Final Review Session BA 128A
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Final Exam 5/18 12:30- 3:30 C230
Questions from last lecture
Review Chapter 13
Final Review Ch I5,7,8,9,10,12,13,14;
C2,3,4,9,11,12
Chapter 13 Estate Tax
Estate tax formula
Gross estate
- deductions (expenses, debts & losses)
=Adjusted gross estate
- deductions (marital and charitable)
= Taxable Estate
+ Adjusted taxable gifts (post 1976)
= Estate Tax Base
Tentative tax (current uniform transfer tax rates)
- Post 1976 gift taxes (current uniform transfer tax rate) - unified credit
taken in year gift taxes are paid
- unified credit (full amount)
- other credits
= Estate Tax payable
Deductions
• Expenses - administrative expenses for
managing the estate, funeral expenses
• Debts - personal liabilities e.g. mortgage
• Casualty and theft losses - incurred while
estate is being settled
• Marital and Charitable deductions - no
ceiling
Valuation of estate
• FMV at date of death or alternate valuation date
• Alt. Valuation - all or nothing
• FMV at date of death - price at which property would
change hands between a willing buyer and seller
• exception - life insurance - valued at face value
• listed stock - average of low and high price; if sale takes
place within a few days of death date, use wtd average of
high and low stock price on the nearest trade dates before
and after date of death
• Other valuation - Block stock, non-public stock, real estate,
annuities
Chapter 5 Capital G/L
• ST < 1yr, LT > 1yr; deduct loss up to $3000, gain taxed at 20%
except uncolletibles, 1250 unrecapture and section 1202
• Netting of CL and CG
– net STCL and STCG
– net LTCL and LTCG
– NLTCG > NSTCL = NCG
– adjusted NCG is NCG without uncollectibles, section 1250
unrecapture and then sec1202 small bus stock
– both NLTCL and NSTCL - use NSTCL first - retain
character of loss
– NSTCL > NLTCG - net highest rate group first (ie 28%,
25% and then 20%)
Chapter 5
• Realized vs. recognized gain
• Property basis
– received as gift - usually donor’s basis except if
FMV < basis, donee has 2 basis (if sold at gain
later, basis = donor’s basis, else basis = FMV)
– Gift tax paid by donor increase donee’s basis
– property from decedent - FMV
– property convert from personal to business - lower
of FMV or adjusted basis
– basis of stock dividend
– basis of stock rights
Chapter 7- itemized deductions
• Deduct only if it exceeds standard deduction
• Subject to phase out - 3% of amount exceeds
threshold. Qualified medical expenses
• Taxes
• Qualified interest
• Casualty and theft losses
• Miscellaneous deductions
– Non reimbursed employee expenses
– Investment expenses
– Cost of tax advice
• Charitable Contributions
Qualified Medical Expenses
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Deduct the amount that exceed 7.5% of AGI
No deduction it it is reimbursed
Include taxpayer, taxpayer’s spouse and dependent
Diagnosis, cure, mitigation, treatment and prevention of
disease, medical procedures involving function or structure
of body - except cosmetic surgery unless for deformity
correction
Transportation for medical reasons
Long term care
Capital expenditures for medical care - add a swimming
pool, remove physical barriers
Medical insurance premiums
Classification of interest
• Active trade and business - for AGI
• Passive activity - e.g. rental activity - for
AGI - Chapter 8
• Investment interest - offset investment
income - from AGI
• Personal interest - not deductible
• Qualified residence - from AGI
• Student loan - for AGI
Investment Interest
• Investments - generates portfolio of income such as
interest, dividends, annuities and royalties, not
personal or business, not passive and not tax exempt
securities
• Net investment income = Investment income investment expenses. Investment income include
net gain to the extent that net gain exceeds net
capital gain
• Taxpayer can elect to include net capital gain in
investment income that will be subject to regular tax
rates
• Investment expenses only deductible to the extent
that it is >2% of AGI - ie this is the amount used to
calculate net investment income
Other interest
• Qualified residence interest
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Principal + secondary residence
Secured by home
Acquisition indebtedness - up to $1,000,000
Home equity interest - can only deduct the amount
applied to the lesser of FMV of qualified residence in
excess of acquisition indebtedness or $100,000
• Student Loan interest
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For higher education expenses
FOR AGI deduction
Maximum deductible amount = $1000 in 1998.
Phased out ratably for AGI between 40,000 and 50,000
Charitable Contribution limitation amount
• Max - 50% of AGI
• depends ORGANIZATION contributed to and TYPES of property
contributed
• Excess is carry forward for the subsequent 5 years
• Capital gain property contributed to public charity is limited to 30% of
AGI
• Ordinary and cash property contributed to private nonoperating
foundation is also limited to 30% of AGI
• Contributions of capital gain property to private nonoperating
foundation are limited to the lesser of 20% of taxpayer’s AGI or 30%
of taxpayer’s AGI reduced by capital gain contributed to public charity
• Contributions to athletics events in return for the right to purchase
tickets (80% limitation)
• Apply 50% limitation contributions first and then the 30% limitation
• Carryover amounts subject to the same % limitations. Deductions for
current year is applied first.
Charitable contributions - basis
• Except capital property contributed to
public charity (at FMV), all other
transactions, used adjusted basis (or FMV capital gain)
• Transactions include ordinary and capital
gain property to private nonoperating
foundations, capital gain property that is
unrelated use in nature - special
circumstances - donation of inventory and
scientific equipment - higher than adjusted
basis
Chapter 8 loss and bad debts
• Sale or exchange of property - capital asset result in
capital loss, property in bus/trade e.g. inventory,
accounts receivable, depreciable property and land
used in a trade or business - ordinary loss (section
1231 subject to netting rules (I13)
• Abandonment of property - ordinary loss
• Demolition of property not deductible - add to basis of
land
• Other disallowed loss - wash sales, like kind
exchange, related party transaction, transfer of
property to a controlled corp in exchange for stock
Passive loss
• Definition - any rental activity or any trade/business
where taxpayer does not materially participate
• Passive loss can only net against passive income and
can be carried over (each activity). Suspended losses
of passive activity is deductible against ordinary
income upon disposition ownership interest
• Rental activity excluding real property trade/business
• $25000 deduct against ordinary income if actively
participates and own at least 10% of value of activity;
loss is subject to phase out
Casualty loss
• Identifiable event that was sudden, unexpected or unusual
• Theft is included (proper substantiation e.g. police report)
• only allowed to deduct up to adjusted basis
Bus/investment
Total destruction
Partial destruction
adjusted basis
Personal
smaller of
adjusted Basis or
reduction in
FMV
smaller of
--------> ad. Basis or <-----------reduction in
FMV
Bad Debts and NOL
• Bad Debts
– Bus bad debt - ordinary loss
– Personal bad debt - ST capital loss
• NOL
• Adjust taxable income(loss) with
– non-bus capital loss deduction
– non-business deductions e.g. personal exemption
and standard/itemized deduction
NOL
• Carry back to get tax refund
• Carry forward to deduct subsequent year
income
• Can elect not to carryback
• Adjust back other deductions
– non-bus capital loss deduction
– non-business deductions e.g. personal
exemption and standard/itemized deduction
Chapter 9 Employee Reimbursed
Expenses
• Reimbursed employee expenses
– accountable plan - substantiation, excess is
returned to employer - not include in GI and not
deductible, if excess is not return, include in
income
– not accountable plan - include in GI, expenses
deducted as misc. itemized deduction
• Unreimbursed employee expenses deductible from AGI - misc. itemized
deduction
What is deductible
• Travel expenses - transportation, meals and lodging. Meals 50%, has to be away from tax home
• Automobile expenses - standard vs. actual
• Entertainment expenses - 50%
• Moving expenses - for AGI deduction
• Education expenses
• Office in home expenses
• Deferred compensation
– Qualified plans - exclusive for employees, not discriminating
and other vesting and funding requirements
– Employer can deduct contribution and employee not taxed
on earnings from contributions until withdrawn
– Traditional IRA $2000 deductible for AGI - subject to salary
limit
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Chapter
10
Depreciation
For assets/property used in trade or business or held for production of
income
Personal use property - no depreciation
Personal property - equipment, vehicles, furniture
Real Property - land and structure permanently attached to the land
MACRS - personal
– Personal property - half year convention, conversion to straight
line if yields larger amount, amount reduced by half in year of
disposition, recovery period is 3,5,7,10,15 years
– Requires the use of mid-quarter if aggregate basis of all personal
property in service in the last 3 months > 40% of the cost of all
personal property placed in service during the tax year
– Disposal calculation needs to be consistent, half year or quarter
MACRS - real property
– Residential - 27.5 years recovery period
– Non-residential, 39 years
– mid-month, st line
Chapter 10 Section 179
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Apply only to tangible personal business property
$18500 in 1998 in year of acquisition
Not applied to real estate
Election made on annual basis
• Limitations
– cannot be related party transaction
– Phase out >$200,000 property acquired $ for $
– Cannot exceed taxpayer’s income
Chapter 13
• Section 1231 - treatment of character of
gains and losses
• Section 1245 - depreciable personal
property + limited nonresidential real
property (depreciation recapture)
• Section 1250 - real property - excess
depreciation
• Section 1250 recapture - all st. line
depreciation recapture at 25% LTCG
Section 1231 continue
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Net section 1231 gains and losses
If gain -> LTCG
If loss -> ordinary loss
exception- Casualty loss - if loss > gain, non section
1231 ordinary loss, if gain> loss, section 1231 gain
• Subject to 5 year look back rule - ordinary loss in the
past five years needs to be recaptured as ordinary income
instead of capital gain - loss recaptured apply to net 1231
gain in the 25% group first and then the 20% group
Section 1245
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Apply only to gains on disposition on property
Depreciation recapture as ordinary income
cannot exceed amount of realized gain
1245 property
– property subject to depreciation and amortization besides
real property
• applies mostly to depreciable personal property
• property under section 179
• exception nonresidential real estate placed in service
between 1981-1986 that used ACRS accelerated cost
recovery method instead of straight. line
Section 1250 and Unrecapture
1250 gain
• Includes most depreciable real property except nonresidential
real estate placed in service between 1981-1986, low income
housing and depreciable residential rental property. Section
1250 usually applies to real estate place in service before 1986
since straight line is used after 1986
• Recapture only the additional depreciation over straight line into
ordinary income
• Unrecapture 1250 gain - rest of the depreciation (ie
straight line) will be recaptured at long term capital gain
rate of 25% instead of 20%
Section 1231 netting procedure
• Determine casualty gains and loss
– if loss -> non 1231 loss - business casualty loss is a for
AGI deduction, personal casualty loss is a from AGI
(itemized deduction)
• Compute net 1231 gains/loss
– net casualty gain
– gains and losses from sale/exchange of section 1231
property
– gains and losses from condemnation of property
• If net 1231 gain, check unrecaptured 1231 loss from
previous years
Chapter
14
AMT
Taxable income
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plus tax preference items
plus personal and dependency exemption
plus standard deduction if itemized deductions is not used
plus adjustments - disallowed itemized deductions, timing difference
adjustments, disallowed AMT tax credits
= AMTI
- AMT exemption - 45000 for married filing jointly, 33750 for single tax
payers - subject to phase out 25% for AMTI > 150000 for married
filing jointly and 112500 for single
= AMT Base
Tax rate = 26% for the first 175000
28% for amount >175000
= Tentative minimum tax
- regular tax
= AMT
C2 -Forms of organizations
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Sole Proprietorship
Partnerships
S-corp
C-corp
Know the tax advantages and disadvantages
and liability consequences
Tax considerations in forming
corporations
• Tax free and taxable transfer of property
• Section 351 - allows the deferral of gains and loss upon
incorporation, apply to new and existing corporation
• Requirements – for stock
– transfer in control immediately after exchange (no
prearranged plan to sell)
– Property must be transferred
• Control - >= 80% of total voting stock and >=80% of each
class of nonvoting stock
• Property - money, A/R, inventory, equipment, intangibles and
etc.
• Exclusions - services, indebtedness with no security
Receipt of Boot
• SH receives cash, notes instead of stock
• SH recognized gain up to lesser of realized
gain or FMV of boot
• Character of gain depends on asset received
• SH basis = adjusted basis of property
transfer + gain recognized - (boot received,
cash received or liability assumed by
transferee (ie corp))
• SH holding period - include property’s
holding period
Transferee Corp’s Recognition
• No recognition if transfer stock even if 351
is not applied
• If transfer appreciated property as part of
section 351- recognized gain but not loss
• Transferee corp basis = transferor’s adjusted
basis for property + gain recognized by
transferor
• Holding period includes holding period of
transferor + any depreciation recapture
potential
C3 - corporations deductions and
losses
• No itemized deductions, hobby losses, net
investment interest deduction limitations, personal
exemption, non-bus bad debts, alimony, IRA
contribution
• Casualty losses are fully deductible
• No deduction for interest expenses incurred to
borrow tax-exempt securities
Capital Gains and Losses
• Same process of netting LTCG, LTCL;
STCG, STCL
• Additional 20% depreciation recapture for
section 1250 property
• No $3000 capital loss offset against
ordinary income; carry back 3 and forward
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• No capital gain rate preferential; same
treatment as ordinary income
Charitable Contributions
• 10% of adjusted taxable income
• adjusted taxable income excludes charitable contribution
deduction, NOL carryback, capital loss carryback,
dividends-received deduction but INCLUDEs NOL
carryover
• Similar rules regarding ordinary income and capital gain
property as individuals
Special deduction - Dividends-received
deduction
• Include dividends in Gross Income
• receive dividends deduction <20% - 70% deduction,
>=20% but < 80% - 80% deduction
• limitation - lesser of 70%(80%) of dividends or
70%(80%) of taxable income without regard to any
NOL deduction, capital loss carryback or dividendsreceived deduction itself
• Does not apply if an NOL results after the deduction is
taken into account
• If ownership >=80% - receive full 100% dividends
deduction with no limitations - members of affiliated
group
Net Operating Loss
• Carry back 2 (earliest of the 2 first) and
forward 20 (first preceding year)
• May elect not to carry back, once elected
for the year, irrevocable
• Deduction sequence
– Charitable Contribution (include NOL
carryover)
– Dividends received deduction (not include NOL
carryover)
– NOL
C4 - current E&P
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Calculating current earnings and profits
– start with taxable income or NOL
Permanent differences
– plus income excluded from taxable income but included in E&P
• life insurance proceeds, tax-exempt interest income
– plus deductions that reduce taxable income but not allowed in E&P
• dividends-received deduction
• NOL, charitable contribution, capital loss carryover
– minus expenses and losses not deductible in taxable but allowed in E&P
• federal income taxes
• excess capital loss not allowed
• excess charitable contributions
• non deductible fines and penalties etc.
Temporary difference
– plus income deferred to a later year when computing taxable income but included
in E&P in current year
– plus or minus income and deductions items that is recomputed for E&P
• depreciation - ADS for MACRS
• LT contracts - % of completion for E&P
Non-liquidating distributions
• Dividend - distribution made out of
corporation’s E&P
• Property as contribution - $, securities of
other corporation, and any other property
except stock, stock right of distributing
corporation
• if distributions > E&P - > return of capital,
reduce ownership basis
• if distributions> ownership basis, excess
treated as gain of sale of stock - capital gain
Property Distributions- tax
consequences to SH
• Amount of distribution to shareholder is the
property’s FMV, value determined at date of
distribution, distribution amount reduced by
any liability assumed by shareholder
• Basis to shareholders is the FMV
(regardless of liability assumed)
• Distribution is dividend to the extent of the
corp’s E&P
Property Distributions- tax
consequences to corp
• Corporation must recognized gain on distributed property
that has appreciated in value
• Property’s FMV must be at least the amount of liability
assumed by shareholder
• Does not recognized loss on distributed property
Effect on E&P of corporation
• gain recognized by distributed property increase E&P
• Tax on the taxable gain on distributed property decrease
E&P
• Property’s adjusted basis/FMV reduce E&P (if adjMusted
basis >= to FMV, reduce E&P with adjusted basis, else
reduce E&P with FMV
Partnership profits and losses
• Partnerships - tax reporting entity
• partner reports his/her share of income from partnership from
the partnership return
• partnership has its own tax year and accounting methods
• partnership income can office personal losses of individual
partners
• Partner’s Basis
– contribution increase a partner’s basis in the partnership
– liability assumed by the partner also increase his/her basis
– gain increase partner’s basis
– loss decrease partner’s basis until the basis =0
– partner’s personal liabilities assumed by partnership
decreases the partner’s basis
– partnership distributions are tax free
Contribution of property to
partnerships
• No gain or loss recognized for the partner and partnership
if property is cash, tangible and intangible property,
services - need to recognized gain
• if personal liabilities assumed by partnership exceed basis
in partnership, recognize gain
• partnership basis of property contributed = partner’s basis
before the transfer
• Unrealized receivables, basis = 0
• holding period includes the transferor’s holding period
• character of gain also transfers over
• depreciation recapture also transfers over
• apply the same rules after formation of partnership
Partnership’s distributive share
• Depends on partnership agreement, profits and losses share
may be different
• Varying interest rule - if partnership interest % changes
during the year, income and loss allocation is prorated
between the different days of ownership and interest %
• Special allocations
– pre-contribution gain or losses for contribution to
partnership after 3/31/1984
– gain/loss at the time of contribution allocated solely to the
SH who contributed the property
– other special allocations allowed if criteria is met for
substantial economic effect - appropriate
decrease/increase in capital account of partner and
partners will make up negative capital balance - see C9-19