Gross Income - CH04 - CHAPTER 4 GROSS INCOME SOLUTIONS TO...

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CHAPTER 4 GROSS INCOME SOLUTIONS TO PROBLEM MATERIALS PROBLEMS 1. Because Cecil does not know how much he will receive from the sale of automobile parts, and it is impractical to determine the cost of individual automobile parts, he could reason that all sales proceeds are a recovery of capital until he has received his cost of $250, and all subsequent proceeds are included in gross income. The IRS may argue that Cecil should allocate his cost of the car among the various parts, which may be impractical. pp. 4-3 to 4-7 2. a. The overcharge to the customer created a liability equal to the amount of the overcharge. Therefore, the taxpayer did not experience an increase in wealth from an economic point of view. For tax purposes, the taxpayer would report gross income in 2008 and a deduction in 2009. b. From an economist’s point of view, the taxpayer suffered a $1,000 loss from the decline in value in the year of purchase, and then experienced a $3,500 ($6,500 – $3,000) gain in the year the stock was sold. For tax purposes, the taxpayer realized a $2,500 ($6,500 – $4,000) gain in the year the stock was sold. The loss was not recognized in the year of purchase for tax purposes because the loss was not realized in that year. c. According to the economist, the carpenter should recognize income in the year the improvements were made, based on the increase in value of the property improved. Thus, the carpenter should recognize $26,000 ($140,000 – $100,000 – $14,000) when the improvements were made and no income in the year of sale. The economist may reason that the carpenter made $20,000 from the imputed value of his services and $6,000 from the sale of the property. Which of these options the economist selects depends on the fair market value of the property at the end of the tax year in which the improvements were made. For tax purposes, no income was realized until the property was sold, and the $26,000 was gain from the sale of the property. d. The discount the shareholder received on the purchase of the property of $5,000 ($15,000 – $10,000) is income (a constructive dividend) for tax purposes. From an economic perspective, the shareholder and his corporation may not be treated as separate entities and thus the shareholder was receiving what he already owned and was retaining his $10,000 cash received by his corporation. So there is no income. pp. 4-4 to 4-6 3. By paying the carpenter in cash, with the knowledge the cash will not be reported, it would seem that you become party to the carpenter’s tax fraud. You appear to have no legal liability, but it seems apparent that you would be a participant in that you benefited from the carpenter’s scheme. The carpenter’s comments that suggest that he feels he is 4-1
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4-2 within the bounds of the law and ethics are transparent. When the income is earned (i.e., after regular working hours) has nothing to do with measuring the taxpayer’s ability to pay. Therefore, it would seem that you should pay the $700 by check. Alternatively, you may want to pay with a check, but negotiate to have the price reduced to less than $700.
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