7-1 ©2008 Prentice Hall, Inc.. 7-2 ©2008 Prentice Hall, Inc. ITEMIZED DEDUCTIONS (1 of 2) Medical expenses Taxes Interest Charitable contributions

7-1©2008 Prentice Hall, Inc.

©2008 Prentice Hall, Inc. 7-2

ITEMIZED DEDUCTIONSITEMIZED DEDUCTIONS(1 of 2)(1 of 2)

Medical expensesTaxesInterest Charitable contributionsCasualty and theft lossesMiscellaneous itemized

deductions


ITEMIZED DEDUCTIONSITEMIZED DEDUCTIONS(2 of 2)(2 of 2)

Reduction of certain itemized deductions

Tax planning considerationsCompliance and procedural

considerations


Medical ExpensesMedical Expenses

Qualified individualsQualified medical expensesAmount and timing of deduction


Qualified Individuals

Medical expenses paid for taxpayer, taxpayer’s spouse, or dependentDependent qualifies even if fails

dependency test due to failure to meet gross income or joint return tests

Children of divorced parentsNot required to be custodial parent to

take deduction for medical expenses paid on behalf of a person


Qualified Medical Expenses(1 of 2)

Diagnosis, cure, mitigation, treatment, or prevention of disease

Transportation$0.20/mile std. mileage rateIncludes meals & lodging if overnight

Capital expendituresExcess of cost over amount by which

value of home increases


Qualified Medical Expenses(2 of 2)

Cost of living in institutionsMedical insurance premiums

Includes qualified long-term care insurance premiums

No cosmetic surgery unless it treats illness or promotes proper body function


Amount and Timing of Deduction

Deductible in year paidAmount of qualified medical

expenses that exceed 7.5% of AGIMedical insurance reimbursements

Only unreimbursed portion deductibleSelf-employeds may deduct health

insurance as a deduction for AGI


Taxes Taxes

Definition of a taxDeductible taxesNondeductible taxesState and local income taxesState and local sales taxesPersonal property taxesReal estate taxesSelf-employment tax


Definition of a Tax

Mandatory assessment levied under authority of a political entity for purpose of raising revenue used for public or governmental purposes


Deductible Taxes

State, local, & foreign real property taxesState and local personal property taxes

If based on value Foreign, state & local income, war

profits, and excess profits taxesState and local sales taxes

If an election is made instead of deducting state and local income taxes


Nondeductible Taxes

Federal income tax, employee’s social security tax, Federal estate & gift taxEmployer’s share of social security tax

is deductible as business expenseFederal import tariffs & excise taxes

Unless for business or production of income


State and Local Income Taxes

Cash-basis taxpayers deduct state and local income tax paid or withheld even if the taxes are attributable to another tax year


Personal Property Taxes

Tax must be an ad valorem tax on personal property imposed on an annual basis

Any portion of the tax which is flat fee is not deductible


Real Estate Taxes

Apportionment of taxesNecessary when real estate is

sold during the yearReal property assessments only

against property benefitedCapitalized costs—not deductible

E.g., Sidewalk or new sewer lines


Self-Employment Tax

Pay tax on self-employment income in lieu of payment of Social Security tax on salary

½ of SE tax deductible for AGI


Interest Interest

Definition of interestClassification of interest

expenseTiming of the interest deduction


Definition of Interest

Compensation for use or forbearance of moneyBank service charges and certain

loan acquisition costs not considered interest for tax purposes


Classification of Interest Expense

(1 of 2)

Depends on purpose of indebtednessActive trade or business

For AGI deductionPassive activity

Subject to passive activity loss limitationUsed to compute net passive income/loss

Investment interestDeductible up to net investment income


Classification of Interest Expense

(2 of 2)

Qualified residence and home equity loanInterest on up to $1M of acquisition debt

Points on acquisition indebtedness also deductibleMay deduct interest on additional $100K of

home equity indebtednessStudent loan interest

Up to $2,500 deductible as for AGI deductionPhased out at higher income levels


Timing of the Interest Deduction

(1 of 2)

Prepaid interestCapitalized and amortized over

period to which interest relatesDiscounted notes

Cash method taxpayer deducts in year loan received

Accrual method taxpayer amortizes over life of loan


Timing of the Interest Deduction

(2 of 2)

Interest paid on debt used to pay another creditor generally deductible

Interest owed to a related party by an accrual method taxpayerCannot deduct interest until interest paid

Imputed interestApplies to below-market loansSee Chapter I11


Charitable ContributionsCharitable Contributions

Qualifying organizationType of property contributedDeduction limitationsApplication of carryoversSpecial rules for charitable

contributions made by corporations


Qualifying Organization

U.S., District of Columbia, state or possession of U.S.

Post or organization of war veteransDomestic fraternal society, or order,

or associationPublic Charities

Churches, educational Institutions, hospitals, medical schools


Type of Property Contributed

(1 of 2)

Contribution of long-term capital gain propertyGenerally FMV

Use adjusted basis if Contributed to private nonoperating

foundationUnrelated use by charitable organization Certain intangibles


Type of Property Contributed

(2 of 2)

Contribution of ordinary income propValue generally adjusted basisException for corp donation of

inventoryContribution of services

Only out-of-pocket and transportation expenses deductible


Deduction Limitations

50% of AGI overall limitationApplies to public charitiesSum of all contributions limited to 50%

30% of AGI limitationContributions of capital gain property

20% of AGI limitationCapital gain property contributed to

private nonoperating foundations


Application of Carryovers

Carried over and deducted in subsequent five yearsApply with regard to special

limitations


Special Rules for Contributions Made by

Corporations

Pledges made by accrual method corporationsDeductible in year pledged if paid by

15th day of 3rd month after year endLimitation applicable to

corporationsCannot exceed 10% of corporation’s

taxable income


Casualty and Theft Casualty and Theft LossesLosses

Individuals can deduct casualty or theft loss on personal-use property as an itemized deduction Subject to floor of $100 plus 10 %

of AGI


Miscellaneous Itemized Miscellaneous Itemized DeductionsDeductions

Certain employee expensesExpenses to produce incomeCost of tax advice


Certain Employee Expenses

Unreimbursed employee business expensesInclude travel, transportation, dues

to professional organizations, cost of job hunting

Generally miscellaneous itemized deductions subject to a 2% of AGI floor


Expenses to Produce Income

Expenses to produce investment income other than rents or royalties

Miscellaneous itemized deductions subject to 2% of AGI floor


Cost of Tax Advice

IncludesTax return preparation feesAppraisal fees in determining amount

of casualty lossAccountant fees for representation in a

tax auditMiscellaneous itemized deductions

subject to 2% of AGI floor


Reduction of Certain Reduction of Certain Itemized DeductionsItemized Deductions (1 of 2) (1 of 2)

Reduction in total amount of most itemized deductions for high-income taxpayersOnly applies to individuals with AGI

in excess of $156,400Reduction is 3% of amount that

individual’s AGI for year exceeds threshold amount


Reduction of Certain Reduction of Certain Itemized DeductionsItemized Deductions (2 of 2) (2 of 2)

Two limitations apply Reduction can not exceed 80% of

itemized deduction other than medical, investment, casualty losses, and wagering losses AND

The 3% is applied after taking into account other limitations on itemized deductions

e.g. 2% of AGI on miscellaneous deductions


Tax Planning Tax Planning ConsiderationsConsiderations

Medical expense deductionBunch medical expenses into a single year

to exceed 7.5% of AGI floorInterest expense deductionDeduction for charitable contributions

Election to reduce amount of contributionDonation of appreciated long-term capital

gain propertySignificant substantiation requirement


Compliance and Compliance and Procedural Procedural

ConsiderationsConsiderations (1 of 3) (1 of 3)

Medical expensesDependent care credit vs. medical expense deduction

Compare dependent care credit rate with effective marginal tax rate for additional medical deductions




Charitable contributions>$500 must file Form 8283Property > $5000 should have

appraisal>$250 and quid pro quo > $75

require additional documentation




TaxesSchedule C - related to taxpayer’s

trade or businessSchedule E - related to the

production of rents and/or royalties

Schedule A - if personal

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7-1 ©2008 Prentice Hall, Inc.. 7-2 ©2008 Prentice Hall, Inc. ITEMIZED DEDUCTIONS (1 of 2) Medical expenses Taxes Interest Charitable contributions