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ACCT 3343
Review Sheet – Midterm
Chapter 1
How are tax systems structured? What are the different ways tax systems can be implemented?
What are the objectives of taxes?
What are the different kinds of taxes that exist? How are they different?
How do you calculate total tax liability?
How do you calculate and interpret effective tax rates and marginal tax rates?
What is tax planning, tax avoidance, and tax evasion?
Additional Book Practice Problems: 1.7, 1.22, 3.
Chapter 3
How does the individual income tax formula work? How do you get from total income to taxes
due?
What is the difference between above and below the line deductions?
How are the different filing statuses determined? What are the differences in benefits between the
filing statuses?
How is the standard deduction determined? How does that change based filing status, dependent
status, and other factors?
What is a dependent? How is dependent status determined?
How is the child and dependent tax credit calculated?
How is the kiddie tax calculated? Why do we have it?
How are total capital gains determined? How does the gain and loss netting process work?
What are the different kinds of capital assets and how are they taxed differently?
Additional Book Practice Problems: 3.21, 3.24, 3.26, 3.31, 3.36, 3.43, 3.
Chapter 4
How is gross income defined?
What is the difference between realization and recognition?
What is the difference between the cash and accrual methods for recognizing income? Can you
identify transactions that would be taxable income under one method but not for the other?
What is the difference between earned and unearned income?
How is interest income treated for tax purposes? How are dividends treated differently?
What is alimony taxable? What about prizes, awards, gambling winnings, and other kinds of
income?
When there is imputed income, how much income and expense does each party to the transaction
recognize? How does this change depending on the relationship between parties?
What are the exceptions to imputed income being calculated?
Additional Book Practice Problems: 4.20, 4.21, 4.24, 4.30, 4.43, 4.48, 4.
Chapter 5
What are non-income items? Why are they non-income items?
What are corporate earnings and profits (E&P?) At what point is a corporate distribution not
taxed?
How can you evaluate whether a transaction is a gift or not? What isn’t a gift?
When are distributions from life insurance taxable to the recipient?
When are scholarships excluded from taxable income?
What kinds of proceeds from damages are considered taxable income?
When are meals and lodging expenses excluded from taxable income? How do you determine
this?
What are the different types of fringe benefits? How does discrimination impact the taxability of
these benefits?
How is the income inclusion from group term life insurance calculated?
What is the difference between the foreign tax credit and the foreign income exclusion? How is
the later calculated?
Why are municipal bonds treated differently from other bonds?
What are the different tax favored ways to save for future educational expenses? How do they
differ?
Additional Book Practice Problems: 5.11, 5.22, 5.31, 5.34, 5.37, 5.43, 5.48, 5.
Chapter 6
What are the requirements for a §162 business expense?
How do §162 business expenses differ from §212 nonbusiness and personal expenses?
How do the cash and accrual methods apply to expenses?
What expenses are de facto never deductible for tax purposes?
When are expenses associated with illegal activities deductible?
What is the limit to executive compensation? What are covered employees?
When are expenses classified as investigation versus startup expenses? How does the tax
treatment between these differ?
Additional Book Practice Problems: 6.03, 6.15, 6.26, 6.28, 6.31, 6.
Unearned income Less: $1, Less: The greater of
- $1,250 of the standard deduction or
- the amount of allowable itemized deductions directly connected with the production of the unearned income
Equals: Net unearned income If net unearned income is zero (or negative), the child’s tax is computed without using the parents’ rate. If the amount of net unearned income (regardless of source) is positive, the net unearned income is taxed at the parents’ rate. The child’s remaining taxable income (known as nonparental source income) is taxed at the child’s rate.
Jack’s net unearned income is $2,400, computed as follows: Unearned income: $4, Less: $1, Less: $1,250 of the standard deduction Equals: $2, The allocable parental tax is $398, computed as follows: Christian and Danielle’s taxable income: $88, Plus: Jack’s net unearned income: $2, Revised taxable income: $90, Tax on revised parental income: $10, Less: Tax on the parental income: $10,138 2 Allocable parental tax: $ Jack’s taxable income: Adjusted gross income: $4, Less: Standard deduction: $1,250 (limited) Equals: Taxable income: $3, Less: Net unearned income: $2, Nonparental source income: $1, Tax on $1,250 is $125 ($1,250 × 10%). Jack’s total tax is $523 ($398 + $125). Note: It does not matter that Jack’s unearned income was from property received from a relative rather than from his parents; the “kiddie tax” still applies. Tax Computations: 1$90,550 − $89,450 = $1,100. $1,100 × 22% = $242. $242 + $10,294 = $10,536. 2$88,150 − $22,000 = $66,150. $66,150 × 12% = $7,938. $7,938 + $2,200 = $10,138.
- (LO 8) Individual taxpayers combine capital gains and losses in a specific netting process. To arrive at a net capital gain, capital losses must be taken into account. The capital losses are aggregated by holding period (short- term and long-term) and applied against the gains in that category. If excess losses result, they are then shifted to the category carrying the highest tax rate. A net capital gain will occur if the net long-term capital gain (NLTCG) exceeds the net short-term capital loss (NSTCL).
For individual taxpayers, net capital loss can be used to offset ordinary income of up to $3,000 ($1,500 for married persons filing separate returns). If a taxpayer has both short- and long-term capital losses, the short-term category is used first to arrive at the $3,000. Any remaining net capital loss is carried over indefinitely until exhausted. When carried over, the excess capital loss retains its classification as short- or long-term.
Tamara has a net long-term capital gain of $1,000 ($2,000 + $500 − $1,500) and a short-term capital loss of $4,100. When netted, the result is an overall net short-term capital loss of $3,100. As a result, Tamara is allowed a $3, deduction in the current year and has a $100 short-term capital loss carryover to the following year.
31. (LO 4)
Characteristic Qualifying Child Test Qualifying Relative Test a. Taxpayer’s son has gross income of $7,000. Gross income—Not Applicable
Gross income—Not Met
b. Taxpayer’s niece has gross income of $3,000. Gross income—Not Applicable
Gross income—Met
c. Taxpayer’s uncle lives with him. Relationship—Not Met Relationship—Met d. Taxpayer’s daughter is 25 and disabled. Age—Met Age—Not Applicable e. Taxpayer’s daughter is age 18, has gross income of $8,000, and does not live with him.
Residence—Not Met Gross income—Not Applicable
Gross income—Not Met
f. Taxpayer’s cousin does not live with her. Relationship—Not Met Residence—Not Met
Relationship—Not Met
g. Taxpayer’s brother does not live with her. Residence—Not Met Relationship—Met h. Taxpayer’s sister has dropped out of school, is age 17, and lives with him.
Relationship—Met Residence—Met Age—Met
Relationship—Met
i. Taxpayer’s older nephew is age 23 and a full- time student.
Relationship—Met Age—Not Met
Relationship—Met
j. Taxpayer’s grandson lives with her and has gross income of $7,000.
Relationship—Met Residence—Met
Relationship—Met Gross income—Not Met
3.36. (LO 4, 9) a. Son, niece, and brother. The cousin and the family friend do not meet the relationship test.
b. No. The eligible parties can designate who will claim the dependent as they choose.
c. If the eligible person who is selected to claim the dependent also pays the medical expenses, that person can claim them.
3.43. (LO 5) a. Winston qualifies for head-of-household filing status as long as one parent is his dependent.
b. Winston must use single filing status. Except in the case of parents, head-of-household status requires that the dependent be a member of the taxpayer’s household.
c. The dependent must meet the relationship test. Therefore, Winston must use single filing status.
d. Winston can qualify for head of household if the mother-in-law is his dependent. He does not meet the requirements of a surviving spouse because a mother-in-law is not a child.
e. Because Winston is still married, he cannot use head-of-household filing status. (He does not satisfy the requirements of an abandoned spouse—a mother-in-law is not a child.) Consequently, Winston must use married filing separately filing status.
3.47. (LO 1, 3, 7)
a. Earned income $3, Interest income 5, Gross income and AGI $8, Less: Standard deduction [greater of $1,250 or $3,000 (earned income) + $400] (3,400) Taxable income $4,
b. Taxed at parents’ rate: Unearned income $5,
a. In this example, Elizabeth's loan to Richard is not subject to the imputed interest rules because the $10,000 gift loan exception applies.
b. The $10,000 exception does not apply to the loan to Woody because the proceeds were used to purchase income- producing assets. However, under the $100,000 exception, the imputed interest is limited to Woody’s investment income ($600). However, because Woody’s net investment income is below $1,000, no interest is imputed.
c. None of the exceptions apply to the loan to Irene because the loan was for more than $100,000. Therefore, Elizabeth must recognize $2,625 as interest income. $105,000 × 5% × 6/12 = $2,625.
4.30. (LO 1, 2)
a. Of the value of the corporate stock Deb received, $300 was for her accrued interest. The remaining $11,700 was in exchange for the bond whose cost was $10,000. Deb should have recognized $300 interest income and $1, gain ($11,700 − $10,000) when she exchanged the bond for stock. The fact that the stock decreased in value after the exchange is not relevant because she still owns the stock and thus has not realized the loss in value.
b. Deb did not realize income when she borrowed on the property. Her net worth did not increase—assets and liabilities increased by an equal amount.
c. Deb must recognize compensation income of $600 ($300 × 2), the fair market value of the tickets at the time she received them.
4.43. (LO 3, 5) a. Amur dividends (Note 1) $ 60, Blaze dividends (Note 2) 40, Grape dividends 22, Total dividend income $122,
Note 1: Even though Amur is a foreign corporation, the dividend is a qualified dividend because its stock is traded on an established U.S. securities market.
Note 2: The dividend paid by Blaze is not a qualified dividend because the holding period requirement is not satisfied (i.e., must be held more than 60 days during the 121-day period beginning 60 days before the ex-dividend date).
Qualified dividends Amur dividend $60, Grape dividend 22, $82, Applicable rate × 15% Tax on qualified dividends $ 12, Non-qualifying dividends Blaze dividend $40, Applicable rate × 32% Tax on non-qualified dividends $12, Total tax on dividends $25,
b. The daughter is in the 10% marginal tax bracket. She has $1,000 of qualified dividends that are eligible for the alternative tax rate of 0% (rather than the usual 15%). So the daughter’s tax liability on the dividends is $0 ($1,000 × 0%).
c. Alva’s after-tax return on the bond is 3.06% [(1 − 0.32)(0.045)]. Her after-tax return on the stock is 3.4% [(1 − 0.15)(0.04)]. Therefore, the stock yields the greater after-tax return because any appreciation in value is the same.
d. The daughter is in the 10% marginal tax bracket. Therefore, her after-tax return on the bond is 4.05% [(1 − 0.10)(0.045)]. Her after-tax return on the stock is 4.0% [(1 − 0.00)(0.04)]. Therefore, the bond yields the greater after-tax return.
4.48. (LO 4)
a. The imputed interest rules do not apply because the loan was less than $100,000, and Jim does not have any investment income. The imputed interest amount for six months is $180 ($12,000 × 0.03 × 0.5). However, Aldridge will include nothing in his gross income.
b. The imputed interest rules do not apply because this gift loan was for less than $10,000, and it was not used to purchase income-producing property. Aldridge will include nothing in his gross income.
c. The imputed interest for four months is $250 ($25,000 × 0.03 × 4/12). However, because the amount of the gift loan does not exceed $100,000, the imputed interest is limited to an amount equal to Al’s net investment income of $220. Further, because this amount does not exceed $1,000, no interest is imputed.
d. The imputed amount for three months is $1,125 ($150,000 × 0.03 × 3/12). The investment income limitation does not apply to this loan because the loan exceeded $100,000. Therefore, Aldridge must include $1,125 of imputed interest in his gross income.
4.53. (LO 2, 3, 4)
Salary $ 90, Unemployment compensation 8, Interest income 60 Dividend income 550 Lottery winnings 1,500* Gross income $100, *The $5 cost of the lottery ticket is deductible as a miscellaneous itemized deduction, not subject to the 2%-of-AGI reduction. Note : Neither the $12,000 loan nor the principal of $1,940 from the savings account withdrawal is included in gross income.
5.11. (LO 2) The discount on the price of the automobile of $4,600 ($33,600 − $29,000) is a qualified employee discount. The discount can be excluded from Ted’s gross income because the price he paid was above the employer’s cost. However, Ted must include in gross income 80% of the dealer preparation fee, a service, of $300, which is $240 ($300 × 80%). The maximum qualified employee discount that can be excluded for a service is 20%.
Under this global system, a U.S. citizen who earns income in another country could experience double taxation: the same income would be taxed in the United States and in the foreign country. Out of a sense of fairness and to encourage U.S. citizens to work abroad (so that exports might be increased), Congress has provided alternative forms of relief from taxes on foreign earned income. The taxpayer can elect either (1) to include the foreign income in his or her taxable income and then claim a credit for foreign taxes paid or (2) to exclude the foreign earnings from his or her U.S. gross income (the foreign earned income exclusion).
Foreign earned income consists of the earnings from the individual’s personal services rendered in a foreign country (other than as an employee of the U.S. government). To qualify for the exclusion, the taxpayer must have a tax home in a foreign country and be either of the following:
- • A bona fide resident of the foreign country (or countries).
- • Present in a foreign country (or countries) for at least 330 days during any 12 consecutive months.
The amount of the foreign earned income exclusion changes each year. Persons who qualify are eligible to exclude up to $120,000 in foreign earned income for 2023.
Mio’s exclusion is limited to $104,328, computed as follows: $120,000 (2023 limit) × (340 days in Germany 365 in the year; 93.15%) = $111,780.
a. The $1,500 cost of the retirement planning seminar can be excluded from Polly’s gross income because it is provided on a nondiscriminatory basis. b. Employee parking is specifically excluded from gross income. However, the value of Polly’s free parking of $4,200 ($350 per month) exceeds the permitted exclusion amount of $3,600 ($300 per month in 2023). So, Polly must include $600 ($4,200 − $3,600) in her gross income. Note that parking can be provided on a discriminatory basis.
c. The use of the phone is excluded from Polly’s gross income because it fits the requirements for a de minimis fringe benefit. It is not cost effective to track and record the cost of personal phone calls.
d. The value of the use of the condominium is a no-additional-cost fringe benefit that Polly can exclude from gross income.
e. The freight is a no-additional-cost benefit made available to all employees (nondiscriminatory). The $750 can be excluded from Polly’s gross income.
f. The plan is discriminatory. Therefore, the highly compensated employees must pay tax on all of their discounts. Polly includes $900 in her gross income.
5.51. (LO 1) a. Ezra must include $1,000 in gross income, the amount of cash he could have received. b. The stock dividend is nontaxable because he did not have the option of receiving cash.
c. Ezra must recognize the income he realized in 2023 of $1,000. He is not permitted to deduct an economic loss until realization occurs (i.e., when he sells the shares).
a. Not deductible. b. Deduction from AGI.
c. Deduction from AGI (subject to 7.5%-of-AGI floor).
d. Not deductible. The alimony payments relate to a divorce agreement signed after 2018.
e. Deduction for AGI.
f. Deduction for AGI.
6.15. (LO 3) Even though this is an illegal business, expenditures that are ordinary, necessary, and reasonable are deductible. The bribes paid to city employees (a.) and kickbacks to police (d.) are not deductible because they violate public policy. All of the other items are deductible (b., c., e., f., g., and h.).
6.26. (LO 2)
a. The entire $8,400 is deductible since the benefit from the payment will be completely received by the end of
b. Since the benefit from the payment will not be completely received by the end of 2024 (the end of the tax year following the year of payment), the only payments deductible in 2023 are for the benefits received in 2023 (nine months; $8,400 × 9/24 = $3,150).
6.28. (LO 2) Meghan must capitalize and amortize the $120,000 paid in February 2023 for rent from February 2023 through July 2024. She does not qualify under the “12-month rule” for prepaid expenses because the period for which prepayments have been made extends beyond the earlier of (1) January 31, 2024 (12 months after the first date on which the taxpayer realized benefits), or (2) December 31, 2024 (the end of the following tax year). Her 2023 deductible rent expense is $73,333 ($6,666.67 per month 11 months; rounded).
- (LO 3) Since Stanford is not in the restaurant business and he does not acquire the restaurant, the $28,000 is not deductible.
He cannot deduct all of the $51,000 related to the investigation of the bakery since he is not in that trade or business already. Since he did purchase the bakery, the maximum deduction (before amortization) of the $51,000 is $5,000.
The $5,000 deduction is reduced dollar for dollar for those expenses in excess of $50,000.
$51,000 – $50,000 = $1,000 reduction. $5,000 – $1,000 = $4,000 deduction.
The remaining expenses of $47,000 ($51,000 – $4,000) can be amortized over 180 months beginning with the month business begins, which is November.
$47,000 180 months = $261 per month. $261 × 2 months = $522.
The total deduction is $4,522 ($4,000 + $522).
6.43. (LO 3) a. He can deduct $52,000. b. He can deduct $52,000.
c. None of Terry’s expenses are deductible.
d. Terry can immediately expense $3,000 and amortize the $49,000 balance ($52,000 − $3,000) over a period of 180 months beginning in October (the month the business is started). The deduction for 2023 is $3,817 [$3,000 + $816.67 ($49,000 ÷ 180 × 3 months); rounded].
