Chapter 4 Gross Income: Concepts and Inclusion 3. Allen received something of value from the casino.

Under the broad concept of income, the airfare and hotel accommodations would be considered income. However, Allen could argue that the income should be matched with his $25,000 in gambling losses on the trip, and when the income and losses are combined, the net effect is an economic loss. The net loss is not deductible, but at least the gambling losses can be used to offset the income from his gambling activities. 7. The cash method taxpayer is subject to the constructive receipt doctrine. Generally, the cash basis taxpayer does not recognize income until it is collected. Under the constructive receipt concept, when the taxpayer has earned the income and the customer has offered to pay, the taxpayer cannot defer its recognition by postponing the date when the income is collected. The constructive receipt doctrine is not relevant to accrual basis taxpayers, who must recognize income when the taxpayer has a right to receive it even though the income has not been collected. 12. If Wade sells the car, he must pay the tax on the gain of $3,600 ($13,000 $9,400). If Wade gives the automobile to his daughter and she sells it, she will be taxed on the gain of $3,600. Increase in value that is economically attributable to Wade will become his daughters income. If Wade is a higher marginal tax bracket, the family unit will generate tax savings by Wades daughter selling the car. Gifts of appreciated property can be a useful tax-planning concept. 16. The recapture amount is computed in the third year by a formula provided in the Code. The person who took the deductions in the first two years must include in his or her gross income the recapture amount in the third year. The purpose of the rule is to prevent what are in fact nondeductible property settlements from being deducted as alimony. 20. The combined income tax will differ as a result of the imputed interest if Brenda and Bart are in different marginal tax brackets. If Bart would have taken the standard deduction in the absence of the interest deduction, the increased itemized deductions for Bart will not exceed the standard deduction by the amount of the interest paid. The increase in Brendas taxable income will exceed the decrease in Barts taxable income. 39. (a) The $1,000 damage deposit is not taxed in the year of receipt. The damage deposit is not taxable at the time it is collected, but the $500 prepaid rent is taxed in the year of receipt. The $1,000 prepaid rent is taxed in the year of receipt. (b) The Bluejay Apartments should use the first option. It maximizes deferrals without affecting the cash flows.

44. Salary Rent Dividends Interest Doug $48,000 1,900 1,200 $51,100

a. California

Liz $48,000 8,000

1,200 $57,200

Doug $48,000 4,000 950 1,200 $54,150

b. Texas

Liz $48,000 4,000 950 1,200 $54,150

Under Texas law, the rents and dividends belong to the community even though this income is derived from separate property. Under California law, the income is community or separate depending on the state law classification of the underlying assets. In this case, the interest is community income because the savings account was funded with community property. 51. (a) The employer-employee loan would be eligible for the $10,000 exemption through June 30, 2012. However, in July 2013, the total outstanding loans exceed $10,000. The $100,000 exemption does not apply to these loans. Therefore, interest is imputed on the $12,000 amount of the loans for the period July through December 2013. Vito, Inc. has interest income and Vito has compensation income of $480 [.08($12,000 6/12)]. Vito also has interest expense of $480 and Vito, Inc. has compensation expense of the same amount. Note that employer-employee loans are not eligible for the $100,000 exemption. (b) A corporation-shareholder loan is not eligible for the $100,000 exemption and usually does not qualify for the $10,000 exemption (i.e., cannot satisfy the requirement that tax avoidance not be a principal purpose of the loan). Therefore, for 2012 and 2013, the corporation has interest income and dividends paid (not deductible): 2012 ($8,000 8% 6/12) 2013 ($8,320 8% 6/12) ($8,320 + $333 + $4,000)(.08)(6/12) $333 506 $839 $320

Vito has dividend income and interest expense of equal amounts. 55. Salary Unemployment compensation Interest income Dividend income Lottery winnings Gross income $ 90,000 8,800 60 550 1,500* $100,910

The $5.00 cost of the lottery ticket is deductible as a miscellaneous itemized deduction, not subject to the 2%-of-AGI reduction. Note: Neither the $12,000 loan nor the $2,000 savings account withdrawal are included in gross income. 58. Donna has substantial tax problems:

(a) Donnas share of the partnership income of $150,000 will be taxable to Donna even though the income was not distributed. Therefore, she will need to come up with the cash required to pay the taxes. (b) A portion of the Social Security benefits will be taxable because Donna has other income. If Donna and her husband file separate returns, she must include $7,140 ($8,400 85%) of the Social Security benefits in her gross income (i.e., the base amount is $0 in this case). Even with a joint return, Donna and her husband would include $7,140 of the Social Security benefits in their gross income (i.e., in this case, the base amount would be $44,000). (c) Donna must report the $1,200 of interest income even though the creditor received the money. She owned the property earned the income. She also benefited from the income that the money was used to satisfy her liability. (d) Donna will be required to include in gross income one-half of her husbands income because they are residents of a community property state.

Chapter 5 Gross Income: Exclusion 2. Leonard must include $2,500 in his gross income. Because $2,500 was received from his employer, it cannot qualify as a nontaxable gift, and no other exclusion provision would apply. However, the amount received from his fellow employees was made out of detached generosity and it was a nontaxable gift. The amount Leonard spent to repair the damage is not relevant to determining his gross income, although the cost may be partially deductible as a personal casualty loss. 6. No. Based on Commissioner v. Duberstein discussed, the payment arose out of Careys services. Teds payment was not made out of detached, disinterested generosity, and thus is not a gift even though there was no legal obligation to make the payment. 11. No. The $10 million amount that Wes received is included in his gross income. Sam is required to include only the $4 million in punitive damages in his gross income. His compensatory damages are excluded from his gross income, even though the amount replaces a loss of income, and the amount was received as a result of physical personal injury. 18. (a) Tom must include the $100 in gross income. Mason is allowed to exclude the $100 as a qualified transportation fringe. (b) Tom paid $100 for transportation cost and was reimbursed for that amount. Toms before-tax cost was $0. However. Tom is required to include the $100 in gross income and must pay an additional $28 ($100 .28) tax on the reimbursement, which is his after-tax cost of commuting. Masons after-tax cost of commuting is $0 because he is reimbursed for the outof-pocket cost and is not required to include the reimbursement in income. 22. The Virginia bonds yield the greater after-tax return (4.6%). The corporate bonds after-Federal and after-Virginia tax yield is 4.2% (1 .35 .05)(7%). The North Carolina bonds after-Virginia tax yield is 4.465% (1 .05)(4.7%). However, Tammy itemizes her deductions on her Federal income tax return, the Virginia income tax on the North Carolina bond is deductible and will reduce her Federal income tax by .08% [.35(.05)(4.7%)]. The after-Virginia and after-Federal tax yield on the North Carolina bond is therefore 4.545% (4.465% + .08%). 26. In the first two situations, Harry does not recognize income but must reduce his basis in the property. In the third situation, Harry simply does not recognize income and does not reduce his basis in the property because the debt is secured his personal residence. In the fourth situation, Harry received a taxable prize. 31. (a) $50,000 salary. (b) $3,000 is the value of the trip. (c) The $10,000 as compensation, unless this is paid under a non-discriminatory medical reimbursement plan available to other employees. (d) The $15,000 is an excluded gift since it was paid based on Blakes need. (e) Zero. Life insurance proceeds paid to the beneficiary upon death of the insured are excluded from gross income.

40. Medical reimbursement plan, Mauve would be paying all of the employees medical expenses. The employee would have no incentive to control costs. The employee must contribute to the costs through a salary reduction under the flexible benefit plan. For this plan, the employee has an incentive to minimize costs. 50. Hazel must include all of the items in gross income except the interest received of $700 on Augusta County bonds and the $350 patronage dividend. The patronage dividend is not included in gross income under the tax benefit rule because the cost of the materials used on her lawn and garden were not deducted. All other items are simply gross income not otherwise excluded. Therefore, Hazel must include in gross income $1,400 ($800 + $400 + $200). 58. (a) Vics fathers admonishment clearly indicates that he is making a gift to Vic. Vic does not include the $25,000 in his gross income. (b) Vic will not recognize income from the debt cancellation. The $12,000 reduction in the debt is treated as an adjustment to the cost basis of the property because the creditor (Land Company) sold the property to Vic. (c) The $9,000 reduction in the debt is not included in Vics gross income because the debt was secured by his principal residence and was forgiven because of his financial condition. Vic must reduce his basis for his principal residence by $9,000.