2009 Pearson Education Inc Publishing as Prentice Hall
© 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -1
GROSS INCOME: INCLUSIONS (1 of 2) ® Economic and accounting concepts of income ® Tax concept of income ® To whom is income taxable? ® When is income taxable? ® Items of gross income © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -2
GROSS INCOME INCLUSIONS (2 of 2) ® Other items of gross income ® Tax planning considerations ® Compliance and procedural considerations © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -3
Concepts of Income Economic Concepts of Income ® Wealth that flows to individuals ® Changes in value in individuals’ wealth Unrealized gains Gifts & inheritances considered income © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -4
Concepts of Income Accounting Concepts of Income ® Accounting concepts of income ® Values are measured by a transaction approach ® Income realized as result of completed transactions ® Use historical cost © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -5
Tax Concept of Income ® Conditions to make income taxable ® Administrative convenience ® Wherewithal to pay ® Gross income defined © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -6
Conditions to Make Income Taxable ® Economic benefit to taxpayer ® Income must be realized Earnings ® Income process complete must be recognized © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -7
Administrative Convenience ® Economic concept is considered too subjective ® Objectivity achieved at price of equity © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -8
Wherewithal to Pay ®A tax should be collected when the taxpayer can most easily pay © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -9
Gross Income Defined (1 of 2) ® Section 61(a) defines gross income “all income from whatever source derived, ” including (but not limited to) the following items: ¬Compensation, income derived from business, gains from dealings in property, interest, rents, royalties, dividends, alimony, annuities, life insurance, pensions © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -10
Gross Income Defined (2 of 2) ® Form of receipt Gross income not limited to cash § 1. 61 -1 a, income may be “realized in any form, whether in money, property, and services” ® Indirect economic benefit Items indirectly benefiting taxpayers excluded from gross income © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -11
To whom Is Income Taxable? ® Assignment of income ® Allocating income between married people ® Income of minor children © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -12
Assignment of Income ® Supreme Court in Lucas v. Earl (1930) Ruled that individual taxed the earnings from his personal services ® Helvering v. Horst (1940) Ruled that assignment of income doctrine applies to property © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -13
Allocating Income between Married People (1 of 2) ® Common law property system Used in 42 states Income taxed to person who earns it or who owns the income-producing property ¬Joint incomes from jointly owned property © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -14
Allocating Income between Married People (2 of 2) ® Community property states All income deemed to be earned equally by spouses except income from separate property Separate property ¬Property owned by each spouse prior to marriage ¬May be community income or separate income, depending on state of residence © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -15
Income of Minor Children ® Taxed to child regardless of state’s property law system ® Unearned income of minor under 24 may be taxed at parent’s higher rate See Chapter I 2 © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -16
When Is Income Taxable? ® Cash method ® Accrual method ® Hybrid method © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -17
Cash Method (1 of 3) Used by most individual taxpayers and most non-corporate businesses that do not have inventory ® Constructive receipt Report income in year actually received ¬Check received after banking hours ¬Bond interest coupons that have matured but not redeemed ® © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -18
Cash Method (2 of 3) ® No constructive receipt if It is subject to substantial limitations Payor does not have funds necessary to make payment Amount is unavailable to taxpayer © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -19
Cash Method (3 of 3) ® Exceptions Interest to basic cash method on Series E or EE Savings Bonds Special rules apply to farmers and ranchers Small taxpayer exception for inventories © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -20
Accrual Method ® Report income in year income earned Right to income Amount can be determined with reasonable accuracy ® Prepaid income Generally taxable © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -21
Hybrid Method ® Accrual method for purchases and sales ® Cash method in computing all other income and expenses © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -22
Items of Gross Income (1 of 2) ® Compensation ® Business income ® Gains from dealings in property ® Interest ® Rents and royalties ® Dividends © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -23
Items of Gross Income (2 of 2) ® Alimony and separate maintenance payments ® Pensions and annuities ® Income from life insurance and endowment contracts ® Income from discharge of indebtedness ® Income passed through to taxpayer 3 -24 © 2009 Pearson Education, Inc. Publishing as Prentice Hall
Dividends (1 of 3) ® Included in shareholder gross income ® Results in double taxation Earnings taxed at corporate level Earnings taxed at shareholder level when distributed as a dividend C corps allowed a 70, 80, or 100% div received deduction based on ownership % ¬Relief from multiple levels of taxation © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -25
Dividends (2 of 3) ® Individuals taxed at 15% on dividends 5% if in 10% or 15% tax bracket Reduces effects of double taxation ® Distributions to extent they are out of corporate earnings and profits ® Stock dividends Not taxable Basis in stock allocated to new shares 3 -26 © 2009 Pearson Education, Inc. Publishing as Prentice Hall
Dividends (3 of 3) ® Stock dividends Not taxable Basis in stock allocated to new shares ® Capital Taxed gain dividends at long-term capital gain rates ® Constructive Taxed dividends as regular dividends © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -27
Annuities ® Income portion of annuity taxable Investment ® Exclusion portion is excluded ratio Basis in annuity ÷ Expected return ¬Payment x # of expected payments © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -28
Income Passed Through to Taxpayer ® Income from flow-through entities taxed directly to owners Income from partnership Income from S corporation Income in respect of a decedent Income from an estate or trust Income from RIC or REIT © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -29
Other Items of Gross Income (1 of 2) ® Prizes, awards, gambling winnings, and treasure finds ® Illegal income ® Unemployment compensation ® Social Security benefits ® Insurance proceeds and court awards © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -30
Other Items of Gross Income (2 of 2) ® Recovery of previously deducted amounts ® Claim of right © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -31
Social Security Benefits ® The portion of social security benefits depends on the taxpayer’s provisional income ® Up to 85% of benefits taxable ® See pages 3 -24 and 3 -25 formula © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -32
Claim of Right ® Revenue received that is disputed must still be reported as income Previously reported income that is subsequently refunded is deductible © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -33
Tax Planning Considerations (1 of 2) ® Shifting income From high income family members to low income family members ® Alimony Deductible by payor and includible by payee ® Prepaid income © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -34
Tax Planning Considerations (2 of 2) ® Taxable, tax-exempt, or tax-deferred bonds Need to compare present value of after -tax returns ® Reporting savings bond interest ® Deferred compensation arrangements © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -35
Compliance and Procedural Considerations ® Form 1040 – Wages, salaries and tips ® Schedule B – Interest and Dividends ® Schedule C – Business Income ® Schedule D – Capital gains ® Schedule E – Rents and Royalties ® Schedule F – Farm Income © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -36
Comments or questions about Power. Point Slides? Contact Dr. Richard Newmark at University of Northern Colorado’s Kenneth W. Monfort College of Business richard. newmark@Ph. Duh. com © 2009 Pearson Education, Inc. Publishing as Prentice Hall 3 -37
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