What do itemized deductions consist of?
allowable personal expenditures
MISC itemized deductions
Are itemized deductions FOR or FROM AGI?
The are deducted FROM AGI.
What are most itemized deductions subject to?
Are investment expenses by individuals deductible?
If so, how?
Deductible as MISC itemized expenses.
(previous question stated that investment related expense (commision) must be added to basis. How can you have both?)
What personal expenses are always deducted FOR AGI
Investment Interest Expenses
Capital Gains and Losses (not an expense but deductible above the line)
Personal expenses that are not rent, royalty, and investments are deducted as what?
MISC itemized deductions subject to the amount that exceeds 2% of AGI (not always true, ask professor) not all below the line deductions are MISC itemized and subject to limitation. Only some are. How do we know which ones?
Electing the standard deduction, all tax benefits from itemized deductions are…
See example 5 in text book
For conduit entities, what deductions most commonly must be reported to owners separately?
Investment interest expenses
non deductible expenses
Sec. 179 expenses
Can a corporation have expenses classified as investment related expenses?
No. All expenses are classified as trade/business expenses.
In general what are the categories of allowable trade and business expenses. (sec. 162)
Rentals or other payments required to be made as a condition to the continued use or possession of property to which the taxpayer has not taken or is not taking title in in which has no equity.
What are the three requirements for meeting the “egaged in a trade or business “test?
Continuous and regular activity
livelihood- not a hobby.
Rental Activity Expenses is always adjusted
Classification of rental property as trade or business related or investment related depends on what?
Amount of owner activity/involvement
Investment rental property sold at a loss is deducted how?
Investment rentals sold at loss are treated as a capital loss and subject to 3000 deduction per year
Test for deductibility
Ordinary- normal for similar business
Necessary- helpful and prudent
Reasonable in amount
– arms length
– question of fact (what does question of fact mean?)
negative test for deductibility
Must not be a…
– Personal expense
– Capital Expenditure (depreciated and amortized over life of asset.)
– Against public policy
– Related to tax exempt income
– Another person’s obligation
What is the start up cost deduciton allowed?
5000 in year business becomes operational.
What is the $ limit for start up cost deductions?
What happens to excess start up costs for deduciton?
they are amortized over 180 months.
What is the phase out limit for start up costs?
dollar for dollar phase out of deduction when start up costs exceed 50,000.
Illegal Businesses (against public policy)
Are cost of goods sold deductible in an illegal business?
CGS are ALWAYS deductible.
What type of business expenses are deductible for illegal businesses?
all ordinary, reasonable, and necessary expenses for all illegal business except the sale of drugs.
Against Public Policy
When is the only time that costs to influence legislation are deductible?
WHen you are lobbying the local government
When are costs to monitor legislation deductible?
always without regard to local, state, federal.
an income earning activity without a predominant profit motive.
Factors in determining a hobby
Manner of conducting activity
Expertise or reliance on expert advice
Time and effort spent on activity
History of income and loss
Amount of occasional profit
Elements of personal pleasure
Success in similar activities
Are losses from a hobby deductible?
Are expenses from a hobby deductible?
Yes, but limited to the amount of income the hobby generates
Describe the 3 tier system used to deduct hobby expenses
1) Allowed as either business or itemized expenses
2) Other expenses that qualify as business expenses
3) Depreciation on asset used.
(have no idea what this system means or how to use it)
Allowable expenses from Hobbies are deductible for of from AGI?
FROM AGI as MISC itemized deduction subjet to 2% AGI limitation.
What is the order that hobby expenses are deducted?
1) those always deductible. (property taxes, mortgage interest, casualty losses)
2) Non depreciation expenses
Hobby deductions are adjusted ______ AGI and should be treated as ……………?
FROM and MISC Itemized deduction subject to 2% AGI limitation
When does Hobbiest have burden of proof that the hobby has profit motive?
If the taxpayer makes profit less than 3/5 years, or 2/7 years for horses.
What is the rule that can switch hobby burden of proof to IRS?
Presumptive rule of SEc. 183
Define- Mixed use vacation home
Mixed use vacation homes are used by an owner for personal vacations, and also rented to unrelated parties for some portion of the year.
How must mixed use vacation homes be classified? (3)
1) personal residence
2) Vacation home
3) Rental Property
When is a mixed use vacation home classified as a personal residence?
When it is rented out 14 days or fewer in a year
When is a mixed use vacation home classified as a vacation home?
If used personally
– by owner more than 14 days in a year
– more than 10% of the number of days rented
When is a mixed use vacation home classified as a rental property?
when used by owner 14 days or fewer out of the year
when used by owner less than or equal to 10% of the days rented.
If classification is personal residence, tax treatment is?
Report no income
If classification is vacation home, tax treatment is?
Report income and allocate expenses using 3 tier system. (no losses allowed)
If classification is a rental property, tax treatment is?
Report income and allocate ALL expenses. Losses allowed.
What are requirements to designate a portion of the home as a home office?
1) office must be used exclusively and regularly
2) Prinicipal place of business, OR
3) Place to meet clients.
(if the home office is not your principal place of business, and you do not meet clients there because you dont have clients, then you will not be disqualified) (surgeon doing admin work)
What must employees show in regard to their employer about the use of the office ?
It is for the convinence of the employer
required for working with the employer
(satellite workers in plano when employer is in cali but doesnt have an office in plano)
How are allowable deductions taken with mixed use home offices?
They are taken using the three tiered system.
What is the deduction for a mixed use home office limited to?
the amount of net income genereated by the business?
Can a home office deduction create a loss?
No, but losses can be carried forward.
Timing of Deductions
What determines the taxpayers timing of deductions?
The accounting method that they use.
Cash method deductions are made when?
When are check transactions considered paid?
When are credit card transactions considered paid?
in the year the expense is paid.
Date of mailing checks
date of swipe of credit cards
Are prepaid expenses deductible under the cash method of accounting?
If used within one year. (not prepaid interest)
When are accrual method deductions taken?
When two tests are met.
What are the two tests for determining when accrual based deductions can be taken?
All events test
Economic performance test
When is all events test met?
When a liability exisists, and the amount of that liability can be determined with reasonable accuracy
When is economic performance test met?
When services or property is provided.
What is the rule when timing deductions between:
an accrual basis taxpayer with accrued expenses payable to a cash basis related taxpayer?
Unless both parties are Accrual basis, both parties must report using the cash method of accounting
(great loophole if not limited by IRS)
(you could claim lots of expenses now, claim income later)
Estimates of expenses are not permitted for tax purposes.
Writing off bad debts, you must use a _____ amount?
Warranty expenses cannot be _____________?
Use specific write-off for bad debts
Do not estimate warranty expense