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CHAPTER ACCT 4 SPRING 2012
INCOME EXCLUSIONS
I.
Donative Items
A.
Gifts
1.
Should distinguish between gifts and compensation.
a.
b.
2.
B.
Made out of love, affection, and disinterested generosity.
Examples 1-3, pp. 4.3-4.
Employer "gifts" < $25/employee per year are excludible (Rev. Rul. 59-58).
Inheritances
1.
2.
C.
Have never been taxable.
See Examples 4-5, p. 4.4.
Life Insurance proceeds
1.
Generally are excludible.
a.
Must have an insurable interest. Otherwise, it is treated as an investment.
1.
2.
Compare Examples 8-9, p. 4.5.
Two basic types of life insurance -- term and whole life.
a.
Term policies provide life protection only.
b.
Whole life policies provide life protection and an investment element.
3.
4.
If policy owner elects to "cash in" on a whole life policy, income is realized to the extent
that the cash surrender value exceeds the investment premiums.
5.
D.
Proceeds from both Term & Whole life policies are nontaxable to the beneficiary.
If the face value of the insurance is received in installments, and the insurance company
pays out more than the face amount, Sec. 72 (annuity rules) is employed to determine
the amount excludible.
Scholarships and Fellowship Grants (Sec. 117).
1.
For degree candidates, most amounts are excludible if used for tuition, books, fees and
supplies.
2.
If services must be performed, it is includible even if the services were required to
satisfy the degree requirements.
3.
4.
II.
Exclusion does not include amounts for room, board, laundry, etc.
Examples 10-12, p. 4.6.
Employment-Related Exclusions
A.
Foreign-Earned Income
1.
2.
Exclusion amount is $92,900 ($91,500 in 2010).
3.
Must be a resident of the foreign country or present in the country for 330 days in any
12 consecutive months.
4.
B.
May choose to have a tax credit or income exclusion.
Example 13, p. 4.7
Retirement Contributions
1.
Income contributed to the plan are not currently taxed.
a.
Includes employer contributions and employee contributions (including IRA
contributions).
2.
Income earned on the contributions is not taxed until distributed to the taxpayer.
3.
Distributions are taxed as ordinary income.
a.
Qualified distributions from Roth IRAs (discussed in chapter 8) are nontaxable.
4.
5.
C.
Premature distributions are subject to a 10% penalty.
Examples 15-16, pp. 4.8-9.
Group Term Life Insurance Premiums Paid By Employer (IRC Section 79).
1.
2.
IRS has prepared tables to estimate income. See Table 4-1, p. 4.9.
3.
Example 18, p. 4.10.
4.
D.
Premiums relating to the first $50,000 of coverage are excludible. Premiums relating
to excess coverage are includible.
Single term policies are not excludible.
Health Insurance Premiums paid by the employer (IRC Sec. 106).
1.
Exclusion also applies to companies that self-insure (reimburse employees for their
medical expenses).
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2.
3.
E.
Must be made available to all or most employees to satisfy the nondiscriminatory
requirements.
Examples 19-20, p. 4.10.
Meals and Lodging (Sec. 119)
1.
2.
Meals must be furnished on the business premises of the employer.
3.
Lodging must be a condition of employment.
4.
F.
Both must be for the convenience of the employer.
Examples 21-23, p. 4.11.
Other Benefits Paid by an Employer
1.
Qualified Dependent Care Assistance Program (Sec. 129).
a.
2.
Qualified Educational Assistance Program (Sec. 123).
b.
3.
G.
Maximum of $5,000 per year.
Maximum of $5,250 per year.
Recreation and athletic facilities.
General Fringe Benefits (Sec. 132).
1.
Congress provides for a general provision, which excludes certain fringe benefits not
specifically provided in the Code.
2.
There are five general classifications as follows:
a.
b.
Qualified retirement planning services.
d.
Working Condition Fringe.
e.
H.
Qualified Employee Discount.
c.
3.
No-Additional Cost Service.
De Minimis Fringe.
Examples 25-27, pp. 4.11-12.
Employer Benefit Plans
1.
Cafeteria Compensation Plan (Sec. 125).
a.
This is an arrangement whereby each employee can tailor their compensation
package to suit their own needs by choosing among cash, extra vacation and fringe
benefits (only the nontaxable benefits exempted by Congress).
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b.
c.
2.
Also called flexible spending arrangements or accounts.
Example 29, p. 4.13, illustrates that a taxpayer can increase his take-home pay by
receiving fringe benefits while at the same time the after-tax cost of compensation
may be reduced by the employer.
Health Savings Account (HSA)
a.
This is account used to pay for a taxpayers family medical expenses and it is
allowed to accumulate from year to year.
1.
Distributions from this account are nontaxable if used for qualified medical
expenses.
2.
Earnings on the account are nontaxable.
3.
Contributions by an employer to employee HSAs are excludible from
income.
4.
Contributions by an employee to his or her HSA are deductible as an
above-the-line deduction (line 25 of Form 1040).
b.
Only taxpayers with a high-deductible health plan (HDHP) may contribute to an
HSA.
c.
An HDHP has a higher deductible than most health insurance policies and caps
the amount of out-of-pocket medical expenses than individual is required to pay
in a tax year as follows:
Minimum Annual Deductible
Self-Only
Family
Cap on Out-of-Pocket Costs
Self-Only
Family
2011 $1,200
$2,400
$5,950
$11,900
2010 $1,200
$2,400
$5,950
$11,900
d.
e.
With the rising costs of health care and health insurance costs, these plans will
gradually replace most health plans.
f.
III.
The maximum annual contribution equals $6,150 ($6,150 for 2010) for family
coverage; $3,050 ($3,050 for 2010) for single coverage. Individuals age 55 or
older can add $1,000.
Example 31, p. 4.14.
Returns of Human Capital (reimburse or compensate for injury or loss)
A.
Workers Compensation.
1.
Payments to workers unable to work as a result of a work-related injury are nontaxable.
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B.
Payments for physical injury or sickness
1.
Generally payments from health plans funded (premium payments) by the taxpayer are
excludible.
2.
Payments for emotional distress are excludible only if they result from a claim based on
a personal physical injury.
a.
3.
C.
Contrast examples 32 and 33, pp. 4.15-16.
Punitive damages are included in income.
Payment from Health Insurance plans (Figure 4-1, p. 4.17)
1.
Amounts received under an accident and health plan (including disability plans)
financed by the employee are generally excludible from income (IRC Sec. 104).
2.
Amounts received under an accident and health plan (including disability plans)
financed by the employer are generally includible in Gross Income (IRC Sec. 105) with
the following exceptions:
a.
b.
3.
Reimbursement of medical expenses .
Amounts for permanent loss or use of a member or function of the body or the
permanent disfigurement of the taxpayer, spouse, or dependent.
Therefore, generally what is includible under an employer-financed health plan are
amounts received for lost income and disability income.
a.
Employee may want to pay for her own disability premiums after cost-benefit
analysis.
4.
Example 35, p. 4.16, illustrates differences between above plans.
5.
Note that any reimbursements of medical expenses which were deductible in a prior
year, must be includible in income to the extent of the prior years tax benefit (reduction
in taxable income).
a.
IV.
Example 36, p. 4.17.
Investment-Related Exclusions
A.
State and local bond (municipal) interest excludible.
1.
U.S. savings bonds are includible.
2.
For tax-exempt bonds, need to compare after tax returns on instruments paying taxable
interest to the returns on nontaxable bonds.
a.
After tax returns on taxable instruments = Taxable Return x (1-MTR).
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3.
B.
Example 37-38, p. 4.18.
Stock Dividends (pages 4.18-19 Skip for Now Covered in chapters 9, 11, and Exam 2)
1.
Generally, stock dividends from common stock ownership are not taxable if there is no
change in ownership interest.
a.
b.
2.
C.
If receive same type of stock, original stock basis is allocated equally among
outstanding shares.
If receive different type of stock, basis is allocated to the outstanding stock on the
basis of fair market value.
Examples 40-41, p. 4.19.
Debt Forgiveness [Sec. 108]
1.
Generally includible (increase in wealth under Glenshaw Glass).
a.
2.
Example 42, p. 4.19.
Excludible if:
a.
Taxpayer is insolvent [limited to amount of insolvency], or
b.
The discharge results from a Chapter 11 (bankruptcy) proceeding.
c.
The debt forgiveness is in the form of a gift.
d.
The debt forgiveness consists of acquisition debt on a principal residence
from 2007 - 2012 ( Emergency Economic Stabilization Act of 2008, and
Mortgage Debt relief Act of 2007).
3.
4.
D.
Examples 43-44, pp. 4.19-20.
Not responsible for exception dealing with qualified real property business
debt discharged on p, 4.20.
Improvements by Lessee
1.
Not includible in income of lessor unless the improvements are made in lieu of rent.
2.
Examples 47-48, pp. 4.20-21.
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