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3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

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3-3 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
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3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall
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Page 1: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-1©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 2: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-2

GROSS INCOME: GROSS INCOME: INCLUSIONSINCLUSIONS

(1 of 2)(1 of 2)

Economic and accounting concepts of income

Tax concept of incomeTo whom is income taxable?When is income taxable?Items of gross income

©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 3: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-3

GROSS INCOME GROSS INCOME INCLUSIONSINCLUSIONS

(2 of 2)(2 of 2)

Other items of gross incomeTax planning considerationsCompliance and procedural

considerations

©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 4: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-4

Concepts of IncomeConcepts of IncomeEconomic Concepts of IncomeEconomic Concepts of Income

Wealth that flows to individualsChanges in value in individuals’

wealthUnrealized gains Gifts & inheritances considered

income

©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 5: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-5

Concepts of IncomeConcepts of IncomeAccounting Concepts of IncomeAccounting Concepts of Income

Accounting concepts of incomeValues are measured by a

transaction approachIncome realized as result of

completed transactionsUse historical cost

©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 6: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-6

Tax Concept of IncomeTax Concept of IncomeConditions to make income

taxableAdministrative convenienceWherewithal to payGross income defined

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-7

Conditions to MakeIncome Taxable

Economic benefit to taxpayerIncome must be realized

Earnings process completeIncome must be recognized

©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 8: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-8

Administrative ConvenienceEconomic concept is considered

too subjectiveObjectivity achieved at price of

equity

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-9

Wherewithal to PayA tax should be collected when

the taxpayer can most easily pay

©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 10: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-10

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

Page 11: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

3-11

Gross Income Defined(2 of 2)

Form of receiptGross income not limited to cash§1.61-1a, 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

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3-12

To whom Is Income To whom Is Income Taxable?Taxable?

Assignment of incomeAllocating income between

married peopleIncome of minor children

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-13

Assignment of IncomeSupreme Court in Lucas v. Earl

(1930)Ruled that individual taxed the

earnings from his personal servicesHelvering v. Horst (1940)

Ruled that assignment of income doctrine applies to property

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-14

Allocating Income between Married People (1 of 2)

Common law property systemUsed in 42 statesIncome taxed to person who

earns it or who owns the income-producing propertyJoint income comes from jointly

owned property

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-15

Allocating Income between Married People (2 of 2)

Community property statesAll income deemed to be earned

equally by spouses except income from separate property

Separate propertyProperty owned by each spouse prior to

marriageMay be community income or separate

income, depending on state of residence

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-16

Income of Minor ChildrenTaxed to child regardless of

state’s property law systemUnearned income of minor

under 24 may be taxed at parent’s higher rateSee Chapter I2

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-17

When Is Income Taxable?When Is Income Taxable?Cash methodAccrual methodHybrid method

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-18

Cash Method(1 of 3)

Used by most individual taxpayers and most non-corporate businesses that do not have inventory

Constructive receiptReport income in year actually received

Check received after banking hoursBond interest coupons that have

matured but not redeemed

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-19

Cash Method(2 of 3)

No constructive receipt ifIt is subject to substantial

limitations Payor does not have funds

necessary to make paymentAmount is unavailable to taxpayer

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-20

Cash Method(3 of 3)

Exceptions to basic cash methodInterest on Series E or EE Savings

BondsSpecial rules apply to farmers and

ranchersSmall taxpayer exception for

inventories

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-21

Accrual MethodReport income in year income

earnedRight to incomeAmount can be determined with

reasonable accuracyPrepaid income

Generally taxable©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-22

Hybrid MethodAccrual method for purchases

and salesCash method in computing all

other income and expenses

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-23

Items of Gross IncomeItems of Gross Income(1 of 2)(1 of 2)

CompensationBusiness incomeGains from dealings in propertyInterestRents and royaltiesDividends

©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 24: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

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Items of Gross IncomeItems of Gross Income(2 of 2)(2 of 2)

Alimony and separate maintenance payments

Pensions and annuitiesIncome from life insurance and

endowment contractsIncome from discharge of indebtednessIncome passed through to taxpayer

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-25

Dividends(1 of 3)

Included in shareholder gross incomeResults in double taxation

Earnings taxed at corporate levelEarnings taxed at shareholder level when

distributed as a dividendC 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

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3-26

Dividends(2 of 3)

Individuals taxed at 15% on dividends5% if in 10% or 15% tax bracketReduces effects of double taxation

Distributions to extent they are out of corporate earnings and profits

Stock dividendsNot taxableBasis in stock allocated to new shares

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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Dividends(3 of 3)

Stock dividendsNot taxableBasis in stock allocated to new shares

Capital gain dividendsTaxed at long-term capital gain rates

Constructive dividendsTaxed as regular dividends

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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AnnuitiesIncome portion of annuity taxable

Investment portion is excludedExclusion ratio

Basis in annuity ÷ Expected returnExpected return

Payment x # of expected payments

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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Income Passed Through to Taxpayer

Income from flow-through entities taxed directly to ownersIncome from partnershipIncome from S corporationIncome in respect of a decedentIncome from an estate or trustIncome from RIC or REIT

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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Other Items of Gross Other Items of Gross IncomeIncome

(1 of 2)(1 of 2)

Prizes, awards, gambling winnings, and treasure finds

Illegal incomeUnemployment compensationSocial Security benefitsInsurance proceeds and court

awards©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-31

Other Items of Gross Other Items of Gross IncomeIncome

(2 of 2)(2 of 2)

Recovery of previously deducted amounts

Claim of right

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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Social Security BenefitsThe portion of social security

benefits depends on the taxpayer’s provisional income

Up to 85% of benefits taxableSee pages 3-24 and 3-25 for

formula

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-33

Claim of RightRevenue received that is

disputed must still be reported as incomePreviously reported income that is

subsequently refunded is deductible

©2009 Pearson Education, Inc. Publishing as Prentice Hall

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Tax Planning Tax Planning ConsiderationsConsiderations

(1 of 2)(1 of 2)

Shifting incomeFrom high income family members

to low income family membersAlimony

Deductible by payor and includible by payee

Prepaid income©2009 Pearson Education, Inc. Publishing as Prentice Hall

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3-35

Tax Planning Tax Planning ConsiderationsConsiderations

(2 of 2)(2 of 2)

Taxable, tax-exempt, or tax-deferred bondsNeed to compare present value of

after-tax returnsReporting savings bond interestDeferred compensation

arrangements©2009 Pearson Education, Inc. Publishing as Prentice Hall

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Compliance and Compliance and Procedural Procedural

ConsiderationsConsiderationsForm 1040 – Wages, salaries and tipsSchedule B – Interest and DividendsSchedule C – Business Income Schedule D – Capital gainsSchedule E – Rents and RoyaltiesSchedule F – Farm Income

©2009 Pearson Education, Inc. Publishing as Prentice Hall

Page 37: 3-1 ©2009 Pearson Education, Inc. Publishing as Prentice Hall.

Comments or questions about PowerPoint Slides?Contact Dr. Richard Newmark at University of Northern Colorado’s

Kenneth W. Monfort College of [email protected]

3-37©2009 Pearson Education, Inc. Publishing as Prentice Hall


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