Federal Income Taxation of Individuals
Ø Tax is about 5 questions:
o What is income?
o What kind of income is it?
o What is deductible?
o When is it taxed?
o Who is it taxed to?
Basic tax computations – §1 explains tax liability of different classes of people
INDIVIDUALS
Gross income (GI) – §62 deductions = AGI → Above the line deductions
Deductions – Personal exemptions
Ä §151 says step is applicable if your income>threshold amt, then you do the 2% math crap for each personal exemption
AGI – Personal Exemptions = THEN …
EITHER …
a) Itemized deductions – if your AGI > threshold amount, then §68 limitations apply; if AGI < threshold amt, itemize like crazy!
a. Itemized Deductions – Charitable contributions, home mortgage interest, state and local taxes, property taxes
b) Standard - §62(c)(2)(C) - $5,000 for married couples, $3,000 for individuals
Ä Taxable income is the product – defined by §63
NOTE: Child tax credits - $600/child, credit phased out after income exceeds $110K
Which is better Itemized deductions or Standard deductions?
Well, above-the-line deductions are worth more than itemized because ONLY those where the total itemized deduction>standard deduction will claim itemized deductions … so above the line and standard are better!
Old People
Harold, age 67, has a GI of $40,000 and the following deductions:
$4,000 for rental P – ABOVE THE LINE DEDUCTION
$1,000 P taxes on home – ITEMIZED DEDUCTION
$2650 for state income taxes – “ “
Ø Harold’s AGI is $40,000-$4,000 = $36,000
Ø Total Itemized Deduction = $1,000 + $2,650 = $3,650
Ø Total Standard Deduction = $3,000 (individual W married and W surviving head of household, + $750 (over 65 yrs) + $2,000 personal exemption = $5,750
Ü Use STANDARD DEDUCTION here because it’s more than itemized
TAXABLE INCOME = $30,250
Two Hypos of how Progressive Taxes Work
#1 – Jeff earns $100,000 of taxable income
F The tax rate schedule works like this: income over $53,500, but not over $115,000 is taxed at $11,493, plus 30% of the excess over $53,500.
– $11,493 is automatic
– $100,000-$53,500=$46,500×30%=$13,950+$11,493=$25,443 tax liability
– Marginal tax rate = 30%; Average tax rate is 25.43% (100,000/25,443)
#2 – Aubrey earns $50,000/year/ten years. Annie earns nothing in years 1, 3, 5, 7, and 9, but $100,000 in years 2, 4, 6, 8, and 10.
F The tax rate schedule works like this: 0% on the first $25,000, plus 10% of amount which taxpayer income exceeds $25,000.
– Aubs: $50,000-$25,000=$25,000×10%=$2,500x10years=$25,000
– Annie: No tax in odd years;
Even years: $100,000-$25,000=$75,000×10%=$7,500x10years=$37,500/10yr
FAMILIES
So, how’s a normal family taxed?
Married couple with 2 dependents with $60,000 GI and the following deductions
$2,000 loss on sale of business P
$8,000 mortgage interest on principal residence
$1,000 charitable contribution
$4,000 state and local income taxes
$2,000 P taxes on principle residence
Ø (a) is the only above the line deduction – so AGI = $58,000
Ø (b) – (e) are itemized deductions totaling $15,000 – $58,000 = $45,000
Ø Couple gets $2,000 personal deduction per person ($8,000) = $37,000
o Taxable Income = $37,000
§ Rate – $1,200 + 15% of excess over $12,000
Ä TAX LIABILITY = $4,950 – Child care expenses and child tax credit = TAX = $2,490
WEALTHY
Poor, poor little rich girl … wealthy people fight 2 complications added in the ‘90’s to raise revenues, but will be phased out by 2006 … just in time! 😉
A) Phase-outs §151(d)
Ø Phases out the personal exemptions by 2% for each $2,5000 of AGI for taxpayers whose AGI’s exceed “threshold amount.”
Threshold Amounts: $150K for joint returns or surviving spouse
$100K for individual W married or surviving spouse $75K for married filing separately
HYPO
v Married couple filing jointly has AGI = $250K, AGI exceeds threshold by $100K. Therefore, personal exemption appropriately reduced.
B) Reduction of Itemized Deduction
Ø §68 limits itemized deductions for married taxpayers whose AGI>$100K, excluding itemized deductions for medical expenses, casualty losses, investment interest, and wagering losses
Ø This W affect those who take standard deductions instead of itemized
& GLENSHAW GLASS
ü Income is derived by any source whatsoever – §61(a)(1)
ü §61(a)(1) –Unless otherwise stated in the code, GI = income from ANY source derived
ü §1001(a) – What is GAIN
GAIN
v Taxpayer’s gain on disposition of P is excess of amt realized – adj basis
v Amt realized is price the taxpayer sells the P for
ü§1.61-.14 – Miscellaneous items of gross income: Punitive damages, employer paying employee taxes, illegal gains, treasure trove
ü §1012 – What is BASIS – Basis is cost
ü §1011 – What is adjusted basis
ADJUSTED BASIS – Basis of property, usually the cost of the property, UNLESS
v Adjusted á for expenditures, receipts, losses, or other charges properly charged to the capit
the original $1,000
P If the same taxpayer has sold the stock for $900, the gross income is 0 and there is no negative gross income! The lost $100 will be figured in when T gets a $100 deduction in calculating taxable income.
Fun Definitions
§1001(a)
Computation of a gain or loss
T’s gain on the disposition of P is (excess amount realized/adjusted basis)
§1001(b)
Amount realized
Amount realized from the sale or other disposition of P is ($ received + FMV of P)
§1001(c)
Recognition of gain or loss
Gain or loss realized on sale/exchange of an asset is taxed
§1012
Basis of P – COST
Basis of P is it’s cost
§1011(a)
Adjusted basis for determining gain or loss
Adjusted basis for figuring out the gain or loss of sale of P is the basis, adjusted á for expenditures, receipts, losses or other items properly chargeable to the capitol account and adjusted â for depreciation, amortization, and depletion
NOW LET’S DO SOME HYPOS:
v Aubrey finds and keeps an old Oscar worth $10,000. If she sell the statue in a few years for $12,000, how much gain will she realize on the sale – DUH – $2,000! BUT she has to pay tax on the original $10,000 when she sells the statue!
v Cait bought a statue from an antique dealer for $4,000, but the real value is $14,000 – WHOA, what a shopper – She sold it for $16,000 later. What’s her gain? $12,000 – her basis was $4,000.
v Tim asks Aubrey to prepare his will. Tim gave me a hunting dog for preparing the will and says she’s worth about $400. Then Aubrey realizes $400 worth of income. If Aubrey sells the dog to Sterling for $500, then Aubrey has a gain of $100, and is taxed only on that gain! (As long as she paid the tax on the original $400 before!)
v Jon renders services to a widow and never charges her. Jon meets the widow for dinner and she gives him $300; Jon will argue it is a gift, but IRS will say it is income
v Thom receives a $500 federal income tax refund – NOT includable in gross income!
v House is for sale for $75,000, but appraised at $100,000 – NOT
