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(Download PDF) South Western Federal Taxation 2018 Individual Income Taxes 1St Edition Hoffman Full Chapter PDF
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2018
INDIVIDUAL
INCOME TAXES
General Editors
William H. Hoffman, Jr. James C. Young William A. Raabe
J.D., Ph.D., CPA Ph.D., CPA Ph.D., CPA
David M. Maloney Annette Nellen
Ph.D., CPA J.D., CPA, CGMA
Contributing Authors
Copyright 2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202
ª 2018, 2017 Cengage Learning
South-Western Federal Taxation: Individual
Income Taxes, 2018 Edition Unless otherwise noted, all content is ª Cengage
William H. Hoffman, Jr., James C. Young, ALL RIGHTS RESERVED. No part of this work covered by the copyright herein
William A. Raabe, David M. Maloney, may be reproduced or distributed in any form or by any means, except as
Annette Nellen permitted by U.S. copyright law, without the prior written permission of the
copyright owner.
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Preface
iii
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Learning Tools and Features to Help Students Make the Connection
FULL- COLOR DESIGN: We understand that students struggle with learning difficult tax code
concepts and applying them to real-world scenarios. The 2018 edition uses color to bring the text to life, capture student
attention, and present the tax code in a simple, yet logical format.
iv
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COMPUTATIONAL EXERCISES: Students need lots of practice in areas such as computing
tax return problems and adjusting rates. We have developed these exercises to give students practice in calculating the
solutions they need to make business decisions.
ROGER CPA EXAM REVIEW QUESTIONS: The SWFT series continues to provide
the most in-depth coverage of tax concepts, and selected Roger CPA Exam Review Questions are included to further
prepare students for success on the CPA Exam.
■ Tagged by concept in
CengageNOWv2
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See how the SWFT series helps students understand the big picture and
the relevancy behind what they are learning.
FRAMEWORK 1040:
Fitting it all Together.
This chapter-opening feature
demonstrates how topics within
Individual Income Taxes fit
together, using the Income Tax Use this chapter-opening
Framework 1040, which
Formula for Individuals as the shows the topics as they
framework. The framework appear in the individual
tax formula, to
helps students organize their understand where on
Form 1040 these chapter
understanding of the chapters topics would appear.
and topics to see how they relate
to the basic tax formula and
then identify where these items
are reported on Form 1040.
Framework 1040 helps students
navigate topics by explaining
how tax concepts are organized.
vi
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FINANCIAL DISCLOSURE INSIGHTS:
Tax professionals need to understand how
taxes affect the income statement and balance
sheet. Financial Disclosure Insights,
appearing throughout the text, use current data
about existing taxpayers to highlight book-tax
reporting differences, effective tax rates, and
trends in reporting conventions.
vii
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Take your students from Motivation to Mastery with CengageNOWv2
Motivation —
Many instructors find that students
come to class unmotivated and
unprepared. To help with engagement
and preparedness, CengageNOWv2
for SWFT offers:
■ “Tax Drills” test students on key
concepts and applications. With
three to five questions per learning
objective, these “quick-hit” questions
help students prepare for class
lectures or review prior to an exam.
Application —
Students need to learn problem-solving
behavior and skills, to guide them to
complete taxation problems on their own.
However, as students try to work through
homework problems, sometimes they
become stuck and need extra help. To rein-
force concepts and keep students on the
right track, CengageNOWv2 for SWFT offers
the following.
■ End-of-chapter homework from the
text is expanded and enhanced to follow
the workflow a professional would use
to solve various client scenarios. These
enhancements better engage students
and encourage them to think like a tax
professional.
viii
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■ Algorithmic versions of end-of-chapter homework are available for computational exercises and at least
15 problems per chapter.
■ “Check My Work” Feedback. Homework questions include immediate feedback so students can learn as they
go. Levels of feedback include an option for “check my work” prior to submission of an assignment.
■ Post-Submission Feedback. After submitting an assignment, students receive even more extensive feedback
explaining why their answers were incorrect. Instructors can decide how much feedback their students receive
and when, including the full solution.
Mastery —
■ NEW! Tax Form Problems have been
added to the 2018 edition. Students can
now complete the Cumulative H&R Block
Problems and other homework items found
in the end-of-chapter manually or in a
digital environment.
ix
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x PREFACE
• An appendix that helps instructors broaden and • Reorganized materials on filing status and related
customize coverage of important tax provisions filing requirements.
of the Affordable Care Act. (Instructor Companion • Added a Form 1040 to the chapter for easy
Website at www.cengage.com/login) reference.
• The Depreciation and the Accelerated Cost
Recovery System (ACRS) appendix. (Instructor Chapter 4
Companion Website at www.cengage.com/
login) • Added the new taxable prize exception for
• The Taxation in the Real World weekly blog posts Olympic and Paralympic medals and prizes.
for instructors. (https://community.cengage.
com/t5/Taxation-in-the-Real-World-Blog/bg-p/ Chapter 5
taxationintherealworldblog)
• Updated chapter materials to reflect inflation
Chapter 1 adjustments.
• “Approaching the Study of Taxation” is now the • Added § 139F on damages received for wrongful
first section of the chapter and includes topics incarceration, enacted in 2015.
on defining “taxation,” exploring the many ways
taxes affect our lives, explaining the relevance of
taxation to accounting and finance professionals,
and offering tips for studying taxation.
Copyright 2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202
PREFACE xi
Chapter 6 Chapter 10
• Streamlined coverage throughout the chapter; • Enhanced the presentation of the chapter
added multiple examples to illustrate text material. coverage in the Framework 1040: Tax Formula
for Individuals.
• Added a discussion of executive compensation
to Tax Planning section. • Clarified the language concerning the medical
deduction AGI floor that applies to taxpayers
• Added a new tax form problem on hobby
65 years of age and older.
losses (the completion of Form 1040 and
Schedule A). • Added a new tax form problem [the completion
of a Schedule A (Form 1040)].
• Updated comprehensive tax return problems for
inflation adjustments. • Streamlined coverage throughout the chapter;
refined the discussion of Health Savings
Chapter 7 Accounts.
• Rewrote a Global Tax Issues feature with a
• Revised and clarified discussion of “other
focus on the recent earthquake in central Italy.
casualties” and disaster area losses; added and
modified several examples to clarify the rules. • Updated chapter materials for inflation
adjustments.
• Reduced coverage of unique rules related to NOL
carrybacks for casualty losses and farming losses.
Chapter 11
• Revised end-of-chapter materials for annual
inflation adjustments. • Streamlined coverage throughout the chapter.
• Adjusted the relevant interest rates and pro-
Chapter 8 jected rates of return in the Big Picture and
the associated examples to reflect the current
• Streamlined coverage throughout the chapter;
environment.
revised the Big Picture examples.
• Clarified the discussion relating to investment
• Expanded discussion of § 179 (including several
expenses under the investment interest discussion.
new examples), revised order of § 179 expense
and additional first-year (bonus) depreciation • Added a new tax form problem (the completion
(covering § 179 before bonus depreciation), of a Form 4952).
and added new materials on using § 179 and
bonus depreciation effectively (including a new Chapter 12
Concept Summary).
• Revised discussion of the medical expense
• Updated materials to reflect inflation adjustment
deduction for AMT purposes.
to § 179 amounts.
• Added example on the AMT consequences of a
• Added a new tax form problem (the completion
state tax refund.
of a Form 4562).
• Added discussion regarding the utilization of the
Chapter 9 minimum tax credit.
• Improved the discussion of AMT net operating
• Revised the Big Picture examples to highlight the
loss provisions.
“gig economy.”
• Streamlined coverage throughout the chapter; Chapter 13
added multiple examples illustrating text materials.
• Updated chapter materials for inflation
• Updated standard mileage amounts, related
adjustments.
examples, and end-of-chapter materials.
• Streamlined and clarified coverage throughout
• Added a new tax form problem (the completion
the chapter.
of a Form 3903).
• Updated Affordable Care Act materials.
• Added new research problems on Form 1099–K
related to the “gig economy.”
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xii PREFACE
Chapter 14 Chapter 17
• Revised and clarified chapter materials; added • Updated the chapter tax return example, linking
multiple examples to illustrate concepts. the example computations to placement on the
various tax forms [Form 4797 and Schedule D
• Added a new Concept Summary on realized
(Form 1040)].
gains and losses and expanded discussion on
this topic. • Added a new tax form problem (the completion
of a Form 4797).
• Added a new tax form problem [the
completion of a Form 8949 and a Schedule D • Added present value and spreadsheet compo-
(Form 1040)]. nents to end-of-chapter materials.
• Streamlined and clarified coverage throughout
Chapter 15 the chapter.
• Revised and clarified chapter materials; added
multiple examples to illustrate concepts. Chapter 18
• Restructured § 121 materials to focus on general • Updated Research Problem on contingent lia-
rules first, followed by a discussion of the relief bilities for the Third Circuit decision and IRS
provision available if the two-year rules are not non-acquiescence in Giant Eagle.
met.
• Removed summary material on other nonrec- Chapter 19
ognition provisions (§§ 1032, 1035, 1036, 1038,
• Amounts updated for inflation.
1041, and 1044).
• Added a new tax form problem (the completion Chapter 20
of a Form 8824 for a like-kind exchange).
• Added new Learning Objective 1, Entity Choice.
Chapter 16 • Added new text on entity choice and check-the-
box.
• Updated the chapter tax return example
[including the Form 8949, Schedule D • Added new Exhibit 20.1 (Cash Method for
(Form 1040), and the capital gains worksheet]. Inventory Exceptions Flowchart).
• Streamlined and clarified coverage throughout • Introduced corporate tax table with lower
the chapter. bracket taxes included.
• Added a new tax form problem (the completion • Revised constructive dividend section.
of a Form 8949).
• Added new materials on distributions from S cor-
• Added present value and spreadsheet porations.
components to end-of-chapter materials.
• Added new materials on LLCs and qualified joint
ventures in the partnership section.
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PREFACE xiii
Online and Digital Resources • Worry-free Audit Support™ and tax advice from
an H&R Block® tax professional.
for Students
Online access to H&R Block® Premium & Business
software is offered with each NEW copy of the text-
book—at no additional cost to students.*
CengageNOWv2 is a powerful course management and
online homework tool that provides robust instructor Students can use
control and customization to optimize the student CengageBrain.com
learning experience and meet desired outcomes. to select this textbook and access Cengage Learning
content, empowering them to choose the most suitable
CengageNOWv2 Instant Access Code ISBN: format and giving them a better chance of success in
978-1-337-38950-1 the course. Buy printed materials, eBooks, and digital
Contact your Cengage Learning Consultant about resources directly through Cengage Learning and save
different bundle options. at CengageBrain.com.
*NEW Printed copies of the textbook are automatically packaged with access to Checkpoint® Student Edition and H&R Block® tax soft-
ware. If students purchase the eBook, they will not automatically receive access to Checkpoint® Student Edition and H&R Block® soft-
ware. They must purchase the tax media pack offering both of these products. The ISBN is 978-1-337-55335-3 and can be purchased at
www.cengagebrain.com.
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xiv PREFACE
Comprehensive Supplements Support Each test item is tagged with its Estimated Time to
Complete, Level of Difficulty, and Learning Objective(s),
Instructors’ Needs as well as the AACSB’s and AICPA’s core c ompetencies—
for easier instructor planning and test item selection.
The 2018 Test Bank is available in Cengage’s test gen-
erator software, Cognero.
CengageNOWv2 is a powerful course management and Cengage Learning Testing Powered by Cognero is a
online homework tool that provides robust instructor flexible, online system that allows you to:
control and customization to optimize the student learn- • author, edit, and manage Test Bank content from
ing experience and meet desired outcomes. In addition to multiple Cengage Learning solutions
the features and benefits mentioned earlier for students, • create multiple test versions in an instant
CengageNOWv2 includes these features for instructors: • deliver tests from your LMS, your classroom, or
• Learning Outcomes Reporting and the ability wherever you want
to analyze student work from the gradebook. • create tests from school, home, the coffee
Each exercise and problem is tagged by topic, shop—anywhere with internet access
learning objective, level of difficulty, estimated (No special installs or downloads needed.)
completion time, and business program stan-
Test Bank files in Word format as well as versions to
dards to allow greater guidance in developing
import into your LMS are available on the Instructor
assessments and evaluating student progress.
Companion Website. Cognero Test Banks available
• Built-in Test Bank for online assess- via single sign-on (SSO) account at www.cengage.
ment. The Test Bank files are included in com/login.
CengageNOWv2 so that they may be used as
additional homework or tests. Other Instructor Resources
All of the following instructor course materials
Solutions Manual (978-1-337-38944-0)
are available online at www.cengage.com/login.
Written by the South-Western Federal Taxation Once logged into the site, instructors should select this
editors and authors, the Solutions Manual features textbook to access the online Instructor Resources.
solutions arranged in accordance with the sequence of
• Instructor Guide
chapter material.
Solutions to all homework items are tagged with their • Edition-to-edition correlation grids by chapter
Estimated Time to Complete, Level of Difficulty, and • Detailed answer feedback for the end-of-chapter
Learning Objective(s), as well as the AACSB’s and AICPA’s Roger CPA Review Questions in Word format
core competencies—-giving instructors more control than (Lettered answers only are available in the
ever in selecting homework to match the topics covered. Solutions Manual.)
The Solutions Manual also contains the Solutions to • An appendix that helps instructors broaden and
Appendix E: Comprehensive Tax Return Problems and customize coverage of important tax provisions
lettered answers (only) to the end-of-chapter Roger CPA of the Affordable Care Act
Review Questions. Available in print and on Instructor • The Depreciation and the Accelerated Cost
Companion Website at www.cengage.com/login. Recovery System (ACRS) appendix
PowerPoint® Lectures with Notes Custom Solutions
The Instructor PowerPoint® Lectures contain more than Cengage Learning Custom Solutions develops person-
30 slides per chapter, including outlines and instructor alized solutions to meet your taxation education needs.
guides, concept definitions, and key points. Available on Consider the following for your adoption of South-
Instructor Companion Website at www.cengage. Western Federal Taxation 2018 Edition.
com/login.
• Remove chapters you do not cover or rearrange
Test Bank their order to create a streamlined and efficient text.
Written by the South-Western Federal Taxation • Add your own material to cover new topics or
editors and authors, the Test Bank contains approximately information.
2,200 items and solutions arranged in accordance with • Add relevance by including sections from
the sequence of chapter material. Sawyers/Gill’s Federal Tax Research or your
state’s tax laws and regulations.
Copyright 2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202
PREFACE xv
ACKNOWLEDGMENTS
We want to thank all the adopters and others who participated in numerous online surveys as well as the follow-
ing individuals who provided content reviews and feedback in the development of the South-Western Federal
Taxation 2018 titles.
William H. Hoffman, Jr. / James C. Young / William A. Raabe / David M. Maloney / Annette Nellen
Lindsay G. Acker, University of Wisconsin- Dwight E. Denman, Newman University Carol Hughes, Asheville-Buncombe
Madison James M. DeSimpelare, Ross School of Technical Community College
Deborah S. Adkins, Nperspective, LLC Business at the University of Michigan Helen Hurwitz, Saint Louis University
Mark P. Altieri, Kent State University John Dexter, Northwood University Richard R. Hutaff, Wingate University
Amy An, University of Iowa James Doering, University of Wisconsin – Zite Hutton, Western Washington
Susan E. Anderson, Elon University Green Bay University
Henry M. Anding, Woodbury University Michael P. Donohoe, University of Illinois Brad Van Kalsbeek, University of Sioux
Jennifer A. Bagwell, Ohio University at Urbana Champaign Falls
George Barbi, Lanier Technical College Deborah A. Doonan, Johnson & Wales John E. Karayan, Woodbury University
Terry W. Bechtel, Texas A&M University – University Carl Keller, Missouri State University
Texarkana Monique O. Durant, Central Connecticut Cynthia Khanlarian, Concord University
Chris Becker, LeMoyne College State University Bob Kilpatrick, Northern Arizona University
John G. Bell Wayne L. Edmunds, Virginia Gordon Klein, Lecturer, UCLA Anderson
Tamara Berges, UCLA Commonwealth University School
Ellen Best, University of North Georgia Rafi Efrat, California State University, Taylor Klett, Sam Houston State University
Tim Biggart, Berry College Northridge Aaron P. Knape, Peru State College
Rachel Birkey, Illinois State University Charles R. Enis, The Pennsylvania State Cedric Knott, Colorado State University –
Patrick M. Borja, Citrus College / California University Global Campus
State University, Los Angeles Frank J. Faber, St. Joseph’s College Ausher M. B. Kofsky, Western New
Dianne H. Boseman, Nash Community A. Anthony Falgiani, University of South England University
College Carolina, Beaufort Emil Koren, Saint Leo University
Cathalene Bowler, University of Northern Jason Fiske, Thomas Jefferson School of Law Jack Lachman, Brooklyn College – CUNY
Iowa John Forsythe, Eagle Gate College Richard S. Leaman, University of Denver
Madeline Brogan, Lone Star College – Alexander L. Frazin, University of Adena LeJeune, Louisiana College
Montgomery Redlands Gene Levitt, Mayville State University
Darryl L. Brown, Illinois Wesleyan University Carl J. Gabrini, College of Coastal Georgia Teresa Lightner, University of North Texas
Timothy G. Bryan, University of Southern Kenneth W. Gaines, East-West University, Sara Linton, Roosevelt University
Indiana Chicago, Illinois Roger Lirely, The University of Texas at
Robert S. Burdette, Salt Lake Community Carolyn Galantine, Pepperdine University Tyler
College Sheri Geddes, Hope College Jane Livingstone, Western Carolina
Ryan L. Burger, Concordia University Alexander Gelardi, University of St. Thomas University
Nebraska Daniel J. Gibbons, Waubonsee Community Heather Lynch, Northeast Iowa Community
Lisa Busto, William Rainey Harper College College College
Julia M. Camp, Providence College Martie Gillen, University of Florida Michael J. MacDonald, University of
Al Case, Southern Oregon University Charles Gnizak, Fort Hays State University Wisconsin-Whitewater
Machiavelli W. Chao, Merage School of J. David Golub, Northeastern University Mabel Machin, Florida Institute of
Business University of California, George G. Goodrich, John Carroll Technology
Irvine University Maria Alaina Mackin, ECPI University
Eric Chen, University of Saint Joseph Marina Grau, Houston Community Anne M. Magro, George Mason University
Christine Cheng, Louisiana State University College – Houston, TX Richard B. Malamud, California State
James Milton Christianson, Southwestern Vicki Greshik, University of Jamestown University, Dominguez Hills
University and Austin Community College Harold J. Manasa, Winthrop University
College Jeffrey S. Haig, Santa Monica College Barry R. Marks, University of Houston –
Wayne Clark, Southwest Baptist University Marcye S. Hampton, University of Central Clear Lake
Ann Burstein Cohen, University at Buffalo, Florida Dewey Martin, Husson University
The State University of New York June Hanson, Upper Iowa University Anthony Masino, East Tennessee State
Ciril Cohen, Fairleigh Dickinson University Donald Henschel, Benedictine University University
Dixon H. Cooper, University of Arkansas Susanne Holloway, Salisbury University Norman Massel, Louisiana State University
Rick L. Crosser, Metropolitan State Susan A. Honig, Herbert H. Lehman College Bruce W. McClain, Cleveland State
University of Denver Jeffrey L. Hoopes, The Ohio State University University
John P. Crowley, Castleton University Christopher R. Hoyt, University of Missouri Allison M. McLeod, University of North
Richard G. Cummings, University of (Kansas City) School of Law Texas
Wisconsin-Whitewater Marsha M. Huber, Youngstown State Meredith A. Menden, Southern New
Susan E. M. Davis, South University University Hampshire University
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xvi PREFACE
Robert H. Meyers, University of John S. Repsis, University of Texas at Martin Stub, DeVry University
Wisconsin-Whitewater Arlington James Sundberg, Eastern Michigan
John G. Miller, Skyline College John D. Rice, Trinity University University
Tracie L. Miller-Nobles, Austin Jennifer Hardwick Robinson, Trident Kent Swift, University of Montana
Community College Technical College Robert L. Taylor, Lees-McRae College
Jonathan G. Mitchell, Stark State College Shani N. Robinson, Sam Houston State Francis C. Thomas, Richard Stockton
Richard Mole, Hiram College University College of New Jersey
Lisa Nash, CPA, MA, Vincennes University Donald Roth, Dordt College Randall R. Thomas, Upper Iowa University
Mary E. Netzler, Eastern Florida State Richard L. Russell, Jackson State University Ronald R. Tidd, Central Washington
College Robert L. Salyer, Northern Kentucky University
Joseph Malino Nicassio, Westmoreland University MaryBeth Tobin, Bridgewater State
County Community College Rhoda Sautner, University of Mary University
Mark R. Nixon, Bentley University Bunney L. Schmidt, Keiser University James P. Trebby, Marquette University
Garth Novack, Pantheon Heavy Industries Eric D. Schwartz, LaRoche College James M. Turner, Georgia Institute of
& Foundry Tony L. Scott, Norwalk Community College Technology
Claude R. Oakley, DeVry University, Randy Serrett, University of Houston – Anthony W. Varnon, Southeast Missouri
Georgia Downtown State University
Al Oddo, Niagara University Wayne Shaw, Southern Methodist University Adria Palacios Vasquez, Texas A&M
Sandra Owen, Indiana University – Paul A. Shoemaker, University of Nebraska – University – Kingsville
Bloomington Lincoln Terri Walsh, Seminole State College of
Vivian J. Paige, Old Dominion University Kimberly Sipes, Kentucky State University Florida
Carolyn Payne, University of La Verne Georgi Smatrakalev, Florida Atlantic Marie Wang
Ronald Pearson, Bay College University Natasha R. Ware, Southeastern University
Thomas Pearson, University of Hawaii at Randy Smit, Dordt College Mark Washburn, Sam Houston State
Manoa Leslie S. Sobol, California State University University
Nichole L. Pendleton, Friends University Northridge Bill Weispfenning, University of
Chuck Pier, Angelo State University Marc Spiegel, University of California, Jamestown (ND)
Lincoln M. Pinto, DeVry University Irvine Andrew L. Whitehair
Sonja Pippin, University of Nevada – Reno Teresa Stephenson, University of Wyoming Kent Williams, Indiana Wesleyan University
Steve Platau, The University of Tampa Beth Stetson, Oklahoma City University Candace Witherspoon, Valdosta State
Walfyette Powell, Strayer University Debra Stone, Eastern New Mexico University University
Dennis Price, Samford University Frances A. Stott, Bowling Green State Sheila Woods, DeVry University, Houston, TX
Darlene Pulliam, West Texas A&M University Xinmei Xie, Woodbury University
University Todd S. Stowe, Southwest Florida College Thomas Young, Lone Star College –
Tomball
SPECIAL THANKS
We are grateful to the faculty members who have diligently worked through the problems and test questions to
ensure the accuracy of the South-Western Federal Taxation homework, solutions manuals, test banks, and com-
prehensive tax form problems. Their comments and corrections helped us focus on clarity as well as accuracy and
tax law currency. We also thank Thomson Reuters for its permission to use Checkpoint® with the text.
Sandra A. Augustine, Hilbert College Ray Rodriguez, Murray State Raymond Wacker, Southern Illinois
Bradrick M. Cripe, Northern Illinois University University, Carbondale
University George R. Starbuck, McMurry University Michael Weissenfluh, Tillamook Bay
Stephanie Lewis, The Ohio State University Donald R. Trippeer, State University of Community College;
Kate Mantzke, Northern Illinois University New York College at Oneonta
Copyright 2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202
The South-Western Federal Taxation Series
(ISBN 978-1-337-38588-6)
(ISBN 978-1-337-38594-7)
xvii
Copyright 2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202
xviii PREFACE
(ISBN 978-1-337-38600-5)
(ISBN 978-1-337-38617-3)
(ISBN 978-1-337-28298-7)
Copyright 2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202
PREFACE xix
William H. Hoffman, Jr. the National Tax Journal, The Journal of the American
earned B.A. and J.D. Taxation Association, and Tax Notes. Jim is a Northern
degrees from the University Illinois University Distinguished Professor, received the
of Michigan and M.B.A. Illinois CPA Society Outstanding Accounting Educator
and Ph.D. degrees from Award in 2012, and has received university teaching
The University of Texas. awards from Northern Illinois University, George Mason
He was a licensed CPA University, and Michigan State University.
and attorney in Texas.
His teaching experience William A. Raabe, Ph.D.,
included The University CPA, was the Wisconsin
of Texas (1957–1961), Distinguished Professor
Louisiana State University (1961–1967), and the of Taxation. He taught at
University of Houston (1967–1999). Professor Hoffman Ohio State, Arizona State,
addressed many tax institutes and conferences and pub- the Capital University
lished extensively in academic and professional jour- (OH) Law School, and
nals. His articles appeared in The Journal of Taxation, the Universities of
The Tax Adviser, Taxes—The Tax Magazine, The Journal Wisconsin – Milwaukee
of Accountancy, The Accounting Review, and Taxation and Whitewater. A grad-
for Accountants. uate of Carroll University
(Wisconsin) and the University of Illinois, Dr. Raabe’s
James C. Young is the teaching and research interests include international
Crowe Horwath Professor and multistate taxation, technology in tax education,
of Accountancy at personal financial planning, and the economic impact of
Northern Illinois University. sports teams and fine arts groups. Dr. Raabe also writes
A graduate of Ferris State the PricewaterhouseCoopers Tax Case Studies. He has
University (B.S.) and written extensively about book-tax differences in finan-
Michigan State University cial reporting. Dr. Raabe has been a visiting tax faculty
(M.B.A. and Ph.D.), Jim’s member for a number of public accounting firms, bar
research focuses on taxpay- associations, and CPA societies. He has received numer-
er responses to the income ous teaching awards, including the Accounting Educator
tax using archival data. His of the Year award from the Wisconsin Institute of CPAs.
dissertation received the He has been the faculty adviser for student teams in the
PricewaterhouseCoopers/American Taxation Association Deloitte Tax Case Competition (national finalists at three
Dissertation Award and his subsequent research has different schools) and the PricewaterhouseCoopers
received funding from a number of organizations, Extreme Tax policy competition (national finalist). For
including the Ernst & Young Foundation Tax Research more information about Dr. Raabe, visit BillRaabeTax.
Grant Program. His work has been published in a vari- com and BillRaabeTax on YouTube and Twitter.
ety of academic and professional journals, including
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xx PREFACE
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PREFACE xxi
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Brief Contents
PART 3: DEDUCTIONS
XXIII
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XXIV BRIEF CONTENTS
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Contents
XXV
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XXVI CONTENTS
WORKING WITH THE TAX LAW—TAX PLANNING 2-28 GAINS AND LOSSES FROM PROPERTY
Nontax Considerations 2-29 TRANSACTIONS— IN GENERAL 3-34
Components of Tax Planning 2-30
Tax Avoidance and Tax Evasion 2-31 GAINS AND LOSSES FROM PROPERTY
TRANSACTIONS—CAPITAL GAINS AND LOSSES 3-35
Follow-Up Procedures 2-31
Definition of a Capital Asset 3-35
Tax Planning—A Practical Application 2-31
Determination of Net Capital Gain 3-35
TAXATION ON THE CPA EXAMINATION 2-32 Treatment of Net Capital Loss 3-36
Preparation Blueprints 2-32 Taxation of Net Capital Gain 3-36
Regulation Section 2-33
TAX PLANNING 3-37
Maximizing the Use of the Standard Deduction 3-37
CHAPTER 3
Dependency Exemptions 3-37
TAX FORMULA AND TAX
Taking Advantage of Tax Rate Differentials 3-38
DETERMINATION; AN OVERVIEW
Income of Certain Children 3-39
OF PROPERTY TRANSACTIONS 3-1 Refocus on the Big Picture: A Divided Household 3-39
The Big Picture: A Divided Household 3-1
TAX RETURN FILING PROCEDURES 3-32 ITEMS SPECIFICALLY INCLUDED IN GROSS INCOME 4-18
Selecting the Proper Form 3-32 Alimony and Separate Maintenance Payments 4-19
The E-File Approach 3-33 Concept Summary: Tax Treatment of Payments and Transfers
When and Where to File 3-33 Pursuant to Divorce Agreements and Decrees 4-20
Modes of Payment 3-34 Imputed Interest on Below-Market Loans 4-20
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CONTENTS XXVII
Concept Summary: Effect of Certain Below-Market Loans on EMPLOYEE FRINGE BENEFITS 5-15
the Lender and Borrower 4-22 Specific Benefits 5-15
Concept Summary: Exceptions to the Imputed Interest Rules Cafeteria Plans 5-16
for Below-Market Loans 4-23
Flexible Spending Plans 5-16
Ethics & Equity: Taxing ‘‘Made-Up’’ Income 4-23
General Classes of Excluded Benefits 5-17
Income from Annuities 4-23
Prizes and Awards 4-26
FOREIGN EARNED INCOME 5-20
Group Term Life Insurance 4-27
Concept Summary: Employee Fringe Benefits 5-21
Unemployment Compensation 4-28
Global Tax Issues: Benefits of the Earned Income Exclusion Are
Social Security Benefits 4-28 Questioned 5-22
GIFTS AND INHERITANCES 5-3 QUALIFIED ABLE PROGRAMS (§ 529A PLANS) 5-26
Legislative Intent 5-3
Employer Payments to Employees 5-3 TAX BENEFIT RULE 5-26
Employee Death Benefits 5-4
INCOME FROM DISCHARGE OF INDEBTEDNESS 5-27
LIFE INSURANCE PROCEEDS 5-4
General Rule 5-4 TAX PLANNING 5-28
Accelerated Death Benefits 5-5 Life Insurance 5-28
Ethics & Equity: Should the Terminally Ill Pay Social Security Taxes? 5-6 Employee Fringe Benefits 5-28
Transfer for Valuable Consideration 5-6 Investment Income 5-29
Refocus on the Big Picture: Exclusions 5-30
SCHOLARSHIPS 5-7
General Information 5-7
Timing Issues 5-8
Part 3: Deductions
COMPENSATION FOR INJURIES AND SICKNESS 5-8
Damages 5-8 CHAPTER 6
Ethics & Equity: Tax Treatment of Damages Not Related to DEDUCTIONS AND LOSSES: IN GENERAL 6-1
Physical Personal Injury 5-9 The Big Picture: Calculation of Deductible Expenses 6-1
Concept Summary: Taxation of Damages 5-9
Ethics & Equity: Classifying the Amount of the Claim 5-10 CLASSIFICATION OF DEDUCTIBLE EXPENSES 6-2
Wrongful Incarceration 5-10 Classifying Deductions 6-3
Workers’ Compensation 5-10 Authority for Deductions 6-3
Accident and Health Insurance Benefits 5-10 Deduction Criteria for § 162 and § 212 6-5
Personal Expenses 6-6
EMPLOYER-SPONSORED ACCIDENT AND Business and Nonbusiness Losses 6-6
HEALTH PLANS 5-11 Reporting Procedures 6-7
Medical Reimbursement Plans 5-11
Long-Term Care Insurance Benefits 5-12 DEDUCTIONS AND LOSSES—TIMING OF EXPENSE
RECOGNITION 6-8
MEALS AND LODGING 5-13 Importance of Taxpayer’s Method of Accounting 6-8
General Rules for the Exclusion 5-13 Cash Method Requirements 6-8
Ethics & Equity: Employee Meals 5-14 Accrual Method Requirements 6-9
Other Housing Exclusions 5-14 Time Value of Tax Deductions 6-10
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XXVIII CONTENTS
DISALLOWANCE POSSIBILITIES 6-11 Statutory Framework for Deducting Losses of Individuals 7-13
Public Policy Limitation 6-11 Concept Summary: Statutory Framework for Deducting Losses of
Global Tax Issues: Overseas Gun Sales Result in Large Fines 6-12 Individuals 7-13
Ethics & Equity: Medical Marijuana: Trade or Business Activity
or Illegal Operation? 6-13 RESEARCH AND EXPERIMENTAL EXPENDITURES 7-13
Political Contributions and Lobbying Activities 6-13 Expense Method 7-14
Excessive Executive Compensation 6-14 Deferral and Amortization Method 7-14
Investigation of a Business 6-15
Concept Summary: Costs of Investigating a Business 6-16 DOMESTIC PRODUCTION ACTIVITIES DEDUCTION 7-15
Hobby Losses 6-16 Operational Rules 7-15
Concept Summary: Common Questions from the IRS Concerning Eligible Taxpayers 7-16
Hobbies/Business with Losses 6-18
Rental of Vacation Homes 6-19 NET OPERATING LOSSES 7-17
Concept Summary: Vacation/Rental Home 6-20 Carryback and Carryover Periods 7-17
Expenditures Incurred for Taxpayer’s Benefit or Taxpayer’s Computation of the Net Operating Loss 7-18
Obligation 6-23 Concept Summary: Computation of Net Operating Loss 7-19
Disallowance of Personal Expenditures 6-23 Recomputation of Tax Liability for Year to Which Net Operating
Ethics & Equity: Personal or Business Expenses? 6-24 Loss Is Carried 7-21
Disallowance of Deductions for Capital Expenditures 6-24 Calculation of the Remaining Net Operating Loss 7-22
Transactions between Related Parties 6-26
Substantiation Requirements 6-27
TAX PLANNING 7-22
Small Business Stock (§ 1244 Stock) Losses 7-22
Expenses and Interest Relating to Tax-Exempt Income 6-27
Casualty Losses 7-23
TAX PLANNING 6-28 Net Operating Losses 7-23
Vacation Homes 6-28 Refocus on the Big Picture: Losses 7-23
Hobby Losses 6-28
Concept Summary: Classification of Expenses 6-29 CHAPTER 8
Do Deduction Limits Affect Executive Compensation? 6-30 DEPRECIATION, COST RECOVERY,
Refocus on the Big Picture: Calculation of Deductible AMORTIZATION, AND DEPLETION 8-1
Business Expenses and Tax Planning 6-31 The Big Picture: Calculating Cost Recovery Deductions 8-1
Concept Summary: Depreciation and Cost Recovery: Relevant
CHAPTER 7 Time Periods 8-3
DEDUCTIONS AND LOSSES: CERTAIN
BUSINESS EXPENSES AND LOSSES 7-1 DEPRECIATION AND COST RECOVERY 8-3
The Big Picture: Losses 7-1 Nature of Property 8-3
Placed in Service Requirement 8-3
BAD DEBTS 7-2 Cost Recovery Allowed or Allowable 8-3
Specific Charge-Off Method 7-3 Cost Recovery Basis for Personal Use Assets Converted to
Concept Summary: The Tax Treatment of Bad Debts Using Business or Income-Producing Use 8-4
the Specific Charge-Off Method 7-4
Business versus Nonbusiness Bad Debts 7-4 MODIFIED ACCELERATED COST RECOVERY SYSTEM
Loans between Related Parties 7-5 (MACRS): GENERAL RULES 8-4
Concept Summary: Bad Debt Deductions 7-5 Concept Summary: MACRS: Class Lives, Methods, and Conventions 8-5
Personalty: Recovery Periods and Methods 8-5
WORTHLESS SECURITIES AND SMALL BUSINESS Financial Disclosure Insights: Tax and Book Depreciation 8-6
STOCK LOSSES 7-6 Concept Summary: Statutory Percentage Method under MACRS 8-6
Worthless Securities 7-6 Realty: Recovery Periods and Methods 8-8
Small Business Stock (§ 1244 Stock) Losses 7-6 Straight-Line Election 8-9
Concept Summary: Straight-Line Election under MACRS 8-9
LOSSES OF INDIVIDUALS 7-7
Events That Are Not Casualties 7-7 MODIFIED ACCELERATED COST RECOVERY
Theft Losses 7-7 SYSTEM (MACRS): SPECIAL RULES 8-10
When to Deduct Casualty Losses 7-8 Election to Expense Assets (§ 179) 8-10
Measuring the Amount of Loss 7-9 Ethics & Equity: Section 179 Limitation 8-14
Ethics & Equity: Is Policy Cancellation an Escape Hatch? 7-9 Additional First-Year Depreciation (Bonus Depreciation) 8-14
Personal Casualty Gains and Losses 7-11 Using § 179 and Bonus Depreciation Effectively 8-15
Concept Summary: Casualty Gains and Losses 7-12 Concept Summary: Using both § 179 and Bonus Depreciation 8-16
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CONTENTS XXIX
Business and Personal Use of Automobiles and Other ENTERTAINMENT AND MEAL EXPENSES 9-22
Listed Property 8-17 Overall Limit (The 50 Percent Rule) 9-22
Concept Summary: Listed Property Cost Recovery 8-21 Types of Entertainment Expenses 9-23
Alternative Depreciation System (ADS) 8-22 Restrictions on Deductibility 9-24
Ethics & Equity: Your Turn or Mine? 9-24
REPORTING PROCEDURES 8-23
OTHER EMPLOYEE EXPENSES 9-26
AMORTIZATION 8-26
Office in the Home 9-26
DEPLETION 8-27 Miscellaneous Employee Expenses 9-30
Intangible Drilling and Development Costs (IDCs) 8-27
Depletion Methods 8-28 CONTRIBUTIONS TO RETIREMENT ACCOUNTS 9-31
Employee IRAs 9-31
TAX PLANNING 8-30 Self-Employed Keogh (H.R. 10) Plans 9-32
Cost Recovery 8-30
Amortization 8-31 CLASSIFICATION OF EMPLOYEE EXPENSES 9-32
Cost Recovery Tables 8-31 Accountable Plans 9-32
Refocus on the Big Picture: Calculating Cost Recovery Deductions 8-36 Nonaccountable Plans 9-33
Reporting Procedures 9-34
CHAPTER 9 Improving the Tax Position of Employees 9-34
DEDUCTIONS: EMPLOYEE AND
SELF-EMPLOYED-RELATED EXPENSES 9-1 LIMITATIONS ON ITEMIZED DEDUCTIONS 9-35
The Big Picture: The First Job 9-1 Miscellaneous Itemized Deductions Subject to the
2 Percent Floor 9-35
EMPLOYEE VERSUS INDEPENDENT CONTRACTOR 9-2 Miscellaneous Itemized Deductions Not Subject to the
2 Percent Floor 9-35
Concept Summary: Employee versus Independent Contractor 9-4
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XXX CONTENTS
Classification of Interest Expense 10-16 Concept Summary: Passive Activity Loss Rules: Key Issues
Concept Summary: Deductibility of Personal, Student Loan, and Answers 11-22
Mortgage, and Investment Interest 10-17 Computation of Allowable Deduction 11-23
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CONTENTS XXXI
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XXXII CONTENTS
Like-Kind Exchanges 15-21 Global Tax Issues: Capital Gain Treatment in the United
Involuntary Conversions 15-22 States and Other Countries 16-35
Sale of a Principal Residence 15-22 Effect of Capital Asset Status in Transactions Other Than Sales 16-35
Refocus on the Big Picture: Alternative Uses of Property 15-24 Stock Sales 16-36
Maximizing Benefits 16-36
CHAPTER 16 Year-End Planning 16-37
PROPERTY TRANSACTIONS: CAPITAL Refocus on the Big Picture: Managing Capital Asset Transactions 16-37
GAINS AND LOSSES 16-1
The Big Picture: Managing Capital Asset Transactions 16-1 CHAPTER 17
PROPERTY TRANSACTIONS: § 1231
GENERAL SCHEME OF TAXATION 16-3 AND RECAPTURE PROVISIONS 17-1
The Big Picture: Depreciation Recapture 17-1
CAPITAL ASSETS 16-3
Definition of a Capital Asset (§ 1221) 16-4 SECTION 1231 ASSETS 17-3
Ethics & Equity: Sculpture as a Capital Asset 16-6 Relationship to Capital Assets 17-3
Effect of Judicial Action 16-6 Property Included 17-4
Statutory Expansions 16-6 Property Excluded 17-4
Special Rules for Certain § 1231 Assets 17-4
SALE OR EXCHANGE 16-8 General Procedure for § 1231 Computation 17-6
Worthless Securities and § 1244 Stock 16-8 Concept Summary: Section 1231 Netting Procedure 17-7
Special Rule—Retirement of Corporate Obligations 16-8
SECTION 1245 RECAPTURE 17-10
Options 16-9
Section 1245 Property 17-12
Concept Summary: Options: Consequences to the Grantor
and Grantee 16-11 Observations on § 1245 17-12
Patents 16-11
SECTION 1250 RECAPTURE 17-13
Franchises, Trademarks, and Trade Names (§ 1253) 16-12
Section 1250 Recapture Situations 17-13
Concept Summary: Franchises: Consequences to the
Franchisor and Franchisee 16-13 Concept Summary: Comparison of § 1245 and
§ 1250 Depreciation Recapture 17-14
Lease Cancellation Payments 16-14
Unrecaptured § 1250 Gain (Real Estate 25% Gain) 17-14
Ethics & Equity: The Sale of a ‘‘Cost-Segregated’’ Building 17-15
HOLDING PERIOD 16-14
General Rules 16-14 CONSIDERATIONS COMMON TO §§ 1245
Special Holding Period Rules 16-15 AND 1250 17-16
Special Rules for Short Sales 16-16 Exceptions 17-16
Concept Summary: Short Sales of Securities 16-17 Other Applications 17-17
Concept Summary: Depreciation Recapture and
TAX TREATMENT OF CAPITAL GAINS AND § 1231 Netting Procedure 17-18
LOSSES OF NONCORPORATE TAXPAYERS 16-19 Global Tax Issues: Depreciation Recapture in
Capital Gain and Loss Netting Process 16-19 Other Countries 17-19
Qualified Dividend Income 16-23
Alternative Tax on Net Capital Gain and Qualified Dividend SPECIAL RECAPTURE PROVISIONS 17-19
Income 16-24 Special Recapture for Corporations 17-19
Concept Summary: Income Layers for Alternative Tax on Gain from Sale of Depreciable Property between Certain
Capital Gain Computation 16-25 Related Parties 17-19
Treatment of Net Capital Losses 16-26 Intangible Drilling Costs 17-19
Concept Summary: Final Results of the Capital Gain and
Loss Netting Process and How They Are Taxed 16-27 REPORTING PROCEDURES 17-20
Reporting Procedures 16-28 Ethics & Equity: Incorrect Depreciation and Recognized Gain 17-22
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CONTENTS XXXIII
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XXXIV CONTENTS
Flexible Benefit Plans 19-37 Concept Summary: A Comparison of Some of the Attributes of S and C
Liquidating Retirement Assets 19-38 Corporations 20-32
Refocus on the Big Picture: A Taxpayer Who Saves 19-41 Partnership Formation and Basis 20-32
Partnership Operation 20-34
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PART
1
INTRODUCTION AND
BASIC TAX MODEL
CHAPTER 1
An Introduction to Taxation and Understanding the Federal Tax Law
CHAPTER 2
Working with the Tax Law
CHAPTER 3
Tax Formula and Tax Determination; An Overview of Property
Transactions
Part 1 provides an introduction to taxation in the United States. Although this text focuses on income
taxation, other types of taxes are also briefly discussed. The purposes of the Federal tax law are
examined, and the legislative, administrative, and judicial sources of Federal tax law, including their
application to the tax research process, are analyzed. Part 1 concludes by introducing the basic tax
model for the individual taxpayer and providing an overview of property transactions.
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C H A P T E R An Introduction to Taxation
1 and Understanding the
Federal Tax Law
L E A R N I N G O B J E C T I V E S : After completing Chapter 1, you should be able to:
Explain the importance of taxation. Explain the administration of the tax law, including
LO.1 LO.5
the audit process utilized by the IRS.
Describe some of the history and trends of the Evaluate some of the ethical guidelines involved in
LO.2 LO.6
Federal income tax. tax practice.
Describe and apply principles and terminology Recognize the economic, social, equity, and political
LO.3 LO.7
relevant to the design of a tax system. considerations that justify various aspects of the tax
Identify the different taxes imposed in the United law.
LO.4
States at the Federal, state, and local levels. Describe the role played by the IRS and the courts in
LO.8
the evolution of the Federal tax system.
CHAPTER OUTLINE
1-1 Approaching the Study of Taxation, 1-2 1-4e Income Taxes, 1-15
1-1a What Is Taxation? 1-2 1-4f Employment Taxes, 1-17
1-1b Taxation in Our Lives, 1-2 1-4g Other U.S. Taxes, 1-18
1-1c The Relevance of Taxation to Accounting and 1-4h Proposed U.S. Taxes, 1-20
Finance Professionals, 1-3
1-5 Tax Administration, 1-21
1-1d How to Study Taxation, 1-4
1-5a Internal Revenue Service, 1-21
1-2 A Brief History of U.S. Taxation, 1-5 1-5b The Audit Process, 1-21
1-2a Early Periods, 1-5 1-5c Statute of Limitations, 1-24
1-2b Revenue Acts, 1-5 1-5d Interest and Penalties, 1-24
1-2c Historical Trends, 1-5 1-5e Tax Practice, 1-25
1-3 Tax System Design, 1-6 1-6 Understanding the Federal Tax Law, 1-27
1-3a Legal Foundation, 1-6 1-6a Revenue Needs, 1-27
1-3b The Basic Tax Formula, 1-7 1-6b Economic Considerations, 1-27
1-3c Tax Principles, 1-7 1-6c Social Considerations, 1-28
1-6d Equity Considerations, 1-29
1-4 Major Types of Taxes, 1-8
1-6e Political Considerations, 1-31
1-4a Property Taxes, 1-9
1-6f Influence of the Internal Revenue Service, 1-32
1-4b Transaction Taxes, 1-11
1-6g Influence of the Courts, 1-33
1-4c Taxes on Transfers at Death, 1-13
1-6h Summary, 1-34
1-4d Gift Taxes, 1-14
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THE BIG PICTURE CORBIS/SUPERSTOCK
Travis and Amy Carter are married and live in a state that imposes both a sales tax and an income tax. They
have two children, April (age 17) and Martin (age 18). Travis is a mining engineer who specializes in land
reclamation. After several years with a mining corporation, Travis established a consulting practice that
involves a considerable amount of travel. Amy is a registered nurse who, until recently, was a homemaker.
In November of this year, she decided to reenter the job market and accepted a position with a medical
clinic. The Carters live only a few blocks from Ernest and Mary Walker, Amy Carter’s parents. The Walkers
are retired and live on interest, dividends, and Social Security benefits.
Various developments occurring during the year with possible tax ramifications are summarized below.
• The ad valorem property taxes on the Carters’ residence are increased, while those on the Walkers’ resi-
dence are lowered.
• When Travis registers an automobile purchased last year in another state, he is required to pay a sales
tax to his home state.
• As an anniversary present, the Carters gave the Walkers a recreational vehicle (RV).
• When Travis made a consulting trip to Chicago, the client withheld Illinois state income tax from the pay-
ment made to Travis for his services.
• Travis employs his children to draft blueprints and prepare scale models for use in his work. Both April
and Martin have had training in drafting and topography.
• Early in the year, the Carters are audited by the state on an income tax return filed a few years ago. Later
in the year, they are audited by the IRS on a Form 1040 they filed for the same year. In each case, a tax
deficiency and interest were assessed.
• The Walkers are audited by the IRS. Unlike the Carters, they did not have to deal with an agent, but
settled the matter by mail.
Explain these developments and resolve the issues raised.
1-1
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1-2 PART 1 Introduction and Basic Tax Model
T
he primary objective of this chapter is to provide an overview of the Federal tax
system. Among the topics discussed are the following:
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CHAPTER 1 An Introduction to Taxation and Understanding the Federal Tax Law 1-3
different capacities. It is not easy to measure, but it is known that taxes are passed along
to individuals through higher prices, lower wages, and/or lower dividends.
Taxes also affect the lives of individuals via the ballot box. Federal, state, and local
elections often include initiatives that deal with taxation, such as whether state income
taxes should be raised (or lowered), whether a new tax should be imposed on soda, or
whether the sales tax rate should be changed. Candidates running for office often have
positions on tax changes they would like to make, if elected.
Given the pervasiveness of taxation—in our roles as both direct and indirect payers of
taxes, as well as citizens/voters—it is important that we understand how the tax system
operates.
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1-4 PART 1 Introduction and Basic Tax Model
xP
n
lan
na r plo
p
n in
e r u e
P ns Personal
g
xC
their taxes, taxpayers will deal with the IRS or their state tax C o Responsibilities
Ta
Individual
cy
Lit anci
Civ ibil
on
Fin
In
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CHAPTER 1 An Introduction to Taxation and Understanding the Federal Tax Law 1-5
2 6
3 AFTR 2602, 15 S.Ct. 912 (USSC, 1895). See Chapter 2 for an explanation of This should be contrasted with the highest 2017 tax rate of 39.6%, which
the citations of judicial decisions. applies once taxable income exceeds $418,400 for single taxpayers and
3
Flint v. Stone Tracy Co., 3 AFTR 2834, 31 S.Ct. 342 (USSC, 1911). $470,700 for married taxpayers filing a joint return.
7
4
See the discussion of state franchise taxes later in text Section 1-4g. Revenue data can be found at www.cbo.org and www.whitehouse.
5 gov/omb. The instruction booklet for Form 1040 includes a revenue pie
A $3,000 exemption in 1913 would be about $73,000 today, while a $4,000
chart that includes borrowing to cover the deficit, as well as a pie chart that
exemption would be about $97,000.
shows government spending in broad categories.
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1-6 PART 1 Introduction and Basic Tax Model
2% 1% 1%
Customs Duties
10% Estate and Gift Taxes
subject to the Federal income tax. By 1945, more than 74 percent of the population was
subject to the Federal income tax.8
Certain tax law changes are important to understand. In 1943, Congress passed the
Current Tax Payment Act, which provided for a pay-as-you-go tax system. A pay-as-
you-go income tax system requires employers to withhold a specified portion of an
employee’s wages and remit them to the government to cover the worker’s income
taxes. Persons with income from other than wages may have to make quarterly pay-
ments to the IRS for estimated taxes due for the year.
Recently, the increasing complexity of the Federal income tax laws is causing con-
cern. Congress has added to this complexity by frequently changing the tax laws, often
adding new deductions or tax credits. This complexity forces many taxpayers to seek
assistance in preparing their income tax returns. According to estimates, more than one-
half of individual taxpayers who file a return pay a preparer, and one-third purchase tax
software.9
8 9
Richard Goode, The Individual Income Tax (Washington, D.C.: The Brook- The Tax Foundation estimates that individual taxpayers spend over $20 bil-
ings Institution, 1964), pp. 2–4. lion and devote about 1.35 billion hours in preparing their tax returns.
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CHAPTER 1 An Introduction to Taxation and Understanding the Federal Tax Law 1-7
Tax Base
A tax base is the amount to which the tax rate is applied. In the case of the Federal
income tax, the tax base is taxable income. As noted later in the chapter (Exhibit 1.3), tax-
able income is gross income reduced by certain deductions (both business and personal).
Tax Rates
Tax rates are applied to the tax base to determine a taxpayer’s liability. The tax rates
may be proportional or progressive. A tax is proportional if the rate of tax remains con-
stant for any given income level. Examples of proportional taxes include most excise
taxes, general sales taxes, and employment taxes (FICA and FUTA).
Assume that a jurisdiction applies a 30% tax rate to all taxable income. If Bill has $10,000 of taxable
income, he will pay a tax of $3,000. If Sam has taxable income of $50,000, he will pay a tax of EXAMPLE
$15,000. If this constant rate is applied throughout the rate structure, the tax is proportional. 1
A tax is progressive if a higher rate of tax applies as the tax base increases. The Fed-
eral income tax, Federal gift and estate taxes, and most state income tax rate structures
are progressive.
If Bill and Cora, a married couple filing jointly, have taxable income of $15,000, their Federal
income tax for 2017 is $1,500 for an average tax rate of 10%. If, however, Bill and Cora’s taxable EXAMPLE
income is $80,000, their Federal income tax will be $11,478 for an average tax rate of 14.3%. 2
The tax is progressive because higher rates are applied to greater amounts of taxable income (see
Appendix A to confirm these calculations, and note how progressivity is built into the Federal
income tax).
The basic tax formula is relevant for both computing taxes and planning to reform a tax
system. For example, if a legislator wants to lower tax rates but generate the same amount
of tax revenues, the tax base must be increased. However, if she wants to increase tax rev-
enues, the tax base can be increased or tax rates can be increased (or both can be
increased). Changes to the tax base will depend on how it is constructed. For example, the
income tax base is taxable income (income minus income exclusions minus deductions).
To increase this tax base, income exclusions could be eliminated or deductions could be
limited. The details of the income tax base are discussed in later chapters. Tax system
changes also involve canons (or principles) of taxation, discussed next.
10
The Wealth of Nations (New York: Dutton, 1910), Book V, Chapter II,
Part II.
Copyright 2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202
1-8 PART 1 Introduction and Basic Tax Model
Rick is employed by Flamingo Corporation in San Antonio, Texas, at a salary of $74,000. Rick’s
EXAMPLE employer offers him a chance to transfer to its New York City office at a salary of $94,000.
3 Although Rick must consider many nontax factors before he decides on a job change, he should
also evaluate the tax climate. How do state and local taxes compare? For example, neither Texas nor
San Antonio imposes an income tax, but New York State and New York City do. A quick computation
indicates that the additional income taxes (Federal, state, and local) involve approximately $12,000.
Consequently, what appears to be a $20,000 pay increase is actually only about $8,000 when
the additional $12,000 of income taxes are taken into account. Other taxes and costs (e.g., sales
taxes, property taxes, food, utilities, transportation) will also have to be factored into a decision.
11
AICPA, Guiding Principles of Good Tax Policy: A Framework for Evaluat- criteria,” the GAO lists “equity; economic efficiency; and a combination of
ing Tax Proposals, 2017. Similarly, see GAO, Understanding the Tax simplicity, transparency, and administrability.”
Reform Debate: Background, Criteria, & Questions, 2005. As “long-standing
Copyright 2018 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. WCN 02-200-202
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Si je vous le disais pourtant !… Si je vous disais que je n’ai pour
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arrive de donner à une passante. Jamais ne m’abandonnerai.
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Vous avez beau dire. Vous êtes une sorte de pieuse femme, dont
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Si vous étiez païenne vraie, vous compteriez douze grands
dieux, ou du moins une foule de petits dieux d’humeur variable.
Il y en aurait un que vous chéririez par dessus tout : celui qui
nous a conduits, vous et moi, jusqu’au même lit sombre. Vous
rappelez-vous que nous avons tout à coup cessé de nous bien voir ?
Il avait mis son bandeau sur nos yeux.
Il s’est enfui, lorsqu’il a vu que vous étiez plus près de pleurer,
ingrate, que de rire.
Vous dites que c’était votre conscience. O ma pauvre amie !
Vous m’avez dit un jour que vous désiriez voter, que c’était votre
droit.
Vous ne m’avez pas encore pardonné mon rire. Vous avez
excommunié comme il faut ce clérical et cet athée. Mais il avait vos
bras sur lui : la chaleur de votre forme passait par eux, comme si
votre sang s’était répandu dans ses propres veines. Il n’a pas ri
longtemps.
Puis, vous avez voulu me prouver que vous étiez, sans religion,
une honnête femme. Vous prononciez des mots abstraits à n’en plus
finir, à dormir sans vous, dont votre éloquence emphatique ciselait
les majuscules. Vous aviez entrepris, notamment, de me démontrer
que les infirmières laïques diplômées ont plus de vertu que les
petites sœurs.
Et moi, je me rappelais la longue prière matinale des femmes de
ma race. L’une d’elles, tant elle fut malheureuse, ne pouvait plus
prier sans voir paraître sur son cher visage en oraison des larmes
qui la consolaient. Et elle prononçait, mais avec douceur, le même
mot magique que vous répétez désespérément : « Justice ! » Elle
mettait avec sagesse dans un autre lieu que la terre la source d’un si
grand bien.
Votre bouche, remuée par les petits mouvements de la parole,
restait bien belle… Je ne disais mot. Quel nuage a passé sur mes
traits ou dans mes yeux, qui soudain déconcerta la douce pédante ?
J’ai pris votre tête, votre fière tête, votre pauvre tête fanatique, et
l’ai reposée sur mon épaule. Tel est le sort. Ni les caresses ni le
silence ne suffisaient plus. Vous aviez besoin d’un mot de ma
bouche, que je n’ai pas su dire. Vous faisiez sentir à un libertin le
rôle du spirituel.
AVIS 1
LE NOUVEL AMOUR 3
LA MÉCHANTE 17
LA DÉESSE RAISON 36
ACHEVÉ D’IMPRIMER
LE 24 JANVIER 1925
SUR LES PRESSES DES
ARTISANS IMPRIMEURS
F. LEFÈVRE, DIRECTEUR
23, RUE DE LA MARE
A PARIS (XXe)
*** END OF THE PROJECT GUTENBERG EBOOK LE NOUVEL
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