Basic Income Tax Outline: Donaldson, Spring 2011
I. Applicable Tax Rates
a. Filing status:[1]
1. Individual tax status depends on two variables: (1) filing status and (2) taxable income
2. Married filing jointly: even if get married on the last day of the taxable year you qualify under 7703(a); if get divorced on last taxable year must file separately
a. Surviving spouse: individual whose spouse died in either of the two prior years and who maintains a home that is also the principal residence of his or her child or stepchild
3. Head of household
a. Maintains his or her home as the principal residence of a dependent and is neither married nor a surviving spouse[2]
4. Unmarried not head of household
5. Married filing separately
a. Unmarried taxpayers enjoy wider tax brackets (have to pay less tax on the same amount of income), most likely because married individuals enjoy economies of scale by sharing certain household expenses
ii. IRC 1(f)(1): Secretary shall prescribe rules which shall apply in lieu of the tables contained in (a)-(e)
iii. 1(f)(8): eliminated marriage penalty in 15 percent bracket
iv. Income-splitting and joint return for same sex couples
v. Adjustments to basic rate tables: see page 17 CB
1. 1A-D: Actual rates for 2011 listed on p. 17: still marriage bonus, but no more marriage penalty in lower brackets (but not throughout higher brackets—would lose too much revenue)
a. Inflation adjustments
b. Elimination of the marriage penalty in lower brackets
c. Introduction of 10% bracket
d. Rate reductions in four highest brackets
b. Marginal versus effective bracket
i. Marginal tax rate: tax rate applicable to the last dollar of your taxable income
ii. Effective tax rate: average tax rate (everyone enjoys the benefit of the lowest tax brackets)
c. Tax rates and progressivity
i. Favor: ability to pay theory (can pay without more sting), benefits theory (rich benefit more from government), wealth redistribution
ii. Against: complexity argument, declining incentive to work, violates horizontal equity (does not treat similarly-situated payers equally; earn 100k in one year 0 in next will pay more than 50k in two consecutive years)
d. Marriage and tax liability
i. Liability for tax and the innocent spouse rules[3]
1. Where married individuals file joint return, 6013(d)(3) imposes joint and several liability for any deficiency on the return
2. Cheshire v. Commissioner: (p. 22 in CB)
a. 6015(b)(1) provides relief where TP satisfies all of the five requirements
b. 6015(c) provides alternative grounds for relief
c. 6015(f) provides third ground for relief
ii. Marriage bonus: when spouses have disparate incomes, there is usually a bonus to being married filing jointly; brackets in 1A are fatter than for 1C (unmarried taxpayers)
iii. Marriage penalty: where individuals have relatively equal incomes, will pay a larger tax
iv. If community property state and married filing separately: you must report half of couple’s income on your individual return (Poe v. Seaborn)
v. If same sex couple residing in community property state: same rules apply (registered domestic partners must report half of couple income on return, but must file as an unmarried individual—applies in CA, NV, WA)
e. Tax policy objectives:
i. Equity
1. Horizontal: treat similarly-situated individuals similarly
2. Vertical: dissimilar payers should be taxed differently
ii. Efficient
1. Should be neutral (not incentivize your behavior or dis-incentivize your behavior)
2. Compliance/enforcement: federal tax laws should raise revenues at little cost to taxpayers and the government
II. Computing Liability for Tax
a. Determining Taxable Income[4]
i. Gross income is “all income from whatever source derived” (IRC 61)
1. Including, but not limited to:
a. Compensation for services, commissions, etc
b. Gross income derived from business
c. Gains from dealings in property
d. Interest
e. Rents
f. Royalties
g. Dividends
h. Alimony and separate maintenance payments
i. Annuities
j. Income from life insurance and endowment contracts
k. Pensions
l. Income from discharge of indebtedness
m. Distributive share of partnership gross income
n. Income in respect of a decedent
o. Income from an interest in an estate or trust
ii. Adjusted gross income: gross income minus the following deductions (section 62)
1. See page 69-70 in SS for 20 above the line deductions
iii. Taxable income: gross income minus the deductions allowed by this chapter (other than the standard deduction)
1. 63(a): Gross income – deductions other than standard deduction = taxable income
a. Gross income: section 6—all income from whatever source derived[5] and not excluded by a particular statutory exclusion[6]
b. Standard deduction:[7] 63(c): the sum of the basic standard deduction and the additional standard deduction
i. 63(c)(2): $3,000-$6,000[8]
c. Deductions (itemized deductions): 63(d)
i. 67(a) 2% haircut for miscellaneous itemized deductions
1. 68(a) phase-out of itemized deductions
iv. Two methods for calculating taxable income:
1. 63(a): Gross income – deductions other than standard deduction = taxable income
a. Gross income: section 6—all income from whatever source derived[9] and not excluded by a particular statutory exclusion[10]
b. Standard deduction:[11] 63(c): the sum of the basic standard deduction and the additional standard deduction
i. 63(c)(2): $3,000-$6,000[12]
c. Deductions (itemized deductions): 63(d)
i. 67(a) 2% haircut for miscellaneous itemized deductions
ii. 68)a) phase-out of itemized deductions
2. 63(b): adjusted gross income – standard deduction and personal exemptions[13] = taxable income
a. Adjusted gross income (Section 62): gross income minus following deductions (21 separate deduction provisions given)
b. Standard deduction:[14] 63(c): the sum of the basic standard deduction and the additional standard deduction
i. 63(c)(2): $3,000-$6,000[15]
c. Personal exemption (Sec 151): $2,000 is the amount,[16] plus you get a
must meet five part test that is also used to determine independent status: (1) bear one of seven relationships to TP or member of TP household, (2) TP must provide over half of support, (3) individual gross income must be less than the exemption amount, (4) must be a U.S., Mexico, or Canadian citizen or resident, (5) individual is not filing joint return with a spouse
6. Dependent and qualifying relatives must be supported by TP, as defined in 1.152-1(a)(2)(ii)
ix. Credits:
1. Household and dependent care credit under §21
2. Hope scholarship credit and lifetime learning credit under §25A(b)
3. Credit for income taxes withheld on wages
4. Earned income credit under §32
III. Meaning of Gross Income
a. Concept of income summary:
i. Glenshaw Glass test:
1. Accession to wealth
2. Clearly realized
3. Complete dominion
ii. Specific items which are income: treasure trove (Cesarini), illegal receipts (James)
iii. Specific items which are not income: bargain purchases, free samples (primary benefit to provider, not recipient), unrealized appreciation in value, imputed income, gifts (§102(a))
b. Judicial and administrative definitions of income[21]
i. Constitutional income is gross income
ii. Eisner v. Macomber: shareholder in Standard Oil has 2,200 shares in company; issued 1,100 new shares as dividend (did not alter her % ownership in the corporation, as all shareholders received the same proportionate stock distribution)
[1] IRC 1(a)-(d); 1(f)(1)-(2), (8), 1(i).
[2] But only has to do so for half of the year and can include grandchildren and step-grandchildrens
[3] IRC 6013(d); 6015(a)-(c)(3), (f)
[4] IRC 61(a), 62(a), 64, 67(a)-(b), 68, 151, 161
[5] 16th Amendment language
[6] Most in Sections 101-136
[7] Received in (b), not (a)
[8] 63(c)(4): adjusted for inflation
[9] 16th Amendment language
[10] Most in Sections 101-136
[11] Received in (b), not (a)
[12] 63(c)(4): adjusted for inflation
[13] All taxpayers get this
[14] Received in (b), not (a)
[15] 63(c)(4): adjusted for inflation
[16] Adjusted for inflation (around $4,000)
[17] See §152
[18] Defined in §2(b)
[19] Above the line deductions
[20] Below the line deductions
[21] IRC §61(a)
