This domain covers the items that a preparer must consider during the first steps of the return preparation process taxpayer data filing status individual tax forms and filing requirements A Filing Requirements and Forms ID: 934976
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Slide1
Domain 1: Preliminary Work and Collection of Taxpayer Data
This domain covers the items that a preparer must consider during the first steps of the return preparation process: taxpayer data, filing status, individual tax forms, and filing requirements.
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C.
Exemptions and Dependents
D.
Overview of Preliminary Tax Data
E.
Return Review Process
Table of Contents
Slide74This study guide covers rules for gathering taxpayer data and determining filing status.
Certain taxpayer information is required for filing a tax return. Items such as taxpayer identification number, name, and address, age/date of birth, residency, and dependency status can affect the requirements for filing. In addition, taxpayer data such as marital or family circumstances can affect the filing status selected on the return.
Taxpayer Data And Filing Status
Slide75Taxpayer Name(s)Taxpayers must be sure the name(s) entered on the tax return, including dependents, match records on file with the IRS and/or Social Security Administration. Review the taxpayer's, spouse's and dependent's Social Security Cards and/or Birth Certificates to verify name, date of birth, and social security number information. Keep a copy or scanned image of these documents for your preparer records.
If the name or SSN on the taxpayer's social security card is incorrect, contact the Social Security Administration. Many e-file rejections are a result of name and SSN mismatches between IRS and Taxpayer records.
Slide76This domain reviews the treatment of income and assets on the tax return and includes the taxability of the various types of income, including wages, interest income, rental income, retirement income, and more. This domain covers short-term and long-term capital gains, basis, and the sale of a residence. It also looks at adjustments to income, including moving expenses and tuition and fees
Domain 2: Treatment of Income and Assets
Slide77This study guide covers the filing requirements for most taxpayers, dependents, and other situations where filing is necessary. Form types and requirements are also discussed, along with important filing dates.
A. Filing Requirements and Forms
Slide78Who Must File
If a taxpayer is a U.S. citizen or resident alien, determining whether or not they are required to file a federal income tax return depends on their gross income, their filing status, their age, and whether they are a dependent.
NOTE
: The filing requirements apply even if the taxpayer owes no tax. Taxpayers may have to pay a penalty if they are required to file a return but fail to do so. Willfully failing to file a return could be subject to criminal prosecution.
Filing Requirements
Slide79at the end of 2011 you were...*
THEN file a return if your gross income was at least...
Single under 65 $9,500 65 or older $10,950
head of household under 65 $12,200 65 or older
$13,650 married, filing jointly
***
under 65 (both spouses) $19,000 65 or older (one spouse) $20,150 65 or older (both spouses) $21,300
M
arried, filing separately any age $3,700 qualifying widow(
er
) with dependent child under 65 $15,300 65 or older $16,450
IF your filing status is...
Slide80Keith and Donna are married and plan to file a joint return. Keith is 47 and had a gross income of $15,000 for the tax year. Donna is 44. Her gross income was $2,500 for the year. Since their combined gross income is $17,500, they do not have to file a return
Example
Slide81Katie is 36 years old, single, and her gross income is $10,700. She must file a tax return and will use the Single filing status
Example
Slide82A person who is a dependent may still have to file a return. This depends on the amount of the dependent's earned income, unearned income, and gross income as shown in Table 1-2. A dependent may also have to file if one of the situations described in Table 1-3 applies
Dependent Returns
Slide83Responsibility of parent -
A child is responsible for filing his or her own return and paying any tax owed. If a dependent child who must file an income tax return cannot file it for any reason, such as age, a parent, guardian, or other legally responsible person must file it for the child. If the child cannot sign the return, the parent or guardian must sign the child's name followed by the words "By (your signature), parent for minor child."
Child's earnings
-
Amounts a child earns by performing services are included in his or her gross income. This is true even if under local law the child's parents have the right to the earnings and may actually have received them. If the child does not pay the tax due on this income, the parent is liable for the tax.
Election to report child's unearned income on parent's return
- Taxpayers may be able to include their child's interest and dividend income on their tax return. If they choose to do this, their child will not have to file a return. For more information, see Form 8814 Parent's Election to Report Child's Interest Dividends and Publication 929 Tax Rules for Children and Dependents.
Dependent Returns
Slide84Even if a taxpayer does not have to file, they should file a tax return if they can get a tax refund. Taxpayers should file if one of the following examples apply:
Income tax was withheld from their pay.
They made estimated tax payments for the year or had any of their overpayment for last year applied to this year's estimated tax.
They qualify for the earned income credit.
They qualify for the additional child tax credit.
They qualify for the health coverage tax credit.
They qualify for the refundable credit for prior year minimum tax.
They qualify for the American opportunity credit.
Taxpayers Who Should File Even Though Not Required
Slide85Generally, a taxpayer must use one of three forms to file a tax return: 1040EZ, 1040A and 1040. Each form has different requirements.
The RTRP Competency exam provides the Form 1040 Instructions and a sample 1040 form for reference when answering questions.
Form Types
Slide86Form 1040EZ is the simplest form to use.
Taxpayers can use Form 1040EZ if all of the following
apply
Their
filing status is single or married filing jointly. If a nonresident alien at any time in 2011, the taxpayer's filing status must be married filing jointly.
The taxpayer (and spouse if married filing a joint return) were under age 65 and not blind at the end of 2011. Anyone born on January 1, 1947, is considered to be age 65 at the end of 2011.
They do not claim any dependents.
1040EZ Form Requirements
Slide87Their taxable income is less than $100,000.Their income is only from wages, salaries, tips, unemployment compensation, Alaska Permanent Fund dividends, taxable scholarship and fellowship grants, and taxable interest of $1,500 or less.
They do not claim any adjustments to income, such as a deduction for IRA contributions or student loan interest.
They do not claim any credits other than the earned income credit.
They do not owe any household employment taxes on wages paid to a household employee.
They are not a debtor in a Chapter 11 bankruptcy case filed after Oct 16, 2005.
If they earned tips, they are included on boxes 5 and 7 of the W-2.
1040
ez
Slide881. They only had income from the following sources:
a. Wages, salaries, tips.
b. Interest and ordinary dividends.
c. Capital gain distributions.
d. Taxable scholarship and fellowship grants.
e. Pensions, annuities, and IRAs.
f. Unemployment compensation.
g. Taxable social security and railroad retirement benefits.
h. Alaska Permanent Fund dividends.
2. The only adjustments to income they can claim are:
a. Educator expenses.
b. IRA deduction.
c. Student loan interest deduction.
d. Tuition and fees deduction.
Taxpayers can use Form 1040A if:
Slide893. They do not itemize deductions.4. Their taxable income is less than $100,000.
5. Their taxes are only from the tax table, alternative minimum tax, recapture of an education credit, Form 8615, qualified dividends and the capital gains tax worksheet.
6. The only tax credits claimed are:
a. Child tax credit.
b. Additional child tax credit.
c. Education credits.
d. Earned income credit.
e. Credit for child and dependent care expenses.
f. Credit for the elderly or the disabled.
g. Retirement savings contribution credit.
7. They did not have an alternative minimum tax adjustment on stock acquired from the exercise of an incentive stock option.
1040 A
Slide90If a taxpayer cannot meet the requirements of a 1040EZ, or 1040A, then they must use a 1040. An examination of each section of Form 1040 will be presented throughout the course, as this form is the reference source during the competency exam.
Some common reasons for using Form 1040 include:
Taxable income over $100,000.
Itemizing deductions on Schedule A.
Recapture of First-Time Homebuyer Credit.
Employer did not withhold Social Security and Medicare tax.
1040 Form Requirements
Slide91Ann is 34 years old, is unmarried and has two dependents. She plans to itemize deductions and has taxable income of $85,000. She plans to take the credit for Child and Dependent Care Expenses.
Although Ann meets most of the qualifications to file using Form 1040A, she must use Form 1040 because she is going to itemize deductions on Schedule A
Example
Slide92Use Form 1040X if taxpayers made a mistake on their originally filed return.
Errors may delay a refund or result in notices being sent. If a taxpayer discovers an error, they can file an amended return or claim for refund
1040X
Slide931. They did not report some income,2. They claimed deductions or credits they should not have claimed,
3. They did not claim deductions or credits they could have claimed, or
4. They should have claimed a different filing status. (Once a joint return is filed, a taxpayer cannot choose to file separate returns for that year after the due date of the return. However, an executor may be able to make this change for a deceased spouse.)
5. They need to make certain elections after the prescribed deadline.
6. They wish to modify any amounts previously adjusted by the IRS. (Do not include interest or penalties on Form 1040X; the IRS will adjust these amounts accordingly.)
7. They need to make a claim for a
carryback
due to a loss or unused
credi
1040 X
Slide94On Form 1040X, enter income, deductions, and credits as originally reported on the return, changes that are being made, and the corrected amounts. Then figure the tax on the corrected amount of taxable income and the amount owed or to be refunded.
Taxpayers who owe tax should pay the full amount with Form 1040X.
If due a refund, it will be sent separately from any refund shown on the original return.
A separate Form 1040X must be filed for each tax year involved
Completing Form 1040X
Slide95Almost a year after Luke filed his current year tax return, he found a Form 1099-R from his employer for money he took out of his pension at work. Luke checked his tax return and found the income wasn't included on his original return. Luke must file Form 1040X to include the additional 1099-R income on the current year return.
Example
Slide96The deadline for filing 2011 Individual 1040 tax returns is April 17th, 2012.
Typically 1040 Income tax returns for calendar year filers must be filed on or before April 15th. the filing due date for fiscal year filers is the 15th day of the 4th month following the end of the tax year.
Exceptions to this deadline may include:
1. When the 15th falls on a weekend.
2. When the 15th falls on the Emancipation Day holiday in the District of Columbia.
3. When the IRS has extended the filing deadline for taxpayer's residing in a federally declared
Disaster Area.
4. Members of the armed services serving in a combat zone
Filing Deadlines
Slide97The deadline for filing a tax return, paying any tax owed, and filing a claim for refund is automatically extended if a taxpayer is serving in a combat zone. This applies to members of the Armed Forces, as well as merchant marines serving aboard vessels under the operational control of the Department of Defense, Red Cross personnel, accredited correspondents, and civilians under the direction of the Armed Forces in support of the Armed Forces.
Individuals Serving in Combat Zone
Slide98Generally, a taxpayer must file a claim for a credit or refund within three years of the later of, the due date of their original return, or when their original return was filed, or within 2 years after the date they paid the tax, whichever is later. Returns filed before the due date (without regard to extensions) are considered filed on the due date (even if the due date was a Saturday, Sunday, or legal holiday).
Time for Filing a Claim for Refund
Slide99To obtain an extension of time to file a return for up to six months, complete Form 4868, Application for Automatic Extension of Time to File US Individual Income Tax Return.
For tax year 2011, individual returns are due on April 17, 2012. With an extension to file, the return is due on October 15, 2012.
If tax will be owed, payment of tax is due by the regular due date to avoid interest and penalties.
Extension of Time to File
Slide100Why should a person who is not required to file a tax return according to the three tables want to file a tax return?A. They had taxes withheld from a part time job.
B
. They can claim a credit for Childcare Expense
.
C. They purchased a second home.
TEST
Slide101Walt and Lisa are filing a joint return and have two dependents. Their combined income was $31,000, which included $35 in taxable interest, two months of unemployment income for Lisa and $2,500 of net self-employment income for Walt. They want to take the standard deduction. Which form(s) can Walt and Lisa use for their tax return?
A. Form 1040
B
. Form
1040A
C. Form 1040EZ
Slide102The following taxpayers should file Form 1040X Amended US Individual Income Tax Return except:
They
did not file because they were not required, but realized two years after their filing deadline they are eligible for the Earned Income Credit.
They
received an additional W-2 form after filing their return.
They
determined it would be advantageous to file Married Filing Joint rather than their original filing status of Married Filing Separate.
The
IRS adjusted their tax return and they need to make changes to the
adjustmen
Slide103Taxpayers must be sure the name(s) entered on the tax return, including dependents, match records on file with the IRS and/or Social Security Administration. Review the taxpayer's, spouse's and dependent's Social Security Cards and/or Birth Certificates to verify name, date of birth, and social security number information. Keep a copy or scanned image of these documents for your preparer records.
If the name or SSN on the taxpayer's social security card is incorrect, contact the Social Security Administration. Many e-file rejections are a result of name and SSN mismatches between IRS and Taxpayer records.
Taxpayer Name(s)
Slide104Age is a factor in determining if a taxpayer must file a return only if they are 65 or older at the end of the tax year. For 2011, a taxpayer is 65 or older if they were born before January 1, 1947. A taxpayer is considered 65 on the day before their 65th birthday.
If the taxpayer is 65 or older at the end of the year, he or she can generally have a higher income amount than other taxpayers before he or she must file.
Age
Slide105Howard turned 65 on his birthday on January 1, 2012. He is considered 65 for tax year 2011.
Example
Slide106IRS regulations require that each person listed on a U.S. federal income tax return have a valid taxpayer identification number (TIN). These identifying numbers must be included on the tax return where indicated. The types of Taxpayer Identification Numbers are:
Social Security Number (SSN)
Individual Taxpayer Identification Number (ITIN)
Adoption Taxpayer
Identificaton
Number (ATIN)
Taxpayer Identification Numbers
Slide107Address
Taxpayers should include their current mailing address on their tax return. Guidelines for addresses include:
P.O. Box
-
If the post office does not deliver mail to the physical street address and a taxpayer has a P.O. Box, use the P.O. Box number on the line for the present home address instead of the street address.
Foreign address
- If a taxpayer's address is outside the United States or its possessions or territories, enter the information on the line for "City, town or post office, state, and ZIP code" in the following order:
Slide1081. City,2. Province or state, and3. Name of foreign country. (Do not abbreviate the name of the country.)
Cont
Slide109If taxpayers move after they filed their return, they should give the IRS clear and concise written notification of their change of address. Send the notification to the Internal Revenue Service Center serving their old address using
Form 8822 Change of Address
.
Change of Address
Slide110For purposes of determining whether a taxpayer must file a return, they must include in their gross income all of the income earned or received abroad, including any income excluded under the foreign earned income exclusion. For more information on special tax rules that may apply, see
Publication 54 Tax Guide for U.S. Citizens and Resident Aliens Abroad.
U.S. Citizens or Resident Aliens Living Abroad
Slide111Generally, if a taxpayer is a U.S. citizen and a bona fide resident of Puerto Rico, they must file a U.S. income tax return if they meet the income requirements. This is in addition to any legal requirement to file an income tax return with Puerto Rico.
For taxpayers who are bona fide residents of Puerto Rico for the whole year, their U.S. gross income does not include income from sources within Puerto Rico. However, include in U.S. gross income any income received for services as an employee of the United States or any U.S. agency. For income received from Puerto Rican sources that is not subject to U.S. tax, a taxpayer must reduce their standard deduction, which reduces the amount of income they can have before they must file a U.S. income tax return.
Residents of Puerto Rico
Slide112Juan is a resident of Puerto Rico for the entire year. He has income from sources within Puerto Rico that is not subject to U.S. tax. He also receives income from sources within the U.S. Juan must file a U.S. tax return but does not have to include his income from sources within Puerto Rico. However, Juan must reduce his standard deduction because the income from Puerto Rican sources was not subject to U.S. tax.
Example
Slide113For taxpayers who had income from Guam, the Commonwealth of Northern Mariana Islands, American Samoa, or the U.S. Virgin Islands, special rules may apply when determining whether they must file a U.S. federal income tax return. In addition, they may have to file a return with the individual possession government.
For more information, see
Publication 570 Tax Guide for Individuals with Income from U.S. Possessions.
Individuals with Income from U.S. Possessions
Slide114Aliens
The taxpayer's status as an alien determines whether and how they must file a return.
Resident Alien
- If the taxpayer is a resident alien for the whole year, they must file a return following the same rules that apply to U.S. citizens.
Nonresident Alien
-
If the taxpayer is a nonresident alien, the rules that apply are different from those applying to U.S. citizens. For more information, view
Pub 519, U.S. Tax Guide for Aliens
.
Dual-Status Taxpayer
- If the taxpayer is a resident alien for a portion of the year and a nonresident alien for the rest of the year, then the taxpayer is considered dual-status. Different rules apply for each part of the year, and
Pub 519
should be referenced
Slide115Taxpayers must file an income tax return for a decedent (a person who died) if both of the following are true.They are the surviving spouse, executor, administrator, or legal representative.
The decedent met the filing requirements described in Pub 17 at the time of his or her death.
For more information, see Final Return for Decedent in
Publication 559 Survivors, Executors, and Administrators.
Deceased Persons
Slide116Dependents that met the dependency tests and have certain income amounts may be required to file a return. Dependency tests and requirements will be covered in the "Exemptions and Dependents" section of this course.
REMINDER: Table 1-2 provides details on whether a dependent must file a return.
Dependents
Slide117Everyone who files a federal tax return must determine which filing status applies to them. Filing status impacts the calculation of income tax, affects the amount of the standard deduction, and determines allowance or limitation of certain credits and deductions. Filing status selection can be complex for taxpayers who are separated or in the process of a divorce.
There are five filing statuses:
1. Single
2. Married Filing Jointly
3. Married Filing Separately
4. Head of Household
5. Qualifying Widow(
er
) with Dependent Child
For additional information see
Publication 501 Exemptions, Standard Deduction and Filing Information
.
Filing Status
Slide118In general, a taxpayer's filing status depends on whether they are considered unmarried or married. For federal tax purposes, a marriage means only a legal union between a man and a woman as husband and wife. The term "spouse" refers to a person of the opposite sex who is legally a husband or a wife.
Marital Status
Slide119Taxpayers are considered married for the whole year if on the last day of their tax year they and their spouse meet any one of the following tests.They are married and living together as husband and wife.
They are living together in a common law marriage that is recognized in the state where they now live or in the state where the common law marriage began.
They are married and living apart, but not legally separated under a decree of divorce or separate maintenance agreement. They are separated under an interlocutory (not final) decree of divorce. For purposes of filing a joint return, they are not considered divorced.
Considered Married
Slide120Unmarried Persons
Taxpayers are considered unmarried for the whole year if, on the last day of their tax year, they are unmarried or legally separated from their spouse under a divorce or separate maintenance decree. State law governs whether a taxpayer is married or legally separated under a divorce or separate maintenance decree.
Divorced Persons
- If a taxpayer is divorced under a final decree by the last day of the year, they are considered unmarried for the whole year.
Annulled Marriages
- If the taxpayer obtains an annulment, which holds that no marriage ever existed, the taxpayer is considered unmarried. The taxpayer may be required to file amended returns claiming single or head of household status for all years affected by the annulment not closed by the statute of limitations for filing a return.
Slide121If a taxpayer's spouse died during the year, they are considered married for the whole year for filing status purposes.
If they did not remarry before the end of the tax year, they can file a joint return for themselves and their deceased spouse. For the next 2 years, they may be entitled to the special benefits described later under Qualifying Widow(
er
) With Dependent Child
Spouse Died During the Year
Slide122A taxpayer is considered single if, on the last day of the tax year, the taxpayer wasNever married,Legally
separated or divorced, or Widowed before the first day of the tax year and not remarried during the
year.Although
a taxpayer is considered single, the taxpayer may qualify for another filing status that gives a lower tax, such as Head of Household or Qualifying Widow(
er
) with Dependent Child
Single
Slide123Married taxpayers can select this status even if one of the spouses did not have any income or any deductions. Taxpayers may use the Married Filing Jointly status if they are married and one of the following applies on the last day of the tax year:
They lived together as husband and
wife.They
lived apart but are not legally separated or
divorced.They
live together in a recognized common law
marriage.They
are separated under an interlocutory (not final) divorce
decree.The
taxpayer's spouse died during the year and the taxpayer has not remarried
Married Filing Jointly
Slide124Both taxpayers may be held responsible, jointly and individually, for the tax and any interest or penalty due on their joint return. One spouse may be held responsible for all the tax due even if all the income was earned by the other spouse. Taxpayers who file a joint return must combine their income and deductions on the same return.
Both husband and wife: Must sign the return
Are responsible for any tax owed on the return
Joint Responsibility
Slide125The Married Filing Separately status is fortaxpayers who qualify as married and either
Choose to file separate returns, or
Cannot agree to file a joint return.
Taxpayers who are married may choose the Married Filing Separately status, which means the husband and wife report their own incomes and deductions on separate returns, even if one spouse had no income.
Married Filing Separately
Slide126Unless a taxpayer is required to file separately, they should figure their tax both ways (on a joint return and on separate returns). This way they can make sure they are using the filing status that results in the lowest combined tax. However, taxpayers will generally pay more combined tax on separate returns than they would on a joint return due to special rules
MFJ vs. MFS
Slide127If taxpayers choose married filing separately as their filing status, the following special rules apply. Because of these special rules, they will usually pay more tax on a separate return than if another filing status that they qualify for was used.
The tax rate generally will be higher than it would be on a joint return.
The exemption amount for figuring the alternative minimum tax will be half that allowed to a joint return filer.
In most cases, they cannot take the credit for child and dependent care expenses.
They cannot take the earned income credit.
They cannot take the exclusion or credit for adoption expenses in most cases.
They cannot take the education credits (the American opportunity credit, Hope credit, and lifetime learning credit), the deduction for student loan interest, or the tuition and fees deduction.
Special Rules
Slide128They cannot exclude any interest income from qualified U.S. savings bonds that they used for higher education expenses.If a taxpayer lived with their spouse at any time during the tax year:
They cannot claim the credit for the elderly or the disabled,
They will have to include in income more (up to 85%) of any social security or equivalent railroad retirement benefits they received, and
The following deductions and credits are reduced at income levels that are half those for a joint return:
The child tax credit,
The retirement savings contributions credit,
Their capital loss deduction limit is $1,500 (instead of $3,000 if you filed a joint return).
If the spouse itemizes deductions, the taxpayer cannot claim the standard deduction. If they can claim the standard deduction, the basic standard deduction is half the amount allowed on a joint return.
cont
Slide129Separate to Joint - The taxpayers may change their filing status by amending the return using Form 1040X. If the original return was a separate return, it can generally be amended to a joint return any time within three years from the due date of the original return.
Joint to Separate
- Once a joint return is filed, the taxpayers may NOT choose to file a separate return for that year after the due date of the return
Changing Filing Statuses
Slide130Separate to Joint - The taxpayers may change their filing status by amending the return using Form 1040X. If the original return was a separate return, it can generally be amended to a joint return any time within three years from the due date of the original return.
Joint to Separate
- Once a joint return is filed, the taxpayers may NOT choose to file a separate return for that year after the due date of the return.
Changing Filing Statuses
Slide131Taxpayers may be able to file as head of household if they meet all the following requirements:
They are unmarried or "considered unmarried" (covered later) on the last day of the year. They paid more than half the cost of keeping up a home for the
year.A
"qualifying person" lived with them in their home for more than half the year (except for temporary absences, such as school). However, if the "qualifying person" is a dependent parent, he or she does not have to live with you. See Table 2-1 for details on Qualifying Persons
Head of Household
Slide132To qualify for head of household status, a taxpayer must be either unmarried (defined earlier) or considered unmarried on the last day of the year. Taxpayers are considered unmarried on the last day of the tax year if they meet ALL the following tests: They file a separate
return.They
paid more than half the cost of keeping up their home for the tax
year.Their
spouse did not live in their home during the last 6 months of the tax year. Their spouse is considered to live in their home even if he or she is temporarily absent due to special
circumstances.Their
home was the main home of their child, stepchild, or foster child for more than half the year. They must be able to claim an exemption for the child
Considered Unmarried
Slide133Include costs such as rent, mortgage, interest, real estate taxes, insurance on the home, repairs, utilities, and food eaten in the home. If the taxpayer used payments received under Temporary Assistance for Needy Families (TANF) or other public assistance programs to pay part of the cost of home upkeep, they cannot count them as money paid by the taxpayer.
Do not include expenses such as clothing, education, medical treatment, vacations, life insurance, or transportation. Also, do not include the rental value of a home owned or the value of the taxpayer's services or those of a member of their household.
Cost of Keeping Up a Home
Slide134If the qualifying person is a father or mother, taxpayers may be eligible to file as head of household even if their father or mother does not live with them. However, they must be able to claim an exemption for their father or mother. Also, taxpayers must pay more than half the cost of keeping up a home that was the main home for the entire year for their father or mother
Special Rule for Parent
Slide135Kelly is unmarried. Her mother, for whom she can claim an exemption, lived in an apartment by herself. Her mother died on September 2. The cost of the upkeep of her apartment for the year until her death was $6,000. Kelly paid $4,000 and her brother paid $2,000. Her brother made no other payments toward Kelly's mother's support. Her mother had no income. Because Kelly paid more than half the cost of keeping up her mother's apartment from January 1 until her death, and she can claim an exemption for her, Kelly can file as head of household.
Example
Slide136A taxpayer and their qualifying person are considered to live together even if one or both of them are temporarily absent from their home due to special circumstances such as illness, education, business, vacation, or military service. It must be reasonable to assume that the absent person will return to the home after the temporary absence. The taxpayer must continue to keep up the home during the absence
Temporary Absences
Slide137A taxpayer may be eligible to file as head of household if the individual who qualifies them for this filing status is born or dies during the year. They must have provided more than half of the cost of keeping up a home that was the individual's main home for more than half the year or, if less, the period during which the individual lived.
Death or Birth
Slide138A widow or widower with one or more dependent children may be able to use the Qualifying Widow(
er
) with Dependent Child filing status.
This filing status yields as low a tax amount as Married Filing Jointly, and is available for only two years following the year of the spouse's death. If the taxpayer's spouse died during 2010, and the taxpayer has not remarried, the taxpayer may be able to claim this filing status for 2011 and 2012
Qualifying Widow(
er
) with Dependent Child
Slide139To qualify for the Qualifying Widow(er
) with Dependent Child filing status, the taxpayer must: Not have remarried before the end of the tax year
Have been eligible to file a joint return for the year the spouse died; it does not matter if a joint return was actually filed
Have a child, stepchild, or adopted child who qualifies as the taxpayer's qualifying child for the year
The child lived in the home all year, except for temporary absences
The taxpayer paid more than half the cost of keeping up a home for the year
Criteria
Slide140John Reed's wife died in 2009. John has not remarried. During 2010 and 2011, he continued to keep up a home for himself and his child, who lives with him and for whom he can claim an exemption. For 2009 he was entitled to file a joint return for himself and his deceased wife. For 2010 and 2011, he can file as qualifying widower with a dependent child. After 2011 he can file as head of household if he qualifies
Example
Slide141In summary, consider these guidelines when selecting the correct filing status:
The marital status on the last day of the year determines a taxpayer's marital status for the entire year.
If more than one filing status applies, choose the one that gives the lowest tax obligation.
Single filing status generally applies to anyone who is unmarried, divorced or legally separated according to state law.
A married couple may file a joint return together or separate returns.
Summary Guidelines
Slide142If a taxpayer's spouse died during the year and they did not remarry during 2011, they may still file a joint return with that spouse for the year of death, provided the joint return election is not revoked by a personal representative for the deceased spouse.
Head of Household generally applies to taxpayers who are unmarried. Taxpayers must also have paid more than half the cost of maintaining a home for them and a qualifying person to qualify for this filing status. There are also provisions for married taxpayer's separated from their spouse who meet these and other requirements.
Taxpayers may be able to choose Qualifying Widow(
er
) with Dependent Child as their filing status if their spouse died during 2009 or 2010, they have a dependent child and they meet certain other conditions.
cont
Slide143This domain reviews the treatment of income and assets on the tax return and includes the taxability of the various types of income, including wages, interest income, rental income, retirement income, and more. This domain covers short-term and long-term capital gains, basis, and the sale of a residence. It also looks at adjustments to income, including moving expenses and tuition and fees
Domain 2: Treatment of Income and Assets
Slide144A. Taxability of Wages, Salaries, Tips, and Other Earnings B. Interest and Dividend Income
C.
Self-employment Income and Expenses
D.
Rental Income and Expenses
E.
Retirement Income
F.
Social Security Benefits
G.
Real and Personal Property
H.
Other Income
I.
Adjustments to Income
Slide145This Study Guide reviews the taxability of compensation received as an employee, including wages, salaries, fringe benefits, and retirement plan contributions. It will also cover the special rules for certain employees and sickness and injury benefits.
A. Wages, Salaries, Tips, and Other Earnings
Slide146Form W-2All employed taxpayers should receive Form W-2 from their employer showing the pay received for services.
Pay is included on line 7 of Form 1040 or Form 1040A, or on line 1 of Form 1040EZ, even if the taxpayer doesn't receive a Form W-2. If services are performed, other than as an independent contractor, and the employer did not withhold social security and Medicare taxes from the pay, file Form 8919, Uncollected Social Security and Medicare Tax on Wages, with the Form 1040. These wages must be included on line 7 of Form 1040. See Form 8919 for more information.
Employee Compensation
Slide147Childcare ProvidersTaxpayers that provide childcare, either in the child's home, the taxpayer's home or other place of business, the pay received must be included in income. Childcare providers that are not employees are considered self-employed and must include payments for services on Schedule C (Form 1040). Taxpayers are generally not an "employee" unless they are subject to the will and control of a person who employs them.
NOTE
: Childcare provider rules apply to any taxpayer that babysits relatives or neighborhood children, whether on a regular basis or only periodically.
Example
A stay at home mom who watches another child in her home twice a week for extra money must report those earnings on a Schedule C.
Slide148Foreign IncomeWhether a U.S. citizen or resident alien, all income from sources outside the United States (foreign income) must be reported on the tax return unless it is exempt by U.S. law. This is true for taxpayers that reside either inside or outside the United States and whether or not they received a Form W-2, Wage and Tax Statement, or Form 1099 from the foreign payer. This applies to earned income (such as wages and tips) as well as unearned income (such as interest, dividends, capital gains, pensions, rents, and royalties).
NOTE
: Taxpayers that reside outside of the United States may be able to exclude part or their entire foreign source earned income. For details, see Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad.
Slide149Miscellaneous CompensationThis section discusses the different types of employee compensation. These may or may not be included as income on the W-2.
Advance Commissions and Other Earnings
Advance commissions or other amounts received for services to be performed in the future must be included in income for the year they are received.
If unearned commissions or other amounts are repaid in the same year they are received, reduce the amount included in income by the repayment amount. If repaid in a later tax year, deduct the repayment amount as an itemized deduction on Schedule A (Form 1040), or the taxpayer may be able to take a credit for that year.
Slide150Back Pay AwardsInclude in income amounts awarded in a settlement or judgment for back pay. These include payments made for damages, unpaid life insurance premiums, and unpaid health insurance premiums. These amounts should be reported by the employer on Form W-2.
Bonuses and Awards
Bonuses or awards received for outstanding work are included in income and should be shown on Form W-2. These include prizes such as vacation trips for meeting sales goals. If the prize or award received is for goods or services, include the fair market value of the goods or services in income.
NOTE
: Bonuses or awards are not taxable until received or until made available to the taxpayer.
Slide151Employee Achievement AwardIf the taxpayer received tangible personal property (other than cash, a gift certificate, or an equivalent item) as an award for length of service or safety achievement, its value can generally be excluded from income. However, the amount excluded is limited to the employer's cost and cannot be more than $1,600 ($400 for awards that are not qualified plan awards) for all such awards received during the year.
The exclusion does not apply to the following awards:
A length-of-service award if received for less than 5 years of service or if the taxpayer received another length-of-service award during the year or the previous 4 years.
A safety achievement award if the taxpayer is a manager, administrator, clerical employee, or other professional employee, or if more than 10% of eligible employees previously received safety achievement awards during the year.
Slide152ExampleIn July of 2011, James received $2,500 in advance commissions and in December repaid $1,000 for commissions unearned. $1,500 would need to be included in income for 2011.
Example
Jill received two nonqualified plan awards valued at $250 each, and one qualified plan award of a watch valued at $1,000. Each award can be excluded from income. However, because the value of the nonqualified awards exceeds $400, ($250 + $250 = $500), $100 must be included in income ($500 - $400 = $100).
Slide153Differential Wage PaymentsThis is any payment made by an employer for any period during which the taxpayer, for a period of more than 30 days, is an active duty member of the uniformed services and represents all or a portion of the wages that would have been received from the employer during that period. These payments are treated as wages and are subject to income tax withholding, but not FICA or FUTA taxes. The payments are reported as wages on Form W-2.
Government Cost-of-Living Allowances
Cost-of-living allowances generally are included in income. However, cost-of-living allowances are not included in income if the taxpayer was a federal civilian employee or a federal court employee who was stationed in Alaska, Hawaii, or outside the United States. Beginning January 1, 2010, these federal employees are being transitioned from a nontaxable cost-of-living adjustment to a taxable locality-based comparability payment.
Allowances and differentials that increase basic pay as an incentive for taking a less desirable post of duty are part of compensation and must be included in income.
Slide154Nonqualified Deferred Compensation PlansEmployers will report the total amount of deferrals for the year under a nonqualified deferred compensation plan. This amount is shown on Form W-2, box 12, using code "Y". This amount is not included in income.
However, if at any time during the tax year, the plan fails to meet certain requirements, or is not operated under those requirements, all amounts deferred under the plan for the tax year, and all preceding tax years, are included in income for the current year. This amount is included in wages shown on Form W-2, box 1. It is also shown on Form W-2, box 12, using code "Z"
Slide155Note Received for ServicesIf the taxpayer receives a secured note as payment for services, include the fair market value of the note in income for the year it was received. Later, when the taxpayer receives payments from the note, a proportionate part of each payment is the recovery of the fair market value previously included in their income. Do not include that part again in income. Include the rest of the payment in income in the year of payment.
If the taxpayer receives a non-negotiable unsecured note as payment for services, payments on the note that are credited toward the principal amount of the note are compensation income when they are received.
Slide156Severance PayInclude in income amounts received as severance pay and any payment for the cancellation of an employment contract.
Accrued Leave Payment
Federal employees that receive a lump-sum payment for accrued annual leave when they retire or resign must include this amount as wages on Form W-2.
If the taxpayer resigns from one agency and is re-employed by another agency, the lump-sum annual leave payment to the second agency may have to be repaid. Reduce the wages by the amount repaid in the same tax year in which it was received. Attach to the tax return a copy of the receipt or statement given by the agency repaid to explain the difference between the wages on the return and the wages on Form W-2.
Slide157Outplacement ServicesFor taxpayers that choose to receive a reduced amount of severance pay so that they may receive outplacement services, the unreduced amount of the severance pay must be included in income.
The value of the outplacement services can be deducted (up to the difference between the severance pay included in income and the amount actually received) as a miscellaneous deduction (subject to the 2%-of-adjusted-gross-income (AGI) limit) on Schedule A (Form 1040).
Example
Roxy, a federal employee, received a lump sum of $2,000 for accrued annual leave when she resigned from the Early Head-Start Program to move to another city in 2011. In the same year, Roxy was hired by the Early Head-Start program in her new city of residence. Since it was the same program offering the same annual leave, Roxy was required to pay back $500 of the accrued leave payment to her new employer. Roxy should include $1,500 in wages since the payment and repayment occurred in the same year.
Slide158Sick PayPay received from employers while sick or injured is part of salary or wages. In addition, include in income sick pay benefits received from any of the following payers:
A welfare fund.
A state sickness or disability fund.
An association of employers or employees.
An insurance company, if your employer paid for the plan.
Miscellaneous Compensation
NOTE
: If the taxpayer paid premiums on an accident or health insurance policy, the benefits received under the policy are not taxable.
Slide159A welfare fund.A state sickness or disability fund. An association of employers or employees.
An insurance company, if your employer paid for the plan.
Miscellaneous Compensation
NOTE
: If the taxpayer paid premiums on an accident or health insurance policy, the benefits received under the policy are not taxable.
Slide160Social Security and Medicare Taxes Paid by Employer
If the taxpayer and the employer have an agreement that the employer pays the social security and Medicare taxes without deducting them from the taxpayer's gross wages, report the amount of tax paid as taxable wages on the tax return. The payment also is treated as wages for figuring social security and Medicare taxes and social security and Medicare benefits. However, these payments are not treated as social security and Medicare wages if the taxpayer is a household worker or a farm worker.
Stock Appreciation Rights
Do not include a stock appreciation right granted by an employer in income until the right is exercised. When used, the taxpayer is entitled to a cash payment equal to the fair market value of the corporation's stock on the date of use minus the fair market value on the date the right was granted. Include the cash payment in income in the year the right is used.
Slide161Fringe BenefitsFringe benefits received in connection with the performance of services are included in income as compensation unless the fair market value for them is paid, or they are specifically excluded by law. This section will review fringe benefits and whether or not they should be included in income.
Form W-2
Taxable fringe benefits are reported in box 1 of Form W-2. The total value of fringe benefits also may be noted in box 14. The value of fringe benefits may be added to other compensation on one Form W-2, or the taxpayer may receive a separate Form W-2 showing just the value of the fringe benefits in box 1 with a notation in box 14.
Slide162Accounting PeriodUse the same accounting period the employer uses to report taxable noncash fringe benefits. Employers have the option to report taxable noncash fringe benefits by using either of the following rules.
The general rule, where benefits are reported for a full calendar year.
The special accounting period rule, where benefits provided during the last 2 months of the calendar year (or any shorter period) are treated as paid during the following calendar year.
The employer does not have to use the same accounting period for each fringe benefit, but must use the same period for all employees who receive a particular benefit.
Use the same accounting period used to report the benefit to claim an employee business deduction (for use of a car, for example).
Slide163Accident or Health PlansIn many cases, the value of accident or health plan coverage provided by an employer is not included in income. Benefits received from the plan may be taxable, as explained later (see "Sickness and Injury Benefits").
Long-Term Care Coverage
- Employer contributions to provide coverage for long-term care services generally are not included in income. However, contributions made through a flexible spending or similar arrangement (such as a cafeteria plan) must be included in income. This amount is reported as wages in box 1 of Form W-2.
Archer MSA Contributions
- Employer contributions to an Archer MSA generally are not included in income. The total is reported in box 12 of Form W-2 with code "R". Report this amount on Form 8853, Archer MSAs and Long-Term Care Insurance Contracts. File the form with the
return.
Health
Flexible Spending Arrangement (Health FSA)
- Employer contributions to a health FSA that qualify as an accident or health plan, the amount of the salary reduction, and reimbursements of medical care expenses, in most cases, are not included in income
Slide164Health Reimbursement Arrangement (HRA) - The coverage and reimbursements of medical care expenses from an Employer provided HRA are not generally included in income.
Qualified HSA Distribution
- This distribution is a direct transfer from an HRA or FSA to an HSA trustee by the employer. In most cases, the distribution is not included in income and is not deductible.
Health Savings Accounts (HSA)
- Contributions, other than employer contributions, are deductible on the return whether or not the taxpayer itemizes. Contributions made by the employer are not included in income. Distributions from the HSA that are used to pay qualified medical expenses are not included in income. Distributions not used for qualified medical expenses are included in income.
Qualified HSA Funding Distribution
- A one-time distribution from an individual retirement account (IRA) to an HSA generally does not need to be included in income.
Accident or Health Plans (continued)
Slide165ExamplePat had a one-time distribution of $5,000 from an IRA to her HSA to help cover the cost of knee surgery. In addition, she contributed $50 a week to the HSA. It is not necessary for her to include the $5,000 distribution in income and the $2,600 in HSA contributions are deductible on her return.
Example
Amy's employer contributes $2,500 a year to an HSA. During the year, $2,100 of the savings was used to pay qualified medical expenses toward doctor visits for Amy's 3 month old baby. A distribution of $400 was used for diaper services, an unqualified medical expense. Amy must include the $400 in income and pay a 20% penalty on the unqualified medical expense.
Slide166Adoption Assistance Taxpayers may be able to exclude from income amounts paid or expenses incurred by an employer for qualified adoption expenses in connection with the adoption of an eligible child.
Adoption benefits are reported by the employer in box 12 of Form W-2 with code "T". They are also included as social security and Medicare wages in boxes 3 and 5. However, they are not included as wages in box 1. To determine the taxable and nontaxable amounts, complete Part III of Form 8839, Qualified Adoption Expenses. File the form with the return.
De
Minimis
(Minimal) Benefits
If the employer provides the taxpayer with a product or service and the cost of it is so small that it would be unreasonable for the employer to account for it, the value is not included in income
Slide167Holiday GiftsTaxpayers that receive from their employers a turkey, ham, or other item of nominal value at Christmas or other holidays, should not include the value of the gift as income. However, those that receive cash, a gift certificate, or a similar item that could be exchanged for cash, should include the value of that gift as extra salary or wages regardless of the amount involved.
Educational Assistance
Exclude from income up to $5,250 of qualified employer-provided educational assistance. For more information, see Publication 970, Tax Benefits for Education.
Slide168Group-Term Life Insurance In most cases, the cost of up to $50,000 of group-term life insurance coverage provided by an employer (or former employer) is not included in income. However, you must include in income the cost of employer-provided insurance that is more than the cost of $50,000 of coverage reduced by any amount you pay toward the purchase of the insurance.
There are exceptions to the exclusion, which will be discussed in a moment.
If the employer provided more than $50,000 of coverage, the amount included in income is reported as part of wages in box 1 of Form W-2. Also, it is shown separately in box 12 with code "C".
Slide169Group-Term Life Insurance (continued)
This insurance is provided by an employer to a group of employees for a fixed period of time and provides a general death benefit. Insurance that provides accidental or other death benefits but does not provide general death benefits (travel insurance, for example) is not group-term life insurance
Slide170Permanent benefits - If the group-term life insurance policy includes permanent benefits, such as a paid-up or cash surrender value, include in income as wages the cost of the permanent benefits minus the amount paid for them by the taxpayer.
Former employer
- If a former employer provided more than $50,000 of group-term life insurance coverage during the year, the amount is reported as wages in box 1 of Form W-2 and is shown separately in box 12 with code "C". Box 12 also shows the amount of uncollected social security and Medicare taxes on the excess coverage, with codes "M" and "N". These taxes must be paid. Include them on line 60, Form 1040, and enter "UT" and the amount of the taxes on the dotted line next to line 60. For more information, see the Instructions for Form 1040.
Two or more employers
- The exclusion for employer-provided group-term life insurance coverage cannot exceed the cost of $50,000 of coverage, whether it's provided by a single employer or multiple employers. If two or more employers provide insurance coverage that totals more than $50,000, the amounts reported as wages on Forms W-2 will not be correct. Figure the amount to include in income.
Slide171Group-Term Life Insurance - ExampleBill is 42 years old and works for two employers, both of which provide him group-term life insurance coverage for the entire year. Employer A covers $25,000 and Employer B cover $35,000. Bill pays a premium of $6.00 a month under the employer B group plan.
Use Table 5-1 and Worksheet 5-1 to figure the amount to include in income. Bill must include $60 in income.
Slide172The taxpayer is permanently and totally disabled and has permanently ended employment.The
employer is the beneficiary of the policy for the entire period the insurance is in force during the tax year. A charitable organization to which contributions are deductible is the only beneficiary of the policy for the entire period the insurance is in force during the tax year. The plan existed on January 1, 1984, and the taxpayer retired before January 2, 1984, and was covered by the plan at the time of retirement, or the taxpayer reached age 55 before January 2, 1984 and was employed by the employer or its predecessor in 1983 The taxpayer is permanently and totally disabled and has permanently ended
employment.The
employer is the beneficiary of the policy for the entire period the insurance is in force during the tax year. A charitable organization to which contributions are deductible is the only beneficiary of the policy for the entire period the insurance is in force during the tax year. The plan existed on January 1, 1984, and the taxpayer retired before January 2, 1984, and was covered by the plan at the time of retirement, or the taxpayer reached age 55 before January 2, 1984 and was employed by the employer or its predecessor in 1983
The cost of group-term life insurance is not taxed if any of the following circumstances apply
Slide173The insurance is provided by the employer through a qualified employees' trust, such as a pension trust or a qualified annuity plan.
The qualified retirement plan and qualified retirement planning services provided to the taxpayer (and spouse) are not included in income. Qualified services include retirement planning advice and information about the retirement plan. The value of any tax preparation, accounting, legal, or brokerage services provided by the employer cannot be excluded.
The entire cost of group-term life insurance is taxed if either of the following circumstances apply
Slide174TransportationEmployees provided with a qualified transportation fringe benefit can exclude that benefit from income, up to certain limits. A qualified transportation fringe benefit is transportation in a commuter highway vehicle (such as a van) between the employee's home and work place, a transit pass, qualified parking, or qualified bicycle commuting reimbursement.
Slide175Cash reimbursement by an employer for these expenses under a bona fide reimbursement arrangement also is excludable. However, cash reimbursement for a transit pass is excludable only if a voucher or similar item that can be exchanged only for a transit pass is not readily available for direct distribution to the taxpayer.
The following exclusion limits apply:
.
Slide176The exclusion for commuter vehicle transportation and transit pass fringe benefits cannot be more than $230 a month. The exclusion for the qualified parking fringe benefit cannot be more than $230 a month.
The exclusion for qualified bicycle commuting in a calendar year is $20 multiplied by the number of qualified bicycle commuting months that year.
If the benefits have a value that is more than these limits, the excess must be included in income. Taxpayers are not entitled to these exclusions if the reimbursements are made under a compensation reduction agreement.
Slide177Retirement Plan ContributionsEmployer contributions to employee qualified retirement plans are not included in income at the time contributed. However, the cost of life insurance coverage included in the plan may have to be included (See Fringe Benefits).
Employer contributions to a nonqualified plan generally must be included in income as wages for the tax year in which the contributions are made. However, if interest in the plan is not transferable or is subject to a substantial risk of forfeiture at the time of the contribution, it is not necessary to include the value of interest in income until it is transferable or is no longer subject to a substantial risk of forfeiture.
Slide178Elective Deferrals If covered by certain kinds of retirement plans, taxpayers can choose to have part of the compensation contributed by the employer to a retirement fund, rather than have it paid to the taxpayer. The amount set aside is called an elective deferral, and is treated as an employer contribution to a qualified plan. An elective deferral, other than a designated Roth contribution, is not included in wages subject to income tax at the time contributed. However, it is included in wages subject to social security and Medicare taxes.
Slide179Cash or deferred arrangements (section 401(k) plans). The Thrift Savings Plan for federal employees. Salary reduction simplified employee pension plans (SARSEP).
Savings incentive match plans for employees (SIMPLE plans).
Tax-sheltered annuity plans (403(b) plans).
Section 501(c)(18)(D) plans.
Section 457 plans.
Elective Deferrals (continued)
Elective deferrals include elective contributions to the following retirement plans:
Slide180Elective Deferrals (continued)
Elective deferrals include elective contributions to the following retirement plans:
. Cash or deferred arrangements (section 401(k) plans). The Thrift Savings Plan for federal employees. Salary reduction simplified employee pension plans (SARSEP). Savings incentive match plans for employees (SIMPLE plans). Tax-sheltered annuity plans (403(b) plans). Section 501(c)(18)(D) plans. Section 457 plans
Slide181Overall Limit On DeferralsFor 2011, in most cases, taxpayers should not have deferred more than a total of $16,500 of contributions to the plans listed in (1) through (3) and (5) on the previous page. The limit for SIMPLE plans is $11,500. The limit for section 501(c)(18)(D) plans is the lesser of $7,000 or 25% of the employee's compensation. The limit for section 457 plans is the lesser of the includible compensation or $16,500. Amounts deferred under specific plan limits are part of the overall limit on deferrals
Slide182Designated Roth ContributionsEmployers with section 401(k) and section 403(b) plans can create qualified Roth contribution programs so employees can elect to have part or all of their elective deferrals to the plan designated as after-tax Roth contributions. Designated Roth contributions are treated as elective deferrals, except that they are included in income.
If more than the limit is set aside, the excess generally must be included in income for that year, unless it's an excess deferral of a designated Roth contribution.
Catch-Up Contributions
The taxpayer may be allowed catch-up contributions (additional elective deferrals) if he or she is age 50 or older by the end of the tax year.
Slide183Stock OptionsIf a taxpayer receives a
nonstatutory
option to buy or sell stock or other property as payment for services, they usually will have income when the option is received, exercised (used to buy or sell the stock or other property), or when the option is sold or disposed of.
However, if the option is a statutory stock option, the taxpayer does not have any income until the stock is sold or exchanged.
The employer can tell the taxpayer what kind of option they hold.
Slide184Restricted PropertyIn most cases, when property is received for services, its fair market value must be included in income in the year the property is received. However, if the taxpayer receives stock or other property that has certain restrictions that affects its value, do not include the value of the property in income until it has substantially vested. The taxpayer can choose to include the value of the property in income the year it is transferred.
Dividends Received On Restricted Stock
Dividends received on restricted stock are treated as compensation and not as dividend income. These payments should be included on Form W-2.
Stock Included as Income by Choice
Dividends received on restricted stock and included in income in the year transferred are treated the same as any other dividends. Report them on the return as dividends.
For more information on this topic, view the
Interest and Dividend Income
study guide.
Slide185Special Rules for Certain Employees
The following section reviews the special rules for people in certain types of employment.
Clergy
Members of clergy must include in income offerings and fees received for marriages, baptisms, funerals, masses, etc., in addition to salary. If the offering is made to the religious institution, it is not taxable to the taxpayer.
Members of clergy that give their outside earnings to the organization still must include the earnings in income. However, they may be entitled to a charitable contribution deduction for the amount paid to the organization.
Pension or retirement pay for a member of the clergy usually is treated as any other pension or annuity. It must be reported on lines 16a and 16b of Form 1040.
Slide186Special rules for housing apply to members of the clergy. Under these rules, do not include in income the rental value of a home (including utilities) or a designated housing allowance provided as part of pay.
The exclusion cannot be more than the reasonable pay for service.
The home or allowance must be provided as compensation for your services as an ordained, licensed, or commissioned minister.
The rental value of the home or the housing allowance as earnings from self-employment on Schedule SE (Form 1040) if you are subject to the self-employment tax.
Slide187ExampleRev. Joanna Baker is a full-time minister. The church allows her to use a parsonage that has an annual fair rental value of $24,000. The church pays her an annual salary of $67,000, of which $7,500 is designated for utility costs. Her actual utility costs during the year were $7,000.
For income tax purposes, Rev. Baker excludes $31,000 from gross income ($24,000 fair rental value of the parsonage plus $7,000 from the allowance for utility costs). She will report $60,000 ($59,500 salary plus $500 of unused utility allowance). Her income for SE tax purposes, however, is $91,000 ($67,000 salary + $24,000 fair rental value of the parsonage).
Slide188Services performed for the order - If performing the services as an agent of the order in the exercise of duties required by the order, do not include the amounts turned over to the order in income. If the order directs the member to perform services for another agency of the supervising church or an associated institution, the member is considered to be performing the services as an agent of the order. Any wages earned as an agent of an order that is turned over to the order are not included in income.
Services performed outside the order
- If directed to work outside the order, services are not an exercise of duties required by the order unless they are the kind of services that are ordinarily the duties of members of the order and they are part of the duties that must be exercised for, or on behalf of, the religious order as its agent.
If employed by a third party, the services performed for the third party will not be considered directed or required by the order. Amounts received for these services are included in income, even if the member has taken a vow of poverty.
Members of Religious Orders
A member of a religious order who has taken a vow of poverty will treat the earnings renounced and turned over based on whether their services are performed for the order
Slide189Foreign EmployerSpecial rules apply for taxpayers that work for a foreign employer.
Any U.S. citizen who works in the United States for a foreign government, an international organization, a foreign embassy, or any foreign employer, must include their salary in income.
Taxpayers are exempt from social security and Medicare employee taxes if employed in the United States by an international organization or a foreign government. However, self-employment tax on earnings from services performed in the United States must be paid, even though the taxpayer is not self-employed. This rule also applies to employees of a qualifying wholly owned instrumentality of a foreign government.
Slide190Compensation for official services to a foreign government is exempt from federal income tax if all of the following are true
:
The taxpayer is not a citizen of the United States or is a citizen of the Philippines (regardless of whether or not they are a US citizen).
The work is like the work done by employees of the United States in foreign countries.
The foreign government gives an equal exemption to employees of the United States in its country.
Employees of International Organizations or Foreign Governments
Compensation for official services to an international organization is exempt from federal income tax if the taxpayer is not a citizen of the United States or if they are a citizen of the Philippines (regardless of whether or not they are a US citizen).
Slide191MilitaryPayments received as a member of a military service generally are taxed as wages except for retirement pay, which is taxed as a pension. Allowances generally are not taxed.
Differential wage payments
- Any payments made by an employer during the time a taxpayer is performing services in the uniformed services are treated as compensation. These wages are subject to income tax withholding and are reported on Form W-2.
Military retirement pay
- If the retirement pay is based on age or length of service, it is taxable and must be included in income as a pension on lines 16a and 16b of Form 1040. Do not include in income the amount of any reduction in retirement or retainer pay to provide a survivor annuity for a spouse or children under the Retired Serviceman's Family Protection Plan or the Survivor Benefit Plan.
Veterans' benefits
- Do not include in income any veterans' benefits paid under any law, regulation, or administrative practice administered by the Department of Veterans Affairs (VA).
Click to view a list of amounts paid to veterans or their families that are not taxable
Slide192Volunteers
Amounts received for services as a volunteer worker, may or may not be taxed.
Peace Corps
- Living allowances received for housing, utilities, household supplies, food, and clothing are exempt from tax for Peace Corps volunteers or volunteer leaders.
The following allowances must be included in income and reported as wages
Slide193Allowances paid to the volunteer's spouse and minor children while in volunteer leader training in the United States. Living allowances designated by the Director of the Peace Corps as basic compensation. These are allowances for personal items such as domestic help, laundry and clothing maintenance, entertainment and recreation, transportation, and other miscellaneous expenses. Leave allowances. Readjustment allowances or termination payments. These are considered received by the volunteer when credited to their account
Slide194Volunteers in Service to America (VISTA) - VISTA volunteers must include meal and lodging allowances paid in income as wages.
National Senior Services Corps programs
- Do not include in income amounts received for supportive services or reimbursements for out-of-pocket expenses from the following programs:
Slide195Retired Senior Volunteer Program (RSVP). Foster Grandparent Program. Senior Companion Program.
Service Corps of Retired Executives (SCORE)
- Amounts received for supportive services or reimbursements for out-of-pocket expenses from SCORE are not included in income.
Volunteer tax counseling
- Do not include in income any reimbursements received for transportation, meals, and other expenses incurred for training for, or actually providing, volunteer federal income tax counseling for the elderly (TCE).
Unreimbursed out-of-pocket expenses incurred while taking part in the volunteer income tax assistance (VITA) program can be deducted as charitable expenses.
Slide196ExampleEllie, a Peace Corps volunteer, gets $180 a month as a readjustment allowance during her period of service, to be paid to her in a lump sum at the end of her tour of duty. Although the allowance is not available to Ellie until the end of her service, she must include it in her income on a monthly basis as it is credited to her account.
Example
Emily works as a volunteer tax counselor for the local Retired Adult Services annex and was reimbursed for the mileage incurred going to and from training classes being offered by the VITA program at the county community college. Emily isn't required to report the reimbursements as income and can include any additional unreimbursed expenses incurred as a charitable expense.
Slide197Sickness and Injury BenefitsThis section reviews the taxability of sickness and injury benefits including disability pensions, long-term care insurance contracts, workers' compensation, and other benefits.
In most cases, report as income any amount received for personal injury or sickness through an accident or health plan that is paid for by the employer. If both the taxpayer and the employer pay for the plan, only the amount received due to the employer's payments is reported as income. There are certain payments that may not be taxable to the taxpayer. For example, amounts paid to reimburse the taxpayer for medical expenses incurred after the plan was established are not reported as income.
Cost paid by the taxpayer
- If the taxpayer pays the entire cost of a health or accident insurance plan, do not include any amounts received from the plan for personal injury or sickness as income on the tax return. If the plan reimburses the taxpayer for medical expenses deducted in an earlier year, some, or all, of the reimbursement may need to be reported as income.
Cafeteria plans
- In most cases, if the taxpayer is covered by an accident or health insurance plan through a cafeteria plan, and the amount of the insurance premiums are not included in their income, they are not considered to have paid the premiums and must include any benefits received in their income. If the amount of the premiums is included in income, the taxpayer is considered to have paid the premiums, and any benefits received are not taxable.
Slide198Disability PensionsTaxpayers who retire early on disability must include in income any disability pension received under a plan paid for by their employer.
Until the taxpayer reaches the minimum retirement age, taxable disability payments are reported as wages on line 7 of Form 1040. Minimum retirement age generally is the age at which a non-disabled taxpayer first receives a pension or annuity.
Beginning on the day after the taxpayer reaches minimum retirement age, payments received are taxable as a pension or annuity on lines 16a and 16b of Form 1040.
Retirement and profit-sharing plans
- Payments received from a retirement or profit-sharing plan that do not provide for disability retirement are not treated as a disability pension. The payments must be reported as a pension or annuity.
Accrued leave payments
- For taxpayers that retire on disability, any lump-sum payment received for accruing annual leave, is a salary payment. The payment is not a disability payment and must be included as income the year it is received.
Slide199Military and Government Disability PensionsCertain military and government disability pensions are not taxable.
Service-connected disability
The taxpayer may be able to exclude from income amounts received as a pension, annuity, or similar allowance for personal injury or sickness resulting from active service in one of the following government services:
Slide200The armed forces of any countryThe National Oceanic and Atmospheric Administration. The Public Health Service.
The Foreign Service.
Slide201Do not include the disability payments in income if any of the following conditions apply.
Taxpayer was entitled to receive a disability payment before September 25, 1975.
Taxpayer was a member of a listed government service or its reserve component, or was under a binding written commitment to become a member, on September 24, 1975.
Taxpayer received the benefits for a combat-related injury.
Taxpayer would have been entitled to receive disability compensation from the Department of Veterans Affairs (VA) if an application was submitted. The exclusion under this condition is equal to the amount that would have been received from the VA.
Pension based on years of service
- If a taxpayer receives a disability pension based on years of service, in most cases it must be included in income. However, if the pension qualifies for the exclusion for a service-connected disability (discussed earlier), do not include in income the part of the pension that would have been received if the pension had been based on a percentage of disability. Include the rest of the pension in income.
Slide202Retroactive VA determination - If a taxpayer retires from the armed services based on years of service and is later given a retroactive service-connected disability rating by the VA, the retirement pay for the retroactive period is excluded from income up to the amount of VA disability benefits they would have been entitled to receive. Claim a refund of any tax paid on the excludable amount (subject to the statute of limitations) by filing an amended return on Form 1040X for each previous year during the retroactive period. You must include with each Form 1040X a copy of the official VA Determination letter granting the retroactive benefit. The letter must show the amount withheld and the effective date of the benefit.
NOTE
: In most cases, under the statute of limitations, a claim for credit or refund must be filed within 3 years from the time a return was filed. However, for taxpayers that receive a retroactive service-connected disability rating determination, the statute of limitations is extended by a 1-year period beginning on the date of the determination.
Terrorist attack or military action
- Do not include in income disability payments received for injuries resulting directly from a terrorist or military action.
Slide203Long-Term Care Insurance ContractsLong-term care insurance contracts in most cases are treated as accident and health insurance contracts. Amounts received from them (other than policyholder dividends or premium refunds), in most cases, are excludable from income as amounts received for personal injury or sickness.
Generally, up to $300 a day can be excluded from income.
A long-term care insurance contract is an insurance contract that only provides coverage for qualified long-term care services. The contract must:
Be guaranteed renewable,
Not provide for a cash surrender value or other money that can be paid, assigned, pledged, or borrowed,
Provide that refunds, other than refunds on the death of the insured or complete surrender or cancellation of the contract, and dividends under the contract may be used only to reduce future premiums or increase future benefits, and
In most cases, not pay or reimburse expenses incurred for services or items that would be reimbursed under Medicare, except where Medicare is a secondary payer or the contract makes per diem or other periodic payments without regard to expenses.
Slide204Necessary diagnostic, preventative, therapeutic, curing, treating, mitigating, and rehabilitative services, and maintenance and personal care services, and Required by a chronically ill individual and provided pursuant to a plan of care as prescribed by a licensed health care practitioner.
Qualified long-term care services are:
Slide205Chronically Ill IndividualsA chronically ill individual is one who has been certified by a licensed health care practitioner within the previous 12 months as one of the following:
An individual who, for at least 90 days, is unable to perform at least two activities of daily living without substantial assistance due to loss of functional capacity. Activities of daily living are eating, toileting, transferring, bathing, dressing, and continence.
An individual who requires substantial supervision to be protected from threats to health and safety due to severe cognitive impairment
Slide206Workers' CompensationAmounts received as workers' compensation for an occupational sickness or injury are fully exempt from tax if they are paid under a workers' compensation act or a statute in the nature of a workers' compensation act. The exemption also applies to the taxpayer's survivors. The exemption, however, does not apply to retirement plan benefits received based on age, length of service, or prior contributions to the plan, even if the taxpayer retired because of an occupational sickness or injury.
If the taxpayer returns to work after qualifying for workers' compensation, salary payments received for performing light duties are taxable as wages.
NOTE
: If part of the workers' compensation reduces social security or equivalent railroad retirement benefits received, that part is considered social security (or equivalent railroad retirement) benefits and may be taxable.
Slide207Other Sickness and Injury BenefitsIn addition to disability pensions and annuities, taxpayers may receive other payments for sickness or injury.
Railroad sick pay
Payments received as sick pay under the Railroad Unemployment Insurance Act are taxable and must be included in income. However, do not include them in income if they are for an on-the-job injury.
Federal Employees' Compensation Act (FECA)
Payments received under this Act for personal injury or sickness, including payments to beneficiaries in case of death, are not taxable. However, taxpayers are taxed on amounts received under this Act as continuation of pay for up to 45 days while a claim is being decided. Report this income on line 7 of Form 1040. Also, pay for sick leave while a claim is being processed is taxable and must be included in income as wages.
NOTE
: If part of the payments received under FECA reduces the social security or equivalent railroad retirement benefits received, that part is considered social security (or equivalent railroad retirement) benefits and may be taxable.
Slide208Federal Employees' Compensation Act (FECA) (continued)
Deduct the amount spent to buy back sick leave for an earlier year to be eligible for nontaxable FECA benefits for that period. It is a miscellaneous deduction subject to the 2%-of-AGI limit on Schedule A (Form 1040). If sick leave is bought back in the same year it is used, the amount reduces the taxable sick leave pay. Do not deduct it separately.
Slide209Compensatory damages received for physical injury or physical sickness, whether paid in a lump sum or in periodic payments. Benefits received under an accident or health insurance policy on which either the taxpayer paid the premiums or the employer paid the premiums but they still had to be included in income.
Disability benefits received for loss of income or earning capacity as a result of injuries under a no-fault car insurance policy.
Compensation received for permanent loss or loss of use of a part or function of the body, or for permanent disfigurement. This compensation must be based only on the injury and not on the period of absence from work. These benefits are not taxable even if the employer pays for the accident and health plan that provides these benefits.
Reimbursement for Medical Care
A reimbursement for medical care is generally not taxable. However, it may reduce the medical expense deduction.
Other Compensation
Many other amounts received as compensation for sickness or injury are not taxable. These include the following amounts
Slide210Tip IncomeAll tips received are income and are subject to federal income tax. Include in gross income all tips received directly, charged tips paid by the employer, and the share of any tips received under a tip-splitting or tip-pooling arrangement. The value of noncash tips, such as tickets, passes, or other items of value, is also income and subject to tax.
Keeping a Daily Tip Record
It is recommended that taxpayers who receive tips should keep a daily record. If using an electronic system provided by the employer to record daily tips, taxpayers should get a paper copy of this record.
Recording tips ensures the taxpayer can accurately report tips to the employer, accurately report tips on their tax return, and prove their tip income if the return is ever questioned.
Slide211Cash tips from customers or from other employees. Tips from credit and debit card charge customers that were paid to the taxpayer by the employer.
The value of any noncash tips received, such as tickets, passes, or other items of value.
The amount of tips paid out to other employees through tip pools or tip splitting, or other arrangements, and the names of the employees to whom the tips were paid.
NOTE:
When keeping track of tip income, taxpayers should not include the amount of any service charge added to the bill by the employer that is paid to the taxpayer and treated as wages.
Employers can withhold federal income tax and social security and Medicare taxes or railroad retirement tax, and can also report the correct amount of earnings to the Social Security Administration or Railroad Retirement Board.
Keeping a Daily Tip Record (continued)
The taxpayer should use the record to track the following on a daily basis:
Slide212Tips Reported to the Employer
Taxpayers can use Form 4070 to report tips if the employer doesn't provide a different method of reporting. Tip reports must be submitted to employers by the 10th of the next month (or the next day that is not a Saturday, Sunday, or legal holiday).
Taxpayers should follow these guidelines for reporting tips to employers
Slide213Only report cash, check, and debit and credit card tips received. For tip-splitting or tip-pooling arrangements, only report the tips received and retained.
All tips received from other employees must be reported.
It's not necessary to report the value of any noncash tips, tickets or passes, to the employer.
If the total tips for any one month from any one job are less than $20, the tips do not need to be reported.
Slide214Penalty for not reporting tips - Taxpayers who do not report tips are subject to a penalty equal to 50% of the social security and Medicare taxes or railroad retirement tax owed on the unreported tips. The penalty amount is in addition to taxes owed.
Unpaid taxes
- If the taxpayer's regular pay is not enough for the employer to withhold all the taxes owed on the pay or the reported tips, taxpayers have until the close of the calendar year to pay the rest of the taxes.
Slide215Reporting Tips on the Tax ReturnTips are reported as wages on Form 1040, line 7; Form 1040A, line 7; or Form 1040EZ, line 1.
All tips received during the year must be reported on the tax return, including both cash tips and noncash tips. Tips reported to the employer by the taxpayer for 2011 are included in the wages shown in box 1 of Form W-2. Add to the amount in box 1 any tips not reported to the employer.
Reporting Uncollected Social Security and Medicare Taxes
If the employer could not collect all the social security and Medicare taxes or railroad retirement tax owed on tips reported for 2011, the uncollected taxes are shown in box 12 of Form W-2 (codes "A" and "B"). These amounts must be reported as additional tax on the return.
To report these uncollected taxes, file a return even if the taxpayer would not have to otherwise file. Include the taxes in the total tax amount on Form 1040, line 60, and write "UT" and the total of the uncollected taxes in the space next to line 60. A Form 1040EZ or Form 1040A cannot be filed in this case.
Slide216In most cases, interest and dividend income is taxable; however there are exclusions you need to be aware of. This Study Guide reviews the taxability of interest and dividend income, including when and how to report it on the tax return. Income from interest and dividends are reported on lines 8a, 8b and 9a and 9b of the 1040.
Interest and Dividend Income
Slide217Slide218Allocated Tips
Allocated tips are shown separately in box 8 of Form W-2. They are not included in box 1 with wages and reported tips.
All allocated tips must be reported on the tax return, including both cash and non-cash tips. Any tips the taxpayer reported to the employer are included in box 1 of the W-2. Any unreported tips, plus allocated tips from box 8, must be added to wages on Form 1040, line 7.
No income, social security, or Medicare taxes are withheld on allocated tips. Complete Form 4137 and include the allocated tips on line 1 of the form.
Slide219ExampleJohn Allen began working at the Diamond Restaurant on June 30 and received $10,000 in wages during the year. John kept a daily tip record showing that his tips for June were $18 and his tips for the rest of the year totaled $7,000. He was not required to report his June tips to his employer, but he reported all of the rest of his tips to his employer as required.
John's Form W-2 from Diamond Restaurant shows $17,000 ($10,000 wages plus $7,000 reported tips) in box 1. Add the $18 of unreported tips to that amount and report $17,018 as wages on his tax return
Slide220In most cases, interest and dividend income is taxable; however there are exclusions you need to be aware of. This Study Guide reviews the taxability of interest and dividend income, including when and how to report it on the tax return. Income from interest and dividends are reported on lines 8a, 8b and 9a and 9b of the 1040.
Slide221In most cases, interest and dividend income is taxable; however there are exclusions you need to be aware of. This Study Guide reviews the taxability of interest and dividend income, including when and how to report it on the tax return. Income from interest and dividends are reported on lines 8a, 8b and 9a and 9b of the 1040.
Interest and Dividend Income
Slide222Interest IncomeIn general, the interest that is received or is credited to an account is taxable. There are exceptions, which will be discussed throughout this study guide.
In addition to any forms showing the amount of interest income received, taxpayers should keep a record of all sources of interest and amounts received during the year.
Interest income is generally not subject to regular withholding. However, it may be subject to backup withholding to ensure that income tax is collected on the income. Under backup withholding, the payer of the interest must withhold, as income tax, 28% of the amount paid.
Slide223Form 1099-INTInterest income is generally reported on Form 1099-INT, or a similar statement, by banks, savings and loans, and other payers of interest. This form shows the amount of interest received during the year.
If backup withholding is deducted from interest, Form 1099-INT shows the amount withheld as "Federal income tax withheld."
All taxable interest income must be reported, even if the taxpayer didn't receive a 1099-INT.
Form 1099-OID
Reportable interest income also may be shown on Form 1099-OID, Original Issue Discount.
Slide224General Information
The following general rules apply when dealing with interest income.
Joint accounts
- If two or more persons hold property (such as a savings account or bond) as joint tenants, tenants by the entirety, or tenants in common, each person's share of any interest from the property is determined by local law.
Individual retirement arrangements (IRAs)
- Interest on a Roth IRA generally is not taxable. Interest on a traditional IRA is taxed deferred and generally not included in income until withdrawals are made from the IRA.
Beneficiary of an estate or trust
- Interest received as a beneficiary of an estate or trust is generally taxable income. The taxpayer should receive Schedule K-1 (Form 1041), Beneficiary's Share of Income, Deductions, Credits, etc., from the fiduciary.
Slide225General Information (continued)
Exempt-interest dividends
- Exempt-interest dividends received from a mutual fund or other regulated investment company are not included in taxable income. Basis is not reduced for distributions that are exempt-interest dividends. Exempt-interest dividends are shown in box 8 of Form 1099-INT.
Although exempt-interest dividends are not taxable, they must be reported if the taxpayer is required to file. This is an information-reporting requirement and does not change the exempt-interest dividends into taxable income.
Interest on VA dividends
- Interest on insurance dividends left on deposit with the Department of Veterans Affairs (VA) is not taxable. This includes interest paid on dividends on converted United States Government Life Insurance and on National Service Life Insurance policies.
Slide226Tax on investment income of certain children - Part of a child's 2011 investment income may be taxed at the parent's tax rate. If so,
Form 8615, Tax for Certain Children Who Have Investment Income of More Than $1,900
, must be completed and attached to the child's tax return.
Some parents can choose to include the child's interest and dividends on the parent's return. Use
Form 8814, Parents' Election to Report Child's Interest and Dividends
, for this purpose.
Income from property given to a child
- Property given by a parent to a child becomes property of the child. Income from the property is taxable to the child, except for any portion of it used to satisfy a legal obligation to support the child is taxable to the parent or guardian having that legal obligation.
Savings account with parent as trustee
- Interest income from a savings account opened for a minor child, but placed in the name and subject to the order of the parents as trustees, is taxable to the child if, under the law of the state in which the child resides, the savings account legally belongs to the child and the parents are not legally permitted to use any of the funds to support the child.
Slide227Tax on investment income of certain children - Part of a child's 2011 investment income may be taxed at the parent's tax rate. If so,
Form 8615, Tax for Certain Children Who Have Investment Income of More Than $1,900
, must be completed and attached to the child's tax return.
Some parents can choose to include the child's interest and dividends on the parent's return. Use
Form 8814, Parents' Election to Report Child's Interest and Dividends
, for this purpose.
Income from property given to a child
- Property given by a parent to a child becomes property of the child. Income from the property is taxable to the child, except for any portion of it used to satisfy a legal obligation to support the child is taxable to the parent or guardian having that legal obligation.
Savings account with parent as trustee
- Interest income from a savings account opened for a minor child, but placed in the name and subject to the order of the parents as trustees, is taxable to the child if, under the law of the state in which the child resides, the savings account legally belongs to the child and the parents are not legally permitted to use any of the funds to support the child.
Slide228Money Market Funds
Money market funds pay dividends and are offered by nonbank financial institutions, such as mutual funds and stock brokerage houses. Generally, amounts received from money market funds should be reported as dividends, not as interest.
Gift for Opening an Account
Report as interest the value of non-cash gifts or services received for making deposits or for opening an account in a savings institution.
For deposits of less than $5,000, gifts or services valued at more than $10 must be reported as interest. For deposits of $5,000 or more, gifts or services valued at more than $20 must be reported as interest. The value is determined by the cost to the financial institution.
Example
Mary and her husband, John, each open a savings account. Mary deposits $2,500 and receives a pen valued at $15. John deposits $5,200 and receives a pen and leather bound notebook valued at $35. Both Mary and John must report the value of the gifts as interest
Slide229Interest is usually paid at fixed intervals of 1 year or less during the term of the account. Include this interest in income when it's received or when the interest is entitled to be received without receiving a substantial penalty. The same is true for accounts that mature in 1 year or less and pay interest in a single payment at maturity. If interest is deferred for more than 1 year, see
Original Issue Discount (OID)
, later.
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If penalized for early withdrawal, report the total amount of interest paid or credited to the account during the year, without subtracting the penalty.
If money is borrowed to invest in a certificate of deposit, report the total interest earned on the certificate in income. If the taxpayer itemizes, they can deduct the interest paid as investment interest, up to the amount of the net investment income
Slide230Amy deposited $3,000 with a bank and borrowed $2,000 from the bank so she could purchase a $5,000 certificate of deposit. The certificate earned $325 at maturity in 2011, but Amy received only $214, which represented the $325 she earned minus $111 interest charged on the $2,000 loan. Amy received a 1099-INT from the bank showing the $325 earned for the certificate of deposit and another statement showing the $111 paid in interest for the loan. Amy must include $325 in income, and can deduct the $111 if she itemizes on her return.
Slide231Interest on insurance dividends left on deposit with an insurance company that can be withdrawn annually is taxable in the year it's credited to the taxpayer's account. However, if withdrawals are only allowed on the anniversary date of the policy (or other specified date), the interest is taxable in the year that date occurs.
Prepaid Insurance Premiums
Any increase in the value of prepaid insurance premiums, advance premiums, or premium deposit funds is interest if it is applied to the payment of premiums due on insurance policies or made available for withdrawal.
U.S. Obligations
Interest on U.S. obligations, such as U.S. Treasury bills, notes, and bonds, issued by any agency or instrumentality of the United States is taxable for federal income tax purposes.
Slide232Interest on Tax Refunds
Interest received on tax refunds is taxable income.
Interest on Condemnation Award
If the condemning authority pays interest to compensate for a delay in payment of an award, the interest is taxable.
Installment Sale Payments
If a contract for the sale or exchange of property provides for deferred payments, it also usually provides for interest payable with the deferred payments. That interest is taxable when it's received. If little or no interest is provided for in a deferred payment contract, part of each payment may be treated as interest.
Slide233Interest on Annuity Contracts
Accumulated interest on annuity contracts sold before maturity is taxable.
Usurious Interest
Usurious interest is interest charged at an illegal rate. This is taxable as interest unless state law automatically changes it to a payment on the principal.
Interest Income on Frozen Deposits
Exclude from gross income interest on frozen deposits. A deposit is frozen if, at the end of the year, no parts of the deposit can be withdrawn because the financial institution is bankrupt or insolvent, or the state where the institution is located has placed limits on withdrawals because other financial institutions in the state are bankrupt or insolvent.
Slide234Interest on Annuity Contracts
Accumulated interest on annuity contracts sold before maturity is taxable.
Usurious Interest
Usurious interest is interest charged at an illegal rate. This is taxable as interest unless state law automatically changes it to a payment on the principal.
Interest Income on Frozen Deposits
Exclude from gross income interest on frozen deposits. A deposit is frozen if, at the end of the year, no parts of the deposit can be withdrawn because the financial institution is bankrupt or insolvent, or the state where the institution is located has placed limits on withdrawals because other financial institutions in the state are bankrupt or insolvent.
Slide235Bonds Traded Flat
If the taxpayer bought a bond at a discount when interest has been defaulted or when the interest has accrued but has not been paid, the transaction is described as trading a bond flat.
The defaulted or unpaid interest is not income and is not taxable as interest if paid later. When a payment of that interest is received, it is a return of capital that reduces the remaining cost basis of the bond. Interest that accrues after the date of purchase, however, is taxable interest income for the year it is received or accrued.
Below-Market Loans
In general, a below-market loan is a loan on which no interest is charged or on which interest is charged at a rate below the applicable federal rate.
Slide236US Savings Bonds
This section discusses how to report savings bonds interest income and how to treat savings bonds transfers.
When is the interest reported for US Savings Bonds?
If using the accrual method of accounting, interest must be reported for U.S. savings bonds each year as it accrues. You cannot postpone reporting interest until it's received or until the bonds mature. If using the cash method of accounting (as most individual taxpayers do), U.S. savings bond interest is generally reported when it's received.
Series HH Bonds
Series HH Bonds were issued at face value. Interest is paid twice a year by direct deposit to the taxpayer's bank account. If using the cash method, report interest on these bonds as income on the taxpayer's return the year it was received.
These bonds were first offered in 1980 and last offered in August 2004. Before 1980, series H bonds were issued. Series H bonds are treated the same as series HH bonds. Series H bonds have a maturity period of 30 years. Series HH bonds mature in 20 years. The last series H bonds matured in 2009
Slide237Series EE and Series I Bonds
Interest on these bonds is payable when the bonds are redeemed. The difference between the purchase price and the redemption value is taxable interest.
Series EE Bonds
- Series EE bonds were first offered in January 1980 and have a maturity period of 30 years.
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Series E bonds were issued before July 1980. The original 10-year maturity period of series E bonds has been extended to 40 years for bonds issued before December 1965 and 30 years for bonds issued after November 1965.
Paper series EE and series E bonds are issued at a discount. The face value is payable at maturity.
Electronic series EE bonds are issued at their face value. The face value plus accrued interest is payable at maturity.
Slide238Series EE and Series I Bonds
Interest on these bonds is payable when the bonds are redeemed. The difference between the purchase price and the redemption value is taxable interest.
Series EE Bonds
- Series EE bonds were first offered in January 1980 and have a maturity period of 30 years.
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Series E bonds were issued before July 1980. The original 10-year maturity period of series E bonds has been extended to 40 years for bonds issued before December 1965 and 30 years for bonds issued after November 1965.
Paper series EE and series E bonds are issued at a discount. The face value is payable at maturity.
Electronic series EE bonds are issued at their face value. The face value plus accrued interest is payable at maturity.
Slide239Owners of paper series E and EE bonds can convert them to electronic bonds. These converted bonds do not retain the denomination listed on the paper certificate but are posted at their purchase price (with accrued interest).
Series I bonds
- Series I bonds were first offered in 1998. These are inflation-indexed bonds issued at their face amount with a maturity period of 30 years. The face value plus all accrued interest is payable at maturity.
Reporting options for cash method taxpayers (Series EE and Series I)
If you use the cash method of reporting income, report the interest on series EE, series E, and series I bonds using one of the two methods described next
Slide240Method 1 - Postpone reporting the interest until whichever is earlier - the year the bond is cashed or disposed or, the year they mature.
NOTE
: Series EE bonds issued in 1981 matured in 2011. If method 1 has been used, the taxpayer generally must report the interest on these bonds on the 2011 return. The last series E bonds were issued in 1980 and matured in 2010. If using method one, generally the interest should have been reported on the 2010 return.
Method 2
- Choose to report the increase in redemption value as interest each year.
Choose the same reporting method for all series EE, series E, and series I bonds being reported for the taxpayer. If method 2 is not chosen, method 1 must be used
Slide241Example
Barbara owns a $500 U.S. Series EE savings bond. She paid $250 for the bond. When the bond matures, Barbara will receive $500. At the end of the first year, the bond is worth $265.
Barbara can report interest income in one of two ways. She can:
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Report $250 of interest income only once when the bond matures
This is the difference between the $500 value at maturity and the $250 she paid for the bond; or
Report $15 of interest income at the end of the first year
This is the increase in value at the end of the year ($265 minus $250). Barbara would report interest income each year until maturity.
Slide242Change from method 1 - If changing the method of reporting the interest from method 1 to method 2, it is not necessary to get permission from the IRS. In the year of change, report all interest accrued to date and not previously reported for all the bonds.
Once the method has changed to where the interest is reported each year, all series EE, series E, and series I bonds must be reported this way on all future returns, unless permission is requested to change (explained next).
Change from method 2
- To change from method 2 to method 1, permission must be granted from the IRS. Permission is granted by either filing
Form 3115, Application for Change in Accounting Method
or by submitting a statement to the IRS.
Slide243Change from Method 2 (continued)
If submitting a statement, it must include the following criteria: "131" typed or printed at the top, taxpayer's name and SSN is located under the "131", it includes the year of change (both the beginning and ending dates), and it identifies the savings bonds for which the change is being requested.
The taxpayer must also agree to (a) report all interest on any bonds acquired during or after the year of change when the interest is realized upon disposition, redemption, or final maturity, whichever is earliest, and (b) report all interest on the bonds acquired before the year of change when the interest is realized upon disposition, redemption, or final maturity, whichever is earliest, with the exception of the interest reported in prior tax years.
The statement must be attached to the tax return for the year of change, and the return must be filed by the due date. If necessary, an amended return can be filed.
Slide244Co-Owners - Who Pays the Taxes?
If a U.S. savings bond is issued in the names of co-owners, such as the taxpayer, the child, or the taxpayer and spouse, interest on the bond is generally taxable to the co-owner who bought the bond.
One co-owner's funds used
- If funds are used to purchase the bond, taxes must be paid on the interest. This is true even if the taxpayer let the other co-owner redeem the bond and keep all the proceeds. Under these circumstances, the co-owner who redeemed the bond will receive a Form 1099-INT at the time of redemption and must provide the other co-owner with another Form 1099-INT showing the amount of interest from the bond taxable to them.
Both co-owners' funds used
- If each co-owner contributes part of the bond's purchase price, the interest is generally taxable to each co-owner, in proportion to the amount each paid.
Community property
- If the taxpayer and spouse live in a community property state and hold bonds as community property, one-half of the interest is considered received by each of them. If filing separate returns, each taxpayer generally must report one-half of the bond interest
Slide245Ownership Transferred
If the taxpayer bought series E, series EE, or series I bonds entirely with their own funds and had them reissued in a co-owner's name or beneficiary's name alone, include in gross income for the year of reissue all interest earned on these bonds not previously reported. But, if the bonds were reissued in the taxpayer's name alone, the interest accrued does not have to be reported at that time. This same rule applies when bonds (other than bonds held as community property) are transferred between spouses or incident to divorce.
Purchased jointly
- If the co-owners contributed funds to buy series E, series EE, or series I bonds jointly and later had the bonds reissued in one co-owner's name alone, you must include in gross income for the year of reissue the share earned on the bonds not previously reported.
The former co-owner does not have to include in gross income at the time of reissue his or her share of the interest earned that was not reported before the transfer. This interest, however, as well as all interest earned after the reissue, is income to the former co-owner.
Slide246This income-reporting rule also applies when the bonds are reissued in the name a former co-owner and a new co-owner. In this scenario, the new co-owner reports his or her share of the interest earned after the transfer. If bonds that you and a co-owner bought jointly are reissued to each of you separately in the same proportion as your contribution to the purchase price, neither you nor your co-owner has to report at that time the interest earned before the bonds were reissued.
Transfer to a Trust
Taxpayers that own series E, series EE, or series I bonds and transfer them to a trust, giving up all rights of ownership, must include in income for that year the interest earned to the date of transfer if it's not already been reported. However, if considered the owner of the trust and if the increase in value both before and after the transfer continues to be taxable to the taxpayer, the reporting of interest earned each year can be deferred. In this case, include the total interest in income in the year the taxpayer cashes or disposes of the bonds or the year the bonds finally mature, whichever is earlier.
Slide247Example
A taxpayer and spouse spent an equal amount to buy a $1,000 series EE savings bond as co-owners. They both postpone reporting interest on the bond. Later, they have the bond reissued as two $500 bonds, one in each of their names. At that time, neither the taxpayer nor the spouse has to report the interest earned to the date of reissue.
Example
The taxpayer bought a $1,000 series EE savings bond entirely with her own funds. The bond was issued to the taxpayer and spouse as co-owners. They both postpone reporting interest on the bond. Later, the bond is reissued as two $500 bonds, one in each of their names. Report half the interest earned to the date of reissue.
Slide248Decedents
The manner of reporting interest income on series E, series EE, or series I bonds, after the death of the owner, depends on the accounting and income-reporting methods previously used by the decedent.
Savings Bonds Traded
If the taxpayer postponed reporting the interest on the series EE or series E bonds, her or she did not recognize taxable income when trading the bonds for series HH or series H bonds, unless the taxpayer received cash in the trade. Any cash received is income up to the amount of the interest earned on the bonds traded. When the series HH or series H bonds mature, or if you dispose of them before maturity, you report as interest the difference between their redemption value and the cost. The cost is the sum of the amount paid for the traded series EE or series E bonds plus any amount paid at the time of the trade
Slide249Form 1099-INT for U.S. Savings Bonds Interest
When a bond is cashed, the bank or other payer that redeems it must provide the taxpayer Form 1099-INT if the interest part of the payment received is $10 or more. Box 3 of Form 1099-INT should show the interest as the difference between the amounts received and the amount paid for the bond. However, Form 1099-INT may show more interest than what has to be included on the income tax return.
Slide250Form 1099-INT for U.S. Savings Bonds Interest (continued)
Examples of when there can be more interest on the 1099-INT than what needs to be reported include:
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The taxpayer chose to report the increase in the redemption value of the bond each year. The interest shown on Form 1099-INT will not be reduced by amounts previously included in income.
The taxpayer received the bond from a decedent. The interest shown on Form 1099-INT will not be reduced by any interest reported by the decedent before death, or on the decedent's final return, or by the estate on the estate's income tax return.
Ownership of the bond was transferred. The interest shown on Form 1099-INT will not be reduced by interest that accrued before the transfer.
The taxpayer was named as a co-owner, and the other co-owner contributed funds to buy the bond. The interest shown on Form 1099-INT is not reduced by the amount received as nominee for the other co-owner.
The taxpayer received the bond in a taxable distribution from a retirement or profit-sharing plan. The interest shown on Form 1099-INT will not be reduced by the interest portion of the amount taxable as a distribution from the plan and not taxable as interest.
Slide251Education Savings Bond Program
All or part of the interest received on the redemption of qualified U.S. savings bonds during the year may be able to be excluded from income if the taxpayer paid for qualified higher educational expenses during the same year. This exclusion is known as the Education Savings Bond Program. Married filing separately taxpayers do not qualify for this exclusion.
Form 8815 is used to figure the exclusion and must be attached to Form 1040 or Form 1040A.
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The U.S. savings bond is a series EE bond issued after 1989 or a series I bond.
The bond must be issued either in the taxpayer's name (sole owner) or in the taxpayer and spouse's names (co-owners).
The taxpayer must be at least 24 years old before the bond's issue date. NOTE: The issue date of a bond may be earlier than the date the bond is purchased because the issue date assigned to a bond is the first day of the month in which it is purchased.
Example
- A bond bought by a parent and issued in the name of his or her child under age 24 does not qualify for the exclusion by the parent or child.
NOTE:
Any individual (including a child) can be the beneficiary of the bond.
Slide253Qualified Higher Education Expenses
Qualified higher education expenses are tuition and fees required for the taxpayer, the spouse, or their dependent (for whom they claim an exemption) to attend an eligible educational institution. Qualified expenses include any contribution made to a qualified tuition program or to a Coverdell education savings account.
Not Included
- Qualified expenses do not include expenses for room and board or for courses involving sports, games, or hobbies that are not part of a degree or certificate granting program.
Eligible Educational Institutions
These institutions include most public, private, and nonprofit universities, colleges, and vocational schools that are accredited and eligible to participate in student aid programs run by the U.S. Department of Education.
Slide254Reduction for Certain Benefits
Qualified higher education expenses must be reduced by all of the following tax-free benefits:
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Tax-free part of scholarships and fellowships
Expenses used to figure the tax-free portion of distributions from a Coverdell ESA.
Expenses used to figure the tax-free portion of distributions from a qualified tuition program.
Any tax-free payments (other than gifts or inheritances) received for educational expenses, such as Veterans' educational assistance benefits, qualified tuition reductions, or employer-provided educational assistance.
Any expense used in figuring the American Opportunity and Lifetime Learning credits.
Slide255Amount Excludable
If the total proceeds (interest and principal) from the qualified U.S. savings bonds redeemed during the year are not more than the adjusted qualified higher educational expenses for the year, the taxpayer may be able to exclude all of the interest.
If the proceeds are more than the expenses, the taxpayer may be able to exclude only part of the interest.
To determine the excludable amount, multiply the interest part of the proceeds by a fraction. The numerator of the fraction is the qualified higher educational expenses you paid during the year. The denominator of the fraction is the total proceeds you received during the year.
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Interest x (Amount Paid During Year ÷ Proceeds Received During the Year)
= Amount to Exclude from Income
Slide256The following example demonstrates this calculation:
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Interest x (Amount Paid During Year ÷ Proceeds Received During the Year)
= Amount to Exclude from Income
Example
Taxpayers cash a qualified series EE U.S. savings bond and receive $8,000 representing principal of $5,000 and interest of $3,000. In 2011, they paid $4,000 of their son's college tuition. They are not claiming an education credit for that amount, and their son does not have any tax-free educational assistance. They can exclude $1,500 of interest and must pay tax on the remaining $1,500 interest.
($3,000 × ($4,000 ÷ $8,000)) = $1,500
$3,000 - $1,500 (amount of interest to exclude) = $1,500
Slide257Adjusted Gross Income Limit The interest exclusion is limited if the taxpayer(s) modified adjusted gross income (modified AGI) is:
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$71,100 to $86,100 for taxpayers filing single or head of household, and
$106,650 to $136,650 for married taxpayers filing jointly or for a qualifying widow(
er
) with dependent child.
Taxpayers do not qualify for the interest exclusion if their modified AGI is equal to or more than the upper limit for their filing status.
Slide258AGI, for purposes of this exclusion, is adjusted gross income (Form 1040, line 37) figured before the interest exclusion, and modified by adding back any:
Foreign earned income exclusion, Foreign housing exclusion and deduction, Exclusion of income for bona fide residents of American Samoa, Exclusion for income from Puerto Rico, Exclusion for adoption benefits received under an employer's adoption assistance program, Deduction for tuition and fees, Deduction for student loan interest, and Deduction for domestic production activities
Slide259U.S. Treasury Bills, Notes, and Bonds
Treasury bills, notes, and bonds are direct debts (obligations) of the U.S. Government.
Taxation of Interest
- Interest income from Treasury bills, notes, and bonds is subject to federal income tax but is exempt from all state and local income taxes. Form 1099-INT (box 3) shows the interest paid to the taxpayer for the year.
Treasury Bills
- These bills generally have a 4-week, 13-week, 26-week, or 52-week maturity period. They are issued at a discount in the amount of $100 and multiples of $100. The difference between the discounted price paid for the bills and the face value received at maturity is interest income. Generally, report this interest income when the bill is paid at maturity.
Treasury Notes and Bonds
- Treasury notes have maturity periods of more than 1 year, ranging up to 10 years. Maturity periods for Treasury bonds are longer than 10 years. Both generally are issued in denominations of $100 to $1 million and generally pay interest every 6 months. Generally, report this interest the year it's paid.
Slide260Bonds Sold Between Interest Dates
If a bond is sold between interest payment dates, part of the sales price represents interest accrued to the date of sale. Report that part of the sales price as interest income for the year of sale.
For bonds purchased between interest payment dates, part of the purchase price represents interest accrued before the date of purchase. When that interest is paid to the taxpayer, treat it as a return of capital investment, rather than interest income, by reducing basis in the bond.
Insurance
Life insurance proceeds paid to the taxpayer as the beneficiary of the insured person are usually not taxable. But if the proceeds are received in installments, part of each installment payment is usually reported as interest income.
Slide261State or Local Government Obligations
Interest on a bond used to finance government operations generally is not taxable if the bond is issued by a state, the District of Columbia, a possession of the United States, or any of their political subdivisions.
Bonds issued after 1982 (including tribal economic development bonds issued after February 17, 2009) by an Indian tribal government are treated as issued by a state. Interest on these bonds is generally tax exempt if the bonds are part of an issue of which substantially all proceeds are to be used in the exercise of any essential government function.
Taxpayers who must file a tax return must also show any tax-exempt interest they received on the return. This is an information-reporting requirement only and does not change tax-exempt interest to taxable interest.
Slide262Original Issue Discount (OID)
Original issue discount (OID) is a form of interest. Generally, OID is included in income as it accrues over the term of the debt instrument, whether or not any payments are received from the issuer.
A debt instrument generally has OID when the instrument is issued for a price that is less than its stated redemption price at maturity. OID is the difference between the stated redemption price at maturity and the issue price.
All debt instruments that pay no interest before maturity are presumed to be issued at a discount. Zero coupon bonds are one example of these instruments.
The OID accrual rules generally do not apply to short-term obligations (those with a fixed maturity date of 1 year or less from date of issue).
Slide263Exceptions to Reporting OID
When discussing OID rules, they do not apply to the following debt instruments:
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Tax-exempt obligations.
U.S. savings bonds.
Short-term debt instruments (those with a fixed maturity date of not more than 1 year from the date of issue).
Obligations issued by an individual before March 2, 1984.
Loans between individuals if all the following are true:
The lender is not in the business of lending money.
The amount of the loan, plus the amount of any outstanding prior loans between the same individuals, is $10,000 or less.
Avoiding any federal tax is not one of the principal purposes of the loan
Slide264Form 1099-OID
If the total OID for the calendar year is $10 or more, the issuer of the debt instrument (or the broker if held through a broker) should provide the taxpayer with
Form 1099-OID, Original Issue Discount
, or a similar statement.
If someone other than the taxpayer (a nominee) is the holder of record (the registered owner) of an OID instrument and receives a Form 1099-OID on the taxpayer's behalf, that person must provide the taxpayer a Form 1099-OID.
Form 1099-OID will show in box 1, the amount of OID for the part of the year the taxpayer held the bond. It also will show in box 2, the stated interest that must be included in income.
In most cases, report the entire amount in boxes 1 and 2 of Form 1099-OID as interest income.
Slide265Refiguring OID Shown on Form 1099-OID
Refigure the OID shown in box 1 or box 6 of Form 1099-OID if either of the following apply:
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Taxpayer bought the debt instrument after its original issue and paid a premium or an acquisition premium.
The debt instrument is a stripped bond or a stripped coupon (including certain zero coupon instruments).
Publication 1212 provides information about figuring the correct amount of OID to include in income.
Refiguring Periodic Interest Shown On Form 1099-OID
If a debt instrument was disposed of or acquired from another holder during the year, see
Bonds Sold Between Interest Dates
, earlier, for information about the treatment of periodic interest that may be shown in box 2 of Form 1099-OID for that instrument.
Slide266Certificates of Deposit (CDs)For CDs purchased with a maturity of more than 1 year, include in income each year a part of the total interest due and report it in the same manner as other OID. This also applies to similar deposit arrangements with banks, building and loan associations, etc., including:
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Time deposits,
Bonus plans,
Savings certificates,
Deferred income certificates,
Bonus savings certificates
Growth savings certificates.
Bearer CDs
- CDs issued after 1982 generally must be in registered form. Bearer CDs are CDs not in registered form. They are not issued in the depositor's name and are transferable from one individual to another. Banks must provide the IRS and the person redeeming a bearer CD with a Form 1099-INT.
Slide267When to Report Interest Income
The reporting of interest income depends on the taxpayer and the method they use to report income. Most individuals use the cash method of income reporting, however some use the accrual method.
Cash Method
In general, interest income is reported in the year it is actually or constructively received. Income is constructively received when it is credited to the taxpayer's account or made available to them.
Accrual Method
Interest income is reported when it is earned, not when it is received. Interest is earned over the term of the debt instrument.
Slide268Example
In August of 2009, the taxpayer loaned another individual $3,500 at 10% interest, compounded annually. The note stated that principal and interest would be due on August 31, 2011. In 2011, the taxpayer receives $4,222.20 ($3,500 principal and $722.20 to interest). If using the cash method, include in income on the 2011 return the $722.20 interest the taxpayer received that year.
If the taxpayer is using the accrual method, include the interest as it is earned. For example, in 2009, $350; 2010, $244.26; and 2011, $127.94.
Slide269Reporting Interest Income
This section will discuss what form must be used to file the return, and when Schedule B is required, when reporting interest income.
Generally, report all taxable interest income on Form 1040, line 8a; Form 1040A, line 8a; or Form 1040EZ, line 2.
Form 1040EZ cannot be used if your interest income is more than $1,500. Instead, use Form 1040A or Form 1040.
Slide270Schedule BIf a
Schedule B, Interest and Ordinary Dividends
, is required, list each payer's name and the amount of interest income received from each payer on line 1. If Form 1099-INT or Form 1099-OID is received from a brokerage firm, list the brokerage firm as the pay
Slide271Form 1040A, Schedule B
When reporting interest income, complete Schedule B if filing Form 1040A and any of the following are true:
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Taxable interest income is more than $1,500.
Taxpayer is claiming the interest exclusion under the Education Savings Bond Program.
Taxpayer received interest from a seller-financed mortgage, and the buyer used the property as a home.
Taxpayer received a Form 1099-INT for U.S. savings bond interest and includes amounts reported before 2011.
Taxpayer received, as a nominee, interest that actually belongs to someone else.
Taxpayer received a Form 1099-INT for interest on frozen deposits.
Taxpayer is reporting OID in an amount less than the amount shown on Form 1099-OID.
Taxpayer received a Form 1099-INT for interest on a bond bought between interest payment dates.
Taxpayer acquired taxable bonds after 1987 and chose to reduce interest income from the bonds by any amortizable bond premium.
Slide272Form 1040
When reporting interest income, Form 1040 must be used instead of Form 1040A or Form 1040EZ if:
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The taxpayer forfeited interest income because of the early withdrawal of a time deposit;
The taxpayer acquired taxable bonds after 1987, and chose to reduce interest income from the bonds by any amortizable bond premium, and are deducting the excess of bond premium amortization for the accrual period over the qualified stated interest for the period; or
The taxpayer received tax-exempt interest from private activity bonds issued after August 7, 198
Slide273Form 1040, Schedule B
Complete Schedule B if filing Form 1040 and any of the following apply:
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Taxable interest income is more than $1,500.
Taxpayer is the interest exclusion under the Education Savings Bond Program.
Taxpayer received interest from a seller-financed mortgage, and the buyer used the property as a home.
Taxpayer received a Form 1099-INT for U.S. savings bond interest that includes amounts reported before 2011.
Taxpayer received, as a nominee, interest that actually belongs to someone else.
Taxpayer received a Form 1099-INT for interest on frozen deposits.
Taxpayer received a Form 1099-INT for interest on a bond bought between interest payment dates.
Taxpayer is reporting OID in an amount less than the amount shown on Form 1099-OID.
Statement (2) in the preceding list under Form 1040 is true.
Slide274Reporting Tax-Exempt Interest
Total all tax-exempt interest and exempt-interest dividends from a mutual fund as shown in box 8 of Form 1099-INT.
Add this amount to any other tax-exempt interest received. Report the total on line 8b of Form 1040A or 1040. If filing form 1040EZ, enter "TEI" and the amount in the space to the left of line 2. Do not add tax-exempt interest in the total on Form 1040EZ, line 2.
Box 9 shows the tax-exempt interest subject to the alternative minimum tax on Form 6251, Alternative Minimum Tax-Individuals. It is already included in the amount in box 8. Do not add the amount in box 9 to, or subtract from, the amount in box 8.
Slide27599-INTForm 1099-INT shows the amount of interest received during the year.
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Form 1099-INT Box 1
- Taxable interest income, except for interest from U.S. savings bonds and Treasury obligations, is shown in box 1 of Form 1099-INT. Add this amount to any other taxable interest income received. Report all taxable interest income even if a Form 1099-INT is received.
Box 2
- If interest income was forfeited because of the early withdrawal of a time deposit, the deductible amount is shown on Form 1099-INT in box 2.
Box 3
- Box 3 of Form 1099-INT shows interest income received from U.S. savings bonds, Treasury bills, Treasury notes, and Treasury bonds.
Add the amount shown in box 3 to any other taxable interest income received, unless part of the amount in box 3 was previously included in interest income.
If part of the amount shown in box 3 was previously included in your interest income, see
U.S. savings bond interest previously reported
, later in this unit.
Slide276Form 1099-INT (continued)
Form 1099-INT shows the amount of interest received during the year.
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Form 1099-INT Box 4
- Box 4 of Form 1099-INT (federal income tax withheld) contains an amount if the taxpayer was subject to backup withholding.
Report the amount from box 4 on Form 1040EZ, line 7; on Form 1040A, line 36; or on Form 1040, line 62 (federal income tax withheld).
Box 5
- Box 5 of Form 1099-INT shows investment expenses that could be taken as an itemized deduction.
Box 6 and 7
- If there are entries in boxes 6 and 7 of Form 1099-INT, file Form 1040.
Slide277Savings Bond Interest Previously ReportedIf the Form 1099-INT is for savings bond interest, it may show interest that doesn't need to be reported. See
Form 1099-INT for U.S. savings bonds interest
earlier in this unit under
U.S. Savings Bonds
.
On Schedule B (Form 1040A or 1040), Part I, line 1, report all the interest shown on the Form 1099-INT.
Next, follow these steps:
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Several lines above line 2, enter a subtotal of all interest listed on line 1.
Below the subtotal enter "U.S. Savings Bond Interest Previously Reported" and enter amounts previously reported or interest accrued before receiving the bond.
Subtract these amounts from the subtotal and enter the result on line 2.
Slide278Dividends and Other Distributions
Dividends are distributions of money, stock, or other property paid to a person by a corporation or by a mutual fund. Most distributions are paid in cash (or check). Distributions can consist of more stock, stock rights, other property, or services.
This section discusses the tax treatment of dividends and other distributions and explains how they are reported on the tax return.
Form 1099-DIV
Most corporations and mutual funds distribute
Form 1099-DIV, Dividends and Distributions
, to show the distributions received from them during the year, and any tax withheld from the dividend income.
If another person receives distributions as a nominee for the taxpayer, that person will provide a Form 1099-DIV to the taxpayer, which will show distributions received on his or her behalf
Slide279Dividends and Other Distributions
Dividends are distributions of money, stock, or other property paid to a person by a corporation or by a mutual fund. Most distributions are paid in cash (or check). Distributions can consist of more stock, stock rights, other property, or services.
This section discusses the tax treatment of dividends and other distributions and explains how they are reported on the tax return.
Form 1099-DIV
Most corporations and mutual funds distribute
Form 1099-DIV, Dividends and Distributions
, to show the distributions received from them during the year, and any tax withheld from the dividend income.
If another person receives distributions as a nominee for the taxpayer, that person will provide a Form 1099-DIV to the taxpayer, which will show distributions received on his or her behalf
Slide280Form 1099-MISC
Certain substitute payments in lieu of dividends or tax-exempt interest received by a broker on the behalf of the taxpayer, must be reported on
Form 1099-MISC, Miscellaneous Income
, or a similar statement.
General Rules for Dividend Income
Backup withholding
- Your dividend income is generally not subject to regular withholding, but may be subject to backup withholding to ensure that income tax is collected on the income. Under backup withholding, the payer of dividends must withhold, as income tax, 28% of the amount paid.
Tax on investment income of certain children
- Part of a child's 2011 investment income may be taxed at the parent's tax rate. If it is,
Form 8615, Tax for Certain Children Who Have Investment Income of More Than $1,900
, must be completed and attached to the child's tax return. If not, Form 8615 is not required and the child's income is taxed at his or her own tax rate.
Beneficiaries of an estate or trust
- Dividends and other distributions received as a beneficiary of an estate or trust are generally taxable income. The taxpayer should receive a Schedule K-1 (Form 1041), Beneficiary's Share of Income, Deductions, Credits, etc., from the fiduciary. The Schedule K-1 and its instructions discuss how and where to report this income.
Slide281Stock certificate in two or more names - If two or more persons hold stock as joint tenants, tenants by the entirety, or tenants in common, each person's share of any dividends from the stock is determined by local law.
Dividends on stock sold
- If stock is sold, exchanged, or otherwise disposed of after a dividend is declared but before it is paid, the owner of record (usually the payee shown on the dividend check) must include the dividend in income.
Dividends received in January
- If a mutual fund (or other regulated investment company) or real estate investment trust (REIT) declares a dividend (including any exempt-interest dividend or capital gain distribution) in October, November, or December payable to shareholders of record on a date in one of those months but actually pays the dividend during January of the next calendar year, dividend is considered received on December 31. Report the dividend in the year it was declared.
Slide282Ordinary Dividends
Ordinary dividends are the most common type of distribution from a corporation or a mutual fund. They are paid out of earnings and profits and are normally taxed as ordinary income. They are typically not capital gains. Ordinary dividends are shown in box 1a of the Form 1099-DIV.
Qualified Dividends
Qualified dividends are the ordinary dividends subject to the same 0% or 15% maximum tax rate that applies to net capital gain. They should be shown in box 1b of Form 1099-DIV.
Qualified dividends are subject to the 15% rate if the regular tax rate that would apply is 25% or higher. If the regular tax rate that would apply is lower than 25%, qualified dividends are subject to the 0% rate.
To qualify for the 0% or 15% maximum rate, all of the following requirements must be met.
The dividends must have been paid by a U.S. corporation or a qualified foreign corporation.
The dividends are not of the type listed later under
Dividends that are not qualified dividends
.
The holding period is met (discussed on the next screen).
Slide283Holding period - The taxpayer must have held the stock for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date. The ex-dividend date is the first date following the declaration of a dividend on which the buyer of a stock is not entitled to receive the next dividend payment. Instead, the seller will get the dividend.
When counting the number of days the taxpayer held the stock, include the day the stock was disposed, but not the day it was acquired.
Exception for preferred stock
- In the case of preferred stock, taxpayer must have held the stock more than 90 days during the 181-day period that begins 90 days before the ex-dividend date if the dividends are due to periods totaling more than 366 days. If the preferred dividends are due to periods totaling less than 367 days, the holding period in the previous paragraph applies.
Click
Example
to view holding period examples from
Pub 17 - Part Two, 8. Dividends and Other Distributions
.
Slide284Holding period reduced where risk of loss is diminished
- When determining whether the taxpayer met the holding periods, do not count any day during which any of the following conditions are met:
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Money Market Funds
Report amounts received from money market funds as dividend income.
The taxpayer had the option to sell, were under a contractual obligation to sell, or had made (and not closed) a short sale of substantially identical stock or securities.
The taxpayer was a grantor (writer) of an option to buy substantially identical stock or securities.
The taxpayer's risk of loss is diminished by holding one or more other positions in substantially similar or related property
Slide285Dividends That are Not Qualified Dividends
The following dividends are not qualified dividends, even if they are shown in box 1b of Form 1099-DIV:
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Capital gain distributions.
Dividends paid on deposits with mutual savings banks, cooperative banks, credit unions, U.S. building and loan associations, U.S. savings and loan associations, federal savings and loan associations, and similar financial institutions. (Report these amounts as interest income.)
Dividends from a corporation that is a tax-exempt organization or farmer's cooperative during the corporation's tax year in which the dividends were paid or during the corporation's previous tax year.
Dividends paid by a corporation on employer securities held on the date of record by an employee stock ownership plan (ESOP) maintained by that corporation.
Dividends on any share of stock to the extent the person is obligated (whether under a short sale or otherwise) to make related payments for positions in substantially similar or related property.
Payments in lieu of dividends, but only if it's known or if there is reason to know the payments are not qualified dividends.
Payments shown in Form 1099-DIV, box 1b, from a foreign corporation to the extent of knowing or having reason to know they are not qualified dividends.
Slide286Dividends Used to Buy More Stock
Some corporations have a dividend reinvestment plan.
If dividends are used to buy more stock at a price equal to its fair market value, the dividends still must be reported as income.
If the dividend reinvestment plan allows for the purchase of more stock at a price less than its fair market value, report as dividend income the fair market value of the additional stock on the dividend payment date.
In some dividend reinvestment plans, the taxpayer can invest more cash to buy shares of stock at a price less than fair market value. In this scenario, the difference between the cash invested and the fair market value of the stock purchased must be reported as dividend income. When figuring this amount, use the fair market value of the stock on the dividend payment date.
Slide287Capital gain distributions (also called capital gain dividends) are paid to or credited to an account by mutual funds (or other regulated investment companies) and real estate investment trusts (REITs). They are shown in box 2a of the Form 1099-DIV. Report capital gain distributions as long-term capital gains.
Slide288Undistributed Capital Gains of Mutual Funds and REITs
Some mutual funds and REITs keep their long-term capital gains and pay tax on them. The taxpayer is to treat the share of gains as distributions, even though they've not actually been received.
These are reported to the taxpayer in box 1a of
Form 2439, Notice to Shareholder of Undistributed Long-Term Capital Gains
. On the tax return, report undistributed capital gains (box 1a of Form 2439) as long-term capital gains on Schedule D (Form 1040), column (h), line 11.
The tax paid on these gains by the mutual fund or REIT is shown in box 2 of Form 2439.
Increase the basis in the mutual fund, or the interest in a REIT, by the difference between the gain reported and the credit claimed for the tax paid.
Slide289A non-dividend distribution is a distribution that is not paid out of the earnings and profits of a corporation or a mutual fund. Non-dividend distributions are shown on box 3 of Form 1099-DIV.
Taxpayers that do not receive a 1099-DIV should report the distribution as an ordinary dividend
Slide290Basis Adjustment
A non-dividend distribution reduces the basis of stock. It is not taxed until the basis in the stock is fully recovered. This nontaxable portion is also called a return of capital and is a return of the investment in the stock of the company. If the taxpayer purchases stock in a corporation in different lots at different times, and the shares subject to the non-dividend distribution can't be identified, reduce the basis of the earliest purchases first.
When the basis of the stock has been reduced to zero, report any additional non-dividend distribution received as a capital gain. Whether it's reported as a long-term or short-term capital gain depends on how long the taxpayer has held the stock.
Slide291Liquidating Distributions
Liquidating distributions, sometimes called liquidating dividends, are distributions received during a partial or complete liquidation of a corporation. These distributions are, at least in part, one form of a return of capital. They may be paid in one or more installments. The taxpayer will receive a Form 1099-DIV from the corporation showing the amount of the liquidating distribution in box 8 or 9.
Distributions of Stock and Stock Rights
Distributions by a corporation of its own stock are commonly known as stock dividends. Stock rights (also known as "stock options") are distributions by a corporation of rights to acquire the corporation's stock. Generally, stock dividends and stock rights are not taxable to the taxpayer and are not reported on the return.
Basis
The basis in stock or stock rights received in a taxable distribution is the fair market value when distributed.
Slide292Distributions of Stock and Stock Rights (continued)
Distributions of stock dividends and stock rights are taxable only if any of the following apply:
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The taxpayer or any other shareholder has the choice to receive cash or other property instead of stock or stock rights.
The distribution gives cash or other property to some shareholders and an increase in the percentage interest in the corporation's assets or earnings and profits to other shareholders.
The distribution is in convertible preferred stock and has the same result as in (2).
The distribution gives preferred stock to some common stock shareholders and common stock to other common stock shareholders.
The distribution is on preferred stock. The distribution, however, is not taxable if it is an increase in the conversion ratio of convertible preferred stock made solely to take into account a stock dividend, stock split, or similar event that would otherwise result in reducing the conversion right.
Slide293Fractional Shares
The taxpayer may not own enough stock in a corporation to receive a full share of stock. The corporation may have a plan where fractional shares are not issued but instead are sold, and the cash proceeds are given to the shareholders.
Any cash received for fractional shares under such a plan is treated as an amount realized on the sale of the fractional shares.
Report this transaction on
Form 8949, Sales and Other Dispositions of Capital Assets
.
Slide294Distributions of Stock and Stock Rights (continued)
Scrip Dividends
Scrip certificates entitle the shareholder to a fractional share of a stock dividend. The certificate is generally nontaxable when it's received.
If the taxpayer opted to have the corporation sell the certificate and receive the proceeds, the gain or loss is the difference between the proceeds and the portion of the taxpayer's basis in the corporation's stock allocated to the certificate.
If the scrip certificate can be redeemed for cash instead of stock, the certificate is taxable when it's received. Include its fair market value in income on the date it's received.
Slide295Example
Joe owns one share of common stock purchased several years back for $100. In July, the company declared a common stock dividend of 10%. At that time, the fair market value of the stock dividend was $250. Joe was paid $20 for the fractional-share stock. To figure the gain or loss, use the following calculation:
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Because the share of stock was held for more than 1 year at the time the stock dividend was declared, the gain on the stock dividend is a long-term capital gain.
Slide296Other Distributions
Taxpayers may receive any of the following distributions during the year.
Exempt-interest Dividends
Exempt-interest dividends received from a mutual fund or other regulated investment company are not included in taxable income. Exempt-interest dividends should be shown in box 8 of Form 1099-INT.
Other Distributions
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While not taxable, these dividends must be reported on the return.
NOTE
: Exempt-interest dividends paid from specified private activity bonds may be subject to the alternative minimum tax.
Slide297Dividends on Insurance Policies
Insurance policy dividends the insurer keeps and uses to pay the taxpayer's premiums are not taxable. However, the interest that is paid or credited on dividends left with the insurance company must be reported as taxable interest income.
If dividends on an insurance contract (other than a modified endowment contract) are distributed to the taxpayer, they are a partial return of the premiums paid. Do not include them in gross income until they are more than the total of all net premiums paid for the contract.
Report any taxable distributions on insurance policies on Form 1040, line 21.
Slide298Dividends on Veterans' Insurance
Dividends received on veterans' insurance policies are not taxable. In addition, interest on dividends left with the Department of Veterans Affairs is not taxable.
Patronage Dividends
Generally, patronage dividends received in money from a cooperative organization are included in income. Do not include in your income patronage dividends received on property bought for personal use, or capital assets or depreciable property bought for business use. However, the basis (cost) of the items bought must be reduced. If the dividend is more than the adjusted basis of the assets, report the excess as income.
Alaska Permanent Fund Dividends
Do not report these amounts as dividends. Instead, report these amounts on Form 1040, line 21; Form 1040A, line 13; or Form 1040EZ, line 3.
Slide299Reporting Dividend Income
Report dividend income on Form 1040 or Form 1040A.
Report the total of your ordinary dividends on line 9a of Form 1040 or Form 1040A. Report qualified dividends on line 9b of Form 1040 or Form 1040A.
Reporting Dividend Income
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Capital gain distributions are reported on Form 1040A or Form 1040 (1040EZ can't be used).
If the taxpayer received non-dividend distributions required to be reported as capital gains, you must use Form 1040.
A 1040EZ can't be used if reporting any dividend income.
Slide300Form 1099-DIV
Taxpayers that own stock on which they received $10 or more in dividends and other distributions, should receive a Form 1099-DIV. Regardless of whether or not a 1099-DIV is received, the taxable dividend income must be reported.
Schedule B
Complete a Schedule B (Form 1040A or 1040), Part II, and attach it to Form 1040A or 1040, if:
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Ordinary dividends (Form 1099-DIV, box 1a) are more than $1,500, or
The taxpayer received, as a nominee, dividends that actually belonged to someone else.
If ordinary dividends are more than $1,500, also complete Schedule B, Part III.
Slide301Reporting Qualified Dividends
Report qualified dividends (Form 1099-DIV, box 1b) on line 9b of Form 1040 or Form 1040A.
The amount in box 1b is already included in box 1a. Do not add the amount in box 1b to, or subtract it from, the amount in box 1a.
Slide302Do not include any of the following on line 9b.
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Qualified dividends received as a nominee.
Dividends on stock for which the holding period was not met.
Dividends on any share of stock to the extent the taxpayer is obligated (whether under a short sale or otherwise) to make related payments for positions in substantially similar or related property.
Payments in lieu of dividends, but only if known or there is reason to know the payments are not qualified dividends.
Payments shown in Form 1099-DIV, box 1b, from a foreign corporation to the extent it is known or there is reason to know the payments are not qualified dividends.
Slide303Reporting Qualified Dividends (continued)
To figure the tax for qualified dividends, complete the Qualified Dividends and Capital Gain Tax Worksheet in the Form 1040 or 1040A instructions or the Schedule D Tax Worksheet in the Schedule D instructions, whichever applies. Enter qualified dividends on line 2 of the worksheet.
Investment Interest Deducted
If a deduction for investment interest is claimed, it may be necessary to reduce the amount of qualified dividends that are eligible for the 0% or 15% tax rate. Reduce it by the qualified dividends that are
choosen
to be included in investment income when figuring the limit on the investment interest deduction. This is done on the Qualified Dividends and Capital Gain Tax Worksheet or the Schedule D Tax Worksheet.
Slide304Types of Medical and Dental Expenses Figuring Medical and Dental Expenses Skill Check
This study guide covers the medical and dental expenses that qualify as itemized deductions and how to report them on Schedule A (Form 1040).
. Medical and Dental Expenses
Slide305Types of Medical and Dental Expenses
Examples of Deductible Medical and Dental Payments
To the extent the taxpayer was not reimbursed, he or she can deduct what was paid for:
Prescription medicines or insulin.
Acupuncturists, chiropractors, dentists, eye doctors, medical doctors, occupational therapists, osteopathic doctors, physical therapists, podiatrists, psychiatrists, psychoanalysts (medical care only), and psychologists.
Medical examinations, X-ray and laboratory services, insulin treatment, and whirlpool baths a doctor ordered.
Diagnostic tests, such as a full-body scan, pregnancy test, or blood sugar test kit.
Nursing help (including the taxpayer's share of the employment taxes paid). If the taxpayer paid someone to do both nursing and housework, they can deduct only the cost of the nursing help.
Hospital care (including meals and lodging), clinic costs, and lab fees.
Qualified long-term care services (see
Pub. 502
).
The supplemental part of Medicare insurance (Medicare B).
The premiums paid for Medicare Part D insurance.
Slide306A program to stop smoking and for prescription medicines to alleviate nicotine withdrawal. A weight-loss program as treatment for a specific disease (including obesity) diagnosed by a doctor.
Medical treatment at a center for drug or alcohol addiction.
Medical aids such as eyeglasses, contact lenses, hearing aids, braces, crutches, wheelchairs, and guide dogs, including the cost of maintaining them.
Surgery to improve defective vision, such as laser eye surgery or radial keratotomy.
Lodging expenses (but not meals) while away from home to receive medical care in a hospital or a medical care facility related to a hospital, provided there was no significant element of personal pleasure, recreation, or vacation in the travel. Do not deduct more than $50 a night for each eligible person.
Ambulance service and other travel costs to get medical care. If the taxpayer used their own car, they can claim what was spent for gas and oil to go to and from the place where care was received; or the taxpayer can claim 19 cents a mile (23.5 cents a mile after June 30, 2011). Add parking and tolls to the amount claimed under either method.
Cost of breast pumps and supplies that assist lactation.
Slide307Insurance PremiumsA taxpayer may also deduct insurance premiums for medical and dental care, including premiums for qualified long-term care insurance contracts as defined in
Pub. 502
. Reduce the insurance premiums by any self-employed health insurance deduction claimed on
Form 1040
, line 29. The taxpayer cannot deduct insurance premiums paid with pretax dollars because the premiums are not included in box 1 of Form(s) W-2. If the taxpayer is a retired public safety officer, he or she cannot deduct any premiums paid to the extent they were paid for with a tax-free distribution from his or her retirement plan.
If, during 2011, the taxpayer was an eligible trade adjustment assistance (TAA) recipient, alternative TAA (ATAA) recipient, reemployment TAA (RTAA) recipient, or Pension Benefit Guaranty Corporation (PBGC) pension recipient, he or she must reduce insurance premiums by any amounts used to figure the health coverage tax credit. See the instructions for line 1 of Schedule A.
Slide308Limit on Long Term Care PremiumsThe amount a taxpayer can deduct for qualified long-term care insurance contracts (as defined in
Pub. 502
) depends on the age, at the end of 2011, of the person for whom the premiums were paid. See the chart below for details.
Slide309Examples of Medical and Dental Payments that Cannot be Deducted
The following items cannot be deducted as medical or dental expenses:
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The cost of diet food.
Cosmetic surgery unless it was necessary to improve a deformity related to a congenital abnormality, an injury from an accident or trauma, or a disfiguring disease.
Life insurance or income protection policies.
The Medicare tax on the taxpayer's wages and tips or the Medicare tax paid as part of the self-employment tax or household employment taxes.
NOTE: If the taxpayer was age 65 or older but not entitled to social security benefits, they can deduct premiums they voluntarily paid for Medicare A coverage.
Slide310Figuring Medical and Dental Expenses
Medical and Dental Expenses Amount
A taxpayer can deduct only the part of his or her medical and dental expenses that exceeds 7.5% of the amount on Form 1040, line 38.
DOMAIN 3 Study Guide - A. Medical and Dental Expenses
Figuring Medical and Dental Expenses
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Publication 502
explains the types of expenses a taxpayer can and cannot deduct. It also explains when a taxpayer can deduct capital expenses and special care expenses for disabled persons
Slide311Example
Thomas and Wanda are filing a married filing joint return and will itemize deductions. They have the following expenses for 2011:
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$750 in prescriptions
$4,800 in medical insurance premiums
$550 in glasses and contacts
$500 for diet food (not related to a diagnosed health issue)
$2,400 in life insurance premiums
The couple may include all of the expenses listed above on line 1 of Schedule A, except for $500 for diet food and $2,400 in life insurance premiums.
The remaining $6,100 for medical and dental expenses can be deducted to the extent that it exceeds 7.5% of the amount on Form 1040, line 38.
Slide312ExampleFrom the previous example, we know that Thomas and Wanda have $6,100 in medical and dental expenses. If line 38 on Form 1040 is $48,000, then what is the amount that they can actually deduct?
$48,000 x 0.075 = $3,600
$6,100 - $3,600 = $2,500
Thomas and Wanda can deduct $2,500 in medical and dental expenses.
Slide313Schedule A, Line 1
On line 1 of Schedule A, enter the total of medical and dental expenses, after these expenses have been reduced by any payments received from insurance or other sources.
Include insurance premiums paid for medical and dental care. But if the taxpayer claimed the self-employed health insurance deduction on Form 1040, line 29, reduce the premiums by the amount on line 29.
Slide314Trade Adjustment AssistanceIf, during 2011, the taxpayer was an eligible trade adjustment assistance (TAA) recipient, alternative TAA (ATAA) recipient, reemployment TAA (RTAA) recipient, or Pension Benefit Guaranty Corporation (PBGC) pension recipient, complete Form 8885 before completing Schedule A, line 1. When figuring the amount of insurance premiums deductible on Schedule A, do not include:
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Any amounts included on Form 8885, line 4,
Any qualified health insurance premiums paid to "U.S. Treasury-HCTC," or
Any health coverage tax credit advance payments shown in box 1 and any additional credit reported in the box to the left of box 8 of Form 1099-H.
Slide315Whose Expenses Should be Included?A taxpayer can include medical and dental bills paid for anyone who was one of the following either when the services were provided or when the taxpayer paid for them:
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Taxpayer and spouse.
All dependents claimed on the taxpayer's return.
The taxpayer's child whom they do not claim as a dependent because of the rules for children of divorced or separated parents.
Any person the taxpayer could have claimed as a dependent, unless that person received $3,700 or more of gross income or filed a joint return.
Any person that the taxpayer could have claimed as a dependent except that the taxpayer, or spouse if filing jointly, can be claimed as a dependent on someone else's 2011 return.
Slide316Example
Gary provided over half the care for his father, Henry. Henry received wages of $4,000 in 2011. Although Gary cannot claim Henry as a dependent (because of the gross income test for a qualifying relative >$3,700), he can include any medical and dental expenses paid in 2011 for Henry on line 1 of Schedule A
Slide317Insurance Premiums for Certain Nondependents
The taxpayer may have a medical or dental insurance policy that also covers an individual who is not their dependent (for example, a nondependent child under age 27). The taxpayer cannot deduct any premiums attributable to this individual.
However, if the taxpayer had family coverage when they added this individual to their policy and their premiums did not increase, the taxpayer can enter on line 1 the full amount of medical and dental insurance premiums.
Slide318Reimbursements
If the taxpayer's insurance company paid the provider directly for part of the taxpayer's expenses, and the taxpayer paid only the amount that remained, include on line 1 only the amount paid.
If the taxpayer received a reimbursement in 2011 for medical or dental expenses paid in 2011, reduce 2011 expenses by this amount.
If the taxpayer received a reimbursement in 2011 for prior year medical or dental expenses, do not reduce 2011 expenses by this amount. But if the taxpayer deducted the expenses in the earlier year and the deduction reduced their tax, they must include the reimbursement in income on Form 1040, line 21. See
Pub. 502
for details on how to figure the amount to include
Slide319Cafeteria Plans
Do not include on line 1 insurance premiums paid by an employer-sponsored health insurance plan (cafeteria plan) unless the premiums are included in box 1 of Form(s) W-2. Also, do not include any other medical and dental expenses paid by the plan unless the amount paid is included in box 1 of Form(s) W-2.
Slide320This study guide covers the taxes that a taxpayer can include in itemized deductions on Schedule A, Form 1040. State and local taxes (line 5), real estate taxes (line 6), personal property taxes (line 7) and other taxes (line 8) will be discussed.
State, Local, and Real Estate Taxes
Slide321State and Local TaxesSchedule A, Line 5
A taxpayer can elect to deduct state and local general sales taxes instead of state and local income taxes. They cannot deduct both.
If the taxpayer elects to deduct state and local income taxes, check box a on line 5.
If the taxpayer elects state and local general sales taxes, check box b on line 5.
Slide322State and Local Income TaxesIf electing state and local income taxes, include the following:
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State and local income taxes withheld from the taxpayer's income during 2011.
State and local income taxes paid in 2011 for a prior year. Do not include penalties or interest.
Prior year state refunds applied to the next tax year.
State and local estimated tax payments made during 2011 (exceptions may apply).
Mandatory contributions made to the California, New Jersey, or New York Non-occupational Disability Benefit Fund, Rhode Island Temporary Disability Benefit Fund, or Washington State Supplemental Workmen's Compensation Fund.
Mandatory contributions to the Alaska, California, New Jersey, or Pennsylvania state unemployment fund.
Mandatory contributions to state family leave programs, such as the New Jersey Family Leave Insurance (FLI) program and the California Paid Family Leave program.
Slide323State and Local Income TaxesIf electing state and local income taxes, include the following:
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State and local income taxes withheld from the taxpayer's income during 2011.
State and local income taxes paid in 2011 for a prior year. Do not include penalties or interest.
Prior year state refunds applied to the next tax year.
State and local estimated tax payments made during 2011 (exceptions may apply).
Mandatory contributions made to the California, New Jersey, or New York Non-occupational Disability Benefit Fund, Rhode Island Temporary Disability Benefit Fund, or Washington State Supplemental Workmen's Compensation Fund.
Mandatory contributions to the Alaska, California, New Jersey, or Pennsylvania state unemployment fund.
Mandatory contributions to state family leave programs, such as the New Jersey Family Leave Insurance (FLI) program and the California Paid Family Leave program.
Slide324State and Local Income TaxesIf electing state and local income taxes, do not reduce the deduction by any:
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State or local income tax refund or credit the taxpayer expects to receive for 2011, or
Refund of, or credit for, prior year state and local income taxes the taxpayer actually received in 2011. Instead, see the instructions for Form 1040, line 10.
Slide325ExampleOlivia is electing to deduct state and local income taxes. She has the following items to consider:
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$2,300 in state and local income taxes withheld from her salary during 2011
$1,500 in state and local income taxes paid in 2011 for tax year 2010
$300 in interest and penalties for state tax owed from year 2010
$700 estimated state refund for 2011
$100 in vehicle inspection and driver's license fees
What amount can Olivia deduct on Schedule A, line 5?
She may only deduct $2,300 + $1,500 = $3,800. There is no need to reduce her deduction by any estimate of refund for the current tax year ($700). Further, she cannot deduct any interest or penalties or state inspection or license fees. (See "Taxes a Taxpayer Cannot Deduct" later.)
Slide326State and Local General Sales TaxesIf the taxpayer elects to deduct state and local general sales taxes, they can use either actual expenses or the optional sales tax tables.
Actual Expenses:
Generally, the taxpayer can deduct the actual state and local general sales taxes paid in 2011 if the tax rate was the same as the general sales tax rate.
Sales Tax Tables:
Instead of using actual expenses, the taxpayer can use the 2011 Optional State and Certain Local Sales Tax Table and the 2011 Optional Local Sales Tax Tables for Certain Local Jurisdictions.
Each option is detailed next.
Slide327Actual Expenses
The taxpayer can generally deduct the actual state and local general sales taxes paid in 2011 if the tax rate was the same as the general sales tax rate.
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Sales taxes on food, clothing, medical supplies, and motor vehicles are deductible as a general sales tax even if the tax rate was less than the general sales tax rate.
If the taxpayer paid sales tax on a motor vehicle at a rate higher than the general sales tax rate, the taxpayer can deduct only the amount of tax that the taxpayer would have paid at the general sales tax rate on that vehicle.
Motor vehicles include cars, motorcycles, motor homes, recreational vehicles, sport utility vehicles, trucks, vans, and off-road vehicles.
Include any state and local general sales taxes paid for a leased motor vehicle.
Do not include sales taxes paid on items used in the taxpayer's trade or business.
NOTE: It is important for the taxpayer to keep
reciepts
to show general sales taxes paid.
Slide328Refund of General Sales TaxesIf the taxpayer received a refund of state or local general sales taxes in 2011:
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For amounts paid in 2011, reduce their actual 2011 state and local general sales taxes by this amount.
For prior year purchases, do not reduce their 2011 state and local general sales taxes by this amount.
But if the taxpayer deducted actual state and local general sales taxes in the earlier year and the deduction reduced their tax, the taxpayer may have to include the refund in income on Form 1040, line 21.
Slide329Optional Sales Tax Tables
Instead of using actual expenses, the taxpayer can use the 2011 Optional State and Certain Local Sales Tax Table and the 2011 Optional Local Sales Tax Tables for Certain Local Jurisdictions to figure the state and local general sales tax deduction. The Taxpayer may also be able to add the state and local general sales taxes paid on certain specified items.
To figure state and local general sales tax deduction using the tables, complete the State and Local General Sales Tax Deduction Worksheet or use the Sales Tax Deduction Calculator on the IRS website.
Detailed instructions for completing the State and Local General Sales Tax Deduction Worksheet can be found in Form 1040 Instructions, 2011 Instructions for Schedule A.
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NOTE: If the filing status is married filing separately, both the taxpayer and spouse elect to deduct sales taxes, and the spouse elects to use the optional sales tax tables, the taxpayer also must use the tables to figure state and local general sales tax deduction
Slide330Optional Sales Tax Tables
Instead of using actual expenses, the taxpayer can use the 2011 Optional State and Certain Local Sales Tax Table and the 2011 Optional Local Sales Tax Tables for Certain Local Jurisdictions to figure the state and local general sales tax deduction. The Taxpayer may also be able to add the state and local general sales taxes paid on certain specified items.
To figure state and local general sales tax deduction using the tables, complete the State and Local General Sales Tax Deduction Worksheet or use the Sales Tax Deduction Calculator on the IRS website.
Detailed instructions for completing the State and Local General Sales Tax Deduction Worksheet can be found in Form 1040 Instructions, 2011 Instructions for Schedule A.
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NOTE: If the filing status is married filing separately, both the taxpayer and spouse elect to deduct sales taxes, and the spouse elects to use the optional sales tax tables, the taxpayer also must use the tables to figure state and local general sales tax deduction.
Slide331Real Estate Taxes
Schedule A, Line 6, Real Estate Taxes
Include taxes (state, local, or foreign) paid on real estate the taxpayer owns that was not used for business, but only if the taxes are based on the assessed value of the property. Also, the assessment must be made uniformly on property throughout the community, and the proceeds must be used for general community or governmental purposes.
Pub. 530
explains the deductions homeowners can take.
NOTE: If the taxpayer is a homeowner who received assistance under a State Housing Finance Agency Hardest Hit Fund program or an Emergency Homeowners' Loan program, see
Pub. 530
for the amount deductible on line 6.
Slide332Do Not Include on Line 6
Do not include on Line 6 of Schedule A:
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Itemized charges for services to specific property or persons
Charges for improvements that tend to increase the value of property owned by the taxpayer
NOTE: A charge is deductible if it is used only to maintain an existing public facility in service.
Slide333Example
For example, a taxpayer cannot include the following on line 6 of Schedule A:
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$15 monthly charge per house for trash collection
$7 charge for every 1,000 gallons of water consumed
an assessment to build a new sidewalk
Slide334Mortgage Payments and Sale of Home
If a taxpayer's mortgage payments include real estate taxes, the taxpayer can deduct only the amount the mortgage company actually paid to the taxing authority in 2011.
If the taxpayer sold their home in 2011, any real estate tax charged to the buyer should be shown on the settlement statement and in box 5 of any Form 1099-S received. This amount is considered a refund of real estate taxes. Any real estate taxes paid at closing should be shown on the settlement statement. See "refunds and rebates," next.
Slide335This study guide examines the mortgage interest expense deduction on Schedule A of Form 1040. A discussion of lines 10-14 of Schedule A, including mortgage interest and points, Form 1098, mortgage insurance premiums, and investment interest follows.
Mortgage Interest Expense
Slide336Mortgage Interest
Home Mortgages
A home mortgage is any loan that is secured by the taxpayer's main home or second home. It includes first and second mortgages, home equity loans, and refinanced mortgages.
A home can be a house, condominium, cooperative, mobile home, boat, or similar property. It must provide basic living accommodations including sleeping space, toilet, and cooking facilities.
Slide337Schedule A, Line 10Enter on line 10 on Schedule A mortgage interest and points reported to the taxpayer on Form 1098 under the taxpayer's social security number (SSN). Only mortgage interest of up to $1,100,00 of qualified mortgage principle is deductible. If this form shows any refund of overpaid interest, do not reduce the deduction by the refund. Instead, see the instructions for Form 1040, line 21.
If the taxpayer and at least one other person (other than the taxpayer's spouse if filing jointly) were liable for and paid interest on the mortgage, and the interest was reported on Form 1098 under the other person's SSN, report the taxpayer's share of the interest on line 11 (as explained in the line 11 instructions, next).
If the taxpayer paid more interest to the recipient than is shown on Form 1098, see Publication 936 to find out if the taxpayer can deduct the additional interest. If they can, attach a statement explaining the difference and enter "See attached" to the right of line 10.
If the taxpayer is claiming the mortgage interest credit (for holders of qualified mortgage credit certificates issued by state or local governmental units or agencies), subtract the amount shown on Form 8396, line 3, from the total deductible interest paid on the taxpayer's home mortgage. Enter the result on line 10
Slide338Limit on Home Mortgage InterestIf the taxpayer took out any mortgages after October 13, 1987, their deduction may be limited. Any additional amounts borrowed after October 13, 1987, on a line-of-credit mortgage the taxpayer had on that date are treated as a mortgage taken out after October 13, 1987.
If the taxpayer refinanced a mortgage they had on October 13, 1987, treat the new mortgage as taken out on or before October 13, 1987. But if the taxpayer refinanced for more than the balance of the old mortgage, treat the excess as a mortgage taken out after October 13, 1987.
NOTE: If the taxpayer is a homeowner who received assistance under a State Housing Finance Agency Hardest Hit Fund program or an Emergency Homeowners' Loan program, see
Pub. 530
for the amount the taxpayer can deduct on line 10 or 11.
Slide339Mortgage Interest, Schedule A, Line 11If the taxpayer did not receive a Form 1098 from the recipient, report the deductible mortgage interest on line 11.
If the taxpayer bought their home from the recipient, be sure to show that recipient's name, identifying number, and address on the dotted lines next to line 11. If the recipient is an individual, the identifying number is his or her social security number (SSN). Otherwise, it is the employer identification number. The taxpayer must also let the recipient know their SSN. If the taxpayer does not show the required information about the recipient or let the recipient know their SSN, they may have to pay a $50 penalty.
If the taxpayer and at least one other person (other than the taxpayer's spouse if filing jointly) were liable for and paid interest on the mortgage, and the other person received the Form 1098, attach a statement to their return showing the name and address of that person. To the right of line 11, enter "See attached."
Slide340ExampleMolly and Maggie are sisters. They purchased a home together and were both liable for and paid interest on the mortgage in 2011. Molly received the Form 1098. Maggie did not receive Form 1098.
Molly will report mortgage interest on line 10 of Schedule A. Maggie will report her share of the mortgage interest on line 11 of Schedule A. Maggie must also attach a statement to her tax return.
Slide341Points Not Reported on Form 1098, Line 12
Points are shown on the taxpayer's settlement statement. Points paid only to borrow money are generally deductible over the life of the loan. See
Pub. 936
to figure the amount that can be deducted. Points paid for other purposes, such as for a lender's services, are not deductible.
Slide342Refinancing
Generally, the taxpayer must deduct points paid to refinance a mortgage over the life of the loan. This is true even if the new mortgage is secured by the taxpayer's main home.
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If the taxpayer used part of the proceeds to improve their main home, they may be able to deduct the part of the points related to the improvement in the year paid.
If the taxpayer paid off a mortgage early, deduct any remaining points in the year they paid off the mortgage. However, if they refinanced their mortgage with the same lender, see Mortgage ending early in
Pub. 936
for an exception.
Slide343Mortgage Insurance Premiums, Schedule A, Line 13Enter the qualified mortgage insurance premiums paid under a mortgage insurance contract issued after December 31, 2006, in connection with home acquisition debt that was secured by the taxpayer's first or second home. Box 4 of Form 1098 may show the amount of premiums paid in 2011.
If the taxpayer and at least one other person (other than the taxpayer's spouse if filing jointly) were liable for and paid the premiums in connection with the loan, and the premiums were reported on Form 1098 under the other person's SSN, report the taxpayer's share of the premiums on line 13
Slide344Slide345Refunds and Rebates
If the taxpayer received a refund or rebate in 2011 of real estate taxes:
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Paid in 2011, then reduce the deduction by the amount of the refund or rebate.
Paid in an earlier year, do not reduce the deduction by this amount. Instead, include the refund or rebate in income on Form 1040, line 21, if the real estate taxes were deducted in the earlier year and the deduction reduced the tax
Slide346Personal Property & Other TaxesPersonal Property Taxes, Line 7
Enter the state and local personal property taxes paid, but only if the taxes were based on value alone and were imposed on a yearly basis.
Slide347ExampleFranco paid a yearly fee for the registration of his boat. Part of the fee was based on the boat's value and part was based on its weight. Franco can deduct only the part of the fee that was based on the boat's value.
Slide348Other Taxes, Line 8If the taxpayer had any deductible tax not listed on line 5, 6, or 7, list the type and amount of tax. Include on this line income tax paid to a foreign country or U.S. possession. Enter only one total on line 8.
NOTE: It may be advantageous for the taxpayer to take a credit for the foreign tax instead of a deduction. See the instructions for Form 1040, line 47, for details.
Slide349Taxes a Taxpayer Cannot DeductTo complete the discussion of deductible taxes, let's examine the types of taxes that cannot be deducted on Schedule A. A taxpayer cannot deduct:
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Federal income and most excise taxes.
Social Security, Medicare, federal unemployment (FUTA), and railroad retirement (RRTA) taxes.
Customs duties.
Federal estate and gift taxes. But see the instructions for line 28.
Certain state and local taxes, including: tax on gasoline, car inspection fees, assessments on sidewalks or other improvements to the taxpayer's property, tax paid for someone else, and license fees (marriage, driver's license, etc).
Slide350Mortgage Insurance Premiums, Schedule A, Line 13Enter the qualified mortgage insurance premiums paid under a mortgage insurance contract issued after December 31, 2006, in connection with home acquisition debt that was secured by the taxpayer's first or second home. Box 4 of Form 1098 may show the amount of premiums paid in 2011.
If the taxpayer and at least one other person (other than the taxpayer's spouse if filing jointly) were liable for and paid the premiums in connection with the loan, and the premiums were reported on Form 1098 under the other person's SSN, report the taxpayer's share of the premiums on line 13.
Slide351Qualified Mortgage Insurance
Qualified mortgage insurance is mortgage insurance provided by the Department of Veterans Affairs, the Federal Housing Administration, or the Rural Housing Service (or their successor organizations), and private mortgage insurance (as defined in section 2 of the Homeowners Protection Act of 1998 as in effect on December 20, 2006).
Mortgage insurance provided by the Department of Veterans Affairs and the Rural Housing Service is commonly known as a funding fee and guarantee fee respectively. These fees can be deducted fully in 2011 if the mortgage insurance contract was issued in 2011. Contact the mortgage insurance issuer to determine the deductible amount if it is not included in box 4 of Form 1098.
Slide352Prepaid Mortgage Insurance Premiums
If the taxpayer paid qualified mortgage insurance premiums that are allocable to periods after 2011, they must allocate them over the shorter of:
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The stated term of the mortgage, or
84 months, beginning with the month the insurance was obtained.
The premiums are treated as paid in the year to which they are allocated. If the mortgage is satisfied before its term, no deduction is allowed for the unamortized balance.
The allocation rules, explained earlier, do not apply to qualified mortgage insurance provided by the Department of Veterans Affairs or the Rural Housing Service (or their successor organizations)
Slide353Limit on the Deductible Amount
The taxpayer cannot deduct mortgage insurance premiums if the amount on Form 1040, line 38, is more than $109,000 ($54,500 if married filing separately). If the amount on Form 1040, line 38, is more than $100,000 ($50,000 if married filing separately), the taxpayer's deduction is limited and the Mortgage Insurance Premiums Deduction Worksheet must be used to figure the deduction
Slide354Example
James and Shirley have $5,000 in mortgage insurance premiums and $104,500 on Form 1040, line 38. Since this is more than $100,000 their deduction for mortgage insurance premiums is limited. Using the Mortgage Insurance Premiums Deduction Worksheet, they figure their deduction to be $2,500.
Slide355Investment Interest
Investment Interest, Line 14
Investment interest is interest paid on money the taxpayer borrowed that is allocable to property held for investment. It does not include any interest allocable to passive activities or to securities that generate tax-exempt income.
Complete and attach Form 4952 to figure the deduction
Slide356Form 4952 Exception
The taxpayer does not have to file Form 4952 if all three of the following apply:
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The taxpayer's investment interest expense is not more than their investment income from interest and ordinary dividends minus any qualified dividends.
The taxpayer has no other deductible investment expenses.
The taxpayer has no disallowed investment interest expense from 2010.
Alaska Permanent Fund dividends, including those reported on Form 8814, are not investment income.
For more details, see
Pub. 550
.
Slide357This study guide discusses charitable contributions that can be deducted on Schedule A of Form 1040. Examples of charitable organizations, contributions and gifts are provided, along with the rules for reporting and figuring a taxpayer's deduction.
Charitable Contributions
Slide358Gifts to Charity The taxpayer can deduct contributions or gifts given to organizations that are religious, charitable, educational, scientific, or literary in purpose. The taxpayer can also deduct what was given to organizations that work to prevent cruelty to children or animals
Slide359Examples of Qualified Charitable Organizations
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Churches, mosques, synagogues, temples, etc.
Boy Scouts, Boys and Girls Clubs of America, CARE, Girl Scouts, Goodwill Industries, Red Cross, Salvation Army, United Way, etc.
Fraternal orders, if the gifts will be used for the purposes listed under Gifts to Charity, earlier.
Veterans' and certain cultural groups.
Nonprofit schools, hospitals, and organizations whose purpose is to find a cure for, or help people who have, arthritis, asthma, birth defects, cancer, cerebral palsy, cystic fibrosis, diabetes, heart disease, hemophilia, mental illness or retardation, multiple sclerosis, muscular dystrophy, tuberculosis, etc.
Federal, state, and local governments if the gifts are solely for public purposes.
Slide360Contributions the Taxpayer Can DeductContributions can be in cash, property, or out-of-pocket expenses paid to do volunteer work for the kinds of organizations described earlier. If the taxpayer drove to and from the volunteer work, they can take the actual cost of gas and oil or 14 cents a mile. Add parking and tolls to the amount the taxpayer claims under either method. But do not deduct any amounts that were repaid to the taxpayer.
Slide361Example
Jake volunteers for the local humane society. He has given $200 in cash and has mileage of 250 miles associated with driving to and from the animal shelter. Jake can deduct his cash contribution and either his actual costs for gas/oil or 14 cents per mile. If Jake takes mileage, he can deduct -
$200 + (250 X $0.14) = $235
Slide362Gifts from Which the Taxpayer Benefits
If the taxpayer made a gift and received a benefit in return, such as food, entertainment, or merchandise, the taxpayer can generally only deduct the amount that is more than the value of the benefit. But this rule does not apply to certain membership benefits provided in return for an annual payment of $75 or less or to certain items or benefits of token value. For details, see
Pub. 526
.
Slide363ExampleBonnie paid $100 to a charitable organization to attend a fund-raising event. She received a book and a t-shirt at the event. The value of the book and t-shirt was $40. Bonnie can deduct only $60.
Slide364Gifts of $250 or more
The taxpayer can deduct a gift of $250 or more only if they have a statement from the charitable organization showing the following information:
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The amount of any money contributed and a description (but not value) of any property donated.
Whether the organization did or did not give any goods or services in return for the taxpayer's contribution. If the taxpayer did receive any goods or services, a description and estimate of the value must be included. If the taxpayer received only intangible religious benefits (such as admission to a religious ceremony), the organization must state this, but it does not have to describe or value the benefit.
In figuring whether a gift is $250 or more, do not combine separate donations. If donations were made through payroll deductions, treat each deduction from each paycheck as a separate gift. See
Pub. 526
if the taxpayer made a separate gift of $250 or more through payroll deduction.
NOTE: The taxpayer must get the statement by the date they file the return or the due date (including extensions) for filing the return, whichever is earlier. Do not attach the statement to the return. Instead, the taxpayer should keep it for their records.
Slide365ExampleBrenda gave her church $45 each week for a total of $2,340.
Brenda should treat each $45 payment as a separate gift.
Slide366Limit on the Amount Deductible
See
Pub. 526
to figure the amount of the deduction if any of the following applies:
NOTE: Generally, most cash contributions are subject to the 50% limit.
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The taxpayer's cash contributions or contributions of ordinary income property are more than 30% of the amount on Form 1040, line 38.
The taxpayer's gifts of capital gain property are more than 20% of the amount on Form 1040, line 38.
The taxpayer gave gifts of property that increased in value or gave gifts of the use of property.
Slide367Gifts by Cash or CheckEnter on line 16 of Schedule A the total gifts made in cash or by check (including out-of-pocket expenses).
For any contribution made in cash, regardless of the amount, the taxpayer must maintain as a record of the contribution a bank record (such as a canceled check or credit card statement) or a written record from the charity. The written record must include the name of the charity, date, and amount of the contribution. Do not attach the record to the tax return. Instead, keep it with other tax records.
Slide368Gifts Other Than by Cash or CheckEnter contributions of property on line 17 of Schedule A. If the taxpayer gave used items, such as clothing or furniture, deduct their fair market value at the time these items were given.
Fair market value is what a willing buyer would pay a willing seller when neither has to buy or sell and both are aware of the conditions of the sale. For more details on determining the value of donated property, see
Pub. 561
.
Slide369Form 8283
If the amount of the deduction is more than $500, the taxpayer must complete and attach Form 8283.
NOTE: For this purpose, the "amount of the deduction" means the deduction before applying any income limits that could result in a carryover of contributions.
If the taxpayer deducts more than $500 for a contribution of a motor vehicle, boat, or airplane, the taxpayer must also attach a statement from the charitable organization to the return. The organization may use Form 1098-C to provide the required information.
If the taxpayer's total deduction for one item is over $5,000, they may also have to get appraisals of the values of the donated property. This amount is $500 for certain contributions of clothing and household items. See Form 8283 and its instructions for details.
Slide370Contributions of Clothing and Household Items
A deduction for these contributions will be allowed only if the items are in good used condition or better. However, this rule does not apply to a contribution of any single item for which a deduction of more than $500 is claimed and for which the taxpayer includes a qualified appraisal and Form 8283 with their tax return.
Slide371Example
Don and Linda donate their used sofa and chair to a charitable organization. They paid $800 for the brand new furniture in 2005. In 2011, they estimate it to be worth half the original value. The amount of the deduction must be based on the fair market value of the property, or 0.5 X $800 = $400.
Don and Linda may deduct $400. Since this amount is less than $500, a form 8283 is not necessary.
Slide372Recordkeeping
If the taxpayer gave property, they should keep a receipt or written statement from the organization they gave the property to, or a reliable written record, that shows the organization's name and address, the date and location of the gift, and a description of the property. For each gift of property, the taxpayer should also keep reliable written records that include:
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How the property's value was figured at the time given. If the value was determined by an appraisal, keep a signed copy of the appraisal.
The cost or other basis of the property if the taxpayer must reduce it by any ordinary income or capital gain that would have resulted if the property had been sold at its fair market value.
How the deduction was figured if the taxpayer chose to reduce the deduction for gifts of capital gain property.
Any conditions attached to the gift.
NOTE: If the taxpayer's total deduction for gifts of property is over $500, the taxpayer gave less than their entire interest in the property, or the taxpayer made a "qualified conservation contribution," their records should contain additional information. See
Pub. 526
for details.
Slide373Line 18, Carryover from Prior Year
Enter on line 18 of Schedule A any carryover of contributions that the taxpayer could not deduct in an earlier year because they exceeded the adjusted gross income limit.
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Excess contributions can be carried over for 5 years.
Slide374Contributions the Taxpayer Cannot Deduct
Travel expenses (including meals and lodging) while away from home, unless there was no significant element of personal pleasure, recreation, or vacation in the travel.
Political contributions.
Dues, fees, or bills paid to country clubs, lodges, fraternal orders, or similar groups.
Cost of raffle, bingo, or lottery tickets.
Cost of tuition.
Value of the taxpayer's time or services.
Value of blood given to a blood bank.
The transfer of a future interest in tangible personal property (generally, until the entire interest has been transferred)
Slide375Contributions the Taxpayer Cannot Deduct (continued)
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Gifts to individuals and groups that are run for personal profit.
Gifts to foreign organizations.
Gifts to organizations engaged in certain political activities that are of direct financial interest to the taxpayer's trade or business.
Gifts to groups whose purpose is to lobby for changes in the laws.
Gifts to civic leagues, social and sports clubs, labor unions, and chambers of commerce.
Value of benefits received in connection with a contribution to a charitable organization
Slide376Gifts to individuals and groups that are run for personal profit. Gifts to foreign organizations. Gifts to organizations engaged in certain political activities that are of direct financial interest to the taxpayer's trade or business. Gifts to groups whose purpose is to lobby for changes in the laws. Gifts to civic leagues, social and sports clubs, labor unions, and chambers of commerce. Value of benefits received in connection with a contribution to a charitable organization
Slide377This study guide discusses employee expenses and miscellaneous deductions. the total of certain expenses are deductible on Schedule A of Form 1040 to the extent they exceed 2% of AGI. These include unreimbursed employee expenses, tax preparation fees, investment, safe deposit box and other such expenses. There are also miscellaneous expenses that are not subject to the 2% limitation including gambling losses to the extent of winning and casualty and theft losses.
Employee Expenses and Miscellaneous Deductions
Slide378Unreimbursed Employee Expenses Included in the expenses subject to 2% of AGI are unreimbursed employee expenses.
DOMAIN 3 Study Guide - E. Employee Expenses and Misc. Deductions
2% Limitation
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Enter the total ordinary and necessary job expenses paid for which the taxpayer was not reimbursed.
An ordinary expense is one that is common and accepted in the taxpayer's field of trade, business, or profession. A necessary expense is one that is helpful and appropriate for the taxpayer's business. An expense does not have to be required to be considered necessary.
NOTE: Amounts the employer included in box 1 of the Form W-2 are not considered reimbursements
Slide379Expenses the Taxpayer Cannot Deduct
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Political contributions.
Legal expenses for personal matters that do not produce taxable income.
Lost or misplaced cash or property.
Expenses for meals during regular or extra work hours.
The cost of entertaining friends.
Commuting expenses. See
Pub. 529
for the definition of commuting.
Travel expenses for employment away from home if that period of employment exceeds 1 year. See
Pub. 529
for an exception for certain federal employees.
Travel as a form of education.
Expenses of attending a seminar, convention, or similar meeting unless it is related to employment.
Club dues.
Fines and penalties.
Expenses of producing tax-exempt income.
Slide380ampleEugene has $5,400 in ordinary and necessary job expenses he paid for which he was not reimbursed. His gross income on line 38 of Form 1040 is $67,800. How much may Eugene deduct?
$67,800 X 0.02 = $1,356 $5,400 - $1,356 = $4,044
Because Eugene can deduct only the part of his employee expenses that exceeds 2% of the amount on Form 1040, line 38, he can deduct a total $4,044.
Slide381Form 2106
The taxpayer must fill in and attach Form 2106 if either of the following applies.
Form 2106
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The taxpayer claims any travel, transportation, meal, or entertainment expenses for their job.
The taxpayer's employer paid the taxpayer for any of the job expenses that the taxpayer would otherwise report on line 21.
If the taxpayer used their own vehicle, are using the standard mileage rate, and (2) above does not apply, the taxpayer may be able to file Form 2106-EZ instead.
Slide382Line 21, Schedule A
If the taxpayer does not have to file Form 2106 or 2106-EZ, list the type and amount of each expense on the dotted line next to line 21 on Schedule A. If more space is needed, attach a statement showing the type and amount of each expense. Enter the total of all these expenses on line 21.
Line 21
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NOTE: Do not include on line 21 any educator expenses the taxpayer deducted on Form 1040, line 23.
Slide383Line 21 ExamplesExamples of other expenses to include on line 21 are:
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Safety equipment, small tools, and supplies needed for the job.
Uniforms required by an employer that are not suitable for ordinary wear.
Protective clothing required in the work, such as hard hats, safety shoes, and glasses.
Physical examinations required by the employer.
Dues to professional organizations and chambers of commerce.
Subscriptions to professional journals.
Fees to employment agencies and other costs to look for a new job in the taxpayer's present occupation, even if the taxpayer does not get a new job.
Certain business use of part of the home.
Certain educational expenses.
NOTE: The taxpayer may be able to take a credit for educational expenses instead of a deduction. See Form 8863 for details.
Slide384Example
Marshall is required to wear protective clothing and provide his own safety equipment for his job as a welder. He is a member of a professional welding organization and pays yearly dues. He does not pay for any travel, transportation, meal, or entertainment expenses for his job. Marshall's employer did not pay him for any of the job expenses that he incurred.
Because Marshall paid for his job expenses, he can deduct them on line 21 of Schedule A. It is not necessary for him to complete Form 2106 because he did not pay for any travel, transportation, meal, or entertainment expenses for his job and because Marshall's employer did not pay him for any job expenses that he incurred
Slide385Miscellaneous Deductions
Casualty and Theft Losses
Complete and attach Form 4684 to figure the amount of loss to enter on line 20 of Schedule A.
DOMAIN 3 Study Guide - E. Employee Expenses and Misc. Deductions
Miscellaneous Deductions
Line 20
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The taxpayer may be able to deduct part or all of each loss caused by theft, vandalism, fire, storm, or similar causes; car, boat, and other accidents; and corrosive drywall. They may also be able to deduct money they had in a financial institution but lost because of the insolvency or bankruptcy of the institution.
Slide386Casualty and Theft Deductions
The taxpayer can deduct personal casualty or theft losses only to the extent that:
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The amount of each separate casualty or theft loss is more than $100, and
The total amount of all losses during the year (reduced by the $100 limit discussed in (1) above) is more than 10% of the amount on Form 1040, line 38.
Use Schedule A, line 23, to deduct the costs of proving that the taxpayer had a property loss. Examples of these costs are appraisal fees and photographs used to establish the amount of the loss
Slide387Corrosive Drywall LossesIf the taxpayer paid for repairs to their personal residence or household appliances because of corrosive drywall that was installed between 2001 and 2008, they may be able to deduct on line 20 those amounts paid. See
Pub. 547
for details.
Slide388Line 22 Tax Preparation FeesEnter on line 22 of Schedule A the fees paid for preparation of the taxpayer's tax return, including fees paid for filing the return electronically. If the taxpayer paid their tax by credit or debit card, include the convenience fee charged on line 23 instead of this line
Slide389Line 23 Other Expenses
Enter on line 23 of Schedule A the total amount paid to produce or collect taxable income and manage or protect property held for earning income. Do not include any personal expenses.
List the type and amount of each expense on the dotted lines next to line 23. If more space is needed, attach a statement showing the type and amount of each expense. Enter one total on line 23
Slide390Line 23 Examples
Examples of expenses to include on line 23 are:
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Certain legal and accounting fees.
Clerical help and office rent.
Custodial (for example, trust account) fees.
The taxpayer's share of the investment expenses of a regulated investment company.
Certain losses on non-federally insured deposits in an insolvent or bankrupt financial institution.
Casualty and theft losses of property used in performing services as an employee from Form 4684, lines 32 and 38b, or Form 4797, line 18a.
Deduction for repayment of amounts under a claim of right if $3,000 or less.
Convenience fee charged by the card processor for paying the taxpayer's income tax (including estimated tax payments) by credit or debit card. The deduction is claimed for the year in which the fee was charged to the card.
Slide391Other Miscellaneous Deductions
Only the expenses listed next can be deducted on line 28 of Schedule A. List the type and amount of each expense on the dotted lines next to line 28. If more space is necessary, attach a statement showing the type and amount of each expense. Enter one total on line 28.
Line 28
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Gambling losses (gambling losses include, but are not limited to, the cost of non-winning bingo, lottery, and raffle tickets), but only to the extent of gambling winnings reported on Form 1040, line 21.
Casualty and theft losses of income-producing property from Form 4684, lines 32 and 38b, or Form 4797, line 18a.
Loss from other activities from Schedule K-1 (Form 1065-B), box 2.
Federal estate tax on income in respect of a decedent.
Amortizable bond premium on bonds acquired before October 23, 1986.
Deduction for repayment of amounts under a claim of right if over $3,000.
Certain unrecovered investment in a pension.
Impairment-related work expenses of a disabled person.
Slide392Example
Nicole has the following expenses to deduct:
Casualty Loss $3,500 (personal or non-income producing property)
Gambling Loss $2,500
Legal and Accounting Fees $750
Tax Preparation Fees $250
Where should Nicole report these losses?
Casualty Loss -- Compute the deductible amount on Form 4684 and report on Line 20, Schedule A
Gambling Loss -- Line 28, Schedule A, but only to the extent of winnings reported
Legal and Accounting Fees -- Line 23, Schedule A, if the fees are associated with producing income
Tax Preparation Fees -- Line 22, Schedule A, if fees were paid to a tax preparer or for e-
filin
Slide393This study guide covers the tests a taxpayer must meet to claim the credit for child and dependent care expenses on line 48 of Form 1040. A discussion of how to figure the credit and how to claim the credit follows, including the use of Form 2441. Further, the Child Tax Credit and Additional Child Tax Credit are explained.
Credits Based on Children
Slide394Child and Dependent Care Expenses
Who Qualifies for the Credit
A taxpayer may be able to take the credit for child and dependent care expenses if the taxpayer paid someone to care for:
The taxpayer's qualifying child under age 13 whom the taxpayer claims as a dependent,
The taxpayer's disabled spouse or any other disabled person who could not care for themselves,
The taxpayer's child who was not claimed as a dependent due to the rules for children of divorced or separated parents. See Domain 1 "Exemptions and Dependents", or the instructions for Form 1040, line 6c for more information.
DOMAIN 3 Study Guide - F. Credits Based on Children
Child and Dependent Care
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The credit can be up to 35% of the taxpayer's expenses. To qualify, the taxpayer must pay these expenses so they can work or look for work
Slide395Tests to Claim the CreditIn order to claim the credit for child and dependent care expenses, form 1040 or 1040A must be filed and the following tests must be met:
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Qualifying Person Test
Earned Income Test
Work-Related Expense Test
Joint Return Test
Provider Identification Test
Slide396Qualifying PersonsChild and dependent care expenses must be for the care of one or more qualifying persons.
A qualifying person is:
DOMAIN 3 Study Guide - F. Credits Based on Children
Qualifying Person Test
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A qualifying child who a dependent of the taxpayer and who was under age 13 when the care was provided
The taxpayer's spouse who was not physically or mentally able to care for himself or herself and lived with the taxpayer for more than half the year
A person who was not physically or mentally able to care for himself or herself, lived with the taxpayer for more than half the year, and either:
Was the taxpayer's dependent, or
Would have been the taxpayer's dependent except that:
He or she received gross income of $3,700 or more,
He or she filed a joint return, or
The taxpayer or spouse if filing jointly, could be claimed as a dependent on another return.
Slide397Qualifying Child Definitions
Dependent.
A dependent is a person, other than the taxpayer or spouse, for whom the taxpayer can claim an exemption. To be a dependent, a person must be the taxpayer's qualifying child (or qualifying relative).
Qualifying child.
To be the taxpayer's qualifying child, a child must live with the taxpayer for more than half the year and meet other requirements, discussed later.
Physically or mentally not able to care for oneself.
Persons who cannot dress, clean, or feed themselves because of physical or mental problems are considered not able to care for themselves. Also, persons who must have constant attention to prevent them from injuring themselves or others are considered not able to care for themselves
Slide398Person Qualifying for Part of Year
Determine a person's qualifying status each day.
For example, if the person for whom child and dependent care expenses were paid no longer qualifies on August 5, count only those expenses through August 4.
In determining whether a person is a qualifying person, a person who was born or died in 2011 is treated as having lived with the taxpayer for all of 2011 if the taxpayer's home was the person's home the entire time he or she was alive in 2011
Slide399Taxpayer ID Numbers
Include on the return the name and taxpayer identification number (generally the social security number) of the qualifying person(s). If the correct information is not shown, the credit may be reduced or disallowed.
Individual taxpayer identification number (ITIN) for aliens.
If the qualifying person is a nonresident or resident alien who does not have and cannot get a social security number (SSN), use that person's ITIN. The ITIN is entered wherever an SSN is requested on a tax return. To apply for an ITIN, see Form W-7.
Adoption taxpayer identification number (ATIN).
If the qualifying person is a child who was placed in in the taxpayer's home for adoption and this child does not have an SSN, an ATIN must be obtained for the child. File Form W-7A, Application for Taxpayer Identification Number for Pending U.S. Adoptions
Slide400Child of Divorced or Separated Parents or Parents Living Apart
Even if the taxpayer cannot claim their child as a dependent, he or she is treated as a qualifying person if:
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The child was under age 13 or was not physically or mentally able to care for himself or herself,
The child received over half of his or her support during the calendar year from one or both parents who are divorced or legally separated under a decree of divorce or separate maintenance, are separated under a written separation agreement, or lived apart at all times during the last 6 months of the calendar year,
The child was in the custody of one or both parents for more than half the year, and
The taxpayer was the child's custodial parent (the parent with whom the child lived for the greater part of 2011).
NOTE: The noncustodial parent cannot treat the child as a qualifying person even if that parent is entitled to claim the child as a dependent under the special rules for a child of divorced or separated parents
Slide401Earned Income Test
To claim the credit, the taxpayer (and spouse if filing jointly) must have earned income during the year.
Earned income.
Earned income includes wages, salaries, tips, other taxable employee compensation, and net earnings from self-employment. A net loss from self-employment reduces earned income. Earned income also includes strike benefits and any disability pay reported as wages.
Generally, only taxable compensation is included. However, nontaxable combat pay can be included in earned income, if elected by the taxpayer. If filing a joint return and both the taxpayer and spouse received nontaxable combat pay, each may make their own election.
Slide402Not Earned Income
Earned income does not include:
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Pensions and annuities,
Social security and railroad retirement benefits,
Workers' compensation,
Interest and dividends,
Unemployment compensation,
Scholarship or fellowship grants, except for those reported on a Form W-2 and paid to the taxpayer for teaching or other services,
Nontaxable workfare payments,
Child support payments received,
Income of nonresident aliens that is not effectively connected with a U.S. trade or business, or
Any amount received for work while an inmate in a penal institution.
Slide403Special Rule for Spouse
A spouse is treated as having earned income for any month that he or she is:
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A full-time student, or
Physically or mentally not able to care for himself or herself. (The spouse also must live with the taxpayer for more than half the year.)
This rule applies to only one spouse for any one month. If, in the same month, both the taxpayer and spouse do not work and are either full-time students or not physically or mentally able to care for themselves, only one can be treated as having earned income in that month.
Full-time student.
A full-time student is a person who is enrolled at a school for the number of hours or classes that the school considers full time. A student must have been a full-time student for some part of each of 5 calendar months during the year. (The months need not be consecutive.)
School.
The term "school" includes high schools, colleges, universities, and technical, trade, and mechanical schools. A school does not include an on-the-job training course, correspondence school, or school offering courses only through the Internet
Slide404Work-Related Expense Test
Work-Related Expenses
Child and dependent care expenses must be work-related to qualify for the credit. Expenses are considered work-related only if both of the following are true.
They allow the taxpayer (and spouse if filing jointly) to work or look for work.
They are for a qualifying person's care.
Slide405Working or Looking for WorkTo be work-related, the expenses must allow the taxpayer to work or look for work. If married, generally both the taxpayer and spouse must work or look for work. A spouse is treated as working during any month he or she is a full-time student or is not physically or mentally able to care for himself or herself.
Work can be for an
emeployer
or in the taxpayer's own business or partnership. It can be either full time or part time. Work also includes actively looking for work. However, if the taxpayer does not find a job and has no earned income for the year this credit cannot be taken.
An expense is not considered work-related merely because it was incurred while working. The purpose of the expense must be to allow the taxpayer to work.
Slide406ExampleAnna pays a babysitter while she goes out to eat with friends. This is not normally a work-related expense.
Anna works during the day. Her husband, Rick, works at night and sleeps during the day. Anna pays for the care of their 3 year old during the hours when she is working and Rick is sleeping. These expenses are considered work-related.
Slide407Special Work Considerations
Volunteer work.
For this purpose, it is not considered work if it is unpaid volunteer work or volunteer work for a nominal salary.
Work for part of year.
If the taxpayer works or actively looks for work during only part of the period covered by the expenses, then figure expenses for each day.
Temporary absence from work.
It is not necessary to figure expenses for each day during a short, temporary absence from work, such as for vacation or a minor illness, if the taxpayer has to pay for care anyway. Instead, figure the credit including the expenses paid for the period of absence.
NOTE: An absence of 2 weeks or less is a short, temporary absence. An absence of more than 2 weeks may be considered a short, temporary absence, depending on the circumstances.
Part-time work.
If the taxpayer works part-time, it is generally necessary to figure expenses for each day. However, if care is paid for weekly, monthly, or in another way that includes both days worked and days not worked, figure the credit including the expenses paid for days the taxpayer did not work. Any day when at least 1 hour is worked is considered a day of work.
Slide408ExampleRita pays a nanny to care for her 4-year-old twins so she can work. Rita became ill and missed 3 months of work but received sick pay. While ill, Rita continued to pay the nanny to care for the children. Her absence is not a short, temporary absence, and therefore Rita's expenses for child care during her illness are not considered work-related.
Slide409Care of a Qualifying Person
To be work-related, expenses must be to provide care for a qualifying person.
It is not necessary to choose the least expensive way of providing care.
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The cost of a paid care provider may be an expense for the care of a qualifying person even if another care provider is available at no cost.
Expenses are for the care of a qualifying person only if their main purpose is the person's well-being and protection.
Expenses for household services qualify if part of the services is for the care of qualifying persons.
Slide410Expenses Not for CareExpenses for care do not include amounts paid for food, lodging, clothing, education, and entertainment. However, small amounts paid for these items can be included if they are incident to and cannot be separated from the cost of caring for the qualifying person.
Slide411Education
Expenses for a child in nursery school, pre-school, or similar programs for children below the level of kindergarten are expenses for care. Expenses to attend kindergarten or a higher grade are not expenses for care. Do not use these expenses to figure the credit.
NOTE: However, expenses for before- or after-school care of a child in kindergarten or a higher grade may be expenses for care. Summer school and tutoring programs are not for care
Slide412Example
Chuck takes his 3-year-old child to a nursery school that provides lunch and educational activities as a part of its preschool childcare service. The lunch and educational activities are incident to the childcare, and their cost cannot be separated from the cost of care. Chuck can count the total cost when he figures the credit.
Judy placed her 10-year-old child in a boarding school so she can work full time. Only the part of the boarding school expense that is for the care of the child is a work-related expense. Judy can count that part of the expense in figuring her credit if it can be separated from the cost of education. She cannot count any part of the amount paid for her child's education.
Slide413Care Outside of Home
Count the cost of care provided outside the home if the care is for a dependent under age 13 or any other qualifying person who regularly spends at least 8 hours each day in the home.
Dependent care center.
Count care provided outside the home by a dependent care center only if the center complies with all state and local regulations that apply to these centers.
A dependent care center is a place that provides care for more than six persons (other than persons who live there) and receives a fee, payment, or grant for providing services for any of those persons, even if the center is not run for profit.
Camp.
The cost of sending a child to an overnight camp is not considered a work-related expense.
NOTE: The cost of sending a child to a day camp may be a work-related expense, even if the camp specializes in a particular activity, such as computers or soccer.
Slide414Other Care Related Expenses
Transportation.
If a care provider takes a qualifying person to or from a place where care is provided, that transportation is for the care of the qualifying person. This includes transportation by bus, subway, taxi, or private car.
However, transportation not provided by a care provider is not for the care of a qualifying person. If the taxpayer pays the transportation cost for the care provider to come to their home, that expense is not for care of a qualifying person.
Fees and deposits.
Fees paid to an agency to get the services of a care provider, deposits paid to an agency or pre-school, application fees, and other indirect expenses are work-related expenses if the taxpayer has to pay them to get care, even though they are not directly for care. However, a forfeited deposit is not for the care of a qualifying person if care is not provided.
Slide415ExampleDonna paid a fee to an agency to get the services of the nanny who cares for her 2-year-old daughter while she worked. The fee Donna paid is a work-related expense.
Tony placed a deposit with a pre-school to reserve a place for his 4-year-old daughter. Tony later sent his child to a different pre-school and forfeited the deposit. The forfeited deposit is not for care and so is not a work-related expense.
Slide416Household Services
Expenses paid for household services meet the work-related expense test if they are at least partly for the well-being and protection of a qualifying person.
Household services are ordinary and usual services done in and around the home that are necessary to run a home. They include the services of a housekeeper, maid, or cook. However, they do not include the services of a chauffeur, bartender, or gardener. See Household Services in
Publication 503
for more information.
Taxes paid on wages. The taxes paid on wages for qualifying child and dependent care services are work-related expenses.
Slide417Payments to Relatives or Dependents
Count work-related payments made to relatives who are not the taxpayer's dependents, even if they live in the taxpayer's home. However, do not count any amounts paid to:
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A dependent for whom the taxpayer (or spouse if filing jointly) can claim an exemption,
The taxpayer's child who was under age 19 at the end of the year, even if he or she is not the taxpayer's dependent,
A person who was the taxpayer's spouse any time during the year, or
The parent of the taxpayer's qualifying person if that qualifying person is the taxpayer's child and under age 13.
Slide418Joint Return Test
Generally, married couples must file a joint return to take the credit. However, if the taxpayer is legally separated or living apart from their spouse, they might be able to file a separate return and still take the credit.
Legally separated.
A taxpayer is not considered married if legally separated from their spouse under a decree of divorce or separate maintenance. The taxpayer may be eligible to take the credit on their return using Head of Household filing status.
Married and living apart.
A taxpayer is not considered married and is eligible to take the credit if all the following apply:
DOMAIN 3 Study Guide - F. Credits Based on Children
Joint Return Test
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A return is filed separate from the spouse.
The taxpayer's home is the home of a qualifying person for more than half the year.
More than half the cost of keeping up the home for the year is paid by the taxpayer.
The spouse does not live in the home of the taxpayer for the last 6 months of the year.
Slide419Costs of Keeping Up a HomeThe costs of keeping up a home normally include property taxes, mortgage interest, rent, utility charges, home repairs, insurance on the home, and food eaten at home.
The costs of keeping up a home do not include payments for clothing, education, medical treatment, vacations, life insurance, transportation, or mortgage principal. Also do not include the purchase, permanent improvement, or replacement of property.
Slide420Death of Spouse
If the taxpayer's spouse died during the year and the taxpayer does not remarry before the end of the year, generally a joint return must be filed to take the credit.
If the taxpayer remarries before the end of the year, the credit can be claimed on the deceased spouse's return
Slide421Provider Identification Test
Identify all persons or organizations that provide care for the child or dependent. Use Form 2441, Part I to show the information.
To identify the care provider, give the provider's:
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Name,
Address, and
Taxpayer identification number.
If the care provider is an individual, the taxpayer identification number is his or her social security number or individual taxpayer identification number. If the care provider is an organization, then it is the employer identification number (EIN).
It is not necessary to show the taxpayer identification number if the care provider is a tax-exempt organization (such as a church or school). In this case, enter "Tax-Exempt" in the space where the tax form calls for the number.
Slide422Missing Provider Identification
If the taxpayer cannot provide all of the information or if the information is incorrect, use due diligence (discussed later) in trying to furnish the necessary information.
Use Form W-10 to request the required information from the care provider. If Form W-10 is not used, get the information from one of the other sources listed in the instructions for Form W-10 including:
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A copy of the provider's social security card,
A copy of the provider's completed Form W-4 if he or she is the taxpayer's household employee,
A copy of the statement furnished by the taxpayer's employer if the provider is the employer's dependent care plan, or
A letter or invoice from the provider if it shows the information.
Slide423Due Diligence
If the care provider information given is incorrect or incomplete, the credit may not be allowed. However, if it is shown that due diligence was used in trying to supply the information the credit can still be claimed.
To show due diligence, obtain and keep the provider's completed Form W-10 or one of the other sources of information listed earlier. Care providers can be penalized if they do not provide this information to taxpayers or if they provide incorrect information
Slide424Provider Refusal
If the provider refuses to give their identifying information, report whatever information the taxpayer has (such as the name and address) on the form used to claim the credit. Enter "See Attached Statement" in the columns calling for the information that is absent. Then attach a statement explaining that the information was requested from the care provider, but the provider did not provide the information. Be sure to write the taxpayer's name and social security number on this statement. The statement will show due diligence in trying to furnish the necessary information.
Slide425Figuring the Credit
The credit is a percentage of work-related expenses. Expenses are subject to the earned income limit and the dollar limit. The percentage is based on adjusted gross income.
To figure the credit for 2011 work-related expenses, count only those paid by December 31, 2011.
Expenses prepaid in an earlier year.
If services are paid for before they are provided, count the prepaid expenses only in the year the care is received. Claim the expenses for the later year as if they were actually paid in that later year.
Expenses not paid until the following year.
Do not count 2010 expenses that were paid in 2011 as work-related expenses for 2011. The taxpayer may be able to claim an additional credit for them on their 2011 return, but this must be figured separately. See Payments for previous year's expenses under Amount of Credit in
Publication 503
.
NOTE: If the taxpayer had expenses in 2011 that were not paid until 2012, do not count them when figuring the 2011 credit. These expenses may be eligible for an additional credit for the taxpayer's 2012 return.
Slide426Expenses ReimbursedIf a state social services agency pays the taxpayer a nontaxable amount to reimburse for some of the child and dependent care expenses paid, do not count the expenses that are reimbursed as work-related expenses.
Slide427Medical Expenses
Some expenses for the care of qualifying persons who are not able to care for themselves may qualify as work-related expenses and also as medical expenses. The taxpayer can use them either way, but do not use the same expenses to claim both a credit and a medical expense deduction.
If the taxpayer uses these expenses to figure the credit and they are more than the earned income limit or the dollar limit, add the excess to medical expenses. However, if using total expenses to figure the medical expense deduction, do not use any part of them to figure the credit.
NOTE: Amounts excluded from the taxpayer's income under an employer's dependent care benefits plan cannot be used to claim a medical expense deduction.
Slide428Dependent Care Benefits
If the taxpayer received dependent care benefits, the dollar limit for purposes of the credit may be reduced.
Dependent care benefits include:
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Amounts an employer paid directly to either the taxpayer or the care provider for the care of the taxpayer's qualifying person while the taxpayer is at work,
The fair market value of care in a daycare facility provided or sponsored by the employer, and
Pre-tax contributions the taxpayer made under a dependent care flexible spending arrangement.
The taxpayer's salary may have been reduced to pay for these benefits. If benefits are received as an employee, they should be shown in box 10 of Form W-2. Benefits received as a partner should be shown in box 13 of Schedule K-1 (Form 1065) with code O. Enter the amount of these benefits on Form 2441, Part III, line 12.
Slide429Exclusion or Deduction
If the employer provides dependent care benefits under a qualified plan, the taxpayer may be able to exclude these benefits from income. To claim the exclusion, complete Part III of Form 2441.
If dependent care benefits are excluded from income, the amount of the excluded benefits:
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Is not included in work-related expenses, and
Reduces the dollar limit, discussed later.
NOTE: Form 1040EZ cannot be used if the exclusion is claimed.
Slide430Self-Employed Dependent Care Benefits
If the taxpayer is self-employed and receives benefits from a qualified dependent care benefit plan, they are treated as both employer and employee. Therefore, the taxpayer would not get an exclusion from wages.
Instead, the taxpayer would get a deduction on Form 1040, Schedule C, line 14; Schedule E, line 19 or 28; or Schedule F, line 15. To claim the deduction, use Form 2441. The amount that can be excluded or deducted is limited to the smallest of:
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The total amount of dependent care benefits received during the year,
The total amount of qualified expenses incurred during the year,
The taxpayer's earned income,
The spouse's earned income, or
$5,000 ($2,500 if married filing separately).
Slide431Statement for Employee
The employer must provide a Form W-2 (or similar statement) showing in box 10 the total amount of dependent care benefits provided to the taxpayer during the year under a qualified plan. The employer will also include any dependent care benefits over $5,000 in wages shown on Form W-2 in box 10.
Slide432Earned Income LimitThe amount of work-related expenses used to figure the credit cannot be more than:
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The taxpayer's earned income for the year if single at the end of the year, or
The smaller of the taxpayer's or spouse's earned income for the year if married at the end of the year.
NOTE: For purposes of item two above, use the spouse's earned income for the entire year, even if married for only part of the year.
Slide433Spouse Circumstances
Separated spouse.
If legally separated or married and living apart from their spouse, the taxpayer is not considered married for purposes of the earned income limit. Use only the taxpayer's income in figuring the earned income limit.
Surviving spouse.
If the taxpayer's spouse died during the year and they file a joint return as a surviving spouse, they may, but are not required to, take into account the earned income of the spouse who died during the year.
Community property laws.
Disregard community property laws when figuring earned income for this
credi
Slide434Student-Spouse or Spouse not able to Care for Self
A spouse who is either a full-time student or not able to care for himself or herself is treated as having earned income. His or her earned income for each month is considered to be at least $250 if there is one qualifying person in the home, or at least $500 if there are two or more.
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Spouse works.
If the spouse works during a month, use the higher of $250 (or $500) or his or her actual earned income for that month.
Spouse qualifies for part of month.
If the spouse is a full-time student or not able to care for himself or herself for only part of a month, the full $250 (or $500) still applies for that month.
Both spouses qualify.
If, in the same month, both the taxpayer and spouse are either full-time students or not able to care for themselves, only one spouse can be considered to have this earned income of $250 (or $500) for that month.
Slide435Dollar Limit
There is a dollar limit on the amount of work-related expenses that can be used to figure the credit. The dollar limit is a yearly limit. The amount of the dollar limit remains the same no matter how long, during the year, the taxpayer has a qualifying person in their household.
Use the $3,000 limit if work-related expenses were paid for the care of one qualifying person at any time during the year.
Use $6,000 if work-related expenses were paid for the care of more than one qualifying person at any time during the year.
NOTE: If work-related expenses were paid for the care of two or more qualifying persons, the $6,000 limit does not need to be divided equally among them
Slide436Reduced Dollar LimitIf dependent care benefits were received that were excluded or deducted from income, subtract that amount from the dollar limit that applies to the taxpayer. The reduced dollar limit is figured on Form 2441, Part III.
Slide437Amount of Credit
To determine the amount of the credit, multiply work-related expenses (after applying the earned income and dollar limits) by a percentage. This percentage depends on the taxpayer's adjusted gross income shown on Form 1040, line 38, or Form 1040A, line 22. The following table shows the percentage to use based on adjusted gross income.
Slide438How to Claim the Credit
To claim the credit, file Form 1040 or Form 1040A. The credit cannot be claimed on Form 1040EZ.
Form 1040 or 1040A.
Complete Form 2441 and attach it to Form 1040 or 1040A. Enter the credit on Form 1040, line 48, or Form 1040A, line 29.
Limit on credit.
The amount of credit that can be claimed is generally limited to the amount of tax. For more information, see the Instructions for Form 2441.
NOTE
: This credit is not refundable - the taxpayer cannot get a refund for any part of the credit that is more than this limit.
Slide439ExampleThe following example provided by the IRS in
Pub. 17
shows how to figure the credit for child and dependent care expenses for two children when employer-provided dependent care benefits are involved.
Slide440Employment Taxes for Household Employers If someone is paid to come to the taxpayer's home and care for the taxpayer's dependent or spouse, then the taxpayer may be a household employer. If a household employer, an employer identification number (EIN) is needed and employment taxes may have to be paid.
If the individuals who work in the taxpayer's home are self-employed, the taxpayer is not liable for any of the taxes discussed in this section. Self-employed persons who are in business for themselves are not household employees. Usually, a taxpayer is not a household employer if the person who cares for their dependent or spouse does so at his or her home or place of business.
If a placement agency is used that exercises control over what work is done and how it will be done by a babysitter or companion who works in the taxpayer's home, the worker is not the taxpayer's employee. This control could include providing rules of conduct and appearance and requiring regular reports. In this case, the taxpayer does not have to pay employment taxes.
Slide441Taxes for Household Employees
If the taxpayer has a household employee, they may be subject to:
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Social security and Medicare taxes,
Federal unemployment tax, and
Federal income tax withholding.
Social security and Medicare taxes are generally withheld from the employee's pay and matched by the employer. Federal unemployment (FUTA) tax is paid by the employer only and provides for payments of unemployment compensation to workers who have lost their jobs. Federal income tax is withheld from the employee's total pay if the employee asks the employer to do so and the employer agrees.
NOTE: The taxpayer may also have to pay state unemployment tax. A list of state employment tax agencies, including addresses and phone numbers, is in
Publication 926
.
Slide442Child Tax Credit
The child tax credit is a credit that may reduce tax by as much as $1,000 for each qualifying child. The additional child tax credit is a credit the taxpayer may be able to take if unable to claim the full amount of the child tax credit.
Credits, such as the child tax credit or the credit for child and dependent care expenses, are used to reduce tax. If the tax on Form 1040, line 46, or Form 1040A, line 28, is zero, do not figure the child tax credit because there is no tax to reduce. However, the taxpayer may qualify for the additional child tax credit on line 65 (Form 1040) or line 39 (Form 1040A).
Slide443Qualifying Child
A qualifying child for purposes of the child tax credit is a child who:
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Is the taxpayer's son, daughter, stepchild, foster child, brother, sister, stepbrother, stepsister, or a descendant of any of them (for example, grandchild, niece, or nephew),
Was under age 17 at the end of 2011,
Did not provide over half of his or her own support for 2011,
Lived with the taxpayer for more than half of 2011,
Is claimed as a dependent on the taxpayer's return,
Does not file a joint return for the year (or files it only as a claim for refund), and
Was a U.S. citizen, a U.S. national, or a resident of the United States
For each qualifying child, check the box on Form 1040 or Form 1040A, line 6c, column (4)
Slide444ExampleTammy's son turned 17 on December 1, 2011. He is a citizen of the United States and Tammy claimed him as a dependent on her return. He is not a qualifying child for the child tax credit because he was not under age 17 at the end of 2011.
Slide445Qualifying Child Circumstances
Adopted child.
An adopted child is always treated as the taxpayers own child. An adopted child includes a child lawfully placed with the taxpayer for legal adoption. If the taxpayer is a U.S. citizen or U.S. national and the adopted child lived with them all year as a member of the household in 2011, that child meets condition (7) to be a qualifying child for the child tax credit.
Exceptions to time lived with the taxpayer.
A child is considered to have lived with the taxpayer for all of 2011 if the child was born or died in 2011 and the taxpayer's home was this child's home for the entire time he or she was alive. Temporary absences by the taxpayer or the child for special circumstances, such as for school, vacation, business, medical care, military service, or detention in a juvenile facility, count as time the child lived with the taxpayer
Slide446Child Tax Credit Amount
The maximum amount that can be claimed for the credit is $1,000 for each qualifying child. Certain limits on the credit apply. Reduce the child tax credit if either of the following applies:
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The amount on line 46, Form 1040, or line 28, Form 1040A, is less than the credit. If this amount is zero, do not take this credit because there is no tax to reduce.
Modified adjusted gross income (AGI) is above the amount shown below for the taxpayer's filing status:
Married filing jointly - $110,000.
Single, head of household, or qualifying widow(
er
) - $75,000.
Married filing separately - $55,000.
Slide447Modified AGI
For purposes of the child tax credit, modified AGI is AGI plus the following amounts that may apply to the taxpayer:
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Any amount excluded from income because of the exclusion of income from Puerto Rico. On the dotted line next to Form 1040, line 38, enter the amount excluded and identify it as "EPRI." Also attach a copy of any Form(s) 499R-2/ W-2PR to the return.
Any amount on line 45 or line 50 of Form 2555, Foreign Earned Income.
Any amount on line 18 of Form 2555-EZ, Foreign Earned Income Exclusion.
Any amount on line 15 of Form 4563, Exclusion of Income for Bona Fide Residents of American Samoa.
If the taxpayer does not have any of the above, then modified AGI is the same as AGI.
NOTE: AGI is the amount on Form 1040, line 38, or Form 1040A, line 22.
Slide448Claiming the Credit
To claim the child tax credit, file Form 1040 or Form 1040A. The child tax credit cannot be claimed on Form 1040EZ. Provide the name and identification number (usually a social security number) on the tax return for each qualifying child.
If filing Form 1040, answer the questions in the form instructions for line 51, Form 1040, to find out which child tax credit worksheet to use to figure the credit.
If the answer is "Yes" to question 1 or 2 in the Form 1040 instructions, complete the child tax credit worksheet in
Publication 972
. Otherwise, use the Child Tax Credit Worksheet in the Form 1040 or Form 1040A instructions.
Slide449Additional Child Tax CreditThis credit is for certain individuals who get less than the full amount of the child tax credit. The additional child tax credit may give a refund even if the taxpayer does not owe any tax.
To claim the additional child tax credit, follow the steps below.
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Make sure to figure the amount, if any, of child tax credit.
If the answer was "Yes" on line 9 or line 10 of the Child Tax Credit Worksheet in the Form 1040 or Form 1040A instructions, or line 13 of the Child Tax Credit Worksheet in
Publication 972
, use Form 8812 to see if the additional child tax credit can be taken.
If there is an additional child tax credit on line 13 of Form 8812, carry it to Form 1040, line 65, or Form 1040A, line 39.
Slide450