module 27 nonbusiness deductions and exemptions

Module 27Nonbusiness Deductions

and Exemptions

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Classification of deductible expenses

Deductions for adjusted gross income

Standard deduction and itemized deductions

Personal and dependency exemptions

Phaseout of exemptions

Reduction of itemized deductions

Classification of Deductible Expenses

Key Learning ObjectivesKey Learning Objectives

Allowable deductions of individual taxpayersAllowable deductions of individual taxpayers Order of deductionsOrder of deductions Relationship of deductionsRelationship of deductions

For AGI andFor AGI and From AGIFrom AGI

AGI & Deductions From AGI

Itemized deductions reduced by AGIItemized deductions reduced by AGI Medical--7.5%Medical--7.5% Miscellaneous--2%Miscellaneous--2% Casualty--10%Casualty--10%

Charitable--total deduction limited by AGICharitable--total deduction limited by AGI

§162 Trade or Business Expenses

Generally deductibleGenerally deductible Must be Must be

OrdinaryOrdinary NecessaryNecessary ReasonableReasonable

§162 Trade or Business Expenses

If self-employedIf self-employed Deductible for AGIDeductible for AGI

If employeeIf employee Deductible from AGI if unreimbursed Deductible from AGI if unreimbursed Reimbursed--non-accountable planReimbursed--non-accountable plan Subject to 2% floorSubject to 2% floor

§212 Expenses forProduction of Income

Generally deductibleGenerally deductible Must be Must be

OrdinaryOrdinary NecessaryNecessary ReasonableReasonable


For production/collection of incomeFor production/collection of income For property held for production of incomeFor property held for production of income

Management/conservation/maintenanceManagement/conservation/maintenance

Determination/collection/refund Determination/collection/refund of any taxof any tax


For AGIFor AGI Rental and royalty expenses on Sch ERental and royalty expenses on Sch E

From AGI From AGI Most investment related itemsMost investment related items Except taxes, interest expenseExcept taxes, interest expense Miscellaneous 2%Miscellaneous 2%

§262 Personal Expenses

Generally not deductibleGenerally not deductible Exceptions for certain itemized deductionsExceptions for certain itemized deductions

Deductions for Personal Items“Otherwise Allowable”

Interest expenseInterest expense Charitable contributionsCharitable contributions TaxesTaxes Medical expensesMedical expenses Casualty lossesCasualty losses

AGI Limitations

Medical--7.5% AGI offsetMedical--7.5% AGI offset Misc..-- 2% - 2% AGI offsetMisc..-- 2% - 2% AGI offset Overall--3% AGI offsetOverall--3% AGI offset

AMT Add-Backs

100% of taxes 100% of taxes 100% of misc.... 2%100% of misc.... 2% Additional 2.5% AGI offset on medicalAdditional 2.5% AGI offset on medical Equity interest expenseEquity interest expense

Deductions for Adjusted Gross Income Key Learning Objectives

Introduction to deductions for AGI Moving expenses--covered in Mod 25Moving expenses--covered in Mod 25 Alimony payments covered in Mod 25Alimony payments covered in Mod 25 Penalty on early withdrawal of savingsPenalty on early withdrawal of savings Health insurance costs for self-employed Health insurance costs for self-employed

taxpayerstaxpayers Interest on certain student loansInterest on certain student loans

Standard & Itemized Deductions

Key Learning Objectives (1)

Standard deduction Itemized deductions

Medical expensesMedical expenses TaxesTaxes

Standard Deduction 2000

Married, Joint--------------- 7,350Married, Joint--------------- 7,350 Married, Separate-----------3,675Married, Separate-----------3,675 Head of Household---------6,450Head of Household---------6,450 Single-------------------------4,400Single-------------------------4,400 If dependent-- at least 700 increased byIf dependent-- at least 700 increased by

earned income plus 250 earned income plus 250 but not to exceed 4,400 but not to exceed 4,400

Note: several special rules for this groupNote: several special rules for this group

Standard Deduction Add On

Blind and/or over 65Blind and/or over 65 Taxpayer and/or spouse onlyTaxpayer and/or spouse only

Could be 4 add-ons per married, joint returnCould be 4 add-ons per married, joint return 2000 amounts2000 amounts

Married -- $850Married -- $850 Single and head of household -- $1,100Single and head of household -- $1,100

Medical Expenses

Qualified expenses paid in tax yearQualified expenses paid in tax year For self, spouse, dependents For self, spouse, dependents Also for would be dependentAlso for would be dependent

Who has too much gross incomeWho has too much gross income

Qualified Medical Expenses

Only prescription medicineOnly prescription medicine Limited weight lossLimited weight loss Not cosmetic surgery after 1990Not cosmetic surgery after 1990

Medical ExpensesCapital Expenditures

Qualified expense forQualified expense for Cost more than the increase in FMVCost more than the increase in FMV Meet strict requirements as to needMeet strict requirements as to need

Medical ExpensesInstitutionalized Care

Nursing home only if medical care is Nursing home only if medical care is primary purposeprimary purpose

Special schools--blind etc.... Special schools--blind etc.... If special facilities are If special facilities are

primary purposeprimary purpose

Medical ExpensesReductions to Amount Spent

Reduce by insurance proceedsReduce by insurance proceeds Reduce by 7.5% of AGIReduce by 7.5% of AGI Reimbursements generally not incomeReimbursements generally not income

Include in income if tax benefit in prior yearInclude in income if tax benefit in prior year

Income Taxes

All deductible All deductible Except U.S. FederalExcept U.S. Federal

Optional credit treatment for Optional credit treatment for foreign taxesforeign taxes

Property TaxesAd Valorem

Real estate taxes (RE)Real estate taxes (RE) Prorate RE tax when property soldProrate RE tax when property sold

Other taxes if assessed on valueOther taxes if assessed on value Not assessment for improvementsNot assessment for improvements

Standard Deductions and Itemized Deductions

Key Learning Objectives (2)

Itemized deductions Interest expenseInterest expense Charitable contributionsCharitable contributions Casualty and theft loss deductions Casualty and theft loss deductions

for personal use property--on last test onlyfor personal use property--on last test only Miscellaneous itemized deductionsMiscellaneous itemized deductions

Interest Expense Categories

Active T/BActive T/B Qualified residence interestQualified residence interest Investment interestInvestment interest Tax exempt investments--N/A Tax exempt investments--N/A Consumer interest--N/A after 1990 Consumer interest--N/A after 1990 Passive T/B--follow PAL rules Passive T/B--follow PAL rules

To carry passive investment To carry passive investment To run passive T/BTo run passive T/B

General Limitations on Interest Deduction

Payer must be obligated on debt Payer must be obligated on debt Can't deduct prepaid interest Can't deduct prepaid interest

Interest Expense“Follow the Money”

Must track borrowing to show how money Must track borrowing to show how money was used was used

Interest expense limitations based on how Interest expense limitations based on how funds spent funds spent

Interest Expense Limitations

Active T/B--no limits to deductibilityActive T/B--no limits to deductibility Investment interestInvestment interest

Current deduction limited Current deduction limited ToTo netnet investment income investment income Excess carries over indefinitelyExcess carries over indefinitely

Investment Income

Investment incomeInvestment income interestinterest dividendsdividends Overpaid, refundable taxes Overpaid, refundable taxes Interest on the refund Interest on the refund net capital gain net capital gain

if you give up special tax ratesif you give up special tax rates

Investment Expense

Investment expensesInvestment expenses all related expensesall related expenses

real estate taxes on investment propertyreal estate taxes on investment property management feesmanagement fees safety deposit box feessafety deposit box fees magazine subscriptionsmagazine subscriptions

if subject to 2% limit, only that left in if subject to 2% limit, only that left in excess of the limitationexcess of the limitation

Net Investment Income

the excess of investment income over the excess of investment income over investment expenses investment expenses

Example 1: Deductible investment interest expense

No deductions relating to investments

$20,000 of interest expense on funds borrowed to buy stock

Taxable income: $100,000 W2 wages $ 8,500 interest income


No deductions relating to investments

Investment income _______ Related expenses _______ Net investment income

_______ Investment interest deduction

_______


No deductions relating to

investments Investment income $8,500 Related expenses 0 Net investment income 8,500 Investment interest

Deduction 8,500 Carryover 11,500


Deductions relating to investments RE taxes of $2,000




RE taxes are fully deductible on Schedule A, so

Investment income _______ Related expenses _______ Net investment income _______ Investment interest deduction

_______


Investment income $8,500 Related expenses 2,000 Net investment income 6,500 Investment interest



Deductions relating to investments Management fees of $2,000




Mgt fees are deductible only if in excess of 2% of AGI

Here AGI = $108,500 2% = $2,170 Since mgt fee was only $2,000

and no other misc 2% deductions, deduction = 0


Investment income _______ Related expenses _______ Net investment income _______ Investment interest

deduction _______


Investment income $8,500 Related expenses 0 Net investment income 8,500 Investment interest



Deductions relating to investments Management fees of $8,000




Management fees are deductible only if in excess of 2% of AGI

Here AGI = $108,500 2% = $2,170 Since management fee is $8,000

and no other misc 2% deductions, deduction = $5,830


Investment income _______ Related expenses _______ Net investment income _______ Investment interest

deduction _______


Investment income $8,500 Related expenses 5,830 Net investment income 2,670 Investment interest


Special Rules for Qualified Residence Interest

(QRI)

Only 2 principal residences Only 2 principal residences 1 million total acquisition indebtedness 1 million total acquisition indebtedness Plus 100,000 equity indebtedness Plus 100,000 equity indebtedness

Acquisition Indebtedness (ACQ)

Loan secured by property Loan secured by property Funds used to build/improve etc....Funds used to build/improve etc.... Limited to 1 million if after Limited to 1 million if after 10/16/8910/16/89

Outstanding loans at 10/17/89 Outstanding loans at 10/17/89 Grandfathered-in as QRI Grandfathered-in as QRI No limit as long as secured by propertyNo limit as long as secured by property

Equity indebtednessEquity indebtedness

Excess of FMV over ACQ debtExcess of FMV over ACQ debt Funds can use for anything Funds can use for anything Must be secured by property Must be secured by property Limited to 100,000 debtLimited to 100,000 debt AMT add back AMT add back

Points Paid

Points on acquisition of debt deductible if Points on acquisition of debt deductible if Purchase of principal personal residence Purchase of principal personal residence Not borrowed from lender Not borrowed from lender OK if paid by sellerOK if paid by seller

Points N/D if rental or if refinancing Points N/D if rental or if refinancing Amortize over life of loan Amortize over life of loan

Charitable Contributions

To qualified charitable organizationTo qualified charitable organization Not individualNot individual Not foreignNot foreign Not political organizationNot political organization

Charitable Contributions

MoneyMoney Not value of services Not value of services Related out of pocket costs OKRelated out of pocket costs OK

Charitable ContributionsGifts of Property

Ordinary income property Ordinary income property InventoryInventory Other held < 1 yearOther held < 1 year

Deduction limited to adjusted basisDeduction limited to adjusted basis Unless FMV is smallerUnless FMV is smaller

Generally subject to 50% of AGI limitGenerally subject to 50% of AGI limit

Charitable ContributionsGifts of Property

Long term capital gain property (CG) Long term capital gain property (CG) Deduction generally FMV if > basisDeduction generally FMV if > basis Gift of tangible property limited to basis ifGift of tangible property limited to basis if

Unrelated use by charitable organizationUnrelated use by charitable organization Contributed to nonoperating private foundationContributed to nonoperating private foundation

Can deduct basis to avoid 30% limitCan deduct basis to avoid 30% limit

Check List for Gift of Appreciated Property

Ordinary income or “capital gains” property?

If ordinary use lower of adjusted basis (AB) or FMV.

If capital gains property Is charity’s use “related?” If yes use higher of AB or FMV If no use AB unless < FMV.

Example 1: Gift of Appreciated Property

Artwork is given to the local boy scouts for annual auction. Cost $ 9,000 FMV $11,000

Held as investment since 1994 What is taxpayer’s deduction


Here gift is for public auction, so can’t Here gift is for public auction, so can’t be related usebe related use

Deduct lower of AB and FMVDeduct lower of AB and FMV ANSWER: $9,000ANSWER: $9,000


Boat is given to the local boy scouts for summer camp. Cost $ 9,000 FMV $11,000

Used personally since 1994 What is taxpayer’s deduction


Here gift is for use in summer camp, so Here gift is for use in summer camp, so should be related useshould be related use

Deduct FMVDeduct FMV ANSWER: $11,000ANSWER: $11,000

Charitable ContributionsLimitations on Current Deduction

Overall--50% of AGIOverall--50% of AGI Appreciated CG propertyAppreciated CG property

30% of AGI if deduction is FMV 30% of AGI if deduction is FMV 50% if elect adjusted basis 50% if elect adjusted basis

To private foundation--20% AGITo private foundation--20% AGI

Charitable ContributionsExcess Contributions

Carry over for next 5 years Carry over for next 5 years Retain character as to AGI limitsRetain character as to AGI limits No carry back availableNo carry back available

Charitable ContributionsDocumentation for Cash

Over $250 charity must substantiateOver $250 charity must substantiate Charity must disclose value of Charity must disclose value of

goods/services received in exchange if goods/services received in exchange if FMV > $75FMV > $75

Charitable ContributionsDocumentation for Property

FMV > 500--attach Form 8283 FMV > 500--attach Form 8283 FMV > 5,000 need formal, written appraisalFMV > 5,000 need formal, written appraisal Cost of appraisal is misc..... 2% deduction Cost of appraisal is misc..... 2% deduction

Casualty and Theft Losses Sudden, Unexpected, Unusual

Loss on disposal of personal-use asset is Loss on disposal of personal-use asset is generally not allowedgenerally not allowed

Casualty loss is exception Casualty loss is exception Use lower of basis or decline in FMV to Use lower of basis or decline in FMV to

determine lossdetermine loss

Casualty and Theft LossesInsurance Claims

Adjust for actual or expected insurance Adjust for actual or expected insurance reimbursementreimbursement

Gain could result if insurance > basisGain could result if insurance > basis See involuntary conversion rulesSee involuntary conversion rules

Insurance claim must be filed to deduct loss Insurance claim must be filed to deduct loss

Casualty and Theft LossPersonal-Use Property

Each casualty loss reduced by $100Each casualty loss reduced by $100 Net casualty gains and lossesNet casualty gains and losses Net gain for the year is capital gainNet gain for the year is capital gain Net loss for the year is ordinary lossNet loss for the year is ordinary loss

Reduce by 10% of AGI floorReduce by 10% of AGI floor Deduction from AGIDeduction from AGI

Casualty and Theft EventsBusiness or Investment Asset

Return of capital doctrineReturn of capital doctrine Partial destruction Partial destruction

Use lower of basis or decline in FMV Use lower of basis or decline in FMV Complete destructionComplete destruction

Use basis Use basis Adjust for actual or expected insuranceAdjust for actual or expected insurance

Casualty and Theft Events Business or Investment Asset

Business losses deductible for AGI Business losses deductible for AGI Net loss for the year is ordinary lossNet loss for the year is ordinary loss

No 100 or 10% floorNo 100 or 10% floor Net gain for the year is Net gain for the year is

§1231 gain or §1231 gain or Ordinary gainOrdinary gain Depending on holding periodDepending on holding period

Miscellaneous Itemized Deductions

Employee business expensesEmployee business expenses §212 expenses §212 expenses exceptexcept

RentsRents RoyaltiesRoyalties

Total is reduced by 2% of AGITotal is reduced by 2% of AGI

Employee Business Expenses

Being an employee (em’e) is a recognized Being an employee (em’e) is a recognized T/BT/B T/B not that of job, but being em'eT/B not that of job, but being em'e

Must distinguish between personal and T/B Must distinguish between personal and T/B expensesexpenses

Statutory em'e--expenses for AGIStatutory em'e--expenses for AGI Performing artist--may be for AGIPerforming artist--may be for AGI

Employee Business Expenses

All others--deductions from AGI All others--deductions from AGI Included with other misc..... 2% items Included with other misc..... 2% items Exception if em’e reimbursed ANDException if em’e reimbursed AND Em'e accounts to em'rEm'e accounts to em'r

Then em'r does not report in W2 Then em'r does not report in W2 Em’e does not report on tax returnEm’e does not report on tax return

Miscellaneous Itemized Deductions

Add togetherAdd together Meals & entertainment--reduced by 50%Meals & entertainment--reduced by 50% Other employee business expensesOther employee business expenses All §212 expenses except rent/royaltyAll §212 expenses except rent/royalty

Reduce by 2% of AGIReduce by 2% of AGI This is the amount deduct from AGIThis is the amount deduct from AGI

If itemized > standard deductionIf itemized > standard deduction

In Class Exercise: Calculate the Miscellaneous 2% Amount

Valid business entertainment Valid business entertainment 8,000 8,000 Employee business expensesEmployee business expenses 7,500 7,500 Tax Preparation fee Tax Preparation fee 250 250 Management fee onManagement fee on

mutual stock fundmutual stock fund 1,900 1,900 TotalTotal 17,65017,650 Calculate final deduction if Calculate final deduction if

AGI = 100,000 OR 500,000AGI = 100,000 OR 500,000

Solution: In Class Exercise: The Miscellaneous 2% Amount

If AGI = 100,000If AGI = 100,000 Final deduction = 11,650Final deduction = 11,650 Reduce entertainment by 50%Reduce entertainment by 50% Deductions before 2% = 13,650Deductions before 2% = 13,650 2% of AGI = 2,0002% of AGI = 2,000 13,650 reduced to 11,65013,650 reduced to 11,650

In Class Exercise: Calculate the Miscellaneous 2% Amount

If AGI = 500,000 If AGI = 500,000 Final deduction = 3,650Final deduction = 3,650 2% of AGI = 10,0002% of AGI = 10,000

Reduce entertainment by 50%Reduce entertainment by 50% Deductions before 2% = 13,650Deductions before 2% = 13,650

13,650 reduced to 3,65013,650 reduced to 3,650 Use standard deduction if no other deductions Use standard deduction if no other deductions

from AGIfrom AGI

Personal and Dependency Exemptions

Key Learning Objectives

Personal exemptions Dependency exemptions

Personal Exemptions

2,800 per allowance--2000--for2,800 per allowance--2000--for Taxpayer Taxpayer And spouse if joint returnAnd spouse if joint return N/A if dependent on another's returnN/A if dependent on another's return

Dependency Exemptions

2,800 per allowance -- 20002,800 per allowance -- 2000 Meet all of 5 of following testsMeet all of 5 of following tests

SupportSupport Gross incomeGross income RelationshipRelationship Joint return testJoint return test Citizenship/residencyCitizenship/residency

Multiple Support AgreementsNo One Provides > 50% Support

Group, not individual, gives >50% of total Group, not individual, gives >50% of total supportsupport

Group can decide who gets exemptionGroup can decide who gets exemption Taxpayer getting deduction must have Taxpayer getting deduction must have

contributed at least 10% of total supportcontributed at least 10% of total support


Individual being claimed must not Individual being claimed must not Have too much gross income orHave too much gross income or Fail to meet Fail to meet

Joint return testJoint return test Citizenship/residency testCitizenship/residency test


Members of groups must meet relationship Members of groups must meet relationship testtest Relative orRelative or Non-relative dependent lives withNon-relative dependent lives with

In Class Exercise: Who Can Claim D? (1)

D, age 15, parents deceased, lives with D, age 15, parents deceased, lives with Grandparents Grandparents

D's support this year was provided as follows:D's support this year was provided as follows: Interest income--D’s accountInterest income--D’s account 1,000 1,000 Social security survivor's benefitsSocial security survivor's benefits 2,000 2,000 GrandparentsGrandparents 3,0003,000

6,0006,000

Solution--In Class Exercise: Who Can Claim D? (1)

D would claim self since no one provides D would claim self since no one provides more than 50 of D’s supportmore than 50 of D’s support

Note that most of D’s exemption is wasted Note that most of D’s exemption is wasted since D’s income is only 1,000since D’s income is only 1,000

Grandparents would have to spend an extra Grandparents would have to spend an extra dollar to claim Ddollar to claim D

In Class Exercise Who Can Claim D? (2)

D, age 15, parents deceased, lives with D, age 15, parents deceased, lives with Grandparents. D's support this year was Grandparents. D's support this year was provided as follows:provided as follows:

Interest income D’s accountInterest income D’s account 1,000 1,000 Social security survivor's benefitsSocial security survivor's benefits 2,000 2,000 Contributions by mother’s friend Contributions by mother’s friend 500 500 GrandparentsGrandparents 3,000 3,000

6,5006,500


D would claim self since no one provides D would claim self since no one provides more than 50% of D’s supportmore than 50% of D’s support

Since D lives with grandparents, friend Since D lives with grandparents, friend cannot meet relationship test, so not part of cannot meet relationship test, so not part of groupgroup

Grandparents now need to spend $501 to Grandparents now need to spend $501 to get exemption get exemption



Interest income D’s accountInterest income D’s account 1,000 1,000 Social security survivor's benefitsSocial security survivor's benefits 2,000 2,000 Uncle JoeUncle Joe 500 500 GrandparentsGrandparents 3,000 3,000

6,5006,500


Only the grandparentsOnly the grandparents Grandparents and Uncle Joe are group since Grandparents and Uncle Joe are group since

they meet relationship testthey meet relationship test Uncle Joe doesn’t meet the 10% testUncle Joe doesn’t meet the 10% test



Interest income, D’s accountInterest income, D’s account 3,000 3,000 Uncle JoeUncle Joe 1,000 1,000 GrandparentsGrandparents 3,000 3,000

7,0007,000


Now either grandparents or Uncle JoeNow either grandparents or Uncle Joe Group must decide who gets exemptionGroup must decide who gets exemption The other members of the group must sign The other members of the group must sign

written waiver agreeing to not take written waiver agreeing to not take exemptionexemption Form 2120Form 2120

Phaseout of Exemptions and Reduction of Itemized Deductions

Key Learning Objectives

Phaseout of exemptions Reduction of itemized deductions

Phase Out of Exemptions The Steps To Follow

Calculate AGI, if < threshold stopCalculate AGI, if < threshold stop Calculate excess AGI Calculate excess AGI

AGI - ThresholdAGI - Threshold Divide by 2,500 Divide by 2,500

Round up for Round up for anyany fraction fraction

Multiply by 2%--this is the amount Multiply by 2%--this is the amount lostlost 1 - % = amount of exemptions allowed1 - % = amount of exemptions allowed

Threshold Amounts 2000

SingleSingle 128,950128,950 Head of householdHead of household 161,150 161,150 Married, jointMarried, joint 193,400 193,400 Married, separateMarried, separate 96,700 96,700

In Class Exercise: Phaseout of Exemptions

Part 1: Calculate AGI

W2 W2 170,000 170,000 Bank interest Bank interest 5,900 5,900 State bond interestState bond interest 4,500 4,500 Alimony Alimony paidpaid 5,0005,000

Solution--In Class ExercisePart 1: Calculate AGI

AGI = 170,900 [170,000 + 5,900 - 5,000]AGI = 170,900 [170,000 + 5,900 - 5,000] State bond interest excludedState bond interest excluded Alimony paid is deduction for AGIAlimony paid is deduction for AGI Now calculate taxable income IFNow calculate taxable income IF

SingleSingle Married, jointMarried, joint Head of HouseholdHead of Household

In each case, taxpayer gets two exemptionsIn each case, taxpayer gets two exemptions

Solution: In Class ExerciseSingle, Exemption Phaseout

AGIAGI 170,900170,900 THRESHOLDTHRESHOLD (128,950)(128,950) EXCESSEXCESS 41,950 41,950 ÷2,500÷2,500 16.78 -> 1716.78 -> 17 17 times 2% = loss amount (34%)17 times 2% = loss amount (34%) 1 - .34 = deduction amount (66%)1 - .34 = deduction amount (66%) Exemptions = 2,800 x 2 x .66 = 3,696Exemptions = 2,800 x 2 x .66 = 3,696

Solution: In Class ExerciseSingle, Taxable Income

AGI 170,900AGI 170,900 SD (4,400)SD (4,400) EXS EXS (3,696) (3,696) 2,800 x 2 x .662,800 x 2 x .66

TI TI 162,804162,804

Solution: In Class Exercise Married, Exemption Phaseout

AGIAGI 170,900 170,900 THRESHOLDTHRESHOLD (193,400)(193,400) EXCESSEXCESS N/A N/A

Exemptions = 2,800 x 2 = 5,600Exemptions = 2,800 x 2 = 5,600

Solution: In Class ExerciseMarried, Taxable Income

AGIAGI 170,900 170,900 SDSD (7,350) (7,350) EXSEXS (5,600 (5,600)) 2,800 x 2 2,800 x 2

TITI 157,950157,950

Solution: In Class Exercise Head, Exemption Phaseout

AGIAGI 170,900 170,900 THRESHOLDTHRESHOLD (161,150)(161,150) EXCESSEXCESS 9,750 9,750 ÷ 2,500÷ 2,500 3.9 = 43.9 = 4 4 times 2% = loss amount ( 8%)4 times 2% = loss amount ( 8%) 1 - .08= deduction amount (92%)1 - .08= deduction amount (92%) Exemptions = 2,800 x 2 x .92 = 5,152Exemptions = 2,800 x 2 x .92 = 5,152

Solution: In Class Exercise Head, Taxable Income

AGIAGI 170,900 170,900 STDSTD (6,450) (6,450) EXSEXS (5,152) (5,152) 2,800 x 2 x .922,800 x 2 x .92

TITI 159,298159,298

3% of AGI ReductionAll Itemized Deductions Except

MedicalMedical CasualtyCasualty Investment interest expenseInvestment interest expense Gambling lossesGambling losses

3% of AGI Reduction

Threshold is same as the exemption Threshold is same as the exemption phaseout for single filersphaseout for single filers

For 2000, threshold is 128,950For 2000, threshold is 128,950 Know which deduction it applies toKnow which deduction it applies to Know how to calculateKnow how to calculate

3% ReductionNever Reduces to Zero

Taxpayer always gets the largest ofTaxpayer always gets the largest of

(1) Limited - offset + unlimited(1) Limited - offset + unlimited

(2) 20% of limited + unlimited(2) 20% of limited + unlimited

(3) Standard deduction(3) Standard deduction

In Class Exercise: Itemized Deduction Phaseout (1) AGI 200,000 AGI 200,000 Mortgage interest paid = 10,000Mortgage interest paid = 10,000 What is the deduction from AGI?What is the deduction from AGI? Apply all other limits firstApply all other limits first

Reduce entertainment by 50% of costReduce entertainment by 50% of cost Reduce medical by 7.5% of AGIReduce medical by 7.5% of AGI Reduce miscellaneous by 2% of AGIReduce miscellaneous by 2% of AGI Reduce casualty loss by 10% of AGIReduce casualty loss by 10% of AGI

Solution: In Class Exercise: Itemized Deduction Phaseout (1)(1) Calculate the 3% Reduction

AGIAGI 200,000200,000 ThresholdThreshold 128,950 -128,950 --> same for all -> same for all ExcessExcess 71,05071,050 x .03x .03 ReductionReduction 2,132 2,132

Solution: In Class Exercise: Itemized Deduction Phaseout (1)

(2) Compare the 3 Limits Taxpayer gets the largest ofTaxpayer gets the largest of

((1) 10,000 - 1) 10,000 - 2,1322,132 7,868 7,868

(2) 20% of 10,000 (2) 20% of 10,000 2,000 2,000

(3) Standard deduction (3) Standard deduction 7,8687,868 > all standard deductions, so all filers > all standard deductions, so all filers

would use 7,868would use 7,868

In Class Exercise: Itemized Deduction Phaseout (2)

AGI 200,000 AGI 200,000 Medical expenses paid 20,000Medical expenses paid 20,000 What is the deduction from AGI?What is the deduction from AGI? Remember to apply all other limits before Remember to apply all other limits before

3% reduction3% reduction Medical reduced by 7.5% of AGIMedical reduced by 7.5% of AGI

Solution: In Class Exercise: Itemized Deduction Phaseout (2)(1) Calculate the 7.5% Reduction

Reduction = 200,000 x 0.075 = 15,000Reduction = 200,000 x 0.075 = 15,000

Medical Medical 20,000 20,000 Reduction Reduction (15,000)(15,000) Deductible Deductible 5,000 5,000

Solution: In Class Exercise: Itemized Deduction Phaseout (2)(2) Calculate the 3% Reduction

Medical is not 3% limited, SOMedical is not 3% limited, SO Taxpayer gets > Taxpayer gets >

(1) 5,000 (1) 5,000

(2) Standard deduction (2) Standard deduction Only single/married separate use 5,000Only single/married separate use 5,000 Others would use standard deduction Others would use standard deduction

In Class Exercise: Itemized Deduction Phaseout (3) AGI 200,000 AGI 200,000 Medical expenses paidMedical expenses paid 20,00020,000 Mortgage interest paidMortgage interest paid 10,000 10,000 What is the deduction from AGI?What is the deduction from AGI? Remember to apply all other limits before Remember to apply all other limits before

3% reduction3% reduction Medical reduced by 7.5% of AGIMedical reduced by 7.5% of AGI


This is a combination of first two cases. This is a combination of first two cases. Here taxpayer gets largest ofHere taxpayer gets largest of

(1) 7,868 + 5,000 = 12,868(1) 7,868 + 5,000 = 12,868

(2) 2,000 + 5,000 = 7,000(2) 2,000 + 5,000 = 7,000

(3) Standard deduction (3) Standard deduction 12 ,868 > all standard deductions12 ,868 > all standard deductions All filers would use 12 ,868All filers would use 12 ,868

In Class Exercise: Itemized Deduction Phaseout (4)

AGI 200,000 AGI 200,000 Business Entertainment 52,000Business Entertainment 52,000 What is the deduction from AGI ?What is the deduction from AGI ? Remember to apply all other limits before 3% Remember to apply all other limits before 3%

reductionreduction Entertainment reduced by Entertainment reduced by

50% of each dollar50% of each dollar 2% of AGI2% of AGI

Solution: In Class Exercise: Itemized Deduction Phaseout (4)(1) Reduce Entertainment by Limits

Reduce entertainment by 50% Reduce entertainment by 50% 52,000 x .5 = 26,00052,000 x .5 = 26,000

Reduced entertainment by 2% of AGIReduced entertainment by 2% of AGI26,000 - [200,000 x .02] = 22,000 26,000 - [200,000 x .02] = 22,000


(2) Apply 3% Offset Rules 3% reduction is still 2,1323% reduction is still 2,132

Taxpayer gets the largest ofTaxpayer gets the largest of

(1) 22,000 - (1) 22,000 - 2,1322,132 = 19,868 = 19,868

(2) 22,000 x .20 = 4,400(2) 22,000 x .20 = 4,400

(3) Standard deduction (3) Standard deduction 19,868 is > all standard deductionsAll filers 19,868 is > all standard deductionsAll filers

would use 19,868would use 19,868

module 27 nonbusiness deductions and exemptions

Documents

nonbusiness deductions

agiitemized deductions

agiagi deductions

agi offsetamt

agi offsetoverall

agi offsetmisc

royalty expenses

agimoving expenses