IG_C07 - CHAPTER 7 DEDUCTIONS AND LOSSES: CERTAIN BUSINESS...

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CHAPTER 7 DEDUCTIONS AND LOSSES: CERTAIN BUSINESS EXPENSES AND LOSSES LECTURE NOTES OVERVIEW OF INTRODUCTORY MATERIAL 1. Importance of the for/from Concept . Reinforcement of an understanding of the tax formula is helpful. In this regard, Table 1 at the end of the Lecture Notes may be useful in reinforcing which Code Sections provide for deductions for and from adjusted gross income. a. Business deductions . Stress the difference between a deduction for and from AGI and cite examples of each (e.g., reimbursed employee expenses are deductible for AGI while real estate tax on a personal residence is deductible from AGI as an itemized deduction). b. Itemized deductions . In Chapter 7 the coverage principally deals with business expenses that are deductible for AGI. However, the chapter also covers personal casualty and theft losses and losses incurred by an individual in a transaction entered into for profit other than those attributable to rents and royalties. These items are itemized deductions. BAD DEBTS 2. Accounts Receivable Worthlessness . Generally, if a taxpayer sells goods or services on credit and the account receivable subsequently becomes worthless, a bad debt deduction is permitted (unless the taxpayer uses the cash method ). a. Comparison with accounting treatment . The treatment of bad debts for tax purposes does not necessarily parallel the accounting treatment of bad debts, since the specific charge-off method (which does not properly match income and expenses) must be used for tax purposes . 7-1
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7-2 2009 Comprehensive Volume/Instructor’s Guide with Lecture Notes b. Effect on cash basis taxpayer . A cash basis taxpayer does not get a bad debt deduction for uncollectible accounts receivable since such sales have not been included in income. The net effect is to exclude both the income and the bad debt deduction. ETHICAL AND EQUITABLE CONSIDERATIONS A Bad Debt Deduction (page 7-3) ? Worthless debts arising from unpaid wages are not deductible as a bad debt unless the taxpayer has included the amount in income for the year for which the bad debt is deducted or for a prior tax year. Jake used the cash method of reporting income. Therefore, fees for services by Jake that allegedly were owed by the City have never been included in income, and unpaid amounts, even if earned, do not constitute bad debts within the meaning of §166 for which a deduction for worthlessness may be claimed. c. Reserve method restriction . Only certain financial institutions may use the reserve method for bad debts . d. Specific charge-off method (see Concept Summary 7-1 in the text ). The operation of the specific charge-off method is illustrated by the following journal entries. Journal Entries for Bad Debts
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IG_C07 - CHAPTER 7 DEDUCTIONS AND LOSSES: CERTAIN BUSINESS...

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