437 chapter 7 textbook keywords and questions

qualified residence

"home" includes not only a traditional residence, but also mobile homes, trailers, boats, and timeshares. Provided that the "residence" has cooking, toileting, and sleeping facilities, it can be considered a residence for purposes of the qualified residence interest deduction

Below-the-line deductions can provide a significant benefit to taxpayers. Below-the-line deductions come in two forms:

(1) itemized deductions; and (2) the QBI (or Section 199A) deduction. Although above-the-line deductions are usually considered to be more favorable to the taxpayer because they are typically not subject to phaseout, and they reduce the taxpayer's AGI, itemized deductions can allow a taxpayer to take a below-the-line deduction in excess of the standard deduction Personal expenses are generally not deductible Medical Expenses • Taxes • Interest • Charitable Contributions • Casualty Losses • Miscellaneous Itemized Deductions Taxpayers can deduct the greater of their itemized deductions or the standard deduction when computing taxable income. A tax benefit is only achieved by itemizing deductions if the taxpayer's total itemized deductions exceed the standard deduction

three final charitable deduction rules

1. charitable deductions by corporations 2. contributions made to purchase sporting tickets from universities 3. raffle tickets sold by charitable organizations

Accountable Plan

A reimbursement plan that reimburses employees only for actual expenses incurred, and requires the employees to provide proof of, or "account for" their expenditures

non deductible fines example 7.9

Larry has an appointment with an important client at the client's home in Manhattan, and is having a difficult time finding a parking spot. Believing that his time is valuable, he parks in a no-parking zone and visits the client. When he returns, he finds a $200 parking ticket on his windshield. Larry will not be able to deduct the parking ticket as a local tax, since it was a fine for violating local law

specified service trade or business (SSTB)

A trade or business involving performance of services in the fields of health, law, accounting, actuarial services, consulting, performing arts, athletics, financial services, investing, investment management, trading or dealing in securities, and any trade or business where the principal asset of the business is the reputation or skill of one or more of its owners. SSTBs are permitted only limited use of the QBI deduction

timing of deductions

Medical expenditures are deductible in the year paid, since individuals are cash-basis taxpayers. To receive a tax benefit for medical expenses, medical expenses must exceed 10 percent of the taxpayer's AGI for tax years beginning after December 31, 2020 Only those expenses in excess of this threshold are deductible. This type of limitation is referred to as a "floor," since no deduction is allowed until the allowable expenses exceed the threshold. Medical expenses within the first 7.5 percent (through 2020 and 10 percent after 2020) of AGI are nondeductible

home equity indebtedness

Additional debt secured by the home that exceeds the amount of acquisition indebtedness

tax benefit example 7.6

Allison paid local real property taxes of $5,000 and state income taxes of $7,000 in 2020. Her deduction for state and local taxes was limited by the $10,000 maximum, so she could not deduct $2,000 of the $12,000 paid. Her total itemized deductions for the year were $15,000. In 2021 Allison received a refund of $750 due to overpayment of state income taxes in 2020. Had Allison paid the correct amount of state income taxes in 2020, her state and local tax deduction would have remained the same and her itemized deductions would still have been $15,000. She received no tax benefit from the overpayment of $750, therefore, she is not required to include the $750 as income in 2021

qualified charitable organization

An organization that is operated exclusively for religious, charitable, scientific, literary, or educational purposes, or for the prevention of cruelty to animals or children Qualified charitable organizations may not allow any part of the earnings of the charity to be used for the private benefit of an individual, an event called "private inurement" in tax parlance, and are prohibited from engaging in propaganda or lobbying at the federal level, although they are allowed to influence state and local legislation only gifts to U.S. based charities are eligible for a charitable income tax deduction; gifts to foreign charities do not qualify first method involves a transfer from the taxpayer to a U.S. based charity that will subsequently transfer the funds oversees for the use of a foreign charity second method a taxpayer could use to obtain an income tax deduction for foreign charitable gifts is to form a private foundation in the United States and make tax-deductible contributions to the foundation. additional requirements for deduction 1. The subject of the charitable gift must be property, not services. 2. The deductible portion of the gift must not exceed the value received by the charity. 3. The charitable gift must be paid in cash or property by the close of the taxable year

tax benefit example 7.4

Apollo has a primary residence in New Orleans and a vacation home in Destin with associated property taxes of $12,000 and $7,000, respectively. He also pays $8,000 in Louisiana state income tax. He and his wife, Mary Anne, are limited to a deduction for taxes of $10,000 in 2018 or after, even though they spend $27,000 in property and income taxes. For 2017, they would have been able to deduct the full $27,000

sales tax deduction

As an alternative to deducting state income taxes, a taxpayer may deduct state sales taxes. Those taxpayers who live in states with no income tax, or those taxpayers who have made large purchases during the year and whose sales taxes exceed their state income taxes will benefit by using the sales tax deduction A taxpayer may deduct either state sales taxes or state income taxes, but not both. The deduction for sales taxes can be either the actual sales taxes paid (

tax benefit example 7.3

Assume the same facts as the prior example, except that Keegan did not itemize deductions on his 2020 federal income tax return. In this case, since Keegan took the standard deduction and did not deduct his state income tax, he will not have to include any state income tax refund in his taxable income for the next year

mortgage interest reporting

Beginning in 2016, lenders must also report on form 1098 the amount of outstanding principal on the mortgage at the beginning of the calendar year, the date of origination of the mortgage, and the address of the property on which mortgage interest was paid.

casualty losses

Casualty losses may be claimed, subject to the limitations specified below, only for losses attributable to a disaster declared by the President under Section 401 of the Robert T. Stafford Disaster Relief and Emergency Assistance Act If the casualty loss is associated with a trade or business, the loss will be deducted above-the-line as a business expense

public charities

Charitable organizations that receive support from a wide cross-section of the population, such as the Red Cross or the YMCA.

MISCELLANEOUS ITEMIZED DEDUCTIONS

Miscellaneous itemized deductions include all of the remaining deductions that individual taxpayers can take on their income tax return. Miscellaneous itemized deductions fall into two categories: 1. those that are deductible without limitation 2. those that are subject to the two percent floor Almost all of the miscellaneous itemized deductions are subject to the two percent floor.

private charities

Corporations or trusts structured to further the charitable intentions of a donor or the donor's family

casualty loss deduction

Deduction allowed for losses or damages to a taxpayer's property resulting from a sudden or unexpected event, such as fire, storm, shipwreck, or theft

travel expense example

Example 7.45 Michael normally works in Connecticut. He traveled to San Diego, California for a business conference, and was not reimbursed by his employer. Since he enjoys sailing, Michael decided to stay an extra two days to sail around San Diego Bay after the 3-day conference ended. Since the primary purpose of the trip was business related (he spent 2 days on personal matters, and 3 days on business matters), Michael will be able to deduct the full cost of the airfare to and from San Diego. For the three days that Michael is attending the conference, he can also deduct the cost of lodging, dry cleaning, telephone, local transportation, incidental expenses, and 50% of the cost of his meals. The travel expenses for the two days that Michael spends sailing on San Diego Bay, however, are not deductible since they are personal expenses

medical expenses

Discretionary medical expenses can be bunched into tax years where the taxpayer is also bunching other itemized deductions. However, these expenses have to exceed 7.5% (in 2020) of AGI to be deductible.

home equity indebtedness examples

Example 7.17 Five years ago, Roger purchased a home for $400,000, paying $80,000 in cash and taking out a $320,000 mortgage. The outstanding balance of the mortgage is now $270,000, but the value of the home has risen to $800,000. Roger needs some additional cash to pay for his children's education and to cover some personal expenditures, so he refinances the home, taking out an additional $210,000. His mortgage balance is now $480,000. Roger will be able to deduct the interest on $270,000 of the mortgage, but will not be permitted to deduct the interest on the remaining $210,000. $270,000 of the refinanced amount continues to be treated as acquisition indebtedness. The interest on the additional $210,000 is not deductible. Example 7.18 Five years ago, Larry purchased a home for $400,000 paying $80,000 in cash and taking out a $320,000 mortgage. Larry recently was appointed CEO of The Amazing Company, and is drawing a salary far in excess of what he thought he would make. About six months ago, Larry was watching television when Susie, a nationally known self-proclaimed expert on personal finance, gave advice to pay off existing home mortgages. Larry took Susie's advice and paid off his mortgage, which used up most of his available cash. Last week, Larry was presented with a business opportunity that would require a $300,000 investment on his part, and he would like to participate. Since he does not have any spare cash, he takes out a $300,000 home equity loan on his home. Larry will not be able to deduct any interest on the loan. When he paid off his mortgage, he retired his acquisition indebtedness, which cannot be resurrected with a home equity loan. If Larry had not taken Susie's advice, and had not paid off the mortgage, he would have been able to deduct all of the interest on his loan as qualified residence interest and use his cash to make the investment.

charitable contributions examples

Example 7.26 Brian has AGI of $100,000 for the current tax year. He made a cash gift of $70,000 to his university to assist in the construction of a new building on campus. Brian is permitted to deduct up to 60% of his contribution base as a charitable contribution. Since he made a charitable gift of cash to a public charity, the 60% limit applies and he will be able to deduct $60,000 in the current year. The remaining $10,000 will be carried forward for up to five years and deducted against future income, subject to the limitations on charitable gifts imposed in those years. Example 7.27 Assume the same facts as the prior example, except that Brian's gift was stock with a fair market value of $60,000. He paid $40,000 for the stock 3 years ago. Brian will be able to deduct $30,000 this year (30% of his contribution base) and will be able to carry over the remaining $30,000 for use over the next five tax years. By making the gift with appreciated long-term gain property, Brian will not be required to recognize the gain on the stock in his income.

educational expense examples

Example 7.50 Ginny worked as a law librarian for Hogwarts University School of Law. In performing her duties as law librarian, Ginny assisted law professors with legal research and oversaw the administration of the library. While serving as Law Librarian, Ginny began to take law school classes and ultimately received a law degree. Despite the fact that the law school classes maintained or further expanded her skills in her current trade or profession (as law librarian), the classes qualified her to enter a new trade or profession (the practice of law) and are therefore nondeductible (Gilligan, T.C.M. 2002-150). Example 7.51 Ron, a financial planner, began taking classes to prepare him for the CFP® Certification Examination at a prestigious east-coast university. The classes were conducted every other weekend on Friday nights and Saturdays. Every other week, Ron flew in to take the course and stayed at a hotel on Friday and Saturday night (there were no flights that could get Ron back home on Saturday night). Since Ron is taking classes that further expand and enhance his knowledge in his current trade or profession, the tuition and fees for the program are deductible. Likewise, the cost of airfare, hotel, incidentals, and half of the cost of meals are also deductible as a business related education expense. Since completing the program (and the CFP® Exam) does not qualify Ron to enter a new trade or profession, all of the costs are deductible. Example 7.52 Ted, an employee of The Amazing Company, makes most of his money performing as a clown at childrens' birthday parties and corporate events. The cost of clown clothing is deductible as an employee related business expense, since the clothing is not suitable to be worn outside of a work setting

investment taxes and tax advice

Examples of deductible investment expenses include: • Custodial fees paid on Retirement Plans or IRAs with funds outside of the plan • Cost of investment and tax advice (including legal fees and the cost of preparing tax returns) • Cost of materials for researching investments (books, magazines, periodicals) • Investment expenses allocated from partnerships and S corporation • Safe deposit box fees

travel expenses outside of US

Expenses associated with trips purely for business will be fully deductible. When the trip is primarily for business, the travel expenses must be prorated between the personal and business days, and only the expense associated with the business days may be deducted. If the trip is primarily for personal purposes, none of the transportation expenses are deductible. Some exceptions do apply. A trip outside the United States will be considered to be purely business related when one of the following conditions exists: 1. The taxpayer does not have control over the timing or arrangements for the trip. 2. The trip outside the United States lasted for seven days or less. 3. Less than 25 percent of the time spent on the trip was for personal activities. 4. Vacation was not a primary consideration for the trip. When counting days used for personal and business travel while on a foreign trip, all of the following are considered to be business days: • Days during which business is conducted. • Travel days to and from the location. • Weekends and holidays provided that they fall between business days. Example 7.46 Thomas traveled to London for a business meeting. He left on Wednesday evening, and returned the following Saturday. The meeting began on Thursday, broke for the long weekend (Monday was Queen Elizabeth's official birthday), and resumed on Tuesday. On the weekend, Thomas spent time touring Southern England. The business meetings were concluded on Thursday, and Thomas resumed his tour of Southern England until his departure flight on Saturday evening. In this case, the travel covered a period of 11 days. The two travel days were business days, as were the 5 days actually spent at the business meeting. The three day weekend (including the holiday) were also business days, since business was conducted both before and after the holiday weekend. Out of the 11 day trip, 10 days were classified as business days, and one day was classified as a personal day. Since Thomas spent less than 25% of the trip on personal travel, the trip is deemed to be solely for business, and the full cost of the airfare is a deductible travel expense. The cost of lodging, incidentals, and 50% of meals on the one day that Thomas was not deemed to be conducting business will not be deductible, but those costs for the three-day weekend that were presumed to be business days are deductible. There are also limitations imposed on water travel and conventions due to taxpayer abuse in the past. A deduction of up to $2,000 is permitted for conventions on cruise ships provided that the following conditions are met: 1. The convention is directly related to the taxpayer's trade or business 2. The cruise ship is registered in the United States (has a U.S. Flag) 3. During the convention cruise, the ship only docks at ports within the United States or its possessions If any of these conditions are not met, no deduction for cruise-ship conventions is permissible. For conventions on land within the United States, travel expenses are deductible provided that the convention is directly related to the taxpayer's trade or business. For a convention outside of the United States, travel expenses are deductible provided that the meeting is directly related to the taxpayer's trade or business, and it is as reasonable to hold the meeting outside of North America as it is inside North America Example 7.47 John paid $3,500 for a convention on board a cruise ship. The convention was directly related to his trade or business. The ship left San Diego and sailed north, stopping in San Francisco, Seattle, one or two Canadian ports and finally arriving in Alaska. John will not be permitted to deduct any portion of the cost of this trip, since the cruise ship docked in a foreign port. Example 7.48 Randy, a neurosurgeon, decided he needed to learn how to invest all of the money that he had been making in his capacity as a surgeon. He paid $4,000 to attend an Investment Convention in Palm Springs this year. Randy will not be able to deduct any of the cost associated with the convention as a business expense, since the convention is not directly related to Randy's trade or business activity (medicine). Travel related expenses are deductible only if the taxpayer's absence from their work-home is temporary. Temporary means that the work assignment is for one year or less. If the assignment exceeds one year, then none of the travel expenses are deductible, since the taxpayer is deemed to have changed his or her tax home. For taxpayers who have long work assignments away from their tax home, travel between their tax home and the work location (provided that they do not exceed the one year limitation) is deductible to the extent that the travel does not exceed the cost of remaining at the temporary workplace. Example 7.49 Christopher has spent the last three months working on a contract in Arizona. His regular tax home is Connecticut. On weekends, Christopher flies home to spend time with his wife and children. The cost of the flight home (round-trip) is $350. If Christopher had remained at his work location, he would have incurred three additional nights of hotel bills per week (at $125 per night), plus meal and incidental costs. Since the cost to return home is less than the cost of remaining in the temporary work location, Christopher may deduct the full cost of the travel between his tax-home and temporary work location

employee business expenses

Expenses that include professional and union dues of employees, travel, supplies and services, professional books and journals, job related educational expenses, work clothes and uniforms, and job hunting expenses in the same line of work, which may be deductible as a miscellaneous itemized deduction subject to the two percent floor if they are not reimbursed by the employer Business mileage is deductible at $0.575 per mile (2020) Professional fees (such as licensing fees for lawyers, physicians, and accountants) or union dues are deductible as an employee business expense if they are not reimbursed by the employer Travel expenses include costs for transportation, lodging, incidental expenses and 50 percent of meals when a taxpayer is away from his or her tax home. The taxpayer's tax home is the general area where the taxpayer regularly conducts business

casualty loss limitations

For personal casualty and theft losses, the amount of the loss is the lower of: 1. the difference between the fair market value of the property before the event and the fair market value of the property after the event, less insurance proceeds received, or 2. the taxpayer's adjusted basis in the property less insurance proceeds received. This valuation rule prevents a taxpayer from taking a casualty loss on the gain attached to property that had not been brought into the taxpayer's income. Example 7.38 Beau owned a home in New Orleans that was severely damaged by a hurricane in a presidentially declared disaster zone. Beau had purchased the home for $200,000, and the fair market value of the home prior to the hurricane was $400,000. His homeowners insurance policy had lapsed one month before the hurricane hit and Beau had not obtained any other insurance. After the hurricane, the property had a fair market value of $90,000. Beau's casualty loss is valued at $200,000 which is his adjusted basis less insurance proceeds received (insurance proceeds in this case are zero). The decline in the fair market value of the property is equal to $310,000, but Beau's casualty loss is limited to his adjusted basis because his adjusted basis is less than the decline in the fair market value of the property limitations on the deduction for personal casualty and theft losses do not end there. Two additional restrictions apply. First, $100 must be deducted from each occurrence. An occurrence is treated as one event, such as a hurricane. If a hurricane caused damage to a taxpayer's house and car, $100 in total would be deducted from both losses (not $200, or $100 for each separate loss). Second, to be deductible, the taxpayer's aggregate casualty and theft losses must exceed 10 percent of the taxpayer's adjusted gross income Example 7.39 Using the facts from the prior example, assume that Beau's AGI for the year is $100,000. Beau's casualty loss of $200,000 must be reduced by $100 and the result is only deductible to the extent it exceeds 10% of AGI. The deductible portion of Beau's casualty loss is $189,900 ($200,000 - $100 - $10,000 [10% of AGI]). There is one further limitation that applies to personal casualty and theft losses. To the extent that the taxpayer has a casualty gain, that casualty gain offsets any casualty losses suffered in the same year

QBI deduction general rule

For a taxpayer owning an interest in only one pass-through business entity,10 the QBI deduction equals the lesser of: • 20 percent of the qualified business income of the taxpayer, or • 20 percent of the taxpayer's adjusted taxable income Example 7.55 Chaylan's share of qualified business income from a partnership is $90,000, and her total adjusted taxable income from all sources (after taking above-the-line deductions not related to the business, and either the standard or itemized deduction, but before taking the 20% deduction for QBI) is $70,000, the deduction is the lesser of: •20% x $90,000, or •20% x 70,000; which limits the deduction to $14,000. On the other hand, if Chaylan's share of qualified business income from a partnership is $90,000, and her total adjusted taxable income from all sources (after taking above-the-line deductions not relating to the business and either the standard or itemized deduction, but before taking the 20% deduction for QBI) is $110,000, the deduction is the lesser of: •20% x $90,000, or •20% x 110,000; which limits the deduction to $18,000.

mortgage insurance premiums

For tax years beginning after December 31, 2017 and before January 1, 2021, the Taxpayer Certainty and Disaster Tax Relief Act of 2019 allows a deduction as qualified residence interest for mortgage insurance premiums paid in connection with acquisition indebtedness. The amount of mortgage insurance premiums which can be deducted is reduced by 10 percent for each $1,000 ($500 for married filing separately) that the taxpayer's AGI exceeds $100,000 ($50,000 for married filing separately)

charitable donations

If a donor wants to donate funds to charitable causes but has not yet selected the specific charities, the taxpayer can contribute the funds to a donor-advised fund set up with a charity or brokerage firm. Contributions made to a donor-advised fund allow the contributing taxpayer an immediate tax deduction while deferring the distribution to the qualified charity of the taxpayer's choice to a later time, as directed by the taxpayer Example 7.54 Jenna, a single taxpayer typically makes annual charitable gifts of $7,000, and her total itemized deductions, including the charitable gifts, are expected to be $11,000 in 2020 and $11,000 in 2021. Since this amount is below the standard deduction, she will take the standard deduction in both years and receive no tax benefit from her charitable contributions. However, if she makes 2 years of charitable gifts in 2020 (totaling $14,000), her total itemized deductions for 2020 will increase to $18,000. Jenna will take itemized deductions of $18,000 in 2020, and will still take the standard deduction in 2021, increasing her total deductions over the 2-year period by $5,600. Alternatively, Jenna could make a charitable gift of $21,000 to a donor-advised fund in 2020 (increasing her itemized deductions to $25,000), and distributions can be made from the donor-advised fund to Jenna's selected charities in 2021 and 2022 while Jenna takes the standard deduction in those years.

above-the-line medical expenses

If given a choice of taking the medical expenses as a trade or business expense or as an itemized deduction, a taxpayer should deduct the expenses as a trade or business expenses. Trade or business expenses result in a reduction of AGI and are not subject to the medical expense floor that applies to itemized medical expenses

tax benefit example 7.2

In 2020, Keegan had withholding for Connecticut Income Tax of $4,000 and had made estimated tax payments to Connecticut totaling $2,000. Keegan itemizes deductions on his tax return, and includes all $6,000 as a deduction on his 2020 federal income tax return. When he completed his 2020 state income tax return (which he filed on April 15, 2021), Keegan found out that he had overpaid state income taxes for the year, and was entitled to a $500 state income tax refund, which he received in June of 2021. When Keegan files his 2021 income tax return, he must include the $500 state income tax refund in his income (due to the imposition of the tax benefit rule, which states that when a deduction has been taken, and the amount deducted was later refunded, the refund must be included in income).

loan acquisition examples 7.13 - 7.16

In January 2020, Parker takes out a $500,000 mortgage to purchase a main home with a fair market value of $800,000. In February 2020, Parker takes out a $250,000 home equity loan to put an addition on the main home. Both loans are secured by the main home and the total does not exceed the cost of the home. Because the total amount of both loans does not exceed $750,000, all of the interest paid on the loan is deductible. However, if Parker uses the home equity loan proceeds for personal expenses, such as paying off student loans and credit cards, then the interest on the home equity loan would not be deductible. Example 7.14 In January 2020, Colin takes out a $500,000 mortgage to purchase a main home. The loan is secured by the main home. In February 2020, Colin takes out a $250,000 loan to purchase a vacation home. The loan is secured by the vacation home. Because the total amount of both mortgages does not exceed $750,000, all of the interest paid on both mortgages is deductible. However, if Colin took out a $250,000 home equity loan on the main home to purchase the vacation home, then the interest on the home equity loan would not be deductible. Example 7.15 In January 2020, Brisco takes out a $500,000 mortgage to purchase a main home. The loan is secured by the main home. In February 2020, Brisco takes out a $500,000 loan to purchase a vacation home. The loan is secured by the vacation home. Because the total amount of both mortgages exceeds $750,000, not all of the interest paid on both mortgages is deductible. 7.16 Reese's home is worth $200,000 and she has a balance on her mortgage of $120,000. Because her mortgage has an interest rate of 6% and the prevailing rates are 4%, she wants to refinance her mortgage to lower her payment. The interest on Reese's refinanced loan is fully deductible as long as the total amount of debt on the property does not increase, or as long as any increase is used to substantially improve the property

acquisition indebtedness

Indebtedness that is secured by the home and is used to acquire, construct, or improve the taxpayer's primary residence and one additional residence To meet the definition of qualified residence interest, the indebtedness must be secured by the home. The interest expense on the first $750,000 of acquisition indebtedness (a combined limit for both the primary and secondary residence - not $750,000 of indebtedness for each residence) is deductible as an itemized deduction Loans incurred by the taxpayer to add an addition to an existing primary or secondary residence are considered to be acquisition indebtedness, and are subject to the $750,000 cap for deductibility of interest. Loans incurred by a taxpayer to repair an existing primary or secondary residence are not considered to be acquisition indebtedness, but may be classified as home equity indebtedness

tax benefit example 7.5

John paid local real property taxes of $4,000 and state income taxes of $5,000 in 2020. His deduction for state and local taxes was not limited by the $10,000 maximum. His total itemized deductions for the year were $16,000. In 2021 John received a refund of $1,500 due to overpayment of state income taxes in 2020. Had John paid the correct amount of state income taxes in 2020, his itemized deductions would have been $14,500 instead of $16,000. His tax benefit from the overpayment was $1,500, therefore, he is required to include the entire $1,500 as income in 2021

travel and lodging expenses

Travel and lodging expenses incurred to acquire medical care are also deductible up to specified limits. The mileage allowance is $0.17 per mile (2020) and the maximum deductible lodging expense is $50 per night per person (this amount is not indexed for inflation)

tax benefit example 7.8

Nick paid local real property taxes of $4,250 and state income taxes of $6,000 in 2020. His deduction for state and local taxes was limited by the $10,000 maximum, so he could not deduct $250 of the $10,250 paid. His total itemized deductions for the year were $12,800. In 2021 Nick received a refund of $1,000 due to overpayment of state income taxes in 2020. Had Nick paid the correct amount of state income taxes in 2020, his deduction for state and local taxes would have been $9,250, his itemized deductions would have been $12,050 instead of $12,800, and he would have used the standard deduction of $12,400. His tax benefit from the overpayment was $400 ($12,800 - $12,400 = $400), therefore, he is required to include $400 as income in 2021

nursing homes

Nursing home and special school expenses are also deductible as medical expenses if the primary purpose of the service is to provide medical treatment. If the primary purpose is personal (for example, custodial care in the case of nursing homes, or attainment of educational degrees in the case of special schools), only those costs specifically allocable to medical treatment are deductible

loan acquisition example 7.12

Odin borrowed $15,000 from his bank to repair the roof on his home. Odin cannot treat this loan as acquisition indebtedness since it was used to repair an existing primary residence, and the interest on this loan will not be deductible

real estate special rule

One special rule applies when the seller of real estate pays property taxes that are considered to be the obligation of the purchaser. The purchaser is deemed to have paid the property taxes and can take an income tax deduction for the taxes paid, which results in a reduction in basis in the property. The seller is treated as receiving a reduced price for the real estate, thereby reducing the amount realized, and any gain realized, on the transaction and cannot deduct the portion paid for the purchaser

gifts that qualify for deduction

Only gifts of cash or property will qualify for a charitable income tax deduction. Volunteering time for a charity by donating services is a great way to make a charitable gift, but the value of the time donated will not qualify for the income tax charitable deduction Individuals who volunteer time for charitable causes often incur expenses in completing their charitable service. To the extent that these expenses are not reimbursed, they qualify as a charitable income tax deduction. Examples may include mileage (at $0.14 per mile) and travel expenses, Example 7.19 Ryan, a tax attorney, volunteered to create a private operating foundation for a local group that was forming a new charitable organization. Usually, Ryan charges $5,000 to draft the documents and obtain the IRS exempt determination letter for the operating foundation. Ryan may not deduct the value of his services as a charitable deduction, since he never recognized the $5,000 as income. Ryan will be able to deduct the actual costs he incurred in setting up the operating foundation, such as the cost of obtaining the exempt determination letter for the organization nds of Foley, a charitable organization dedicated to the prevention of cruelty to animals. Friends of Foley is embarking on a fundraising campaign to expand their animal shelter facilities and Craig has an office building with vacant office space. Craig allows Friends of Foley to use the vacant office space to run their fundraising campaign. While Craig has made a significant contribution to the charity, he may not take an income tax charitable deduction for the value of the rental use of the office since he did not donate his entire interest in the property (the entire building) to the charity. Similar to the donation of services to charitable organizations, this donation is a variation on the matching principal of income taxation. Since Craig never included the rental income value of the office in his income, he may not take a charitable deduction for the value given to charity Example 7.21 Scott owns an original sculpture created by the late artist, Frederick Hart. The Wadsworth Athenaeum, a local art museum, is sponsoring a special exhibit on the work of Frederick Hart and Scott allowed the museum to display his sculpture at the museum during the exhibit. While the donation of the use of the sculpture made the exhibit more complete and attracted more patrons to visit the exhibit and pay the entrance fee to the museum, Scott may not deduct the value of the use of the sculpture by the museum as an income tax charitable deduction, since he did not give his entire interest in the property (a fee simple ownership interest) to the museum..

loan acquisition example 7.11

Orion recently borrowed $150,000 from his bank to put an addition on his home to accommodate his growing family. Orion is required to treat the loan as acquisition indebtedness when calculating his mortgage interest deduction.

non accountable reimbursement plans

Plans in which the employer gives the employee a specified sum of money out of which the employee will cover all of the business related expenses After 2025, employees can claim a home office deduction if a portion of the home is being used regularly and exclusively: 1. as a principal place of business, 2. as a place to meet clients in the normal course of business, or 3. in connection with the business if the home office is not included in a separate structure that is detached from the taxpayer's principal residence

property taxes deductions

Property taxes paid to state and local governments are also deductible, provided that the taxes are based on the value of the property (when a tax is based on the value of property, it is referred to as an ad valorem tax). While the federal government is constitutionally prohibited from taxing property, state and local governments may tax property, and these taxes often provide a significant source of revenue for the operation of state and local governments. Property taxes are deducted in the year paid to the taxing authority. There is no limitation on the number of properties that can be claimed as a deduction for property taxes for regular tax purposes

raffle tickets sold by charitable organizations

Purchase of raffle tickets from a charitable organization is not a tax-deductible donation - it is the purchase of a chance to win the prize offered in the raffle. Taxpayers who wish to generate a charitable deduction for purchasing raffle tickets from a charity may do so by agreeing in advance that if they win the prize, it will be donated back to the charity

interest deductibility

states that all interest paid or accrued within the taxable year on indebtedness is deductible. Of course, many exceptions apply, resulting in interest being deductible only when it is: • qualified residence interest; • interest incurred in a trade or business; or • interest incurred for the production of income (investment interest) For interest to be deductible, it must be incurred on a valid obligation to pay a fixed or determinable sum of money in return for the use of money. Another requirement necessary for the interest deduction to apply is that the obligation to pay the interest must be the taxpayer's obligation

medical expense example

Ryan, age 50, has an AGI of $40,000 and medical expenses of $5,000 in 2020. Ryan's medical expense deduction will equal $2,000 [$5,000 - 0.075($40,000)]. The first $3,000 of medical expenses are not deductible

tax benefit example 7.7

Sierra paid local real property taxes of $5,000 and state income taxes of $6,000 in 2020. Her deduction for state and local taxes was limited by the $10,000 maximum, so she could not deduct $1,000 of the $11,000 paid. Her total itemized deductions for the year were $15,000. In 2021 Sierra received a refund of $1,500 due to overpayment of state income taxes in 2020. Had Sierra paid the correct amount of state income taxes in 2020, her state and local tax deduction would have been $9,500 (instead of $10,000) and her itemized deductions would have been $14,500. She realized a $500 tax benefit from the overpayment, therefore, she is required to include $500 as income in 2021

QBI Deduction for Qualified REIT Dividends and Publicly Traded Partnership Income

TCJA also allows a 20 percent QBI deduction for qualified Real Estate Investment Trust (REIT) dividends and publicly traded partnership (PTP) income. This component of the QBI deduction is not limited by W-2 wages or the unadjusted basis of qualified property unless the PTP operates an SSTB (as described previously). When a taxpayer has both qualified business income from a flow-through entity and qualified REIT or PTP income, the deduction is the lesser of: • 20 percent of the qualified business income of the taxpayer, plus 20 percent of the taxpayer's qualified REIT dividends and qualified PTP income, or • 20 percent of the taxpayer's adjusted taxable income (net of capital gains, as described previously)

qualified residence interest deduction

Tax deduction that permits taxpayers to deduct the interest on up to $750,000 of home indebtedness

deduction clustering

Taxpayers who previously benefited from itemized deductions, but who will now take the standard deduction, may find a deduction clustering, or bunching, strategy to be attractive. With a deduction clustering strategy, the taxpayer will "cluster" itemized deductions together in one year and take the standard deduction the following year, allowing for a higher amount of deductions overall. State taxes, mortgage interest, medical expenses, and charitable donations are four categories of itemized deductions that might be able to be bunched in a single year

deduction phase-down and transition

Taxpayers who qualify to claim the QBI deduction are subject to either a phase-down or transition of the deduction amount depending upon their taxable income from all sources two taxable income tiers which will determine the amount of the deduction: The threshold amount and the phaseout amount

Deductions Not Subject to the Two Percent Floor (Tier I)

The deductions not subject to the two percent floor typically involve transactions where Congress deems it unfair to subject taxpayers to taxation on transactions where income is required to be included above the line, while deductions are taken below the line. The most important miscellaneous itemized deductions not subject to the two percent floor are: 1. Gambling losses (to the extent of gambling income) 2. Credit for estate taxes imposed on IRD (income in respect of a decedent's assets) 3. Loss on the disposition of an annuity contract 4. Repayments of income (such as repayments of Social Security income when the taxpayer fails the earnings test) Example 7.42 John started collecting Social Security Benefits when he retired at age 62. After six months of playing two rounds of golf each day, John decided he needed some mental stimulation and went back to work part-time. His work related income exceeded the threshold for avoiding the Social Security Earnings Limitation, and John was required to repay $2,500 of the Social Security benefits he received. Since the repayment is less than $3,000, John will not be able to claim the repayment as a miscellaneous itemized deduction not subject to the 2 percent floor. This results in $2,500 of phantom income for John, since the full amount of the Social Security Payments he received will be included in income and he will not be able to deduct the $2,500 he had to pay back to the government. Example 7.43 Assume the same facts as in the prior example, except that as a result of the earning limitation, John has to repay $3,100 of his Social Security Income to the government. John will be able to claim the $3,100 payment as a miscellaneous itemized deduction not subject to the 2 percent floor. Provided John can itemize deductions already (his itemized deductions exceed his standard deduction), John will not have to worry about paying tax on phantom income, as in the prior example. If John's itemized deductions, however, are less than his standard deduction, John will not receive a tax benefit for the repayment of part of his Social Security Income, and will have, in this case, $3,100 in phantom income. As the prior example shows, even though these miscellaneous itemized deductions are not subject to the two percent floor, a taxpayer only gets the benefit of these deductions if he or she is able to itemize deductions. To itemize deductions, total deductions must exceed the standard deduction amount (including any additional standard deduction for age or blindness) Example 7.44 Christopher, a 78 year old retired individual, enjoys going to the casino. His income consists of Social Security, a small pension, and a bit of interest. He lives in an apartment and does not have any itemized deductions for the current year. Last week, Christopher hit the jackpot on the slot machines at the casino and won $2,000, which must be included in his gross income. If he has $2,000 in gambling losses for the year, he can offset the gambling income with a miscellaneous itemized deduction for the gambling losses that will not be subject to the two percent floor. Since his total itemized deductions do not exceed the standard deduction, however, Christopher will not receive a tax deduction for incurring the gambling losses, his gambling income will still be subject to income tax, and the additional income from gambling may also increase the amount of his Social Security payments that are subject to tax. One additional miscellaneous itemized deduction not subject to the two percent floor applies to job related expenses for handicapped workers. Specified expenses, such as the cost of purchasing readers or retaining aids to help the handicapped person perform his or her job function will not be limited by the two percent floor

early payment of mortgage interest

The first mortgage payment of the next tax year can be paid in the current year, thereby, accelerating the mortgage interest deduction in a year when deductions are itemized

qualified business income (QBI)

The net amount of income, gain, deductions, and losses with respect to a pass-through trade or business, which is used in determining the below-the-line deduction of 20% of QBI The QBI deduction does not lower AGI, which means it is not an above-the-line deduction, and can be taken regardless of whether a taxpayer itemizes deductions. By enacting the QBI deduction, TCJA created a new form of below-the-line deduction - a below-the-line deduction that can be taken in addition to the greater of the taxpayer's itemized or standard deduction Since the purpose of the new deduction was to lower the tax rate on business income, certain types of income are excluded from the definition of QBI, including: • Capital gains and losses • Dividends • Interest not allocable to a trade or business • Commodities transactions • Reasonable compensation for S corporation owners • Guaranteed payments to partners for services rendered Generally speaking, all taxpayers with taxable income less than $326,600 (MFJ) or $163,300 (all other filing statuses) in 2020 will qualify for the QBI (Section 199A) below-the-line deduction

job hunting expenses

To be deductible, the expenses must be incurred in finding a new job in the taxpayer's current trade or profession. Provided that this condition is met, the expenses are deductible even if the taxpayer does not find or is not selected to fill a new job. Deductible expenses include travel costs, costs of printing resumes and assembling portfolios of work, phone calls, and fees paid to employment agencies or recruiters Example 7.53 Laura just graduated from law school, and passed the bar exam. She would like to try to find a job in California, so she flew to San Diego and San Francisco for a series of interviews with law firms. The primary purpose of the trip was to find a job, and her activities were substantiated with a detailed log that was kept by Laura. Laura will not be able to claim any deduction for job hunting expenses, since she is not already in the trade or business of practicing law. She is seeking admission to practice, not seeking a new job in her current trade or profession, so no deduction will be allowed

Deductions Subject to the Two Percent Floor (Tier II)

The remaining expenses that are classified as miscellaneous itemized deductions are subject to the two percent floor. There are many items that fall into this category. The major categories of miscellaneous itemized deductions subject to the two percent floor that affect tax planning decisions are: • Employee business expenses • Hobby expenses (to the extent of hobby income) • Investment expenses and tax advice, including research materials for investments • Losses on IRAs (when the IRA has been terminated)

three tiers of section 199A

Tier 1 As described above, the Sec. 199A deduction for a taxpayer with taxable income below the threshold amount is the lower of: • Qualified Business Income x 20%, or • Adjusted Taxable Income x 20%. When Tier 1 applies, the status of a SSTB does not impact the tax results. Tier 2 Once the taxpayer's taxable income exceeds the threshold amount, the Section 199A deduction equals 20 percent of QBI less the "reduction amount." The reduction amount equals the "excess amount" times the phaseout percentage. The excess amount equals qualified business income times 20 percent minus the greater of: • 50% of W-2 wages paid by the business, or • 25% of W-2 wages paid by the business + 2.5% of the unadjusted basis of qualified assets used in the trade or business. When a taxpayer is in Tier 2, a QBI deduction will be at least partially allowed regardless of whether or not the business income is generated by a SSBT. Tier 3 Once a taxpayer's taxable income exceeds the phase-out amount, Tier 3 rules apply. Income generated by an SSTB will not generate a tax deduction for a taxpayer in Tier 3. If the business generating the qualified business income is not a SSTB, however, the QBI deduction will equal the lesser of: 1. Qualified Business Income x 20% 2. Adjusted taxable income x 20% 3. The greater of: •W-2 wages x 50%, or •W-2 wages x 25% plus 2.5% of the Unadjusted Basis of Qualified Property

Ordinary Income Property

When a taxpayer donates ordinary income property to a charity, the donation will be valued at cost basis and will be subject to the 50 percent limitation three types of assets in the tax world - capital assets, ordinary income assets, and Section 1231 assets. Ordinary income assets include accounts/notes receivable, inventory, and copyrights or creative works held by the creator. Ordinary income assets, when sold, generate income subject to ordinary tax rates; they do not qualify for capital gains tax rates. As a result, ordinary income assets will always be subject to the 50 percent limitation (or 30 percent limitation for private charities) and will generate a cost basis tax deduction for the donor. Ordinary income assets receive the same tax treatment as short-term capital gains assets for purposes of the income tax charitable deduction Example 7.33 Kelly, a renowned author of children's novels and professor of literature, wrote all of her manuscripts by hand. Kelly's novels have been widely acclaimed as the best children's literature of the era. She kept the original drafts of each of her novels for her own purposes, but recently decided to get rid of the growing mass of paper in her home. Kelly donated all of the original manuscripts to the museum/archive of her university. Kelly's charitable deduction is limited to her cost basis in the property - the cost of the paper and the ink that was used to write the novels Example 7.34 In the previous example, if Kelly held the drafts of her literary works until her death, and left them to her children, the papers would have a basis equal to their fair market value at the date of her death, significantly more than the cost of the paper and the ink. When her children donate the documents to the university museum, they will be entitled to a full fair market value charitable deduction on their income tax returns

tax benefit rule

When a taxpayer receives a state income tax refund in a subsequent year, the tax benefit rule applies and requires the taxpayer to include the state income tax refund in his or her taxable income to the extent that a deduction was taken for state income taxes paid in a prior tax year

Special Rule for Tangible Personal Property (Tangible Personalty)

When tangible personal property is donated to a charity, the amount and type of deduction that applies will depend on whether or not the charity uses the tangible personal property in its tax exempt function. If tangible personal property donated to a charity is used by the charity to carry out its tax exempt purpose, the donor may take a deduction equal to the fair market value of the property on the date of the gift and the donation will be subject to the 30 percent limitation as long as the property had a long-term holding period in the hands of the donor. If the tangible property donated did not have a long-term holding period, the donor would be required to reduce the fair market value by 100 percent of the gain, resulting in a cost basis deduction, subject to the 50 percent limitation. When tangible personal property donated to a charity will not be used by the charity to carry out its tax-exempt purpose, the deduction available to the donor is the fair market value of the property reduced by 100 percent of the gain (a cost basis deduction) and will be subject to the 50 percent limitation Example 7.30 William is redecorating his manor house and decides to donate to his local YMCA an original Rembrant sketch that had been purchased 20 years ago and was hanging in his study. Since the YMCA does not display fine art in fulfilling its tax exempt function, the YMCA will sell the painting and use the proceeds to support their activities. William will be able to take a charitable income tax deduction for the cost basis of the sketch, and the donation will be subject to the 50% limit Example 7.31 Assume the same facts as the previous example except that William donates the Rembrant sketch to the Smithsonian Museum of Fine Art in Washington, D.C. Since one of the charitable purposes of the Smithsonian is to acquire and display fine art, William will be entitled to take a charitable income tax deduction equal to the fair market value of the sketch at the time of the gift. The contribution will be subject to the 30% limitation because it was a gift of long-term capital gain property to a public charity. Example 7.32 Brendan donates a painting of a religious theme that he has owned for several years to his church. The church will include the painting in a silent auction coming up later in the year and the proceeds of the auction will be dedicated to restoration of the church. Since the church will sell the property (in this case, by silent charitable auction) and will not use it in its tax-exempt purpose, Brendan is entitled to receive a cost basis deduction for the gift

points

When taxpayers acquire or refinance homes, they often pay "points" (a form of pre-paid interest) to get a lower rate on the mortgage loan. When points are paid to acquire a new personal residence or vacation home, or to improve a personal residence or vacation home, the points paid are fully deductible as qualified residence interest expense in the current tax year provided that they are clearly identified, that they represent a percentage of the principal amount of the mortgage, and they are paid from the taxpayers' own funds.5 Only the points paid on the first $750,000 of acquisition indebtedness qualify for a tax deduction

acquisition indebtedness incurred on or prior to december 15, 2017

While the TCJA 2017 reduced the maximum amount of acquisition debt on which interest is deductible to $750,000, an exception was allowed for acquisition debt incurred on or before December 15, 2017 which allows for the deduction of interest on up to $1,000,000 of such acquisition debt

interest deduction example 7.10

Years ago, Randy set up a business called Sports Fanatic, Inc., a C corporation. The business had been successful, but has recently fallen on hard times and does not have the cash flow necessary to make the required interest payments on its outstanding loans. Since Randy anticipates that the business problems are temporary and he does not want to jeopardize the company's credit rating, he personally makes the payments on the loans. While Randy has paid the interest, he may not deduct those payments as an interest expense on his personal tax return since he was not obligated to make the loan payments - the corporation had the obligation. Instead, Randy will treat the payments as a capital contribution to the corporation, which will increase his basis in his interest in the corporation. The corporation will be permitted to take an interest expense deduction, which may increase its tax loss, and may carry that loss forward to offset future income generated by the company

special election

available for taxpayers who wish to make contributions of long-term capital gain property. Instead of subjecting the gift to the 30 percent (for public charities) or 20 percent (for private charities) contribution limitations, the taxpayer can elect to treat the gift as a 50 percent contribution, thereby allowing a greater portion of the gift to be deducted as a charitable deduction in the current year. However, there is a cost to making this election. Instead of taking a deduction for the fair market value of the property donated, the deduction is limited to the donor's cost basis Example 7.28 Continuing our example above, concerning Brian's gift of $60,000 of long-term capital gain stock to his university, if Brian elects to treat the contribution as a 50% contribution, Brian's charitable deduction for the current year will be $40,000, his cost basis in the property. By making the election, Brian is able to deduct $10,000 more this year, but loses the ability to deduct the appreciation in the stock of $20,000 The overall limitation on non-cash charitable contributions (contributions of property) for a given tax year is 50 percent of the taxpayer's contribution base. When applying the overall limitation, allowable deductions first come from 50 percent gifts, then from 30 percent gifts, and finally from 20 percent gifts. However, if cash contributions are also made during the year, the overall 50 percent limit is first reduced by the amount of the cash contribution. Example 7.29 Ryan has AGI this year of $200,000. He contributed $80,000 of cash, and $70,000 of long-term capital gain property (stock with a basis of $20,000) to the Irish Heritage Museum, a qualified charity. Ryan's limit for cash contributions is 60% x $200,000 = $120,000. Under the 50% overall limit on property contributions, Ryan's contribution limit is $100,000, and under the 30% limit, his maximum contribution is $60,000. Since Ryan made contributions of property to a charity, the overall limit of 50% of the contribution base applies, and is reduced by the amount of the cash contributions. For the current year, Ryan will be able to deduct the full amount of his cash contribution ($80,000), plus $20,000 of his property contribution, for a total of $100,000 (which equals 50% of his adjusted gross income). The remaining $50,000 of the property contribution will be carried forward for up to five tax years

Business Casualty Losses

business casualty losses are deducted above the line against the income from the business activity. Unlike the case with personal casualty losses, business casualty losses do not require a disaster declaration by the President. The amount of the business casualty loss is the lower of: 1. the difference between the fair market value of the property before the loss and the fair market value of the property after the loss, or 2. the adjusted basis of the property in the case of a partial loss. If a business related casualty causes a complete loss of the property, the amount of the casualty loss is the taxpayer's adjusted basis in the property. A casualty loss is reduced by insurance or any other type of reimbursement Example 7.40 In a fire that swept through his factory recently, Nero lost several pieces of business property. One item, a machine that made Roman Widgets, had an adjusted basis of $3,000 and was completely worthless after the fire. The fair market value of the machine before the loss was $1,300. Nero's business casualty loss deduction is $3,000. Since the machine was used in a trade or business, Nero is entitled to recoup his entire basis in the property even though the fair market value of the machine was lower at the time of the loss. The entire loss will be deductible against the income of Nero's business, and no limitations or phaseouts apply since the loss was incurred on a business asset. Note that this result differs substantially from a personal loss situation. If the property was not a business machine, but rather a personal use asset that had an adjusted basis of $3,000 and a fair market value of $1,300, only $1,300 (the lower of the difference in fair market value before and after the casualty event, or the taxpayer's adjusted basis) would be deductible (before the imposition of limitations and phaseouts). Since the remaining part of the property ($1,700 = $3,000 - $1,300) was used for personal purposes (not in a trade or business or for the production of income), it does not qualify for a deduction. Example 7.41 The fire that swept through Nero's factory also damaged the factory building. The fair market value of the building was $800,000 before the fire, and $650,000 after the fire. Nero's basis in the factory is $500,000. In this case, the deductible casualty loss is $150,000 (the difference in value before and after the loss). This was not a complete loss, so Nero can still use the remaining property and recoup the remaining capital investment over the property's useful life. Since the loss was sustained on a business asset, the entire loss is deductible against business income, and no limitations or phaseouts apply.

capital expenses

capital expenses incurred to improve the taxpayer's home are deductible in an amount equal to the difference between the cost of the improvements and the increase in the value of the taxpayer's home provided that the expenditures are made primarily to provide medical benefits

itemized deduction limitations

charitable deduction is limited by a "ceiling." The maximum amount that may be deducted in any one year equals 60 percent of the taxpayer's contribution base. Contribution base is the taxpayer's adjusted gross income. By imposing a ceiling limitation on charitable gifts, Congress has made it impossible to completely eliminate taxable income by making contributions to charity. The first characteristic that determines the amount of the allowable charitable deduction is the type of property given away. There are two classifications of property for this purpose: 1. Gifts of cash and non-long-term capital gain property 2. Gifts of long-term capital gain property If non-long-term capital gain property is given instead of cash, the taxpayer is only permitted to deduct his or her cost basis in the property. When a taxpayer makes a gift of long-term capital gain property to a charity, however, the value for charitable deduction purposes is the fair market value of the property on the date of the gift The second characteristic that determines the amount of the allowable charitable deduction is the type of charity that receives the donation. For income tax purposes, all charities are classified as either public charities or private charities

one special exception to charitable deduction rules

contribution of tangible personal property for scientific research. The charitable deduction for such property is the lesser of: (1) the cost of the property plus half of the gain; or (2) two times the cost basis of the property. To receive this increased deduction for scientific research property, two additional requirements must be met: (1) the property must be new inventory-type scientific equipment manufactured by the donor; and (2) the property must be donated to the charity within two years of its purchase, or, in the case of a manufacturer, when the equipment was fully constructed

Partial Interest Gifts

donor must give his or her entire interest in the property to qualify for an income tax charitable deduction (known as the partial interest rule). As noted earlier in the chapter, there are several exceptions to the partial interest rule, including: • A gift of an undivided portion of the donor's entire interest in the property • A gift of a remainder interest in a personal residence or farm • A gift of a partial interest if transferred in trust (a charitable remainder trust, a charitable lead trust, or a pooled income fund) • Purchase of a charitable gift annuity when a donor owns only a portion of a property, a charitable income tax deduction is available provided that the donor gives away his or her entire interest in the property. These types of charitable gifts are often seen when a taxpayer holds property jointly with another taxpayer Example 7.37 Ken, Rob, and Kyle own Greenacre as tenants in common. Each has a 1/3 interest in the property. A tenancy in common interest is an undivided interest in property. Ken no longer wants to deal with his co-tenants, and would like to make a charitable gift. He gives his 1/3 tenancy in common interest to his private foundation, which will then sell the interest (probably to Rob and Kyle). Since Ken gave away his entire interest in the property to a charitable entity, he will be entitled to a charitable income tax deduction. In this case, Ken's charitable income tax deduction will be limited to his cost basis in the asset, since it was donated to his private foundation. remainder interest in a personal residence or farm. This technique can be useful when a taxpayer has a residence or farm that he or she would like to use until death, but the taxpayers heirs do not want to use the property and would likely sell it shortly after the taxpayer dies (1) the present value of the remainder interest will qualify for an income tax charitable deduction; and (2) at death, title immediately vests in the charity, removing the expense and hassle of dealing with unwanted real property in the decedent's estate Example 7.37 Ken, Rob, and Kyle own Greenacre as tenants in common. Each has a 1/3 interest in the property. A tenancy in common interest is an undivided interest in property. Ken no longer wants to deal with his co-tenants, and would like to make a charitable gift. He gives his 1/3 tenancy in common interest to his private foundation, which will then sell the interest (probably to Rob and Kyle). Since Ken gave away his entire interest in the property to a charitable entity, he will be entitled to a charitable income tax deduction. In this case, Ken's charitable income tax deduction will be limited to his cost basis in the asset, since it was donated to his private foundation

Casualty losses must exceed the lesser of $100 or 10% of the taxpayer's AGI in order to be deductible.

false

Gambling losses are a miscellaneous itemized deduction subject to the 2% floor

false

Gifts of cash and non-long-term capital gains property to a public charity are deductible to the extent that they do not exceed 30% of the taxpayer's AGI

false

Gifts of services qualify for a charitable income tax deduction

false

Only property taxes paid on the taxpayer's primary residence are deductible

false

Personal expenses are always deductible

false

Professional fees or union dues are deductible as an employee business expense after 2017 if they are not reimbursed by the employer

false

Taxpayers are permitted to deduct the interest on an unlimited amount of home indebtedness

false

The cost of materials for researching investments is deductible as a miscellaneous itemized deduction after 2017

false

The standard deduction is not adjusted for inflation.

false

exceptions to partial interest rule

gift of a partial interest in property (something less than the donor's entire interest) is not deductible for income tax purposes unless an exception applies. The primary exceptions (which will be covered later in this section) include: • A gift of an undivided portion of the donor's entire interest in the property; • A gift of a remainder interest in a personal residence or farm; • A gift of a partial interest if transferred in trust (a charitable remainder trust, a charitable lead trust, or a pooled income fund); and • Purchase of a charitable gift annuity. Example 7.22 Pat, a fan of the Britcom Keeping Up Appearances, donated $100 to her local public television station (a qualified charity) to encourage them to keep the show on the air. In return for her donation, the television station sent her a coffee mug with the name of the station and its logo prominently displayed on the mug. Pat's charitable deduction is $100, since the mug is a de-minimus item (a small gift). Example 7.23 Randy, a fan of the Britcom Father Ted (which details the life of a Catholic priest serving in a remote area of Ireland) makes a $500 donation to his public television station. In return for the donation, the public television station gives Randy front-row tickets to the Irish Tenors concert coming up later in the month, as well as a backstage pass and reception, and a CD of the performance. The fair market value of this package is $175. Randy is entitled to take a charitable deduction for the difference between what he donated to the charity, and what he received from the charity or a total of $325. contribution to a qualified public charity for which he will receive a state tax credit equal to 80% of the contribution amount. Xavier must reduce his charitable contribution deduction by $800 (80% x $1,000); therefore, his charitable contribution is $200. This reduction applies regardless of whether he is able to claim the state tax credit for that year. Example 7.25 Assume the same facts as in the previous example, but that the state tax credit is equal to 10% of the contribution to the charity. Xavier's charitable deduction is not reduced by the $100 tax credit since the credit is less than 15% of the value of the property donated to the charity. Xavier's charitable deduction is $1,000 final general requirement for the income tax charitable deduction is that the gift must be made in cash or property by the close of the taxable year. As cash basis taxpayers, individuals must make the charitable gift prior to the close of the taxable year in order for the gift to be deductible. Gifts made on or before December 31 may be deducted by the taxpayer. Assuming that the requirements for the charitable deduction have been met, our attention turns to the amount of the charitable deduction that may be taken. The amount of the deduction depends on: 1. The type of property given away 2. The identity of the donee/charity 3. The identity of the contributor 4. The amount of property given away

nondeductible medical expenses

include elective cosmetic surgery (including face lifts, hair transplants, hair removal, teeth whitening even when performed by a dentist),2 dancing lessons even if recommended by a doctor, funeral expenses (these are deductible on the decedent's estate tax return), health club dues (unless related to a specific medical condition), marijuana (even if prescribed legally by a physician in the state of the taxpayer's domicile),3 over-the counter drug purchases without a prescription, and general health items

losses on IRA

investment related deduction often overlooked by taxpayers and advisors is the ability to claim a loss on IRAs that have been surrendered. This loss may only be claimed when all amounts have been withdrawn from the IRA and the taxpayer's basis in the IRA exceeded his or her recovery. To meet the "all amounts withdrawn" test, all funds in IRAs of the same type must be withdrawn

investment interest deduction

itemized deduction is also allowed for investment interest expense, which is interest incurred to purchase or hold securities and income-producing instruments vestment interest is deductible but only to the extent of net investment income. Net investment income equals investment income less investment expenses other than investment interest expense. Investment expenses include any expenses that were directly connected with the production of investment income without regard to any disallowance caused by the two percent floor on miscellaneous itemized deductions. Investment income includes gross income from property held for investment (interest and dividends) and gains on the sale of property in excess of net capital gain Any investment interest expense not used in the current year due to the net investment income limitation may be carried forward indefinitely. Investors with growth-oriented investment portfolios may have little investment income to offset their investment interest expenses due to the exclusion of capital gains from the definition of net investment income. Taxpayers may elect to include qualified dividends and net capital gains in their net investment income, but there is a cost to making the election - the taxpayer will lose the preferential capital gains tax rate (currently, the maximum capital gains tax rate is 20 percent) that applies to qualified dividends and long-term capital gains one deals with interest paid on the acquisition of investments that generate tax-free income, and the second deals with interest paid on the acquisition of passive investments. The deduction of investment interest is allowed because the taxpayer is purchasing assets that will generate taxable income in the future, which will be shared with the government through the tax system. Loans used to acquire assets that will generate tax-free income will not qualify for the investment interest deduction and interest paid on loans to acquire passive investments will be subject to the passive loss limitation rules. The passive loss limitation rules are explained in Chapter 14 If interest is paid on a loan used to purchase assets that will not generate taxable income in the future, such as a portfolio of municipal bonds, investment interest itemized deduction will not be permitted. If, however, the taxpayer purchases municipal bonds that are not public purpose municipal bonds, and the taxpayer becomes an alternative minimum tax (AMT) taxpayer, the interest on those bonds will become taxable in the AMT tax system

tax deduction for state and local property and sales taxes, and state and local income taxes

limited deduction paid by taxpayer to $10,000 from 2018-2025 Foreign property taxes, and prepayments of state or local income and property taxes are not deductible during this period. Excise taxes, gift taxes, and estate taxes are also not deductible. Note that the $10,000 limitation imposes a significant marriage penalty - both single taxpayers, and married taxpayers are subject to the $10,000 tax deduction cap. If a married couple attempts to file separately, each will be subject to a $5,000 cap on the deduction for taxes, but if the couple divorced and were single by the end of the year, each would be subject to the higher $10,000 tax deduction cap

medical expenses that are deductible

prescription drugs and insulin, acupuncture, treatment for alcoholism, artificial limbs and teeth, diagnostic fees, drug addiction treatment, hearing aids and batteries, health insurance premiums (including Medicare and long-term care insurance premiums), laser eye surgery, nursing care, medical aids, and x-ray services. Deductible medical expenses generally require doctor's orders

charitable deductions by corporations

regular corporations (C corporations) are only permitted to deduct up to 10 percent of their taxable income (after adjustments) for charitable gifts. When a contribution exceeds the 10 percent of taxable income limitation, the excess may be carried forward for up to 5 years. Subchapter S corporations must pass through the charitable gifts to the owners on Form K-1 and the owners will include their portion of the charitable contribution on their personal income tax return as an itemized deduction (below-the-line deduction) Closely-held and family business owners who have business interests in corporate form (C corporations, not S corporations) may wish to use the corporation as a means of achieving an above-the-line charitable deduction. While C corporation charitable deductions are limited to 10 percent of their taxable income, gifts of corporate income to charity avoid tax at both the corporate and owner levels Example 7.35 Reilly is the 100% shareholder of RKLJ, Inc., a C corporation. Reilly is also charitably inclined, and created the Jarvis Foundation earlier this year. RKLJ, Inc. expects to have net profits of $200,000 for the year, and Reilly would like to take some money out of the corporation to begin to fund his foundation. The corporation will have to pay tax on its income for the year, and any amount remaining will be available for distribution as a dividend. Assume, for purposes of this example, that the corporation's combined federal and state income tax is $40,000. This leaves $160,000 of income available for distribution this year. If Reilly distributes $20,000 to himself in the form of a dividend, he will have to pay tax on the dividend (which will most likely be classified as a qualified dividend and be subject to the appropriate dividend tax rate) of $3,000. The tax on the dividend will be offset by Reilly's charitable deduction, but if Reilly is in a high personal income tax bracket, or if he has made other significant charitable gifts for the current tax year, the limitations that apply to charitable deductions may limit his ability to deduct those charitable gifts for income tax purposes. Example 7.36 Continuing with the same facts from the prior example, assume that instead of distributing a dividend to himself and making a charitable gift, Reilly has his corporation make a gift of $20,000 directly to the Jarvis Foundation. In this case, the corporation's income will be reduced from $200,000 to $180,000, lowering corporate income tax liability from $40,000 to $36,000 (a $4,000 corporate tax savings). Since the gift was made directly to the Foundation, there is no need for Reilly to declare a $20,000 dividend to make the charitable gift, further saving $3,000 in income taxes on Reilly's personal income tax return. Reilly will not be able to deduct the charitable gift on his own tax return, but he does not have to include income in his return in order to make the charitable gift, either. In a sense, Reilly has taken an above-the-line charitable deduction for the $20,000 contribution to the Foundation since he did not include any incremental income in his tax return. Avoiding inclusion of incremental income in his tax return lowers Reilly's AGI, which has a positive effect on other personal tax planning options that are phased-out as AGI increases. This may be particularly valuable for taxpayers who also have to pay the additional 3.8% Medicare surtax on investment income that was imposed by the Affordable Care Act. Furthermore, corporate taxes were reduced, allowing Reilly to donate pre-tax income to the Foundation as opposed to after-tax income. Since the charitable gift is not being deducted as an itemized deduction on Reilly's personal tax return, the percentage limitations on charitable gifts are not an issue, although the overall deductibility limit for corporate donations does impose a limitation on the total amount that can be given to charity using this technique.

Capital medical expenses must be medically necessary and advised by a physician in order to be deductible

true

Casualty losses are only deductible if they result from sudden or unexpected events and are declared a disaster by the President

true

Gifts of cash or property must be made by the close of the taxable year in order to be deductible

true

Interest is only deductible if it is incurred on a valid obligation to pay a fixed or determinable sum of money in return for the use of the money.

true

Qualified medical expenses in excess of 7.5% of AGI (in 2020) are deductible as an itemized deduction

true

Taxpayers must include state income tax refunds in taxable income to the extent that a deduction was previously taken, and a tax benefit realized, for state income taxes paid in a prior tax year

true

Whether a charity uses donated property in a way that is related to its tax-exempt function may affect the amount and type of deduction to which a taxpayer is entitled

true

early payment of state income or property taxes

typically due the 15th day of the month after the tax year, but if this payment is made prior to the end of the tax year it will increase itemized deductions. TCJA 2017 limits the deduction for state and local taxes to $10,000 per year (for tax years 2018 - 2025), so the tax savings from this strategy will be somewhat limited by that ceiling amount