Tax Determination, Payments, and Reporting...

Chapter 2

Tax Determination, Payments, and Reporting Procedures

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CCH Essentials of Federal Income Taxation

Taxpayer Filing Status by Rank(for same amount of income)

Married filing separately

Single

Head of household

Married filing jointly [also, qualifying widow(er)]

CCH Essentials of Federal Income Taxation 2 of 38

Highest Tax

Lowest Tax

Chapter 2

Federal Taxes Withheld

• Income

– Based on three factors

• Amount earned / period

• Marital status

• exemptions & deductions

• FICA (social security and Medicare)

– 6.2% on first $97,500 of wages

– 1.45% on all wages for HI

CCH Essentials of Federal Income Taxation 3 of 38Chapter 2

Tax Rate Schedules—example p. 2-3Step 1 Choose the correct rate schedule (based on

filing status).

Step 2 Locate the proper income bracket and note the tax applicable to the lowest income in that bracket.

Step 3 Subtract the lowest income in that bracket from taxable income.

Step 4 Multiply this difference by the listed tax rate.

Step 5 Add this result to the tax in step 2 to arrive at the tax on taxable income.


• Jesse James is a single taxpayer who has a 12 year old dependent son who live with him. Jesse’s income came from his salary which was $148,500; interest of $225 and dividends of $2,400. Calculate his income tax liability.


Tax Tables—back of book

• Tax Table Cannot Be Used by:

• A person filing for a short period (less than 12 months) because of a change in accounting period

• A person claiming the foreign earned income exclusion

• A person filing Form 1040 with taxable income of $100,000 or more

• An estate or trust


• Amanda and Samuel Adams are married and lived together during the tax year, with their two children, both under age 19. Amanda works one job and earned $29,500. Samuel worked two jobs and earned $18,500 on the first, and $11,400 on the second. Samuel also earned tips of $4,650. They have no other source of income. Find their tax liability.


Excess Social Security Tax

Sometimes employees have too much in OASDI taxes withheld from their wages. Too much withholding can occur when a person works for two or more employers. Taxpayers can recover the excess through the tax reporting system.

How much must a taxpayer earn before excess OASDI taxes occur?


Assignment

•Chapter 2 Problems 1--4


Tax Credits

• Use to reduce tax liability after tax is determined

• Refundable credits—guarantee a payment from the givernment even when the amount of the credit exceeds the tax liability

• Nonrefundable—taxpayer will not receive a refund for the credit if their tax liability is zero


Personal Tax CreditsNonrefundable

• Child and dependent care credit

• Elderly or disabled credit

• Adoption credit

• Child tax credit

• Education credits

• Retirement savings contributions credit

• Hybrid automobile credit

• Residential energy credits

Refundable

• Earned income credit

• Additional child tax credit

• Federal tax withholdings and payments

• Excess OASDI taxes withheld


Nonrefundable Credits

Most tax credits are nonrefundable. Nonrefundable credits can reduce the taxpayer’s regular tax liability to zero but cannot result in refund.


Tax Credits—Guaranteed?

Refundable Credits

• Credit for federal income tax withheld or paid toward the current year’s tax liability

• Earned Income Credit (EIC)

• Additional child tax credit

• Excess OASDI tax withheld


Child and Dependent Care Credit

See page 2-10--11Qualified expenses are the amounts taxpayers spend for child and dependent care so that they can work, look for work, or go to school.

Maximum expense allowed is $3000/$6000

Credit amount ranges from 35% down to 20% of AGI

This is Nonrefundable

Uses form 2441 or Schedule 2, p. 2-13


Child and Dependent Care CreditQualified person: The taxpayer must maintain a home where one of the following persons live:

– A child under age 13 whom the taxpayer may claim as a dependent

– A dependent physically or mentally unable to provide self-care

– A spouse physically or mentally unable to provide self-care


Child Tax Credit

Pages 2-19--21

Taxpayers may be able to claim a credit of $1,000 for each qualifying child, if:

– The child is a descendent, stepchild, or foster child of the taxpayer who is under the age of 17 as of the end of the tax year, or permanently and totally disabled

– The child is a citizen, national, or resident of the U.S.

– The child can be claimed as a dependent on the taxpayer’s tax return


Child Tax Credit

The full child credit is available only to taxpayers whose AGI does not exceed $75,000 (single) or $110,000 (married).

This credit is both refundable and nonrefundable.


Additional Child Tax Credit

• This is the refundable part of the Child Tax Credit

• Taxpayers unable to benefit completely from the child tax credit as a nonrefundable credit can claim a refundable child tax credit to the extent that 15% of their earned income exceeds $11,750.

• Uses form 8812 (page 2-21)



Education Tax Credits (College tuition) (Nonrefundable)

Applies toward what is actually paid Page 2-14

• HOPE scholarship credit– Maximum of $1,650 per eligible student

– Only for first two-years of college

– Must be at least ½ time student, in a degree program

– No felony drug convictions

– AGI limits:• Phaseout begins at $47,000 or $94,000

• May be claimed for yourself or your dependentCCH Essentials of Federal Income Taxation 20 of 38

Chapter 2

Education Tax Credits (College tuition) (Nonrefundable)

Applies toward what is actually paid

• Lifetime learning credit– Maximum of $2,000 per taxpayer, per year

– Any post-secondary education courses to acquire or improve job skills

– Unlimited number of years

– Student does not need to be seeking degree

– No minimum enrollment for credits

– No felony drug convictions

– Phaseout begins at $47,000 or $94,000

– May be claimed for yourself or your dependent


Earned Income Credit—Refundable p. 2-25Eligible individuals:• Must be over 24 years old, but not more than 64, at

the end of the year• Cannot be claimed as a dependent by another

taxpayer• OR Have a qualifying child (relationship, residency, age,

citizen) The child does have to meet the <50% rule self-support rule.

• Child is usually qualified for the custodial parent• Unmarried child does not have to be the taxpayer’s

dependent• Taxpayer must have “earned income”• Married couples must file “jointly”• May be taken as you earn (Advance EIC)• See EIC tables in text appendix


Adoption Credit--Nonrefundable

• Taxpayers adopting a child under age 18 (or one incapable of self-care) may receive a tax credit. The credit is available for qualified adoption expenses including court costs, legal fees, agency fees, and other adoption-related expenditures.

• The credit is limited to $11,390.

• Phaseout starts at AGI of $170,820

• Other conditions in Pub 17


Retirement Savings Contribution Creditp. 2-22

• A nonrefundable credit of up to $1,000 (50% or less of $2,000 of contribution) is available for contributions to a retirement savings plan.

• It is in addition to any deduction or exclusion relating to the contribution. The credit amount depends on filing status and AGI.

• Targeted to taxpayers below $26,000/52,000 AGI

• Phaseouts reduce % allowed


Foreign Tax Credit

This nonrefundable credit applies to both individuals and corporations. This credit reduces the U.S. income tax by the taxes paid to foreign countries, which prevents foreign income from being taxed twice. Individuals can deduct foreign taxes paid as an itemized deduction.


Credit for the Elderly or the DisabledP. 2-14

Taxpayers age 65 or older, and taxpayers under 65 who retire with a permanent and total disability, may receive a special nonrefundable credit.

Primarily, this credit benefits elderly, low-income taxpayers who receive little or no social security income.

Use schedule 3 or schedule R

See Pub 17, p. 219


Alternative Motor Vehicle Creditp. 2-24

• Called the “hybrid vehicle credit”

• Varies for type of vehicle

• May be limited or eliminated depending on sales of cars that qualify

• Credits range from $250 to $3400

• See. Pub 17 p. 247


Residential Energy Credits

• 10% credit for qualified home energy efficiency improvements like insulation, new windows/doors, high-efficiency heating or cooling or hot water appliances

• 30% credit for alternative energy installations involving solar or fuel-cell items

• See Pub 17 p. 248


Form 1040EZ

Users of Form 1040EZ must:

• Be single or joint filers, under age 65 and not blind

• Claim the standard deduction

• Make no claim for a dependency exemption

• Have very limited sources of gross income

• Have taxable interest income of $1,500 or less

• Have taxable income of less than $100,000

• Have no dividend income

• Not earn $20 or more in monthly tips from one employer that are omitted from Form W-2

• Not receive any advance earned income credit (EIC) payments


Form 1040A• Only taxpayers with taxable incomes of less than $100,000

can use Form 1040A

• Form 1040A permits more types of income than Form

1040EZ, but fewer types than Form 1040

• Form 1040A permits only four deductions for AGI:

– A qualifying IRA contribution

– Certain interest on student loans

– Educator expenses

– Tuition and fees deduction

• This form allows taxpayers to reduce AGI only by the

standard deduction and allowable exemptions


Form 1040

Taxpayers must use Form 1040 when they do not qualify to use either Form 1040EZ or Form 1040A. They may also elect Form 1040 over one of these other forms to save taxes (more deductions and credits are available). This form provides for all types of income, deductions, credits, and other taxes that might be owed.


Extensions of Time to File


Entity

Individual (Form 1040,

1040A, or 1040EZ)

Automatic

Second Extension

Partnership (Form 1065)

Automatic

Second Extension

S Corporation (Form 1120S)

Automatic

C Corporation (Form 1120

or 1120A)

Automatic

Form Number

for Extension

Form 4868

Form 2688

Form 8736

Form 8800

Form 7004

Form 7004

Extension of Time

Four months

Up to two more months

Three months

Up to three more months

Six months

Six months

Tax Penalties


Type of Penalty Amount of Penalty

Failure to file 5% of amount due for each month or fraction of

month that the return is late (maximum penalty = 25%)

Failure to pay .5% of amount due for each month or fraction of

month that the return is late (maximum penalty = 25%)

Accuracy-related 20% of tax due

Fraud 75% of tax due (accuracy-related penalties

will not also be applied)

Fraudulent return $10,000 and/or one year in prison

Frivolous return filing $500

Criminal intent to defraud $100,000 and/or five years in prison

Preparer penalties From $5 to $500 for each wrongful act

Improper disclosure of $1,000 and/or 1 year in prison

information acquired

from a taxpayer by a

tax preparer

Chapter 2

Reasonable Cause

• Death or serious illness

• Unavoidable absence

• Destruction of certain facilities or records

• Timely mailing

• Wrong filing place

• Reliance on competent tax advisor

• Unobtainable records

• IRS office visit in which an IRS employee was unable to be seen for reasons beyond taxpayer control

• Erroneous IRS information


The IRS lists the following circumstances as reasonable

causes for failure to comply with the tax laws:

Chapter 2

Common Information Returns

Form 1099-DIV, Dividends and Distributions

Form 1099-INT, Interest Income

Form 1099-G, Certain Government Payments

Form 1098, Mortgage Interest Statement

Form 1099-MISC, Miscellaneous Income

Form 1099-R, Distributions from Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, Etc.

Form 1099-B, Proceeds from Broker and Barter Exchange Transactions

Form 1099-S, Proceeds from Real Estate Transactions

Form 8027, Employer’s Annual Information Return of Tip Income and Allocated Tips

Form 5498, Individual Retirement Arrangement Information


Audit Process

An IRS computer checks for the following errors:

• An error in arithmetic shown on the return

• Incorrect use of any IRS table, if such use is apparent from the existence of other information on the return

• Inconsistent entries on the return

• Omission of information necessary to substantiate a return entry

• Entry of a deduction or credit item that exceeds a statutory limit based on information appearing on the return


Factors Affecting a Return’s Selection for Audit

• Large gross income

• Self-employed taxpayers with high incomes and large deductions

• Cash businesses (e.g., restaurants, service businesses)

• Excessive itemized deductions in relation to income level

• Claims for large refunds

• Disagreement between reported income and information returns (e.g., Form 1099, Form W-2)

• A large increase in exemptions

• A major decrease in rental income

• Informant information

• Prior tax deficiencies


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