Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard...

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Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Transcript of Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard...

Page 1: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Chapter 4 Income- Exclusions

Howard Godfrey, Ph.D., CPAUNC Charlotte

Copyright © 2013, Dr. Howard GodfreyEdited August 10, 2013.

Page 2: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

1. Introduction2. Donative Items Gifts, Inheritances, Life insurance proceeds, Scholarships

3. Employment related income Foreign earned income, Payments made by employer [fringes], Employee benefit plans.

4. Returns of Human Capital Workers comp., Damages for injury, Payments from health and accident plans.

5. Investment related Exclusions Municipal bond interest, Stock dividends, Discharge of debt, Improvements by lease.

Page 3: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Introduction Human CapitalDonative Items Workers' CompensationGifts Damages for InjuryInheritances Health & AccidentLife Insurance Investments

Scholarships Municipal Bond InterestWork-Related Stock DividendsForeign-Earnings Discharge of DebtPayment by employer Improvement by LesseeEmployee Benefit Plan Summary

4. Income: Exclusions

Page 4: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Donative ItemsGiftsInheritancesLife InsuranceScholarships

Page 5: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Exclusions• Gifts• Inheritances• Life Insurance

–Proceeds received are tax-free but any interest income on proceeds is taxable

–Inside buildup (increase in cash surrender value) is not taxable income unless policy is liquidated for more than premiums paid

Page 6: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

GiftsMickey was given 2 tickets to

the World Series by a friend. Mickey sold the tickets for

$500 each. What is the tax impact of

these events?

Page 7: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Death PaymentsBob, a manager for Petros Pizza (PP), dies in an

accident on July 12. PP pays his wife, Penelope, $600 in salary that had accrued before Bob died. Bob was covered by a $90,000 group term life insurance policy, which is also paid to Penelope. In addition, the board of directors of PP authorizes payment of $6,000 to Penelope and $4,000 to their child in recognition of Bob's years of loyal service to the company.

What are the tax consequences of the payments to Penelope and her child?

Page 8: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Death PaymentsPenelope has $6,600 ($600 + $6,000) of

gross income. Death benefit payments are fully taxable.

Penelope must include in income the $6,000 she receives from PPP due to Bob’s loyal service and the $600 salary Bob earned prior to his death.

The receipt of the $90,000 life insurance proceeds is excluded.

Her daughter must include in income the $4,000 she receives from PPP.

Page 9: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Life Insurance-1Allison dies during the current year. She

is covered by a $1,000,000 life insurance policy payable to her husband Bob. Bob elects to receive the policy proceeds in 10 annual installments of $120,000. Explain the tax consequences of the receipt of each installment.

Page 10: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Life Insurance-2Life insurance proceeds are excluded from tax. The

$1,000,000 face value of the policy is excluded as it is received. The earnings on the policy during the time it is held by the insurance company are not excludable.

The total interest earned is $200,000 [($120,000 x 10) - $1,000,000].

As each payment on the policy is received, Bob will exclude $100,000 ($1,000,000 ÷ 10) and include $20,000 ($200,000 ÷ 10) in gross income.

Page 11: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Scholarships-1. • Qualified scholarships are excluded

from gross income–“Scholarship” includes only tuition,

fees, books, supplies, equipment, and related expenses required for courses

–Amounts designated or spent for room, board, and laundry are included in income and are taxable

Page 12: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Scholarships-2 • Any grant received in return for past,

present, or future services must be included in gross income– Funds received by students in return for

teaching or research services are taxable• When taxable portion cannot be

determined until end of academic year, taxable income can be deferred until the taxable year in which the academic year ends

Page 13: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Al is college degree candidate-1. He received from a local foundation.Amount of scholarship: $3,000Al borrowed on a student loan: 1,500He paid these expenses:

Tuition 2,000Books 500Room and board 2,000

How much of the $3,000 scholarship should Al report as income? a. $500 b. $-0- c. $3,000 d. $1,000

Page 14: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Al is college degree candidate-2. He received from a local foundation.Amount of scholarship: $3,000Al borrowed on a student loan: 1,500He paid these expenses:

Tuition 2,000Books 500Room and board 2,000

How much of the $3,000 scholarship should Al report as income? a. $500 b. $-0- c. $3,000 d. $1,000

Page 15: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Employee Exclusions

Foreign-Earned Income

Fringe Benefits

Employer Benefit Plans

Page 16: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Foreign Earned IncomeForeign Earned Income may be excluded to

relieve double taxation.Taxpayers may choose one of two options:– Exclude up to $97,600 (2013) of foreign

earned income• Must be a resident of the foreign country, or• Must reside in the foreign country for 330 days

– Claim a tax credit that is the lesser of• Foreign taxes paid, or• U.S. tax that would have been paid on the

foreign income

Page 17: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Foreign Earned Income-1

Joan (single) works for Big Oil, Inc. In all of 2011, she is stationed in West Africa. She pays West African taxes of $19,000 on her Big Oil salary of $88,000. Her taxable income without considering her salary from Big is $36,000. How should Joan treat the salary from Big Oil on her 2011 U.S. tax return?

Page 18: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Foreign Earned Income-2

Because Joan worked in West Africa for the entire year, she can exclude the $88,000 salary from her income (less than $91,400) or include the entire salary in her income and taking a foreign tax credit for West African taxes she paid (the foreign tax credit cannot exceed the U.S. tax that would have been paid on her West African income).

Page 19: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Foreign Earned Income-3If Joan elects the exclusion option, her taxable

income will be $36,000 ($88,000 - $88,000 + $36,000). The exclusion cannot exceed her salary. The tax on the $36,000 is the difference between the tax on the taxable income without the exclusion ($124,000) and the tax on the excluded amount ($88,000). Under the foreign tax credit option, taxable income will be $124,000 ($88,000 + $36,000).

Page 20: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Taxable income - in U.S. $36,000Foreign Salary 88,000Total Taxable Income $124,000Tax Year-2011 Base Rate TaxTop layer $83,600 $17,025Excess 40,400 28% 11,312 Total $124,000 28,337

Taxable income - in U.S. $0Foreign Salary 88,000Total Taxable Income $88,000

Base Rate TaxTop layer $83,600 $17,025Excess 4,400 28% 1,232 Total $88,000 $18,257Difference-Tax on $36,000 $10,080

Page 21: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Taxable income - in U.S. $36,000Foreign Salary 88,000Total Taxable Income $124,000

Base Rate TaxTop layer $83,600 $17,025Excess 40,400 28% 11,312 Total $124,000 28,337

Tax CreditTotal tax from above $28,337Less tax paid to West Africa (19,000)Net U.S. Tax $9,337Compare with $10,080. Save $743

Page 22: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Foreign Earned Income-5The foreign tax credit cannot exceed the

amount of U.S. tax that would have been paid on the West African income. In this case, the U.S. tax on her West African income is $20,110 and Joan is allowed a foreign tax credit for the $18,000 of actual taxes paid:

$27,337 x ($88,000 $124,000) = $20,110

Page 23: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

70,00080,00090,000

100,000

Tax Rates

10,000

60,00050,00040,00030,00020,000 15%

25%

28%

$88,000

18,000

Page 24: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Taxpayers Subject to U.S. Tax • U.S. citizens, resident aliens, and U.S.

corporations are subject to U.S. tax on their worldwide income

• Resident alien – individual who is not a U.S. citizen who has a legal residence in U.S. established through– Green card or– Substantial presence test (183 days)

• Nonresident alien – individual who is not U.S. citizen and does not satisfy test to be resident alien

Page 25: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Fringe BenefitsPayments made on behalf of an employee

are excluded as an incentive to employers to provide these benefits.

Examples of excluded payments are:–Contributions to qualified pension plans–Premiums for group term life insurance–Premiums for health & accident insurance–Meals and lodging–Fringe benefits

Page 26: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Pension PlanJill works for Close Corp. for 24 years. Close

has a qualified, noncontributory pension plan that pays employees with more than 5 years of service $100 per month per year of service when they reach age 65. Jill turns 65 in February of this year and retires in June. Payments from Close's plan begin in July. How much is Jill’s gross income from pension payments?

All payments to Jill are included in income

Page 27: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Group Term Life InsuranceBear Co. provides all its employees with a

$10,000 group-term life insurance policy. Elk Co. does not provide life insurance but pays $10,000 to survivors of employees who die. Jackie, an employee of Bear Co.

Rosetta, an employee of Elk Company.Both die during the current year. What are the tax effects of the $10,000

payments received by beneficiaries?Only the insurance benefits are excluded.

Page 28: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Health and Accident Insurance -1Abe is an employee of Hand, Inc. Hand provides

basic health and accident insurance to all its employees through a contract with an insurance company. Because the Minor policy does not cover 100% of medical costs, Hand provides all executive officers with a self-insured plan to pay any medical costs not covered by Minor's policy. Abe is eligible for both plans. During the current year, premiums on the Minor policy for Abe were $1,450. Abe is reimbursed for $1,900 of his medical costs from the self-insured plan. What is the treatment?

One amount is income – which one?

Page 29: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Health and Accident Insurance-2Because all employee's are covered by the policy,

the premiums paid on the Minor policy are excludible.

Self-insured medical reimbursement plans are also excludible if they do not discriminate in favor of highly compensated employees.

In this case, it would appear that only highly compensated employees (executive officers) receive benefits from the plan and Abe would, therefore, be taxed on the $1,900 of reimbursements received from the plan.

Page 30: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Payments Made by EmployerFor Meals and Lodging

• The value of meals provided by the employer are excluded from income if the meals are provided– on the employer’s premises– for the employer’s convenience

• The value of lodging provided is excluded if these conditions are met - and also be a condition of employment. (Must use the lodging)

Page 31: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Payments Made by EmployerGeneral Fringe Benefits

• Two types of fringe benefits are excludable from income if they are provided on a nondiscriminatory basis:–No additional cost services–Employee discounts

• on goods, are limited to the gross profit %• on services, are limited to 20%

–Qualified retirement planning service

Page 32: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Payments Made by EmployerGeneral Fringe Benefits

• Other types of fringe benefits are excludable from income even if they are provided on a discriminatory basis:– Working condition– De minimus– Child and dependent care services up to

$5,000 – Educational assistance programs up to

$5,250– Employer’s athletic facility on premises

Page 33: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Meals and LodgingAdam works during the summer as a fire

watcher for the Oregon forest service. He spends 3 weeks in the woods in a forest service watchtower and then gets a week off. Because of the remoteness of the location, groceries are flown in by helicopter to Adam each week. Does Adam have any taxable income from this arrangement? Explain. Yes

Page 34: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Fringe Benefits

Jim is an employee of Fast Tax Prep, Inc. All employees of Fast Tax Prep are eligible for a 50% discount on the preparation of their income tax return. Jim's tax return preparation would normally have cost $300, but he paid only $150 because of the discount. Is this tax-free?

Page 35: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Health Savings Accounts provide incentive for employers and employees to purchase adequate medical coverageMay be established for individuals

covered only by high-deductible plans• $2,400 for family or $1,200 for single

Employer contributions are excluded from income and individual contributions are deductible for AGI

Page 36: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Returns of Human Capital

Workers' Compensation

Damages for Injury

Health & Accid. Policies

Page 37: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Accident & Health Insurance-1. • Accident & health insurance

proceeds from are tax-free to extent they pay qualified medical or dental expenses; excess benefits taxable if employer provided policy

Page 38: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Accident & Health Insurance-2 • Disability insurance—substitute

for lost pay–If premiums for disability insurance

paid by employer, then benefits received are taxable

–If premiums paid by employee, exception allows benefits to be tax free

Page 39: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Investment ... Exclusions

Municipal Bond Interest

Stock Dividends

Discharge of debt

Improvements by Lessee

Page 40: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Municipal Bond Interest-1

Sue owns $100,000, 6% City of Concord bonds that pay interest of $3,000 on June 30 & Dec. 31. Sue is in the 20% marginal tax bracket. What rate is needed on a taxable bond to provide the same after-tax return?

Page 41: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Equivalent taxable rateMunicipal Rate 6%

Income tax rate 20.00%

1-Income tax rate 80.00%

Taxable Rate 7.500%

Municipal Bond Interest -2

Page 42: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Interest Income. • Interest income from savings accounts,

certificates of deposit, corporate bonds, and Treasury bills is included in gross income

• Interest on state and local (municipal) bonds is excluded from gross income– High income taxpayers may have a higher

after-tax return on municipal bonds than taxable bonds offering a higher interest tax

– Gain on the sale of tax-exempt securities must be included gross income

Page 43: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

John, single, received interest income of:Source Amount Return

Cert. of deposit (reinvested) $6,000

Savings account 4,000

City of Charlotte bond 8,000

Mortgage note 12,000

Mecklenburg County bond 7,000

General Motors Inc. bond 3,000

Total $40,000

What is the amount of taxable interest income?

a. $40,000 b. $25,000 c. $19,000 d. $33,000

Page 44: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

John, single, received interest income of:Source Amount Return

Cert. of deposit (reinvested) $6,000 $6,000

Savings account 4,000 4,000

City of Charlotte bond 8,000

Mortgage note 12,000 12,000

Mecklenburg County bond 7,000

General Motors Inc. bond 3,000 3,000

Total $40,000 $25,000

What is the amount of taxable interest income?

a. $40,000 b. $25,000 c. $19,000 d. $33,000

Page 45: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Municipal Bonds. CARL-1. Carl paid $40,000 to the City of Hollywood for general revenue bonds. During the current year, he receives $2,300 interest income from the bonds. Market interest rates drop causing the value of the bonds to increase so Carl sells the bonds for $43,000. How much gross income must Carl report for the year?

Page 46: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Municipal Bonds. CARL-2.

Carl recognizes gain of $3,000 ($43,000 - $40,000) on the sale of the stock.

The interest is nontaxable because these are municipal bonds.

Page 47: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Nontaxable Bonds- Jessica-1

Jessica has $10,000 invested in corporate bonds with a stated interest rate of 8 percent and $10,000 in tax-exempt municipal bonds issued for governmental activities with a stated interest rate of 6 percent. Calculate her after-tax cash flow from each investment if:

a. Her marginal tax rate is 35 percent. b. Her marginal tax rate is 15 percent.

Page 48: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Jessica-2 Mun. Corp. Bonds Bonds

Investment $10,000 $10,000Interest rate 6% 6%

8% 8%$600 $800

Tax rate 35%After-tax 100%After-tax 35% 65%After-tax income $600 $520

Page 49: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Jessica-3 Mun. Corp. Bonds Bonds

Investment $10,000 $10,000Interest rate 6% 6%

8% 8%$600 $800

Tax rate 15%After-tax 100%After-tax 15% 85%After-tax income $600 $680

Page 50: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Stock Dividends • Stock dividends are distributions of a

corporation’s own stock to its shareholder (stock splits)

• Usually stock dividends are not taxable to the shareholder (unless shareholder has option of receiving cash)

• Shareholders simply own a greater number of shares and the basis in their original holdings is divided among all shares of stock now held

Page 51: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Stock Dividend. The Board of Directors of CYZ Corp. votes to issue two shares of stock for each share held as a stock dividend to shareholders.

Before the dividend, Cheryl owns 100 shares of CYZ Corp. stock that she purchased for $10 per share.

She receives 200 new shares as a result of the dividend.

How much gross income does Cheryl report as a result of the dividend and what is her stock basis after the dividend?

Page 52: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Stock Dividend.

Cheryl recognizes no income from the receipt of the stock dividend.

She will spread the basis of the original 100 shares over the new total of 300 shares.

Each of the 300 shares will now have a basis of $3.33 [(100 x $10)/300].

Page 53: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

20032005

2010

Basis of 100 Shares 1,650.00$ Basis per share of 100 shares

Basis per share of 110 shares

Basis per share of 220 shares

for each 10 common shares owned.ABC had 2 for 1 split of common stock when FMV was $30 per share.

Stock Dividends and Stock SplitsMs. K bought 100 ABC shares for $1,650.ABC declared stock dividendof 1 share of common stock

Page 54: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

20032005

2010 ABC had 2 for 1 split of common stock

Basis of 100 Shares $1,650.00Basis per share of 100 shares $16.50Basis per share of 110 shares $15.00Basis per share of 220 shares $7.50

for each 10 common shares owned.

when FMV was $30 per share.

Stock Dividends and Stock SplitsMs. K bought 100 ABC shares for $1,650.ABC declared stock dividendof 1 share of common stock

Page 55: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Government Transfer Payments.

Need-based payments, such as welfare payments, school lunches & food stamps, are excluded from income.

Page 56: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Discharge of Debt.If a legal obligation is satisfied for less

than the outstanding debt, the amount of debt forgiven represents an increase in the taxpayer’s wealth and is subject to taxation–Exceptions are provided for debtors

who are bankrupt or insolvent

Page 57: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Cancellation of Debt. Markum Corporation owes a creditor $60,000. Markum transfers property to the creditor to satisfy the debt. Markum purchased the property four years ago for $45,000 and it is currently worth $60,000. Does Markum have any gross income as a result of this transaction?

Page 58: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Cancellation of Debt.

Markum must recognize a $15,000 ($60,000 - $45,000) taxable gain on the transfer of the property as if it had sold the property for $60,000 and used the proceeds to pay the debt.

Page 59: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

Other Exclusions-1• Improvements made on leased

property are excluded from landlord’s income unless improvements made in lieu of paying rent. (Make-over cases)

• Fringe benefits discussed in next chapter

Page 60: Chapter 4 Income- Exclusions Howard Godfrey, Ph.D., CPA UNC Charlotte Copyright © 2013, Dr. Howard Godfrey Edited August 10, 2013.

End