’t qualify to use 1040EZ or 1040A should complete a 1040 with possible schedules attached: </li></ul></ul></ul><ul><ul><ul><ul><li>Schedule A to itemize deductions </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Schedule B to report dividends/interest income > $1500 </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Schedule C to report trade/business income </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Schedule D to report capital gains/losses </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Schedule E to report rental/royalty income </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Schedule F to report farm/ranch activities </li></ul></ul></ul></ul>2009 Cengage Learning
  7. 7. <ul><li>Corporations </li></ul><ul><ul><li>Tax rate schedule found on page 1-3 </li></ul></ul><ul><ul><li>1120 </li></ul></ul><ul><ul><li>or </li></ul></ul><ul><ul><li>1120S </li></ul></ul><ul><ul><ul><li>Corporations that elect S Corporation status </li></ul></ul></ul><ul><ul><ul><ul><li>Don’t pay regular corporate income taxes </li></ul></ul></ul></ul><ul><ul><ul><ul><li>Instead, pass through items of income or loss to shareholders </li></ul></ul></ul></ul><ul><li>Partnerships </li></ul><ul><ul><li>Reporting entity, not taxable entity </li></ul></ul><ul><ul><li>1065 – reports income/loss and allocation to partners </li></ul></ul><ul><ul><ul><li>Pass through items of income or loss to partners </li></ul></ul></ul>2009 Cengage Learning
  8. 8. <ul><li>This model follows Form 1040 </li></ul><ul><li>Gross Income </li></ul><ul><li>less: Deductions for Adjusted Gross Income [AGI] </li></ul><ul><li>AGI </li></ul><ul><li>less: Greater of Itemized or Standard Deduction </li></ul><ul><li>less: Exemptions </li></ul><ul><li>Taxable Income </li></ul><ul><li>times: Tax Rate (using tax tables or rate schedules) </li></ul><ul><li>Gross Tax Liability </li></ul><ul><li>less: Tax Credits and Prepayments </li></ul><ul><li> Tax Due or Refund </li></ul>2009 Cengage Learning
  9. 9. <ul><li>2008 standard deduction </li></ul><ul><ul><li>Single $ 5,450 </li></ul></ul><ul><ul><li>Married Filing Joint [MFJ] $10,900 </li></ul></ul><ul><ul><li>Qualifying Widow(er) $10,900 </li></ul></ul><ul><ul><li>also known as Surviving Spouse </li></ul></ul><ul><ul><li>Head of Household [HOH] $ 8,000 </li></ul></ul><ul><ul><li>Married Filing Separate [MFS] $ 5,450 </li></ul></ul><ul><ul><li>*Taxpayers 65 or older and/or blind get an additional amount </li></ul></ul><ul><ul><li>$1050 if MFJ, MFS or SS </li></ul></ul><ul><ul><li>$1350 if HOH or Single </li></ul></ul><ul><li>2008 exemption $3500 – personal & dependency </li></ul>
  10. 10. <ul><li>Facts: Juan (age 29) is a single taxpayer. In 2008, his salary is $39,000 and he has dividend income of $1000. In addition, he has deductions for AGI of $2,500 and $3000 of itemized deductions. If Juan claims one exemption for this year, calculate the following amounts: </li></ul><ul><li>Gross income ___________ </li></ul><ul><li>Adjusted gross income ___________ </li></ul><ul><li>Greater of the standard </li></ul><ul><li>deduction or itemized deductions ___________ </li></ul><ul><li>Taxable income ___________ </li></ul>
  11. 11. <ul><li>Gross income $40,000 </li></ul><ul><li>Adjusted gross income ___________ </li></ul><ul><li>Greater of the standard </li></ul><ul><li>deduction or itemized deductions ___________ </li></ul><ul><li>Taxable income ___________ </li></ul><ul><li>Gross income = $39,000 + 1,000 </li></ul>
  12. 12. Gross income $40,000 Adjusted gross income 37,500 Greater of the standard deduction or itemized deductions ___________ Taxable income ___________ AGI = $40,000 – 2,500
  13. 13. Gross income $40,000 Adjusted gross income 37,500 Greater of the standard deduction or itemized deductions 5,450 Taxable income ___________ The standard deduction of $5450 exceeds itemized deductions of $3000 2009 Cengage Learning
  14. 14. Gross income $40,000 Adjusted gross income 37,500 Greater of the standard deduction or itemized deductions 5,450 Taxable income $28,550 Taxable income = $37,500 – 5,450 – 3,500 exemption 2009 Cengage Learning
  15. 15. <ul><li>Based on filing status and gross income </li></ul><ul><ul><li>Generally, if exemptions plus greater of standard or itemized deductions exceed income, then filing is not necessary </li></ul></ul><ul><ul><li>If taxpayer is claimed as a dependent on another’s return, dependent’s standard deduction is: </li></ul></ul><ul><ul><ul><li>Greater of $900 </li></ul></ul></ul><ul><ul><ul><li>or </li></ul></ul></ul><ul><ul><ul><li>Earned income + $300 </li></ul></ul></ul><ul><ul><ul><li>But never more than standard deduction </li></ul></ul></ul>2009 Cengage Learning
  16. 16. <ul><li>Taxpayer must file if </li></ul><ul><ul><li>Owe any special taxes (See Chart C) </li></ul></ul><ul><ul><li>Received Advanced Earned Income Credit payments from employer </li></ul></ul><ul><ul><li>Had self-employment [SE] income >= $400 </li></ul></ul><ul><ul><li>Had wages of $108.28 or more from a church that is exempt from paying social security and Medicare taxes </li></ul></ul><ul><ul><li>Other situations outlined on Chart C </li></ul></ul>2009 Cengage Learning
  17. 17. <ul><li>Note: Must analyze each independent situation to determine if the taxpayers are required to file a return for 2008 </li></ul><ul><li>Taxpayer [age 45] is a single waiter and has unreported tips of $1510; is the taxpayer required to file? </li></ul><ul><li>Yes, because taxpayer owes social security taxes on unreported tips </li></ul>2009 Cengage Learning
  18. 18. <ul><li>Taxpayer is single [age 31] and blind and has income of $9,250; is the taxpayer required to file? </li></ul><ul><li>No, because standard deduction = $6800 [$5450 + 1350]; exemption= $3500. These amounts total to $10,300 and exceed income. </li></ul>2009 Cengage Learning
  19. 19. <ul><li>Husband [age 67] and wife [age 69] have income of $19,180 and MFJ; are the taxpayers required to file? </li></ul><ul><li>No, because standard deduction = $12,800 [10,900+ 1050 + 1050]; exemptions = $7000. These amounts total to $20,000 and exceed income. </li></ul>2009 Cengage Learning
  20. 20. <ul><li>Taxpayer is a single full time college student, age 21, with wages from a part-time job of $6340. He is claimed as a dependent by his parents; is the taxpayer required to file? </li></ul><ul><li>Yes, because standard deduction = $5450; exemption = 0 [as he’s claimed by parents]. Income exceeds these amounts. </li></ul>2009 Cengage Learning
  21. 21. <ul><li>Single </li></ul><ul><ul><li>Unmarried or legally separated as of 12/31 </li></ul></ul><ul><ul><li>And not qualified as married filing separately, head of household or qualifying widow[er] </li></ul></ul><ul><li>Married Filing Jointly [MFJ] </li></ul><ul><ul><li>If married on 12/31 – even if didn’t live together entire year </li></ul></ul><ul><ul><li>Same-sex couples may not file jointly </li></ul></ul><ul><ul><li>If spouse dies during year you can file MFJ in current year </li></ul></ul><ul><li>Married Filing Separately [MFS] </li></ul><ul><ul><li>Each file separate returns </li></ul></ul><ul><ul><li>Must compute taxes the same way - both itemize or both use standard </li></ul></ul><ul><ul><li>If living in community property state, must follow state law to determine community and separate income </li></ul></ul>2009 Cengage Learning
  22. 22. <ul><li>Head of Household [HOH] </li></ul><ul><ul><li>Tables have lower rates than single or MFS </li></ul></ul><ul><ul><li>Taxpayer can file as HOH if: </li></ul></ul><ul><ul><ul><li>Unmarried or abandoned* as of 12/31 </li></ul></ul></ul><ul><ul><ul><li>Paid > 50% of cost of keeping up home that was principal residence of dependent child or other qualifying dependent relative </li></ul></ul></ul><ul><ul><ul><ul><li>There is one exception to principal residence requirement: if dependent is taxpayer’s parent, he/she doesn’t have to live with taxpayer </li></ul></ul></ul></ul>*See p. 1-10 for requirement for abandoned spouse 2009 Cengage Learning
  23. 23. <ul><li>Surviving Spouse [SS] </li></ul><ul><ul><li>Also known as qualifying widow or widower </li></ul></ul><ul><ul><li>Available in year of spouse’s death and for two subsequent years </li></ul></ul><ul><ul><ul><li>Must pay over half the cost of maintaining a household where a dependent child, stepchild, adopted child or foster child lives </li></ul></ul></ul>2009 Cengage Learning
  24. 24. <ul><li>Six brackets (in Appendix) </li></ul><ul><ul><li>10%, 15%, 25%, 28%, 33%, 35% </li></ul></ul><ul><ul><li>Tax rate schedules for different filing types in Appendix A </li></ul></ul><ul><ul><li>Marginal rate may exceed 35% when taxpayers are required to phase out exemptions and deductions </li></ul></ul><ul><li>Qualifying dividends and net long-term capital gains may be taxed at lower rates </li></ul>2009 Cengage Learning
  25. 25. <ul><li>Personal exemptions may be taken for self/spouse </li></ul><ul><li>Additional exemptions may be taken for individuals who are either </li></ul><ul><ul><li>Qualifying child </li></ul></ul><ul><ul><ul><ul><li> or </li></ul></ul></ul></ul><ul><ul><li>Qualifying relative </li></ul></ul><ul><li>For 2008 each exemption = $3500 </li></ul><ul><li>Exemption phased out to $2333 when AGI exceeds thresholds found on p. 1-12 </li></ul>2009 Cengage Learning
  26. 26. <ul><li>Six tests must be met for a child to be claimed as a dependent </li></ul><ul><ul><li>Relationship Test - child must be taxpayer’s child, stepchild, adopted child or taxpayer’s sibling, half- or step-sibling, or a descendant of any of these. Foster child may also qualify. </li></ul></ul><ul><ul><li>Domicile Test- child must have same principal place of abode as taxpayer for more than ½ the year. </li></ul></ul><ul><ul><li>Age Test – child must be under 19 or a full-time student under 24 [enrolled at least 5 months of year]. </li></ul></ul>2009 Cengage Learning
  27. 27. <ul><li>Joint Return Test – child may not file joint return with spouse [exception: if it’s only to claim refund, then considered to have passed this test]. </li></ul><ul><li>Citizenship Test – dependent must be a US citizen, a resident of the US, Canada or Mexico, or an alien child adopted by and living with a US citizen. </li></ul><ul><li>Self-Support Test – child who provides more than ½ of his/her own support cannot be claimed as a dependent of someone else. Funds received by students as scholarships are excluded from support test. </li></ul>2009 Cengage Learning
  28. 28. <ul><li>Five-part test must be met for a qualifying relative [who is not a qualifying child] to be claimed as a dependent. </li></ul><ul><li>Note: A taxpayer’s child who does not meet qualifying child test may meet qualifying relative test!! </li></ul>2009 Cengage Learning
  29. 29. <ul><li>Relationship or Member of Household Test – list of relatives that qualify is available at IRS web site </li></ul><ul><ul><li>A member of household [even if unrelated] for entire year meets the relationship test </li></ul></ul><ul><li>Gross Income Test – individual may not have gross income in excess of $3500 </li></ul><ul><li>Support Test – dependent must receive over ½ of his/her support from taxpayer </li></ul><ul><li>Joint Return Test – dependent may not file a joint return unless it’s solely to claim refund </li></ul><ul><li>Citizenship Test – dependent must meet the citizenship test identified in the qualifying child slide </li></ul>2009 Cengage Learning
  30. 30. <ul><li>Certain taxpayers may not use standard deduction, instead must use itemized: </li></ul><ul><ul><li>Married individual filing separately and whose spouse itemizes </li></ul></ul><ul><ul><li>Nonresident aliens </li></ul></ul><ul><ul><li>Individual filing a short-period tax return </li></ul></ul>2009 Cengage Learning
  31. 31. The special rule for standard deduction for dependents is “deduction = greater of $900 or earned income + $300 but only up to basic standard deduction” Example 1: Jaime is 23 and a full time student and her folks claim her as a dependent; she earned $2,000 in 2008. 2,000 earned income ( 2,000 ) standard deduction $0 taxable income Example 2: Tia is 18 and has dividend income of $1,500 [not earned] 1,500 dividend income ( 900 ) standard deduction $ 600 taxable income
  32. 32. Basic Gain/Loss Model Amount Realized* - Adjusted Basis** Realized Gain/Loss *Sales Price - Sales Expenses **Cost - Accumulated Depreciation
  33. 33. <ul><li>A capital asset is any property [personal or investment] held by a taxpayer, with certain exceptions as listed in the tax law </li></ul><ul><ul><li>Examples: stocks, bonds, land, cars and other items held for investment </li></ul></ul><ul><ul><li>Gains/losses on these assets are subject to special rates </li></ul></ul><ul><li>Holding period of asset determines treatment </li></ul><ul><ul><li>Long term is held >12 months (taxed at capital rates) </li></ul></ul><ul><ul><li>Short term is held <= 12 months (taxed at ordinary rates) </li></ul></ul>2009 Cengage Learning
  34. 34. <ul><li>Long term capital gain </li></ul><ul><ul><li>Special rates depending upon taxpayer’s bracket </li></ul></ul><ul><ul><li>Ordinary Tax Bracket Capital Gains Tax Rate </li></ul></ul><ul><ul><li> 10% or 15% 0% </li></ul></ul><ul><ul><li>All other brackets 15% </li></ul></ul><ul><li>Long term capital loss </li></ul><ul><ul><li>Only allowed $3,000 net capital loss per year against ordinary income </li></ul></ul><ul><ul><li>Carry-forward any unused balance </li></ul></ul>2009 Cengage Learning
  35. 35. Facts: Noah purchased Sony AAA bonds in 2001 for $47,600. In 2008, he sold the bonds for $51,500, paying commission of $515. What is his: Amount realized ___________ Adjusted basis ___________ Realized gain/loss ___________ Recognized gain/loss ___________ Type of gain/loss ___________
  36. 36. Amount realized * $50,985 Adjusted basis 47,600 Realized gain/loss 3,385 Recognized gain/loss 3,385 Type of gain/loss Long term capital gain *$51,500 – 515 = 50,985