Federal Income Tax Outline

Introduction to Federal Income Tax
 
I. Introduction to Income Tax Terminology
 
A.        Income Tax
 
1.        Taxable income (gross income minus certain deductions) multiplied by the appropriate tax rates
 
B.        Gross Income
 
1.        Broadly defines by Supreme Court as “all income from whatever source derived”.
 
2.        Congress has expressly excluded some items, such as fringe benefits, from gross income
 
C.        Deductions
 
1.        Various provisions allow deductions of certain expenditures in the computation of taxable income
 
i.        Expenses to earn an investment or income are generally deductible while personal expenses are generally not deductible
 
2.        Itemized deductions – All allowable deductions other than the deductions allowable in arriving at the Deductions dependent on how much the actual expenses are. Includes:
 
i.        Business expenses greater than 2% of AGI (§ 67)
 
ii.        Mortgage interests (§ 163(a)(h))
 
iii.        Medical deductions that are greater than 7.5% of AGI (§ 213),
 
iv.        Charitable donations (§ 170)
 
v.        Property tax deduction (§ 164)
 
vi.        State income taxes
 
3.        Standard Deductions – A flat amount specified by the Code that varies with marital status which taxpayer can deduct regardless of actual expenses
 
D.        Adjusted Gross Income
 
1.        Certain expenses (generally business) deducted from gross income
 
E.        Taxable Income
 
1.        Adjusted gross income minus deductions for personal and dependency exemptions plus either standard or itemized deductions
 
F.        Expenditures 
 
1.        Some expenditures (example: cost of machine) can’t be deducted immediately in year paid and instead the expenditure is capitalized – added to the taxpayer’s adjusted basis in the property with respect to which the expense was incurred. Some capital expenditures are recovered through depreciation. Otherwise the taxpayer recovers the expenditures only upon sale of the asset.
 
G.        Capital Gains and Losses
 
1.        Code accords special tax treatment arising from the sale of certain property that the taxpayer held for a specified period of time. Capital gains are taxed more favorably and capital losses are generally only allowed to offset $3,000 a year of an individual’s ordinary income
 
H.        Progressive Tax Rates
 
1.        Income tax that increases as income increases
 
I.        Marginal Rate
 
1.        Tax rate on last dollar earned. Deductions usually save money at the marginal tax rate because deductions go to the last dollar
 
J.        Average Rate
 
1.        Amount of tax/ amount of income
 
K.        Credits
 
1.