Assignment - Introduction to Tax Basics

Assignment: Introduction to Tax Basics 1. Tax Drill – Determining Filing Status Indicate the most advantageous filing status for the following taxpayers. Select “Single”, “Married, filing jointly”, “Head of household”, “Married, filing separately”, or “Surviving spouse”, whichever is applicable. a. Alfred is single and fully supports his friend who lives in another state. b. Tedra has two dependent children. Her husband Fred died during the year. c. James is single and supports his grandmother who lives with him. d. Archie has one dependent child. His wife died two years ago. Single Married, filing jointly Head of household Surviving spouse 2. Tax Drill – Tax Credit vs. Deductions There is an important distinction between tax credits and tax deductions. Tax deductions reduce taxable income on which the tax liability is based. Tax credits reduce the tax liability dollar for dollar. 3. Tax Drill – Gross Income Indicate whether the following items are “Included” in or “Excluded” from gross income for tax purposes. a. Alimony (pre-2019 divorce decree) b. Gifts c. Child support payments d. Life insurance paid upon death e. Inheritances f. Prizes g. Jury duty fees Included Excluded Excluded Excluded Excluded Included Included 4. Tax Drill – Deductions from Gross Income Indicate whether the following statements are “True” or “False” regarding deductions from gross income. a. Nonbusiness expenses are expenses incurred in connection with an income-producing activity that does not qualify as a trade or business. Such expenses are deductions for adjusted gross income. False b. As a general rule, personal expenditures are disallowed as deductions in arriving at taxable income. True c. AGI is an important subtotal that serves as the basis for computing percentage limitations on certain True itemized deductions. True d. In lieu of claiming itemized deductions, taxpayers will use the standard deduction. 5. Tax Drill – Tax Formula Complete the tax formula below. Tax Formula for Individuals Income Less: Exclusions Equals: Gross income Less: Deductions for AGI Equals: Adjusted gross income Less: The greater of the standard deduction or itemized deduction Equals: Taxable income 6. Problem 3-39 (Algorithmic) (LO. 5, 6, 9) Toby and Nancy are engaged and plan to get married. Toby is a full-time student and earns $8,500 from a part-time job. With this income, student loans, savings, and nontaxable scholarships, he is self-supporting. For the year, Nancy is employed and reports $77,000 in wages. If an amount is zero, enter “0”. Do not round your intermediate computations. Round your final answer to nearest whole dollar. a. Compute the following: Toby Filing Single Gross income and AGI $8,500 Standard deduction $12,200 $0 Taxable income $0 Income tax Nancy Filing Single $77,000 $12,200 $64,800 $10,115 Calculation: $64,800 - $39,475 = $25,325 $25,325 x 22% = $5,571.50 $4,543 + $5,571.50 = $10,114.50 $10, 115 b. Assume that Toby and Nancy get married in 2019 and file a joint return. What is their taxable income and income tax? Round your final answer to nearest whole dollar. Married Filing Jointly Gross income $85,500 Standard deduction $24,400 Taxable income $61,100 $6,944 Calculation: $61,100 - $19,400 = $41,700 Income tax $41,700 x 12% = $5,004 $1,940 + $5,004 = $6,944 c. How much Federal Income tax can Toby and Nancy save if they get married in 2019 and file a joint return? $3,171 Calculation: $10,115 - $6,944 = $3,171 7. Tax Drill – Filing Requirements for Dependents Complete the following statements regarding the tax return filing requirements for individuals who can be claimed as a dependent on another person’s tax return. An individual who can be claimed as a dependent on another person’s tax return must file a return if he or she has any of the following:  Earned income only and gross income that is more than the total standard deduction (including any additional standard deduction) the individual is allowed for the year.  Unearned income only and gross income of more than $1,100 plus any additional standard deduction the individual is allowed for the year.  Both earned and unearned income and gross income of more than the larger of $1,100 or the sum of earned income plus $350 (but limited to the applicable basic standard deduction) plus any additional standard deduction the individual is allowed for the year. 8. Tax Drill – Dependency Tests Complete the following statements regarding the residence, age, and support tests for a qualifying child as a dependent. Residence Test: A qualifying child must live with the taxpayer for more than half of the year. For this purpose, temporary absences are disregarded. Age Test: A qualifying child must be under age 19 or under age 24 in the case of a full-time student. An individual cannot be older than the taxpayer claiming him or her as a qualifying child. Support Test: To be a qualifying child, the individual must not provide more than one-half of his or her own support. In the case of a child who is a full-time student, scholarships are not considered to be support. 9. Problem 3-38 (LO. 5) 1. Indicate whether the following individuals are “Required” (based on income) or “Not required” to file a 2019 Federal income tax return. a. Patricia, age 19, is a self-employed single individual with gross income of $5,200 from an unincorporated business. Business expenses amounted to $4,900. Not required b. Mike is single and is 67 years old. His gross income from wages was $10,800. Not required c. Ronald is a dependent child under age 19 who received $6,800 in wages from a part-time job. Not required d. Sam is married and files a joint return with his spouse, Lana. Both Sam and Lana are 67 years old. Their combined gross income was $24,250. Not required e. Quinn, age 20, is a full-time college student who is claimed as a dependent by his parents. Quinn reports taxable interest and dividends of $2,500. Required 2. Even though an individual has gross income below the filing level amounts and therefore does not owe any tax, he or she must file a return to obtain which of the following? Select “Yes” or “No” whichever is applicable. Benefits from refundable tax credits Benefits from nonrefundable credits A tax refund of amounts withheld Yes No Yes 10. Discussion Question 3-16 (LO. 8) During the year, Hernando recorded the following transactions: a. Gain on the sale of stock held as an investment for 10 months. b. Gain on the sale of land held as an investment for 4 years. c. Gain on the sale of a houseboat owned for 2 years and used for family vacations. d. Loss on the sale of a reconditioned motorcycle owned for 3 years and used for recreational purposes. Indicate how Hernando should treat these transactions for income tax purposes. a. Gain on the sale of stock held as an investment for 10 months. Short-term capital gain b. Gain on the sale of land held as an investment for 4 years. Long-term capital gain c. Gain on the sale of a houseboat owned for 2 years and used for family vacations. Long-term capital gain d. Loss on the sale of a reconditioned motorcycle owned for 3 years and used for recreational purposes. Non-deductible personal-use asset Tax Rates Short-term capital gains are taxed at: Long-term capital gains are taxed at: Ordinary tax rates Preferential tax rates 11. Problem 3-24 (LO. 1) Compute 2019 taxable income in each of the following independent situations. a. Drew and Meg, ages 40 & 41, respectively, are married and file a joint return. In addition to four dependent children, they have AGI of $125,000 and itemized deductions of $27,000. AGI $125,000 Less: Itemized deductions $27,000 Taxable income $98,000 b. Sybil, age 40, is single and supports her dependent parents, who live with her. Sybil also supports her grandfather, who lives in a nursing home. She has AGI of $80,000 and itemized deductions of $8,000. AGI $80,000 Less: Standard deduction $18,350 Taxable income $61,650 c. Scott, age 49, is a surviving spouse. His household includes two unmarried stepsons who qualify as his dependents. He has AGI of $75,000 and itemized deductions of $10,100. AGI $75,000 Less: Standard deduction $24,400 Taxable income $50,600 d. Amelia, age 33, is an abandoned spouse and maintains a household for her three dependent children. She has AGI of $58,000 and itemized deductions of $10,650. AGI $58,000 Less: Standard deduction $18,350 Taxable income $39,650 e. Dale, age 42, is divorced but maintains the home in which he and his daughter, Jill, live. Jill is single and qualifies as Dale’s dependent. Dale has AGI of $64,000 and itemized deductions of $9,900. AGI $64,000 Less: Standard deduction $18,350 Taxable income $45,650 12. Problem 3-43 (LO. 9) Each year, Tom and Cindy Bates (married filing jointly) report itemized deductions of $20,000 (which includes an annual $4,000 pledge payment to their church). Upon the advice of a friend, they do the following: In early January 2019, they pay their 2018 pledge; during 2019, they pay the 2019 pledge; and in late December 2019, they prepay their 2020 pledge. a. What are the Bateses trying to accomplish? To have their itemized deductions exceed the standard deduction. b. What would the Bates’ total itemized deductions be if all three church pledge payments were made in 2019? Assume that the itemized deductions of $20,000 already included one year of the church pledge payments. $28,000 What will be the Bates’ tax saving if their marginal tax bracket is 24% for all three years? (Assume that the standard deduction amounts for 2019 and 2020 are the same.) By concentrating their charitable contributions, their tax savings becomes $864. Calculations: Itemized deduction exceeds the standard deduction by $3,600 ($28,000 - $24,400). $3,600 x 24% = $864 c. Complete a letter to Tom and Cindy Bates summarizing your analysis. Dear Mr. and Mrs. Bates: In response to your inquiry regarding the Federal income tax consequences of consolidating your charitable contributions for 2018, 2019, and 2020 into a single year (2019), here is a brief summary of the outcomes:  As individual taxpayers are presumed to be on the cash, all cash expenditures during a year will be evaluated in determining deductibility. In this case, combining the three $4,000 contributions into a single year makes sense from an income tax perspective.  By combining all three payments in 2019, you will be able to itemize your deductions in that year, while using the standard deduction in 2018 and 2020.  These $8,000 of additional contributions in 2019 (the $4,000 payments for 2018 and 2020) will mean that you will have total itemized deductions of $28,000.  Your tax savings by consolidating these contributions in 2019 will be $864.