CHAPTER 1 The Individual Income Tax Return

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CHAPTER 1The Individual Income Tax Return
Income Tax Fundamentals 2014 Student Slides
Gerald E. Whittenburg Martha
Altus-Buller Steven Gill
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History of Taxation

• Since 1913, when 16th amendment was passed, the
  constitutionality of income tax has never been
  questioned by federal courts
• Income taxes serve a multitude of purposes

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Objectives of Tax Law

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

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Primary Entities/Forms

• Individual
• Taxable income includes wages, salary,
  self-employment earnings, rent, interest and
  dividends
• An individual may file simplest tax form
  qualified for
• 1040EZ
• 1040A
• 1040
• If error made on one of the three above forms,
  can amend with a 1040X

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Tax Formula for Individuals

• This formula follows Form 1040
• Gross Income
• less Deductions for Adjusted Gross Income (AGI)
• AGI
• less Greater of Itemized or Standard Deduction
• less Exemption(s)
• Taxable Income
• times Tax Rate (using tax tables or rate
  schedules)
• Gross Tax Liability
• less Tax Credits and Prepayments
• Tax Due or Refund

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Standard Deduction Exemptions
2013 standard deduction Single
6,100 Married Filing Joint (MFJ) 12,200 Qualifying
Widow(er) 12,200 also known
as Surviving Spouse Head of Household (HOH)
8,950 Married Filing Separate (MFS)
6,100 Plus additional amounts for blindness
or over 65 1,200 if MFJ, MFS or qualifying
widow(er) and 1,500 if HOH or Single Exemption
3,900/person
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Who Must File

• Based on filing status and gross income
• Generally, if exemptions
• plus
• greater of standard or itemized deductions
  exceed income, then filing is not necessary
• If taxpayer is claimed as a dependent on another
  taxpayers return, dependents standard deduction
  is
• Greater of 1,000
• or
• Earned income 350
• But never more than standard deduction

See Figures 1.1 and 1.2 on pages 1-7 and 1-8
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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 didnt live
  together entire year
• Based on a 2013 Supreme Court ruling that struck
  down a portion of the Defense of Marriage Act
  (DOMA), same-sex couples may now 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

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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 gt 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 taxpayers parent,
  he/she doesnt 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

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Tax Computation

• Seven brackets
• 10, 15, 25, 28, 33, 35, 39.6
• Tax rate schedules for different filing types
• Qualifying dividends and net long-term capital
  gains may be taxed at lower rates
• Rates based on ordinary tax bracket