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CHAPTER 1 The Individual Income Tax Return

CHAPTER 1 The Individual Income Tax Return. Income Tax Fundamentals 2011 edition Gerald E. Whittenburg Martha Altus- Buller Student’s Copy. Objectives of Tax Law. Raise revenue Tool for social and economic policies

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CHAPTER 1 The Individual Income Tax Return

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  1. CHAPTER 1The Individual Income Tax Return Income Tax Fundamentals 2011 edition Gerald E. Whittenburg Martha Altus-Buller Student’s Copy 2011 Cengage Learning

  2. Objectives of Tax Law • Raise revenue • Tool for social and economic policies • Social policy encourages desirable activities and discourages undesirable activities • Credits for investment in solar and wind energy • Can deduct charitable contributions • Credits for higher education expenses • Economic policy as manifested by fiscal policy • Encourage investment in capital assets through depreciation • Both economic and social • Exclude gain on sale of personal residence up to $250,000 ($500,000 if married) 2011 Cengage Learning

  3. Primary Entities/Forms • Individuals • Taxable income includes wages, salary, self-employment earnings, rent, interest and dividends • An individual may file the simplest tax form that he/she qualifies for • 1040EZ • 1040A • 1040 • If error made on one of the three above forms, can amend with a 1040X. 2011 Cengage Learning

  4. Tax Formula for Individuals This model follows Form 1040 Gross Income less: Deductions for Adjusted Gross Income [AGI] AGI less: Greater of Itemized or Standard Deduction less: Exemptions Taxable Income times: Tax Rate Gross Tax Liability less: Tax Credits and Prepayments Tax Due or Refund 2011 Cengage Learning

  5. Standard Deductions & Exemption • 2010 standard deduction ($) • Single 5,700 • Married Filing Joint (MFJ) 11,400 • Qualifying Widow(er) 11,400 • also known as Surviving Spouse (SS) • Head of Household (HOH) 8,400 • Married Filing Separate (MFS) 5,700 • *Taxpayers 65 or older and/or blind get an additional amount • $1,100 if MFJ, MFS or SS • $1,400 if HOH or Single • 2010 exemption$3,650 – personal & dependency 2011 Cengage Learning

  6. Filing Status • Single • Unmarried or legally separated as of 12/31 • And not qualified as married filing separately, head of household or qualifying widow(er) • Married Filing Jointly (MFJ) • If married on 12/31 – even if didn’t live together entire year • Same-sex couples may not file jointly • If spouse dies during year you can file MFJ in current year • Married Filing Separately (MFS) • Each file separate returns • Must compute taxes the same way - both itemize or both use standard • If living in community property state, must follow state law to determine community and separate income 2011 Cengage Learning

  7. Filing Status • Head of Household (HOH) • Tables have lower rates than single or MFS • Taxpayer can file as HOH if: • Unmarried or abandoned* as of 12/31 • Paid > 50% of cost of keeping up home that was principal residence of dependent child or other qualifying dependent relative • There is one exception to principal residence requirement. If dependent is taxpayer’s parent, he/she doesn’t have to live with taxpayer. Note: A divorced parent who meets above rules and has signed IRS/legal document, may still claim HOH even if dependency exemption shifted to ex-spouse *See pages 1-10 and 1-11 for requirement for abandoned spouse 2011 Cengage Learning

  8. Filing Status • Qualifying Widow(er) with Dependent Child • Also known as surviving spouse • Available for two subsequent years after death of spouse • Must pay over half the cost of maintaining a household where a dependent child, stepchild, adopted child or foster child lives • Gets benefits of married filing joint tax rates 2011 Cengage Learning

  9. Personal/Dependency Exemptions • Personal exemptions may be taken for self and spouse • Additional exemptions may be taken for individuals who are either taxpayer’s • Qualifying child or • Qualifying relative • For 2010 each exemption = $3,650 In years prior to 2010, exemptions phased-out for high- income taxpayers. It is anticipated that the phase-out will be reintroduced in 2011 2011 Cengage Learning

  10. Capital Gains/Losses • A capital asset is any property (personal or investment) held by a taxpayer, with certain exceptions as listed in the tax law • Examples: stocks, bonds, land, cars and other items held for investment • Gains/losses on these assets are subject to special rates • Holding period of asset determines treatment • Long-term is held >12 months (taxed at capital rates – see next screen) • Short-term is held <= 12 months (taxed at ordinary rates) 2011 Cengage Learning

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