2017 Annual Federal Tax Refresher

Transcription

1 2017 Annual Federal Tax Refresher i

2 Copyright 2016 by Paul J. Winn CLU ChFC ALL RIGHTS RESERVED. NO PART OF THIS COURSE MAY BE REPRODUCED IN ANY FORM OR BY ANY MEANS WITHOUT THE WRITTEN PERMISSION OF THE COPYRIGHT HOLDER. All materials relating to this course are copyrighted by Paul J. Winn CLU ChFC. Purchase of a course includes a license for one person to use the course materials. Absent specific written permission from the copyright holder, it is not permissible to distribute files containing course materials or printed versions of course materials to individuals who have not purchased the course. It is also not permissible to make the course materials available to others over a computer network, Intranet, Internet, or any other storage, transmittal, or retrieval system. This document is designed to provide general information and is not a substitute for professional advice in specific situations. It is not intended to be, and should not be construed as, legal or accounting advice which should be provided only by professional advisers. ii

3 Contents Introduction to the Course... 1 Course Learning Objectives... 1 Domain 1 New Tax Law/Recent Updates... 2 Introduction... 2 Domain 1 Learning Objectives Annual Inflation Adjustments Standard Deduction Standard Deduction for Blind and Senior Taxpayers Standard Deduction Eligibility Exemption Amount Personal Exemptions Dependent Exemptions Income Tax Filing Threshold Amounts Repair Regulation Safe Harbor Amount Increase Applicable Financial Statement Defined PATH Act of 2015 Summary (Individuals) Individual Tax Provisions Made Permanent Under PATH Act Individual Tax Provisions Temporarily Extended under PATH Act Federal Income Tax Return Filing Due Dates Calendar Year and Fiscal Year Taxpayers Extensions of Time to File Automatic Extension of Time to File Individuals Outside the United States Individuals Serving in a Combat Zone... 7 Domain 1 Review... 8 Domain 2 General Income Tax Review... 9 Introduction... 9 Domain 2 Learning Objectives... 9 Part I The Income Tax Return Tax Related Identity Theft Assisting Victims of Identity Theft Individual Taxpayer Identification Numbers Who Needs an ITIN? ITIN Effect on Tax Credits Determination of Filing Status Marital Status Divorced or Separated Taxpayers Annulled Marriage Married Death of a Spouse Single Married Filing Jointly Married Filing Separately Head of Household Qualifying Widow(er) With Dependent Child Same Gender Marriage Filing Status Individuals must be Lawfully Married Under State Law State of Domicile not Controlling Same-Sex Spouses Subject to Usual Spousal Requirements Claiming a Dependent Qualifying Child Qualifying Relative Relatives who Need Not Live with the Taxpayer...15 iii

4 Part I Review...15 Part II Income Taxability of Wages, Salaries, Tips and Other Earnings Advance Commissions and Other Earnings Allowances and Reimbursements Back Pay Awards Bonuses and Awards Differential Wage Payments Government Cost of Living Allowances Nonqualified Deferred Compensation Plans Notes Received for Services Severance Pay Sick Pay Social Security and Medicare Taxes Paid by an Employer Stock Appreciation Rights Tip Income Interest and Dividend Income Interest Income Taxable Interest Nontaxable Interest Education Savings Bond Program State or Local Government Obligations Dividend Income Qualified Dividends Required Holding Period Qualified Foreign Corporation Not Qualified Dividends...21 Part II Review...21 Part III, Foreign Accounts, Refunds, Unemployment Compensation, Self-Employment Income and Social Security Benefits Schedule B, Part III Foreign Accounts and Trusts Taxable Refunds, Credits, or Offsets of State and Local Taxes Unemployment Compensation Unemployment Compensation Taxable Nondeductible Contributions to Governmental Unemployment Compensation Plan Repayment of Unemployment Compensation Self-Employment Income and Expenses Business vs. Hobby Gross Receipts Car and Truck Expenses Methods for Deducting Car and Truck Expenses Standard Mileage Rate Actual Expenses Business Use of a Home Methods of Figuring the Home-Office Deduction Actual Expense Method Nature of the Expense Percentage of the Home Used for Business Calculating Percentage of Home Used for Business Deductible Expenses for Home-Office Deduction Expenses Deductible by All Homeowners Expenses Deductible only by Taxpayers Using a Home for Business Deduction Limit Simplified Method Depreciation and Actual Expenses Related to Use of Home not Deductible No Deduction of Actual Expense Carryover Expenses Deductible Irrespective of Business Use Special Rules Applicable to Simplified Method Gross Income Limitation...30 iv

5 Other Expenses Recordkeeping Requirements Gross Receipts Inventory Expenses Social Security Benefits Taxability of Benefits Reporting...33 Part III Review...33 Part IV Capital Gains and Losses, IRAs, Pensions and Annuities Capital Gains and Losses Short-Term and Long-Term Capital Gains and Losses Reporting Capital Gains and Losses IRS Form 8949, Sales and Other Dispositions of Capital Assets Schedule D Taxable Distributions from IRAs, Pensions and Annuities Individual Retirement Arrangement Distributions Traditional IRA Distributions Premature Distributions Premature Distributions Avoiding Tax Penalty Traditional-to-Roth IRA Conversions Required Distributions during Owner s Lifetime Roth IRA Distributions Non-Qualified Distributions of Gain before 59 ½ Subject to Tax Penalty No Required Lifetime Distributions IRA Rollover Per-Year Limit Tax Consequences of Violating the One-Rollover-Per-Year Rule Some Rollover-type Transactions Unaffected by Ruling Simplified Employee Pension (SEP) IRA Certain Employees Must Be Included Distributions Regular Distributions Premature Distributions Required Minimum Distributions Rollovers SIMPLE IRA Employee Elective Contributions Employer Contributions Distributions Exceptions to Premature Distribution Tax Penalty Minimum Required Distributions Rollovers Qualified Retirement Plan Distributions Cost Basis in a Qualified Retirement Plan Lump Sum Plan Distributions Periodic Payment Distributions Early Distributions Required Qualified Plan Minimum Distributions Qualified Plan Rollovers Direct and Indirect Rollovers Plan Death Benefits Designated Roth Account Distributions Qualified Roth Account Distributions Tax-Free Nonqualified Roth Account Distributions Annuity Distributions Amounts Not Received as an Annuity Amounts Received as an Annuity Premature Distributions...43 Part IV Review...43 v

6 Part V Adjustments and Deductions Adjustments to Income Deductible Part of Self-Employment Taxes Student Loan Interest Deduction Qualified Education Expenses Adjustments to Qualified Education Expenses Amounts Included as Interest Eligibility to Claim the Deduction Determining the Student Loan Interest Deduction Amount Income and Filing Status may Affect Student Loan Interest Deduction MAGI Defined for Student Loan Interest Deduction Student Loan Cancellations and Repayment Assistance Tax-Free Student Loan Repayment Assistance Tuition and Fees Deduction Eligibility to Claim a Tuition and Fees Deduction Expenses Qualifying for a Tuition and Fees Deduction Double Benefit Prohibited Refunds Claiming a Dependent s Expenses Expenses Paid by the Dependent Cannot be Claimed by Taxpayer Expenses Paid By Others Tuition Reductions Figuring the Tuition and Fees Deduction Claiming the Deduction Deduction Recapture Standard Deduction vs. Itemized Deductions Taxpayers Ineligible to take Standard Deduction Overview of Itemized Deductions State and Local Taxes State and Local Income Taxes State and Local General Sales Taxes Actual Sales Taxes Sales Tax Refunds Optional Sales Tax Tables Real Estate Taxes Mortgage Interest Points Charitable Contributions Limits on Charitable Contribution Deductibility Carryovers Contribution Records...54 Part V Review...54 Part VI Child and Dependent Care, Education, Retirement and Child Tax Credits Child and Dependent Care Credit Eligible Care Recipients Limited to Qualifying Persons Eligible Taxpayers Education Credits American Opportunity Credit Eligibility to Claim an American Opportunity Credit Expenses Qualifying for an American Opportunity Credit Double Benefit Prohibited Adjustments to Qualified Education Expenses Eligible Student Claiming a Dependent s Expenses Expenses Paid By The Dependent Expenses Paid By Others Tuition Reductions Figuring the American Opportunity Credit Maximum American Opportunity Credit Subject to Income Limits/Filing Status...59 vi

7 Refundable Part of the American Opportunity Credit Credit Recapture Lifetime Learning Credit Eligibility to Claim a Lifetime Learning Credit Expenses Qualifying for a Lifetime Learning Credit Adjustments to Qualified Education Expenses Eligible Student Figuring the Lifetime Learning Credit Maximum Lifetime Learning Credit Subject to Income Limits/Filing Status Retirement Savings Contribution Credit Child Tax Credit and Additional Child Tax Credit Child Tax Credit Child Tax Credit Limit Claiming the Credit Additional Child Tax Credit...63 Part VI Review...64 Part VII ACA Provisions and Earned Income Tax Credit Affordable Care Act Provisions affecting Tax Return Preparers IRS Reporting Forms 1095A, 1095B and 1095C Form 1095A, Health Insurance Marketplace Statement Form 1095B, Health Coverage Form 1095C, Employer-Provided Health Insurance Offer and Coverage Refundable Tax Credits to Assist in Purchase of Qualified Health Plan Eligibility for Credit Federal Poverty Level Amount of the Credit Benchmark Plan Taxpayer s Expected Contribution Household Income Calculating the Credit Adjusted Monthly Premium Advance Premium Tax Credit Reconciling Advance Premium Tax Credit Claiming the Tax Credit - Reporting Form 1095-A Completing Form Additional Tax Limitation Applicable to Reconciliation Individual Requirement to Maintain Health Coverage Reporting Form 1095-C Reporting Form 1095-B Penalty for Failure to Maintain Health Coverage Penalty Examples Exemptions from Penalty for Failure to Maintain Health Coverage Earned Income Tax Credit Adjusted Gross Income Limits Valid Social Security Number Required Tax Filing Status Citizenship or Residency Foreign Earned Income Investment Income Earned Income EIC Rules That Apply Only if the Taxpayer Has a Qualifying Child Relationship, Age, Residence and Joint Return Tests The Relationship Test The Age Test Student Defined Permanently and Totally Disabled Defined The Residency Test Exception for U.S. Military Stationed Outside the U.S The Joint Return Test...80 vii

8 Child Must Have Valid Social Security Number Qualifying Child of More than One Person Rule Tiebreaker Rules Qualifying Child of Another Taxpayer Rule EIC Rules That Apply if Taxpayer Does Not Have a Qualifying Child The Age Rule Death of Spouse During Year The Dependent of Another Person Rule The Qualifying Child of Another Taxpayer Rule The Main Home Rule Figuring the Amount of the Earned Income Credit Calculating Earned Income for EIC Purposes Taxpayers Not Self-Employed, Statutory Employees, Clergy or Church Employees Self-Employed Taxpayers, Statutory Employees, Clergy and Church Employees Due Diligence Requirements Eligibility Checklist IRS Form Part VII Review...89 Part VIII Tax Payments and Refunds Tax Withholding and Estimated Tax Payments Tax Withholding Form W Exemption from Withholding Penalties Withholding from Nonwage Income Estimated Tax Requirement to Pay Estimated Tax Payment and Refund Options Payment of Income Tax Owed Refunds Limit on Direct Deposit Refunds...92 Part VIII Review...93 Domain 3 Ethics, Practices & Procedures Introduction...94 Domain 3 Learning Objectives Requirement to Give Taxpayer a Copy of Return Tax Return Preparers Required to Sign Returns Tax Return Preparers Required to Furnish Identifying Number Requirement to Retain a Copy of Return Prohibition on Negotiation of Client Refund Checks Due Diligence in Preparing Returns Due Diligence - Earned Income Tax Credit PATH Act Expansion of Due Diligence Requirements Compliance with E-file Procedures Affected Tax Return Preparers Timing of Taxpayer Signature Timing of Filing Recordkeeping Prohibited Filing with Pay Stub Proper Handling of Rejects Negligent or Intentional Disregard and Willful Understatement of Liability Annual Filing Season Program Annual Filing Season Program Requirements AFSP Continuing Education Requirements Consent to Adhere to Circular 230 Requirements Tax Return Preparer Duties and Restrictions AFSP Participants Limited Representation Rights Domain 3 Review viii

9 Answers to Review Quizzes Domain Domain Part I Answer Part II Answer Part III Answer Part IV Answers Part V Answer Part VI Answers Part VII Answers Part VIII Answer Domain Glossary Index ix

10 Introduction to the Course Each year, various limits affecting income tax return preparation and tax planning are affected by inflation-related changes. In addition, new tax laws come into being that may significantly affect taxpayers income tax liability. This course will examine many of those changes. The Annual Federal Tax Refresher course is designed to meet the requirements of the IRS voluntary Annual Filing Season program. It discusses new tax law and recent updates for the 2017 filing season, provides a general tax review, and examines important rules governing tax return preparer ethics, practices and procedures. The term "domain" is used in place of the more common "chapter" to more closely follow the language of the IRS Annual Federal Tax Refresher course outline. Course Learning Objectives Upon completion of this course, you should be able to: Apply the inflation-adjusted and other limits to the proper preparation of taxpayers income tax returns; Calculate taxpayers additional tax liability resulting from the Medicare tax, net investment income tax and individual shared responsibility payment; Recognize the federal income tax filing statuses and the criteria for their use; Identify the types of income that must be recognized; Apply the tax rules to the various credits and adjustments to income available to taxpayers; Recognize the penalties that may be imposed on a preparer for failing to meet ethical and practice standards in preparing tax returns; and Identify the duties and restrictions imposed on tax preparers under Circular

11 Domain 1 New Tax Law/Recent Updates Introduction Each year various amounts affecting income tax return preparation amounts such as filing requirement thresholds as well as personal exemptions and standard deductions are adjusted for inflation. In addition to inflation-related adjustments, changes may be made to tax law that must be considered by tax return preparers. Domain 1 will discuss the inflation adjustments and changes in tax law, and it will review the tax return due dates. Domain 1 Learning Objectives When you have completed the domain 1 text, you should be able to: Identify the 2016 standard deductions, exemptions and tax filing thresholds; Understand the changes in the repair regulation safe harbor amount; List the individual tax extenders that are permanent and temporary under the PATH Act of 2015; and Recognize the federal income tax return due dates and the extensions of time available for filing. 1.1 Annual Inflation Adjustments Annual inflation adjustments to be applied by tax preparers include changes in the: Standard deduction; Exemption amounts; and Income tax filing thresholds. Let s briefly consider each of them Standard Deduction The amount of the standard deduction is increased from time to time to account for inflation. For taxable years beginning in 2016, the standard deduction amounts are increased to: $12,600 for married couples whose filing status is married filing jointly and surviving spouses; $6,300 for singles and married couples whose filing status is married filing separately ; and $9,300 for taxpayers whose filing status is head of household. A taxpayer who can be claimed as a dependent is generally limited to a smaller standard deduction, regardless of whether the individual is actually claimed as a dependent. For 2016 returns, the standard deduction for a dependent remains the same as it was in 2015 and is the greater of: $1,050; or The dependent s earned income from work for the year plus $350 (but not more than the standard deduction amount, generally $6,300) Standard Deduction for Blind and Senior Taxpayers Elderly and/or blind taxpayers receive an additional standard deduction amount added to the basic standard deduction. The additional standard deduction for a blind taxpayer a taxpayer whose vision is less than 20/200 and for a taxpayer who is age 65 or older at the end of the year is: $1,250 for married individuals; and $1,550 for singles and heads of household. The additional standard deduction for taxpayers who are both age 65 or older at year-end and blind is double the additional amount for a taxpayer who is blind (but not age 65 or older) or age 65 (but not blind). For example, a 65 year-old single blind taxpayer would add $3,100 to his or her usual standard 2

12 deduction: $1,550 for being age 65 plus $1,550 for being blind. ($1,550 x 2 = $3,100). Thus, his or her standard deduction would normally be $9,400. ($6,300 + $3,100 = $9,400) Standard Deduction Eligibility The general rule with respect to deductions is that a taxpayer may choose to take a standard deduction or itemize his or her deductions. Although that general rule applies in the case of most taxpayers, certain taxpayers are ineligible to take the standard deduction and must itemize. Taxpayers who are ineligible to take the standard deduction are the following: Taxpayers whose filing status is married filing separately and whose spouse itemizes deductions; Taxpayers who are filing a tax return for a short tax year due to a change in their annual accounting period; and Taxpayers who were nonresident aliens or dual-status aliens during the year Exemption Amount Exemptions reduce a taxpayer s tax liability by being deducted from the taxpayer s income to arrive at the taxable income to which the tax rates are applied. Married taxpayers filing a joint return are allowed at least two personal exemptions, even though only one spouse may have an income. However, if a husband and wife file separate returns, each spouse must take the exemption to which entitled on his or her own tax return. Married taxpayers who file a separate return are not permitted to claim two exemptions for a spouse, i.e. one as a spouse and one as a dependent. The exemption amount generally increases from year to year and has increased from $4,000 for 2015 to $4,050 in 2016 for taxpayers whose AGI does not exceed the following amounts: Filing Status Adjusted Gross Income Married filing jointly or qualifying widow(er) $311,300 Head of household $285,350 Single $259,400 Married filing separately $155,650 For taxpayers whose AGI exceeds the listed amounts, the personal exemption is reduced. The reduction in the exemption is equal to 2% for each $2,500 (or part of $2,500) of AGI in excess of the amounts shown in the table. Thus, personal exemptions are completely phased out in 2016 for taxpayers with AGIs as shown below: Filing Status Adjusted Gross Income Married filing jointly or qualifying widow(er) $433,800 Head of household $407,850 Single $381,900 Married filing separately $216, Personal Exemptions Exemptions may be personal exemptions exemptions for each of the taxpayer and spouse, in other words or exemptions for dependents. With respect to personal exemptions, each taxpayer, unless he or she can be claimed as a dependent on the tax return of another taxpayer, may take one exemption for himself or herself. If another person is entitled to claim the taxpayer as a dependent even if the other taxpayer does not actually claim him or her as a dependent the taxpayer loses the ability to claim the exemption. Thus, the loss of the personal exemption occurs when another is eligible to claim the taxpayer as a dependent. A taxpayer whose filing status is married filing jointly may claim an exemption for himself or herself and a second exemption for a spouse. A married taxpayer whose filing status is married filing separately may claim an exemption for a spouse only if the spouse: Had no income; Is not filing a return; and 3

13 Was not the dependent of another taxpayer Dependent Exemptions One exemption may be claimed by a taxpayer for each person the taxpayer can claim as a dependent. The ability of the taxpayer to claim an exemption for a dependent does not depend on whether or not the dependent files a federal income tax return. Pursuant to federal law, a person is a dependent if he or she meets the qualifying child test or the qualifying relative test. The taxpayer must also meet certain tests in order to claim an exemption for a qualifying relative or a qualifying child. Those tests are: The dependent taxpayer test; The joint return test; and The citizen or resident test. All three tests must be met Income Tax Filing Threshold Amounts The income tax filing thresholds for the 2017 filing season reflecting 2016 income are as follows: Filing Status Age at End of 2016 Must File if Gross Income is Single Under 65 $10, or older $11,900 Under 65 (both spouses) $20,700 Married filing jointly 65 or older (one spouse) $21, or older (both spouses) $23,200 Head of household Under 65 $13, or older $14,900 Qualifying widow(er) with Under 65 $16,650 dependent child 65 or older $17, Repair Regulation Safe Harbor Amount Increase Final tangible property regulations were issued by the Treasury Department and the Internal Revenue Service in 2013 and are applicable to taxable years beginning on or after January 1, The regulations include a de minimis safe harbor election intended as an administrative convenience that permits a taxpayer to expense (rather than having to capitalize and depreciate) limited amounts paid for the acquisition or production of new property or the improvement of existing property, provided: the taxpayer meets certain requirements, and the property does not exceed specified dollar limitations. A distinction is made under the regulations between taxpayers that have an applicable financial statement (AFS) and taxpayers that do not have an AFS (See Applicable Financial Statement Defined below). Under the final regulations issued in 2013, a taxpayer having an AFS may apply the de minimis safe harbor if, in addition to meeting other requirements, the amount paid for the property does not exceed $5,000 and the taxpayer treats the amount paid as an expense on its AFS. However, the amount a taxpayer was permitted to expense for acquiring property or improving it without having an AFS was limited under the final regulations issued in 2013 to no more than $500. That dollar limitation for a taxpayer without an AFS is increased, effective for costs incurred during taxable years beginning on or after January 1, 2016, from $500 to $2,500. The amount that may be expensed for maintenance and repairs is not limited by the safe-harbor amounts limiting expenditures that may be expensed for property acquisition or improvement under the final rule. 4

14 1.2.1 Applicable Financial Statement Defined An applicable financial statement, as defined under the law 1 is the taxpayer s financial statement listed in paragraphs (f)(4)(i) through (iii) of this section that has the highest priority (including within paragraph (f)(4)(ii) of this section). The financial statements are, in descending order of priority (i) (ii) (iii) A financial statement required to be filed with the Securities and Exchange Commission (SEC) (the 10-K or the Annual Statement to Shareholders); A certified audited financial statement that is accompanied by the report of an independent certified public accountant (or in the case of a foreign entity, by the report of a similarly qualified independent professional) that is used for (A) Credit purposes; (B) Reporting to shareholders, partners, or similar persons; or (C) Any other substantial non-tax purpose; or A financial statement (other than a tax return) required to be provided to the federal or a state government or any federal or state agency (other than the SEC or the Internal Revenue Service. 1.3 PATH Act of 2015 Summary (Individuals) For several years, certain tax provisions have been temporarily extended only for one year, often at the end of the year to which they apply. On December 18, 2015 the Protecting Americans from Tax Hikes (PATH) Act of 2015 was signed into law and temporarily extended various tax provisions while making other tax provisions permanent. A summary of the individual tax provisions affected by the Act is provided below Individual Tax Provisions Made Permanent Under PATH Act The PATH Act of 2015 made the following individual tax provisions permanent: The tax deduction of expenses of elementary and secondary school teachers The $250 above-the-line deduction for teachers and other educators qualified out-of-pocket expenses is made permanent. The deduction will be inflation adjusted for 2016 and later years. The equalization of the tax exclusion for employer-provided commuter transit and parking benefits The tax-free benefit for mass transit passes, van pooling and parking fees is permanently equalized, and the monthly $250 benefit will be inflation adjusted for 2016 and later years. The tax deduction of state and local general sales taxes in lieu of state and local income taxes Taxpayers ability to deduct state and local sales taxes rather than deducting state and local income taxes has been made permanent. The tax deduction of charitable contributions of real property interests for conservation purposes Although charitable gifts of property are generally limited to no more than 35% of the donor s adjusted gross income, the permitted deduction of conservation property up to 50% of AGI (100% for ranchers and farmers) has been made permanent. The tax exemption of distributions from individual retirement accounts for charitable purposes The tax provisions permitting tax-free IRA distributions of no more than $100,000 by taxpayers age 70½ or older to qualified charities has been made permanent. The child tax credit The tax provision allowing for a refundable part of the child tax credit having a reduced income threshold has been made permanent. The American opportunity tax credit The enhanced American opportunity tax credit providing a maximum $2,500 deduction for qualified education expenses has been made permanent. EITC enhancements The enhancements to the earned income tax credit for lower-income taxpayers have been made permanent Individual Tax Provisions Temporarily Extended under PATH Act In addition to making the already-noted individual tax provisions permanent, it extended other individual tax provisions, as listed below: 1 Reg (a)-1(f)(4) may be accessed at 5

15 The tax exclusion of imputed income from the discharge of indebtedness for a principal residence The tax exclusion for forgiveness of up to $2 million of principal residence mortgage debt is extended through The tax deduction of mortgage insurance premiums The permitted deduction of mortgage insurance premium, subject to a phaseout beginning at $100,000 AGI is extended through The tax deduction of qualified tuition and related expenses The tuition and fees deduction allowed in lieu of higher education credits, subject to phaseout based on modified adjusted gross income is extended through Residential energy credit The most recent version of the residential energy credit providing a $500 lifetime credit for 10% of qualified expenses is extended through Federal Income Tax Return Filing Due Dates The due date for filing a federal income tax return depends on whether the taxpayer uses the calendar year or a fiscal year. In addition, the applicable due date may be extended. Such extensions are available: Under an automatic extension; If the taxpayer is outside the United States; or If the taxpayer is serving in a combat zone Calendar Year and Fiscal Year Taxpayers For taxpayers who use the calendar year, the due date for filing the federal income tax return is generally April 15 th of the year following the end of the calendar year for which the tax return is being filed. The federal income tax returns for taxpayers who use a fiscal year, i.e. a year ending on the last day of any month except December, are due by the 15 th day of the fourth month after the close of the taxpayer s fiscal year. For example, the federal income tax return of a taxpayer whose fiscal year ends on June 30 th is due on the following October 15 th. When the due date for performing any act for tax purposes such as paying taxes or filing a tax return falls on a Saturday, Sunday or legal holiday, the due date is delayed until the next business day. A taxpayer s failure to file a timely income tax return may subject the taxpayer to a failure-to-file penalty and interest. An exception to the usual federal income tax filing due dates applies to nonresident aliens who do not earn wages subject to U.S. income tax withholding. The federal income tax return of a nonresidentalien taxpayer who does not earn wages subject to such withholding is: June 15 th for calendar year taxpayers; or The 15 th day of the 6 th month after the end of the taxpayer s fiscal year for fiscal year taxpayers. The federal income tax return of a decedent, i.e. a taxpayer who died during the year, must be filed by the decedent s representative. The return is due by the 15 th day of the fourth month after the end of the decedent s normal tax year Extensions of Time to File A taxpayer may be able to get an extension of the time to file his or her federal income tax return. However, despite obtaining an extension of the time to file, any tax due must generally be paid by the regular due date. Failure to pay any tax due by the regular date will result in the imposition of interest and possible penalties on the unpaid amount from the date due until the date actually paid. A taxpayer may qualify for an extension of time to file: Under an automatic extension; If the taxpayer is outside the United States; or The taxpayer is serving in a combat zone Automatic Extension of Time to File A taxpayer who is unable to file a federal income tax return by the normal due date may be able to get an automatic six-month extension of the time to file. The automatic extension may be obtained by: 6

16 Using IRS e-file; or Filing a paper form. An automatic six-month extension of the time to file a federal income tax return may be obtained by timely filing IRS form 4868, Application for Automatic Extension of Time to File U.S. Individual Income Tax Return. The application for automatic extension is considered timely filed if filed by the due date for the taxpayer s income tax return. A representation of that form is shown below: Form 4868 Department of the Treasury Internal Revenue Service (99) Application for Automatic Extension of Time To File U.S. Individual Income Tax Return For calendar year 20XX, or other tax year beginning,20xx, ending,20 Part I Identification Part II Individual Income Tax 1 Your name(s) (see instructions) 4 Estimate of total tax liability for 20XX OMB No XX $ 5 Total 20XX payments Address (see instructions) 6 Balance due. Subtract line 5 from line 4 (see instructions) 7 Amount you are paying (see instructions) City, town, or post office State ZIP Code 8 Check here if you are out of the country and a U.S. citizen or resident (see instructions) 2 Your social security number 3 Spouse s social security number 9 Check here if you file Form 1040NR or 1040NR-EZ and did not receive wages as an employee subject to U.S. income tax withholding When the taxpayer s income tax return is subsequently filed, enter any payment made when the application for extension was filed on Form 1040, line 70, on Form 1040EZ, line 9 or on Form 1040A, line 46. Also write the words Form 4868 and the amount paid in the space to the left of line 9 or line 46, as appropriate Individuals Outside the United States A taxpayer is allowed an automatic two-month extension, without filing Form 4868, to file the federal income tax form and pay any federal income tax due if: The taxpayer is a U.S. citizen or resident, and On the due date of the taxpayer s return, he or she is o Living outside the United States and Puerto Rico, and the taxpayer s main place of business or post of duty is outside the United States and Puerto Rico, or o In the military or naval service on duty outside the United States and Puerto Rico. If the taxpayer files a joint return, only one spouse needs to qualify in order to take advantage of this automatic extension. However, if the taxpayer and spouse file separate returns, the automatic extension applies only to the spouse who qualifies. To obtain the automatic extension, the taxpayer simply needs to attach a statement to his or her federal income tax return explaining what situation qualified him or her for the extension. Although a taxpayer who meets the criteria for an automatic two-month extension may defer payment of any federal income tax due, if the tax due is paid after the regular due date, interest but no penalties will be charged from the regular due date until the date the tax is paid. If the taxpayer cannot file his or her federal income tax return within the automatic two-month extension period, the taxpayer may be able to get an additional four-month extension by filing IRS Form 4868 and checking the box on line eight of the form Individuals Serving in a Combat Zone Individuals serving in a combat zone receive a substantial deferral with respect to their income tax returns. The due date for filing the taxpayer s federal income tax return, paying any tax owed, and filing a claim for refund is automatically extended if the taxpayer serves in a combat zone. The deferral applies to: Members of the Armed Forces; 7

17 Merchant marines serving aboard vessels under the operational control of the Department of Defense; Red Cross personnel; Accredited correspondents; and Civilians under the direction of the Armed Forces in support of the Armed Forces. For taxpayers who serve in a combat zone, the deadline for filing the federal income tax return, paying any taxes due, and filing a claim for refund is extended for at least 180 days after the later of: The last day the taxpayer is in a combat zone or the last day the area qualifies as a combat zone; or The last day of any continuous qualified hospitalization for injury from service in the combat zone. In addition to the 180 days, the taxpayer s deadline for filing the income tax return is also extended by the number of days the taxpayer had left to take action with the IRS when entering the combat zone. We can illustrate how the latter additional extension applies by considering an example. Suppose a taxpayer who uses a calendar year entered a combat zone on February 1 st. Since the taxpayer would normally have an additional 2 ½ months (up to April 15 th ) before being required to file a federal income tax return, that 2 ½ month period is added to the 180 days. Thus in that case, the taxpayer would have an extension equal to 254 days. (180 days + 74 days = 254 days) If the taxpayer entered the combat zone before the end of the year, he or she would have an additional extension (in addition to the 180 days) of the entire 3 ½ months. Domain 1 Review 1. A taxpayer s 16 year-old dependent son earned $7,000 in What is the standard deduction for him? A. $6,300 B. $7,350 C. $1,050 D. $0 2. Shirley and Jack file their income tax return as married filing jointly and take the standard deduction. What is their 2016 standard deduction if Jack is age 66 and Shirley is age 64 and blind? A. $12,600 B. $13,850 C. $15,100 D. $16, Food Brokers, Inc. incurred expenses to improve its existing tangible property in The firm, a close corporation, does not have an applicable financial statement (AFS) as defined in the Internal Revenue Code. What is the maximum amount of the expense it may deduct rather than capitalize? A. $0 B. $500 C. $2,500 D. $5,000 8

18 Domain 2 General Income Tax Review Introduction Although the tax laws change and applicable limits may be subject to cost of living adjustments, much of the tax code and the principles underlying federal income tax return preparation don t vary substantially from year to year. In the domain 2 text that follows, the important principles and procedures in connection with preparing the federal income tax return for a client will be discussed. Domain 2 Learning Objectives When you have completed the domain 2 text, you should be able to: List the five federal income tax filing statuses and the conditions applicable to their use; Recognize the best practices to ensure obtaining correct names and Social Security numbers of taxpayers and dependents; Compute the tax penalties imposed on non-exempt taxpayers failing to maintain minimum essential health insurance benefits; Identify the types of income that are taxable; Calculate the amount of adjustments to a taxpayer s income for student loan interest and tuition and fees paid; Recognize the tax credits that may be available to a taxpayer; and Identify the options available to a taxpayer to pay any tax due or obtain a tax refund. Part I The Income Tax Return 2.1 Tax Related Identity Theft All types of identity theft leave their mark on unsuspecting victims and account for losses well into the millions of dollars for them. The filing of a tax return may also involve identity theft. Tax-related identity theft occurs when someone uses a stolen Social Security number to file a tax return claiming a fraudulent refund. Thieves may also use stolen Employer Identification Numbers to create false Forms W-2 to support refund fraud schemes. The IRS has created and published Publication , Tax Preparer Guide to Identity Theft, which identifies the various warning signs of identity theft and suggests additional identity theft-prevention resources for preparers. Among the identified warning signs for individual clients that the client s Social Security number has been compromised, putting him or her at risk, are the following: A client s return is rejected and IRS reject codes indicate the taxpayer s Social Security number has already been used; The client notices activity on or receives IRS notices regarding a tax return after all tax issues have been resolved, refund paid or account balances have been paid; and An IRS notice indicates the client received wages from an employer unknown to the client. In addition, tax return preparers must confirm the identities and Social Security numbers of taxpayers, spouses and dependents. To prevent filing returns with stolen identities, tax preparers should ask taxpayers not known to them to provide two forms of identification preferably forms of identification containing the individual s picture that include the taxpayer s name and current address. Preparers should require taxpayers to show the Social Security cards for themselves, their spouses and dependents and should take special care to ensure that they transcribe all Social Security numbers correctly. Furthermore the Social Security number entered on the IRS Form W-2, Wage and Tax Statement must be identical to the taxpayer s Social Security number on the Social Security card 2 9

19 provided by the taxpayer. Tax return preparers should enter the Social Security number exactly as shown on the Form W-2 provided to them by taxpayers. In order to minimize Social Security number-related rejects, it is important to verify taxpayer Social Security numbers and names before submitting a return to the IRS Assisting Victims of Identity Theft The Federal Trade Commission (FTC) is the lead federal agency for identity theft, and the agency recommends the following steps for an identity theft victim: 1. Report the identity theft to the FTC at 2. Contact one of the major credit bureaus to place a fraud alert on the victim s records. The contact information for the bureaus is as follows i ; ii ; and iii Close any financial or credit accounts opened fraudulently. 2.2 Individual Taxpayer Identification Numbers Individual Taxpayer Identification Numbers (ITINs) are tax processing numbers issued by the IRS to individuals who: Are required to have a U.S. taxpayer identification number; Do not have a Social Security number; and Are NOT eligible to obtain a Social Security number from the Social Security Administration. In order to obtain an ITIN, an individual must have a filing requirement and must file a valid federal income tax return. They are used only for federal tax reporting and are not intended to serve any other purpose Who Needs an ITIN? The IRS issues ITINs to foreign nationals and others who have federal tax reporting or filing requirements and who don t qualify for a Social Security number. Examples of individuals who need ITINs are: Foreign nationals having federal tax reporting or filing requirements; Nonresident aliens required to file U.S. tax returns; U.S. resident aliens (based on days present in the U.S.) filing U.S. tax returns; Dependents or a spouse of U.S. citizen/resident aliens; and Dependents or a spouse of nonresident alien visa holders. Individuals who must apply for an ITIN are those who are ineligible to obtain a Social Security number but who must furnish a taxpayer identification number to the IRS. Applicants for an ITIN must have a valid filing requirement and file an original valid U.S. federal income tax return with their ITIN applications ITIN Effect on Tax Credits A taxpayer using an ITIN is ineligible for the earned income tax credit (EITC) since qualifying for EITC requires that the claimant, spouse and qualifying child or children generally must possess valid work related Social Security numbers. In addition, a child must be a U.S. citizen, U.S. national or U.S. resident to be considered a qualifying child for purposes of the Child Tax Credit. 2.3 Determination of Filing Status The Internal Revenue Code provides for five filing statuses under which individuals may file federal income tax returns. Those five statuses are: Single; Married filing jointly; Married filing separately; Head of household; and Qualifying widow(er) with dependent child. 10

20 2.3.1 Marital Status A taxpayer s income tax filing status depends, in general, on whether he or she is considered married or unmarried Divorced or Separated Taxpayers A taxpayer is considered unmarried for the whole year if, on the last day of the tax year, the taxpayer is unmarried or legally separated from his or her spouse under a: Divorce decree; or Separate maintenance decree Annulled Marriage Additionally, a taxpayer who obtains a court decree of annulment, which holds that no valid marriage ever existed, will be considered unmarried even if the taxpayer filed joint returns for earlier years. In such a case, the taxpayer must file Form 1040X, Amended U.S. Individual Income Tax Return, claiming single or head of household status for all tax years that are affected by the annulment and are not closed by the statute of limitations for filing a tax return Married A taxpayer is considered married for the whole year if, on the last day of the tax year, the taxpayer and spouse meet any of the following tests: The taxpayer and spouse are married and living together as a married couple; The taxpayer and spouse are living together in a common-law marriage recognized in the state where currently living or in the state where the common-law marriage began; The taxpayer and spouse are married and living apart, but not legally separated under a decree of divorce or separate maintenance; or The taxpayer and spouse are separated under an interlocutory (not final) decree of divorce. As discussed later, individuals of the same sex are considered married if they were lawfully married in a state or foreign country whose laws authorize the marriage of two individuals of same-sex, even if the state or foreign country in which they now reside does not recognize same-sex marriage. (See Same Gender Marriage Filing Status below.) Death of a Spouse In addition, if the taxpayer s spouse died during the year the taxpayer is considered married for the whole year for filing status purposes. Accordingly, even if the taxpayer did not remarry before the end of the tax year, the taxpayer can file a joint return for the taxpayer and deceased spouse. If the widowed spouse remarries before the end of the tax year, the taxpayer can file a joint return with his or her new spouse. The deceased spouse s filing status in such a case is married filing separately for that year Single A taxpayer s filing status is single if he or she is considered unmarried and the taxpayer does not qualify for another filing status, such as Head of Household or Qualifying Widow(er) With Dependent Child. Accordingly, unless a taxpayer who was widowed before the beginning of the tax year and does not remarry before the end of the tax year qualifies for a Head of Household or Qualifying Widow(er) with dependent child status, he or she would normally be considered single Married Filing Jointly A taxpayer may choose a married filing jointly filing status if a) considered married and b) both spouses agree to file a joint return. In many cases, the tax liability for a taxpayer filing a federal income tax return as married filing jointly is lower than if filing under a different filing status. In addition, the taxpayer s standard deduction (assuming the taxpayer does not itemize deductions) may be higher, and the taxpayer may qualify for tax benefits available only to taxpayers filing joint tax returns. 11