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Income Taxation
University of North Carolina School of Law
Thomas, Kathleen DeLaney

THOMAS_Income Tax_Spring_2017

PART I – INTRO TO THE FEDERAL TAX SYSTEM

Check there’s an instruction that everyone itemizes

Vocabulary

Head Tax: even tax levied on every person of age regardless of income
Declining Marginal Utility of Income: the wealthier one is, the less each dollar lost to tax collection diminishes one’s well-being.
Endowment/Wage Rate: rate at which one can earn money; the opportunity to earn wealth weather exercised or not.
I = C + S: used to define income; I is income, C is consumption, S is saving. Idea is one of two things can be done with income: spend or save. Amount one ends up saving can be defined as equaling the amount their net worth changes. Thus, an equivalent definition would be…
I = C + ΔW: where ΔW denotes change in net worth (during the year); equation underlies prevalent Haig-Simons definition of income.
Haig-Simons Definition of Income: sum of taxpayer’s consumption plus change in net worth; in all, income tax contains within it a consumption tax
Imputed Income: value of goods/services provide to oneself.
U.S. Tax Threory: Ability to bas based on income = basis; other options include…

Wealth: tax on total of net worth

Downsides: liquidity issues (house may be worth X, but you don’t have CASH to pay the tax); discourages savings (owning more = taxed more); lots of evasion problems (cashing out and burying money in yard to hide it, etc.) (under income, gov. just has employers report wages to it)

Consumption: everybody pays X% on the amount of what they spend

Downsides: disincentives spending; evasion issues (black markets based on cash-only prices); inherently a regressive tax (low earners spend more of their earnings and are thus taxed a higher % of their income)

Must balance fairness, and adminstrability, and efficiency of tax scheme

Efficiency in that it does not induce TPs to make decisions they otherwise would not based on the structure of the tax
Fairness must be both Vertical (TPs with more ability to pay must pay more) and Horizontal (those with equal ability to pay, do so equally)

Progressive Income Tax: tax rates rise with income (though amounts rise with ALL of proportional, progressive, and regressive systems
Regressive Income Tax: tax rates decline with income
Alternative Minimum Tax: set for individuals in § 55; imposed on special, high-earner tax base at rate of 26% for first $175k and 28% for all amounts above that

Used in lieu of, and payable ONLY IF > tax amount under normal rules

Marginal Tax Rate: Rate applied to the last dollar of income
Effective Tax Rate: average of ever-increasing marginal rate (will be lower than marginal, even if highest income3 bracket where it gets closer to marginal)
“Zero” Bracket: $10,350 taxable income for a single person after $6,300 standard deduction and $4050 Personal Exemption

Time Value of Money

TPs want to defer liability—take deductions now or delay payment until later
Discounting to Present Value:

Future Value of $X Today: FV = PV(1+r)^n
Present Value of $X Later: PV = FV/(1+r)^n

Rule of 72: an amount will roughly double in number of years determined by dividing 72 by the interest rate (72/12=6 years to double at 12% interest)
Value of Deduction Formula: (Tax rate)x(deduction amount)à 10k deduction @ 30% rate = 3k
Chevron Deference: when leg’s intent is unclear on issues in statute, the admin agency responsible for interpreting the statute has broad discretion to adopt whichever interpretation, so long as it’ reasonable

What is Gross Income

Adjusted gross Income: calculated after GI is; AGI = Gross Income – § 62 deductions
Eisner v. Macomber – Income = gains derived from labor and/or capital; leaves out lotter, etc. (Fairness issue)

NARROW definition fails efficiency as would encourage TPs to not earn that type of income

Realization Doctrine: Income must first be realized to be taxed
Haig-Simons Definition: Income = Consumption (C) + Change in Wealth (ΔW) over taxable period

Broader than Glenshaw Glass, would tax UNREALIZED asset appreciation, imputed income, value of government services rendered

§ 61 Defines Income in the U.S.

§ 61: “GI means ALL income from whatever source derived” (specifically rejects Macomber)
§ 1.61-1: GI includes income realized in any form, whether money, property or services. May be realized in form of services, meals, accommodations, stock, or other property

TEST for if Included in GI – Glenshaw Glass

Undeniable Accession to Wealth (essentially ΔW in H-S)
Clearly Realized (have something TP didn’t have before; MORE than just value appreciation)
TP has Complete Dominion & Control (any strings attached? Losable in future, etc.?)

Sections

§ 61(a) – income from whatever source derive, including but not limited to…

Compensation for services, including fees, commissions, fringes, and similar items
GI derived from business
Gains from dealing sin property
Interest
Rents
Royalties
Dividends
Alimony & separate maintenance payments
Annuities
Income from life insurance and endowment Ks
Pensions
Income from COD
Distributive share of partnership income
Income in respect of a decedent AND
Income from interest in an estate or trust

§ 63(a) – “taxable income” means GI – deductions other than the standard deduction
§ 67(a) – Miscellaneous Itemized Deductions are taken BTL and subject to 2% FLOOR
§ 63(b) – NON-ITEMIZING TP’s “taxable income” = GI – (1) standard deduction, AND (2) deduction for personal exemptions in § 151
§ 63(c)(1) – “standard deduction” = sum of (A) basic standard deduction AND (B) additional standard deduction
§ 63(e)(1) – UNLESS individual elects to itemize, NO itemized deduction is allowed
§ 151(a) – exemptions in this section are allowed as deductions in computing taxable income
§ 151(b) – exemption of exemption amount for TP and TP’s spouse is allowed if (1) filing jointly AND (2) spouse has no GI and is not another’s dependent for the tax year
§ 151(c) – exemption amount for each of TP’s depended in § 152 amount is allowed
Above the Line Deductions (All listed in § 62(a)):

Deductions attributable to t/b carried on by TP, if t/b does NOT consist of performance of service by TP as EMPLOYEE – § 62(a)(1); Authorized by § 162(a)

SOME t/b deductions of employees under – § 62(a)(2)(A)àReimbursed expenses of employees
Losses from sale/exchange of t/b – § 62(a)(3); Authorized by § 165(c)(1)

Some Investment deductions:

Losses from sale/exchange of investment property – §62(a)(3); Authorized by § 165(c)(2)
Deductions attributable to rents/royalties of investment property – §62(a)(3); Authorized by § 165(c)(2)

Alimony – Personal deductions is ATL under § 62(a)(10); deductible under § 215

Below the Line Deductions

Some Investment Deductions:

Depreciation of property held for production of income
Investment interest only to extent of investment income § 163(d)

Personal Deductions:

SALT (§164)
Charitable Contributions (§ 170)
Gambling losses to extent of gambling gains

Itemized Deductions

Misc. Itemized Deductions to extent it exceeds 2% AGI

PART II – WHAT IS INCOME

Definitions of Income

§ 61 – GI includes income from whatever source derive, including but not limited to… (list above)
Reg. 1.61-1(a) – Gross income includes income realized in any form, whether in money, property, or services. Income may be realized, therefore, in the form of services, meals, accommodations, stock, or other property, as well as in cash
Reg. 1.61-1(d)(1) – FMV of prop

tax revenue missed by this section

§ 129 – Dependent Care Assistance of UP TO 5k can be EXCLUDED
§ 125 – Cafeteria Plans

Plan w/menu of options with choice between cash OR fringe benefits; allowed to “pick & choose”
Value of NON-CASH selection will NOT be included in GI

Horizontal Equity Issue? No, because employee selecting cash has equal ability to pay as person choosing plan because selecting employee doesn’t get benefit of cash

§ 125(d)(2)(A) – “Use it or Lose it” Rule: must elect to take cash OR benefits and UNUSED benefits are NOT carried forward by employers
Without this exception, employees would be taxed on election by Doctrine of Constructive Receipt

Imputed Income

Rev. Rul. 79-24 – distinction between imputed income and non-cash benefits

Providing services for oneself rather than paying is NOT income for GI calculation
Ex 1: Attorney and house painter barter a deal to exchange servicesà FMV of services received by lawyer and painter ARE includible in their GI under § 61
Ex 2: Painter gives LL a painting for 6 months free housingà FMV of artwork and 6 months FMV of apartment ARE includible in GI of LL and artist under § 61

Gifts

§ 102(a) – EXCLUDE value of property acquired by gift, bequest, devise, or inhere
§ 102(b) – Gifts OF income ARE income IF (1) gift is income from donor’s ¶(a) property OR (2) gift is income from property retained by donor
§ 102(c) – Employees CANNOT receive gifts from employees—it’s income (

EXCEPTION: § 74(c) Employment Achievement Awards

EXCLUDE value of employee achievement award under §274(j) IF employer cost < allowable deduction amount; if it does, then GI includes GREATER OF amount equal to portion of employer cost that is not allowable as deduction to employer (but not less than award value) OR amount award value exceeds amount employer may deduct
§ 274(j) – can only deduct employment achievement award under § 162, 212 to extent cost for unqualified plan award does not exceed $400 when added to cost for ALL other awards to the employee during the year AND for qualified plan awards the cost doesn’t exceed $1600 for all awards given to employee (including non-qualified plan awards)
§ 74(b) deduction requires award to be for (a) safety or (b) length of service under § 274(j)(3(A); length of service awards during employee’s 1st 5 years ≠ achievement award

§274(b)(1) – NO DEDUCTION under § 162 or 212 of business gifts w/expense exceeding $25

Does NOT include items of <v $4 w/ TP’s name clearly and perm imprinted and is regularly distributed OR sign/display/rack/other promotional material used on recipient’s business premises

§1001(a) – Gain from disposition of property=AR – AB; Loss = excess of AB in § for determining loss=ar
§ 1001(b) – AR from disposition of property = sum of money receive + FMV of property received

Do NOT account for amounts received as reimbursement for real estate tax imposed on purchaser under § 164(d)
DO account for those real estate taxed imposed on TP under §164(d)