federal income tax - brown

8/17/2019 Federal Income Tax - Brown

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Federal Income Tax Outline Page 1 of 58Professor Brown

I. OVERVIEW & BASIC PRINCIPLES

1. Overviewa. Study & Practice of Law

i. Three Sections of Federal Income Tax:

1. Income;2. Deductions; and3. The merging of the two.

b. Brief i!toryi. Federal Income Tax is outlined in US! Title 2".

1. The most recent edition is 1#$".2. The Tax ode is a re%enue ma&er and a means used to cur' or

encourage certain 'eha%iors.ii. (mendment Sixteen set the groundwor& for ongress to im)ose a federal income

tax.1. The (mendment trum)ed the ())ortionment lause in (rticle 1! *$ + *#

'ecause it would 'e im)ossi'le to im)ose.2. (rticle 1! *$ gi%es ongress the )ower to le%, taxes.3. ourts consistentl, re-ect D and / tax)a,er arguments

iii. 0eagan is res)onsi'le for dro))ing the tax rates. linton raised the tax rates.urrentl,! ush is attem)ting to lower the tax rates again.

c. "a# Po$icyi. This countr,s federal income tax s,stem is 'ased u)on Schan45aig4Simons. It

ta&es into account 'oth wealth and )ersonal consum)tion.1. Indi%iduals Income for a 6ear 7 8et increase in wealth )lus the mar&et

%alue of consum)tion for )ersonal )ur)oses during the ,ear! measured at,ear4end.

a. (rri%ed at indirectl, ', measuring: urrent4,ear recei)ts minus'usiness and in%estment deductions )lus the increase in wealthor less the decrease in wealth.

ii. The Federal Income Tax is )rogressi%e! not )ro)ortionate 9flat tax.1. Tax)a,ers in higher marginal 'rac&ets 'enefit less from additional income

than tax)a,ers in lower marginal 'rac&ets! while tax)a,ers in highermarginal tax 'rac&ets 'enefit more from deductions than tax)a,ers inlower 'rac&ets.

2. FI( is a flat tax.iii. This countr, generall, has a time4'ased s,stem of re)orting! not a transaction4

'ased s,stem of re)orting. (n exce)tion is gains and losses deri%ed fromdealings in )ro)ert,.

i%. 5igher Tax 0ates %ersus ower Tax 0ates:1. ower 0ates 9onser%ati%es

a. ower rates result in more


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wage earners in )art 'ecause the, are not entitled tocertain 'usiness4related deductions.

1. /g. If an indi%idual has income that is in%ested inmachiner,! it will not 'e taxed. 5owe%er! if thatindi%idual is a wor&er! with no 'usiness

ex)enditures! he will 'e taxed 'ecause he isconsuming his wages.2. 5igher 0ates 9i'erals

a. 5igher rates result in more uit,.=i. Standard of i%ing rinci)le and ('ilit, to a, rinci)le.ii. Utilitarianism is the )hiloso)hical tradition that )ostulates

that )olic, should 'e directed toward increasingaggregate well4'eing 9toward achie%ing the greatestha))iness for the greatest num'er of )eo)le.

iii. /g. oor )eo)le should )a, less 'ecause of utilit, andmarginal utilit,.

b. Fa%or an


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iii. *"29a. (d-usted gross income defined 9@I minus the following deductions.1. The deductions listed under *"2 are a'o%e4the4line deductions. Thus! an

indi%idual ta&es these deductions to get to (@I! and ma, ta&e their)ersonal exem)tion and either the standardied deduction or itemieddeductions in addition to these a'o%e4the4line deductions.

i%. *1B1. ersonal exem)tion defined.1. 9d. ersonal exem)tion amount. 9c. De)endents defined.2. (llowance for li%ing to meet the most 'asic needs.

%. *"39c. Standard deduction defined.1. (llowance for li%ing to meet the most 'asic needs.

%i. *"39a. Taxa'le income defined 9@I minus the deductions allowed ', this cha)ter9other than the standard deduction.

1. *"3. Determines what is deducted from @I to get to taxa'le income.2. TI is the tax 'ase and the tax 'ase is what is su'-ect to taxation.3. Tax ia'ilit, is what each indi%iduals owes after their tax is determined.

%ii. Problem 1.1.

1. orge !"#!$o de%endents#a. "alar& ' 5()(((b. *i+idend Income ' 5((c. @I 7 BC!BCCd. (@I 7 BC!BCCe. TI 7 BC!BCC 4 BCC 9di%idends 4 !EBC 9standard 4 3!CBC 9)ersonal

7 2!2CCf. T 7 BCC1B? G 3!#1C G 92B?92!2CC 4 2$!CC 7 E!3B

b. Ear'ed I'co-e Crediti. *32. Hone, is transferred 'ac& to tax)a,ers whose income is 'elow a certain le%el

9ualif, for this section! the tax)a,er must 'e at least 2Band not o%er "B. This section also defines >ualif,ing children.

ii. Problem 1.2!a#.1. $atas,a !--#!3 de%endents#

a. "alar& ' 15)(((b. "tandard ' )(((c. Personal !x/# ' 12)2((d. TI ' $egati+e

2. (nal,sis.a. 9'919(: @et credit )ercentage ', of children.

i. C?b. 9'929(: @et earned income amount ', of children.

i. 1C!B1Cc. redit )ercentage earned income amount 7 maximum earned

income credit.i. C?1C!B1C 7 !2C

d. imitation under 9a92 9'ut see handout: De)ending on amountof children! once earned income 9earned income defined in 9c


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Federal Income Tax Outline Page / of 58Professor Brown

hits a certain threshold amount! a )haseout 'egins! and if earnedincome hits com)lete amount! an earned income credit is not)ermitted.

i. Threshold haseout (mount 7 13!E3Cii. om)lete haseout (mount 7 33!"#2

1. 1B!CCC J 13!E3C 7 1!2EC2. ursuant 9'919(! that amount time )haseout)ercentage.

a. 1!2EC21.C"? 7 2"E.e. !2C J 2"E 7 3!#3E amount of earned income credit refund.

iii. Problem 1.2!b#.1. -enr& !--#!3 de%endents#

a. "alar& ' 10)(((b. "tandard ' )(((c. Personal !x/# ' 12)2((d. TI ' $egati+e.

2. (nal,sis.a. /arned income credit starts at !2C.b. haseout:

i. 1"!CCC J 13!E3C 7 2!2ECii. 2!2EC21.C"? 7 E$

c. !2C J E$ 7 3!2E" amount of earned income credit refund.i+. Problem 1.2!c#.

1. $atas,a and -enr& marr&.a. "alar& ' 31)(((b. "tandard ' )5((c. Personal !x8# ' 2/)/((d. TI ' $egati+e.

2. /xam)le of another marriage )enalt,. If ongress made the earnedincome credit more fa%ora'le for married )eo)le! the, would ha%e to taxsomething else more hea%il, to ma&e u) for the loss of re%enue.

a. 8ote: Under *329d! if 8atasha and 5enr, were married! the,cannot file se)aratel, -ust to get a more 'eneficial earned incomecredit.

b. ongress is tr,ing to mitigate this )enalt, under *2.i. There is a 1!CCCKchild tax credit. ut unli&e *32! the *2

credit is not refunda'le )ursuant to There is a 1!CCCKchildtax credit. ut unli&e *32! the *2 credit is not refunda'le)ursuant to *29d.

3. (nal,sis.a. /arned income credit 'egins at !2C.b. haseout:

i. 31!CCC J 1!E3C 7 1"!2ECii. 1"!E2C 21.C"? 7 3!2"

c. !2C J 3!2" 7 EE$ amount of earned income credit refund.c. Rate! & te "a#+ayi'( 'it/ 0a-i$yRe$ated A$$owa'ce! & Pro(re!!ive Rate!


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i. *19a. Harital status is im)ortant 'ecause of the marriage )enalt,.1. Lnce an indi%idual gets o%er the 1B? marginal rate! the ta'les ha%e a

'uilt4in )enalt,.a. If single! head of household! or married and filing se)aratel,! an

indi%idual can get more income in at a lower tax rate.

b. /xce)tion: If one )art of the cou)le is wor&ing and the other is not wor&ing! there is an incenti%e 'uilt into the ta'le.i. Problem 1.3.

1. ondolea 9H98o de)endents2. 0ecei)ts 7 2CC!CCC3. Di%idends 7 1C!CCC. Salaries aid 7 1CC!CCCB. Lffice 0ent 7 2C!CCC". De)reciation 7 C!CCCE. Meogh lan 7 1C!CCC

a. Deferred com)ensation )lans are

deducted to get to @I when the, aredistri'uted.$. Standard 7 #!BCC#. ersonal 9x2 7 "!1CC1C. @I 7 2CC!CCC G 1C!CCC 7 21C!CCC11. (@I 7 21C!CCC J all 'usiness ex)enditures a'o%e

7 C!CCC12. TI 7 C!CCC J #!BCC J "!1CC 7 2!CC13. 0emo%e 1C!CCC di%idends! for 1!CC to )lug into

tax ta'le.1. T 7 1C!CCC1B? G tax rate answer 7 2!#"C.

a. If ondolea was single! her T wouldha%e 'een !"B.

ii. *19h. 8et ca)ital gains are )ulled out from ordinar, income 'efore ordinar,income is )lugged into a ta'le! and then the net ca)ital gains are taxed at a more'eneficial rate.

iii. *29'. 5ead of household defined.i%. *EEC3. State law dominates marriage law. If tax)a,ers are married on the last da,

of the financial ,ear! the, are married for tax )ur)oses.%. /ffecti%e 0ate %ersus Harginal 0ate.

1. Harginal 0ate is the rate an indi%idual )a,s for each additional dollar ofincome 9the rate that an indi%idual falls under in the ta'les.

2. /ffecti%e 0ate is tax )aid di%ided ', taxa'le income.

II. 2O"ER LI%I"S3 O0 ,ROSS INCO%E

1. I'troductio'a. *"1. States


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i. Thus! start with e%er,thing 'eing included in @I 9and tax 'ase and then determineif ma, 'e excluded or deducted! etc. )ursuant to *"1s uit,.

c. Problem 2.1!c#.i. Finds a new ,andbag wort, 65((.ii. (nal,sis.

1. Included in @I 'ecause lens,aw lass.2. *1."141. Treasure tro%e constitutes @I when


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Federal Income Tax Outline Page of 58Professor Brown

a. olic, for *1C#. If Hartha tax)a,ers had to include im)ro%ementsin @I u)on re%ersion! the, would ha%e to sell the )ro)ert, to )a,the tax and do not want to im)ede these transactions.

i. Thus! *1C# is a great 'enefit to )ro)ert, owners 'ecauseit almost acts as a tax shelter.

'. *1."19$9c. If the im)ro%ement was in lieu of rent! it would ha%e'een included in Harthas @I.2. *1C1#. 8o ad-ustment to ( either due to im)ro%ements.3. *1C11 + *1C12. Thus! when Hartha sells! she will recognie a "CC!CCC

gain./. Blatt !" 138#

a. 0ule. andlords do not include im)ro%ements in @I 'ecausea))reciation is not realied ,et.

'. Problem 2.1!g#.i. ;,ami


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2. *1."1429d929i. onfirms this holding.3. *1C29c. /m)lo,er gifts must 'e included in @I.

a. /xce)tion. irthda, gift.. ( 7 BCCC

8. Barter E#ca'(e!

a. Problem 2.1!,#.i. Brot,ers> 4edding ca9e !0((# for will?drafting !0((#.ii. (nal,sis.

1. *1C2. Ohen relati%es or friends in 'arter exchange! assumed to 'eexcluda'le. 5owe%er! the )arties must attem)t to )ro%e that there was


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Federal Income Tax Outline Page of 58Professor Brown

ii. on%enience of em)lo,er;iii. (dministrati%e con%enience; andi%. FairnessKe>uit,.

b. *1329- /xce)tion. Lnl, for no additional cost ser%ice and em)lo,ee discount! exclusiononl, a))lies to highl, com)ensated em)lo,ees if there is no discrimination 9meaning! lower

)aid em)lo,ees get the same 'enefits.*. E-+$oyee 0ri'(e Be'efit!a. Problem 3.1.

i. Free %ar9ing for associates !F7: 22(#) but no free %ar9ing for secretaries.ii. (nal,sis.

1. There is no non4discrimination re>uirement for )ar&ing.2. *1329f929. Ha, exclude u) to 1#CKmonth for )ar&ing. So! must include

3CKmonth in @I.3. *1329f929(. Transit )ass u) to 1CCKmonth.. 8ote. 9f onl, a))lies to commuting ex)enses! not 'usiness tra%el.B. olic,. Industr, )ractice and em)lo,er con%enience.

b. Problem 3.2.i. Aegular %rice of 5(. 7ar9ed down to 0(( for customers. 7aida wit, em%lo&eediscount %urc,ased for /2(. T,e gross %rofit %ercentage in t,e line of business is 25.

ii. (nal,sis.1. *1329c9. Hust 'e >ualified )ro)ert, or ser%ice to get an em)lo,ee

discount. For that to occur! must 'e )ro)ert, 9other than real or )ersonal)ro)ert, held for in%estment or ser%ices which are offered in the ordinar,course of the line of 'usiness of the em)lo,er in which the em)lo,ee is)erforming ser%ices.

2. 9c92. @ross )rofit )ercentage is 9(9iK9(9ii.3. 9c919. This )ro'lem has a )roduct! not a ser%ice. If a ser%ice is

in%ol%ed! the discount cannot exceed 2C? of the )rice at which theser%ices are 'eing offered ', the em)lo,er to customers.

. 9c93.a. "CC 9)rice offered to customers2B? 7 1BC.'. "CC J 2C 7 1$C.c. 1$C J 1BC 7 3C included in @I.

B. olic,. Industr, )ractice and em)lo,er con%enience.c. Problem 3.3.

i. Free coffee and donuts e+er& 4ednesda& morning) or %,otoco%&ing or %,onecalls or late nig,t dinners or cab rides w,en wor9ing late.

ii. (nal,sis.1. *1329a. 8ot included in @I! 'ecause de minimus. To 'e de minimus!

must meet to criteria:a. Hinor %alue; and'. Too much trou'le to &ee) trac& of.

2. olic,. (dministrati%e con%enience.3. *11#. Does not fall under here 'ecause to fall under this section! the

em)lo,ees must need the food to )erform their -o'.


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Federal Income Tax Outline Page 1( of 58Professor Brown

d. Problem 3./.i. Fred accumulates freuirements for meals and lodgingare met.

a. For meals to 'e excluded! two re>uirements must 'e met:i. For con%enience of the em)lo,er; andii. Furnished on 'usiness )remises.

'. *1.11#419'. For lodging to 'e excluded! three re>uirements must'e met:

i. Furnished on 'usiness )remises of em)lo,er;ii. Furnished for con%enience of the em)lo,er; andiii. The em)lo,ee is re>uired to acce)t such lodging as a

condition of his em)lo,ment.1. /xam)le of who would >ualif,:

a. Su)erintendent of 'uilding.2. /xam)le of who would not >ualif,:

a. rofessor gi%en housing 'ecausere>uirement three missing.


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'. *11#9d /xce)tion. If school owns'uilding and su'sidies! the )rofessordoes not need to include the difference inmar&et rate and her rate in @I.

7. Oter Co-+e'!atory "ra'!fer!

a. Problem 3..i. =m%lo&er offers Bill stoc9 in anot,er com%an& wit, retaining clause. 4,engranted) F7: of stoc9 was 15)(((. 4,en +ested) F7: of stoc9 was 18)(((. ssume non?


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'. Four re>uirements under 9'92 which are difficult to meet.iii. (nal,sis if ascertaina'le %alue.

1. *1.$34E9a. If ascertaina'le! and no ris& of forfeiture! must include in @Iimmediatel,. Thus!

a. In 2CC3! 1CC included in @I.

'. *$39e9. (s a result! in 2CC! when o)tion exercised withascertaina'le %alue! no tax im)lications. 5owe%er! increase in (of 2CC 'ecause that is how much )urchased for in 2CC.

c. In 2CCB! when sold for 2C! with ( of 1CC 9alread, included in@I G 2CC 9)urchased for! he has a ca)ital gain of 12C.

i%. (nal,sis if no ascertaina'le %alue.1. *1.$34E9a.

a. *$39e93. In 2CC3! no @I.'. In 2CC! when exercised! amount of what it is )urchased for and

FHN is included in @I.i. So! in this case! )urchased for 2CC! and FHN is CC! so

@I is 2CC.c. In 2CCB! when sold for 2C! with ( of 2CC 9alread, included in@I G 2CC 9)urchased for! he has a ca)ital gain of 2C.

c. -a+erl& ! t, 18# !nsolicited sam%le textboo9s sent b& %ublis,ers to a %rinci%al of asc,ool) w,ic, ,e subse


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b. So! in this case! in 2CC3! 1C!CCC included in @I. In 2CC"! ma,ta&e a 1C!CCC deduction.

iii. Problem 1./.2!a#.1. Aesidential one?&ear lease wit, de%osit !securit of one?mont, rent.2. (nal,sis.

a. Indiana%olis !" 1(# !IP re


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Federal Income Tax Outline Page 1/ of 58Professor Brown

i. If a )erson -ust does not want to re)a,! 'ut has the a'ilit,to that does not meet this standard.

b. *1""9a. This is a wholl, worthless de't.c. *1""9d92. onsidered a non4'usiness de't 'ecause the, are

friends! and interest alone is not enough to turn into 'usiness.

d. *1""9d919. ecause non4'usiness de't! must 'e treated asST! thus! ma, onl, ta&e deduction u) to the amount to offsetagainst ST@.

i. If no ST@! ma, still deduct u) to 3!CCC.ii. This is wh, 'usiness loans are fa%ored. There does not

ha%e to 'e @ to offset the worthless de't.iii. Problem 2./.1!c#.

1. $ow) 7oni


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in @I! and deduct that amount from an, losses listedunder 9' J in that order listed under 9'.

c. Thus! in this )ro'lem! Hona does not ha%e to include her de'tdischarge in @I 'ecause she falls under two exce)tions under*1C$9a.

i. Insol%enc, imitation. Ha, onl, exclude de't dischargefrom @I onl, u) to the amount of ,our insol%enc,. Forexam)le! if Hona was onl, BB!CCC insol%ent! she wouldha%e to include B!CCC in @I.

i i. Problem 3./.2.1. ;or% sells a mac,ine to Isia, for ()(((. Isia, ga+e a ()((( non?

recourse loan. Because of %roficienc& %roblems) ;or% reduced Isia,sdebt b& 8)(((.

2. (nal,sis.a. *1C$9e9B. In order to 'e considered a


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i. ( ;r&stals B is 22)(((!because of de%reciation#. *ebt is 28()(((. F7: of building is 25)(((.Ban9 acce%ts con+e&ance in full satisfaction of t,e debt.

2. 0ecourse (nal,sis.a. 0e% 0ule #C41" 9Lonnors Tufts oncurrence. Hust ta&e a

'ifuricated a))roach.i. Discharge of inde'tedness ordinar, income: 0ecourse

de't J FHN 7 2$C!CCC J 2EB!CCC 7 B!CCCii. Dis)osition of )ro)ert, ca)ital gain: FHN J ( 7 2EB!CCC

J 2E2!CCC 7 3!CCC


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3. 8on40ecourse (nal,sis 9Tufts Ha-orit,.a. Tufts !;oncerned wit, tax s&mmetr

i. a)ital gain 7 8on4recourse de't J ( 7 2$C!CCC J2E2!CCC 7 $!CCC

i i. Problem /./.5.

1. *ebt Aelief reater t,an Pro%ert& :alue> ;r&stal ,as non?recourse debt of 28()(((. F7: of 2()(((. ;r&stals B is 3(()(((. T,ird %art& %urc,ases sub@ect to t,e debt.

2. Tax Shelter. Oh, would the third )art, want to acce)t this )ro)ert, su'-ectto a larger de't than FHNP

a. To create a tax shelter 9regardless if non4recourse or recourse.an ta&e de)reciation deductions and can offset them againstordinar, income. So no cash outla,! and get this deduction.@reat for wealth, )eo)le. Tax lia'ilit, is 'eing wa, )ushed downthe line.

b. Two imitations.

i. *"B. Ha, onl, ta&e de)reciation deductions as long asno loss is created.ii. *"#. (imed at in%estments! and )artnershi)s. 5a%e to

'e acti%el, in%ol%ed in the 'usiness in order to ta&e thede)reciation deduction! and those deductions can onl,offset income.

3. (nal,sis for r,stal.a. 8on4recourse! so de't J ( 7 2$C!CCC J 3CC!CCC 7 2C!CCC loss

treated as ca)ital loss.. (nal,sis for )urchaser.

a. Ohat is the )urchasers (P Under ebowitE! one of threeo)tions:

i. FHN 9"ummit#;1. This is the default. This is used if the loan and

FHN are fairl, different.2. In this )ro'lem! this would 'e the )urchasers (.

Thus! 2EC!CCC.ii. C 9*1.1CC1429a93 and Fran9lin; or

1. If a sham situation and the court does not 'elie%ethat there is genuine inde'tedness. T,)icall,e%idenced ', a huge difference 'etween FHNand amount of loan.

iii. (mount of de't ta&en on 9no authorit,.1. If FHN is close to inde'tedness! the tax)a,er

ma, ta&e on the de't as the ( for tax s,mmetr,)ur)oses.

iii. Problem /./.0.1. In 2((() ose borrowed 25()((( non?recourse loan from Ban9 for

%urc,ase of building. "o ,is B is also 25()(((. F7: of building dro%%ed


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to 1(()(((. In 2((3) t,e Ban9 agreed to lower loan to 1(()((( from 25()(((. ose is not ban9ru%t or insol+ent.

a. $ote. Because two &ear time ,as %assed) ,e ,as ta9en 12)((( inde%reciation deductions) and ,is B becomes 238)(((.

2. (nal,sis.

a. 8ote. This falls under *1C$9c and not *1C$9e 'ecause this is notseller financed. etter to fall under 9e 'ecause -ust reduces ,our'asis and defers gain.

b. Lld 0e% 0ule #1431 9ad aw. Oould include 1BC!CCC ofdischarge of inde'tedness income! and that would side4ste)Tufts. So ongress enacted *1C$9c.

c. *1C$9c91. There is an election to ma&e:i. L)tion Lne: Include the discharge of inde'tedness in @I

and no change in (; orii. L)tion Two: /xclude from @I! and reduce his (.

1. L)tion Two imitation 9c92. an onl, reduce (

in the amount of the )rinci)al amount of the loanminus new FHN of )ro)ert,.d. In this case:

i. L)tion Lne: Rose would include 1BC!CCC in @I.ii. L)tion Two: Rose would reduce ( to $$!CCC! which is

23$!CCC 9urrent ( J 1BC!CCC 9amount discharged.1. imitation: 2BC!CCC J 1CC!CCC 7 1BC!CCC. So

Rose ma, onl, reduce ( ', 1BC!CCC! which heis a'le to do here.

V. IN"AC" & SEPARA"E: 0A%IL> ? INCO%E A""RIB"ION

1. Su++ort Ob$i(atio'! & 0a-i$ie!a. I'tact %arried Cou+$e!

i. Problem 5.1.1. Harried ou)le 9Ta'le *19a:

a. Salar, 7 2BC!CCC'. Standard 7 #!BCCc. ersonal 7 "!1CCd. TI 7 23!CCe. T 7 B$!E#E

2. Lne Indi%idual 9Ta'le *19c:a. Salar, 7 2BC!CCC'. Standard 7 !EBCc. ersonal 7 3!CBCd. TI 7 22!2CCe. T 7 "E!#E

3. Two Unmarried Indi%iduals 9Ta'le *19c:a. Salar, 7 12B!CCC each


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'. Standard 7 !EBCc. ersonal 7 3!CBCd. TI 7 11E!2CCe. T 7 2E!B"2 2 7 BB!12

. 8ote. Ta'le *19d is married cou)les filing se)aratel,.

B. Harried ou)le %ersus Single.a. Illustrates marriage 'onus and single )enalt, 'uilt into tax ta'les.'. Tax ta'les assume that the standard of li%ing for one indi%idual is

lower than married indi%iduals.c. 33? rate &ic&s in later for married tax)a,ers.

". Harried ou)le %ersus Unmarried ou)le.a. Illustrates marriage )enalt,.

b. '-arried I'tact Cou+$e!i. Problem 5.2

1. @a, ou)le with Lnl, Lne /arner 9Ta'le *19ca. Salar, 7 2BC!CCC

'. Standard 7 !EBCc. ersonal 7 3!CBCd. TI 7 22!2CCe. T 7 "E!#E

2. Harried ou)le in Same Situationa. T 7 B$!E#E

3. Im)ortance.a. @a,s cannot ta&e ad%antage of marriage 'onus 'ecause the,

cant get married 97ueller in Eth ircuit.'. @a,s cannot e%en ta&e ad%antage of head of household:

i. Oould ha%e to tr, under *29'919(9ii.ii. ut when fli) to *1B19c919(! can claim an exem)tion for

a de)endent as long as @I is less than the exem)tionamount. So that fits here! 'ut now need to fli) to *1B2 tosee if he is a de)endent.

iii. *1B29a9# ma, )ro%ide an in here to filing as head ofhousehold. 5owe%er! must loo& at *1B29'9B.

i%. *1B29'9B was a hurdle! 'ut it ma, not 'e an,more'ecause of awrence. 5owe%er! now must loo& at *29'9399i.

%. *29'9399i means that head of household status wouldnot wor& for ga,s 'ecause cant ta&e it if fall under*1B29a9#.

c. Cou+$e! Wo Brea@ +i. *E1.

1. 9a. L%errules ould in defining alimon, and se)arate maintenance)a,ments and states that alimon, )a,ments recei%ed are included in @I!and are an a'o%e4the4line deduction 9*21B ', the )a,or.

a. 8ote. If the )arties still want ould to rule! the, -ust must ex)licitl,state it and no @I for )a,ee! and no deduction for )a,or.


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'. 9c. hild su))ort still follows ould .2. 9'. The re>uirements to 'e fall under *E1:

a. Hust 'e made under a di%orce or se)aration agreement;'. It must 'e cash or chec&;c. annot 'e mem'ers of the same household; and

d. annot ha%e an, o'ligation to )a, the )a,ee after the death ofthe )a,ee.3. 9f. This section a))lies when all the re>uirements of 9' are met 9thus!

alimon, and there is a front loading of )a,ments 9)a,ments in the firstthree ,ears are more than 1B!CCC a)art.

a. It addresses disguised )ro)ert, settlements and the effects areonl, witnessed in the third ,ear.

ii. Problem 5.3!a#.1. -usband and ex?wife agree t,at t,e -usband will %a& ex?wife

1()(((Dmont, for minor c,ildren and 15)(((Dmont, for eig,t &ears.2. (nal,sis.

a. hild Su))ort: If the hus'and wanted the child su))ort deducti'lehe should not ha%e se)arated it out. 5e should ha%e made itseem )art of the alimon, and made sure to meet there>uirements of *E19'.

i. Thus! in this )ro'lem! no tax conse>uences.'. (limon,: 5us'and ma, deduct 1B!CCCKmonth a'o%e4the4line! and

the ex4wife must include 1B!CCC in @I.iii. Problem 5.3!b#.

1. First &ear - %a&s 4 3(()(((. "econd &ear 2(()(((. T,ird &ear 1(()(((.2. *E19f (nal,sis.

a. Hust figure out if excess alimon, )a,ments. 8ote the 1B!CCCcushion )ro%ided in the first two ,ears. The onl, wa, to do that isto do first two ,ears! second ,ear first.

i. Second 6ear: 2CC!CCC 9second ,ear alimon, 4 91CC!CCC9third ,ear alimon, G 1B!CCC 7 $B!CCC excess.

ii. First 6ear: 3CC!CCC 9first ,ear alimon, 4 91K2 92CC!CCC9second ,ear alimon, 4 $B!CCC 9second ,ear excessV G1CC!CCC 9third ,ear alimon, G 1B!CCC 7 1EE!BCCexcess.

iii. Third 6ear: $B!CCC 9second ,ear excess G 1EE!BCC 9first,ear excess 7 2"2!BCC.

'. Tax Im)lications:i. First 6ear: 5 deducts 3CC!CCC. O includes 3CC!CCC in @I.ii. Second 6ear: 5 deducts 2CC!CCC. O includes 2CC!CCC in

@I.iii. Third 6ear: 5 deducts 1CC!CCC and includes 2"2!BCC in

@I. O includes 1CC!CCC in @I and deducts 2"2!BCC.*. Pro+erty Sett$e-e't!

a. *1C1. (ddresses transfers of )ro)ert, 'etween s)ouses and former s)ouses. Thus!a))lied to those married or di%orced. This section o%erturns *a+is !"%ouse too9 t,e


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%ro%ert& wit, an B of t,e transferors F7: and t,e transferor would suffer t,e taxconseuences! not e%en treated as @I.a. (gain! Hax and Sandra could ha%e agreed and made it fall under

*E19'! it then there would ha%e 'een tax conse>uences.c. Problem 5.5.

i. Aoberta owns land in w,ic, s,e ,as an B of /()(((. T,e land ,as a F7: or32()((( and is sub@ect to 25()((( non?recourse mortgage. s %art of a courtorder) ,ad to transfer to ex?,usband as %art of di+orce settlement.

ii. (nal,sis.1. /x4hus'and: 8o @I! and ta&es an ( of C!CCC.2. 0o'erta: 8o tax conse>uences. 9*1C1 trum)s ;rane.3. If ex4hus'and sells for FHN! without )a,ing off an, of the de't:

a. (0 7 32C!CCC'. ( 7 C!CCCc. Thus! gain recognied of 2$C!CCC.

i. 0emem'er! if the ex4hus'and )aid off an, of the de't!that would 'oost his (.

VI. ,RA"I"OS "RANS0ERS

1. I'troductio'a. *1C29a. (s a general rule! the %alue of )ro)ert, is not included in @I when it is a gift!

'e>uest! de%ise! or inheritance.'. *1C29'. States that exclusion of gifts from income does not extend to the income earned

on the )ro)ert, gi%en as a gift.


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c. *1C29c + *1.1C2419f92. There cannot 'e a gift 'etween em)lo,er and em)lo,ee unless itcan 'e )ro%en the gift was not gi%en in recognition of the em)lo,ees em)lo,ment9meaning! relati%es or 'irthda,.

d. *uberstein !" 10(#i. 0ule. In determining if a transfer is a gift! it de)ends on the uid )ro >uo!and ma, 'e treated as a gift.e. *1C19a. (ddresses )ro)ert, recei%ed ', death! )ro%ides that the 'asis of the )ro)ert, of

the transferee is the FHN at the date of the death. 9Thus! loss eliminated if there is one.i. *1C22. /ffecti%e onl, for the ,ear 2C1C. (fter 2C1C! *1C1 is the rele%ant rule

again. In 2C1C! the ( of the 'eneficiar, is the lower of:1. The ( of the decedent; or2. The FHN of the )ro)ert, as the date of the decedents death.

f. *1C1B9a. (ddresses inter %i%os gifts! states that the donors ( carries o%er to the donee ifthe FHN exceeds the ( at the time of the gift! and if the ( exceeds the FHN at the timeof the gift! there are three )ossi'le outcomes 9to discourage transfer of loss )ro)ert,:

i. If the (0 on a sale ', the donee is less than the gift4time %alue! the gift4time %aluefixes the donees 'asis;

ii. If the (0 ', the donee is greater than the donors date of gift 'asis! the doneeta&es the donors 'asis; or

iii. If the (0 realied ', the donee is greater than the gift time %alue 'ut less than thedonors 'asis! the donees 'asis is effecti%el, deemed to e>ual the amountrealied! resulting in no gain or loss to the donee.

g. There are alwa,s two t,)es of taxes in the air when discussing gifts or inheritances:i. @ift Transfer Tax; and

1. 0emains intact.2. The transferor must )a,! and it is a))lica'le when addressing inter %i%os

gifts.ii. /state Tax

1. Slowl, 'eing re)ealed! and ', 2C1C there will 'e none.2. ())lica'le when addressing transfer u)on death.

h. @ift Transfer Tax (nal,sis.i. @eneral. @ift tax! with to) rate of 3B? is im)osed on the transferors FHN without

deducting the donors (.ii. /xclusions.


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1. ifetime /xclusion:a. 1!CCC!CCC

2. 6earl, /xclusion:a. 11!CCC

iii. /xam)le: If )arents gi%e ,ou an inter %i%os gift of 1"!CCC! the, ma, exclude the full

1"!CCC from the transfer tax.1. 11!CCC ,earl,! and then there 1!CCC!CCC lifetime exclusion is reduced ',the excess B!CCC. Thus! lea%ing their life exclusion at #!##B!CCC.

2. Lnce! the lifetime exclusion is ta))ed out! ma, onl, exclude u) to11!CCCK,ear.

3. Thus! if the lifetime exclusion has not 'een used e%er! a one4,earexclusion can reach as high as 1!C11!CCC.

. 5us'and and wife count as two different tax)a,ers; so in essence! alifetime exclusion of 2!CCC!CCC.

i+. Ohen the gift transfer tax is )aid! the donee ma, increase her 'asis. SeeProblem 0./.

i. /state Tax (nal,sis.i. @eneral. In 2CC3! there is a to) BC? estate tax rate. In 2CC#! there will 'e a to)B? estate tax rate. In 2C1C! there is no estate tax 9howe%er! I0S com)ensates', lowering (.

1. These are graduated schedules! the larger the estate! the higher the tax.ii. /xclusions. In 2CC3! ma, exclude u) to 1!CCC!CCC of estate from the tax. In 2CC#!

ma, exclude u) to 3!BCC!CCC. (gain! in 2C1C! no estate tax.iii. See Problem 0.3!c# for 2C1C ( anal,sis.

*. ,ift/ Beue!t & I'erita'ce ;I'ter Vivo!<a. Problem 0.2!a#.

i. "a&uri transfers land in w,ic, s,e ,as an B of 5()((( and F7: of 5)((( toHeren as an inter +i+os gift. !ssume no transfer taxes#.

1. (nal,sis.a. *1C1B9a. Meren: ( is BC!CCC.'. *1C29a. Meren: 8o @I.c. *1CC1. Sa,uri: @ifts are no dis)ositions! so there is no gain

recognition. The gain is 'uilt in and transferred to Meren.d. Sa,uri: 8o deduction )ermitted for gifts.

b. Problem 0.2!b#.i. "a&uri transfer land in w,ic, s,e ,as an B of 5()((( and F7: or /2)((( to

Heren) and two &ears later) Heren sells for>1. ()(((

a. Meren: ( BC!CCC. (0 EC!CCC. @0 2C!CCC. 2. /()(((

a. Meren: ( 2!CCC. (0 C!CCC. oss 2!CCC 9and ma, ta&e under*1"B9c9291.

3. 8()(((a. Meren: ( BC!CCC. (0 $C!CCC. @0 3C!CCC.

/. /5)(((


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a. Meren: ( is sales )rice! so no gain or loss. If Meren sellsan,where in 'etween FHN transferred to her and ( transferredto here! her ( 'ecomes the sales )rice.

c. Problem 0./.i. 4inston owns land wit, B of 1(()(((. 4ort, /(()((( w,en transfer inter +i+os

gift to daug,ter 7itEi. 4inston %aid 8()((( gift transfer tax !note> ma& exclude iflifetime exclusion not ta%%ed out#.1. (nal,sis.

a. *1C1B9d919(. If the donor )a,s the gift transfer tax! the doneema, increase her (.

'. *1C1B9d9"9(. Determines how much the ( ma, 'e raised:i. First! determine )ercentage:

1. 8umerator is donors a))reciation; anda. CC!CCC J 1CC!CCC 7 3CC!CCC

2. Denominator is FHN of the gift.a. CC!CCC

3. EB?.ii. Second! ta&e )ercentage and multi)l, it ', the gift tax)aid:

1. EB? $C!CCC 7 "C!CCC.iii. Thus! Hiti ma, increase her ( ', "C!CCC. So!

1. 1CC!CCC G "C!CCC 7 1"C!CCC (2. Im)ortant 8ote.

a. In order for there to 'e a gift transfer tax! there must 'ea))reciation in the )ro)ert,. ecause the numeratorKdenominatoranal,sis! in determining the numerator! it must 'e a )ositi%enum'er.

3. Ohen gift tax rates and federal income tax rates are e>ual 93C?! is*1C1B9d successful in tax )arit,P 6es! the total tax 'urden is the same;howe%er! the tax is 'orne ', different )arties.

a. @ift Tax:i. CC!CCC 9FHN 3C? 7 12C!CCCii. 12C!CCC EB? 9calculation from a'o%e 7 #C!CCCiii. Hitis ( is now 1#C!CCCi%. If Hiti sold for CC!CCC! 0@ of 21C!CCC.%. 21C!CCC 3C? 9tax rate 7 "3!CCC

%i. Total taxes )aid ', 'oth )arties 7 1$3!CCC'. If Oinston sold the )ro)ert, and ga%e )roceeds to Hiti:

i. If Oinston sold for CC!CCC! 0@ of 3CC!CCC.ii. 3CC!CCC 3C? 7 #C!CCC.iii. Hiti would recei%e 31C!CCC cash! and Oinston would

ha%e to )a, gift tax of 3C? on the 31C!CCC.i%. 31C!CCC 3C? 7 #3!CCC%. Total taxes )aid ', Oinston 7 1$3!CCC

5. ,ift/ Beue!t & I'erita'ce ;:eat<a. Problem 0.3!a#.


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i. dies. B in residence was 25()((( and on date of deat,) t,e F7: was 32()(((.Aesidence left to 7 in will.

1. (nal,sis.a. *1C19a. Hs ( is 32C!CCC.

i. Ste))ed u) 'asis good for tax)a,ers 'ecause gain not

transferred o%er.ii. an act as a huge tax shelter if &ee) in famil, through wills.

b. Problem 0.3!b#.i. dies. B in residence was 25()((( and on date of deat,) t,e F7: was 2(()(((.

Aesidence left to 7 in will.1. (nal,sis.

a. *1C19a. Hs ( is 2CC!CCC.i. Ta&es on FHN again! and cannot recei%e 'uilt in loss.

c. Problem 0.3!c#.i. In 2C1C! dies. B in residence was 25()((( and on date of deat,) t,e F7: was

32()(((. Aesidence left to 7 in will.1. *1C22 (nal,sis.a. Hust ta&e lower of decedents ( or FHN! so in this case!

2BC!CCC.'. 9'. ossi'ilit, of ( increase.

i. 9'929. /xecutor onl, allowed to distri'ute anaggregate increase of 1!3CC!CCC across the entire estate.5owe%er! ( cannot 'e raised o%er FHN.

1. So! in this )ro'lem! Hs ( ma, 'e raised to32C!CCC.

c. 9c. If the 'eneficiar, is the s)ouse! onl, the s)ouse ma, get anadditional 3!CCC!CCC ( ad-ustment. (gain! cannot exceed FHN.

7. PartSa$ePart,ifta. Problem 0.5!a#.

i. "usan and lri9e are sisters. " ,as B in land of 15)((( wit, F7: of /()(((. "sells to for 25)(((. !$ote> ain for transferor in %art?saleD%art?gift#.

1. *1.1C1B4 (nal,sis.a. This is a )art4saleK)art4gift transaction 'ecause it is a sale for less

than FHN that is not an


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2. (mount )aid.ii. So! in this case! Ulri&es ( will 'e 2B!CCC.

1. If Susan does )a, gift tax! Ulri&e can raise her(.

ii. -&%o. Instead of %a&ing cas,) lri9e @ust assumes t,e 25)((( non?recourse debt

"usan ,ad on t,e land.1. Same result )ursuant to ;rane and the dis)osition of the loan.b. Problem 0.5!b#.

i. "usan and lri9e are sisters. " ,as B in land of 0()((( wit, F7: of 5()(((. "sells to for /()(((. !$ote> oss for transferor in %art?saleD%art?gift#.

1. (nal,sis.a. *1.1CC1419e91 + *2"E9a91.

i. In a )art4saleK)art4gift transaction! losses ma, not 'erecognied. Thus! Susan ma, not ta&e her 2C!CCC loss.

'. *1.1C1B4. The transferee must ta&e the transferors FHN as her( unless the transferee ends u) selling the )ro)ert, for more

than transferors ( J the, she must ta&e the transferors (.i. In this )ro'lem! Ulri&e would ta&e on an ( of BC!CCCunless she sells the )ro)ert, from more than "C!CCC.

8. I'tere!t0ree or Be$ow %ar@et Loa'!a. *E$E29c. *E$E2 a))lies to the loans listed under 9c. The most common ones are gift

loans 9including 'elow the mar&et loans.i. @ift oan defined in 9f93.ii. elow Har&et oan defined in 9e91.iii. Demand oan defined in 9f9B.i+. om)ensation 0elated oan defined in 9c919.

1. oan 'etween em)lo,er and em)lo,ee or cor)oration and shareholder.'. *E$E29a. @ift oans and Demand oans 9'oth 'elow the mar&et loans fall under 9a

anal,sis for interest calculation.i. (nal,sis. See Problem 0.0.

c. *E$E29'. Term oans 9still a 'elow the mar&et loan falls under 9' anal,sis for interestcalculation.

i. (nal,sis. om)licated! thus! not res)onsi'le for.d. Problem 0.0.

i. 7ic,ael loans 1(()((( to sister wit, ( interest on anuar& 1) 2((3. It is ademand loan because ,is sister onl& ,as to %a& it bac9 w,en re


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a. Under *1C2! ma, exclude the interest from @I 'ecause it istreated as a gift.

'. *1"39h. She ma, deduct the !CC if she uses the loan for a'usiness e%en though she does not ha%e to recognie the interestas income 'ecause of *1C2.

i. oint. These gift loans are great for the 'orrower! andsuc& for the lender.3. Hichael:

a. Under *"19a! must include !CC interest in @I as interestincome.

'. ecause a gift! Hichael must also )a, gift transfer tax on the!CC if he cannot exclude it under ,earl, exclusion or lifetimeexclusion.

. /xce)tions.a. 9c92. De minimus. If loan is under 1C!CCC! then it is excluded

from *E$E2 rules. 5owe%er! gift tax still a))lies.

B. imitations for @ift oans.a. 9d919(. Ohen a loan does not exceed 1CC!CCC! no interest will'e retransferred 'ac& to the lender to recognie in @I! and if theloan is o%er 1CC!CCC and the 'orrower used the loan )roceeds torun a 'usiness or to deri%e net in%estment income! the interestdoes get retransferred 'ac& to the lender to include in @I;howe%er!

i. The interest that gets retransferred 'ac& ma, not exceedthe 'orrowers net in%estment income.

1. So! in this )ro'lem! !CC would 'e the ca).ii. (nd! according to 9d919/! if there is net in%estment

income 'ut it does not exceed 1!CCC! then it will 'etreated as C! and no interest will 'e retransferred 'ac& tothe lender to include in @I.

'. This limitation onl, a))lies to @I! the gift tax is still a))lica'le.e. -&%o.

i. If a com%ensation related loan) w,at are t,e conseuences.


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B. oint. It could 'e a wash! and there would 'e no *E$E2 im)lications.iii. ShareholderKor)oration (nal,sis.

1. orrower 9Shareholdera. *"1: Includes in @I 'ecause treated as di%idend.'. *1"39h: If the shareholder can fall under one of these exce)tions!

ma, deduct the interest.2. ender 9or)orationa. *"1: Includes in @I.'. ut not4deducti'le at all.

3. 8ote. 8o 1CC!CCC exce)tionKlimitation in this t,)e of 'elow mar&et loan.. 8ote. (gain! this is onl, addressing @I! there are still the gift tax

conse>uences.

VII. PERSONAL :E:C"IONS

1. I'troductio'a. Shift in course from what is included in @I to deductions and exem)tions and what is notincluded in the tax 'ase. If it is not )art of the 'ase! then the, are &nown as


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a. *213. 0ele%ant when )atient )a,s and not reim'ursed ', em)lo,er.i. 9d. Defines medical care.

1. 9d919D. Insurance )remiums are deducti'le.2. 9d929#. osmetic surger, is not medical care unless it


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'. *1.1B2419ii. Unli&e the 0e% 0ule! suggests it does not de)end on whether Lscar has @I! it matters how much Mai contri'utes. (lsosee Situation on )age 2".

ii. *1C". /m)lo,ers cost of 3!"CC is included in Mais @I 'ecause Lscar is not ade)endent! and as a result! the 3B!CCC ma, 'e excluded.

g. ;afeteria Plan> in lieu of salar& in t,e sum of 5(() Hai o%ted for reimbursement of medicalcar ex%enses of 5((. T,is was for c,ec9 u%s.i. *12B. (d%antage of cafeteria )lan is it is excluded from @I! and does not ha%e the

E.B? floor re>uirement of (@I li&e *213. The downside of cafeteria )lans is themone, must 'e )ut in at the 'eginning of the ,ear! and the tax)a,er loses what isnot used.

1. Thus! Mais salar, is reduced from 1EB!CCC to 1E!BCC.9. Life I'!ura'ce/ Pri6e! & Sco$ar!i+!

a. Hai recei+ed a *entist of t,e Mear %riEe for 1()((( cas,.i. *E9a. ries are included in @I.ii. *E9'. /xce)tion. (mong with two other re>uirements listed! if )rie mone, is

immediatel, transferred to a charit,.1. Thus! Mai must include 1C!CCC in @I.'. *11E. (ddresses scholarshi)s.

. Oter ,Ia. Hai) as %art of di+orce settlement) ,ad to sell NM stoc9 to wife for F7: of 1(()((( w,en

,is B was 1(()(((.i. *1C1. Transfers of )ro)ert, incident to di%orce means that no gain or loss is

recognied; thus! no affect on @I.b. Hai recei+ed stoc9 di+idend due to stoc9 s%lit.

i. *3CB9a. (s )re%iousl, discussed earlier in outline! does not ha%e to include in @I.c. Hais em%lo&er sold ,im land t,at ,ad a F7: of 2()((( for onl& 5)(((. T,us) %art?giftD%art?

sale.i. *1."1429d92. 1B!CCC included in Mais @I. Mais ( when he sells with 'e 2C!CCC.

d. Hai ,ad 1()((( of ,is dental sc,ool loans forgi+en b& %ro+iding ser+ices to low incomec,ildren.

i. *1C$9f. /xce)tion to discharge of inde'tedness! and does not ha%e to include in@I.

D. AboveteLi'e :eductio'!a. A$i-o'y Pay-e't!

i. Hai %aid ex?wife alimon& %a&ments of 2/)((( %ursuant to C1.1. *"29a91C. ecause not frontloaded! 2!CCC deducti'le.

b. Scoo$ Loa' I'tere!ti. Hai %aid 5)((( on sc,ool interest loans.

1. *221.a. 9d. Defines higher education and co%ers tuition! room and 'oard.'. 9'. imitation + haseout:

i. imitation. If (@I 9as defined in this context under 9c!exceeds "B!CCC! then no deduction is )ermitted.

ii. haseout.


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1. Fraction 7 9(@I 9as defined in 9c J BC!CCC91CC!CCC if -oint return K 1B!CCC

2. Ta&e result! and multi)le ', 2!BCC 9if 2CC3 andthat is the deduction )ermitted.

iii. In this case! Mais (@I is 1EB!BCC! so he does not get )ast

the limitation and ma, deduct nothing.. Be$owteLi'e ;Ite-i6ed< :eductio'!a. Caritab$e Co'tributio'!

i. Hai donated )((( to ,is c,urc,. In return) t,e c,urc, %ro+ided Hai wit, a mealwort, 1)(((.

1. *1EC.a. 9c. Define what organiations >ualif, as a charita'le grou).

hurches fall under 9c929.'. imitations.

i. -ernandeE. !Tax%a&ers argue t,eir contributions to t,e"cientologists s,ould be deductible e+en t,oug, t,e&

recei+e auditing and training in return G court disagrees#1. 0ule. To 'e a charita'le contri'ution 9gift! itcannot 'e >uid )ro >uo.

2. Thus! Mai recei%ed 1!CCC in return! and ma, notdeduct that.

ii. 9'. Deduction cannot exceed BC? of tax)a,erscontri'ution 'ase 9or 3C? of contri'ution 'ase if to )ri%atefoundation 9a non4)u'licl, funded charit, J 'ut ran ',famil, J defined in 9'919D.

1. 9'919F. ontri'ution 'ase is (@I.2. 9'919. If are )ermitted to deduct FHN! then

can onl, deduct 3C? of (@I.3. 5owe%er! tax)a,er ma, carr,o%er the amount

the, cannot deduct for fi%e ,ears.c. Thus! Mai ma, deduct "!CCC.

b. Per!o'a$ I'tere!ti. Hai %aid 12)((( interest on ,is recourse mortgage ,ome loan.

1. *1"39a + 9h. @eneral 0ule. ersonal interest onl, deducti'le ifcor)oration! not if indi%idual tax)a,er.

a. 9h92 /xce)tions. ist six things that are not treated as )ersonalinterest! and as such! deducti'le.

i. 9h929D. Wualified residence as defined in 9h9B.1. Under 9h9B! >ualified residence means )rinci)al

residence as defined in *121! as well as anotherresidence 9such as a %acation house. So ma,actuall, deduct mortgage interest on 'oth in thesame ,ear.

'. 9h929ii imitation. If the mortgage outstanding exceeds1!CCC!CCC! then no interest deduction is )ermitted.

2. Mai ma, deduct all 12!CCC.


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ii. Hai borrowed 25)((( from ban9 to %urc,ase an ": for %ersonal %ur%oses.1. In this case! not told if Mai 'orrowed mone, against the house! so no

interest is deducti'le.2. 5owe%er! if told he 'orrowed against his house! the interest on the loan for

the SUN would 'e deducti'le under 9h939(9ii.

a. 9h939(9ii. 5ome e>uit, inde'tedness interest is deducti'le.i. -&%o> Hais F7: of ,ome is 30()((( and ,is debtoutstanding is 285)((( and borrowed against t,at.

1. imitation. (s said! if secure a loan with house assecurit,! can deduct the interest on that loan too.ut there is a limit: whate%er is lessor J 1CC!CCCor difference in FHN and ac>uisition de't of thehouse. In this )ro'lem! Mai would onl, 'e a'le to'orrow EB!CCC 93"C!CCC J 2$B!CCC! so he doesnot hit the 1CC!CCC limitation.

a. ut if Mai 'orrowed 1CC!CCC from the

'an& and used the house as securit,! he would onl, 'e a'le to deduct the intereston EB!CCC.

c. "wo Li-itatio'! o' Be$owteLi'e :eductio'!i. *"E. 2? Floor imitation.

1. (nal,sis.a. First! ta&e (@I 2?.'. Second! aggregate all itemied deductions that are not excluded

from this limitation under *"E9'.c. Third! ma, onl, ta&e the itemied deductions that exceed the 2?

of (@I.2. In this )ro'lem! 'oth charita'le deductions! and )ersonal interest are

exem)t from this *"E 'ecause listed under 9'.ii. *"$. L%erall limitation.

1. 0emem'er: Hust do *"E 'efore *"$! and that *"E amount is what isrele%ant under *"$.

2. (nal,sis.a. First! under 9'91! the a))lica'le amount for single )eo)le is

13#!BCC. So (@I must 'e o%er that amount for *"$ limitation toa))l,.

'. Second! )ursuant to 9a! must reduce itemied deductions ', whate%er is lessor:

i. 9(@I J a))lica'le amount 3?; or1. 1EB!BCC J 13#!#CC 7 3B!"CC 3? 7 1!C$C

ii. $C? itemied deductions.1. $C? 1$!CCC 7 1!CC

3. So! in this )ro'lem! Mai must reduce his itemied deductions ', 1!C$C.a. So! total itemied deductions 7 1$!CCC J 1!C$C 7 1"!#2C.

d. Sta'dard :eductio' ver!u! Ite-i6ed :eductio'i. ( tax)a,er should ta&e whate%er is larger.


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ii. In this )ro'lem! 'ecause Mai is 5ead of 5ousehold! his standard deduction wouldonl, 'e !CC )ursuant to *"39c92. So! he should ta&e his itemied deductions.

e. Per!o'a$ E#e-+tio'!i. *1B19d. (mount is 3!CBC.

1. 9a. Tax)a,er gets one.

2. 9'. S)ouse gets one.3. 9c. Lther >ualif,ing de)endents get one.a. *1B29e91. The )arent who has the children more than half of the

,ear get the )ersonal exem)tion.'. 9a9#. If another li%es in household and has under 3!CBC in @I!

the, ma, also 'e counted as an exem)tion.i. For our )ur)oses! we will treat Lscar as not recei%ing the

BCC!CCC and not an illegal relationshi) under *1B29'9B.ii. imitation under *1B19d93.

1. For e%er, 2!BCC increment (@I is o%er head of household a))lica'leamount of 1E!CC! the )ersonal exem)tion amount must 'e reduced ',

2?.a. 8ote. Different num'ers for different status.2. So! in this )ro'lem! Mais (@I is 1EB!BCC! which is onl, o%er 1E!CC once!

so his )ersonal exem)tion of 12!2CC must 'e reduced ', 2? 7 11!#B")ersonal exem)tion )ermitted.

1F. Co-+uti'( 0edera$ I'co-e "a# of I'dividua$!a. Hai ;om%utation.

i. @I:1. Salar, 9*12B exclusion 1E!BCC2. rie 9*E 1C!CCC3. ro)ert, art4@ift 1B!CCC. @I 7 1##!BCC

ii. (@I:1. (limonr, 2!CCC2. (@I 7 1EB!BCC

iii. TI:1. ersonal /xem)tion 9x 11!#B"2. Itemied Deductions 1"!#2C3. TI 7 1"!"2

i+. T 7 33!$C2.22b. Oscar ;om%utation.

i. @I and (@I 7 BCC!CCCii. Standard Deduction 7 !EBCiii. ersonal /xem)tion 7 C 9)haseout com)letel, reducedi+. TI 7 #B!2BC+. T 7 1B!""#.BC

VIII. BSINESS/ PERSONAL OR INVES"%EN"


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1. Wat i! a :eductib$e Bu!i'e!! or I've!t-e't E#+e'!e=a. *1"29a. @eneral 0ule.

i. (n immediate deduction is allowed for


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1. /xam)les: Trac&ing stoc& in%estments!di%idends! owned rental )ro)ert,! and other side'usinesses.

d. Primut, !=m%lo&ee alread& in trade or business) but s%endsmone& loo9ing for anot,er @ob in trade t,roug, em%lo&ment

agenc& G t,e court ,eld t,at was deductible#b. Problem 8.1.1.i. oan is self?em%lo&ed and %uts ad in %a%er for 2()((( correcting t,e fact t,at

s,e was %art of a $obel PriEe scientist team.1. 0e% 0ule #24$C. (ll ad%ertising is deducti'le under *1"29a although there

are future 'enefits.c. Problem 8.1.2.

i. "&l+ester is em%lo&ed as an auto mec,anic wit, a I of 35)(((. Pa&s 0(( to cleanuniform. Pa&s /(( in union dues. Pa&s 5(( for 4" subscri%tion to trac9 ,is sidein+estments.

1. (nal,sis.

a. Ha, deduct the cleaning of the uniform and union dues under*1"29a. Ha, deduct the OSR under *212.i. (ll 'elow4the4line 'ecause not em)lo,er reim'ursed! so

would ha%e to do *"E and *"$ limitation anal,sis:1. *"E.

a. 8one of his itemied deductions areexcluded under 9'! so he has total ofitemied deductions for *"E )ur)oses of1!BCC.

'. 3B!CCC 2? 7 ECCc. So! ma, onl, ta&e 1!BCC J ECC 7 $CC in

itemied deductions.i. Thus! he should ta&e his

standard deduction.'. 5,)o. If S,l%ester also had and interest deduction under *1"39h

93! that would not 'e su'-ect to *"E 'ecause listed under 9'! and*"$ is not rele%ant 'ecause onl, rele%ant if (@I is o%er certainamount.

*. Lo!! :eductio'!a. *1"B9a. @eneral 0ule. osses in a trade or 'usiness entered into for )rofit are deducti'le.

i. *1"B9c. imitations 9onl, for indi%iduals. Ha, onl, deduct loss if:1. 9c91. Incurred in a trade or 'usiness; or 2. 9c92. Incurred in an, transaction entered into for )rofit! thought not

connected with a trade or 'usiness.'. *1$3. (ddress ho'', 9acti%ities that are not for )rofit! li&e )u)), 'reeding for fun losses.

i. @eneral 0ule. Deductions related to that acti%it, ma, onl, 'e allowed u) to theincome generated from that acti%it,.

c. Problem 8.1.3.


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i. Paolo is self?em%lo&ed. Aecei%ts of 2(()((( and C102 ex%enses !salaries)ad+ertising# of 223)(((. 7arried to ennifer wit, a salar& of 1(()((( and t,e& file @ointl&. 4,at is t,e IL

1. (nal,sis.a. @I 7 2CC!CCC G 1CC!CCC 7 3CC!CCC

'. ('o%e4the4ine Deductions 7 223!CCCc. (@I 7 EE!CCC 2. *1.1"B. /%en if aolo did not ha%e his wifes @I to offset the loss! he ma,

still ma, ta&e the 23!CCC loss as a *1E2 8L. 5e ma, carr, that 8L'ac& two ,ears or forward twent, ,ears.

a. *1C$. Ha, not ta&e loss if there is no income to offset it.d. Problem 8.1./.

i. Paolo is self?em%lo&ed. Aecei%ts of 2(()((( and C102 ex%enses !salaries)ad+ertising# of 223)(((. 7arried to ennifer wit, a salar& of 1(()((( and t,e& file @ointl&. ennifer also sold stoc9 for a 3)((( loss in 2(((3. 4,at is t,e IL

1. (nal,sis.

a. (lthough the stoc& is not affiliated with Rennifers trade or'usiness! she does fall under *1"B9c92! so she ma, ta&e theloss as an a'o%e4the4line deduction.

'. @I 7 2CC!CCC G 1CC!CCC 7 3CC!CCCc. ('o%e4the4ine Deductions 7 22"!CCCd. (@I 7 E!CCC

5. Bu!i'e!! or Per!o'a$a. I'troductio'

i. *1"29a. Heals! lodging! tra%el! entertainment affiliated with trade or 'usiness ma,'e immediatel, deducti'le if meet man, re>uirements.

1. 8ote. 0ecords must alwa,s 'e uatel, su'stantiated.=ii. *2E9e93. (ll limitations affect the em)lo,er! not the em)lo,ee.iii. *2E9a919. 0ental )a,ments for a facilit, are not deducti'le.

b. %ea$!i. In general! meals are deducti'le 'ecause the


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a. Hust 'e


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c. Third! *1.1"241.i. Hust 'e


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i. If tri) )rimaril, 'usiness! 'ut there is some )ersonal! thetra%el fairs are com)letel, deducti'le. If the tri) is)rimaril, )ersonal! e%en if some 'usiness! the tra%el faresare not deducti'le.

1. This de)ends on facts.

2. If s)end long wee&end after the 'usiness tri) iscom)leted! that wee&end ma, not 'e deducted.If s)end fi%e wee&s! will 'e treated as )rimaril,)ersonal.

e. Fifth! *2E9a.i. Hust 'e


40/58

Federal Income Tax Outline Page /( of 58Professor Brown

d. Fourth! *2E9n.i. Lnl, BC? of the meal is deducti'le ', the em)lo,er.

1. 8ote. If the em)lo,ee )a,s! the em)lo,erreim'urses the em)lo,ee the full amount! andthen the, 9the em)lo,er ma, onl, deduct BC?.

iv. Prob$e-!1. Problem 8.2.3.a. ssociate sent to : for de%osition and treated li9e a 9ing. -otel>

2)1((. 7eals> 1)5((. ;eline *ion s,ow wit, client> /((. irfare>1)(((. Firm reimburses.

i. 5otel.1. If wor&ed all sa%e da,s! e%en if some gam'ling

in%ol%ed! then all deducti'le. If wor&ed for firstfour da,s! and )ersonal last three da,s! )ro4ratethe deduction.

ii. Heals.

1. If reasona'le! ma, deduct BC?. If tra%eling! it isirrele%ant if client is at the meal! the em)lo,erma, still deduct BC?. (lso! if tra%eling! theem)lo,er ma, not deduct more than BC?.

iii. eline Dion.1. Ha, deduct BC? if )asses *2E9a test of 'eing


41/58

Federal Income Tax Outline Page /1 of 58Professor Brown

i. The 'usiness connection to thelocale of the claimed home;

ii. The du)licati%e nature of thetax)a,ers li%ing ex)enses whiletra%eling and at the claimed

home; andiii. ersonal attachment to theclaimed home.

ii. 8ote.1. ;orrell

a. L%ernight Slee) and 0est 0ule.Tra%eling salesman could not deductmeals 'ecause he was home e%er,night; thus! he ne%er had to slee) awa,from home. 5e -ust left in morning! andreturned at night.

iii. In this )ro'lem! em)lo,er ma, deduct all. Lf course! onl,BC? for meals.

IG. CAPI"ALIHA"ION & :EPRECIA"ION

1. Ca+ita$i6atio'a. Ba!ic Co'ce+t! & Co'!u-+tio' "a# I!!ue!

i. Han, tax)a,ers would fa%or a consum)tion tax model for ca)italiation 'ecause itsu))orts in%estment due to a larger net return. 5owe%er! this countr, uses anincome tax model for ca)italiation. See calculations:

1. onsum)tion Tax.a. @ross Oages (%aila'le for In%estment 1CC!CCC'. Tax on Oages 9(ssume 3C? Cc. 8et In%estment after Tax 1CC!CCCd. @ross 0eturn 9(ssume 1C? 11C!CCCe. Tax 33!CCCf. 8et 0eturn EE!CCC

2. Income Tax.a. @ross Oages (%aila'le for In%estment 1CC!CCC'. Tax on Oages 9(ssume 3C? 3C!CCCc. 8et In%estment after Tax EC!CCCd. @ross 0eturn 9(ssume 1C? EE!CCCe. Tax on


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1. /ssentiall,! if the useful life extends su'stantiall, 'e,ond the ,ear in>uestion! it ma, not 'e immediatel, deducti'le under *1"29a. It must 'eca)italied.

2. See exam)les in regulations.ii. Ohen ca)italie! what is doneP

1. First! add the cost to ( of asset.2. Second 9o)tional! if de)recia'le or amortia'le 9intangi'le asset! reco%ercost o%er )eriod of time.

a. Indo%co.i. 5olding. (lthough a rare circumstance! if a tax)a,er

cannot deduct 'ecause the, go out of 'usiness! the, ma,not reco%er the cost.

i ii. Problem .1.1. Pre%a&ment of commercial insurance %remiums co+ering ten?&ear %eriod.

a. (nal,sis.i. Bo&lston

1. 0ule. ( tax)a,er should deduct insurance)remiums for each tax ,ear the )ro4rata )ortionof the )re)aid insurance a))lica'le to that ,ear'ecause insurance uestion.=

a. asicall,! straight4line amortiation.i+. Problem .2.

1. ;ommission of 5(( %aid to stoc9 bro9er in connection wit, t,e %urc,aseof stoc9.

a. *1.2"39a429e. a)italied! so t,)icall, added to ( in stoc&! 'ut when it comes to stoc&! it is actuall, deducted from (0 when sell.(lso! this is not amortia'le.

i. 8ote. This section also sa,s that in the case of securitiesdealers! the, ma, immediatel, deduct commission )aidunder *1"2.

+. Problem .3.1. ttorne&s fees of 5()((( %aid in connection wit, litigation b& ma@orit&

s,are,olders to establis, fair %rice for s,ares to be %urc,ased fromminorit& s,are,olders.

a. (nal,sis.i. 4oodward

1. 0ule. 8ot immediatel, deducti'le! it is added tothe ( of the shares the, )urchased from theminorit, shareholders.

+i. Problem ./.1. %%raisal fee of 1)((( %aid in connection wit, %urc,ase of commercial

building.a. *1.2"39a429a. /x)enditure is intimatel, connected with the

ac>uisition of the asset! so it must 'e ca)italied. The 1!CCC isadded to the ( of 'uilding! and de)reciated with it.


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+ii. Problem .51. 5)((( s%ent to %aint interior of office building !necessitated b& wear and

tear#.a. *1.1"24. It comes down to if this is considered a re)air

9immediatel, deducti'le or an im)ro%ement.

i. 0e)air:


44/58

Federal Income Tax Outline Page // of 58Professor Brown

a. (nal,sis.i. "tale& and ro)osed 0egulation *1.2"39a49iii.

1. osts of fighting a hostile ta&eo%er areimmediatel, deducti'le.

3. 8ote. 0egardless if friendl, or hostile! for the ac>uiring com)an,! the costs

are added to the ( of the cost of ac>uiring the com)an,.x. 8otes.1. (lthough it seems that some costs should 'e ca)italied instead of

immediatel, deducti'le under the )receding anal,ses! the I0S has issuedman, 0e% 0ules stating that certain ex)enses are immediatel, deducti'le:

a. (d%ertising ex)enses!'. 5aardous waste clean u)!c. /m)lo,ee training! andd. Se%erance 'enefits.

c. :eve$o+-e't of Bu!i'e!! O++ortu'itie! ;Start + Co!t!<i. *1#B. L%errules Fran9 ! and states that start4u) costs ma, 'e amortied o%er a "C4

month )eriod 99'91 'eginning when the 'usiness is u) and running if twore>uirements are met:1. 9c919(. The costs were )aid or incurred in connection with 9three t,)es

of costs; anda. In%estigating the creation or ac>uisition of an acti%e trade or

'usiness;'. reating an acti%e trade or 'usiness; orc. (n, acti%it, 'efore the da, on which the acti%e trade or 'usiness

'egins.2. 9c919.The costs would ha%e 'een deducti'le under *1"2! if the

'usiness or trade was alread, u) and running.i i. Problem .8.

1. -erman is about to begin a %ublis,ing com%an&. Tra+els to in+estigate %ossible ac


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1. -erman %aid attorne&s fees for %urc,asing agreement) but t,enabandoned t,e %urc,ase because of material misre%resentations b& t,eseller.

a. 0e% 0ule EE42B + ##423. If the attem)ted creation of a 'usinessor ac>uisition fails or is a'andoned! and immediate deduction is

)ermitted under *1"B9c92. 5owe%er! to 'e deducti'le! theremust 'e a uired ', the indi%idual in his existing em)lo,ment or othertrade or 'usiness; or

'. *1.1"24B9a92 + 9c92. /ducation meets the ex)ressre>uirements of the indi%iduals em)lo,er im)osed as a condition

to retention ', the indi%idual of existing em)lo,ment! status! orcom)ensation.i. Two /xce)tions to /xce)tions. /%en if meet one of those

two exce)tions! non4deducti'le if:1. *1.1"24B9'92. a,s for education that is

re>uired in order to meet the minimumeducations re>uirements for >ualification in thetax)a,ers em)lo,ment or other trade or'usiness; or

2. *1.1"24B9'93. eads to >ualif,ing the tax)a,erfor a new trade or 'usiness.

2. /xam)le. H would 'e a'le to ta&e a *1"2 deduction. elow4the4line ifnot reim'ursed. ('o%e4the4line if reim'ursed. ( RD would not fall under*1"2! 'ut ma, ta&e under *222 or ifetime earning redit.

ii. Four ode ro%isions. Two gi%e a credit from tax lia'ilit, and one deductseducation ex)enses.

1. *2B(9'. 5o)e redit.a. Lnl, allowed to ta&e the first two ,ears of )ost4secondar,

education.'. 1!BCC limitation.

i. 5owe%er! can claim 5o)e redit for more than onestudent in the same ,ear.

c. (gain! this is a credit! so deduct from tax lia'ilit,.2. *2B(9c. ifetime earning redit.

a. Ha, ta&e for an, tuition! college or -ust a course.'. Ha, ta&e 2C? of an, >ualified tuition 9u) to 1C!CCC. Thus! 2!CCC

limitation.c. (gain! this is a credit! so deduct from tax lia'ilit,.

3. *222. Wualified Tuition Deduction.a. Ha, ta&e for an, education whatsoe%er.


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'. 9'. In 2CC3! 3!CCC limitation if modified (@I 9)ursuant to 9c doesnot exceed "B!CCC 913C!CCC if -oint return. If exceeds that (@I!then C.

i. In 2CC and 2CCB! limitation goes u). This section is nolonger a%aila'le come 2CC".

c. This deduction is a'o%e4the4line.. *221. School loan interest deduction.i ii. Problem .1(.

1. 7argaret) single) wit, I and modified I of /()(((. *aug,ter)de%endent) ,ad tuition of 1()((( for college w,ic, 7argaret %aid.7argaret) a nurse) too9 1)((( course in emergenc& room medicine.

a. Im)ortant 8ote. annot use *222 deduction and *2B( if same)erson! 'ut can ta&e *222 deduction and *2B( for differentindi%iduals. annot use *2B(9' and *2B(9c together for sameindi%idual! 'ut can ta&e *2B(9' and *2B(9c for differentindi%iduals.

i. Thus! must do calculations and see what sa%es the mostmone,.'. L)tion Lne: Ta&es *222 for her daughter. Thus! TI! with a'o%e4

the4line deduction! standard deduction and )ersonal exem)tions'ecomes 23!#CC. T is 3!C$B.

i. From here! Hargaret can ta&e *2B(9c or *1"29a forherself.

1. *2B(9c is the 'est choice! and 2C? of 1C!CCC 72CC. (gain! with this 'eing a credit! the T is nowonl, 2!$$B.

2. If she ta&es *1"2 9which she can 'ecause)asses exce)tion to general rule! and does notfall under exce)tion to the exce)tion! 'ut it would 'e a 'elow4the4line deduction.

c. L)tion Two: Ta&e 5o)e redit for daughter and ifetime earningredit for herself.

i. 5o)e redit for daughter is 1!BCC! and ifetime redit forher is 2CC.

d. L)tion Three 9est L)tion: Ta&e ifetime earning redit fordaughter and *222 for her.

i. That wa,! 2!CCC credit! and 1!CCC a'o%e4the4linededuction.

e. oint. Daughter can ta&e either *222 or 5o)e or ifetime.Hargaret can ta&e either *222 or ifetime or *1"2 de)ending on what ta&es for her daughter. 0emem'er Im)ortant 8ote a'o%e.

i+. Problem .11.1. T&ler ,ad law sc,ool tuition in 2((3 of 15)(((. "alar& in 2((3 of 3()(((.

a. (nal,sis.


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i. an ta&e either ifetime earning redit or *222. Oouldta&e ifetime here! 'ecause 1C!CCC2C? 7 2!CCC credit.Ohich is %alua'le.

*. :e+reciatio'a. I'troductio'

i. Lnce a tax)a,er has a ca)ital ex)enditure under *2"3! he is going to want tode)reciate. 5owe%er! to de)reciate 9reco%er, cost! there are four re>uirements:1. ro)ert, must 'e used in a trade or 'usiness 9*1"E;2. ro)ert, held for the )roduction of income 9*1"E;3. (sset has a finite life; and. /xhausti'le 9su'-ect to ui)ment )urchased is o%er CC!CCC!

then each dollar o%er CC!CCC must 'e deductedfrom the 1CC!CCC immediate deduction )ermitted.

a. /xam)le: urchase 1C!CCC machine!ma, onl, 'e a'le to deduct #C!CCC.

2. 9'93.The de)reciation deduction under thissection ma, onl, 'e used to offset @I! it cannotcreate a loss.

2. *1"$9&. 9onus Section.a. 9&929(. Lnl, )ersonal )ro)ert, with a reco%er, )eriod of 2C

,ears of less and com)uter software >ualif,.


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'. 9&9. If new )ro)ert, and )laced in use 'etween Ha, B! 2CC3and 'efore Ranuar, 1! 2CCB! then BC? deduction ma, 'e ta&enimmediatel,.

i. If new )ro)ert, and not 'etween those ,ears! then 3C?immediate deduction.

ii. If used! does not >ualif, at all.3. *1"$.a. 9c. 0esidential rental )ro)ert, 9$C? or more dwelling units:

i. Hust use reco%er, )eriod of 2E.B ,ears! must use straightline! and must use mid4month con%ention.

1. hart on x%i.'. 9c. 8onresidential real )ro)ert,:

i. Hust use reco%er, )eriod of 3# ,ears! must use straightline! and must use mid4month con%ention.

1. hart on x%ii.c. ersonal )ro)ert, used in trade or 'usiness for )roduction of

income su'-ect to finite life and wear and tear.i. 9e. Defines reco%er, )eriod.ii. Hust use half4,ear con%ention.iii. an use dou'le4declining 'alance.

1. hart on )age x%.d. Sa,s treat residual %alue as C.

b. :e+reciatio' of "a'(ib$e A!!et!i. Problem .12.

1. In "e%tember 2((3) "all& boug,t new %ersonal %ro%ert& !class life of &ears# for business for 105)(((. -er TI exceeded 2(()(((. ",e wants touse **B.

a. *1E# 9'onus. She >ualifies.i. Ha, deduct 1CC!CCC immediatel,.ii. Thus! left with ( of "B!CCC.

'. *1"$9& 9'onus. She >ualifies.i. Ha, deduct BC? of "B!CCC 7 32!BCC.ii. Thus! left with ( of 32!BCC.

c. *1"$. DD.i. Under 9e! )ro)ert, will 'e treated as B4,ear )ro)ert,.ii. Under chart x%! in 2CC3! ma, deduct 32!BCC 2C? 7

"!BCC.d. Thus! in 2CC3! Sall, ma, deduct 1CC!CCC G 32!BCC G "!BCC 7

13#!CCC.i i. Problem .13.

1. On ugust 1) 2((3) Ted boug,t commercial building w,ic, ,e used solel&for ,is business o%erations. -e %aid 35()((( for t,e building. 4,at could ,e deduct in 2((3 and 2((/L

a. (nal,sis.i. ecause real )ro)ert,! is not eligi'le for two 'onus

)ro%isions.


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ii. Use hart x%ii 'ecause non4residential real )ro)ert,.1. In 2CC3! 3BC!CCC .#"? 7 3!3"C.2. In 2CC! 3BC!CCC 2.B"? 7 $!#E.

c. :e+reciatio' of I'ta'(ib$e!i. *1#E9a. Intangi'les that >ualif, must 'e amortied rata'l, o%er 1B ,ears using

straight line.1. 0ata'l, means must actuall,! for the first ,ear and last ,ear! count downto the da,s.

2. This is an a'o%e4the4line deduction li&e de)reciation.3. 9c + 9d. To >ualif, as an intangi'le must 'e used in trade or 'usiness and

)urchased after (ugust 1C! 1##3 and cannot 'e self4created. Thus! thisincludes:

a. @oodwill;'. @oing concern %alue;c. icenses; andd. o%enant not to com)ete.

i. 9f919. /%en if co%enant not to com)ete is for three,ears! must 'e amortied o%er 1B ,ears.ii. 8ote. om)uter software is eligi'le for the *1E# and *1"$9& 'onuses! and then it

falls under *1#E.i ii. Problem .1/.

1. eslie) on ul& 1) 2((3) %urc,ased goodwill for 5()((( and co+enant notto com%ete for 25)(((.

a. (nal,sis.i. 8ot com)uter software! so does not >ualif, under

'onuses.ii. *1#E.

1. In 2CC3! EB!CCC "K12 1K1B 7 2!BCC.2. In 2CC! EB!CCC 1K1B 7 B!CCC.

G. A:VAN"A,ES O0 PROPER"> OWNERSIP

1. I'troductio'a. Oe ha%e see )ro)ert, gains all semester! this to)ic is -ust %ariations on that.'. *1CC1. (ddresses recognition of gain or loss on the sale or dis)osition of )ro)ert,. (gain!

(0 J (.i. 9'. (ddresses calculating (0.ii. 9c. States *1CC1 is su'-ect to all others in the ode and determines recognied

gain.c. *1C11 + *1C12.

i. (ddress calculating (.ii. *1C1". Im)ro%ements increase ( and de)reciation deductions decrease (.

*. Rea$i6atio' & Reco('itio'a. 0ealiation. (n exchange gi%es rise to a realiation e%en so long as the exchanged

)ro)erties em'od, legall, distinct entitlements.


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'. 0ecognition. Oith res)ect to gains! the term recognition refers to the issue of whether arealied gain is included in @I.

c. Problem 1(.1.i. 7argaret owns +acant land !w,ic, means) unim%ro+ed# w,ic, s,e boug,t for

125)(((. "old to ide for 138)(((.

1. (nal,sis.a. Hargaret: 0ecognied gain is 13!CCC and must include in @Iunder *"1.

'. Ride: ( is 13$!CCC.5. No'Reco('itio' ? :i!+o!itio' of Pri'ci+a$ Re!ide'ce

a. Problem 1(.2.i. 7ar9 and 7illie married. Purc,ased %rinci%al residence on anuar& 1) 2((1 for

5(()(((. "old in Februar& 2((3 for 5)(((. In t,e summer mont,s !une) ul&and ugust# t,e& s%end most of t,eir time in t,eir beac, ,ouse.

1. *1219a. Lne of the sections that trum)s *1CC19c! and states! that if atax)a,er sells their )rinci)le residence! the gain is not recognied if the,

ha%e li%ed in the residence at least two ,ears out of the fi%e ,ears)receding the sale.a. Two imitations.

i. 9'91 + 92. Ha, onl, exclude u) to 2BC!CCC if single.(nd ma, exclude BCC!CCC if -oint if meet threere>uirements:

1. (t least one of the s)ouses owns;2. oth s)ouses meet the use re>uirement; and3. 8either of the s)ouses has used this section in

the )ast two ,ears.ii. 9'93. Ha, onl, ta&e e%er, two ,ears.

2. *1.121419c92. (ddresses determining if )rinci)al residence. States that itis )rimaril, a


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i. Thus! the 2BC!CCC limitation must 'e multi)lied ', 1.BK2 71$E!BCC.

ii. So! Sandra ma, exclude u) to that amount from @I.ii. -&%o. "andra sold ,er ,ome to acce%t a new @ob in anot,er state.

1. *1219c929. /xce)tion to two4,ear re>uirement:

a. Ha, exclude gain from @I if sell )rinci)al residence for healthreasons! or new em)lo,ment 9can 'e different em)lo,er or sameem)lo,er in a different location.

i. *1.12143T9c929ii. Safe har'or )ro%ision that sa,stax)a,er will >ualif, if new em)lo,ment is at least fift,miles awa, from old em)lo,ment.

'. imitation. (gain! must )ro4rate limitation.7. Li@e4i'd E#ca'(e!

a. *1C31. This is another section that trum)s *1CC19c; thus! if a tax)a,er can fall under it with a li&e4&ind exchange! the, will not ha%e to recognie an, gain in their )ro)ert,exchange.

i. olic,. ro%ides incenti%e for rein%estment in )ro)ert, that is held for )roducti%euse. Thus! li&e a consum)tion tax. This section is not electi%e! it automaticall,a))lies.

ii. 9a. @eneral 0ule. 8o gain or loss recognied on the exchange or )ro)ert, held for)roducti%e use in a trade or 'usiness or for in%estment if such )ro)ert, isexchanged


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c. 9d also states that if )ro)ert, transferred su'-ect to de't! thetransferor will treat it as 'oot recei%ed and an ( ad-ustment willoccur.

d. *1.1C319d42. 5el)s with all calculations.%ii. *1.1C319a42. Discusses how to >ualif, for a li&e &ind exchange.

1. 0eal ro)ert,: /xtremel, eas, to >ualif,. /%en if tax)a,er exchanges a%acant land for land with 'uilding! it is li&e &ind.2. ersonal ro)ert,: Hore difficult to >ualif,. See regulation for @eneral

(sset lasses.b. Problem 1(./.

i. T&ler exc,anges +acant land !unim%ro+ed# wit, an B of 1(()((( and F7: of13()(((. In exc,ange) 7ercedes gi+es a sailboat wit, an B of 85)((( and F7:of 13()(((.

1. (nal,sis. 8on4li&e &ind! so *1C31 does not a))l,.a. T,ler: (0 is 13C!CCC. ( is 1CC!CCC. 0ecognied gain of 3C!CCC.'. Hercedes: (0 is 13C!CCC. ( is $B!CCC. 0ecognied gain of

B!CCC.c. Problem 1(.5.i. Bugs 4,iteacre> B 1(()((( and F7: 2(()(((.ii. *aff& Blac9acre> B ()((( and F7: of 1()((( and ;as, of 3()(((.

1. (nal,sis. i&e &ind 'ecause real )ro)ert,! 'ut not solel, &ind.a. ugs:

i. 0ealied gain of 1CC!CCC.1. Hust recognie 3C!CCC gain and include in @I

'ecause that in non4li&e &ind amount.ii. (: 1CC!CCC 9old ( J 3C!CCC 9lessor of realied gain or

'oot recei%ed G 3C!CCC 9recognied gain 7 1CC!CCC'. Daff,:

i. 0ealied gain of $C!CCC.1. 8othing recognied 'ecause from his end! all

li&e4&ind.ii. (: #C!CCC 9old ( G 3C!CCC 9'oot recei%ed 7 12C!CCC.

d. Problem 1(.0.i. Bugs 4,iteacre> B 1(()((( and F7: 2(()(((.ii. *aff& Blac9acre> B ()((( and F7: of 1()((( and ;as, of 3()(((.

1. *aff& wants to sell Blac9acre for cas,) but Bugs wants a li9e 9indexc,ange. ;an bot, be accommodatedL

a. Hlein (nal,sis.i. Hust use a third )art,. Daff, sells )ro)ert, to third )art,.

Third )art, would then exchange the land to ugs. Thisis o&a, as long as the cash that will e%entuall, go to Daff,is in escrow and ugs or Daff, does not ha%e discretiono%er it! then it is o&a,.

ii. ugs recognies 3C!CCC gain and Daff, would recogniefull gain.

e. Problem 1(..


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i. Bugs 4,iteacre> B 1(()(((K F7: 2(()(((K 7ortgage ()(((ii. *aff& Blac9acre> B ()(((K F7: 1()(((K ;as, 2()(((K 7ortgage 0()(((

1. (nal,sis. i&e &ind 'ecause real )ro)ert,! 'ut not solel, li&e &ind.a. ugs:

i. 0ealied gain 7 1EC!CCC 9FHN recei%ed G EC!CCC 9de't

relief G 2C!CCC 9'oot recei%ed J 1CC!CCC 9old ( J"C!CCC 9de't assumed 7 1CC!CCCii. 0ecognied gain 7 EC!CCC 9de't relief G 2C!CCC 9'oot

recei%ed J "C!CCC 9de't assumed 7 3C!CCC.iii. ( 7 1CC!CCC 9old ( 4 2C!CCC 9lessor of 'oot recei%ed

or realied gain G 3C!CCC 9recognied gain G "C!CCC9de't assumed J EC!CCC 9de't relief 7 1CC!CCC.

'. Daff,:i. 0ealied gain 7 2CC!CCC 9FHN recei%ed J #C!CCC 9old

( J 2C!CCC 9'oot )aid G "C!CCC 9de't relief 4 EC!CCC9de't assumed 7 $C!CCC.

ii. 0ecognied gain 7 C. ecause from his )ers)ecti%e it isall li&e &ind 'ecause he is recei%ing more de't than hehad. If ugs did not ha%e a mortgage! Daff, mortgagerelief would 'e considered 'oot.

iii. ( 7 #C!CCC 9old ( G 2C!CCC 9'oot )aid G EC!CCC 9de'tassumed J "C!CCC 9de't relief G C 9recognied gain 712C!CCC.

f. Problem 1(.8.i. Bugs 4,iteacre> B 61(()(((K F7: 62(()(((K 7ortgage 6()(((ii. *aff& Blac9acre> B 6()(((K F7: 61()(((K "toc9 62()((( !B 68)(((#K

7ortgage 60()(((1. (nal,sis. i&e &ind 'ecause real )ro)ert,! 'ut not solel, li&e &ind. Stoc&

treated li&e 'oot recei%ed for ugs! 'ut must se)arate out that (. (nd forDaff,! he must recognie all of the gain on the stoc& 'ecause does not>ualif, under *1C31.

a. ugs:i. 0ealied gain 7 1EC!CCC 9FHN recei%ed G 2C!CCC 9'oot

recei%ed G EC!CCC 9de't relief J 1CC!CCC 9old ( J"C!CCC 9de't assumed 7 1CC!CCC.

ii. 0ecognied gain 7 2C!CCC 9'oot recei%ed G EC!CCC9mortgage relief J "C!CCC 9de't assumed 7 3C!CCC.

iii. and ( 7 1CC!CCC 9old ( J EC!CCC 9de't relief G"C!CCC 9de't assumed G 3C!CCC 9recognied gain J2C!CCC 9'oot recei%ed 7 1CC!CCC.

i%. Stoc& ( 7 2C!CCC.'. Daff,:

i. Stoc&: 12!CCC recognied gain.ii. and:

1. 0ealied gain 7 2CC!CCC 9FHN recei%ed G"C!CCC 9de't relief 4 2C!CCC 9stoc& 9'oot gi%en


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J EC!CCC 9de't assumed J #C!CCC 9old ( 7$C!CCC.

2. ( 7 #C!CCC 9old ( G EC!CCC 9de't assumed J"C!CCC 9de't relief G $!CCC 9old ( in stoc& G12!CCC 9stoc& recognied gain 7 12C!CCC.

GI. CAPI"AL ,AINS & LOSSES

1. I'troductio'a. *19h. ongress in-ected it )reference for net ca)ital gains.

i. ( net ca)ital gain is )ulled out from ordinar, TI 'efore it is )lugged into the taxta'le. (nd then! that net ca)ital gain will 'e tax )referential. 8ote. These)referential rates are onl, )ermitted for indi%iduals! not cor)orations.

ii. Under *19h! net ca)ital gain is taxed at:1. B? if ordinar, income is taxed at marginal rate 'elow 2B?;

2. 1B? otherwise;3. 2B? if sale of de)recia'le )ro)ert, under *12BC; or. 2$? if collecti'les.

'. *1221 + *1222. To >ualif, for a ca)ital gain or loss! must ha%e:i. ( ca)ital asset;

1. /%er,thing 9whether or not trade or 'usiness exce)t:a. In%entor,;'. ersonal )ro)ert, used in trade or 'usiness su'-ect to

de)reciation;i. 8ote. See *1231 + *12B.

c. 0eal )ro)ert, used in trade or 'usiness;i. 8ote. See *1231 + *12BC.

d. o),right; ore. 8otes 9accounts recei%a'le.

ii. That is sold or exchange.1. Short Term: ro)ert, held under a ,ear.2. ong Term: ro)ert, held more than a ,ear.

c. olic,. This countr, has a )referential rate for four reasons:i. 0e%enue raiser 'ecause encourages sales and exchanges of assets;ii. /fficienc, 9)ro)ert, mo%es where it is needed most;iii. re%ent 'unching 9'ecause allows )eo)le to sell accumulated gain; andi%. /ncourage in%estment in ca)ital 9ex)ands econom,.

1. 5uge Dou'ts to this olic,: /m)irical e%idence to the contrar,.d. rocess.

i. First! *"1. (ll ca)ital gains 9short term and long term are added to arri%e at @I.ii. Second! *1"B9c92. (ll ca)ital losses 9short term and long term are deducted to

arri%e at (@I 9thus! a'o%e4the4line deductions.1. imitations.

a. *1211.i. or)orations: Ha, onl, offset gains.


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ii. Indi%iduals: Ha, offset gains )lus an additional 3!CCC.9So! if no gain! 'ut losses! ma, ta&e u) to 3!CCC inlosses.

'. *1212.i. or)orations: Ha, carr, 'ac& three ,ears as long as

does not create or increase 8L! or ma, carr, forwardfi%e ,ears.ii. Indi%iduals: Ha, carr, forward T indefinitel,. ST

must 'e carried forward onl, one ,ear.1. 0emem'er! must offset! 'ut recei%e that 3!CCC

cushion.iii. Third! ta&e 'elow4the4line itemied deductions or standard deduction! and

)ersonal exem)tions to arri%e at TI.i%. Fourth! *1222911. Ta&e out net ca)ital gains from TI to tax at )referential rate! and

)ut remaining TI in tax ta'le.1. 8et ca)ital gain 7 8et T@ J 8et ST 9if there is one; or

a. 9T@ J T J 9ST J ST@ 9if there is one.i. *19h911. Wualified di%idends are added to T@ oncecalculated and treated at )referential rate.

'. ())l, a))lica'le rate.*. We' ,ai'! E#ceed Lo!!e! a'd Lo!!e! E#ceed ,ai'!

a. Problem 11.5!a#.i. NM "toc9> Boug,t 3.1.(3 for 625)(((K "old 12.2(.(3 for 6/()(((.ii. T "toc9> Boug,t 0./.(1 for 68(((K "old 8.2(.(3 for 62()(((.iii. T "toc9> Boug,t 2.1.(3 for 653)(((K "old. 11.1.(3 for 6/2)(((.i+. M "toc9> Boug,t 8.1.(2 for 63()(((K "old .1.(3 for 62()(((.

1. NM> AealiEed ain of 615)(((. "T;. 2. T> AealiEed ain of 612)(((. T;.3. T> AealiEed oss of 611)(((. "T;./. M> AealiEed oss of 61()(((. T;.

a. Total ains ' 2)(((. Total osses ' 21)(((.%. (nal,sis.

1. @I 7 12B!CCC 9salar, G 1B!CCC 9ST@ G 12!CCC 9T@ 7 1B2!CCC.2. (@I 7 1B2!CCC 9@I J 11!CCC 9ST J 1C!CCC 9T 7 131!CCC.3. TI 7 131!CCC 9(@I J !EBC J 3!CBC 7 123!2CC.

a. 8et a)ital @ain 7 912!CCC J 1C!CCC J C 9'ecause no 8et ST7 2!CCC

'. Thus! ordinar, TI 'ecomes 121!2CC.c. (nd! net ca)ital gain 'ecomes 2!CCC 9taxed at )referential rate of

1B? 'ecause ordinar, TI is not taxed at a marginal rate 'elow2B?.

b. Problem 11.5!b#.i. "T;> 615)(((ii. T;> 612)(((iii. "T;> 611)(((i+. T;> 62()(((


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1. Total ains ' 2)(((. Total osses ' 31)(((.2. (nal,sis.

a. @I 7 12B!CCC G 2E!CCC 7 1B2!CCC.'. (@I 7 1B2!CCC J 3C!CCC 7 122!CCC.

i. imitation. osses can onl, offset gains with 3!CCC

cushion. So! she ma, deduct 2E!CCC 'ecause that wouldoffset gains G 3!CCC cushion; )ermitting a 3C!CCCdeduction.

1. The 1!CCC loss she cannot ta&e ma, 'e carriedo%er indefinitel, as a T 'ecause she has aT.

c. TI 7 122!CCC J !EBC J 3!CCC 7 11!2BC.i. (ll ordinar, 'ecause no net ca)ital gain.

c. Problem 11.5!c#.i. 7$B> T; of 613)(((.ii. *BB> T; of 65)(((.

iii. > T; of 612)(((.i+. A"T> T; of 6)(((.1. Total ains ' 12)(((. Total osses ' 25)(((.2. (nal,sis.

a. ecause of limitation! ma, onl, deduct 1B!CCC in losses. (nd1C!CCC carried o%er as T. (gain! 'ecause of loss! no netca)ital gain.

d. Problem 11.5!d#.i. "T; of 612)(((.

1. (nal,sis.a. ecause of limitation! ma, onl, deduct 3!CCC in losses. The

#!CCC is carried o%er as a ST 'ecause she does not ha%e an,T. Thus! it ma, onl, 'e carried o%er for one ,ear.

e. Problem 11.5!e#.i. "T; of 612)(((.ii. "T; of 63)(((.iii. T; of 6/)(((.

1. Total ain ' )(((. Total oss ' 12)(((.2. (nal,sis.

a. Hust include E!CCC in @I. Ha, onl, deduct 1C!CCC to arri%e at(@I. 2!CCC loss she could not ta&e is carried o%er as a ST'ecause she did not ha%e an, T. Thus! it ma, onl, 'e carriedo%er for one ,ear.

f. Problem 11.0.i. 7ars,a ,as B in %ainting of 5()(((. Two &ears later) t,e F7: is 5)((( and s,e

donates it to a c,aritable organiEation. -er I is 1(()(((.1. (nal,sis.

a. *1.1EC(419c. States the amount of the deduction will 'e FHN orthe )ro)ert, donated su'-ect to *1EC9e! which states:

i. FHN must 'e reduced if:


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1. ST@! ma, onl, deduct (! not FHN; or2. T@ on tangi'le )ersonal )ro)ert,! and the

donees use is unrelated to the )ur)ose orfunction constituting the 'asis! then ma, onl,deduct ( and not FHN.

a. Thus! real )ro)ert, does not a))l,.'. 8ote. 0emem'er other charita'le limitations discussed under Mai)ro'lem.

c. 9d. Ha, carr, o%er deductions that could not ta&e for fi%e ,ears.2. In this case! if assumed the )ainting is hung u) in the charita'le

organiation! then it is related use! and Harsha ma, deduct EB!CCC.5owe%er! remem'er other limitations! if a'le to deduct FHN! then it cannotexceed 3C? of (@I. So! in this case! Harsha ma, onl, deduct 3C!CCC!and the B!CCC ma, 'e carried o%er.

5. :e+reciatio' Reca+turea. *1231. reated to )ro%ide relief from *12219a92 'ecause things under that are not

su'-ect to ca)ital gains and thus! )referential rate. To fall under *1231! must ha%e:i. ersonal )ro)ert, used in a trade or 'usiness su'-ect to de)reciation and held forat least one ,ear; or

1. If this is true! a))l, *12B. 9De)recation 0eca)ture 0ulea. 8ote. Ohene%er de)reciate! ma&e sure to in%o&e this rule.

ii. 0eal )ro)ert, used in a trade or 'usiness su'-ect to de)reciation and held for atleast a ,ear.

1. If this is true! a))l, *12BC.b. Problem 11..

i. On "e%tember 1) 2((3) 7orris %urc,ase %ersonal %ro%ert& for 2(()((( !wit, aclass life of &ears# and %laced in business. -e sold t,at %ro%ert& on 7arc, 1) 2(1( for 3()(((.

1. *12B (nal,sis.a. ( was 2CC!CCC! 'ut 'ecause B ,ear de)recia'le life! Horris

deducted all 2CC!CCC.'. 9a91. States that the lower of 91 recom)uted 'asis or 92 (0 is

deducted from ( to get to ordinar, income. The rest of gainrealied is treated as ca)ital.

i. 0ecom)uted asis 7 urrent asis G (ll De)reciationDeductions

c. Thus! in this )ro'lem! Horris recom)uted 'asis is 2CC!CCC andhis (0 is 3C!CCC. Thus! he ta&es the lower! 3C!CCC.

d. @ain 0ecognied 7 ower of the two J actual (.i. 3C!CCC J C 7 3C!CCC 9treated as ordinar, income.

ii. -&%o. 7orris sells for 21()(((.1. 0ecom)uted asis 7 C G 2CC!CCC 7 2CC!CCC.2. (0 is 21C!CCC.

a. Thus! uses 2CC!CCC.'. @ain 0ecognied 7 2CC!CCC J C 7 2CC!CCC ordinar, income. ut

the other 1C!CCC of (0 ma, 'e treated as ca)ital gains.


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c. Problem 11.8.i. On 7a& 0) 2((3) Tamara %urc,ased a commercial building for 35()((( w,ic, s,e

used solel& for ,er ad+ertising business. ",e sold it on ul& 1) 2((0 for 3/()(((.1. *12BC (nal,sis.

a. Ta&e lower of additional de)reciation 9which will alwa,s 'e C in

our cases 'ecause real )ro)ert, ma, onl, use straight line oractual ( after de)reciation.'. De)recation Ta&en:

i. , )utting in chart x%ii! the total de)recation Tamara too&'efore she sold was 2$!1E. ea%ing her with an ( of3BC!CCC J 2$!1E 7 321!B$3.

c. 0ealied @ain:i. 7 3C!CCC J 321! B$3 7 1$!1E and this is alwa,s

recognied as T@ 'ecause we alwa,s ta&e C froma'o%e.

1. So what is the )oint of *12BCP

a. ecause although will alwa,s 'e treatedas T@! under *19h! *12BC )ro)ert,gets its own )referential rate of 2B?.

federal income tax - brown

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