Unit 4: Above-the-line Deductions and Losses

Which one of the following is NOT an adjustment to total income in arriving at adjusted gross income? A. Contributions to a Roth IRA. B. Portion of health insurance of self-employed persons. C. Certain contributions to a medical savings account. D. Interest paid on student loans.

A. Contributions to a Roth IRA. Section 408A(c)(1) disallows any deduction for contributions made to a Roth IRA (Publication 17).

Each of the following would be one of the requirements for a payment to be alimony under instruments executed after 1984 EXCEPT A. Payments are from spouses filing a joint return. B. Payments are cash equivalents. C. Payments are not designated in the instrument as not alimony. D. Payments are not made to and from spouses in the same household at the date of payment.

A. Payments are from spouses filing a joint return. Section 215 allows a deduction for alimony or separate maintenance payments (Sec. 71). Section 71(b) defines alimony as any payment in cash if (1) it is received under a divorce or separation instrument, (2) the instrument does not designate the payment as not includible in gross income, (3) the payee spouse and payor spouse are not members of the same household at the time the payment is made, and (4) there is no liability to make such payment for any period after the death of the payee spouse. However, the spouses cannot file a joint tax return when the payments are being made (Publication 17).

In the current year, the Aloha Gardens apartment complex had rental losses of $40,000. Which of the following is true? A. Steve and his wife Barbara each have a 5% interest in the property and manage the apartments. They had nonpassive income of $30,000 for the year. They may offset their share of the rental loss against their nonpassive income. B. John's estate has a 20% interest in the property. John was actively involved in managing the complex from 2008 until his death in 2014. His estate may offset its portion of the rental loss against any nonpassive income. C. T Trust has a 40% interest in the property. The trustee is active in managing the apartments. The trust may offset its portion of the rental loss against other income earned during the year. D. Kathy has an interest as a limited partner in the property. Her nonpassive income for the year is $50,000. She may offset her portion of the rental loss against her nonpassive income up to $25,000.

A. Steve and his wife Barbara each have a 5% interest in the property and manage the apartments. They had nonpassive income of $30,000 for the year. They may offset their share of the rental loss against their nonpassive income. In the case of rental real estate activities in which an individual actively participates, up to $25,000 of losses from such activities are allowed each year against nonpassive income [Sec. 469(i)]. Active participation requires only participation such as making management decisions on lease terms, tenant approvals, repair versus replacement decisions, etc., even if an agent handles day-to-day matters. An individual is not treated as actively participating in a rental real estate activity if the individual's and spouse's interests are less than 10% of all interests in the activity [Sec. 469(i)(6)(A)]. Since Steve and his wife together own 10% of the property and manage the apartments, they qualify for allowing up to $25,000 of rental real estate losses against nonpassive income (Publication 925). Their share of the losses is $4,000 ($40,000 × 10%).

Joe divorced Renee last year. During the current year, per the divorce decree, Joe made the following payments to Renee: The entire mortgage payment on house jointly owned: $9,600 Tuition for their child: 2,800 Child support: 6,000 Life insurance premiums on policy owned by Renee: 5,400 What is the amount Joe can deduct as alimony on his tax return? A. $8,200 B. $10,200 C. $5,400 D. $11,400

B. $10,200 Section 215 allows a deduction for alimony or separate maintenance payments as defined under Sec. 71. Section 71(b) defines alimony as any payment in cash if (1) it is received under a divorce or separation instrument, (2) the instrument does not designate the payment as not includible in gross income, (3) the payee spouse and payor spouse are not members of the same household at the time the payment is made, and (4) there is no liability to make such payment for any period after the death of the payee spouse. The mortgage payment attributable to Renee's ownership, or $4,800, is deductible as alimony. The life insurance premium payment is deductible as well (Publication 17). Therefore, the total alimony deduction is $10,200.

In 2018, Rusty paid $5,000 of interest on a qualified education loan. Rusty is not claimed as a dependent by another taxpayer. What is the maximum deduction available to him for the education loan interest? A. $5,000 B. $2,500 C. $0 D. $2,000

B. $2,500 Individuals are allowed to deduct interest paid during the tax year on any qualified education loan. The maximum amount that may be deducted is $2,500.

Caitlin served as a kindergarten aide for 1,000 hours. She incurred $350 in expenses for books and supplies used in the classroom and was not reimbursed by the school. What amount is Caitlin entitled to as the educator's expense deduction on her income tax return? A. $350 B. $250 C. $175 D. $0

B. $250 Primary and secondary school educators may claim an above-the-line deduction for up to $250 annually in unreimbursed expenses paid or incurred for books and supplies used in the classroom. An eligible educator is an individual who, for at least 900 hours during a school year, is a kindergarten through grade 12 teacher, instructor, counselor, principal, or aide (Publication 553). Therefore, Caitlin may deduct $250 as an educator's expense.

Horace and Matilda are married and filing a joint tax return for the year. Horace teaches a 3rd grade class and Matilda teaches a 6th grade class at Oak Elementary School. What is the maximum amount of qualified educator expenses they may deduct on their tax return for the year? A. $750 B. $500 C. $250 D. $0

B. $500 Primary and secondary school educators may claim an above-the-line deduction for up to $250 annually in unreimbursed expenses paid or incurred for books and supplies used in the classroom (Publication 17). For taxpayers who are married and filing jointly, the deduction is doubled ($500), as long as both taxpayers are eligible educators.

James (33) and his wife Erica (31) established a Health Savings Account (in conjunction with a high-deductible health plan) on February 1, 2018. The annual health plan deductible is $10,000. What is the maximum amount that can be contributed to the Health Savings Account? A. $7,900 B. $6,900 C. $6,325 D. $10,000

B. $6,900 For family coverage, the taxpayer or his or her employer can contribute up to the amount of the annual health plan deductible, but not more than $6,900 for 2018. Under the last-month rule, a taxpayer is eligible for the entire year if the taxpayer is eligible on the first day of the last month of the year (Publication 969).

Which of the following would be considered passive activity income? A. State, local, and foreign income tax refunds. B. None of the answers are correct. C. Personal service income. D. Alaska Permanent Funds dividends.

B. None of the answers are correct. There are two kinds of passive activities: (1) trade or business activities in which the taxpayer does not materially participate and (2) rental activities, unless the taxpayer is a real estate professional (Publication 925).

Which of the following is NOT a payment deductible as alimony? A. Payments for life insurance premiums required by the divorce decree. B. Payments for child support required by the divorce decree. C. Payments for medical expenses of your spouse under the terms of the divorce decree. D. Half of the mortgage payment on a home jointly owned with your ex-spouse when required by the divorce decree.

B. Payments for child support required by the divorce decree. Alimony and separate maintenance payments are gross income to the recipient and deductible by the payor. The following are the requirements for qualified alimony payments. 1. The payment must be made in cash or equivalent. 2. Payment must be received on behalf of a spouse under a divorce or separation agreement. 3. Payee spouse and payor spouse must not be members of the same household at the time of payments. 4. The payor spouse is not liable for any payments after the death of the payee spouse. 5. The spouses must not file joint returns with each other. In addition, child support payments and any part of an alimony payment designated as child support are not deductible. Since child support payments are not deductible to the payor, these payments are not considered alimony (Publication 17).

Heathcliff and Gertrude file a joint income tax return for the current year. During the current year, Heathcliff received wages of $120,000 and taxable Social Security benefits of $5,000. Gertrude actively participated in a rental real estate activity in which she had a $30,000 loss. They had no other income during the current year. How much of the rental loss may they deduct on their current-year income tax return? A. $12,500 B. $25,000 C. $15,000 D. $0

C. $15,000 The $25,000 allowance of losses from active participation in rental real estate activities against nonpassive income is reduced by 50% of the amount by which adjusted gross income (determined without regard to Social Security benefits, IRA contributions, and passive losses) exceeds $100,000 [Sec. 469(i)(3)]. Heathcliff and Gertrude's adjusted gross income exceeds $100,000 by $20,000. Therefore, the $25,000 allowance is reduced by $10,000 ($20,000 × 50%). This leaves $15,000 of losses that can be deducted (Publication 925).

Bernie is a self-employed accountant in 2018. He reported net income of $54,150 on his Schedule C for 2018. During the year, Bernie paid the following: $5,200 in child support, $5,000 in alimony, $6,000 in medical insurance premiums, self-employment tax of $7,650, and $2,000 to his IRA plan. What amounts are deductible in arriving at adjusted gross income? A. $25,850 B. $22,025 C. $16,825 D. $20,025

C. $16,825 Bernie is permitted to deduct certain expenses paid during the year from gross income. Alimony is deductible by the payor and is income to the recipient. Medical insurance premiums are 100% deductible by self-employed individuals. Also, Bernie is permitted to deduct the employer's portion of self-employment taxes paid ($3,825), calculated as $7,650 × 50%. Bernie is allowed a deduction for his IRA contribution (Publication 17). Therefore, the total deductions to calculate AGI are $16,825 ($5,000 + $6,000 + $3,825 + $2,000).

All of the outstanding stock of Bryant Corporation is owned equally by three individuals. Bryant is not a personal service corporation. During the current year, Bryant had active rental real estate income of $250,000, a passive loss on the rental of an office building (acquired in 1989) of $300,000, and portfolio income of $150,000. The corporation earns more than 60% of its gross receipts from the rental real estate in which it materially participates. How much of Bryant's income may be offset by the rental loss? A. $0 rental income and $150,000 portfolio income. B. No income may be offset. C. $250,000 rental income and $50,000 portfolio income. D. $250,000 rental income and $0 portfolio income.

C. $250,000 rental income and $50,000 portfolio income. Bryant Corporation is a closely held corporation because more than 50% of the value of its stock is held by five or fewer individuals during the last half of the year. After December 31, 1993, a closely held C corporation is not subject to the passive activity loss rules for real estate trades or businesses if during the tax year the corporation derives more than 50% of its gross receipts from the real property trades or businesses in which it materially participates [Sec.469(c)(7)(D) and Publication 925]. Therefore, Bryant may offset its $300,000 passive loss against active and portfolio income.

Mr. and Mrs. Smith are both employed and file joint federal income tax returns. Both Mr. and Mrs. Smith are covered by their employers' retirement plans. For 2018, Mr. Smith's salary was $39,000 and Mrs. Smith's was $13,000. They both have IRAs, and their combined modified adjusted gross income was $50,000. Mr. Smith contributed $5,500 to his IRA, and Mrs. Smith contributed $2,750 to her IRA. What is the maximum IRA deduction each is entitled to for 2018? Mr. Smith Mrs. Smith A. $0 $0 B. $0 $2,750 C. $5,500 $2,750 D. $2,750 $1,375

C. $5,500 $2,750 Section 219(g) limits the deductions made to IRAs by individuals filing a joint tax return when one or both are covered by their employers' retirement plans. For the taxpayer covered by the plan, the deduction is phased out beginning when AGI exceeds $101,000 in 2018. Since the Smiths' income does not exceed the phaseout limit for active participants, they may deduct the entire contribution.

All of the following are true about Health Savings Accounts EXCEPT A. A Health Savings Account can be a custodial account set up with a U.S. financial institution. B. The taxpayer need not have the insurance for the whole year to contribute the full amount. C. The amount that may be contributed to a taxpayer's Health Savings Account does not depend on the nature of the taxpayer's coverage and age. D. A Health Savings Account can be a tax-exempt trust.

C. The amount that may be contributed to a taxpayer's Health Savings Account does not depend on the nature of the taxpayer's coverage and age. The amount that may be contributed to a taxpayer's Health Savings Account depends on the nature of the taxpayer's coverage and age. A Health Savings Account is a tax-exempt trust or custodial account set up with a U.S. financial institution in which money can be saved exclusively for future medical expenses. The taxpayer is no longer required to have the insurance for the whole year to contribute the full amount.

Joanna completed 4 years of higher education in 2015 and makes a payment on her student loan debt each year. In 2018, Joanna paid $11,000 on her student loans, of which $8,400 is attributable to principal. What amount of this may be deducted as an above-the-line deduction for 2018? A. $8,400 B. $2,600 C. $11,000 D. $2,500

D. $2,500 The maximum deduction for student loan interest on qualified educational loans in 2018 is $2,500. Because Joanna paid $2,600 of interest ($11,000 payment - $8,400 attributable to principal), she will be able to deduct the upper limit of $2,500.

Chris, age 35, contributes the following amounts to his self-only Health Savings Account: $500 on April 30, 2018 $300 on September 16, 2018 $750 on December 31, 2018 $1,000 on February 5, 2019 $1,500 on April 30, 2019 What amounts are considered contributions to the Health Savings Account for 2018? A. $1,550 B. $3,450 C. $4,050 D. $2,550

D. $2,550 For self-only coverage, the taxpayer or his or her employer can contribute up to the amount of the annual health plan deductible, but not more than $3,450 (for taxpayers under 55). Contributions to a Health Savings Account for 2018 may be made until April 15, 2019 (Publication 969). Therefore, the contributions for 2018 equal $2,550 ($500 + $300 + $750 + $1,000).

When funds from an Archer MSA are distributed for qualified medical expenses, these funds are A. Generally included in the income of the taxpayer. B. Allocated between contributions made by the employer and the employee, and only the amount attributed to the contributions of the employee are included in income of the taxpayer. C. Always included in the income of the taxpayer. D. Generally excluded from the income of the taxpayer.

D. Generally excluded from the income of the taxpayer. Distributions for qualified medical expenses incurred for the benefit of the individual, a spouse, or dependents are generally excluded from income. Qualified medical expenses usually are unreimbursed expenses that would be eligible for the medical expenses deduction (Publication 17).

All of the following are requirements for a payment to be alimony (under instruments executed after 1984), EXCEPT A. Payments are not required after death of the recipient spouse. B. Payments are required by a divorce or separation instrument. C. Payments cannot be a transfer of services. D. Payments can be in cash or property.

D. Payments can be in cash or property. Section 215 allows a deduction for alimony or separate maintenance payments (Sec. 71). Section 71(b) defines alimony as any payment in cash if (1) it is received under a divorce or separation instrument, (2) the instrument does not designate the payment as not includible in gross income, (3) the payee spouse and payor spouse are not members of the same household at the time the payment is made, and (4) there is no liability to make such payment for any period after the death of the payee spouse. Thus, if the payments are in services or property and not cash, they cannot be considered alimony [Publication 17 and IRC Sec. 215, Sec. 71(b)].

Under which condition may a taxpayer claim the student loan interest deduction? A. Someone is claiming an exemption for the taxpayer on his or her tax return. B. The student loan is from a related person. C. The taxpayer's filing status is married filing separately. D. The taxpayer is legally obligated to pay interest on a qualified student loan.

D. The taxpayer is legally obligated to pay interest on a qualified student loan. According to Publication 17, a taxpayer may claim the student loan interest deduction if all four of the following requirements are met: Filing status is any filing status except married filing separately. No one else is claiming an exemption for the taxpayer on his or her tax return. The taxpayer is legally obligated to pay interest on a qualified student loan. The taxpayer paid interest on a qualified student loan.