CCH Essentials of Federal Income Taxation Gross Income Exclusions and Adjustments to Income 2001, CCH INCORPORATED 4025 West Peterson Ave. Chicago, IL 60646-6085 http://tax.cchgroup.com
Gross Income Exclusions Bequest and inheritance Gifts Dividends, tax-exempt Foreign-earned income exclusion Fringe benefits Meals and lodging Income of minors Insurance, proceeds from life policy Interest, tax-exempt Scholarship and fellowship grants Social security benefits Workers compensation Health insurance benefits Roth IRAs Education IRAs Qualified state tuition programs
Bequest & Inheritance Value of property is excluded Future income (interest, dividends, etc.) is includable Estate exclusion is $2 million in 2007 Annual exclusion for individual gifts is $12,000 per donor/recipient per year Estate/gift tax rate is 42.5%
Gifts Recipient of gift may exclude it from income Future income from gifts is included as income Gifts over $12,000 may be subject to gift tax for the giver
Tax-Exempt Dividends When the dividend is more than the corporation s earnings When the dividend is a return-of-capital to the stockholder Stock dividends and stock rights which are not converted to cash Stock splits Generally, Insurance policy dividends
Foreign Earned-income Excludable up to $85,700 of earned income Taxpayer must be a resident in a foreign country for a full year or 330 days during a 12 month period Must prorate exclusion amount if the year period fall between two calendar years See example 1
Examples of Fringe Benefits Dependent care assistance Educational assistance Group-term life insurance Health and accident insurance Adoption assistance Employer contributions to retirement plans Parking and transportation Athletic facilities Employee discounts Moving reimbursements CCH Essentials of Federal Income Taxation 8 of 15
Fringe Benefits Generally, discrimination rules apply to key employees (cannot favor key employees) Cafeteria Plans Employees may pick and choose benefits Dependent Care up to $5,000 excludable Only for employee s children & dependents Earnings limit exclusion cannot exceed spouse s earned income $250 (or $500) per month if spouse is a full-time student or incapacitated
Flexible Spending Accounts FSAs allow employees to set aside amounts to be used for child-care costs or health care expenses Amounts withheld from employees earnings are excluded from taxable wages Contributions to FSAs are pre-tax dollars Receipts must be submitted for all payments taken from the FSA
Fringe Benefits Educational Assistance up to $5,250 Tuition, fees, books, supplies of undergraduate or graduate courses Group-term Life Insurance Coverage up to $50,000 is excluded Any amount over $50,000 is gross income following the Uniform IRS schedule (p. 4-7) Gross income is reduced by the employee s contribution See example 7
Fringe Benefits Health and Accident Insurance is excluded Also, reimbursements for medical care or permanent injury is excluded Adoption Expenses Up to $11,390 is excluded Phase-out of exclusion begins at $170,820 AGI Exclusion ends at $200,820
Noncash Compensation De minimis (small-value) fringe benefits Copy machines, office supplies, holiday gifts Qualifying employee discounts Merchandise, lodging, food Working condition fringe benefits Tools, professional dues No-additional-cost services Hotel rooms, telephone, travel, cars Athletic facilities Parking and transportation Up to $215 per month for parking; $110 for transportation Qualified retirement plans
Meals & Lodging Excluded if served on premises for the benefit of the employer Lodging is excluded if it is furnished as a condition of employment
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Income of Minors Parent s do not include earnings of their children on their tax returns Child pays the tax on their unearned income Form 8615 (Kiddie tax) Parent s are responsible for paying the child s tax if child is unable to Parent s may treat their children as employees in bona fide situations
Proceeds from Life Insurance Tax-free when paid because of death Interest is taxable if paid or added to the account while a policy is in effect If interest reduces the premium, it is excluded from income 1099-INT from Insurance company
Interest Tax exempt if from municipal bonds General obligation bonds of a city, state, or other political U.S. subdivision Also some industrial development bonds U.S. Savings bonds used to finance higher education costs Series EE and I Bonds must be purchased by the taxpayer who is over age 24 See p. 4-11 thru 4-13 and form 8815..\Forms\f8815USbond excl.pdf
Excludable Educational Savings Bonds Interest Before Phase-Down Excludable Bond Interest Interest = Portion of Proceeds Qualifying Expenses Nontaxable Scholarships Redemption Proceeds CCH Essentials of Federal Income Taxation 20 of 15
Others Scholarships & Grants Must be a degree-seeking student Applies to tuition, course fees, required books, supplies, and equipment Social Security Benefits Depends on total Gross Income level Sick Pay Worker s Compensation payments, accident/health insurance payments and other payments received for injury is usually exempt from tax Punitive damages or payments for nonphysical injuries are taxable
Individual Retirement Accounts Traditional Deductible IRA Above the line Must come from earned income Maximum of $4,000 per taxpayer ($5000 if over age 50) Married couples must have separate IRAs Contributions may be made up to April 15 Deductible contributions may be limited if the taxpayer has another retirement plan Contributions and earnings are taxable at withdrawal See publication 17 chapter 17
Roth IRAs Taxpayers make non-deductible contributions Taxpayers may make withdrawals tax and penalty-free if made after a five-year waiting period and any of the following conditions is met: The distribution is made after the taxpayer attains age 59½ The distribution is made to a beneficiary as a result of the taxpayer s death The distribution is made on account of the taxpayer s disability The distribution is used to pay first-time homebuyer expenses ($10,000 lifetime limit) Withdrawals may be made at any time from a Roth. Tax and a 10% penalty apply only to the earnings. Once withdrawn, they cannot be returned to the Roth IRA.
ROTH IRA Maximum contribution is $4,000 per taxpayer ($4500 if over age 50) Phase-outs limits: Unmarried: $95,000 to 110,000 Married Joint: $150,000 to 160,000 Roth 401(k) is a hybrid plan No income limits Contributions up to $15,500 ($20,500 over age 50)
Distributions from an IRA The IRS does not assess a penalty for early withdrawal when the distribution is: Due to death or disability Used to pay medical expenses in excess of 7.5% of AGI Used by an unemployed person to buy health insurance Used to pay qualified higher education expenses Used to pay expenses of a qualified first-time homebuyer ($10,000 lifetime limit)
EDUCATION SAVINGS--Coverdell Up to $2000 per child may be contributed Contributions are non-deductible Distributions are excluded from student income if used to cover educational costs Must be used before student is age 30 Cannot be combined with HOPE or Lifetime Learning credits Phaseouts begin at $95,000 or $190,000
529 Education Plans Set up by states or colleges Contributions are taxed Grow tax-free if used for qualified educational costs Any amount not used is taxed as interest
1040 Adjustments see form 1040
Adjustments to Income A Form 1040 filer can deduct a number of adjustments to income, including: (* may use 1040A) (reinstated) Penalty on early withdrawal of savings IRA deduction * Student loan interest deduction ($2500 max) * For yourself, spouse, or dependent Phase-out begins at $50,000-65,000 or $105,000-135,000 Jury duty pay Tuition & fees deduction (use line 35, enter T )($4000 max) Educator Expenses up to $250* (use line 23)
More Deductions on 1040 Archer MSA Certain Business Expenses for reservists and performing artists and government officials p. 18 (see 2106) Health savings account contribution ($2700/$5450 max) Moving expenses One-half of self-employment tax Keogh and self-employed SEP and SIMPLE plans Self-employed health insurance deduction Penalty on early withdrawal of savings Alimony paid Domestic production activities Qualified production activities include manufacturing, producing, growing, and extracting tangible personal property, computer software, and sound recordings, and the construction and substantial renovation of real property including infrastructure. The production of certain films is also a qualifying activity as are certain engineering or architectural services.
Alimony A person who pays alimony deducts it for AGI. The recipient includes the alimony payments in gross income. When the law requires the person who pays alimony to recapture some of it as income, the recipient gets a deduction for the same amount.
Moving Expenses The expenses qualify for deduction if they are incurred within one year of the taxpayer s start-of-work date. The moving taxpayer must live in the old and new principal residences, treating both as primary homes. Expenses include the reasonable costs of transportation (actual or.20 per mile) and lodging for the taxpayer and members of the household. The move must meet mileage and employment tests. New job site is 50 or more miles farther from former residence Employee must work at least 39 weeks during 12 months at the new job Move must occur within 1 year of starting job Self-employed taxpayers can also deduct Report on form 3903 p. 4-23
Penalty on Early Withdrawal of Savings Often time certificates or savings accounts contains interest forfeiture and penalty provisions for early withdrawal. A taxpayer who withdraws funds early includes the full interest income in gross income on Form 1040 and deducts the lost interest as an adjustment to income.
Self-Employed Health Insurance Deduction A self-employed taxpayer usually takes a deduction for AGI for medical insurance. The deduction equals the smaller of two amounts: 100% of the health insurance premiums paid for the taxpayer, spouse, and dependents Net profit and other earned income from the taxpayer s business with the medical insurance plan
Keogh and SEP Retirement Plans Keoghs and SEP plans allow self-employed persons to make deductible contributions to retirement plans for themselves. A taxpayer deducts the amount for a Keogh or a SEP as an adjustment to income. Limitations apply see chapter 7
Health Savings Accounts A taxpayer may deduct contributions to a medical savings account (MSA) as an adjustment to income. Individuals eligible include self-employed persons and employees working for companies with 50 or fewer employees. These people must also be covered under high-deductible medical insurance programs. A taxpayer may deduct contributions up to 100% of the cost, not to exceed $2700 if single or $5,450 if married. An employee excludes from income employer contributions to the MSA, but the maximum allowable contribution requires the combining of both employer and employee contributions.
Student Loan Interest Taxpayers may deduct up to $2,500 from gross income for interest paid on money borrowed to pay qualified higher education expenses of the taxpayer, spouse, or dependents. Phaseouts begin at $55,000 AGI for single or $110,000 for married)