1.4 Taxable and Nontaxable Income

cannot, officer, 5

(HCES) AND KEY EMPLOYEES A cafeteria plan ___ have rules that favor eligibility for highly compensated employees to participate, contribute, or benefit from a cafeteria plan. If a benefit plan favors HCEs, the value of their benefits may become taxable. This is to discourage companies from offering excellent tax-free benefits to their top executives while ignoring the needs of lower-paid employees. Per Publication 15-B, an HCE is normally any of the following: A company ___. A shareholder who owns more than ___% of the voting power or value of all classes of the employer's stock. An employee who is highly compensated based on the facts and circumstances. A spouse or dependent of an officer or shareholder described above.

a (Paxton only has to include his wages on his tax return ($61,000). The free flights offered on standby to airline personnel are considered no-additional-cost services and are not taxable to the employee. Reimbursements under an accountable plan and amounts paid for workers' compensation are nontaxable. Since Paxton returned the unspent amounts to his employer, the travel reimbursements qualify under an accountable plan, and the amounts spent are not taxable to him.)

1. Paxton is a flight attendant who earned wages of $61,000 in 2020. The airline provided free transportation on standby from his home in Little Rock to the airline's hub in Charlotte, NC. The fair market value of the commuting flights was $5,000. Paxton also received advances under an accountable plan of $9,000 for overnight travel, but only spent $6,000. He returned the excess ($3,000) to his employer. Paxton was injured on the job and received worker's compensation of $4,100. What amount must he include in gross income on his individual tax return? A. $61,000 B. $64,000 C. $65,000 D. $71,000

a (Clergy members may exclude from gross income for income tax purposes, but not for self-employment tax purposes, the rental value of a home, or a rental allowance to the extent the allowance is used to provide a home, even if deductions are taken for home expenses paid with the allowance.)

10. Orrin is an ordained minister in the Evangelical Church of Savannah. He owns his home, and his monthly house payment is $900. His monthly utilities total $150. The fair rental value in his neighborhood is $1,000. Orrin receives a housing allowance from his church in the amount of $950 per month. What portion of his monthly housing allowance would he include in his gross income for income tax purposes? A. $0 B. $100 C. $150 D. $950

a (A de minimis fringe benefit is deductible by the employer but is not taxable to the employee. The IRS defines a de minimis benefit in this way: a benefit that, considering its value and the frequency with which it is provided, is so small as to make accounting for it unreasonable or impractical. For example, a de minimis fringe benefit might include occasional snacks, coffee, or doughnuts provided in a company's break room. The items in the other choices would be taxable to the employee.)

11. Which of the following types of fringe benefits are deductible by an employer, but not taxable to the employee? A. De minimis fringe benefit. B. Use of an employer's apartment, vacation home, or boat. C. Membership in a country club or athletic facility. D. A gift card.

b (If a taxpayer serves in a combat zone as an enlisted person for any part of a month, all of his pay received for military service that month is excluded from gross income. Since Salvador served for a few days in September, as well as January, all the income for those months is excluded as combat pay. Only October through December would be taxable.)

12. Salvador is an enlisted soldier in the U.S. Army who served in a combat zone from January 30, 2020, to September 2, 2020. He returned to the United States and received his regular duty pay for the remainder of the year. How many months of his income are taxable in 2020? A. Zero. All the income is tax-free. B. Three months of wages are subject to tax. C. Four months of wages are subject to tax. D. Twelve months of wages are subject to tax.

c (Use of a company vehicle for commuting is not a qualified fringe benefit. Commuting expenses are not deductible. The use of a company van after normal working hours is personal use and not business use, so it would result in taxable income to the employee. The cell phone, reimbursements for business travel, and the occasional personal use of an office copy machine are noncash fringe benefits that are not taxable.)

13. Which of the following fringe benefits provided by the employer will result in taxable income to the employee? A. A cell phone used by a salesperson to talk to clients while on the road. B. Reimbursements paid by the employers for qualified business travel expenses. C. Use of a company van for daily commuting. D. Occasional personal use of an office copy machine.

a (The reimbursed amounts are not taxable to Rasheed. Under an accountable plan, employee reimbursements are not included in the employee's income. In this scenario, the travel expenses incurred by the employee would be deductible by Rasheed's employer as an ordinary business expense.)

14. Rasheed is employed as a staff accountant by a large CPA firm. When he travels for his audit work, he submits his travel receipts for reimbursement by his firm, which has an accountable plan for its employees. Which of the following statements is correct about accountable plans? A. The reimbursed amounts are not taxable to Rasheed. B. Rasheed may deduct his travel expenses on his personal tax return. C. His employer cannot deduct the travel expenses as a business expense, even though Rasheed was reimbursed in full. D. Reimbursed expenses are taxable to the employee.

d (Mileage reimbursements, if paid through an accountable plan, are not included in an employee's wages.)

15. Of the following items, only ______________ is not taxable income to an employee: A. A holiday bonus. B. Overtime pay. C. Vacation pay. D. A mileage reimbursement under an accountable plan.

b (Only Debby's sick pay is taxable, because sick pay from an employer is always taxable as wages and is therefore included in Debby's gross income. Settlements for personal injuries from an accident are not taxable. If a taxpayer pays the full cost of an accident insurance plan, the benefits for personal injury or illness are not included in income. If the employer pays the cost of an accident insurance plan, the amounts are taxable to the employee.)

16. Debby broke her leg in a car accident and was unable to work for three months. She received an accident settlement of $13,000 from her insurance company. During this time, she also received $7,500 of sick pay from her employer. In addition, she received $5,000 from an accident policy she had purchased herself. How much of this income is taxable to Debby? A. $5,000 B. $7,500 C. $12,500 D. $18,000

c (Alphonse must report the interest income in the year he receives it. Only the $175 of interest income is taxable. Life insurance proceeds are not taxable to the recipient. However, any interest earned on life insurance proceeds is taxable.)

17. Alphonse was the sole beneficiary of his mother's life insurance policy. His mother died on June 1, 2020. Alphonse received the following payments on December 31, 2020: $360,000 lump-sum death benefit from his mother's life insurance policy. $175 of interest income on the life insurance proceeds. What is the proper treatment of these payments? A. The life insurance proceeds are taxable in 2020. The interest is not taxable. B. The life insurance proceeds and interest income are both taxable to Alphonse in 2020. C. Only the $175 of interest income is taxable in 2020. The life insurance proceeds are not taxable. D. None of these payments are taxable to Alphonse. Instead, they are taxable to his mother's estate.

b (Orval must pay self-employment tax on his earnings, regardless of how he and Rainelle choose to file. Taxpayers cannot combine both spouses' income or loss to determine their earnings subject to SE tax. However, if a taxpayer has more than one business, he must combine the net profit or loss from each to determine the total earnings subject to SE tax.)

18. Orval and Rainelle are married, and both are self employed with their own businesses. Orval owns a business that has a $9,750 net profit during the year. His wife, Rainelle, has an overall business loss of ($11,100). They both file Schedules C to report their self-employment income. Which of the following statements is correct? A. On their joint return, they will not have to pay self employment tax, because the losses from Rainelle's business will offset Orval's income. B. Orval must pay self-employment tax on $9,750, regardless of his wife's income or losses. C. They can file MFS and offset each other's self-employment tax. D. If they choose to file separate returns, they may split the profits and losses equally between their two businesses.

c (Anastasia's commissions must be included in gross income, as well as advance payments in anticipation of future services ($12,000 + $1,000 = $13,000). The expense reimbursements from an accountable plan ($200) would not be included in her taxable income.)

19. Anastasia is a sales rep who sells pharmaceutical drugs to doctor's offices on commission (she is an employee). On December 25, 2020, Anastasia receives $12,000 of income from commissions, plus an advance of $1,000 for future commissions. She also receives a $200 check for expense reimbursements from her employer after turning in her receipts as part of an accountable plan. How much taxable income should Anastasia report on her 2020 tax return? A. $11,800 B. $12,000 C. $13,000 D. $13,200

d (A taxpayer does not need physical possession of income to have constructive receipt. However, income is not considered constructively received if the taxpayer cannot access the funds because of restrictions. Since the taxpayer's control of the receipt of the funds in the escrow account was substantially limited until the transaction had closed, the taxpayer did not constructively receive the income until the following year.)

2. Income was constructively received in 2020 in each of the following situations except: A. Wages were deposited in the taxpayer's bank account on December 26, 2020, but were not withdrawn by the taxpayer until January 8, 2021. B. A taxpayer was informed his check for services was available on December 15, 2020. The taxpayer did not pick up the check until January 30, 2021. C. A taxpayer received a check on December 31, 2020, but did not deposit the check until January 5, 2021. D. A taxpayer's vacation property was sold on December 28, 2020. The payment was not received by the taxpayer until January 2, 2021, when the escrow company released the funds.

b (Only the wages and the bonus are taxable ($30,000 + $2,000). The parking pass is a nontaxable transportation benefit, and the employer contributions are not taxable until Chandra withdraws the money from her retirement account. Chandra does not have to report the use of the copier, because it is considered a de minimis fringe benefit.)

3. Chandra received the following income and fringe benefits in 2020: Wages $30,000 End-of-the-year bonus $2,000 Parking pass per month $90 Employer contributions to her 401(k) plan $900 Occasional free use of a copier on the emloyer's premises $15 How much income must Chandra report on her tax return? A. $30,000 B. $32,000 C. $32,500 D. $34,480

d (All tip income is subject to federal income tax, whether cash or noncash. An individual who receives less than $20 per month of tips while working one job does not have to report the tip income to his employer, but the income is still subject to federal income tax and must be reported on the taxpayer's Form 1040.)

4. Which of the following tip income, if any, is exempt from federal income tax? A. Tips of less than $20 per month. B. Noncash tips. C. Tips not reported to the employer. D. None of the above - all tips are taxable.

a (All of the disability benefits can be excluded from Bartholomew's taxable income. VA disability compensation is exempt from taxation if the veteran was terminated through separation or discharged under honorable conditions. The VA does not issue Form W-2, Form 1099-R, or any other tax-related documents for veterans' disability benefits.)

5. Bartholomew is a naval officer who was injured while serving in a combat zone. He was later awarded Veterans Affairs (VA) disability benefits. How are these payments reported on Bartholomew's tax return? A. 100% of the disability benefits may be excluded from income. B. Up to 50% of the disability benefits may be excluded from income. C. 100% of the disability benefits may be excluded from income for enlisted personnel, but not for officers. D. The disability benefits are all taxable as pension income.

b (An employer-provided company car would be partially taxable if it was used for personal driving. The value of the personal use of the automobile must be added to the employee's wages. These valuation rules are covered in IRS Publication 15-B, Employer's Tax Guide on Fringe Benefits.)

6. Which of the following fringe benefits is taxable (or partially taxable) to the employee? A. Health insurance covered 100% by the employer. B. An employer-provided company car that is used for commuting. C. Group-term life insurance coverage of $50,000. D. Employer contributions to an employee's 401 (k) plan.

a (Meals furnished to Alida are not taxable because they are for the convenience of the employer. Meals that employers furnish to a restaurant employee during, immediately before or after the employee's working hours are considered furnished for the employer's convenience. Since Alida is a waitress who works during the normal breakfast and lunch periods, Flavian can exclude from her wages the value of those meals. If Flavian allowed Alida to have meals without charge on her days off, the value of those meals would be included in her wages.)

7. Flavian owns a restaurant. He furnishes his daytime waitress, Alida, two meals during each workday. Flavian encourages (but does not require) Alida to have her breakfast on the business premises before starting work so she can help him answer phones. She is required to have her lunch on the premises. How should Flavian treat this fringe benefit to Alida? A. None of Alida's meals at the restaurant are taxable. B. All of Alida's meals at the restaurant are taxable. C. Alida's lunch is not taxable, but her breakfast is. D. Alida's meals are taxed at a flat rate of 15%.

d (Adjusted gross income (AGI) is gross income (the sum of all income subject to taxation that the taxpayer receives during the year) minus certain allowable deductions or adjustments. AGI is calculated before the standard deduction, or itemized deductions are taken.)

8. What is "adjusted gross income"? A. The sum of all sources of taxable income that the taxpayer receives during the year, minus any allowable credits. B. The amount of earned income a taxpayer receives during the year. C. Another term for taxable income. D. Gross income minus certain allowable adjustments, calculated before the standard deduction or itemized deductions are taken.

c (Wage income is never considered self-employment income. The other examples listed are all types of self-employment income and subject to self-employment tax on Form 1040.)

9. Self-employment income does not include: A. The income of ministers for the performance of services such as baptisms and marriages. B. Ordinary partnership income allocated to general partners on Schedule K-1. C. Wages earned by a temporary employee. D. Payments to independent contractors.

not taxable

ACCOUNTABLE PLANS Reimbursement of Employee-Business Expenses: When a business reimburses its employees for certain business expenses, such as meals and travel, reimbursements are ___ ___ income if employees meet all of the following requirements of an accountable plan: Have incurred the expenses while performing services as employees. Adequately account for travel, meals, and lodging. Provide evidence of their employee business expenses, such as receipts or other records. Return any excess reimbursement within a reasonable time. Under an accountable plan, a business may advance money to employees. The cash advance must be reasonably calculated to equal the anticipated expenses, and it must be advanced within a reasonable period of time. If any expenses reimbursed under this arrangement are not substantiated, they are considered taxable income for the employee.

combat

COMBAT PAY ___ Pay and Veterans' Benefits: Wages earned by military personnel are generally taxable. However, there are several special rules for military personnel regarding taxable income. Combat zone wages (combat pay) are not taxable income. Hazardous duty pay is also excludable for certain military personnel. Enlisted personnel who serve in a combat zone for any part of a month may exclude their pay from tax. For officers, the pay is excluded up to a certain amount, depending on the branch of service. Example: Yakov is an Air Force pilot who served in a combat zone from January 1, to November 3. He is only required to report his income for December, because all of the other income is excluded from taxation as combat-zone pay. Even though Yakov only served three days in November in a combat zone, his income for the entire month of November is excluded. Similarly, veterans' benefits paid by the Department of Veterans Affairs to a veteran or his family are not taxable if they are for education (the GI Bill), training, disability compensation, work therapy, dependent care assistance, or other benefits or pension payments given to the veteran because of disability.

restrictions, constructively, unqualified demand

CONSTRUCTIVE RECEIPT OF INCOME (1) The doctrine of constructive receipt requires that cash basis taxpayers be taxed on income when it becomes available and is not subject to substantial limitations or ___, regardless of whether it is actually in their physical possession. Income received by an agent for a taxpayer is ___ received in the year the agent receives it. If there are significant restrictions on the income, or if the income is not accessible to the taxpayer, it is not considered to have been constructively received. According to the IRS constructive receipt requires that an amount credited to an individual's account be subject to "___ ___."

gross, exempt, interest, dividends, capital gains, adjusted, subtracting, deductions, adjustments, for AGI

Calculating Taxable Income ___ income is all income a taxpayer receives in the form of money, goods, property, and services that are not ___ from tax. In addition to wages, salaries, commissions, tips, and self-employment income, gross income includes other forms of compensation, such as ___, ___, ___ ___, taxable fringe benefits, and stock options. Next, the taxpayer calculates his ___ gross income (AGI) by ___ from gross income certain specific ___ or ___. Examples of some of these "___ ___" (commonly referred to as "above the line") deductions include certain IRA contributions, certain expenses for self-employed individuals, deductible alimony payments, and moving expenses. The amount of a taxpayer's AGI is important because it helps determine eligibility for certain deductions and credits.

pays, premiums, taxable income

DISABILITY INSURANCE BENEFITS A taxpayer may also receive long-term disability payments as a result of an insurance policy. As a general rule, long-term disability payments from an insurance policy are excluded from income if the taxpayer ___ the ___ for the policy. If an employer pays the insurance premiums, the employee must report the payments as ___ ___. If both an employee and his employer have paid premiums for a disability policy, only the employer's portion of the disability payments would be reported as taxable income. Disability Insurance Premiums - The employer pays 100% - 100% taxable The employer pays a portion and employee pays the balance with post-tax dollars - Partially taxable; the taxable percentage is based on the premiums paid by the employer The employer pays a portion and employee pays the balance with pretax dollars - 100% Taxable The employee pays 100% with post-tax dollars - Not Taxable The employee pays 100% with pre-tax dollars - 100% Taxable

not taxable, exempt

DISABILITY PAYMENTS There are several types of disability payments, and the taxability of the income depends on several factors. Some types of disability-related payments are given to workers that are ___ ___at all. Worker's compensation is one such example. Worker's compensation should not be confused with disability insurance, sick pay, or unemployment compensation; it is a type of benefit that only pays workers who are injured on the job. Worker's compensation is paid to a taxpayer under a worker's compensation act or another state statute. The amounts are always ___ from tax. Workers' compensation is a type of mandatory business insurance, meaning most large and mid-sized employers are required to have coverage for their employees.

taxable, wages, pension, wages, pension

DISABILITY RETIREMENT BENEFITS Disability retirement benefits are ___ as ___ if a taxpayer retired on disability before reaching the minimum retirement age. The benefit is usually based on the employee's final average earnings and their years of actual service. Once the taxpayer reaches retirement age, the payments are no longer taxable as wages. They are taxable as ___ income. This type of disability retirement benefit is offered to most Federal government workers and U.S. Postal Service employees. To apply for this benefit, the employee's disability generally must have caused them to discontinue working. Example: Sloan is a U.S. Postal Service employee. She is 50 years old and has worked for the postal service for over sixteen years, but she is still many years away from official retirement age. On January 10, Sloan sustains a life altering spinal injury and becomes permanently disabled. She immediately applies for disability retirement under the Federal Employees Retirement System, or FERS, and is awarded disability retirement benefits. Her disability retirement benefits will be taxable as ___ until she reaches retirement age (usually 62 years of age). After she reaches retirement age, the benefits will be taxable as ___ income instead of wages. See: U.S. OFFICE OF PERSONNEL MANAGEMENT: https://www.opm.gov/retirement-services/fers-information/types-ofretirement/#url=Disability https://www.opm.gov/forms/pdfimage/sf3112-2.pdf

wages, income, services, FICA, interest, dividends, disability, not subject, credits

EARNED INCOME VS. UNEARNED INCOME Earned income such as ___, salaries, tips, professional fees, or self-employment ___ is received for ___ performed. Earned income is generally subject to Social Security and Medicare taxes (also called ___ taxes). Unearned income includes ___, ___, retirement income, taxable alimony, and ___ benefits. Investment income and other unearned income are generally ___ ___ to FICA taxes. The amount of taxable income is used to determine the taxpayer's gross income tax liability before applicable ___.

taxable, deductible, employees, independent contractors, SS-8, 8919

EMPLOYEE COMPENSATION AND WORKER CLASSIFICATION Wages, salaries, bonuses, tips, and commissions are compensation received by employees for services performed. Employee compensation is ___ income to the employee and a ___ expense for the employer. For federal tax purposes, the IRS classifies "workers" in two broad categories: ___ or ___ ___. These workers are taxed in different ways, and businesses must identify the correct classification for each individual to whom it makes payments for services. The general rule is that an individual is an independent contractor if the payer has the right to control or direct only the result of the work, not what will be done and how it will be done. If a worker receives a Form 1099-NEC, but believes that they are an employee and should have received a Form W-2 instead, they can file Form ___, Determination of Worker Status for Purposes of Federal Employment Taxes and Income Tax Withholding with the IRS, and if a determination is made that they are an employee, they will file Form ___, Uncollected Social Security and Medicare Tax on Wages, with their tax return.

excluded, report, return

Example Example: Lance is a popular recording artist who earned more than $2 million of taxable income during the year. Because of his high income, many tax deductions and credits are phased out for Lance. However, during the year, Lance is involved in an auto accident and sustains major injuries. Lance sues the other driver and receives an insurance settlement of $95,000 related to his injuries resulting from the accident. The settlement is ___ from his gross income because compensation for physical injuries is not taxable to the recipient, regardless of his taxable income level. Lance does not even have to ___the injury settlement on his tax ___.

2021

Example (1) Example: Raakel owns a large plot of land in Chicago, IL. On January 2, 2020, the county filed a condemnation action to acquire Raakel's land in order to build a public highway. Raakel does not want to sell her land and decides to fight the condemnation. On May 1, 2020, the county deposited $800,000 as "probable compensation" for the property with the IL state treasurer. Raakel could have withdrawn the funds, but to do so would have jeopardized her ability to sue. On June 4, 2020, Raakel files a lawsuit against the county, challenging the government's right to take her property. Raakel eventually settles the lawsuit, but not until the following year, when she and the county agree to a settlement. Raakel finally accepts the condemnation award for her property on March 31, 2021. In this case, constructive receipt occurred in ___. (based on PLR 200944012)

8919

Example Example: Kristin got hired to work as a file clerk for a small car wash company. The business classified Kristin as an independent contractor in order to avoid having to pay payroll taxes. Kristin worked in the office every day from 9-5, under the full control of the company, and was clearly an employee. The business issued Kristin a 1099-NEC at the end of the year. Kristin disagrees with her classification, so she fills out Form SS-8 and files it with the IRS. The IRS will investigate the classification issue and if they determine that she was an employee they will make sure that her employer pays the payroll taxes that were their responsibility, and Kristin will be liable for the income tax on the amount that she earned, just as she would have been, had she been classified correctly. She would file Form ___with her tax return to account and pay for her share of Social Security and Medicare taxes on her wages.

taxes, fair, received, constructive

Example (2) Example: Lucia won front-row concert tickets valued at $1,200 from a local radio station. The value of the tickets is clearly printed on the tickets. Lucia would be required to pay ___ based on the ___ market value of the tickets. However, on the day of the concert, the radio station does not receive the tickets in time from the promoter, and Lucia is not able to attend the concert. Since she never ___ the tickets, the prize is not taxable to her because she never had ___ receipt of it.

excluded

Example: Bennett owns Greenhaven Farms. He has 10 employees. Severe storms struck the area and all of the company's crops were at risk. Bennett asks all his employees to work overtime in order to bring in crops and secure the farm buildings and fencing. During this emergency situation, Bennett gives his employees $25 in cash to purchase their lunch and dinner at a nearby deli. The amounts would be ___ from the employees' wages as a de minimis benefit, because the storm is an unusual and infrequent occurrence.

49000, offset, each, individual

Example: Brian is a sole proprietor who owns a barbershop. He has $49,000 of net income from the business. His wife, Ellen, has a candle-making business, which has overall losses of ($12,000). Brian must pay self-employment tax on $___, regardless of how he and Ellen choose to file. That is because married couples cannot ___ each other's income from self-employment, even if they file jointly, for self-employment tax purposes. The income of ___ business is allocated to each ___.

fails, taxable, additional compensation

Example: Dixie Motorsports is a small corporation with forty-five employees. The sole shareholder of the company, Randall, sets up a cafeteria plan as well as a 401(k) retirement plan. However, he only allows his wife and his two sons to participate in the plans. The rest of the employees are not offered any type of benefits, and in fact, are never told about the plans. Later, Dixie Motorsports goes through a plan audit and the company ___ discrimination testing. Randall is forced to recognize the value of his pretax benefits as ___ income. Randall's spouse and his two sons are also considered HCEs because they are Randall's family members, so they are also forced to recognize their benefits as taxable income, as well. They will be required to amend the business' tax returns as well as their individual returns to include the ___ ___.

not taxable, reported

Example: Hudson is a construction worker. In January, he is struck by falling concrete on a construction site. The concrete crushes his pelvis, causing catastrophic injuries and a long hospital stay. Worker's compensation covers Hudson's medical costs as well as a portion of his lost wages while he is recovering from the injury. The amounts are ___ ___ to Hudson and do not need to be ___ on his tax return.

same, level, not taxable, deductible

Example: McGovern Energy, Inc. is a C corporation with 300 employees, twenty-five of whom are considered highly compensated employees. McGovern Energy's cafeteria plan and its benefits are available to all full-time employees, and the benefits offered are the ___ for everyone, regardless of the employee's ___ of pay. Everyone is treated equally under the plan. Therefore, the discrimination rules do not apply, and the employees' benefits are ___ ___, and fully ___by the employer as a business expense.

3360, 840

Example: Robyn became disabled during the year and began to receive a long-term disability benefit of $4,200 a month. The original insurance policy was paid for by both her employer and herself. Before Robyn became disabled, her employer paid 80% of the disability insurance premiums. Robyn paid the remaining premium amount (20%) with post-tax dollars. In this case, because the employer paid 80% of the policy premiums, 80% of the benefits received would be taxable to Robyn. This means that $___ ($4,200 x 80%) would be taxable. The remaining benefits of $___( 20% x $4,200) would not be taxable since Robyn paid that portion of the insurance premium with her own post-tax dollars.

27000, net

Example: Rocco is a married taxpayer who is a sole proprietor of two small businesses, a computer repair shop, and a car wash business that he runs only during the summer months. Rocco's wife is a homemaker and does not work in either business. Rocco's computer business has net income of $50,000, while the car wash has a net loss of ($23,000) for the year. Rocco only has to pay self-employment tax on $___ ($50,000 - $23,000) of income because he may ___ the income and losses from both his businesses.

de minimis

Example: Wayne works for Sunrise Dairy Farms as a farmhand. One day, there was an emergency on the farm where several dairy cows accidentally ingested tainted feed. The cows began to have seizures, and all the employees were forced to work overtime to stabilize the livestock and administer medicine. Sunrise Dairy Farms gives Wayne $20 in cash to purchase a meal during this unusual overtime shift. The cash can be excluded as a ___ ___ benefit because it is for the benefit of his employer that Wayne is working overtime, and it is an unusual and infrequent situation.

social security, medicare, 6.2, 6.2, 12.4, 1.45, 2.9, 0.9

FICA TAX (PAYROLL TAXES) The Federal Insurance Contributions Act (FICA) tax includes two separate taxes: one is ___ ___ tax and the other is ___ tax. The current rate for Social Security is ___% for the employer and ___ % for the employee, or ___ % total. The current rate for Medicare is ___ % for the employer and 1.45% for the employee, or ___ % total. There is no cap on earnings subject to the 2.9% Medicare tax. For certain high-income individuals, an additional Medicare surtax of ___ % is applied to wages and self-employment income above certain thresholds.

so little, copying, gifts

FRINGE BENEFITS De Minimis (Minimal) Benefits: This is a property or service an employer provides that has ___ ___ value that accounting for it would be impractical. Examples of de minimis benefits include the following: Occasional personal use of a company ___ machine. Holiday ___ with a low fair market value (an exclusion does not apply to cash or gift cards) Beverages and snacks, such as coffee or doughnuts for employees Cash and gift cards are not excludable as de minimis benefits unless they are for occasional meal money or transportation fare. In order to be non-taxable, the benefit must also be provided so that an employee can work an unusual, extended schedule.

5250, wages, fully deductible

FRINGE BENEFITS Educational Assistance: An employer can offer employees educational assistance for the cost of tuition, fees, books, supplies, and equipment. The payments may be for either undergraduate or graduate level courses, and do not have to be work-related. Up to $___ in educational assistance may be excluded per year per employee. If an employer pays more than $5,250, the excess is generally taxed as ___ to the employee. There is an exception for job-related education. If the education is directly job related, amounts in excess of the $5,250 limit may qualify for exclusion as a working condition fringe benefit. For example, an accounting firm pays for a staff accountant to attend courses directly related to the preparation of business returns. Those amounts would be ___ ___ by the business and not taxable to the employee, even if the cost exceeded the annual limit.

400, 1600

FRINGE BENEFITS Employee Achievement Awards: Employers may generally exclude from an employee's taxable wages the value of awards given for length of service or safety achievement. The tax-free amount is limited to the following: $___for awards that are not qualified plan awards. A qualified plan award is one that does not discriminate in favor of highly compensated employees, and that is established under a written plan. $___ for qualified plan awards. Example: Wallace has worked for Financial Corp. for ten years. Financial Corp. makes a qualifying length-of service award to Wallace in the form of an engraved gold watch. The cost of the watch was $395. The watch was presented to Wallace during a meaningful presentation. All the company employees are eligible to receive length-of-service awards based on their tenure with the company. The watch is deductible to Financial Corp. as a business expense, and the value of the watch is not taxable to Wallace. The exclusion for employee awards does not apply to awards of cash, gift cards, lodging, stocks, bonds, or tickets to sporting events.

premises, convenience, not be, choose, instead, excluded

FRINGE BENEFITS Employer-Provided Meals and Lodging: An employer may exclude the value of meals and lodging provided to employees if they are provided: On the employer's business ___, and For the employer's ___. For lodging, there is an additional rule: it must be required as a condition of employment. Lodging can be provided for the taxpayer, the taxpayer's spouse, and the taxpayer's dependents and still ___ ___ taxable to the employee. The exclusion from taxation does not apply if the employee can ___ to receive additional pay ___ of lodging. Example: Patrick is a project supervisor for Birchwood Construction. He is provided free lodging at remote job sites in an RV, where he is required to stay on-site for several months while the timber is cleared and the grounds are prepared for construction projects. The value of the lodging and his meals are ___ from his income because it is primarily for the employer's security and convenience.

wages

FRINGE BENEFITS Group-Term Life Insurance Coverage: Up to $50,000 of life insurance coverage may be provided as a nontaxable benefit to an employee. The cost of insurance coverage on policies that exceed $50,000 is a taxable benefit. If an employer provides more than $50,000 of coverage, the amount included in the taxpayer's income is reported as part of their taxable wages on their Form W-2. The taxable amount is shown separately with a "code C" in box 12 of their Form W-2. Work-Related Moving Expense Reimbursements: Moving expenses are no longer deductible for most taxpayers, except for certain members of the armed forces. Therefore, moving expenses that are reimbursed or paid by an employer must be included in the employee's taxable income as wages. Example: Margaret was offered a new job in another state on November 1. Her new employer offered to reimburse her moving expenses as a condition of her employment. She accepted the position and moved on December 16. Margaret submits the paperwork, and her employer reimburses her moving expenses. Even though she submitted receipts for reimbursement, all of the amounts would be taxable to Margaret as ___. The employer may deduct the amounts as employee compensation, and all the normal payroll taxes that are applicable to regular wages would apply.

income, airline seat, rooms, no additional, nontaxable

FRINGE BENEFITS No-Additional-Cost Services: Nontaxable fringe benefits also include services provided to employees that do not impose any substantial additional cost to the employer because the employer already offers those services in the ordinary course of doing business. Employees do not need to include these no-additional cost services in their ___. Typically, no additional-cost services are excess capacity services, such as unused ___ ___ tickets for airline employees or open hotel ___for hotel employees. Example: Dalilah is a flight attendant with Starlight Airlines. She is allowed to fly for free on standby flights when there is an extra seat. This fringe benefit is allowed at ___ ___ cost to the employer and is therefore ___ to Dalilah.

taxable income, transit, wages, requires

FRINGE BENEFITS Transportation Fringe Benefits: Employers may provide transportation benefits to their employees up to certain amounts without having to include the benefits in the employees' ___ ___. Qualified transportation benefits include ___ passes, paid parking, and a ride in a commuter highway vehicle between the employee's home and workplace. Due to the TCJA, transportation benefits are no longer deductible by the employer, but transportation benefits are still non-taxable to the employee if the employer continues to provide the benefit. Any expense over the threshold amount is included in the employee's taxable income as ___. An employee can receive both parking and transit benefits in the same month. The use of a company car for commuting purposes or other personal use is generally a taxable benefit. Therefore, the value of the vehicle's use for either of these purposes is considered taxable wages to the employee. There is an exception in IRS regulations that exempts the personal-use of certain types of vehicles. Qualified nonpersonal use vehicles, such as police or fire vehicles, school buses, and ambulances are exempt from fringe benefit reporting, even if the vehicles are used for commuting purposes, as long as the employer ___ their use for the employees to do their jobs.

exclude, not taxable, would be

FRINGE BENEFITS Tuition Reduction Benefits: A college or other educational institution can ___ the value of a qualified undergraduate tuition reduction to an employee, his spouse, or a dependent child. A tuition reduction is "qualified" only if the taxpayer receives it from, and uses it at, an eligible educational institution. Graduate education only qualifies if it is for the education of a graduate student who performs teaching or research activities for the educational organization. Example: Mayra is a graduate teaching assistant at Louisiana State University. As part of her employment agreement with the college, Mayra is offered a 50% tuition waiver, reducing the cost of her own graduate tuition at the school. The normal graduate tuition cost is $14,800 per year. Because of the tuition waiver, Mayra only pays $7,400. The tuition reduction is ___ ___ to Mayra, but any wages that she receives as compensation for student teaching ___ ___ taxable.

cafeteria, reimburses, maximum

Flexible Spending Arrangements (FSAs) An FSA is a form of ___plan benefit that ___ employees for expenses incurred for certain qualified benefits, such as health care and daycare expenses. Both employer and employee may contribute to an employee's health-care FSA, but contributions from all sources combined must not exceed the annual ___. The benefits are subject to annual maximum limits and are typically subject to an annual "use-it-or-lose-it" rule, with a short (two-and-a-half-months) grace period after year-end to use any remaining balance, although last minute legislation changed these rules for 2020 and 2021.

carryover, 14, 500

Flexible Spending Arrangements (FSAs) As part of the disaster relief provisions implemented by the Consolidated Appropriations Act of 2021, employers may allow employees to ___ unused benefits or contributions remaining in an FSA from 2020 to 2021. If a dependent aged out during the pandemic, use of dependent FSA (DCFSA) funds is permitted up to age ___ rather than the usual age 13. Employers can also allow employees to change their FSA contribution elections outside of open enrollment for plan years ending in 2021. Typically, up to $___of unused FSA money per account may be carried over to the following year. An employer must choose between either a grace period (where the period to use the FSA funds from one year extends into the following year) or the "carryover" option. 2020 and 2021 are unusual because participants are allowed, if permitted by their employer, to roll over all unused amounts in their health and dependent care flexible spending accounts (FSAs) from 2020 to 2021 and from 2021 to 2022.

gross income, above the line, adjusted gross income, itemized, standard, taxable, liability, credits, net tax, refund

How to Calculate Taxable Income and Tax Liability for Most Individuals Start with ___ ___ Subtract adjustments to income ("___ ___ ___" deductions) = ___ ___ ___ (AGI) Subtract greater of ___ deductions or the ___ deduction = ___ income × Tax rate = Gross tax ___ Subtract ___ = ___ ___liability or ___ receivable (based on the amount of prepaid tax, if any)

excluded, deduction, increases, reported, bond

In General The Internal Revenue Code (IRC) describes types of income that are taxable and nontaxable. Federal tax law sets forth that all income is taxable unless it is specifically ___. An exclusion is not the same as a ___, and it is important to understand the distinction because some deductions and credits are phased out as a taxpayer's gross income ___. Excluded income, on the other hand, retains its character without regard to the amount of the taxpayer's gross income. Most types of excluded income do not have to be ___ on a tax return, although there are some notable exceptions, like municipal ___ interest.

death, accident, health, interest, taxable, terminally, 24

LIFE INSURANCE PAYMENTS Life insurance payouts generally are not taxable to a beneficiary if the payment was the result of the ___ of the insured. This is true even if the proceeds were paid under an ___ or ___ insurance policy. However, ___ income received as a result of life insurance proceeds is usually ___. A terminally ill person may receive a viatical settlement. In this case, the funds are tax-free. A "viatical settlement" when the policyholder is deemed to be ___ or chronically ill and executes a "deemed sale" of their life insurance policy. As long as the taxpayer has proof from a physician that they have a life expectancy of ___ months or less, the sale of their life insurance policy is treated as a viatical settlement and is tax-free.

not taxable, taxable, include

MEDICARE WAIVER PAYMENTS Example: Alina moved into her elderly mother's home to care for her. Alina begins to receive $575 monthly payments under a state Medicaid Home and Community-Based Services waiver program for supportive home care. The payments are ___ ___ to Alina. Example: Timothy cares for his elderly uncle five days a week. Timothy eats all his meals at his uncle's home and sleeps there occasionally. Most evenings and weekends, Timothy leaves work at 6PM and goes home to his wife and family in their separate home. Timothy receives monthly Medicaid waiver payments for his uncle's care. Since Timothy has a separate home, the Medicare waiver payments are ___ to Timothy. Taxpayers who receive these payments may choose to ___ them in their income for purposes of the earned income credit (EITC) or the additional child tax credit (ACTC).

excluded, amended

MEDICARE WAIVER PAYMENTS In Feigh v. Comm'r, Mary Feigh received Medicaid waiver payments from Minnesota to care for her disabled son. She ___ the payments from gross income but also claimed the EITC and additional child tax credit (ACTC) based on the payments. On March 30, 2020, the IRS acquiesced to the court's decision, meaning that returns from prior years for which the statute of limitations has not expired can be ___to claim the EITC and ACTC even though the Medicare waiver payments are being excluded from income.

excluded

MEDICARE WAIVER PAYMENTS Medicare Waiver Payments: Medicare waiver payments are also called "difficulty-of-care" payments. Payments to a taxpayer for home-care services provided to a disabled individual living in the same residence may be ___ from gross income. The exemption applies to individuals who provide care in their home, regardless of who owns the home. The taxpayer does not have to be related to the disabled individual, although generally this is the case. Note: Qualified waiver payments may be excluded from income only when the care provider and the care recipient reside in the same home. When the care provider and the care recipient do not live together in the same home, the Medicare waiver payments may not be excluded from gross income.

favored, 25, lose

NONDISCRIMINATION TESTING A plan is considered to have improperly "___" HCEs and key employees if more than ___% of all the benefits are given to those employees. If a cafeteria plan or a retirement plan fails to pass IRS nondiscrimination testing, highly compensated employees and key employees may ___ the tax benefits of participating in the plan. If this happens, then the plans can lose their tax favored status, and the HCEs or key employees must include the value of these benefits as taxable compensation. These types of "corrections" often take the form of taxable distributions to plan participants.

income, accident, flexible, adoption

Non-Taxable Fringe Benefits Most fringe benefits are not taxable and may be excluded from an employee's income. For example, the value of accident or health plan coverage provided by an employer is not included in an employee's ___. The following sections cover the rules for some common types of nontaxable employee fringe benefits. Cafeteria Plans: A cafeteria plan provides employees an opportunity to receive certain benefits on a pretax basis. Participants in a cafeteria plan must be permitted to choose from at least one taxable benefit (such as cash) and one qualified (nontaxable) benefit. Qualified benefits include: ___, dental, vision, and medical benefits (but not Archer medical savings accounts or long-term care insurance) ___ Spending Accounts (health FSA and dependent care FSA), ___ assistance and dependent care assistance

ministers, K-1,

SE Income Self-employment income also includes: Income of ___ , priests, and rabbis for the performance of services such as baptisms and marriages. The distributive share of trade or business income allocated by a partnership to its general partners. The income is reported to the individual partners on Schedule ___ (Form 1065). A taxpayer does not have to conduct regular full-time business activities to be considered self-employed. A taxpayer may have a side business in addition to a regular job, and this is also considered self-employment

400, 1099-NEC, 600, C, F

SELF-EMPLOYED TAXPAYERS Self-employment income is earned by taxpayers who work for themselves. A taxpayer who has self-employment income of $___ or more in a year must file a tax return and report the earnings to the IRS. Taxpayers who are independent contractors usually receive Form ___ -___ from their business customers showing the income they were paid for the year (if $___ or more). The amounts reported on Forms 1099-NEC, along with any other business income, are reported by most self-employed individuals on Schedule ___, Profit or Loss from Business, of Form 1040. Self-employed farmers or fishermen report their earnings on Schedule ___ , Profit or Loss from Farming, of Form 1040.

SE, net, married

Self-Employment Tax Self-employment tax (SE tax) is imposed on self employed individuals in a manner similar to the Social Security and Medicare taxes that apply to wage earners. Self-employment tax is calculated on IRS Schedule ___ , Self-Employment Tax. More Than One Business: If a taxpayer owns more than one business, he must ___ the profit or loss from each business to determine the total earnings subject to SE tax. However, ___ taxpayers cannot combine their income or loss from self-employment to determine their individual earnings subject to SE tax.

year, deducted, schedule C, different, 3000

THE "CLAIM OF RIGHT" DOCTRINE Under the "claim of right" doctrine, income received without restriction (over which the taxpayer has complete control) must be reported in the ___ received, even if there is a possibility it may have to be repaid in a later year. The tax treatment of the repayment differs based on the type of income. If the taxpayer is self-employed, and if in the prior year it had been included as self-employment income, the repayment is ___ on ___ ___ by reducing income in the year the amounts were repaid. However, if the income was previously reported as wages, taxable unemployment compensation, Social Security, or other nonbusiness income, the tax treatment is ___ . If there is a dispute and income is later repaid, the repayment is not deductible in the year repaid unless the repayment is over $___.

health insurance, w-2, taxable income, health club, 50000, personal

Taxable Fringe Benefits Employers often offer fringe benefits to employees; common fringe benefits include ___ ___, retirement plans, and parking passes. Although most employee fringe benefits are nontaxable, some benefits must be reported on the employee's Form ___-___ and included in his ___ ___. Most entertainment expenses are no longer deductible. Therefore, the cost of entertainment provided to an employee is no longer a non-taxable fringe benefit. This means that an employer can no longer provide occasional sporting event tickets as a nontaxable benefit to employees. Examples of taxable fringe benefits include: Off-site athletic facilities and ___ ___memberships, Concert and athletic event tickets, The value of employer-provided life insurance over $___, Any cash benefit or benefits in the form of a credit card or gift card (an exception applies for occasional meal money or transportation fare to allow an employee to work beyond normal hours), Transportation benefits, if the value of a benefit for any month is more than a specified nontaxable limit, Employer-provided vehicles, if they are used for ___ purposes.

exempt, reported

VETERAN'S DISABILITY BENEFITS Veteran's disability benefits (also called VA Disability Compensation) are a type of disability benefit paid specifically to a veteran for disabilities that are service connected, which means the injury or disease linked to their military service. Veteran's disability benefits are ___ from taxation if the veteran was terminated through separation or discharged under honorable conditions. The VA typically does not issue Form W-2, Form 1099-R, or any other tax-related document for veterans' disability benefits. Example: Phoebe is a Navy veteran who was discharged after she sustained a serious injury in Iraq. She lost vision in one eye and the use of one hand due to an explosion. Since Phoebe's discharge from the Armed Forces, she has received $1,950 per month in Veteran's disability benefits. She now has a civilian job working in a factory, where she earns regular wages as an employee. Her wages are taxable, but the disability compensation remains non-taxable to Phoebe. Her veteran's disability benefits do not need to be ___ on her tax return.

for

___ AGI means Above-the-line