Income Taxation Outline

INCOME TAX RAKOWSKI FALL 2016

Voluntary compliance – file on your own (self assessment, reporting)
Don’t hear anything most of the time
Tax lawyer opinions
Audits target certain tax groups that are suspected of cheating
Often can offer money to make the issue go away

If you choose to litigate

Don’t pay (if lose, pay with interest)

Tax Court (no jury, typically decided by a single tax-only judge)
Appeal to local Circuit Court (9th Cir. in CA)

Pay (if win, get money back with interest)

District court (jury)

Appeal to local Circuit Court (9th Cir. in CA)

Court of Federal Claims (in D.C., no jury)

Appeal to Federal Circuit
Could do this if 9th Cir. precedent goes against you

Tax laws

Often legislative

Congress often essentially delegates the regulations to the IRS

Revenue rulings

All IRS agents bound by these rulings
Can be controversial
Can be challenged but entitled to a good amount of deference

Revenue procedures

Typically general rules and less controversial

Private letter rulings

Individuals/companies write the IRS and the IRS rules on an individual basis
Not bound by these rulings so don’t have to be consistent

Rationales for imposing taxes

Imposed by the government to benefit people

There are taxes that state and local gov’ts levy for benefit of consumers

To discourage them from doing things that are bad for them (i.e. tobacco, alcohol, gambling, etc.)

Imposed to force people to do what they normally would do for themselves

Forced savings rationale (i.e. unemployment insurance, Medicare)

Transfer: intergenerational transfer of money (i.e. social security)

Transfer from high earners to low earners
Two-earner couples will pay more in than one-earner couples, but the benefits they get will be the same

Internalize externalities

Actor bears full cost of activities

Fund collective endeavors

Government services (i.e. defense, regulation)
But issue that some use/receive these benefits more than others (J.S. Mill)

Distributive justice

A governmental obligation to help those who are worse off by taking from those who are better off

Imputed income

Difficult to value and monitor
But non-cash benefits (barter exchanges) are taxed.Rev. Rul. 79-24.

Overview of income tax

Gross income (§61) – above the line deductions (§62) = AGI (§62)

“Above the line”:expenses incurred in earning income (“cost of doing business”)
Separate production expenses vs. consumption expenses (e.g. business meals)
Capital expenditures – some expenses deducted immediately; some over time
NOTE: exclusions and deductions have same effect; both reduce taxable income

But exclusions removed before calculating gross income and deductions removed before calculating AGI

AGI (§62) – personal exemption (§151) – (either) itemized (§63(c)) OR standard deduction (§63(d)) = taxable income (§63)

Deduct amount of T’s personal exemptions (+ dependents’) and
Either standard deduction or itemized deductions.

Itemized deductions – only if forego standard deduction; includes home mortgage interest, state income and property tax, charitable contribution, some casualty losses and medical expenses
Phase-out rules – instead of raising rates, effectively boosting marginal rates, by phasing out certain amount of deductions
Value of deduction changes w/ income since worth more to those in higher marginal tax bracket

Apply the appropriate marginal tax rate
Tentative tax +/– tax credits = tax §§21-41

Credits – dollar for dollar (refundable and nonrefundable)
Sometimes to encourage behavior (child tax credit), sometimes offset to other tax paid (credit for foreign tax paid)

Pay higher of this or AMT, if applicable (§55)

Payroll taxes

Wage income, not capital investment
OASDI [Social Security]

6.2% x 2 (employer and employee) (up to $113K)
6.2% deductible on employer end (above the line deduction, also for self-employed; not factor in AGI)
Intergenerational transfer
Intra-generational transfer – redistribute from higher to lower level income earners
Usually only pay tax on earnings, not on contributions, but pay tax on SS benefits even if didn’t earn money (or get out of SSA more than what contributed)

1.45% x 2 (employer and employee) (no cap)
Cap had been same as SS, but cap removed and 0.9% additional amount over $200K/250K now
Everyone receives same health insurance benefit (unlike SS), but amount of premiums paid in vastly different

WHAT IS INCOME?

– “Gross income means all income from whatever source derived.”

Includes cash or cash-receipt equivalents, but not unrealized gains

“Including (but not limited to) the following items: (1) Compensation for services, including fees, commissions, fringe benefits, and similar items; (2) Gross income derived from business; (3) Gains derived from dealings in property; (4) Interest; (5) Rents; (6) Royalties; (7) Dividends; (8) Alimony and separate maintenance payments; (9) Annuities; (10) Income from life insurance and endowment contracts; (11) Pensions; (12) Income from Discharge of Indebtedness; etc.”

“Accession to wealth” standard. (Glenshaw Glass, 1955)

Overruling loose “from capital or labor” def’n in Macomb