Tax Rules for Individuals and Businesses: Key Concepts

Chapter 8: Individual Taxation

The Marriage Penalty occurs when a couple's tax liability is greater when filing married jointly than if both had filed under single status.

The Kiddie Tax applies to a child if:

1. They are ≤18 years old at year-end,
2. They are 18 at year-end but earned income ≤ half of their support, or
3. They are 18 ≤ age ≤ 24, a full-time student, and earned income ≤ half of their support.

If the Kiddie Tax applies, net unearned income (NUI) can be taxed at their parent's marginal tax rate. NUI is income in excess of $2,100.

Alternative Minimum Tax (AMT) is often caused by high capital gains, multiple children, and high state taxes. After multiplying the AMT base by the AMT rate, subtract the regular tax liability from this amount. The excess is the AMT.

FICA/Social Security (SS): The FICA employee Social Security tax is 6.2%, with a maximum base of $127,200. The employee Medicare tax is 1.45% up to $200,000 (single) or $250,000 (married filing jointly), and 2.35% on income ≥ $200,000 (single) or $250,000 (married filing jointly).

Self-Employment Tax: Calculate net income from self-employment and multiply by 92.35%. This is the remainder after deductions for FICA. The Social Security tax is 12.4% multiplied by the lesser of $127,200 or net earnings from self-employment. The Medicare tax is 2.9% multiplied by net earnings from self-employment. An additional 0.9% Medicare tax is multiplied by the greater of zero or net earnings less than $200,000 ($250,000 if filing jointly).

Self-Contract: Determine who controls when, how, and where work is performed.

Tax Credits reduce tax liability dollar for dollar. There are three types:

1. Nonrefundable: Applied first, excess is lost.
2. Business: Applied second, excess can be carried forward 20 years and carried back 1 year.
3. Refundable Personal: Applied last, excess is refunded.

Chapter 9: Business Deductions and Accounting Methods

Deductions must be directly connected to business activity, ordinary and necessary, and reasonable in amount.

Capitalize expenditures rather than deduct if they provide a future benefit (≥ 1 year).

Deduct prepaid expenses if benefits are ≤ 12 months and don't extend past the end of the next tax year.

Special Business Deductions: If completely destroyed, the casualty loss deduction equals insurance proceeds minus the adjusted tax basis. If damaged but not destroyed, casualty losses are limited to the lesser of the decline in value (repair costs) or the basis (the amount of loss if the asset were completely destroyed).

Meals and Entertainment may only be deducted at a 50% rate. They must be closely related to business and well-documented. Property use is prorated.

Cash Method: Income is recognized when constructively received. Expenses are recognized when paid. Prepaid expenses may be deducted immediately if the contract period lasts ≤ 1 year and ends before the end of the next taxable year. Otherwise, capitalize and amortize over the length of the contract. This applies to both accrual and cash methods.

Accrual Method: Income is recognized when earned or received (meeting the all-events test).

The all-events test requires businesses to recognize income when:

1. All events have occurred that fix their right to receive the income, and
2. The amount of the income can be determined with reasonable accuracy.

The all-events test is met at the earliest of the following dates:

1. Completion of service or sale,
2. Payment is due, or
3. Payment is received.

Advance Payments for Services: Allowed to defer recognition for one year unless income is earned for financial records. This does not apply to rent or interest income.

Advance Payments for Goods:

1. Full-inclusion method: Recognize payments as income.
2. Deferral method: Include in the first of the following periods: earned for tax or financial purposes.

Economic Performance:

1. Receiving goods or services: Occurs when goods are provided or with payment if actual performance is reasonably expected within 3.5 months.
2. Creating "payment" liabilities: Occurs when the business actually makes the payment.
3. Interest expense: Occurs as accrued.

Chapter 10: Depreciation

Assets Adjusted Tax Basis = Initial Cost (Historical Basis) - Accumulated Depreciation.

Recovery Periods:

1. 5 years: Cars, light general-purpose trucks, computers, and peripheral equipment.
2. 7 years: Office furniture, fixtures, machinery, and equipment.

Depreciation Conventions:

• Half-year: One-half of a full year's depreciation is allowed in the first and last years. If disposing of the asset before it is fully depreciated, only one-half of the applicable depreciation rate can be used that year.
• Mid-Quarter Convention:

1. Sum the total basis of tangible personal property (TPP) placed in service during the year.
2. Sum the total basis of TPP placed in service in the 4th quarter.
3. Divide step 2 by step 1. If the result ≥ 40%, then the business must use this convention.

• Residential property is depreciated over 27.5 years.
• Non-residential property is depreciated over 39 years.
• Mid-month Convention: Full-year depreciation X [(month of the year - 0.5) / 12].

Section 179 Expense: Businesses may elect to immediately expense up to $510,000 of tangible personal property placed into service in 2017. The full amount is eligible when TPP is ≤ $2,030,000, after which it is phased out dollar for dollar.