Saudi Electronic University Tax and Zakat Accounting Question

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Determination
of Tax
Chapter 2
©2014 Pearson Education, Inc.
2-1
DETERMINATION OF TAX
(1 of 2)
 Formula
for individual income tax
 Deductions from adjusted gross
income
 Determining the amount of tax
 Business income and business
entities
©2014 Pearson Education, Inc.
2-2
DETERMINATION OF TAX
(2 of 2)
 Treatment
of capital gains and
losses
 Tax planning considerations
 Provisions applicable to higherincome taxpayers
 Compliance and procedural
considerations
©2014 Pearson Education, Inc.
2-3
Formula for Individual
Income Tax (1 of 2)
Gross income
See Table 3 for items listed in §61(a)
– Exclusions (see Table 2)
Gross Income
– Deductions for AGI (see Table 4)
Adjusted Gross Income (AGI)
 Tax
rate schedules, std. deduction, personal
exemptions, & other amounts are adjusted for
inflation.
©2014 Pearson Education, Inc.
2-4
Formula for Individual
Income Tax (2 of 2)
Adjusted Gross Income (AGI)
– Deductions from AGI:
Greater of itemized deductions or std ded.
Personal and dependency exemptions
Taxable Income
X Tax rate or rates (tax table or schedule)
Gross tax
– Credits and prepayments (see Table 5)
Net tax payable or refund due
©2014 Pearson Education, Inc.
2-5
Deductions from
Adjusted Gross Income
 Itemized
deductions
 Standard deduction
 Personal exemptions
 Dependency exemptions
 Child credit
 Making work pay credit and social
security tax reduction
©2014 Pearson Education, Inc.
2-6
Itemized Deductions
(1 of 2)
 See
Table 6 for partial list
Medical
expenses
Taxes
Investment
and residential interest
Charitable contributions
Personal
casualty and theft losses
Miscellaneous
deductions
©2014 Pearson Education, Inc.
2-7
Itemized Deductions
(2 of 2)
 Only
claim itemized deductions if
total greater than std. deduction
 Some items limited by varying
percentages of adjusted gross inc.
Medical
expenses
Casualty losses
Miscellaneous itemized deductions
©2014 Pearson Education, Inc.
2-8
Standard Deduction
 Varies
based on:
 Filing
status, age, and vision
 $6,100 – $12,200 in 2013
Increase
over 2012 to adjust for inflation
 Increase
std. ded. if elderly &/or blind
 Used when std. ded. > itemized ded.
 Limited std. ded. in certain situations
©2014 Pearson Education, Inc.
2-9
Personal Exemptions
 Generally,
each taxpayer allowed
one
Unless
claimed as dependent on
another return
$3,900 in 2012
 Additional
allowed for spouse on
joint return
©2014 Pearson Education, Inc.
2-10
Dependency Exemptions
Requirements for All Dependents
 Have
a qualifying identification
number
 Meet a citizenship test
 Meet a separate return test
 Not themselves claim another
person as a dependent
©2014 Pearson Education, Inc.
2-11
Dependency Exemptions
Additional Requirements for Qualifying
Children
 Relationship
 Age
< test test 19 or full-time student < 24  Abode Live test w/taxpayer > ½ of year
 Support
Test
Dependent
provides < ½ own support ©2014 Pearson Education, Inc. 2-12 Dependency Exemptions Additional Requirements for Other Relatives  Relationship Related  Gross test to or live w/taxpayer whole yr income test Dependent’s  Support gross inc. < exemption amt. test Taxpayer provides > ½ support
©2014 Pearson Education, Inc.
2-13
Determining the Amount
of Tax
 Filing status
 Joint return
 Surviving
spouse
 Head of household
 Single taxpayer
 Married filing a separate return
 Abandoned spouse
 Dependents with unearned income
©2014 Pearson Education, Inc.
2-14
Filing Status
(1 of 3)
 Married
filing jointly
 Marital
status on last day of tax year
 Common law marriages recognized
 Spouses must be U.S. citizens or residents
 Federal Defense of Marriage Act of 1996
defines marriage as between a man and a
woman
Same-sex
couples cannot file a joint
federal return, but may file joint state return
in some states
©2014 Pearson Education, Inc.
2-15
Filing Status
(2 of 3)
 Surviving
 Files
 Head
spouse
as married filing jointly
of household
 Unmarried
and maintains home in which
dependent lives > ½ yr
 Married
filing separately
 Single – taxpayers not in other
categories
©2014 Pearson Education, Inc.
2-16
Filing Status
(3 of 3)
 Relative
tax liability by filing
status from lowest to highest
Married
filing jointly
Surviving spouse
Head of household
Includes
abandoned spouse
Single
Married
filing separately
©2014 Pearson Education, Inc.
2-17
END
Chapter 2
©2014 Pearson Education, Inc.
2-18
Gross Income:
Inclusions
Chapter 3
©2014 Pearson Education, Inc.
3-1
GROSS INCOME:
INCLUSIONS
►
►
►
►
►
►
Economic and acct concepts of inc.
To whom is income taxable?
When is income taxable?
Items of gross income
Tax planning considerations
Compliance & procedural
considerations
©2014 Pearson Education, Inc.
3-2
Concepts of Income
►
►
►
Economic concepts of income
Accounting concepts
Tax concept of income
©2014 Pearson Education, Inc.
3-3
Economic Concepts of
Income
►
►
Wealth that flows to individuals
Changes in value in individuals’
wealth
►
Unrealized gains
►
Gifts & inheritances considered
income
©2014 Pearson Education, Inc.
3-4
Accounting Concepts of
Income
Values are measured by a
transaction approach
► Income realized as result of
completed transactions
► Use historical cost
►
©2014 Pearson Education, Inc.
3-5
Tax Concept of Income
Conditions to make income taxable
► Administrative convenience
► Wherewithal to pay
► Gross income defined
►
©2014 Pearson Education, Inc.
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Conditions to Make
Income Taxable
Economic benefit to taxpayer
► Income must be realized
►
►
►
Earnings process complete
Income must be recognized
©2014 Pearson Education, Inc.
3-7
Administrative
Convenience
Economic concept is considered
too subjective
► Objectivity achieved at price of
equity
►
©2014 Pearson Education, Inc.
3-8
Wherewithal to Pay
►
A tax should be collected when
the taxpayer can most easily pay
©2014 Pearson Education, Inc.
3-9
Gross Income Defined
(1 of 2)
►
Section 61(a) defines gross income
►
“all income from whatever source
derived,” including (but not limited
to) the following items:
►
Compensation, income derived from
business, gains from dealings in
property, interest, rents, royalties,
dividends, alimony, annuities, life
insurance, pensions
©2014 Pearson Education, Inc.
3-10
Gross Income Defined
(2 of 2)
►
Form of receipt
►
►
►
Gross income not limited to cash
§1.61-1a, income may be “realized
in any form, whether in money,
property, and services”
Indirect economic benefit
►
Items indirectly benefiting
taxpayers excluded from gross
income
©2014 Pearson Education, Inc.
3-11
To whom Is Income
Taxable?
Assignment of income
► Allocating income between
married people
► Income of minor children
►
©2014 Pearson Education, Inc.
3-12
Assignment of Income
►
Supreme Court in Lucas v. Earl
(1930)
►
►
Ruled that individual taxed the
earnings from his personal services
Helvering v. Horst (1940)
►
Ruled that assignment of income
doctrine applies to property
©2014 Pearson Education, Inc.
3-13
Allocating Income
between
Married People (1 of 2)
►
Common law property system
►
Used in 42 states
►
Income taxed to person who earns it
or who owns the income-producing
property
►
Joint income comes from jointly owned
property
©2014 Pearson Education, Inc.
3-14
Allocating Income
between
Married People (2 of 2)
►
Community property states
All income deemed to be earned
equally by spouses except income
from separate property
► Separate property of each spouse
►
►
►
Property owned prior to marriage
May be community income or separate
income, depending on state of residence
©2014 Pearson Education, Inc.
3-15
When Is Income Taxable?
Cash method
► Accrual method
► Hybrid method
► See Topic Review 1
►
©2014 Pearson Education, Inc.
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Cash Method
(1 of 3)
►
Cash receipts and disbursements
►
►
Used by most individuals, and most
non-corp. bus. with no inventory
Constructive receipt
►
Report inc. in year actually received
► Check received after banking hours
► Bond interest coupons that have
matured but not redeemed
©2014 Pearson Education, Inc.
3-17
Cash Method
(2 of 3)
►
No constructive receipt if
►
It is subject to substantial
limitations
►
Payor does not have funds
necessary to make payment
Amount is unavailable to taxpayer
►
©2014 Pearson Education, Inc.
3-18
Cash Method
(3 of 3)
►
Exceptions to basic cash method
►
Interest on Series E or EE Savings
Bonds
►
Special rules apply to farmers and
ranchers
Small taxpayer exception for
inventories
►
©2014 Pearson Education, Inc.
3-19
Accrual Method
►
Report income in year income
earned
►
►
►
Right to income
Amount can be determined with
reasonable accuracy
Prepaid income
►
►
Generally taxable when received
Exceptions in Rev. Proc. 2004-34
©2014 Pearson Education, Inc.
3-20
Hybrid Method
Accrual method for purchases
and sales
► Cash method in computing all
other income and expenses
►
©2014 Pearson Education, Inc.
3-21
Items of Gross Income
(1 of 2)
Compensation
► Business income
► Gains from dealings in property
► Interest
►
►
Series EE bond interest exception
Rents and royalties
► Dividends
►
©2014 Pearson Education, Inc.
3-22
Items of Gross Income
(2 of 2)
►
►
►
►
►
►
Alimony and separate maint. pmts.
Pensions and annuities
Income from life insurance and
endowment contracts
Inc. from discharge of
indebtedness
Income passed through to taxpayer
3-23
Other items of gross income
©2014 Pearson Education, Inc.
Alimony and Separate
Maintenance Payments
►
Only receipt of alimony is taxable
►
Alimony is deductible by one who
pays
Child support not taxable
► Property settlement not taxable
►
©2014 Pearson Education, Inc.
3-24
Pensions and Annuities
►
Income portion of annuity taxable
►
►
Investment portion is excluded
Exclusion ratio
►
Basis in annuity ÷ Expected Return
►
Expected return
►
Payment x # of expected payments
©2014 Pearson Education, Inc.
3-25
Other Items of Gross
Income (1 of 2)
Prizes, awards, gambling winnings,
and treasure finds – taxable
► Illegal income – taxable
► Unemployment compensation taxable
► Social security benefits – up to 85%
taxable
►
©2014 Pearson Education, Inc.
3-26
Other Items of Gross
Income (2 of 2)
►
Insurance proceeds & court awards
►
Special rules apply
Recovery of previously deducted
amounts – taxable
► Revenue received that is disputed
must still be reported as income
►
►
Previously reported income that is
subsequently refunded is deductible
©2014 Pearson Education, Inc.
3-27
END
Chapter 3
©2014 Pearson Education, Inc.
3-28
Gross Income:
Exclusions
Chapter 4
©2014 Pearson Education, Inc.
4-1
GROSS INCOME:
EXCLUSIONS
Items that are not income
► Major statutory exclusions
► Tax planning considerations
► Compliance and procedural
considerations
►
©2014 Pearson Education, Inc.
4-2
Items that Are Not
Income
Unrealized income
► Self-help income
► Rental value of personal-use
property
► Selling price of property
►
©2014 Pearson Education, Inc.
4-3
Unrealized Income
►
Example:
►
Land valued at $20,000 beginning of
year appreciates to $45,000 at end
of year
►
The $25,000 increase in value is
unrealized income and not taxable
©2014 Pearson Education, Inc.
4-4
Self-Help Income
►
The amount saved is not subject
to tax
►
Cleaning your own carpet
►
Repairing your car
©2014 Pearson Education, Inc.
4-5
Selling Price of Property
►
Only gain on sale of property is
taxable
Selling price
– Basis in property
Gain on sale of property
©2014 Pearson Education, Inc.
4-6
Major Statutory
Exclusions (1 of 2)
►
►
►
►
►
Gifts and inheritances
Life insurance proceeds
Awards for meritorious
achievement
Scholarships and fellowships
Distributions from qualified tuition
programs
©2014 Pearson Education, Inc.
4-7
Major Statutory
Exclusions (2 of 2)
►
►
►
►
►
►
Payments for injury and sickness
Employee fringe benefits
Foreign-earned income exclusion
Income from the discharge of a debt
Exclusion for gain from small
business stock
Other exclusions
©2014 Pearson Education, Inc.
4-8
Life Insurance Proceeds
►
Paid by reason of death
►
►
Policy surrendered not for death
►
►
Generally non-taxable
Excess of proceeds over the
premiums paid taxable to recipient
Dividends on life insurance and
endowment policies non-taxable
►
Considered return of premiums paid
©2014 Pearson Education, Inc.
4-9
Awards for Meritorious
Achievement
►
Awards for religious, charitable,
scientific, etc. are not taxable if
ALL criteria are met:
►
►
►
Did not enter contest
Is not required to perform
substantial future services
Designates a qualified charitable
organization to receive the payment
©2014 Pearson Education, Inc.
4-10
Scholarships and
Fellowships
►
Scholarships excluded for degree
candidates used for qualified
tuition and related expenses
Required for courses of instruction
at an educational institution
► Tuition, fees, books, supplies,
equipment
► Not room and board
►
©2014 Pearson Education, Inc.
4-11
Distributions from Qualified
Tuition Programs: §529 Plans (1
of 2)
No tax on earnings while in §529 plan
► Exclusion for distributed earnings if
used by beneficiary for qualified
tuition and related expenses
►
►
►
Tuition, fees, books, supplies,
equipment, AND
Room and board if ≥ half-time student
©2014 Pearson Education, Inc.
4-12
Payments for Injury and
Sickness
►
Injury includes physical and mental
►
►
Medical expense pmts. for emotional
distress excluded if expenses
attributable to a physical injury
Disability income policy is nontaxable if purchased by taxpayer
►
Taxable if purchased by employer
©2014 Pearson Education, Inc.
4-13
Foreign-Earned Income
Exclusion
Eligible Taxpayers
►
U.S. citizens subject to U.S. income
tax on worldwide income
►
Subject to double taxation if foreign
income taxed by foreign country
►
Foreign tax credit (FTC) mitigates
double taxation
©2014 Pearson Education, Inc.
4-14
Foreign-Earned Income
Exclusion
Exclusion Amount
►
Foreign-earned income exclusion
alternative to FTC
►
May exclude up to $97,600 of foreign
earned income
►
Add’l exclusion for foreign housing costs
►
Foreign housing costs in excess of $15,616
►
Max housing exclusion is $13,664
©2014 Pearson Education, Inc.
4-15
Foreign-Earned Income
Exclusion
Residency Tests
►
To qualify for foreign-earned
income exclusion
Must be bonafide resident of foreign
country(ies) for entire taxable year,
OR
► Physical presence in foreign country
for 330 days during a 12-month period
►
►
If 12-month period spans two tax years,
exclusion prorated
based
4-16
©2014 Pearson Education,
Inc. on [# days/365]
Income from the
Discharge of a Debt
►
(1 of 2)
Generally, taxpayer may have to
include amount of debt
forgiveness in gross income
►
Exceptions: nontaxable situations
►
Discharge occurs in bankruptcy
►
Discharge occurs when taxpayer is
insolvent
©2014 Pearson Education, Inc.
4-17
Other Exclusions
(1 of 2)
►
►
►
►
►
Gain from sale of personal residence
Annuities paid to survivors of public
safety officers
Certain military-related payments
Housing allowance for ministers
Campus housing
©2014 Pearson Education, Inc.
4-18
Other Exclusions
(2 of 2)
►
►
►
►
►
►
Foster care payments
Rural letter carrier’s allowance
Roth IRA distributions
Education IRA distributions
Personal foreign currency gains
See Table 2
©2014 Pearson Education, Inc.
4-19
END
Chapter 4
©2014 Pearson Education, Inc.
4-20

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