Download C10-1 Individual Income Taxes Individual

Chapter 10
Deductions and Losses:
Certain Itemized Deductions
Individual Income Taxes
Copyright ©2009 Cengage Learning
Individual Income Taxes
C10-1
Itemized Deductions
(slide 1 of 2)
• Personal expenditures that are deductible
FROM AGI as itemized deductions include:
–
–
–
–
–
Medical expenses
Taxes
Interest
Charitable Contributions
Miscellaneous itemized deductions
Individual Income Taxes
C10-2
Itemized Deductions
(slide 2 of 2)
• Itemized deductions provide a tax benefit
only to extent that, in total, they exceed the
standard deduction amount for the taxpayer
Individual Income Taxes
C10-3
Medical Expenses
(slide 1 of 6)
• Medical expenses are deductible to the
extent unreimbursed medical expenses, in
total, exceed 7.5% of AGI
Individual Income Taxes
C10-4
Medical Expenses
(slide 2 of 6)
• Example of medical expense deduction
limitation:
– Amy has AGI of $10,000 and medical expenses
of $1,000
– Amy’s medical expense deduction = $250
[$1,000 – ($10,000 × 7.5%)]
Individual Income Taxes
C10-5
Medical Expenses
(slide 3 of 6)
• Example of medical expense deduction
limitation:
– Bob has AGI of $4,000 and medical expenses
of $1,000
– Bob’s medical expense deduction = $700
[$1,000 – ($4,000 × 7.5%)]
Individual Income Taxes
C10-6
Medical Expenses
(slide 4 of 6)
• Expenditures for the diagnosis, cure,
mitigation, treatment, prevention of disease,
or for purpose of affecting any structure or
function of the body of the taxpayer, spouse,
or dependents
– Includes prescription drugs and insulin
Individual Income Taxes
C10-7
Medical Expenses
(slide 5 of 6)
• Does not include the cost of items such as :
– Unnecessary cosmetic surgery
– General health items
– Nonprescription drugs
Individual Income Taxes
C10-8
Medical Expenses
(slide 6 of 6)
• Medical expenditures are deductible in year
paid
– Includes payment by check or credit card
Individual Income Taxes
C10-9
Nursing Home Expenditures
• If primary reason for being in nursing home
is medical, costs (including meals and
lodging) qualify
• If primary purpose of placement in home is
personal, only specific medical costs qualify
(no meals or lodging)
Individual Income Taxes
C10-10
Special School Expenditures
• Medical expense deduction may include the
expenses of a special school for a mentally or
physically handicapped individual
– Deduction is allowed if a principal reason for sending
the individual to the school is the school’s special
resources for alleviating the infirmities
– In this case, the cost of meals and lodging, in addition
to the tuition, is a proper medical expense deduction
Individual Income Taxes
C10-11
Capital Medical Expenditures
• May include a pool, air conditioners if they do not
become permanent improvements, dust
elimination systems, elevators, etc.
• Must be medical necessity, advised by a physician,
used primarily by patient, and expense is
reasonable
• Full amount of cost is medical expense in year
paid
• Maintenance on capital expenditures also medical
expense
Individual Income Taxes
C10-12
Capital Improvement to Home
• Deductible medical expense only to extent
cost exceeds increase in value of home
– Appraisal costs related to capital improvements
are also deductible, but not as medical expenses
• Exception: removal of structural barriers to
home of handicapped are deemed to add no
value to home
– Thus, full amount is a medical expense
Individual Income Taxes
C10-13
Medical Care of Spouse
and Dependents
• Taxpayer may deduct cost of medical care
for spouse and dependents
– Dependents need not meet gross income or
joint return tests
– Medical expenses of children of divorced
parents can be deducted by non-custodial parent
even though child is dependent of custodial
parent
Individual Income Taxes
C10-14
Medical Transportation
and Lodging
• Transportation costs to and from medical care are
deductible
– Mileage allowance of 19 cents per mile (in 2008) may
be used instead of actual out-of-pocket automobile
expenses
• Lodging while away from home for medical care
– Allowable amount is $50 per person per night
• If parent and/or aide needs to accompany patient,
their expenses are also deductible
Individual Income Taxes
C10-15
Health Insurance Premiums
• Premiums paid for medical care insurance are
deductible medical expenses
• For self-employed, 100% of insurance premiums
are deductible FOR AGI
– Not allowed if taxpayer is eligible to participate in a
subsidized health plan maintained by any employer of
the taxpayer or the taxpayer’s spouse
• Premiums paid for qualified long-term care
insurance are deductible medical expenses
– Subject to limitations based on age of the insured
Individual Income Taxes
C10-16
Reimbursement by
Medical Insurance
• If reimbursed in same year as expense paid:
– Reimbursement offsets medical expense
– Amount deductible is excess of expenses over
reimbursement
• If reimbursed in the year after medical expenses
were paid:
– Reimbursement is income only to extent medical
deduction was taken by taxpayer (tax benefit rule)
– If standard deduction was taken in year expenses were
paid, none of the reimbursement is included in income
Individual Income Taxes
C10-17
Example of Medical
Reimbursements (slide 1 of 2)
• In 2008, taxpayer paid medical expenses =
$1,200; In 2008, reimbursed $800 by
insurance company
– For 2008, deductible medical expense is
$400 – (7.5% × AGI)
Individual Income Taxes
C10-18
Example of Medical
Reimbursements (slide 2 of 2)
• In 2008, taxpayer paid medical expenses of
$1,200; In 2009, reimbursed $800 by
insurance company
– For 2008, deductible medical expense is
$1,200 – (7.5% × AGI)
– For 2009, reimbursement is income to extent
taxpayer received a tax benefit from medical
expense deduction in 2008
Individual Income Taxes
C10-19
Health Savings Accounts
• Used in conjunction with a high deductible
medical insurance policy
– Employee contributions to HSA are deductible FOR
AGI and earnings on funds in account are not taxable
– Deductible contributions are limited to the sum of the
monthly limitations. The monthly deductible amount is
limited to the lesser of one twelfth of:
• The annual deductible under a high deductible plan or
• $2,900 for self-only ($5,800 for family coverage) in 2008
– Withdrawals from HSA are excludible to the extent
used for qualified medical expenses
Individual Income Taxes
C10-20
Taxes
(slide 1 of 4)
• State, local, and foreign income and real property
taxes are deductible in the year paid
– Real property taxes do not include taxes assessed for
local benefits
• e.g., Special assessments for streets, sidewalks, curbing, and
other similar improvements
• State and local personal property taxes based on
value (ad valorem) are deductible in the year paid
Individual Income Taxes
C10-21
Taxes
(slide 2 of 4)
• Other taxes such as FICA, excise, etc., are
not deductible
– May be deductible if incurred in business or
production of income activity
• Fees are not deductible as tax
Individual Income Taxes
C10-22
Taxes
(slide 3 of 4)
• Real estate taxes for year property is sold
must be apportioned between the buyer and
the seller
– Failure to correctly apportion requires
offsetting adjustments to seller’s amount
realized and buyer’s adjusted basis
Individual Income Taxes
C10-23
Taxes
(slide 4 of 4)
• Can elect to deduct either state & local income
taxes or sales/use taxes
– For state and local income taxes, deduct amounts paid
during year:
• Amounts withheld
• Estimated tax payments
• Amounts paid in current year for prior year’s liability
– For sales/use taxes, deduct either:
• Actual sales/use tax payments or
• Amount from an IRS table
• Table amount may be increased by sales tax paid on certain
specific items
– e.g., Purchase of motor vehicles, boats, etc.
Individual Income Taxes
C10-24
Interest Expense
• Deduction of interest expense is limited to:
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Interest on qualified student loans
Investment interest
Qualified residence (home mortgage) interest
Business interest
• Personal interest expense is not deductible
Individual Income Taxes
C10-25
Interest on Qualified
Student Loans
• Deductible For AGI, subject to limits
– Maximum deduction is $2,500 per year
– Deduction is phased out for taxpayers with
modified AGI (MAGI) between $55,000 and
$70,000 ($115,000 and $145,000 on joint
returns)
– Not allowed for those claimed as a dependent
or for married filing separate returns
Individual Income Taxes
C10-26
Investment Interest
• Investment interest on loans whose proceeds are
used to purchase investment property may be
deductible
– e.g., Investment property may include stock, bonds, and
land held for investment
• Deduction of investment interest expense is
limited to net investment income
Individual Income Taxes
C10-27
Qualified Residence Interest
(slide 1 of 4)
• Interest on indebtedness secured by the
principal residence and one other residence
(qualified residences)
• Interest must be on acquisition indebtedness
or home equity loans
Individual Income Taxes
C10-28
Qualified Residence Interest
(slide 2 of 4)
• Acquisition indebtedness: amounts incurred
to acquire, construct, or substantially
improve the qualified residences
– Interest paid on aggregate acquisition
indebtedness of $1 million or less ($500,000 for
married, filing separately) is deductible as
qualified residence interest
Individual Income Taxes
C10-29
Qualified Residence Interest
(slide 3 of 4)
• Home equity indebtedness: loans secured by
qualified residences
• Interest is deductible only on portion of
home equity loan that does not exceed the
lesser of:
– $100,000 ($50,000 for married, filing separate),
or
– FMV of home – acquisition indebtedness
Individual Income Taxes
C10-30
Qualified Residence Interest
(slide 4 of 4)
• Thus, maximum loans on qualified
residences that will produce qualified
residence interest is $1.1 million
• Interest on mortgage debt exceeding $1.1
million or on mortgage debt relating to
nonqualified residence (e.g., second
vacation home) is nondeductible personal
interest
Individual Income Taxes
C10-31
Interest Paid For Services
(slide 1 of 2)
• “Points” paid for the use or forbearance of
money qualify as deductible interest
– Cannot be a service charge if they are to qualify
as deductible interest
• Points generally must be capitalized and
amortized over the life of loan
Individual Income Taxes
C10-32
Interest Paid For Services
(slide 2 of 2)
• Exception: Points paid in the acquisition or
improvement of personal residence
– Entire amount of such points are deductible in
the year paid
– Points paid to refinance an existing home
mortgage must be capitalized and amortized
over the life of the new loan
Individual Income Taxes
C10-33
Mortgage Insurance Payments
• Mortgage insurance premiums are
deductible as interest if they relate to a
qualified residence of the taxpayer
– The deduction begins to phase out for taxpayers
with AGI in excess of $100,000 ($50,000 for
married taxpayers filing separately)
Individual Income Taxes
C10-34
Classification of Interest Expense
• Whether interest is deductible for AGI or as an
itemized deduction (from AGI) depends on
purpose of indebtedness
– If related to a business or the production of rent or
royalty income
• Interest is deductible for AGI
– If incurred for personal use, such as qualified residence
interest
• Deduction is reported on Schedule A, Form 1040 if taxpayer
itemizes
• However, interest on a student loan is a deduction for AGI
– If the taxpayer incurs debt in relation to his or her
employment
• Interest is considered to be personal, or consumer, interest
Individual Income Taxes
C10-35
Charitable Contributions
(slide 1 of 2)
• Individuals and corporations may deduct
contributions made to qualified domestic
organizations
• Contributor must have donative intent and
expect nothing in return
– If contributor receives tangible benefit, the
FMV of such benefit must be deducted from the
amount of the contribution
Individual Income Taxes
C10-36
Charitable Contributions
(slide 2 of 2)
• Exception to tangible benefit rule
– Allows deduction of 80% of amount paid for
the right to purchase athletic tickets from
colleges and universities
Individual Income Taxes
C10-37
Contribution of Services
• No deduction is allowed for the contribution of
services
– Unreimbursed expenses related to the services are
deductible
– Out-of-pocket transportation costs or a standard
mileage rate of 14 cents per mile are deductible
– Deductions are also permitted for transportation,
reasonable expenses for lodging, and the cost of meals
while away from home incurred in performing the
donated services
Individual Income Taxes
C10-38
Nondeductible Items
• The following items may not be deducted as
charitable 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 blood given to a blood bank
– Donations to homeowners associations
– Gifts to individuals
– Rental value of property used by a qualified charity
Individual Income Taxes
C10-39
Qualified Organizations
• To be deductible, contributions must be to a
qualified domestic nonprofit organization or
state or possession of U.S. or any
subdivisions thereof
– Many (but not all) qualified domestic charities
are listed in IRS Publication #78
Individual Income Taxes
C10-40
Record-Keeping Requirements
• No deduction is allowed for contributions of
$250 or more without written substantiation
from the charitable organization
• Additional information is required if value of
property donated is > $500 but not over
$5,000
• An appraisal is required for contributions of
property valued over $5,000
Individual Income Taxes
C10-41
Ordinary Income Property
• Defined: assets that would produce ordinary
income or short-term capital gain if sold
• Contribution amount
– FMV of asset less ordinary income (or STCG)
potential; generally the lower of adjusted basis
or FMV
Individual Income Taxes
C10-42
Capital Gain Property
• Defined: assets that would produce longterm capital gain or Section 1231 gain if
sold
• Contribution amount
– Generally FMV of asset
Individual Income Taxes
C10-43
Exceptions to FMV Deduction
of Capital Gain Property (slide 1 of 3)
• Private nonoperating foundations
– Deduction for contributions to private
nonoperating foundations must be reduced by
the amount of capital gain potential
– Thus, the contribution deduction is limited to
the adjusted basis
Individual Income Taxes
C10-44
Exceptions to FMV Deduction
of Capital Gain Property (slide 2 of 3)
• For contributions of tangible personalty
– The charitable deduction may limited to the adjusted
basis if
• The asset contributed is not used in charity’s exempt function, or
• The property (for deductions > $5,000) is disposed of by the
donee before the close of the tax year
– Applies unless the donee certifies that it put the property to a
related use or intended to put the property to a related use
– This reduction generally does not apply if
• The property is, in fact, not put to an unrelated use or
• At the time of the contribution, it was reasonable to anticipate
that the property would not be put to an unrelated use by the
donee
Individual Income Taxes
C10-45
Exceptions to FMV Deduction
of Capital Gain Property (slide 3 of 3)
• For contributions of certain types of
intellectual property
– Contribution deduction is limited to the lesser of
the taxpayer’s basis in the property or the
property’s fair market value
– Includes patents, certain copyrights, trademarks,
trade names, trade secrets, know-how, and some
software
Individual Income Taxes
C10-46
Example of Contributions
of Tangible Personalty
• Taxpayer contributes painting to local charity:
FMV $100,000 and adjusted basis $10,000
– If charitable organization is a local museum that hangs
the painting for patrons to view, taxpayer has $100,000
contribution deduction
– If charitable organization is a local church that sells the
painting immediately to obtain funds for its operation,
taxpayer has $10,000 contribution
Individual Income Taxes
C10-47
Charitable Contribution
Limitations (slide 1 of 4)
• 50% limit
– In no case can the charitable contribution
deduction for a year exceed 50% of the
taxpayer’s AGI
– Contributions of cash, ordinary income
property, and certain capital gain property
(where the contribution amount is adjusted
basis) are subject to the 50% limit (50% assets)
Individual Income Taxes
C10-48
Charitable Contribution
Limitations (slide 2 of 4)
• 30% limit
– Charitable contribution deduction for certain
assets cannot exceed 30% of the taxpayer’s
AGI
• Applies to 30% assets which are:
– Capital gain property for which the contribution
amount is FMV
– Certain contributions to private nonoperating
foundations
Individual Income Taxes
C10-49
Charitable Contribution
Limitations (slide 3 of 4)
• 30% limit
– Taxpayer can elect to treat capital gain property
as 50% assets by limiting the amount of such
contributions to their adjusted bases
– Referred to as the reduced deduction election
• Enables the taxpayer to move from the 30%
limitation to the 50% limitation
Individual Income Taxes
C10-50
Charitable Contribution
Limitations (slide 4 of 4)
• 20% limit
– Certain contributions of capital gain property to
private nonoperating foundations
Individual Income Taxes
C10-51
Charitable Contributions
Carryover
• Contributions that cannot be taken in current year
due to limitations may be carried forward for 5
years
– Contributions carried forward retain their classification
• e.g., If the contribution originally involved 30% property, the
carryover will continue to be classified as 30% property in the
carryover year
– When using carryovers, current contributions are used
first, then carryovers used on a FIFO basis
Individual Income Taxes
C10-52
Example of Charitable
Contribution AGI Limits
• Taxpayer, AGI $100,000, contributed $40,000
cash and long-term stocks with a FMV of $35,000
and a basis of $8,000 to a University
• 50% limit = $50,000
30% limit = $30,000
– Amount of deduction = $50,000 (40,000 cash + 10,000
stock)
– Contribution carryforward = $25,000 stock (as 30%
asset)
Individual Income Taxes
C10-53
Miscellaneous Itemized
Deductions
• Some expenditures are deductible only to the
extent they exceed 2% of AGI
• Examples include:
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Professional dues
Uniforms
Tax return prep fees
Job-hunting costs
Certain investment expenses
Hobby losses
Unreimbursed employee expenses
Individual Income Taxes
C10-54
Misc. Itemized Deductions Not
Subject to 2% of AGI Floor
• Examples include:
– Gambling losses to the extent of gambling winnings
– Impairment-related work expenses of a handicapped
person
– Deduction for repayment of amounts under a claim of
right if more than $3,000
– Unrecovered investment in an annuity contract when
annuity ceases by reason of death
Individual Income Taxes
C10-55
Overall Limitation on
Itemized Deductions (slide 1 of 3)
• Taxpayers with AGI in excess of the
specified threshold will lose part of their
benefits from certain itemized deductions
– Threshold amount in 2008 is $159,950
($79,975 if married, filing separately)
Individual Income Taxes
C10-56
Overall Limitation on
Itemized Deductions (slide 2 of 3)
• Itemized deductions subject to possible
reduction include:
– Taxes, home mortgage interest, charitable
contributions, and miscellaneous deductions
• Medical, investment interest, casualty &
theft losses, and gambling losses are not
subject to reduction
Individual Income Taxes
C10-57
Overall Limitation on Itemized
Deductions (slide 3 of 3)
• This overall limitation is being phased out over a four-year
period, beginning in 2006
• Limitation is calculated using a 2-step process
• Step 1: Amount of reduction is lesser of:
• (AGI – threshold) × 3%, or
• 80% × total itemized deductions subject to reduction
• Step 2: Multiply the amount computed in Step 1 by the
fraction that applies to the tax year involved
– For 2006 and 2007: phaseout equals 2/3 of the Step 1 amount
– For 2008 and 2009: phaseout equals 1/3 of the Step 1 amount
Individual Income Taxes
C10-58
If you have any comments or suggestions concerning this
PowerPoint Presentation for South-Western Federal
Taxation, please contact:
Dr. Donald R. Trippeer, CPA
[email protected]
SUNY Oneonta
Individual Income Taxes
C10-59