311-Chapter 5 Homework Solutions

311-Chapter 5 Homework Solutions - ACC 311 Chapter 5...

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ACC 311 Chapter 5 – Assignment #1 3. What is the fundamental requirement that must be satisfied to deduct a business expense? The dominant motive for incurring the expense must be to earn an economic benefit that is independent of any tax savings. Thus, the business purpose of the transaction must be a profit motive other than tax avoidance. 4. What are the two primary categories of business expense? Why is it necessary to classify business expenses in these two categories? The two categories of business expense are: •Trade or business expenses, and •Expenses for the production of income (investment expenses). All expenses must be classified into one of the categories to determine the proper reporting and limitations on the deduction of the expenses. A trade or business expense is fully deductible in calculating adjusted gross income of an individual. An expense for the production of income is usually subtracted from adjusted gross income as an itemized deduction. As an itemized deduction, the expense may be limited based on the taxpayer's adjusted gross income. Also, the taxpayer will only receive a benefit from a production of income expense if the taxpayer itemizes his/her deductions. 5. Why must a conduit entity report certain deductions separately? Unlike a corporation, a conduit entity (partnership or S corporation) is not a separate taxable entity. The income and deductions from the conduit entity flow through to each owner. Separately reporting certain deductions preserves the tax treatment for the expenditure and assures that the expenditure receives the same tax treatment as if it was actually incurred by the taxpayer. For example, investment expenses are classified as miscellaneous itemized deductions and must be reduced by 2% of adjusted gross income. If investment expenses are included in determining the entity’s ordinary taxable income, an individual would receive a greater deduction (the full amount) from the expenditure. The following deductions must be separately stated: charitable contributions, investment interest expense, investment expenses, Section 179 expense, and nondeductible expenses. 28. Determine how each of the following expenses would be deducted for tax purposes. If the expense is not deductible, explain why not. a. Chander paid $500 in interest on a loan he used to purchase equipment for his retail business.
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The interest is related to a trade or business and is fully deductible. If the business is a sole proprietorship, it will be a deduction for adjusted gross income. b. Peter paid $500 in interest on a loan he used to purchase 1,000 shares of Pickled Pepper stock. The interest is related to an investment. Investment interest expense is deductible as an itemized deduction. It is limited to the amount of the taxpayer's net investment income (see Chapter 8). c.
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311-Chapter 5 Homework Solutions - ACC 311 Chapter 5...

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