ch 5 sol - Answers to Questions Tax Exclusion v. Tax...

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Unformatted text preview: Answers to Questions Tax Exclusion v. Tax Deduction 1. Exclusions do not appear on your tax return and tax deductions do appear on your return. Exclusions may still be taxed. See Chapter 9 on tax credits and the alternative minimum tax. Life Insurance Proceeds 2. $5,000. Proceeds less investment in contract. Receipt of life insurance is in essence the recovery of a capital asset. Social Security Benefits 3. In determining if any Social Security benefits are taxable, the first step is to calculate modified adjusted gross income. In this calculation, tax-exempt bond interest is included. Therefore, interest on tax—exempt securities has a direct bearing on the taxation of Social Security benefits. Social Security Benefits ‘ 4. Prior to 1994, the amount of Social Security benefits included in income was the lesser of one-half of the benefits or one-half of the excess of taxpayer's income over base ($25,000 single, $32,000 joint return, zero for married fi ling separately). For 1994 and later years, taxpayers with provisional income exceeding thresholds ($34,000, single taxpayers; $44,000, joint taxpayers) will include the lesser of: a. 85 percent of the taxpayer’s Social Security; or b. The total of the following: nt of the amount that provisional income exceeds the higher threshold amounts, plus (1)85 perce (2) The smaller of (a) the amount of Social Security benefits included under lower limits, or (b) $4,500 for single taxpayers, or $6,000 for joint filers. Savings Bond Interest 5. The taxpayer makes the choice of either being taxed in the year the interest is earned or deferred recognition of interest income until the Series EE bond is redeemed. Private Activity Bonds 6. One justification is to stimulate economic development. Another reason is the construction of major projects. For a more extensive list, refer back to 115075. Annuities 7. An annuity is a contract that pays a fixed income at set regular intervals for a specified period of time. Features would include the number of years for payments, amount of payment to be made, and life expectancy of annuitant. 8. [Net cost of annuity/ Expected payments under contract] x Payment received under annuity = Excludable Portion Compensation for Injuries or Sickness 9. For amounts received under workers’ compensation, the law specifically excludes from gross income: (1) Amounts received under workers’ compensation acts as compensation for personal injuries or sickness. (2) Amounts of any damages received on account of personal injuries or sickness. (3) Amounts received through accident and health insurance for personal injuries or sickness (other than amounts received by an employee, to the extent such amounts (a) are attributable to contributions by the employer which were not includible in the gross income of the employee or (b) are paid by the employer). (4) Amounts received as a pension, annuity, or similar allowance for personal injuries or sickness resulting from active service in the armed forces of any country or in the Coast and Geodetic Survey or the Public Health Service, or as a disability annuity payable under the provisions of Section 808 of the Foreign Service Act of 1980. (5) Amounts received as disability income attributable to injuries incurred as a direct result of violent attack which the Secretary of State determines to be a terrorist attack and which occurred while such an individual was an employee of the United States engaged in the performance of official duties outside the United States. Employer Contributions to Accident and Health Plans 10. Employer contributions are excluded from employees’ gross income. Cafeteria Plans 11. A cafeteria plan must have a minimum of two benefits consisting of cash and statutory nontaxable benefits. A cafeteria plan is beneficial to the employer in that all items in the plan are tax deductible, but the major advantages are to the employees. That is, they can pick and choose any of the benefit plans that interest them. Joint and Survivor Annuities 12. Under a joint and survivor annuity, two individuals who are alive receive periodic benefits for life. In calculating benefits, both spouses must be taken into consideration. When one spouse dies, the surviving spouse receives payments until his or her death, at which time all payments cease. Fringe Benefits 13. Under the law only statutory nontaxable benefits may be included in a cafeteria plan. Employer contributions for profit—sharing or stock-bonus plans under a qualified cash or deferred arrangement as defined by Code Sec. 401(k)(2) can be included in cafeteria plans. Also, deferred compensation, qualified education programs, scholarships and fellowships, and fringe benefits must be excluded. Gross Income Exclusions 14. a. Excluded b. Included c. Included d. Included e. Excluded f. Included g. Included h. Included i. Excluded j. Excluded k. Excluded I. Excluded m. Excluded Exclusion of Meals 15. If a waiter is required to be available for work through the lunch or dinner break and not leave the restaurant, then the fact that he eats food from the restaurant will not give rise to income. The waiter in this case is required to be on the premises. Educational Assistance Plans 16. $2,000. Grants or awards for items other than tuition, books, and fees must be included in gross income. 17. No. She is allowed to exclude $5,250 from her gross income. Since the reimbursement exceeded $5,250 she would have $750 of income. Group-Term Life Insurance 18. Yes. Premiums for group-term life insurance coverage over $50,000 per year must be included in income regardless of income level, as long as the plan is not discriminatory. The amount to be included in income is determined by the uniform premium schedule covered under Reg. §1.79-3(d)(2). Answers to Problems Gift Income 19. Leon does not include the value of the cottage, since it was a gift. Income from the cottage does belong to Leon and is taxable income to him. Unemployment Compensation and Disability Income 20. The amount of Read’s family income includible in gross income is $27,000, computed as follows: Unemployment compensation $ 5,000 Salary—Robert 10,000 Salary—Wife 9,000 Supplemental unemployment compensation 3,000 = $27,000 Disability income is excluded from gross income if the injury was job-related. Workers’ Compensation 21. All the mentioned insurance proceeds are excludable from Windsor’s gross income. If medical expenses were deducted on his 2011 tax return, then at the time he received the reimbursement in 2012, he would have to recognize income to the extent of benefits received in 2012. Pension Income 22. Their taxable income is $500. Gross income: Private pensions $18,000 One-half Social Security 6,000 Interest on bank deposits 2,000 Dividends 1,500 Interest (nontaxable) 700 Modified adjusted gross income plus 1/2 Social Security benefits $28,200 Since the $28,200 is less than the $32,000 amount allowed married couples filing a joint return, none of the Social Security benefits are taxable. Taxable income: Private pensions $18,000 Interest on bank deposits 2,000 Dividends 1,500 = $21,500 ' Less: Standard deduction $11,400 Over 65 deduction 2,200 13,600 = $ 7,900 Less: Personal exemptions (2 x $3,700) 7,400 Taxable income $ 500 Retirement Income 23. Harry must include in gross income the cost of the premium for the amount of insurance over $50,000. For an individual 50—54 years of age, the premium is assumed to be $2.76 per thousand per year. Harry must include in income $138 ($2.76 x 50). Social Security Benefits 24. Charles Adams must include $750 of his Social Security benefits in gross income. Salary $14,000 Interest income 2,000 Dividend income 1,000 Tax—exempt income 1,000 1/2 Social Security benefits 2,500 Net rental income 6,000 Provisional income $26,500 Excludable amount 25,000 Excess $ 1,500 50 percent of excess $ 750 The maximum amount that Charles Adams must include in his gross income is the lesser of 50 percent of the excess ($26,500 — $25,000 = $1,500), which equals $750, or 50 percent of the Social Security benefits ($2,500). Charles Adams’s taxable income is $12,800. Adjusted gross income without Social Security and tax-exempt income $23,000 Plus: Social Security 750 Adjusted gross income $23,750 Less: Standard deduction ($5,800 + $1,450) $7,250 Personal exemption 3,700 10,950 Taxable income $12,800 Group Insurance 25. Felix must include all $650 in gross income because the policy discriminates. If the company policy were to be changed, then the calculation would be: Total coverage $100,000 "Tax free” maximum 50,000 Insurance subject to tax $ 50,000 Cost per thousand ($.09 x 12) = $1.08 Taxable income (50 x $1.08) $ 54 Investment Income 26. Series EE bonds give the investor the opportunity to recognize the interest income yearly or wait until the bonds mature. Investments in qualified veterans’ bonds and industrial development bonds used for mass transit present other ways of excluding interest from gross income. Social Security Benefits 27. Norm and Pat have $27,325 of taxable income. Computation: Gross income $35,000 Interest income 4,000 Dividend income 3,000 1/2 Social Security income 4,500 Provisional income $46,500 Social Security Computation: (a) $9,000 x 85% = $7,650 (b) [($46,500 — $44,000) x 85%] + $4,500 = $6,625 Norm and Pat must include $6,625 in their AGI. AGI ($35,000 + $4,000 + $3,000 + $6,625) $48,625 Personal exemptions (2 x $3,700) 7,400 Standard deduction ($11,600 + $2,300) 13,900 Taxable income $27,325 Social Security Benefits 28. Ron and Gayle have taxable income of $26,800. Computation: Gross income $36,000 Interest income 4,000 Tax-exempt income 4,000 V2 Social Security income 6,000 Provisional income $50,000 Social Security Computation: (a) $12,000 x 85% = $10,200 (b) [($50,000 — $44,000) x 85%] + $6,000 = $11,100 Therefore, $10,200 of their Social Security income is included in their AGl. AGl ($36,000 + $4,000 + $10,200) $50,200 Personal exemptions (2 x $3,700) 7,400 Itemized deductions 16,000 Taxable income $26,800 Joint and Survivor Annuity 29. The exclusion ratio is 64.4 percent. Annual annuity payment ($200 x 12) $ 2,400 Multiple from Table 3 (Ages 66 and 68) 23.3 Expected return ($2,400 x 23.3) $55,920 $36,000 Exclusion ratio = 64.4% $55,920 Annuity: Exclusion Ratio 8.37 in her gross income. 30. Mary Jones must include $13 Annual annuity payment ($125 x 12) $ 1,500 Multiple from Table 2 (Age 61) 23.3 Expected return ($1,500 x 23.3) $34,950 $22,050 Exclusion ratio = 63.1% $34,950 Payments received in 2011: ($125 x 3) $375.00 Excluded portion ($375 x 63.1%) 236.63 Taxable portion $138.37 Annuity: Taxable Portion 31. Don Smith must include $1,253.17 in his gross income. Annual annuity payment ($147 x 12)$ 1,764 Multiple from Table 2 (Age 65) 20.0 Expected return ($1,764 x 20) $35,280 $ 7,938 Exclusion ratio = 22.5% $35,280 Payments received in 2011: ($147 x 11) $1,617.00 Exclusion ratio 22.5 % Excluded from gross income $363.83 Taxable portion $1,253.17 Annuity Income: Cost-of-Living Increase 32. Don Smith is taxed on the full amount of the cost-of—living increase. The exclusion rate (22.5% x $147 per month) remains constant. Therefore, the $28-per—month increase in annuity benefits is fully taxable. His total taxable annuity income is: Add: ($147 x 12) x 77.5% $1,367.10 $28 x 12 336.00 Total taxable annuity income $1,703.10 Joint and Survivor Annuity 33. The exclusion ratio for the annuity payment to the husband is 61.4 percent, computed as follows: Cost of annuity $28,000 Multiple from Table 3 (Ages 70 and 67) 22.0 Multiple from Table 2 (Age 70) 16.0 Difference 6.0 Portion of expected return—2nd annuitant ($1,200 x 6.0) $7,200 Portion of expected return—lst annuitant ($2,400 x 16.0) 38,400 Expected return under the contract $45,600 Cost of Annuity $28,000 = = 61.4% Expected Return $45,600 The amount excludable from each monthly payment made to the husband is: $200 x 61.4% = $122.80 The remaining $77.20 is includible in his gross income. After the husband dies, the wife would exclude 61.4 percent of $100, which is $61.40. Annuity Exclusion Computation 34. Peter can exclude $104.75 for each monthly payment from gross income. The exclusion ratio is 41.9 percent. The adjusted multiple used to calculate the exclusion is 19.9. Annuity = $250 per month for life. Cost = $25,000. Annual annuity payment (12 x $250) $ 3,000 Multiple from Table 2 and Table 5 (20.0 — .1) 19.9 Expected return $59,700 $25,000 Exclusion ratio = 41.9% $59,700 Adjusted exclusion ratio: Monthly benefit $250.00 Exclusion ratio 41.9 % Excluded from gross income $104.75 Educational Savings Bonds rom her gross income the $4,000 of interest income. Since her qualified expenses 35. Beth may exclude f all the interest is excluded. Also, Beth may exclude exceeded her proceeds from the bond redemption, all the interest because her AG! is below the phaseout range. Punitive Damages 36. Yes. Punitive damages received on account of nonphysical injury may not be excluded from gross income. Damages Awards and Legal Fees 37. The $24,000 Steven received is included in gross income under the tax law. Inasmuch as the award is taxable income, costs incurred to secure the award are tax deductible. Damages Awards 38. Compensatory damages for lost wages are income; therefore, $100,000 is taxable income. The $1,000 award for punitive damages is taxable income also. Compensation for Injuries medical expense reimbursement, and damages for personal injury received 39. Workers’ compensation, but the $16,000 of earned wages is not excluded. by Robert are excluded from his gross income, Meals and Lodging g does not have to be included in Roger Corby’s gross income because loyer. The value of the meals when not on duty, uired to have his meals on the premises. 40. Clearly, the value of the lodgin the lodging furnished is for the convenience of the emp however, must be included because the employee is not req The meals eaten while on duty are excludable. Multiple Choice—Compensation for Injuries y exclude the $30,000 for compensation for lost wages and the $50,000 he received for 41. Anthony ma ive damages. personal injury damages is excluded because it was not punit Multiple Choice—Social Security ercent of her Social Security benefits in her gross income, computed 42. (:1. Ms. Green must include 85 p as follows: Modified AGI: Interest from certificates of deposit $3,000 Tax-exempt interest 6,000 Taxable dividends 5,000 Taxable pension 15,000 Wages from consulting work 9,000 One—half Social Security benefits 7,000 Provisional income $45,000 (A) $14,000 x 85%‘= $11,900 (B) [($45,000 - $34,000) x 85% ] + $4,500 = $13,850 Ms. Green must include $11,900 of her Social Security benefits in her income, the lesser of (A) or (B). Multiple Choice—Fringe Benefits 43. d. Memberships in athletic facilities are not excludable unless the athletic facility is on the employer’s premises. Multiple Choice-Series EE Savings Bonds 44. b. Eligible expenses do not include room and board. Multiple Choice—Educational Expenses 0 from his gross income. Tuition and books reimbursement for classes 45. c. Ralph should exclude $2,60 ent for transportation may be excluded from gross income. Ralph cannot exclude the reimbursem expenses. Multiple Choice—Fellowships xable. Qualified scholarships hing or as a laboratory assistant are fully ta ired for the student’s course 46. a. Amounts received for teac equipment, and supplies requ include payments for tuition and fees, books, of instruction. Multiple Choice—Exclusions from Income 47. b. Compensatory damages for physical injury are not included in gross income. Comprehensive Problem (Tax Return Problem)—Taxable Income Computation 48. Rodney and Alice have taxable income of $53,398, computed as follows: Gross Income: Salary—Rodney $45,000 Salary—Alice 48,000 Premium on life insurance over $50,000 48 Dividends 850 Interest on deposits 400 Gross income $94,298 Less: Itemized deductions 15,000 Less: Personal exemptions (7 x $3,700) 25,900 Taxable income $53,398 Comprehensive Problem (Tax Return Problem)—Taxable Income Computation 49. The Morrises’ taxable income for 2011 is $1,025, computed as follows: Modified AGI: One-half Social Security benefits $4,950 Tax-exempt interest 900 Salary—Sam 7,000 Salary—Sarah 5,500 interest income 1,800 Dividend income 7,000 Net rental income 4,000 Security deposit 100 I Bank logo contest 500 Sam's annuity 225 Modified AGI $31,975 Base amount 32,000 Adjusted gross income ($31,975 — $4,950 — $900) $26,125 Less: Itemized deductions 14,000 Less: Personal exemptions (3 x $3,700) 11,100 Taxable income $ 1,025 Sam and Sarah do not have to include any of their Social Security benefits in gross income because they were under the $32,000 base. Several of their interest income items were not included because they were from tax exempt SOUFCGS. Forgiveness of a loan to their daughter does not generate income t premiums on group—term life insurance over $50,000 are income to the are allowed no deduction. Only employee. The gifts received by Sam and Sarah are not taxable. Annuity formula: Monthly benefit $60 Yearly benefit $720 Multiple from Table 2 20 Expected return ($720 x 20) $14,400 5 9,000 Exclusion ratio: = 62.5% $14,400 62.5% of $600 = $375 Excluded from gross income $225 Included in gross income Their daughter is a qualifying child because she did not furnish she is a full-time student under 24. 0 their daughter, and Sam and Sarah more than half her support and because ...
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ch 5 sol - Answers to Questions Tax Exclusion v. Tax...

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