Table of Contents

Table of Contents

Introduction

Course Objectives

How to Prepare for the Exam

About the Computer Based SEE Exam

Obtain a PTIN

Registering and Scheduling an Examination Appointment

Chapter One - The Income Tax Return

2022 Filing Requirements

When to Report Income and Expenses

Extensions of Time to File

Dependents

Third Party Designee

Amended Returns

Chapter Two - Income

Wages, Salaries, Tips, and Other Earnings

Interest Income

Dividend Income

Rental Income and Expenses

Retirement Plans, Pensions and Annuities

Social Security Benefits

Foreign Source Income

Comparison of Form 8938 and FBAR Requirements

Types of Foreign Assets and Whether They are Reportable

Other Income

Information Returns

Chapter Three - Gains and Losses

Basis of Property

Capital Gains and Losses

Sale of a Main Home

Reporting Capital Gains and Losses

Chapter Four - Adjustments to Income

Individual Retirement Arrangements (IRAs)

Retirement Plan Rules for 2022

Moving Expenses

Alimony

Health Savings Account

Student Loan Interest Deduction

Other Adjustments to Income

Chapter Five - Standard and Itemized Deductions

Standard Deduction

Medical and Dental Expenses

Taxes

Interest Expense

Qualifying Organizations

Casualty and Theft Losses - Nonbusiness

Other Itemized Deductions

Qualified Business Income (QBI) Deduction

Chapter Six - Credits

Earned Income Credit (EIC)

Child and Dependent Care Credit

Child Tax Credit

Credit for Other Dependents

Additional Child Tax Credit

Education Credits

Credit for the Elderly or the Disabled

Premium Tax Credit

Foreign Tax Credit

Adoption Credit

Retirement Savings Contribution Credit

Residential Energy Credits

Credit for Prior Year Minimum Tax

Chapter Seven - Taxes

Alternative Minimum Tax

Estimated Tax

Self-Employment Tax

Unreported Social Security and Medicare Tax from Form 4137 and 8919

Household Employment Taxes

Additional Tax on IRAs and Other Qualified Retirement Plans

First-Time Homebuyer Credit Repayment

Excess Social Security Tax or Railroad Retirement Tax Withheld

Other Taxes

Tax on Unearned Income of Certain Children

Due Diligence Requirements

Chapter Eight - Estate & Gift Tax

Estate Tax

Gift Tax

Generation-Skipping Transfer Tax (GST)

Appendix A - Taxpayer Interest and Penalties

Appendix B - Forms and Schedules at a Glance

Phoenix Tax Group Refund Policies

Evaluation

Introduction

The Phoenix Tax Group Guarantee

We have been successfully preparing tax practitioners to pass the Special Enrollment Exam for over 20 years. Practitioners who have used our study materials, study strategies and have put in the time and effort have had over a 90% passing rate.

30 Day Refund

If you are not satisfied with any of our products, you can return them for a full refund, excluding shipping and handling charges.

A refund must be requested within 30 days of purchase, and all hardcopy materials must be returned in the original box. No credit will be given for any materials marked on, missing or damaged in any way. To request a refund, fill out the Refund Request form at the link below.

Pass Guarantee Refund

The Pass Guarantee applies only to products designated as "Packages."

To receive a refund, you must have taken and failed a test or exam twice.

You must provide your failed scores for both failed exams by filling out the online Refund Request Form (see link below). This must be done within 30 days of the second failed exam.

Hard copy materials must be returned within 30 days of the second failed exam.

If you purchased Enrolled Agent study materials together in a 3 part package, refunds will be pro-rated for the part being returned.

The refund will only apply to the person who purchased the study materials from The Phoenix Tax Group. The refund policy does not apply to companies purchasing study materials for employees.

Instructions

To ensure proper credit, please fill out our online refund request form.

http://www.phoenixtax.com/about/refunds

Course Objectives

This course is designed to prepare students to pass the IRS Special Enrollment Examination the first time they take the exam. After completing our course, you should have the tax knowledge needed to pass the exam.

This course is taught at an intermediate level. It is helpful if the student has had some beginning level courses relating to tax laws and at least a year of income tax preparation experience.

Our course is broken down into three parts similar to the parts on the exam. Part 1 discusses individual income tax law, Part 2 discusses sole proprietorship and partnership, corporation (including S corporation), fiduciary, estate, and trust tax law and tax-exempt organizations, and Part 3 discusses practitioner ethics, recordkeeping, IRS tax examination, appeals, and collection procedures, practitioner rules and penalties, and research materials. All the materials have been updated to 2022 tax law.

Note: All references on the examination are to the Internal Revenue Code, forms and publications, as amended through December 31, 2022. Also, unless otherwise stated, all questions relate to the calendar year 2022. Questions that contain the term ‘current tax year’ refer to the calendar year 2022.

We feel we have the best and most comprehensive enrolled agent exam preparatory course available. However, we are always looking for ways to improve our course. We would appreciate it if you would take a moment to complete the course evaluation located at the end of each part of the course or complete our online evaluation at www.phoenixtax.com.

If you have any questions, please email us at support@phoenixtax.com. Do not call our 800 number.

Good luck on the exam.

How to Prepare for the Exam

The following is a set of guidelines for preparing for the exam:

We recommend that you study a minimum of 100 to 120 hours total for all three parts of the exam. For Part 1, we recommend 35-45 hours of study. For Part 2, we recommend 45-60 hours of study. For Part 3, we recommend 20-25 hours of study. Break up your study time. Do not try to study 3 or 4 hours at a time. Most people's comprehension level starts to fade after an hour. You will be surprised how much you can absorb by studying in intervals of 15 to 30 minutes.

DO NOT rely on your tax experience to pass this exam. It has been our experience that people with limited tax experience (one year or less) have a far better success rate on this exam than people with many years of tax experience. The reason is that preparers with years of experience tend to rely on their practical knowledge of taxes. This exam tests on theory, not practical experience. The IRS is primarily interested in your ability to understand the tax law and to properly and accurately determine taxable income (i.e., figuring basis in an asset to determine gain, what income is taxable, what deductions are allowed, etc.).

You can now use a calculator to do the computational questions. Prometric will provide you with a hand-held calculator. You cannot bring your own calculator.

Be familiar with the tax forms and the filing dates for those forms. There is a quick reference in the Appendix.

The exam will test on a specific tax law in more than one part. For example, questions pertaining to property basis or retirement plans will be tested in both Part 1 and Part 2; questions pertaining to recordkeeping in Part 1 and Part 2 could be tested in Part 3; taxpayer penalties could be tested in all three parts. Therefore, we strongly recommend you to take the exam in the following order. Take Part 1 first, Part 2 second and Part 3 last. You should also take all three parts of the exam as close together as possible.

You must have a positive attitude toward this exam. If you do not think you can pass this exam, you won't. Fifty percent of preparing for this exam is being mentally prepared.

About the Computer Based SEE Exam

The Internal Revenue Service has contracted with Prometric to conduct its examination program. Prometric provides computerized testing at test centers throughout the world. The IRS and Prometric are working together closely to ensure that examinations meet federal requirements as well as professional examination development standards.

Testing Dates

The 2023 SEE examination begins May 1, 2023 and examinations will be offered continuously through February 28, 2024.

The exam is in three parts. The three parts DO NOT have to be taken at once. You can take one part at a time. Once you have taken and passed one part, you have two years from the date of passing that part to take and pass the other two parts.

Testing Fees

The exam costs $206 per part.

Exam Questions

Each part of the exam has 100 questions. All questions are weighted equally.

Time Limited for the Exam

You are given 3.5 hours to complete each part of the exam. The actual seat time is 4 hours to allow for a tutorial at the beginning and a survey at the end.

Examination Results

The exam is graded on a scale of 40 - 130 with 40 being the lowest score and 130 being the highest score possible. You must have a score of 105 or better for each part of the exam to pass. You will receive your scores immediately after taking the exam.

Passing Score. If you pass, the score will only show a passing designation. It will not show a score.

Failing Score. If you fail, your score report will show a scaled score between 40 and 104. You will also receive diagnostic information to assist you with future examination preparation. Diagnostic information will show an indicator of 1, 2, or 3 meaning:

Considerably below the minimally acceptable score. It is important for you to approach how you study this topic as you prepare to take the test again. You may want to consider taking a course or participating actively in a study group on this topic.

Marginally below the minimally acceptable score. You should study this topic in detail as you prepare to take the test again.

At or above the minimally acceptable score. Be sure to review this topic as you prepare to take the test again.

Experimental Questions

The examination may include some experimental questions that will not be scored.

If present, they are distributed throughout the exam and will not be identified as such. These are used to gather statistical information on the questions before they are added to the exam as scored items. These experimental questions will not be counted for or against your final score.

Obtain a PTIN

You must have a PTIN to sign up for the Enrolled Agent Exam. Chances are you already have your PTIN, but if you do not, you can still get one. The IRS Tax Professional PTIN Sign-up System is available at www.irs.gov/ptin. Once online, you will need to:

Create Your Account. Provide your name, email address, and security question information. The system will then email your temporary password, which you will change when you go back to enter your information in the PTIN application.

Apply for Your PTIN. Complete the online application by providing personal information, information about your previous year’s tax return, professional credentials, and more.

Get Your PTIN. Your PTIN will be provided online.

It takes about 15 minutes to sign up online and receive your PTIN. If you opt to use the paper application, Form W-12 IRS Paid Preparer Tax Identification Number (PTIN) Application, it will take 4-6 weeks to process.

PTIN renewal. PTINs must be renewed annually by December 31 for the following year. Renewal Open Season usually begins each year in mid-October.

Registering and Scheduling an Examination Appointment

Registration Process

You can register and schedule the exam using one of the three following options:

A. Online—a one-step process

The quickest way to register and schedule an examination is online. This is the only way to register and schedule an exam in the same day.

To register and schedule an examination online, follow these steps:

Access www.prometric.com/see.

Click the Obtain a PTIN/Register for My Test button.

If it’s your first time, click Create Account button to set up your user ID and password.

Register and pay for the test. You will be asked to provide your PTIN number. Prometric will assign you a candidate number. It will be the same as your PTIN.

Schedule your test. Again, go to www.prometric.com/see. Click on the Schedule My Test button. You will be asked to provide the candidate number that Prometric assigned to you when you registered for your test in step 4. Schedule your test at your closest testing center at a convenient date and time.

B.  By phone

Call Prometric at 800.306.3926

C.  By mail

Mail your completed Form 2587 to:

Prometric

Attn: IRS Special Enrollment Examination

7941 Corporate Drive

Nottingham, MD 21236

Wait six to 10 calendar days for delivery and processing before scheduling an examination appointment.

Scheduling an Examination

Candidates can take each part of the examination at their convenience.

Consequently, parts do not have to be taken on the same day, or on consecutive days. All parts do not have to be taken or scheduled during an examination window.

Candidates can take examination parts up to four times each during the testing period (May 1, 2023 to February 28, 2024). Once your registration has been processed, you can schedule an examination appointment at any time online at www.prometric.com/irs or by calling 800-306-3926 between 8 a.m. and 9 p.m. (Eastern Time), Monday through Friday. You will be provided a number confirming your appointment. Record and keep this confirmation number for your records—you will need it to reschedule, cancel or change your appointment in any way.

Examination Locations

Examinations are administered by computer at a Prometric Testing Center.

Currently, the Special Enrollment Examination is given at nearly 300 Prometric testing centers located across the United States and internationally. Test centers are located in most major metropolitan areas. A complete list of these testing centers, addresses and driving directions is located at www.prometric.com/irs. In the box titled Do More, click on “Continue” and select your preferred test location. Most locations are open on Saturdays and some locations are open on Sundays and evenings.

Testing Fees

The testing fee is $206 for each part of the examination.

This fee is paid at the time you schedule your examination. Accepted forms of payment include: MasterCard, Visa, American Express, Discover, Diner's Club cards bearing the MasterCard symbol and JCB. Electronic checks are also accepted when scheduling by phone. Money orders, paper checks and cash are not accepted. Examination testing fees are not refundable or transferable.

Rescheduling Your Appointment

If you need to reschedule an examination for another date, time or location, you must contact Prometric. Rescheduling fees will apply as follows:

No fee if you reschedule at least 30 calendar days prior to your appointment.

$35 fee if you reschedule five to 29 calendar days before your appointment.

Another $206 full examination fee if you reschedule less than five calendar days before your appointment date.

Chapter One - The Income Tax Return

The Income Tax Return

Chapter one covers the initial steps of filing a tax return—such as determining a taxpayer’s filing status, how many exemptions a taxpayer can take, what form(s) to file, important filing deadlines, how to change a return that has already been filed, and authorization of a third party to discuss a return with the IRS.

In This Chapter

Filing Requirement

Reporting Income and Expenses

Extensions of Time to File

Filing Status

Personal Exemptions and Dependents

Third Party Designee

Amended Returns

2022 Filing Requirements

A taxpayer must file a return if his or her gross income was at least the amount shown on the following chart:

*If the taxpayer turns 65 on January 1, 2023, the taxpayer is considered 65 at end of 2022. **Gross Income = standard deduction

Filing Status
Age*
Gross Income**

Single

Under 65

65 or older

$12,950

$14,700

Married Filing Jointly

Under 65 (both spouses)

65 or older (one spouse)

65 or older (both spouses)

$25,900

$27,300

$28,700

Married Filing Separately

Any age
$5

Head of Household

Under 65

65 or older

$19,400

$21,150

Qualifying surviving spouse

Under 65

65 or older

$25,900

$27,300

Dependents

A dependent must file a return if any of the following apply:

Single Dependent

Unearned income was more than $1,150 ($2,900 if age 65 or older OR blind; $4,650 if age 65 or older AND blind).

Earned income was more than $12,950 ($14,700 if age 65 or older OR blind; $16,450 if age 65 or older AND blind).

Gross income was more than the larger of:

$1,150 ($2,900 if age 65 or older OR blind; $4,650 if age 65 or older AND blind), or

Earned income (up to $12,550) plus $400 ($2,150 if age 65 or older OR blind; $3,900 if age 65 or older AND blind).

Married Dependent

Gross income was at least $5 and spouse files separate return and itemizes deductions.

Unearned income was $1,150 ($2,550 if age 65 or older OR blind; $3,950 if age 65 or older AND blind).

Earned income was more than $12,950 ($14,350 if age 65 or older OR blind; $15,750 if age 65 or older AND blind).

Gross income was more than the larger of:

$1,150 ($2,550 if age 65 or older OR blind; $3,950 if age 65 or older AND blind) or,

Earned income (up to $12,550) plus $400 ($1,800 if age 65 or older OR blind; $3,200 if age 65 or older AND blind).

Self-Employed Taxpayers

Taxpayers must file a return if:

Their net earnings from self-employment (excluding church employee income) were $400 or more, or

They had church employee income of $108.28 or more.

Gross Income from Self-Employment

Gross income from self-employment includes the amount of gross income on line 7 of Schedule C (Form 1040 or 1040-SR), Profit or Loss From Business and gross income on line 9 of Schedule F (Form 1040 or 1040-SR), Profit or Loss From Farming.

Types of Self-Employment Income:

Income from sole proprietorship and non-employee compensation.

Corporate director fees.

Partnership income from partnership operating a business (unless limited partner).

Guaranteed payment from a partnership.

Bartering income.

Real estate rent (if received as a real estate dealer).

Income paid to retired insurance agents based on commissions received prior to retirement.

Interest received in a trade or business.

Newspaper vendor’s income if vendor is 18 or over.

Net earnings of members of the clergy (unless taken a vow of poverty).

Gains and losses by a dealer in options or commodities from dealing or trading in section 1256 contracts or property related to those contracts.

A professional fiduciary who administers a deceased person’s estate.

Certain Children under Age 19 or Full-Time Students

If a child's only income is interest and dividends (including capital gain distributions and Alaska Permanent Fund dividends), the child was under age 19 at the end of the tax year or was a full-time student under age 24 at the end of the tax year, and certain other conditions are met, a parent can elect to include the child's income on the parent's return. If this election is made, the child does not have to file a return.

Other Situations When a Taxpayer Must File

A taxpayer must file a return if any of the following conditions below apply:

The taxpayer owes any special taxes, including any of the following:

Alternative minimum tax.

Additional tax on a qualified plan, including an individual retirement arrangement (IRA), or other tax-favored account. A taxpayer can file Form 5329 by itself without filing Form 1040 or 1040-SR.

Household employment taxes. A taxpayer can file Schedule H by itself without filing Form 1040 or 1040-SR.

Social security and Medicare tax on tips not reported to employer or on wages received from an employer who did not withhold these taxes.

Uncollected social security and Medicare or RRTA tax on tips reported to an employer or on group-term life insurance and additional taxes on health savings accounts.

Recapture taxes.

The taxpayer received distributions from an Archer MSA, Medicare Advantage MSA, or Health Savings Account.

Advance payments of the health coverage tax credit. Form(s) 1099-H will show the amount of the advance payments.

Resident Aliens

Resident Aliens, who reside in the U.S. for the entire year, must file their tax returns using the same rules that apply to U.S. Citizens. A resident alien’s income is subject to tax in the same manner as a U.S. Citizen and must report all income whether from sources within or outside the U.S.

Resident Alien

A resident alien is an individual who is not a citizen or national of the U.S. and who meets either the green card test or the substantial presence test for the calendar year.

Green card test. The taxpayer is a U.S. resident if he or she was a lawful permanent resident of the U.S. at any time during the calendar year. This is known as the green card test because resident aliens hold immigrant visas (also known as green cards).

Substantial presence test. A taxpayer is considered a U.S. resident if he or she meets the substantial presence test for the calendar year. To meet this test, the taxpayer must be physically present in the United States on at least:

31 days during the current calendar year, and

A total of 183 days during the current year and the 2 preceding years, counting all the days of physical presence in the current year, but only 1/3 the number of days of presence in the first preceding year, and only 1/6 the number of days in the second preceding year.

Dual-Status Aliens

If a person is a U.S. resident for the calendar year, but is not a U.S. resident at any time during the preceding calendar year, the person is a U.S. resident only for the part of the calendar year that begins on the residency starting date. The person is a nonresident alien for the part of the year before that date.

Nonresident Spouse Treated as a Resident

If, at the end of your tax year, a taxpayer is married and one spouse is a U.S. citizen or a resident alien and the other spouse is a nonresident alien, the taxpayer can choose to treat the nonresident spouse as a U.S. resident. This includes situations in which one spouse is a nonresident alien at the beginning of the tax year, but a resident alien at the end of the year, and the other spouse is a nonresident alien at the end of the year.

If the choice is made, the taxpayer and his or her spouse are treated for income tax purposes as residents for the entire tax year. Neither the taxpayer nor his or her spouse can claim under any tax treaty not to be a U.S. resident. Both spouses are taxed on worldwide income. The spouses must file a joint income tax return for the year the choice is made, but the spouses can file joint or separate returns in later years.

Nonresident Aliens

How Income of Nonresident Aliens is Taxed

A nonresident alien usually is subject to U.S. income tax only on U.S. source income. A nonresident alien's income that is subject to U.S. income tax must be divided into two categories:

Income that is effectively connected with a trade or business in the U.S., and

Income that is not effectively connected with a trade or business in the U.S

The difference between these two categories is that effectively connected income, after allowable deductions, is taxed at graduated rates. These are the same rates that apply to U.S. citizens and residents. Income that is not effectively connected is taxed at a flat 30% (or lower treaty) rate.

Effectively Connected Income

If a taxpayer is engaged in a U.S. trade or business, all income, gain, or loss for the tax year that a taxpayer gets from sources within the U.S. (other than certain investment income) is treated as effectively connected income (ECI). This applies whether or not there is any connection between the income and the trade or business being carried on in the United States during the tax year. Investment income will be considered to be ECI if:

The income is associated with U.S. assets used in, or held for use in, the conduct of that trade or business; or

The activities of that trade or business conducted in the U.S. are a material factor in the realization of the income.

Deductions are allowed against ECI, and net ECI is taxed at the same graduated rates used by U.S. citizens.

Fixed or Determinable Annual or Periodical Income (FDAP)

FDAP income consists primarily of passive investment income — interest, dividends, rents, royalties, etc. In theory, FDAP income may consist of any kind of U.S. source income attributable to a foreign person.

FDAP income may or may not be effectively connected with a U.S. business. For example, effectively connected income includes rents from real property if the nonresident alien chooses to treat that income as effectively connected with a U.S. business. Deductions are not allowed against FDAP income, and it is taxed at a flat 30% rate or lesser rate under a tax treaty.

30% Withholding Tax

U.S. payers of income other than wages, such as dividends and royalties are required to withhold tax at a flat 30% on nonwage income paid to nonresident aliens.

Deductions for Nonresident Aliens

Deductions

Nonresident aliens can claim similar deductions that resident aliens can claim. However, nonresident aliens can claim only deductions related to income that is effectively connected with their U.S. trade or business.

Standard Deductions

Nonresident aliens cannot claim the standard deduction unless they are students and business apprentices from India who are eligible for the benefits of Article 21(2) of the US-India Income Tax Treaty.

Itemized Deductions

Nonresident aliens can deduct certain itemized deductions if they receive income effectively connected with a U.S. trade or business. These deductions include state and local income taxes, charitable contributions to U.S. organizations and casualty and theft losses. Use Schedule A of Form 1040-NR to claim itemized deductions.

Filing Requirements

Nonresident aliens are required to file an income tax return (Form 1040-NR) if they are any of the following:

A nonresident alien individual engaged or considered to be engaged in a trade or business in the U.S. during the year. A nonresident alien individual must file even if:

The nonresident alien had no income from a trade or business conducted in the U.S.,

The nonresident alien had no income from U.S. sources, or

The nonresident alien’s income is exempt from income tax.

A nonresident alien individual not engaged in a trade or business in the U.S with U.S. income on which the tax liability was not satisfied by the withholding of tax at the source.

A representative or agent responsible for filing of an individual in (1) or (2) above.

A fiduciary for a nonresident alien estate or trust.

Exceptions. Nonresident aliens do not need to file Form 1040-NR or if they meet either of the following conditions:

The alien was a nonresident alien student, teacher, or trainee who was temporarily present in the U.S. under an “F,” “J,” “M,” or “Q” visa and has no income that is subject to tax.

The alien was a student or business apprentice who was eligible for the benefits of Article 21(2) of the United States–India Income Tax Treaty, was single or a qualifying surviving spouse, and gross income for 2022 was less than or equal to $12,950 if single ($25,900 if a qualifying surviving spouse).

The alien was a partner in a U.S. partnership that was not engaged in a trade or business in the U.S. during 2022 and his or her Schedule K-1 (Form 1065) includes only income from U.S. sources that is not effectively connected with a U.S. trade or business.

Filing Due Dates

* If the due dates above land on a holiday or weekend, the due date is the next business day.

Taxpayer (calendar year)
Form
Due Date*
Due Date with Extension

Most Taxpayers

Form 1040 or 1040-SR

April 15

October 15

Taxpayers Outside the U.S.

Form 1040 or 1040-SR

June 15

October 15

Decedent Taxpayer

Form 1040 or 1040-SR

April 15

October 15

Resident Aliens

Form 1040 or 1040-SR

April 15

October 15

Nonresident Aliens with wages subject to withholding

Form 1040-NR or 1040-NR-EZ

April 15

October 15

Nonresident Aliens without wages subject to withholding

Form 1040-NR or 1040-NR-EZ

June 15

October 15

When to Report Income and Expenses

A taxpayer must figure taxable income on the basis of a tax year. A “tax year” is an annual accounting period used for keeping records and reporting income and expenses. A taxpayer must account for his or her income and expenses in a way that clearly shows taxable income using an accounting method.

Accounting Periods

Most individual tax returns cover a calendar year—the 12 months from January 1 through December 31. If the taxpayer does not use a calendar year, the accounting period is a fiscal year. A regular fiscal year is a 12-month period that ends on the last day of any month except December. A 52-53-week fiscal year varies from 52 to 53 weeks and always ends on the same day of the week.

Accounting Methods

Most taxpayers use either the cash method or an accrual method. Taxpayers choose a method when they file their first income tax return. If a taxpayer wants to change his or her accounting method after that, the taxpayer must get IRS approval.

Cash Method

The cash method of accounting is used by most individuals and many small businesses with no inventories. Under this method, report all items of income in the year in which they are actually or constructively received. Deduct all expenses in the year they are actually paid.

Constructive Receipt

Income is constructively received when it is made available to the taxpayer without restrictions. It does not have to be in the possession of the taxpayer.

Examples of income constructively received:

Interest credited to one's bank account, regardless of when funds are withdrawn.

Debts paid for a taxpayer, if not a gift or loan.

Payment received by an agent for a taxpayer.

Check received or made available to a taxpayer.

Wages that are attached or garnisheed are treated as constructively received by a taxpayer.

Income paid in advance such as rents, interest, and pay for services to be performed later.

Accrual Method

Under an accrual method of accounting, income is reported in the year earned. Expenses are deducted or capitalized in the year incurred, rather than when they are paid.

Extensions of Time to File

Automatic Extension

A taxpayer may obtain an automatic 6-month extension of time to file an Individual tax return in one of the following ways:

Electronically file Form 4868 (PDF), Application For Automatic Extension of Time To File U.S. Individual Tax Return.

Pay all or part of the estimated taxes due using a credit or debit card or by using the Electronic Federal Tax Payment System (EFTPS).

File a paper Form 4868 by mail.

Payment of Tax

An extension of time to file is not an extension of time to pay. A taxpayer must make an accurate estimate of tax liability for that year and pay any amount due with Form 4868. If the taxpayer cannot pay the full amount of tax due, he or she can still get the extension. The taxpayer will owe interest on the unpaid amount.

Taxpayers Outside the U.S.

A taxpayer is allowed an automatic 2-month extension to file his or her the tax return and pay any federal tax due if the taxpayer is a U.S. citizen or resident and on the regular due date of the return:

Was living outside the U.S. and Puerto Rico, and his or her main place of business or post of duty is outside the U.S. and Puerto Rico, or

Is in the military or naval service on duty outside the U.S. and Puerto Rico.

Extension Beyond 2 Months

If a taxpayer cannot file his or her tax return within the automatic 2-month extension, the taxpayer can get an additional 4-month extension by filing Form 4868 and checking the box on line 8.

Extension Period for Individuals Serving in Combat Zone

For individuals serving in a combat zone, the deadline for filing a return, paying any tax due, and filing a claim for refund is extended for at least 180 days after the later of:

The last day the taxpayer is in a combat zone or the last day the area qualifies as a combat zone, or

The last day of any continuous qualified hospitalization for injury from service in the combat zone.

Federal Disaster

Postponed Tax Deadlines Affected by a Federally Declared Disaster

The IRS may postpone for up to one year certain tax deadlines of taxpayers who are affected by a federally declared disaster. The tax deadlines the IRS may postpone include those for filing income, excise, and employment tax returns, paying income, excise, and employment taxes, and making contributions to a traditional IRA or Roth IRA.

Who is Eligible?

If the IRS postpones a tax deadline, the following taxpayers are eligible for the postponement:

Any individual whose main home is located in a covered disaster area.

Any business entity or sole proprietor whose principal place of business is located in a covered disaster area.

Any individual who is a relief worker affiliated with a recognized government or philanthropic organization and who is assisting in a covered disaster area.

Any individual, business entity, or sole proprietorship whose records are needed to meet a postponed tax deadline, provided those records are maintained in a covered disaster area. The main home or principal place of business does not have to be located in the covered disaster area.

Any estate or trust that has tax records necessary to meet a postponed tax deadline, provided those records are maintained in a covered disaster area.

The spouse on a joint return with a taxpayer who is eligible for postponements.

Any individual, business entity, or sole proprietorship not located in a covered disaster area, but whose records necessary to meet a postponed tax deadline are located in the covered disaster area.

Any individual visiting the covered disaster area who was killed or injured as a result of the disaster.

Any other person determined by the IRS to be affected by a federally declared disaster.

Mandatory 60-Day Extension

Certain taxpayer’s affected by a federally declared disaster that occurs after December 20, 2019, may be eligible for a mandatory 60-day extension for certain tax deadlines such as filing or paying income, excise, and employment taxes; and making contributions to a traditional IRA or Roth IRA.

There are five filing statuses:

Single (S).

Married Filing Jointly (MFJ).

Married Filing Separately (MFS).

Head of Household (H/H).

Qualifying Surviving Spouse (QSS).

Marital Status

Filing status depends on whether the taxpayer is considered unmarried or married.

Unmarried Persons

A taxpayer is considered unmarried for the whole year if, on the last day of the tax year, the taxpayer is unmarried or legally separated from his or her spouse under a divorce or separate maintenance decree. State law governs whether a taxpayer is married or legally separated under a divorce or separate maintenance decree.

Annulled Marriages

If an individual obtains a court decree of annulment (which holds that no valid marriage ever existed), that individual must file amended returns claiming a filing status of single or head of household, whichever applies, for all prior tax years affected by the annulment that are not closed by the statute of limitations.

Considered Married

A taxpayer is considered married for the whole year if, on the last day of the tax year, the taxpayer and his or her spouse meet any one of the following tests:

Married and living together.

Living together in a common law marriage that is recognized in the state of residence or in the state where the common law marriage began.

Married and living apart, but not legally separated under a decree of divorce or separate maintenance.

Separated under an interlocutory (not final) decree of divorce. For purposes of filing a joint return, the taxpayer is not considered divorced.

Same-Sex Marriage

For federal tax purposes, the marriage of a same sex couple is treated the same as the marriage of a man to a woman. However, individuals who have entered into a registered domestic partnership, civil union, or other similar relationship that is not considered a marriage under state law are not considered married for federal tax purposes.

Death of Spouse

If a spouse dies during the year, the surviving spouse is considered married for the whole year.

If the surviving spouse remarried before the end of the year, he or she may file a joint return with the new spouse. A joint return cannot be filed with deceased spouse. The deceased spouse's filing status is married filing separately for that year. If the surviving spouse files a joint return with the deceased spouse and a personal representative for the deceased spouse is later appointed by the court, the personal representative can change the joint return. This is done by filing a separate return for the decedent within one year from the due date of the return (including any extensions). The joint return then becomes the separate return for the surviving spouse. The decedent’s items are excluded and tax liability of the surviving spouse is refigured.

Married Persons Living Apart

If a taxpayer lives apart from his or her spouse and meets certain tests, the taxpayer can file as head of household even though he or she is not divorced or legally separated.

Single

A taxpayer's filing status is single if he or she is unmarried or legally separated from their spouse under a divorce or separate maintenance decree and does not qualify for another filing status. A taxpayer is considered unmarried for the whole year if, on the last day of the year, the taxpayer is unmarried or legally separated from spouse under a signed divorce or separate maintenance decree.

Married Filing Jointly

In order to file jointly both spouses must:

Include all their income and deductions on the joint return, and

Use the same accounting period (spouses can use different accounting methods).

Joint Responsibility

Both spouses may be held responsible, jointly and individually, for the tax and any interest or penalty due on a joint return. One spouse may be held responsible for all the tax due even if all the income was earned by the other spouse.

Divorced Taxpayer

Both spouses may be held jointly and individually responsible for any tax, interest, and penalties due on a joint return filed before divorce. This responsibility applies even if the divorce decree states that one spouse will be responsible for any amounts due on previously filed joint returns.

Relief from Joint Responsibility

In some cases, one spouse may be relieved of joint liability for tax, interest, and penalties on a joint return for items of the other spouse which were incorrectly reported on the joint return. There are four types of relief available:

Innocent spouse relief. The taxpayer must meet all of the following conditions to qualify for innocent spouse relief:

Filed a joint return which has an understatement of tax due to erroneous items of the taxpayer's spouse (or former spouse).

Establish that at the time the taxpayer signed the joint return the taxpayer did not know, and had no reason to know, that there was an understatement of tax.

Taking into account all the facts and circumstances, it would be unfair to hold the taxpayer liable for the understatement of tax.

Separation of liability. Applies to joint filers who are divorced, widowed, legally separated, or have not lived together for the 12 months ending on the date election of this relief is filed.

Equitable relief. Applies to all joint filers who do not qualify for innocent spouse relief or separation of liability and to married couples filing separate returns in community property states.

Community Property Laws

A taxpayer must follow community property laws when filing a tax return if married and live in a community property state.  

Generally, community property laws provide that the taxpayer and his or her spouse are both entitled to one-half of the total community income and expenses. If the taxpayer and his or her spouse filed a joint return in a community property state, both spouses are jointly and severally liable for the total liability on the return. However, community property laws are not taken into account in determining whether an item belongs to the taxpayer or spouse (or former spouse) if requesting relief from joint and several liability.

Relief From Liability for Tax Attributable to an Item of Community Income

A taxpayer is not responsible for the tax relating to an item of community income if all the following conditions exist.

Did not file a joint return.

Did not include the item of community income in gross income.

The item of community income did not include

The spouse’s wages, salaries or other compensation,

The spouse’s business income,

The spouse’s share of partnership income,

The spouse’s income from separate property, and

Any other income belonging to spouse under community property law.

The taxpayer established that he or she did not know of, and had no reason to know of, that community income.

Under all facts and circumstances, it would not be fair to include the items of community property in the taxpayer’s gross income.

File Form 8857, Request for Innocent Spouse Relief, to request any of these kinds of relief.

Nonresident Alien and Dual-Status Alien

A joint return cannot be filed if either spouse is a nonresident alien at any time during the year. However, if at the end of the year one spouse was a nonresident alien or dual-status alien married to a U.S. citizen or resident, both spouses may choose to file a joint return. Both spouses will be taxed as U.S. citizens or residents for the entire tax year.

Signing a Joint Return.

For a return to be considered a joint return, both spouses must generally sign the return.

Spouse Died Before Signing

If a spouse died before signing the return, the executor or administrator must sign the return for the deceased spouse. If no one else has yet been appointed as executor or administrator, the surviving spouse can sign the return for the deceased spouse and enter "Filing as surviving spouse" in the signing area of the return.

Injury or Disease Prevents Signing

If a taxpayer cannot sign because of disease or injury and tells his or her spouse to sign for him or her, the spouse can sign for the taxpayer in the proper space on the return followed by the words "By (spouse name), Husband (or Wife)." The spouse must also sign in the space provided for his or her signature. Attach a dated statement, signed by the spouse, to the return. The statement should include the form number of the return filing, the tax year and the reason the taxpayer cannot sign, and it should state that the taxpayer has agreed to the spouse signing for him or her.

Signing as Guardian of Spouse

If a taxpayer is the guardian of his or her spouse who is mentally incompetent, the taxpayer can sign the return for his or her spouse as guardian.

Spouse in Combat Zone

A taxpayer can sign a joint return for his or her spouse if the spouse cannot sign because he or she is serving in a combat zone, even if the taxpayer does not have a power of attorney or other statement. Attach a signed statement to the return explaining that the spouse is serving in a combat zone.

Power of Attorney

In order to sign a return for a spouse in any of these cases, the taxpayer must attach to the return a power of attorney (POA) that authorizes the taxpayer to sign for his or her spouse. Use Form 2848, Power of Attorney and Declaration of Representative.

Married Filing Separately

If spouses file separate returns, each spouse reports only his or her own income, deductions, and credits on his or her individual return. A taxpayer can file a separate return even if his or her spouse had no income.

Separate Liability

When spouses file separately, each spouse is responsible only for the tax due on his or her own return.

Itemized Deductions

If spouses file separate returns and one spouse itemizes deductions, the other spouse cannot use the standard deduction and should also itemize deductions.

Community Property States

If a taxpayer lives in Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, or Wisconsin and files separately, the taxpayer's income may be considered separate income or community income for income tax purposes. If the spouses file separately, each spouse must report half of all community income and all of his or her separate income on his or her federal tax return.

Community property. Generally, community property is property:

That the taxpayer, his or her spouse (or registered domestic partner), or both acquire during the marriage (or registered domestic partnership) while the taxpayer and spouse (or registered domestic partner) are domiciled in a community property state.

That the taxpayer and his or her spouse (or registered domestic partner) agreed to convert from separate to community property.

That cannot be identified as separate property.

Community income. Generally, community income is income from:

Community property.

Salaries, wages, and other pay received for the services performed by the taxpayer, his or her spouse (or registered domestic partner), or both during the marriage (or registered domestic partnership) while domiciled in a community property state.

Real estate that is treated as community property under the laws of the state where the property is located.

Separate property. Generally, separate property is:

Property that the taxpayer or his or her spouse (or registered domestic partner) owned separately before the marriage (or registered domestic partnership).

Money earned while domiciled in a noncommunity property state.

Property that the taxpayer or his or her spouse (or registered domestic partner) received separately as a gift or inheritance during the marriage (or registered domestic partnership).

Property that the taxpayer or his or her spouse (or registered domestic partner) bought with separate funds, or acquired in exchange for separate property, during the marriage (or registered domestic partnership).

Property that the taxpayer and his or her spouse (or registered domestic partner) converted from community property to separate property through an agreement valid under state law.

The part of property bought with separate funds, if part was bought with community funds and part with separate funds.

Separate income. Generally, income from separate property is the separate income of the spouse (or the registered domestic partner) who owns the property.

Identifying Income, Deductions, and Credits

Form 8958. If spouses (or domestic partners) file separate returns, each spouse must attach Form 8958, Allocation of Tax Amounts Between Certain Individuals in Community Property States, to his or her Form 1040 or 1040-SR to identify the community and separate income, deductions, credits, and other return amounts according to the laws of the state of domicile.

Special rules which apply to married filing separately status

If a taxpayer chooses married filing separately as his or her filing status, the following special rules apply:

The tax rate generally will be higher than it would be on a joint return.

The exemption amount for figuring the alternative minimum tax will be half that allowed to a joint return.

The taxpayer cannot take the credit for child and dependent care expenses in most cases, and the amount that can be excluded from income under an employer's dependent care assistance program is limited to $2,500 (instead of $5,000 if filing a joint return). However, if the taxpayer is legally separated or living apart from his or her spouse for the last 6 month of the year, the taxpayer may be able to file a separate return and still take the credit.

The taxpayer cannot take the earned income credit.

The taxpayer cannot take the exclusion or credit for adoption expenses in most cases.

The taxpayer cannot take the education credits (the American opportunity credit and lifetime learning credit), the deduction for student loan interest.

The taxpayer cannot exclude any interest income from qualified U.S. savings bonds that was used for higher education expenses.

If the taxpayer lived with his or her spouse at any time during the tax year:

The taxpayer cannot claim the credit for the elderly or the disabled, and

Will have to include in income more (up to 85%) of any social security or equivalent railroad retirement benefits received.

The following credits are reduced at income levels that are half of those for a joint return:

The child tax credit and the credit for other dependents.

The retirement savings contributions credit.

The capital loss deduction limit is $1,500 (instead of $3,000 if filing a joint return).

If one spouse itemizes deductions, the other spouse must also itemize deductions. If the taxpayer can claim the standard deduction, the basic standard deduction is half the amount allowed on a joint return.

Joint Return after Separate Returns

If a taxpayer or spouse (or both) files a separate return, the taxpayer can change to a joint return any time within 3 years from the due date of the separate return or returns. This does not include any extensions. A separate return includes a return filed by the taxpayer or spouse claiming married filing separately, single, or head of household filing status.

Separate Returns after Joint Return

Once taxpayers file a joint return, the spouses cannot choose to file separate returns for that year after the due date of the return.

Exception: A personal representative for a decedent can change from a joint return elected by the surviving spouse to a separate return for the decedent. The personal representative has 1 year from the due date (including extensions) of the return to make the change.

Head of Household

To file as head of household, a taxpayer must meet the following requirements:

Be unmarried or “considered unmarried” on the last day of the year.

Have paid more than half the cost of keeping up a home that was the main home for more than half the year for the taxpayer and any of the following:

A qualifying child.

A qualifying relative.

Considered Unmarried

A taxpayer is considered unmarried on the last day of the tax year if he or she meets all the following tests:

Filed a separate return. A separate return includes a return claiming married filing separate, single, or head of household filing status.

Paid more than half the cost of keeping up a home for the tax year.

Did not live with spouse during the last 6 months of the tax year.

The taxpayer's home was the main home for the taxpayer's child, stepchild, or eligible foster child for more than half the year.

Must be able to claim the child as a dependent. The taxpayer can still meet this test if child was not claimed because noncustodial parent is allowed to claim the child as a dependent.

Temporary Absences

A taxpayer and his or her qualifying child or relative are considered to live together even if one or both are temporarily absent from the home due to special circumstances such as illness, education, business, vacation, or military service.

Special Rule for Parent

A taxpayer may file as head of household even if a parent whom the taxpayer claims as a dependent does not live with the taxpayer. The taxpayer must pay more than half the cost of keeping up a home that was the main home for the entire year for a parent or for paying more than half the cost of keeping a parent in a rest home or home for the elderly.

Death or Birth

A taxpayer may be eligible to file as head of household if the individual who qualifies the taxpayer for this filing status is born or dies during the year. If the individual is a qualifying child, the child must have lived with the taxpayer for more than half the part of year he or she was alive.

Qualifying Surviving Spouse

A taxpayer may use married filing jointly in the year spouse dies and qualifying surviving spouse, if eligible, in the following two years. To be eligible, taxpayer must meet all of the following tests:

Be entitled to file a joint return with spouse for the year the spouse dies. It does not matter whether a joint return is actually filed.

Did not remarry before the end of the tax year.

Have a child, stepchild, or adopted child, (not a foster child) who qualifies as a dependent except that:

The child had gross income of $4,400 or more,

The child filed a joint return, or

The taxpayer can be claimed as a dependent on someone else's return.

The child lived in the taxpayer’s home all year, except for temporary absences.

Paid more than half the cost of keeping up a home for the year.

Death or Birth

A taxpayer may be eligible to file as a qualifying surviving spouse if the child who qualifies the taxpayer for this filing status is born or dies during the year. The taxpayer must have provided more than half of the cost of keeping up a home that was the child's main home during the entire part of the year he or she was alive.

Dependents

The term “dependent” means:

A qualifying child, or

A qualifying relative.

A taxpayer can claim a qualifying child or qualifying relative as a dependent only if these three tests are met:

Dependent Taxpayer Test. The taxpayer cannot claim anyone else as a dependent if the taxpayer can be claimed as a dependent by another person.

Joint Return Test. A taxpayer is not allowed an exemption for a dependent if the dependent files a joint return. Exception: The dependent filed a joint return merely as a claim for refund and no tax liability would exist for either spouse on separate returns.

Citizen or Resident Test. To meet this test, the person must be a U.S. citizen or resident, or a resident of Canada or Mexico. Exception for adopted child: If the taxpayer legally adopted a child who is not a U.S. citizen, U.S. resident alien, or U.S. national, this test is met if the child lived with the taxpayer as a member of the taxpayer's household all year. This exception also applies if the child was lawfully placed with the taxpayer for legal adoption.

Qualifying Child

The following are the five tests that must be met for a child to be a qualifying child:

Relationship Test. To meet this test, a child must be:

A son, daughter, stepchild, adopted child, eligible foster child, or a descendant (e.g., grandchild) of any of them, or

A brother, sister, half-brother, half-sister, stepbrother, stepsister, or a descendant (e.g., niece or nephew) of any of them.

Age Test. To meet this test, a child must be:

Under age 19 at the end of the year and younger than the taxpayer (or spouse if filing jointly),

A full-time student under age 24 at the end of the year and younger than the taxpayer, or

Permanently and totally disabled at any time during the year, regardless of age.

Residency Test. To meet this test, a child must have lived with the taxpayer for more than half of the year. A child is considered to have lived with the taxpayer during periods of time when either the taxpayer or child or both, are temporarily absent due to special circumstances such as illness, education, business, vacation, military service or detention in a juvenile facility. A child who died during the year is treated as having lived with the taxpayer all year if the taxpayer’s home was the child's home the entire time he or she was alive during the year. The taxpayer can claim a child as a dependent who was born alive during the year, even if the child lived only for a moment. There must be proof of a live birth shown by an official document, such as a birth certificate.

Support Test. To meet this test, the child cannot have provided more than half of his or her own support for the year.

Joint Return Test. To meet this test, the child cannot file a joint return for the year. Exception: The joint return test does not apply if the child and his or her spouse file a joint return merely as a claim for refund.

Special Test for Qualifying Child of More than One Person

If a taxpayer and another person have the same qualifying child, use the following tie-breaker rules:

If only one of the persons is the child’s parent, the child is the qualifying child of the parent.

If the parents do not file a joint return together, the child is the qualifying child of the parent with whom the child lived for the longer period of time during the year.

If no parent can claim the child as a qualifying child, the child is treated as the qualifying child of the person who had the highest AGI for the year.

If a parent can claim the child as a qualifying child but no parent claims the child, the child is treated as the qualifying child of the person who had the highest AGI for the year, but only if that person's AGI is higher than the highest AGI of any of the child's parents who can claim the child.

Qualifying Relative

The following are the four tests that must be met for a person to be a qualifying relative:

Not a qualifying child test. A child is not a qualifying relative if the child is the taxpayer's qualifying child or the qualifying child of any other taxpayer.

Member of household or relationship test. To meet this test, a person must either:

Live with the taxpayer all year as a member of the taxpayer's household, or

Be the taxpayer's child, stepchild, eligible foster child or a descendant of any of them, sibling, step-sibling, half-sibling, parent, step parent, foster parent, any of these relationships established through marriage (in-laws, even if the marriage ends in death or divorce), uncle, aunt, niece, and nephew.

Gross income test. To meet this test, a person's gross income for the year must be less than $4,400. Gross income is all income (in the form of money, property, and services) that is not exempt from tax. Gross receipts from rental property are gross income. Do not deduct taxes, repairs, etc., to determine the gross income from rental property. Gross income includes a partner’s share of the gross, not a share of the net, partnership income.

Support test. To meet this test, a taxpayer must provide more than half of a person's total support during the calendar year. The following items are included in support:

Food

Clothing

Education

Transportation

Recreation

Medical and Dental Care

Medical Insurance

Lodging (FMV of the room, apartment, or house in which person lives)

Other similar necessities

Items not included in total support:

Federal, state, and local income taxes paid by persons from their own income.

Social security and Medicare taxes paid by persons from their own income.

Life insurance premiums.

Funeral expenses.

Scholarships received by a child if the child is a student.

Survivors' and dependents' educational assistance payments used for support of the child who received them.

Figuring support. Compare the amount contributed by taxpayer to the person's support with the total amount of support the person received from all sources. This includes the person's own funds used for support. A person's own funds are not support unless they are actually spent for support.

Tax-exempt income. In figuring a person's total support, include tax-exempt income, savings, and borrowed amounts used to support that person.

Child support. All child support payments actually received from the noncustodial parent are considered used for the support of the child. If the support payments are more than the amount required for this year, any payment for an earlier year is not support provided by the noncustodial parent for either the earlier year or for this year.

Support Test for Children of Divorced or Separated Parents (or Parents Who Live Apart)

Custodial parent. The custodial parent is the parent with whom the child lived for the greater number of nights during the year. The other parent is the noncustodial parent.

Noncustodial parent. A child will be treated as a qualifying relative of the noncustodial parent if all of the following apply.

The parents are either divorced or legally separated under a decree, separated under a written separation agreement, or have lived apart during the last 6 months of the year.

The child received over half of his or her support for the year from both parents.

The child is in the custody of one or both parents for more than half the year.

Either of the following statements is true.

The custodial parent signs a written declaration (Form 8332) that he or she will not claim the child as a dependent for the year and the noncustodial parent attaches this written declaration to his or her return.

A pre-1985 decree of divorce or separate maintenance or written separation agreement that applies to the tax year states that the noncustodial parent can claim the child as a dependent and the noncustodial parent provides at least $600 for the support of the child during the year.

Note: The taxpayer must include the social security number (SSN) for each person being claimed as a dependent. If the taxpayer has not yet obtained or received an SSN for the person, the taxpayer will have to file Form 4868 for an extension of time to file. If the dependent is a resident or nonresident alien who does not have and is not eligible to get an SSN, the IRS will issue the dependent an individual taxpayer identification number (ITIN). Use Form W-7, Application for IRS Individual Identification Number. It usually takes about 30 days to get an ITIN.

Third Party Designee

A taxpayer can authorize the IRS to discuss his or her return with a friend, family member, or any other person the taxpayer chooses. By checking the "Yes" box in the "Third Party Designee" area of the return, the taxpayer authorizes the IRS to call the designee to answer questions that may arise during the processing of the tax return. It also authorizes the designee to:

Give the IRS any information that is missing from the tax return.

Call the IRS for information about the processing of the return or the status of the refund or payments.

Receive copies of notices or transcripts related to the return, upon request.

Respond to certain IRS notices about math errors, offsets, and return preparation.

The designee is not authorized to receive any refund check, bind the taxpayer to anything (including any additional tax liability), or otherwise represent the taxpayer before the IRS. The authorization will automatically end no later than the due date (without any extensions) for filing the next year's return.

Amended Returns

A taxpayer can file an amended return if he or she discovered an error in the originally filed return. A taxpayer should amend his or her return if, after the original return is filed, it is discovered that:

The taxpayer did not report some income,

The taxpayer claimed deductions or credits that should not have been claimed,

The taxpayer did not claim deductions or credits that could have been claimed, or

The taxpayer should have claimed a different filing status. (Once a joint return is filed, a taxpayer cannot choose to file separate returns for that year after the due date of the return. However, an executor may be able to make this change for a deceased spouse.)

Form 1040X

Use Form 1040X, Amended U.S. Individual Income Tax Return, to file an amended return. An amended tax return for tax years 2019 or later can be filed electronically.

Time for Filing a Claim for Refund

Generally, a taxpayer must file a claim for a credit or refund within 3 years after the date the original return was filed or within 2 years after the date the taxpayer paid the tax, whichever is later. Returns filed before the due date (without regard to extensions) are considered filed on the due date (even if the due date was a Saturday, Sunday, or legal holiday).

Chapter Two - Income

Income

The Enrolled Agent Exam will assess a preparer’s knowledge of what constitutes income, what income is taxed and what income is not taxed. Chapter two describes the many types of income, explains what income is taxed, what income is not taxed, and what forms and schedules should be used to report income.

In This Chapter

Wages, Salaries, Tips, and other Earnings

Interest Income

Dividend Income

Rental Income and Expenses

Retirement Plans, Pensions and Annuities

Social Security

Foreign Source Income

Other Income

Wages, Salaries, Tips, and Other Earnings

Employee Compensation

An employee must include in income the following compensation:

Advance commissions

Accrued leave payment

Back pay awards

Bonuses and awards

Christmas gifts (that can be exchanged for cash)

Employer provided child care assistance

Employer-provided transportation (van pool & transit pass) exceeding $280 a month

Employer-provided qualified parking exceeding $280 a month

Employer-provided car for personal use

Group-Term Life Insurance over $50,000 of coverage

Moving expense allowances or reimbursements for nondeductible moving expenses

Off-premises athletic facilities

Property purchased from employer (if purchased below market value)

Property received for services (FMV)

Severance pay

Sick pay

Stock appreciation rights (if exercised)

Stock options (if exercised)

Unemployment compensation

Supplement unemployment benefits

Union benefits

Strike and lockout benefits

The following chart is an overview of employee tax treatment for various fringe benefits:

Type of Fringe Benefit | Tax Treatment
Accident or health plan | Value of the plan coverage provided by an employer is nontaxable. Benefits received from the plan are taxable if the plan is paid by employer.
Achievement awards | Nontaxable up to $1,600 for qualified plan awards ($400 for nonqualified awards).
Adoption assistance | Nontaxable up to $14,890
Athletic facilities | Nontaxable if used by employees, their spouses, and their dependent children and the facility is operated by the employer on premises owned or leased by the employer.
De minimis (minimal) benefits | Nontaxable for property or services provided by employer that have little value such as holiday gifts or tickets to theater or sporting events. Cannot be cash or cash equivalent benefit.
Dependent care assistance | Nontaxable up to $5,000 ($2,500 if married filing separate).
Educational assistance | Nontaxable up to $5,250.
Employee discounts | Nontaxable up to 20% of the price charged nonemployee customers for the service.
Group-term life insurance coverage | Nontaxable up to cost of $50,000 of coverage.
Health savings accounts (HSAs) | Nontaxable for qualified individuals up to the HSA contribution limits.
Holiday gifts | Nontaxable if items like turkey, ham, or other items of nominal value. Taxable if cash, gift certificate, or similar items exchanged for cash.
Lodging on employer's business premises | Nontaxable if furnished for employer's convenience as a condition of employment.
Meals | Nontaxable if furnished on employer business premises for employer convenience.
Moving expense reimbursements | Exclusion from income for members of the U.S. Armed Forces on active duty only.
No-additional-cost services | Nontaxable
Retirement planning services | Nontaxable if employer maintains a qualified retirement plan.
Transportation (commuting) benefits | Nontaxable up to $280 a month for qualified parking, $280 a month for transit passes.
Tuition reduction | Nontaxable if for undergraduate education (or graduate education if the employee performs teaching or research activities).

Stock Options

If a taxpayer receives an option to buy or sell stock or other property as payment for services, the taxpayer may have income when the option is received (the grant), when the option is exercised (use it to buy or sell the stock or other property), or when the option is sold or otherwise disposed of or property acquired through exercise of the option. The timing, type, and amount of income inclusion depend on whether the option received is a nonstatutory stock option or a statutory stock option.

Nonstatutory Stock Options

If the taxpayer is granted a nonstatutory stock option, the taxpayer may have income when the option is received.

The amount of income to include and the time to include it depend on whether the fair market value of the option can be readily determined. If the nonstatutory stock option received has a readily determinable fair market value at the time it is granted, the option is treated like other property received as compensation. If the fair market value of the option is not readily determinable at the time it is granted (even if it is determined later), the taxpayer does not have income until the option is exercised or transferred.

Statutory Stock Options

Statutory stock options are not included in income when they are granted or exercised. There are two kinds of statutory stock options:

Incentive stock options (ISOs).

Options granted under employee stock purchase plans (ESPP).

Alternative Minimum Tax (AMT)

If a taxpayer exercises ISOs but does not sell them in the same year, the taxpayer will be subject to AMT. A taxpayer must include as an adjustment in figuring alternative minimum taxable income the amount by which the fair market value of the stock exceeds the option price.

Special Rules for Certain Employees

Foreign Employer

U.S. citizens who works in the United States for a foreign government, an international organization, a foreign embassy, or any foreign employer must include their salary in income.

The wages are exempt from Social security and Medicare taxes if the taxpayer is employed in the U.S. by an international organization or a foreign government. However, the taxpayer must pay self-employment tax on his or her earnings from services performed in the U.S., even though the taxpayer is not self-employed.

Military

Payments received as a member of a military service generally are taxed as wages except for retirement pay, which is taxed as a pension. Allowances generally are not taxed.

Differential wage payments. Any payments made by an employer during the time the taxpayer is performing service in the uniformed services are treated as compensation. These wages are subject to income tax withholding and are reported on a Form W-2.

Combat pay exclusion. Certain pay is excluded from income for members of the U.S. Armed Forces who serves in a designated combat pay zone. Combat pay is not shown on a W-2 or required to be reported on a tax return. A taxpayer cannot exclude as combat pay any wages shown in box 1 of Form W-2.

Sickness and Injury Benefits

Report as income any amount received for personal injury or sickness through an accident or health plan that is paid for by an employer. If both the taxpayer and his or her employer pay for the plan, only the amount receive that is due to the employer's payments is reported as income.

Statutory Employees

If a taxpayer receives a Form W-2 and the "Statutory employee" box in box 13 of that form was checked, the taxpayer reports the income and expenses related to that income on Schedule C.

Enter the statutory employee income from box 1 of Form W-2 on line 1 of Schedule C and check the box on that line. Social security and Medicare tax should have been withheld from the earnings; as a result, the taxpayer does not owe self-employment tax on these earnings. Statutory employees include full-time life insurance agents, certain agent or commission drivers and traveling salespersons, and certain homeworkers. If a taxpayer has both self-employment income and statutory employee income, the taxpayer must file two Schedules C.

Clergy

A member of the clergy must include in income offerings and fees received for marriages, baptisms, funerals, etc., in addition to salary. If the offering is made to the religious institution, it is not taxable. If a member of a religious organization gives outside earnings to the organization, the earnings are still included in gross income and a charitable deduction is allowed.

The rental Value of a Home

The rental value of a home (or utility expenses) provided to an ordained, licensed or commissioned minister as part of pay is not income.

Housing Allowance

Housing allowance is not taxable if used to pay household expenses in the year received. Any housing allowance not used to pay household expenses is considered income. A member of the clergy can deduct qualified mortgage interest and real estate taxes paid even if nontaxable housing allowance funds are used to make the payments.

Self-employment Tax

Include rental value of home and housing allowances as earnings from self-employment for figuring self-employment tax if the taxpayer is subject to the self-employment tax. Members of a religious order who have taken a vow of poverty are not subject to self-employment tax on earnings for performing duties required by the order.

Tip Income

Reporting Tips to Employer

Less than $20 in One Month: If a taxpayer receives less than $20 in tips while working for one employer during a month, tips are not reportable to that employer. The taxpayer must include the tips in gross income but does not have to pay social security and Medicare tax on tips.

$20 or More in One Month: If taxpayer receives tips of $20 or more in a month while working for one employer, the total amount of tips must be reported to that employer by the tenth day of the next month.

Reporting Social Security and Medicare Taxes on Tips Not Reported to Employer

If a taxpayer received $20 or more in cash and charge tips in a month from any one job and did not report all of those tips to his or her employer, the taxpayer must report the social security and Medicare taxes on the unreported tips as additional tax on his or her return.

To report these taxes, a taxpayer must file a return even if the taxpayer would not otherwise have to file. Form 1040 or 1040-SR must be used. Form 4137 is used to figure these taxes and must be attached to the return.

What Tips to Report

Report to employer only cash, check, and debit and credit card tips received. Do not report the value of any noncash tips, such as tickets or passes, to employer. The value of these tips is not subject to social security and Medicare taxes or railroad retirement tax.

Penalty for Not Reporting Tips

A taxpayer may be subject to a penalty equal to 50% of the social security and Medicare taxes or railroad retirement tax owed on the unreported tips.

Reporting Tips on Tax Return

Report tips with wages on Form 1040 or 1040-SR, line 1. Report all tips received, including both cash tips and noncash tips. Any tips reported to an employer are included in the wages shown in box 1 of Form W-2. Add to the amount in box 1 only the tips that were not reported to the employer.

Allocated Tips

These are tips that an employer assigned to the taxpayer in addition to the tips the taxpayer reported to his or her employer for the year. The employer will have done this only if:

The taxpayer worked in an establishment (restaurant, cocktail lounge, or similar business) that must allocate tips to employees,

The tips reported to employer were less than the taxpayer’s share of 8% of food and drink sales, and

Note: No income, social security, or Medicare taxes are withheld on allocated tips.

Reporting Allocated Tips

Report the amount in box 1 and the allocated tips in box 8 of Form W-2 as wages on Form 1040 or 1040-SR, line 1. Because social security and Medicare taxes were not withheld from the allocated tips, report those taxes as additional tax on the tax return by completing Form 4137.

Interest Income

Taxable Interest

The following are taxable interest income:

Interest from bank, savings and loans, credit unions, cooperative banks, and domestic building and loan associations.

U.S. obligations. (e.g., Treasury bills, notes, and bonds). Interest from U.S. obligations is subject to federal income tax but is exempt from all state and local income taxes.

Gift for opening account. For deposits of less than $5,000, gifts or services valued at more than $10 must be reported interest. For deposits of $5,000 or more, gifts or services valued at more than $20 must be reported as interest.

Distributive share of interest from partnerships or S corporations. This interest is reported on Schedule K-1 (Form 1065 or Form 1120S).

Any interest income reported on Form 1099-INT.

Nontaxable Interest

The following are nontaxable interest income:

State and local government obligations. Tax-exempt interest is still required to be reported on an individual’s tax return.

Interest received on the redemption of qualified U.S. saving bonds if used to pay for higher educational expenses during the same year.

Interest on a private activity bond that is a qualified bond. Tax-exempt interest on certain private activity bonds may be subject to the alternative minimum tax.

U.S. Savings Bonds

Series HH bonds. These bonds were first issued in 1980 and last offered in August 2004. They were issued at face value and the interest is paid twice a year.

Series EE and series I bonds. These bonds are issued at discount (less than face amount) and the face amount is paid at maturity. The difference between the purchase price and the face value is taxable interest.

Reporting Interest Income on Series EE, and I Bonds

Cash basis taxpayer. There are two methods of reporting interest income:

Postpone reporting the interest until the earlier of the year bond is redeemed, or the year it matures, or

Report interest each year as it accrues.

Accrual basis taxpayer. Accrual basis taxpayers must report interest on U.S. Savings bonds each year as it accrues.

Education Savings Bond Program

A taxpayer may exclude from income all or part of the interest received on the redemption of qualified U.S. Savings Bond (Series EE bonds issued after 1989 or a series I bond) if the proceeds are used for qualified higher educational expenses during the same year. The expenses must be for tuition and fees only and can be for the taxpayer, his or her spouse or dependent.

Amount of Interest Excludable

If the higher educational expenses are more than or equal to the proceeds (interest and principal) from the bonds, exclude all the interest. If the proceeds are more than the expenses, only part of the interest can be deducted.

Figuring the excludable amount:

Interest × (educational expenses ÷ bond proceeds) = the excludable amount of interest

Modified Adjusted Gross Income Limit

The interest exclusion is phase out if modified AGI is:

$85,800 to $100,800 for taxpayers filing single, head of household, and

$128,650 to $158,650 for married taxpayers filing jointly or qualifying surviving spouse.

Bonds Sold between Interest Dates

When bonds are sold between interest dates, part of the sales price is interest accrued at the date of sale. The seller must include this interest in income. The purchaser may treat this amount as a capital investment and deduct it from the next interest payment as a return of capital. The total payments must be shown on Schedule B as taxable interest adjusted (subtracted) by accrued interest.

Original Issue Discount (OID)

All long-term debt instruments issued at a discount and not paying interest prior to maturity are presumed to be OID. The taxpayer must report interest as it accrues.

Exceptions to the OID rules:

Tax-exempt obligations.

U.S. Savings Bonds.

Short-term debt instruments (less than one year).

Obligations issued by individuals before 3/2/84.

Loans of $10,000 or less from individuals who are not in the business of lending money.

De Minimis OID. Disregard OID rule if discount is less than one-fourth of 1% (.0025) of stated redemption price, multiplied by the number of years from the date issued to maturity.

Reporting Interest Income

Complete Part I of Schedule B (Form 1040 or 1040-SR ) if any of the following apply:

Taxpayer's interest income is more than $1,500.

Taxpayer is claiming the interest exclusion under the Education Savings Bond Program.

Taxpayer received interest from seller-financed mortgage and the buyer used the property as a home.

Taxpayer received a Form 1099-INT for U.S. savings bond interest that includes amounts that were reported in previous years.

Taxpayer received, as a nominee, interest that actually belongs to someone else.

Taxpayer received a Form 1099-INT for interest on frozen deposits.

Taxpayer received a Form 1099-INT for interest on a bond that was bought between interest payment dates.

Reporting OID in an amount less than the amount shown on Form 1099-OID.

Taxpayer had a financial interest in, or signature authority over, a financial account in a foreign country or the taxpayer received a distribution from, or were a grantor of, or transferor to, a foreign trust.

Nominee Distributions

If a taxpayer receives a Form 1099-INT for the real owner or co-owner, report the full amount shown as interest on the Form 1099-INT on line 1 Schedule B (Form 1040 or 1040-SR ). Then, below a subtotal of all interest income listed, write "Nominee Distribution" and the amount that actually belongs to someone else. Subtract that amount from the interest income subtotal. Enter the result on line 2 Schedule B (Form 1040 or 1040-SR ).

File Form 1099-INT with the IRS

If a taxpayer receives interest as a nominee, the taxpayer must file a Form 1099-INT for that interest with the IRS.

Reporting Tax-Exempt Interest

Tax-exempt interest must be reported on line 2a of form 1040 or 1040-SR.

Dividend Income

Ordinary Dividends

Ordinary dividends are the most common type of distribution from a corporation or a mutual fund. They are paid out of earnings and profits and are ordinary income. Since, they are paid out of earning and profits, they are not capital gains.

Qualified Dividends

Qualified dividends must have been paid by a U.S. corporation or a qualified foreign corporation.

The stock must have been held for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date. The ex-dividend date is the first date following the declaration of a dividend on which the buyer of a stock will not receive the next dividend payment. Qualified dividends are the ordinary dividends subject to the same 0%, 15% or 20% maximum tax rate that applies to net capital gain. They should be shown in box 1b of the Form 1099-DIV.

Dividends that are Not Qualified Dividends

The following dividends are not qualified dividends. They are not qualified dividends even if they are shown in box 1b of Form 1099-DIV.

Capital gain distributions.

Dividends paid on deposits with mutual savings banks, cooperative banks, credit unions, U.S. building and loan associations, U.S. savings and loan associations, federal savings and loan associations, and similar financial institutions. (Report these amounts as interest income.)

Dividends paid by a corporation on employer securities held on the date of record by an employee stock ownership plan (ESOP) maintained by that corporation.

Dividends on any share of stock to the extent the taxpayers are obligated (whether under a short sale or otherwise) to make related payments for positions in substantially similar or related property.

Dividends from a corporation that is a tax-exempt organization or farmer's cooperative during the corporation's tax year in which the dividends were paid or during the corporation's previous tax year.

Payments in lieu of dividends, but only if the taxpayer knows or have reason to know the payments are not qualified dividends.

Payments shown in Form 1099-DIV, box 1b, from a foreign corporation to the extent the taxpayer knows or has reason to know the payments are not qualified dividends.

Qualified Dividends Taxed at Capital Gains Rates

0% on any amount that would be taxed at a 10% or 12% rate.

15% on any amount that would be taxed at rates greater than 12% but less than 37%.

20% on any amount that would be taxed at a 37% rate.

Dividend Reinvestment Plan

Some corporations allow shareholders to use dividends to buy more shares of stock.

A shareholder who chooses to use dividends to purchase additional shares of stock instead of receiving the dividends in cash must report the dividends as income. If the plan allows the shareholder to purchase more stock at a price less than the fair market value (FMV), the shareholder must report as income the FMV of the additional stock on the dividend payment date. If the plan allows the shareholder to invest more cash to buy shares of stock at a price less than FMV, the shareholder must report as dividend income the difference between the cash invested and the FMV of the stock purchased.

Money Market Funds

Report amounts received from money market funds as dividend income. Money market funds are a type of mutual fund and should not be confused with bank money market accounts that pay interest.

Nondividend Distribution

A nondividend distribution is a distribution that is not paid out of the earnings and profits of a corporation or a mutual fund. It is a return of capital and is not taxed until the taxpayer’s basis in the stock is fully recovered.

Liquidating Distributions

Liquidating distributions, sometimes called liquidating dividends, are distributions received during a partial or complete liquidation of a corporation. These distributions are, at least in part, one form of a return of capital.

Distributions of Stock and Stock Rights

Distributions by a corporation of its own stock are commonly known as stock dividends. Stock rights are distributions by a corporation of rights to acquire the corporation's stock. Generally, stock dividends and stock rights are not taxable and not reported on the tax return.

Dividends on Insurance Policies

Insurance policy dividends the insurer keeps and uses to pay premiums are not taxable. However, report as taxable interest income the interest that is paid or credited on dividends left with the insurance company.

Dividends on Veterans' Insurance

Dividends received on veterans' insurance policies are not taxable. In addition, interest on dividends left with the Department of Veterans Affairs is not taxable.

Rental Income and Expenses

Rental Income

The following are considered rental income in the year received:

Advance rent (rent received before the period it covers, regardless of the method of accounting used).

Payment by tenant for canceling a lease.

Landlord expenses paid by tenant.

FMV of property or services received in exchange for rent.

Security Deposits

Do not included security deposits in income if they are to be returned to the tenant at the end of the lease. If tenant forfeits security deposit due to breach of lease, include the security deposit in rental income.

Rental Expenses

Repairs

A repair keeps the property in good working condition and does not materially add to the value of the property.

The costs of repairs are deductible. Repainting the property inside or out, fixing gutters or floors, fixing leaks, plastering, and replacing broken windows are examples of repairs. If repairs are made as part of an extensive remodeling or restoration of the property, the whole job is an improvement.

Improvements

An improvement adds to the value of the property, prolongs its useful life, or adapts it to new uses.

The costs of improvements increase the basis of the property and are not deductible. The cost of improvements must be capitalized (added to basis). The capitalized cost can generally be depreciated as if the improvement were separate property. Improvements include, but are not limited to, the following items:

Improvement made to building

(27.5 years recovery)

Improvements made to land

(15 years recovery)

Interior Improvements

(5 years recovery)

Bedroom
Heating system
Landscaping
Appliances

Bathroom
Central A/C
Driveway
Flooring

Deck
Furnace
Walkway
Carpet

Garage
Duct work
Fence
Furniture

Porch
Central humidifier
Retaining wall

Patio
Filtration system
Sprinkler system

New Roof
Water pipes
Swimming pool

Wiring upgrades
Venting

Windows, doors
Central vacuum

Figuring Income and Deductions

How to figure rental income and deductions depends on whether the dwelling unit is used as a home and, if used as a home, how many days the property was rented at a fair rental price.

Property Not Used as a Home

If the dwelling unit is not used as a home, report all the rental income and deduct all the rental expenses.

Property Used as a Home

If the dwelling unit is used as a home during the year, how to figure rental income and deductions depends on how many days the unit was rented at a fair rental price.

Rented less than 15 days. Do not report any income if rented for less than 15 days during the year. Do not deduct any rental expenses.

Rented 15 days or more. Report all rental income and divide expenses between personal and rental use based on the number of days used for each purpose.

Figuring deductible rental expenses. Deduct expenses only to the amount equal to gross rental income. If the property rented was used for personal purposes more than the greater of 14 days or 10% of the total days rented at fair market value, figure rental loss in the following order:

Deduct the rental use portion of mortgage interest and taxes.

Deduct rental expenses not directly related to rental property (e.g., agent fees, office supplies and advertising fees).

Deduct rental expenses directly related to rental property (e.g., repairs, insurance and utilities).

Deduct rental use portion of depreciation.

Note: Rental expenses exceeding gross rental income must be carried forward to the next year and treated as rental expense for the same property, subject to same limitations.

Depreciation of Rental Property

Depreciating a Property

Three factors determine how much depreciation to deduct each year:

The basis in the property,

The recovery period for the property, and

The depreciation method used.

Section 179 deduction

The section 179 deduction is not allowed for property used in connection with residential rental property.

Alternative Minimum Tax (AMT)

If a taxpayer uses accelerated depreciation, the taxpayer may be subject to the AMT. Accelerated depreciation allows a taxpayer to deduct more depreciation earlier in the recovery period than could be deducted using a straight line method (same deduction each year).

Property Changed from Personal Use

If a taxpayer held property for personal use and later use it in a business or income-producing activity, the depreciable basis is the lesser of the following:

The fair market value of the property on the date of the change in use.

The original cost or other basis adjusted as follows.

Increased by the cost of any permanent improvements or additions and other costs that must be added to basis.

Decreased by any deductions claimed for casualty and theft losses and other items that reduced the basis.

What Rental Property Can Be Depreciated?

Property is depreciable if it meets these requirements:

Must be property owned.

Must be used in business or held for the production of income (such as rental property).

The property has a determinable useful life.

The property is expected to last more than one year.

What Rental Property Cannot Be Depreciated?

Land cannot be depreciated because land generally does not wear out, become obsolete, or get used up. But if it does, the loss is accounted for upon disposition. The costs of clearing, grading, planting, and landscaping are usually all part of the cost of land and cannot be depreciated.

When Does Depreciation Begin and End?

Begin depreciating rental property when it is placed in service for the production of income. Stop depreciating the property either when the property has been fully depreciated or when the property is retired from service, whichever happens first.

Idle Property

Continue to claim a deduction for depreciation on property used in a rental activity even if it is temporarily idle (not in use). For example, if repairs are done after a tenant moves out, still depreciate the rental property during the time it is not available for rent.

Depreciation Methods

Use the Modified Accelerated Cost Recovery System (MACRS) to depreciate residential rental property placed in service after 1986.

Depreciation Systems

MACRS consists of two systems that determine how to depreciate a property—the General Depreciation System (GDS) and the Alternative Depreciation System (ADS). A taxpayer must use GDS unless he or she is specifically required by law to use ADS or the taxpayer elects to use ADS.

MACRS recovery periods for property used in rental activities

Type of property
GDS
ADS

Computers

5 years

5 years

Office machinery (typewriters & copiers)    

5 years

5 years

Automobiles

5 years

5 years

Appliances (stoves & refrigerators)

5 years

9 years

Carpets

5 years

9 years

Furniture used in rental property 

5 years

9 years

Office furniture (desks and files)

7 years

10 years

Fences, roads, and shrubbery 

15 years

20 years

Residential rental property       

27.5 years

40 years

Nonresidential real property (Placed in service after May 12, 1993) 

39 years

40 years

Nonresidential real property (Placed in service before May 13, 1993)

31.5 years

40 years

Conventions

A convention is a method established under MACRS to set the beginning and end of the recovery period. The convention used determines the number of months for which a taxpayer can claim depreciation in the year the property is placed in service and in the year the property is disposed.

Half-year convention. Use this convention to figure depreciation for property other than nonresidential real and residential rental property. This convention treats all property placed in service, or disposed of, during the tax year as placed in service, or disposed of, on the midpoint of that tax year.

Mid-quarter convention. Use this convention if total depreciable bases of MACRS property placed in service during the last three months of the tax year exceed 40% of the total depreciable bases of all property placed in service that year.

Mid-month convention. Use this convention for all nonresidential real and residential rental property. Treat property placed in service, or disposed of, during any month as placed in service, or disposed of, on the midpoint of that month.

Figuring the Depreciation Deduction

Residential rental property. Use the straight line method and a mid-month convention for residential rental property.

5-, 7-, or 15-year property. For property in the 5- or 7-year class, use the 200% declining balance method and a half-year convention. However, in limited cases a taxpayer must use the mid-quarter convention, if it applies. For property in the 15-year class, use the 150% declining balance method and a half-year convention.

Claiming the Correct Amount of Depreciation

If a taxpayer did not claim all the depreciation he or she was entitled to deduct, the taxpayer must still reduce the basis in the property by the full amount of depreciation that the taxpayer could have deducted. If a taxpayer deducted an incorrect amount of depreciation for property in any year, the taxpayer may be able to make a correction by filing Form 1040X, Amended U.S. Individual Income Tax Return.

Limits on Rental Losses

A taxpayer can deduct up to $25,000 ($12,500 if married filing separate (MFS) and living apart from spouse for entire year; $0 if MFS and not living apart from spouse) of losses from passive rental real estate activities (in which the taxpayer actively participated) from nonpassive income.

A taxpayer actively participated in a real estate activity if he or she (and spouse) owned at least 10% of the rental property and made management decisions in a significant bona fide sense. Management decisions include approving new tenants, deciding on rental terms, approving expenditures, and similar decisions. The $25,000 ($12,500) offset phases out at the rate of $0.50 for each dollar by which AGI, computed with certain modifications, exceeds $100,000 ($50,000 if MFS).

At-Risk Rules

Any loss from an activity subject to the at-risk rules is allowed only to the extent of the amount a taxpayer has at risk in the activity at the end of the year. A taxpayer is considered at risk to the extent of cash and the adjusted basis of other property he or she contributed to the activity and certain amount borrowed for use in the activity. Losses from passive activities are first subject to the at-risk rules.

Passive Activity Limits

Passive activity losses can only be deducted from passive activity income. A rental activity is a passive activity even if a taxpayer materially participated unless the taxpayer materially participated as a real estate professional. If the taxpayer actively participated in a passive real estate activity the taxpayer can deduct losses up to $25,000. If the taxpayer materially participated as a real estate professional it is not a passive activity and there is no limit on the rental losses.

Real Estate Professional

A taxpayer is a real estate professional if the time spent performing services in real property trades or businesses in which the taxpayer materially participated was:

More than half of the time spent performing all personal services in all trades and businesses during the year, and

More than 750 hours.

How to Report Rental Income and Expenses

Schedule E (Form 1040 or 1040-SR)

Use Schedule E (Form 1040 or 1040-SR) for reporting residential rental income and expenses. However, do not use that schedule to report a not-for-profit activity.

Schedule C (Form 1040 or 1040-SR)

If providing substantial services that are primarily for the tenant's convenience, such as regular cleaning, changing linen, or maid service, report rental income and expenses on Schedule C (Form 1040 or 1040-SR), Profit or Loss From Business. Substantial services do not include the furnishing of heat and light, cleaning of public areas, trash collection, etc.

Form 1065

Use Form 1065, U.S. Return of Partnership Income, if the rental activity is a partnership (including a partnership with a spouse unless it is a qualified joint venture).

Qualified Business Income (QBI) Deduction (Section 199A)

A safe harbor is available to individuals and owners of passthrough entities who seek to claim the deduction under section 199A with respect to a rental real estate enterprise. Under the safe harbor a rental real estate enterprise will be treated as a trade or business for purposes of the QBI deduction if a taxpayer meets all the following conditions.

Separate books and records are maintained to reflect income and expenses for each rental property.

For rental real estate enterprises that have been in existence less than four years, 250 or more hours of rental services are performed per year. For other rental real estate enterprises, 250 or more hours of rental services are performed in at least three of the past five years.

Maintains contemporaneous records, including time reports, logs, or similar documents, regarding the following: hours of all services performed; description of all services performed; dates on which such services were performed; and who performed the services.

Attach a statement to the return filed for the tax year(s) the safe harbor is relied upon.

Section 199A Rental Real Estate Safe Harbor Statement

The taxpayer must attach a signed statement to the return that confirms that all requirements above for the safe harbor per IRS Notice 2019-07 have been satisfied to claim this rental real estate for the QBI deduction.

Retirement Plans, Pensions and Annuities

Traditional IRAs

Distributions Fully Taxable

If only deductible contributions were made, there is no basis in the IRA. Because there is no basis in the IRA, any distributions are fully taxable when received.

Exceptions. Exceptions to distributions from traditional IRAs being taxable in the year received are one of the following:

Rollovers.

Qualified charitable distributions (QCD). A QCD is generally a nontaxable distribution made directly by the trustee of the IRA (other than a SEP or SIMPLE IRA) to an organization eligible to receive tax-deductible contributions. The taxpayer must be 70½ when the distribution was made and have an acknowledgment of the contribution from the charitable organization. The maximum annual exclusion for QCDs is $100,000. If filing jointly, spouse can also have a QCD and exclude up to $100,000. A QCD counts towards the required minimum distribution.

Tax-free withdrawals of contributions.

The return of nondeductible contributions.

Ordinary income. The distributions are taxed as ordinary income.

No special treatment. In figuring the tax, a taxpayer cannot use the 10-year tax option or capital gain treatment that applies to lump-sum distributions from qualified retirement plans.

Distributions Partly Taxable

If nondeductible contributions were made or any after-tax amounts were rolled over to a traditional IRA, the IRA has a cost basis (investment in the contract) equal to the amount of those contributions. These nondeductible contributions are not taxed when they are distributed. They are a return of investment in the IRA.

Figuring the Nontaxable and Taxable Amounts

The following worksheet is used to determine the taxable and nontaxable portion of a distribution:

1. | Enter the basis (nondeductible contribution) in IRA(s) as of 12/31/2021 | $                 
2. | Enter all IRA contributions made for 2022, whether or not deductible (including contributions made during 2023 for the 2022 year) | $                 
3. | Add lines 1 and 2. | $                 
4. | Enter the value of ALL traditional IRA(s) as of 12/31/2022 (include any outstanding rollovers from traditional IRAs to other traditional IRAs). | $                 
5. | Enter the total IRA distributions from traditional IRAs (including amounts converted to Roth IRA ) received in 2022 | $                 
6. | Add lines 4 and 5 | $                 
7. | Divide line 3 by line 6. Enter results as a decimal. (Do not enter more than 1.00) | $                 
8. | Nontaxable portion of the distribution (multiply line 5 by line 7) | $                 
9. | Taxable portion of the distribution (Subtract line 8 from line 5) If there is no amount converted to Roth IRAs, STOP HERE | $                 
10. | Enter the amount included on line 9 that was converted to Roth IRA by 12/31/2022 | $                 
11. | Taxable portion of the distribution (after adjustment for conversions) Subtract line 10 from line 9 | $                 

Form 8606

Use Form 8606 to figure the nontaxable distributions and the total IRA basis for the tax year and earlier years. Form 8606 must be attached to the return.

Note: If a taxpayer is required to file Form 8606, but is not required to file a tax return, the taxpayer must still file Form 8606 with the IRS at the time and place he or she would otherwise file a tax return.

Required Distributions

A taxpayer must start receiving distributions by April 1 of the year following the year in which he or she reaches age 72. If the required minimum distribution is not made, or if the distributions are less than the required minimum distribution, the taxpayer may have to pay a 50% excise tax for the year on the amount not distributed as required. If the excess accumulation is due to reasonable error and the taxpayer has taken steps to remedy the insufficient distribution, the taxpayer can request that the excise tax be excused.

Figuring the Minimum Distribution

Figure the required minimum distribution for each year by dividing the IRA account balance on December 31 of the preceding year by the applicable distribution period or life expectancy. The applicable life expectancy is the taxpayer's remaining life expectancy or the remaining joint life expectancy of the taxpayer and the taxpayer's designated beneficiary. If the taxpayer has more than one IRA, he or she must determine the required minimum distribution separately for each IRA, but can total these amounts and take the total from one or more of the IRAs.

Form 8606

Nondeductible IRA contributions must be reported on Form 8606, Nondeductible IRAs, to establish a basis in the IRA. If Form 8606 is not filed, the contribution will be treated as deductible and no basis will be recognized in the IRA. All distributions from the IRA will be taxed unless the taxpayer can show that nondeductible contributions were made.

Tax on Early Distributions

A taxpayer under age 59½ cannot withdraw assets from an IRA without having to pay a 10% additional tax:

Exceptions: The following are exceptions to the age 59½ rule:

Taxpayer becomes permanently disabled.

Distributions are to beneficiaries of a deceased IRA owner.

Distributions are in the form of an annuity.

Amounts use to pay unreimbursed medical expenses more than 7.5% of the taxpayer’s AGI.

The distribution is used to pay medical insurance for the taxpayer, spouse, and dependents and all four of the following conditions apply.

Taxpayer lost his or her job.

Taxpayer received unemployment compensation paid under any federal or state law for 12 consecutive weeks.

Taxpayer made withdrawals during either the year he or she received unemployment compensation or the following year.

The taxpayer made the withdrawals no later than 60 days after being reemployed.

Distributions used to pay for higher education expenses for taxpayer, spouse, children, and grandchildren.

Distributions up to $10,000 to buy, build, or rebuild a first home.

The distribution is due to an IRS levy to the qualified plan.

The distribution is a qualified reservist distribution (taxpayer ordered or called to active duty for a period of more than 179 days or for an indefinite period).

The distribution is a qualified birth or adoption distribution.

Made as a qualified disaster distribution.

ROTH IRAs

A Roth IRA is an individual retirement plan that is subject to the same rules that apply to traditional IRAs except for the following features:

Contributions are never deductible.

No minimum distributions are required.

Qualified distributions are generally not included in income.

Qualified Distributions

A qualified distribution is any payment or distribution from a Roth IRA that meets the following requirements:

It is made after the 5-year period beginning with the first taxable year for which a contribution was made to a Roth IRA set up for the taxpayer's benefit, and

The payment or distribution is:

Made on or after the date the taxpayer reaches age 59½,

Made because the taxpayer is disabled,

Made to a beneficiary or to the taxpayer's estate after death, or

Made to buy, build, or rebuild a first home (up to a $10,000 lifetime limit).

Tax on Early Distributions

Nonqualifying distributions are subject to a 10% additional tax on the taxable part of the distribution, unless an exception applies (see traditional IRA exceptions).

Contribution Limits

If a taxpayer contributes only to a Roth IRA, the maximum contribution is the lesser of:

$6,000 ($7,000 if taxpayer is age 50 or older), or

Taxpayer’s compensation.

Contributions to Both Roth IRAs and Traditional IRAs

If a taxpayer contributes to both a Roth IRA and traditional IRA, the contribution limit for Roth IRA is the lesser of:

The maximum contribution limit reduced by all contribution (other than employer contributions under a SEP or SIMPLE IRA plan) for the year to all IRAs other than Roth IRAs, or

The maximum contribution reduced because modified AGI is above a certain amount (see Contribution Limits Reduced below).

Contribution Limits Reduced

A taxpayer’s maximum contribution is gradually reduced (phased out) if his or her modified AGI is above the following amounts.

Filing Status | Phaseout Range
Married filing jointly or qualifying surviving spouse | $204,000 - $214,000
Married filing separate and lived with spouse | $0 - $10,000
All other filing statuses | $129,000 - $144,000

Tax on Excess Contributions

A 6% excise tax applies to excess contributions.

Withdrawal of Excess Contributions

For purposes of determining excess contributions, any contribution that is withdrawn on or before the due date (including extensions) for filing the tax return for the year is treated as an amount not contributed. This treatment only applies if any earnings on the contributions are also withdrawn. The earnings are considered earned and received in the year the excess contribution was made. If a taxpayer timely filed his or her tax return without withdrawing a contribution, the taxpayer can still have the contribution returned within 6 months of the due date of the tax return, excluding extensions. If the taxpayer does have the contribution returned, he or she must file an amended return with “Filed pursuant to section 301.9100-2” written at the top.

Applying Excess Contributions

If the contributions were more than the limit, the taxpayer can apply the excess contribution in one year to a later year if the contributions for that later year are less than the maximum allowed for that year.

Conversions

A taxpayer can convert amounts from either a traditional IRA, SEP, or SIMPLE IRA into a Roth IRA. The conversion is taxable.

Periodic Distributions

If a taxpayer started taking equal periodic distributions from a traditional IRA, the taxpayer can convert the amounts in the traditional IRA to a Roth IRA and then continue the periodic payments. The 10% additional tax on early distributions will not apply.

Required Distributions from a Traditional IRA

Amounts that must be distributed from a traditional IRA for a particular year (including the calendar year in which a taxpayer reaches age 72) cannot be converted to a Roth IRA.

Recharacterizations

A taxpayer may be able to treat a contribution made to one type of IRA as having been made to a different type of IRA. This is called recharacterizing the contribution. To recharacterize a contribution, the taxpayer must have the contribution transferred from the first IRA (the one to which it was made) to the second IRA in a trustee-to-trustee transfer. If the transfer is made by the due date (including extensions) for the tax return for the year during which the contribution was made, then the taxpayer can elect to treat the contribution as having been originally made to the second IRA instead of to the first IRA. To recharacterize the contribution, the taxpayer must do all three of the following:

Include in the transfer any net income allocable to the contribution. If there was a loss, the net income that must be transferred may be a negative amount.

Report the recharacterization on the tax return for the year during which the contribution was made.

Treat the contribution as having been made to the second IRA on the date that it was actually made to the first IRA.

No Recharacterizations of Conversions Made in 2018 or Later

A conversion of a traditional IRA to a Roth IRA, and a rollover from any other eligible retirement plan to a Roth IRA, made in tax years beginning after 2017, cannot be recharacterized as having been made to a traditional IRA.

Roth IRA Distributions

A taxpayer is not required to take a distribution from a Roth IRA at anytime. The minimum distribution rules that apply to traditional IRAs don't apply to Roth IRAs while the owner is alive.

Distributions After Owner's Death

If a Roth IRA owner dies, the minimum distribution rules that apply to traditional IRAs apply to Roth IRAs as though the Roth IRA owner died before his or her required beginning date.

Generally, the entire interest in the Roth IRA must be distributed by the end of the 5th calendar year after the year of the owner's death unless the interest is payable to a designated beneficiary over the life or life expectancy of the designated beneficiary. If the sole beneficiary is the spouse, he or she can either delay distributions until the decedent would have reached age 72 or treat the Roth IRA as his or her own. A beneficiary can combine an inherited Roth IRA with another Roth IRA maintained by the beneficiary only if the beneficiary either inherited the other Roth IRA from the same decedent or was the spouse of the decedent and the sole beneficiary of the Roth IRA and elects to treat it as his or her own IRA.

Qualified Plans - Withdrawals and Distributions

Tax Treatment of Periodic Payments

Distributions from a qualified plan minus a prorated part of the cost basis are subject to income tax in the year they are distributed. Since most recipients have no cost basis, a distribution is generally fully taxable. An exception is a distribution that is properly rolled over.

Lump-Sum Distributions

A lump-sum distribution is the distribution or payment in 1 tax year of a plan participant's entire balance from all of the employer's qualified plans of one kind (for example, pension, profit-sharing, or stock bonus plans). A distribution from a nonqualified plan (such as a privately purchased commercial annuity or a section 457 deferred compensation plan of a state or local government or tax-exempt organization) cannot qualify as a lump-sum distribution.

Tax Treatment for Lump-Sum Distributions

A taxpayer has the following options for how to treat the taxable part of the lump-sum distributions:

Report the part of the distribution from participation before 1974 as a capital gain (if taxpayer qualifies) and the part from participation after 1973 as ordinary income.

Report the part of the distribution from participation before 1974 as a capital gain (if taxpayer qualifies) and use the 10-year tax option to figure the tax on the part from participation after 1973 (if taxpayer qualifies).

Use the 10-year tax option to figure the tax on the total taxable amount (if taxpayer qualifies).

Roll over all or part of the distribution. No tax is currently due on the part rolled over. Report any part not rolled over as ordinary income.

Report the entire taxable part of the distribution as ordinary income on the tax return.

Taxable and tax-free parts of the distribution. The taxable part of a lump-sum distribution is the employer's contributions and income earned on the account. The taxpayer may recover his or her cost in the lump sum and any net unrealized appreciation (NUA) in employer securities tax free.

Net unrealized appreciation (NUA). The NUA in employer securities (box 6 of Form 1099-R) received as part of a lump-sum distribution is generally tax free until it is sold or exchanged. However, if the taxpayer chooses to include the NUA in his or her income for the year of the distribution and there is an amount in box 3 of Form 1099-R, part of the NUA will qualify for capital gain treatment.

10-Year Tax Option

The 10-year tax option is a special formula used to figure a separate tax on the ordinary income part of a lump-sum distribution. The tax is paid only once, for the year in which the distribution is received, not over the next 10 years. A taxpayer can elect this treatment only once for any plan participant, and only if the plan participant was born before January 2, 1936.

Rollover

A taxpayer can defer the tax on an eligible rollover distribution by rolling it over into an IRA or another eligible retirement plan. If a taxpayer receives a distribution other than cash from an employer retirement plan, the taxpayer must roll over the same property into an IRA or sell all or part of the property and roll over the proceeds of the sale into an IRA.

Required Distribution

A participant must begin to receive distributions from his or her qualified retirement plan by April 1 of the year that follows the later of:

Calendar year in which he or she reaches age 72.

Calendar year in which he or she retires from employment with the employer maintaining the plan.

Withholding Requirements

If a taxpayer takes an eligible rollover distribution that is $200 or more, the payer is required to withhold (for Federal income tax) 20% of the taxable part of the distribution. If the taxpayer chooses to have the plan pay the distribution directly to an IRA or another eligible retirement plan (i.e. direct rollover), no withholding is required. If the distribution is not eligible for rollover treatment, the 20% withholding requirement does not apply.

Tax on Early Distribution

A distribution from a retirement plan to a taxpayer before he or she reaches age 59½ is a premature distribution subject to a 10% tax on the part of the distribution that is included in gross income.

Exceptions: The 10% tax will not apply if distributions before age 59½ are:

Made to a beneficiary (or to the estate of the employee) after the death of the employee.

Due to the employee having a qualifying disability.

Rolled over to another retirement plan or an IRA within 60 days of the distribution.

Made because of an IRS levy on the plan.

Made as a qualified reservist distribution.

Part of a series of substantially equal periodic payments, beginning after separation from service, made at least annually for the life or life expectancy of the employee or the joint lives or life expectancies of the employee and his or her designated beneficiary. (The payments under this exception, except in the case of death or disability, must continue for at least 5 years or until the employee reaches age 59½, whichever is the longer period).

Made to an employee after separation from service, if the separation occurred during or after the calendar year in which the employee reached age 55.

Made to an alternate payee under a qualified domestic relations order (QDRO).

Made to an employee for medical care to the extent that the distribution does not exceed the amount allowable as a medical expense deduction (determined without regard to whether the employee itemizes deductions).

Timely made to reduce excess contributions under a 401(k) plan.

Timely made to reduce excess employee or matching employer contributions (excess aggregate contributions).

Timely made to reduce excess elective deferrals.

Made as a permissible withdrawal from an EACA.

Qualified Plan Loans

Loans Treated as Distributions

If a taxpayer borrows money from a retirement plan, the taxpayer must treat the loan as a nonperiodic distribution from the plan unless it qualifies for the exception to this loan-as-distribution rule. This exception to the loan-as-distribution rule applies only to a loan that either:

Is used to acquire a main home, or

Must be repaid within 5 years.

If a loan qualifies for this exception, the loan will be treated as a nonperiodic distribution only to the extent that the loan, when added to the outstanding balances of all loans from all plans exceeds the lesser of:

$50,000, or

Half the present value (but not less than $10,000) of the taxpayer’s nonforfeitable accrued benefit under the plan, determined without regard to any accumulated deductible employee contributions.

SIMPLE IRAs - Withdrawals and Distributions

Tax Treatment of Distributions

Distributions from a SIMPLE IRA are subject to IRA rules and generally are includible in income for the year received. Tax-free rollovers can be made from one SIMPLE IRA into another SIMPLE IRA. However, a rollover from a SIMPLE IRA to a non-SIMPLE IRA can be made tax free only after a 2-year participation in the SIMPLE IRA plan.

Tax on Early Distribution

Early withdrawals generally are subject to a 10% additional tax. However, the additional tax is increased to 25% if funds are withdrawn within 2 years of beginning participation.

Foreign Pension and Annuity Distributions

A foreign pension or annuity distribution is a payment from a pension plan or retirement annuity received from a source outside the U.S. Like domestic pensions or annuities, the taxable amount generally is the Gross Distribution minus the Cost (investment in the contract). Income received from foreign pensions or annuities may be fully or partly taxable, even if the taxpayer does not receive a Form 1099 or other similar document reporting the amount of the income. The pension/annuity articles of most tax treaties allow the country of residence (as determined by the residency article) to tax the pension or annuity under its domestic laws. This is true unless a treaty provision specifically amends that treatment. Some treaties, for example, provide that the country of residence may not tax amounts that would not have been taxable by the other country, if the taxpayer were a resident of that country. In some cases, government pensions/annuities or social security payments may be taxable by the government making the payments. There also may be special rules for lump-sum distributions.

Foreign Social Security Pensions

Most income tax treaties have special rules for social security payments. In many cases, foreign social security payments are taxable by the country making the payments. Unless specified otherwise in an income tax treaty, foreign social security pensions are generally taxed as if they were foreign pensions or foreign annuities. Unless a tax treaty allows it, they are not eligible for exclusion from taxable income the way a U.S. social security pension might be.

Retirement Plans, Pensions and Annuities

Traditional IRAs

Distributions Fully Taxable

If only deductible contributions were made, there is no basis in the IRA. Because there is no basis in the IRA, any distributions are fully taxable when received.

Exceptions. Exceptions to distributions from traditional IRAs being taxable in the year received are one of the following:

Rollovers.

Qualified charitable distributions (QCD). A QCD is generally a nontaxable distribution made directly by the trustee of the IRA (other than a SEP or SIMPLE IRA) to an organization eligible to receive tax-deductible contributions. The taxpayer must be 70½ when the distribution was made and have an acknowledgment of the contribution from the charitable organization. The maximum annual exclusion for QCDs is $100,000. If filing jointly, spouse can also have a QCD and exclude up to $100,000. A QCD counts towards the required minimum distribution.

Tax-free withdrawals of contributions.

The return of nondeductible contributions.

Ordinary income. The distributions are taxed as ordinary income.

No special treatment. In figuring the tax, a taxpayer cannot use the 10-year tax option or capital gain treatment that applies to lump-sum distributions from qualified retirement plans.

Distributions Partly Taxable

If nondeductible contributions were made or any after-tax amounts were rolled over to a traditional IRA, the IRA has a cost basis (investment in the contract) equal to the amount of those contributions. These nondeductible contributions are not taxed when they are distributed. They are a return of investment in the IRA.

Figuring the Nontaxable and Taxable Amounts

The following worksheet is used to determine the taxable and nontaxable portion of a distribution:

1. | Enter the basis (nondeductible contribution) in IRA(s) as of 12/31/2021 | $                 
2. | Enter all IRA contributions made for 2022, whether or not deductible (including contributions made during 2023 for the 2022 year) | $                 
3. | Add lines 1 and 2. | $                 
4. | Enter the value of ALL traditional IRA(s) as of 12/31/2022 (include any outstanding rollovers from traditional IRAs to other traditional IRAs). | $                 
5. | Enter the total IRA distributions from traditional IRAs (including amounts converted to Roth IRA ) received in 2022 | $                 
6. | Add lines 4 and 5 | $                 
7. | Divide line 3 by line 6. Enter results as a decimal. (Do not enter more than 1.00) | $                 
8. | Nontaxable portion of the distribution (multiply line 5 by line 7) | $                 
9. | Taxable portion of the distribution (Subtract line 8 from line 5) If there is no amount converted to Roth IRAs, STOP HERE | $                 
10. | Enter the amount included on line 9 that was converted to Roth IRA by 12/31/2022 | $                 
11. | Taxable portion of the distribution (after adjustment for conversions) Subtract line 10 from line 9 | $                 

Form 8606

Use Form 8606 to figure the nontaxable distributions and the total IRA basis for the tax year and earlier years. Form 8606 must be attached to the return.

Note: If a taxpayer is required to file Form 8606, but is not required to file a tax return, the taxpayer must still file Form 8606 with the IRS at the time and place he or she would otherwise file a tax return.

Tax on Early Distributions

A taxpayer under age 59½ cannot withdraw assets from an IRA without having to pay a 10% additional tax:

Exceptions: The following are exceptions to the age 59½ rule:

Taxpayer becomes permanently disabled.

Distributions are to beneficiaries of a deceased IRA owner.

Distributions are in the form of an annuity.

Amounts use to pay unreimbursed medical expenses more than 7.5% of the taxpayer’s AGI.

The distribution is used to pay medical insurance for the taxpayer, spouse, and dependents and all four of the following conditions apply.

Taxpayer lost his or her job.

Taxpayer received unemployment compensation paid under any federal or state law for 12 consecutive weeks.

Taxpayer made withdrawals during either the year he or she received unemployment compensation or the following year.

The taxpayer made the withdrawals no later than 60 days after being reemployed.

Distributions used to pay for higher education expenses for taxpayer, spouse, children, and grandchildren.

Distributions up to $10,000 to buy, build, or rebuild a first home.

The distribution is due to an IRS levy to the qualified plan.

The distribution is a qualified reservist distribution (taxpayer ordered or called to active duty for a period of more than 179 days or for an indefinite period).

The distribution is a qualified birth or adoption distribution.

Made as a qualified disaster distribution.

Required Distributions

A taxpayer must start receiving distributions by April 1 of the year following the year in which he or she reaches age 72. If the required minimum distribution is not made, or if the distributions are less than the required minimum distribution, the taxpayer may have to pay a 50% excise tax for the year on the amount not distributed as required. If the excess accumulation is due to reasonable error and the taxpayer has taken steps to remedy the insufficient distribution, the taxpayer can request that the excise tax be excused.

Figuring the Minimum Distribution

Figure the required minimum distribution for each year by dividing the IRA account balance on December 31 of the preceding year by the applicable distribution period or life expectancy. The applicable life expectancy is the taxpayer's remaining life expectancy or the remaining joint life expectancy of the taxpayer and the taxpayer's designated beneficiary. If the taxpayer has more than one IRA, he or she must determine the required minimum distribution separately for each IRA, but can total these amounts and take the total from one or more of the IRAs.

Form 8606

Nondeductible IRA contributions must be reported on Form 8606, Nondeductible IRAs, to establish a basis in the IRA. If Form 8606 is not filed, the contribution will be treated as deductible and no basis will be recognized in the IRA. All distributions from the IRA will be taxed unless the taxpayer can show that nondeductible contributions were made.

Social Security Benefits

Are benefits taxable?

To determine whether any of the benefits are taxable, compare the base amount for the taxpayer’s filing status (see below) with the total of:

One-half of benefits received, plus

All other income, including tax-exempt interest.

Base Amount
Filing Status

$25,000

Single, Head of Household, or Qualifying Surviving Spouse

$25,000

Married Filing Separately and did not live with spouse during year

$32,000

Married Filing Jointly

$  - 0 -

Married Filing Separately lived with spouse at any time during the year

If all other income, including tax-exempt interest, plus one-half social security benefits are more than the base amounts but less than $34,000 (44,000 if MFJ), taxable social security benefits is the smaller of the following:

One-half of net benefits received, or

One-half of excess of (all other income + tax-exempt income + ½ net benefits) over the base amount.

Maximum Taxable Part

Generally, up to 50% of social security benefits will be taxable. However, up to 85% of social security benefits can be taxable if either of the following applies:

The total of one-half of social security benefits and all other income is more than $34,000 ($44,000 if married filing jointly).

Married filing separately and lived with spouse at any time during the year.

If the sum of modified AGI and one-half social security benefits are more than $34,000 ($44,000 if married filing jointly), taxable social security benefits are the smaller of the following:

85% of the net benefits received, or

85% of the amount by which the sum of modified AGI and one-half Social Security benefits exceed $34,000 ($44,000 if married filing jointly), plus the smaller of:

50% of social security benefits,

50% of the amount by which the sum of AGI, nontaxable income and one-half the social security benefits exceed $34,000 ($44,000 if married filing jointly), or

$34,000 ($44,000 if married filing jointly).

Foreign Source Income

If a taxpayer is a U.S. citizen with income from sources outside the U. S. (foreign income), the taxpayer must report all such income on his or her tax return unless it is exempt by U.S. law.

This is true whether residing inside or outside the U. S. and whether or not the taxpayer received a Form W-2 or Form 1099 from the foreign payer. This applies to earned income (such as wages and tips) as well as unearned income (such as interest, dividends, capital gains, pensions, rents and royalties). If the taxpayer resides outside the U. S., the taxpayer may be able to exclude all or part of the foreign source earned income.

Foreign Account and Asset Reporting

Form 8938

Use Form 8938 to report specified foreign financial assets if the total value of all the specified foreign financial assets in which the taxpayer has an interest is more than the appropriate reporting threshold.

A taxpayer who fails to file a complete and correct Form 8938 is subject to a $10,000 penalty. Failure to file a correct and complete Form 8938 after the IRS mails a notice of failure to file can result in an additional $10,000 penalty for each 30-day period up to a maximum penalty of $60,000.

FinCEN Report 114, Report of Foreign Bank and Financial Accounts

If a taxpayer has a financial interest in or signature authority over a foreign financial account, including a bank account, brokerage account, mutual fund, trust, or other type of foreign financial account, exceeding certain thresholds listed below, the Bank Secrecy Act requires the taxpayer to report the account yearly to the Department of Treasury by electronically filing a Financial Crimes Enforcement Network (FinCEN) 114, Report of Foreign Bank and Financial Accounts (FBAR).

Comparison of Form 8938 and FBAR Requirements

Form 8938, Statement of Specified Foreign Financial Assets

FinCEN Form 114, Report of Foreign Bank and Financial Accounts (FBAR)

Who Must File?

Specified individuals and specified domestic entities that have an interest in specified foreign financial assets and meet the reporting threshold:

Specified individuals include U.S citizens, resident aliens, and certain non-resident aliens.

Specified domestic entities include certain domestic corporations, partnerships, and trusts.

U.S. persons, which include U.S. citizens, resident aliens, trusts, estates, and domestic entities that have an interest in foreign financial accounts and meet the reporting threshold.

Does the U. S. include U.S. territories?
No
Yes, resident aliens of U.S territories and U.S. territory entities are subject to FBAR reporting.

Reporting Threshold (Total Value of Assets)
Taxpayers living in the US:

Unmarried taxpayer (or married filing separately): Total value of assets was more than $50,000 on the last day of the tax year, or more than $75,000 at any time during the year.

Married taxpayer filing jointly: Total value of assets was more than $100,000 on the last day of the tax year, or more than $150,000 at any time during the year.

 Taxpayers living outside the US:

Unmarried taxpayer (or married filing separately): Total value of assets was more than $200,000 on the last day of the tax year, or more than $300,000 at any time during the year.

Married taxpayer filing jointly: Total value of assets was more than $400,000 on the last day of the tax year, or more than $600,000 at any time during the year.

Specified domestic entities:

Total value of assets was more than $50,000 on the last day of the tax year, or more than $50,000 at any time during the tax year.

Aggregate value of financial accounts exceeds $10,000 at any time during the calendar year. This is a cumulative balance, meaning if a taxpayer has a combined account balance of $10,000 at any one time (but divided between 2 accounts), both accounts would have to be reported.

What is Reported?
Maximum value of specified foreign financial assets, which include financial accounts with foreign financial institutions and certain other foreign non-account investment assets.
Maximum value of financial accounts maintained by a financial institution physically located in a foreign country.

How are maximum account or asset values determined and reported?
Fair market value in U.S. dollars in accord with the Form 8938 instructions for each account and asset reported. Convert to U.S. dollars using the end of the taxable year exchange rate and report in U.S. dollars.
Use periodic account statements to determine the maximum value in the currency of the account. Convert to U.S. dollars using the end of the calendar year exchange rate and report in U.S. dollars.

When Due?
Form is attached to the income tax return and due on the date of that return, including any applicable extensions.
Received by April 15 (6-month extensions to October 15).

Where to File?
File with income tax return.
File electronically through FinCEN BSA E-Filing System. The FBAR is not filed with a federal tax return.

Penalties
Up to $10,000 for failure to disclose and an additional $10,000 for each 30 days of non-filing after the IRS mails a notice of a failure to disclose, for a potential maximum penalty of $60,000; criminal penalties may also apply.
If non-willful, up to $14,487; if willful, up to the greater of $144,886 or 50 percent of account balances; criminal penalties may also apply.

Types of Foreign Assets and Whether They are Reportable

Financial (deposit and custodial) accounts held at foreign financial institutions | Yes | Yes
Financial account held at a foreign branch of a U.S. financial institution | No | Yes
Financial account held at a U.S. branch of a foreign financial institution | No | No
Foreign financial account for which you have signature authority | No, unless you otherwise have an interest in the account as described above. | Yes, subject to exceptions.
Foreign stock or securities held in a financial account at a foreign financial institution | The account itself is subject to reporting, but the contents of the account do not have to be separately reported. | The account itself is subject to reporting, but the contents of the account do not have to be separately reported.
Foreign stock or securities not held in a financial account | Yes | No
Foreign partnership interests | Yes | No
Indirect interests in foreign financial assets through an entity | No | Yes, if sufficient ownership or beneficial interest (i.e., a greater than 50 percent interest) in the entity. See instructions for further detail.
Foreign mutual funds | Yes | Yes
Domestic mutual fund investing in foreign stocks and securities | No | No
Foreign accounts and foreign non-account investment assets held by foreign or domestic grantor trust for which you are the grantor | Yes, as to both foreign accounts and foreign non-account investment assets. | Yes, as to foreign accounts.
Foreign-issued life insurance or annuity contract with a cash-value | Yes | Yes
Foreign hedge funds and foreign private equity funds | Yes | No
Foreign real estate held directly | No | No
Foreign real estate held through a foreign entity | No, but the foreign entity itself is a specified foreign financial asset and its maximum value includes the value of the real estate. | No
Foreign currency held directly | No | No
Precious Metals held directly | No | No
Personal property held directly, such as art, antiques, jewelry, cars and other collectibles | No | No
‘Social Security’- type program benefits provided by a foreign government | No | No

Note: Filing Form 8938 does not relieve a taxpayer of the requirement to file Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts (FBAR), if the taxpayer is otherwise required to file the FBAR.

Foreign Trust Reporting Requirements

If a taxpayer creates a foreign trust or has transactions from a foreign trust, there can be tax consequences and require reporting responsibilities. The reporting rules apply to a U.S. person who:

Creates a foreign trust.

Transfers any money or property to a foreign trust.

Receives a distribution from a foreign trust.

Is treated as the U.S. owner of a foreign trust.

Form 3520

Form 3520, Annual Return to Report Transactions with Foreign Trusts and Receipt of Certain Foreign Gifts, is required to be filed when a U.S. person:

Creates or transfers money or property to a foreign trust.

Receives (directly or indirectly) any distributions from a foreign trust.

Receives certain gifts or bequests from foreign entities.

Form 3520 is due on the date that your income tax return is due, including extensions. In the case of a Form 3520 filed with respect to a U.S. decedent, Form 3520 is due on the date that Form 706, United States Estate (and Generation-Skipping Transfer) Tax Return, is due (including extensions), or would be due if the estate were required to file a return.

Form 3520-A

Form 3520-A, Annual Information Return of Foreign Trust with a U.S. Owner, is an informational return that provides information about the foreign trust, its U.S. beneficiaries, and any U.S. person who is treated as an owner of any portion of the foreign trust.

Each U.S. person treated as an owner of any portion of a foreign trust under the grantor trust rules is responsible for ensuring that the foreign trust files Form 3520-A and furnishes the required annual statements to its U.S. owners and U.S. beneficiaries. Form 3520-A is due by the 15 day of the 3rd month after the end of the trust's tax year. An extension of time to file Form 3520-A (including the statements on pages 3 and 4) may be granted by filing Form 7004. For details, see Form 7004, Application for Automatic Extension of Time To File Certain Business Income Tax, Information, and Other Returns.

Form 1040 or 1040-SR, Schedule B

Form 1040 or 1040-SR, Schedule B, Part III, Foreign Accounts and Trusts, must be completed if a taxpayer received a distribution from, or were grantor of, or a transferor to a foreign trust.

Reporting Ownership in Foreign Corporations and Partnerships

Form 5471

U.S. persons who own 10% or more of a foreign corporation must file Form 5471, Information Return of U.S. Persons With Respect To Certain Foreign Corporations. Attach Form 8865 to the income tax return (or, if applicable, partnership or exempt organization return) and file both by the due date (including extensions) for that return.

Form 8865

U.S. persons who own 10% or more of a foreign partnership must file Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships. Attach Form 8865 to the income tax return (or, if applicable, partnership or exempt organization return) and file both by the due date (including extensions) for that return.

Form 8992

Tax Cuts and Jobs Act of 2017 enacted new section 951A. This new section requires U.S. shareholders of controlled foreign corporations (CFCs) to include in gross income the shareholder’s Global Intangible Low-Taxed Income (GILTI) for years in which they are U.S. shareholders of CFCs for tax years of CFCs beginning after 2017. Form 8992 is used to compute a U.S. shareholder’s GILTI inclusion.

Section 965

Section 965 requires U.S. shareholders (as defined under section 951(b)) to pay a transition tax on the untaxed foreign earnings of certain specified foreign corporations as if those earnings had been repatriated to the United States.

Very generally, a specified foreign corporation means either a controlled foreign corporation, as defined under section 957 (“CFC”), or a foreign corporation (other than a passive foreign investment company, as defined under section 1297, that is not also a CFC) that has a U.S. shareholder that is a domestic corporation. Section 965 allows U.S. shareholders to reduce the amount of the income inclusion based on deficits in earnings and profits with respect to other specified foreign corporations. Taxpayers may have to pay a section 965 transition tax when filing their 2022 tax returns. The tax is payable as of the due date of the return (without extensions).

Foreign Earned Income Exclusion

To exclude up to $112,000 of foreign earned income, foreign housing exclusion, or the foreign housing deduction, a taxpayer must satisfy all three of the following requirements:

Tax home must be in a foreign country (tax home test).

Must have foreign earned income.

Must be one of the following:

A U.S. citizen who is a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year (bona fide residence test).

A U.S. resident alien who is a citizen or national of a country with which the United States has an income tax treaty in effect and who is a bona fide resident of a foreign country or countries for an uninterrupted period that includes an entire tax year (bona fide residence test).

A U.S. citizen or a U.S. resident alien who is physically present in a foreign country or countries for at least 330 full days during any period of 12 consecutive months (physical presence test).

Foreign Earned Income

Foreign earned income is pay for personal services performed, such as wages, salaries, or professional fees received for services performed.

Other Income

Unemployment Compensation

A taxpayer must include in income all unemployment compensation received. The taxpayer should receive a Form 1099-G showing in box 1 the total unemployment compensation paid. Unemployment compensation is reported on Schedule 1(Form 1040 or 1040-SR).

Canceled Debts

If a debt owed is canceled or forgiven, other than as a gift or bequest, include the canceled amount in income. There is no income from the canceled debt if it is intended as a gift. A debt includes any indebtedness for which the taxpayer is liable or which attaches to property held by the taxpayer.

Discounted Mortgage Loan

If a financial institution offers a discount for the early payment of a mortgage loan, the amount of the discount is canceled debt. Include the canceled amount in income.

Exceptions

Student Loans

Certain student loans contain a provision that all or part of the debt incurred to attend the qualified educational institution will be canceled if the taxpayer works for a certain period of time in certain professions for any of a broad class of employers.

Deductible Debt

Do not include in income the cancellation of a debt if the payment of the debt would be deductible. This exception applies only if the taxpayer uses the cash method of accounting.

Excluded Debt

Do not include a canceled debt in gross income in the following situations:

The debt is canceled in a bankruptcy case under title 11 of the U.S. Code.

The debt is canceled when the taxpayer is insolvent. However, a taxpayer cannot exclude any amount of canceled debt that is more than the amount by which taxpayer is insolvent.

The debt is qualified farm debt and is canceled by a qualified person.

The debt is qualified real property business debt.

The cancellation is intended as a gift.

The debt is qualified principal residence indebtedness (up to $2 million).

Reporting Canceled Debt

Canceled Nonbusiness Bad Debt

If the canceled debt is a nonbusiness debt, report the canceled amount as other income on Schedule 1 (Form 1040 or 1040-SR).

Canceled Business Bad Debt

If the canceled debt is a business debt, report the amount on Schedule C (Form 1040 or 1040-SR), Profit or Loss From Business (or on Schedule F (Form 1040 or 1040-SR), Profit or Loss From Farming, if the debt is farm debt and taxpayer is a farmer).

Form 1099-C

If a Federal Government agency, financial institution, or credit union cancels or forgives a debt of $600 or more, the taxpayer will receive a Form 1099-C, Cancellation of Debt. The amount of the canceled debt is shown in box 2.

Barter Income

Bartering is an exchange of property or services. Include in income the fair market value (FMV) of property or services received in bartering. If services are exchanged and both parties agree ahead of time as to the value of the services, that value will be accepted as FMV unless the value can be shown to be otherwise.

Reporting Barter Income

Generally barter income is reported on Schedule C (Form 1040 or 1040-SR), Profit or Loss From Business.

Form 1099-B from Barter Exchange

Use Form 1099-B, Proceeds From Broker and Barter Exchange Transactions, to report the barter exchange.

Partnership Income

A partnership generally is not a taxable entity. The income, gains, losses, deductions, and credits of a partnership are passed through to the partners based on each partner's distributive share of these items.

Partner's Distributive Share

A taxpayer’s distributive share of partnership income, gains, losses, deductions, or credits generally is based on the partnership agreement.

A taxpayer must report his or her distributive share of these items on his or her return whether or not they actually are distributed to the taxpayer. However, the taxpayer’s distributive share of the partnership losses is limited to the adjusted basis of taxpayer’s partnership interest at the end of the partnership year in which the losses took place.

Partnership Return

Although a partnership generally pays no tax, it must file an information return on Form 1065, U.S. Return of Partnership Income. This shows the result of the partnership's operations for its tax year and the items that must be passed through to the partners.

Schedule K-1 (Form 1065)

Each partner should receive from the partnership a copy of Schedule K-1 (Form 1065), Partner's Share of Income, Deductions, Credits, etc., showing the partner’s share of income, deductions, credits, and tax preference items of the partnership for the tax year.

Partner's Return

A partner generally must report partnership items on his or her individual return the same way as they are reported on the partnership return. That is, if the partnership had a capital gain, the partner reports his or her share on Schedule D (Form 1040 or 1040-SR). The partner reports his or her share of partnership ordinary income on Schedule E (Form 1040 or 1040-SR).

Publicly Traded Partnerships

The passive activity limitations are applied separately for items (other than the low-income housing credit and the rehabilitation credit) from each publicly traded partnership (PTP). Thus, a net passive loss from a PTP may not be deducted from other passive income. Instead, a passive loss from a PTP is suspended and carried forward to be applied against passive income from the same PTP in later years. If the partner's entire interest in the PTP is completely disposed of, any unused losses are allowed in full in the year of disposition.

S Corporation Income

In general, an S corporation does not pay tax on its income. Instead, the income, losses, deductions, and credits of the corporation are passed through to the shareholders based on each shareholder's pro rata share. Shareholders must report their share of these items on their returns. Generally, the items passed through to the shareholders will increase or decrease the basis of the shareholder’s S corporation stock as appropriate.

S Corporation Return

An S corporation must file a return on Form 1120S, U.S. Income Tax Return for an S Corporation. This shows the results of the corporation's operations for its tax year and the items of income, losses, deductions, or credits that affect the shareholders' individual income tax returns.

Schedule K-1 (Form 1120S)

A shareholder should receive from the S corporation a copy of Schedule K-1 (Form 1120S), Shareholder's Share of Income, Deductions, Credits, etc., showing his or her share of income, losses, deductions, and credits, of the S corporation for the tax year.

Shareholder's Return

A shareholder’s distributive share of the items of income, losses, deductions, or credits of the S corporation must be shown separately on the shareholder’s Form 1040 or 1040-SR. The character of these items generally is the same as if the shareholder had realized or incurred them personally.

Estate and Trust Income

An estate or trust, unlike a partnership and most S corporations, may have to pay federal income tax. If a taxpayer is a beneficiary of an estate or trust, the taxpayer may be taxed on his or share of its income distributed or required to be distributed to the taxpayer. However, there is never a double tax.

Estate or Trust Return (Form 1041)

Estates and trusts file their returns on Form 1041, U.S. Income Tax Return for Estates and Trusts, and the taxpayer's share of the income is reported to him or her on Schedule K-1 (Form 1041).

How to Report

Treat each item of income the same way that the estate or trust would treat it.

For example, if a trust's dividend income is distributed to the taxpayer, report the distribution as dividend income on the taxpayer’s Form 1040 or 1040-SR. The same rule applies to distributions of tax-exempt interest and capital gains. The fiduciary of the estate or trust must tell the taxpayer the type of items making up his or her share of the estate or trust income and any credits allowed on the taxpayer’s individual income tax return.

Losses

Losses of estates and trusts generally are not deductible by the beneficiaries.

Grantor trust

Income earned by a grantor trust is taxable to the grantor, not the beneficiary, if the grantor keeps certain control over the trust. (The grantor is the one who transferred property to the trust.) This rule applies if the property (or income from the property) put into the trust will or may revert (be returned) to the grantor or the grantor's spouse.

Activity Not for Profit

Income received from an activity that is not for profit such as a hobby must be reported as other income on Schedule 1 (Form 1040 or 1040-SR). Deductions for certain expenses related to the activity are limited. They cannot total more than the income reported and can be taken only if itemizing deductions on Schedule A (Form 1040 or 1040-SR).

Court Awards and Damages

The following settlement amounts received by compromise or judgment must be included in income:

Interest on any award.

Compensation for lost wages or lost profits.

Punitive damages. It does not matter if they relate to a physical injury or physical sickness.

Amounts received in settlement of pension rights (if the taxpayer did not contribute to plan).

Damages for:

Patent or copyright infringement operations,

Breach of contract, or

Interference with business operations.

Back pay and damages for emotional distress received to satisfy a claim under Title VII of the Civil Rights Act of 1964.

Attorney fees and court costs (including contingent fees) where the underlying recovery is included in income.

Attorney fees and costs relating to whistleblower awards where the underlying recovery is included in gross income

The following compensatory damages are not included in income:

Personal physical injury or physical sickness, and

Emotional distress due to physical injury or sickness.

Gambling Winnings

Gambling winnings are included in income on Schedule 1 (Form 1040 or 1040-SR), as other income. Gambling losses can be deducted on Schedule A as a itemized deduction. However, a taxpayer cannot deduct more than the gambling winnings reported on Form 1040 or 1040-SR. If a taxpayer is in the trade or business of gambling, use Schedule C.

Form W-2G

A taxpayer may receive Form W-2G, Certain Gambling Winnings, showing the amount of the gambling winnings and any tax withheld. Include the amount from box 1 on Schedule 1 (Form 1040 or 1040-SR), as other income. Include the amount shown in box 4 on Form 1040 or 1040-SR as federal income tax withheld.

Scholarship and Fellowship Grants

Exclusion from Income

Only a candidate for a degree can exclude amounts received as a qualified scholarship. The amounts excluded must be used for:

Tuition and fees, and

Fees, books, supplies, and equipment required for courses at the institution.

Room and Board

Amounts used for room and board do not qualify for the exclusion.

Payment for Services

In most cases, include in income the part of any scholarship or fellowship that represents payment for past, present, or future teaching, research, or other services. This applies even if all candidates for a degree must perform the services to receive the degree.

VA Payments

Allowances paid by the Department of Veterans Affairs are not included in income. These allowances are not considered scholarship or fellowship grants.

Recoveries

A recovery is a return of an amount the taxpayer deducted or took a credit for in an earlier year. The most common recoveries are refunds, reimbursements, and rebates of itemized deductions. Recoveries also include non-itemized deductions (such as payments on previously deducted bad debts) and recoveries of items for which a tax credit was previously claimed.

Tax Benefit Rule

Include a recovery in income in the year received up to the amount by which the deduction or credit was taken reduced the taxpayer’s tax in the earlier year. For this purpose, any increase to an amount carried over to the current year that resulted from the deduction or credit is considered to have reduced the taxpayer’s tax in the earlier year.

State Tax Refund

If a taxpayer received a refund, credit, or offset of state or local income taxes in the tax year, the taxpayer may receive a Form 1099-G.

If the refund was for a tax paid in the previous year and the taxpayer deducted state and local income taxes on line 5 of his or her Schedule A, all or part of the refund may be taxable. The amount of the refund that is taxable is the amount of the state or local income tax deduction in the previous year that actually reduced the taxpayer’s income tax for that year.

Note: None of the refund is taxable if, in the year the state or local income tax is paid:

The taxpayer did not itemize deductions, or

The taxpayer elected to deduct state and local general sales taxes instead of state and local income taxes.

Itemized Deduction Recoveries

If a taxpayer recovers any amount that was deducted in an earlier year on Schedule A (Form 1040 or 1040-SR), the taxpayer generally must include the full amount of the recovery in income in the year the recovery is received. Report the recoveries as other income on Schedule 1 (Form 1040 or 1040-SR).

Royalties

Royalties from copyrights, patents, and oil, gas, and mineral properties are taxable as ordinary income. In most cases royalties are reported in Part I of Schedule E (Form 1040 or 1040-SR). However, if the taxpayer holds an operating oil, gas, or mineral interest or is in business as a self-employed writer, inventor, artist, etc., report income and expenses on Schedule C (Form 1040 or 1040-SR).

Rents From Personal Property

If a taxpayer rents out personal property, such as equipment or vehicles, how to report the income and expenses is in most cases determined by:

Whether or not the rental activity is a business, and

Whether or not the rental activity is conducted for profit.

In most cases, if the primary purpose is income or profit and the taxpayer is involved in the rental activity with continuity and regularity, the rental activity is a business.

Reporting Business Income and Expenses

If in the business of renting personal property, report income and expenses on Schedule C (Form 1040 or 1040-SR).

Reporting Nonbusiness Income

If not in the business of renting personal property, report rental income as other income on Schedule 1 (Form 1040 or 1040-SR), line 8l.

Reporting Nonbusiness Expenses

If renting personal property for profit, include rental expenses in the total amount enter on Schedule 1 (Form 1040 or 1040-SR), line 24b.

Note: If not renting personal property for profit, deductions are limited and losses cannot offset other income.

Virtual Currencies

For federal tax purposes, virtual currency is treated as property. Transactions using virtual currency (such as Bitcoin) must be reported in U.S. dollars. General tax principles that apply to property transactions apply to transactions using virtual currency. Among other things, this means that:

Wages paid to employees using virtual currency are taxable to the employee, must be reported by an employer on a Form W-2, and are subject to federal income tax withholding and payroll taxes.

Payments using virtual currency made to independent contractors and other service providers are taxable and self-employment tax rules generally apply. Normally, payers must issue Form 1099.

The character of gain or loss from the sale or exchange of virtual currency depends on whether the virtual currency is a capital asset in the hands of the taxpayer.

A payment made using virtual currency is subject to information reporting to the same extent as any other payment made in property.

Reporting Virtual Currency

If a taxpayer engages in any transaction involving virtual currency, he or she must check the “Yes” box next to the question on virtual currency at the top of Form 1040. A transaction involving virtual currency includes the following.

The receipt of virtual currency as payment for goods or services.

The receipt or transfer of virtual currency for free (without providing any consideration) that does not qualify as a bona fide gift.

The receipt of new virtual currency as a result of mining and staking activities.

The receipt of virtual currency as a result of a hard fork.

An exchange of virtual currency for goods or services.

A sale of virtual currency.

An exchange or trade of virtual currency for other property, including for another virtual currency.

Any other disposition of a financial interest in virtual currency.

If a taxpayer disposes of any virtual currency that was held as a capital asset, use Form 8949 to figure the capital gain or loss and report it on Schedule D (Form 1040 or 1040-SR).

If a taxpayer received any virtual currency as compensation for services, report as wages on Form 1040 or 1040-SR, line 1.

Qualified Tuition Program 529 Plans

A qualified tuition program (also known as a 529 plan or program) is a program set up to allow a taxpayer to either prepay, or contribute to an account established for paying, a student's qualified education expenses at an eligible educational institution. QTPs can be established and maintained by states (or agencies or instrumentalities of a state) and eligible educational institutions.

Designated Beneficiary

The designated beneficiary is generally the student (or future student) for whom the QTP is intended to provide benefits. The designated beneficiary can be changed after participation in the QTP begins.

Contributions

Contributions to a QTP on behalf of any beneficiary cannot be more than the amount necessary to provide for the qualified education expenses of the beneficiary. There are no income restrictions on the individual contributors.

Distributions

The part of a distribution representing the amount paid or contributed to a QTP does not have to be included in income. This is a return of the investment in the plan. The designated beneficiary generally does not have to include in income any earnings distributed from a QTP if the total distribution is less than or equal to adjusted qualified education expenses.

Qualified Higher Educational Expenses

These are expenses related to enrollment or attendance at an eligible postsecondary school. To be qualified, some of the expenses must be required by the school and some must be incurred by students who are enrolled at least half-time. These expenses include the following.

The following expenses must be required for enrollment or attendance of a designated beneficiary at an eligible postsecondary school.

Tuition and fees.

Books, supplies, and equipment.

Expenses for special needs services needed by a special needs beneficiary must be incurred in connection with enrollment or attendance at an eligible postsecondary school.

Expenses for room and board must be incurred by students who are enrolled at least half-time. The expense for room and board qualifies only to the extent that it isn't more than the greater of the following two amounts.

The allowance for room and board, as determined by the school, that was included in the cost of attendance (for federal financial aid purposes) for a particular academic period and living arrangement of the student.

The actual amount charged if the student is residing in housing owned or operated by the school.

The purchase of computer or peripheral equipment, computer software, or Internet access and related services if it's to be used primarily by the beneficiary during any of the years the beneficiary is enrolled at an eligible postsecondary school. (This doesn't include expenses for computer software for sports, games, or hobbies unless the software is predominantly educational in nature.)

For distributions made from QTPs after 2018, expenses for fees, books, supplies, and equipment required for the designated beneficiary’s participation in an apprenticeship program registered and certified with the Secretary of Labor under section 1 of the National Apprenticeship Act.

For distributions made from QTPs after 2018, no more than $10,000 paid as principal or interest on qualified student loans of the designated beneficiary or the designated beneficiary’s sibling. A sibling includes a brother, sister, stepbrother, or stepsister. For purposes of the $10,000 limitation, amounts treated as a qualified higher education expense for the loans of a sibling are taken into account for the sibling and not for the designated beneficiary. A taxpayer cannot deduct as interest on a student loan any amount paid from a distribution of earnings from a QTP after 2018 to the extent the earnings are treated as a tax free because they were used to pay student loan interest.

Qualified Elementary and Secondary Education Expenses

These are expenses for no more than $10,000 of tuition, incurred by a designated beneficiary, in connection with enrollment or attendance at an eligible elementary or secondary school.

Coordination with American Opportunity and Lifetime Learning Credits

An American opportunity or lifetime learning credit can be claimed in the same year the beneficiary takes a tax-free distribution from a QTP, as long as the same expenses are not used for both benefits. This means that after the beneficiary reduces qualified education expenses by tax-free educational assistance, he or she must further reduce them by the expenses taken into account in determining the credit.

Coordination with Coverdell ESA Distributions

If a designated beneficiary receives distributions from both a QTP and a Coverdell ESA in the same year, and the total of these distributions is more than the beneficiary's adjusted qualified higher education expenses, the expenses must be allocated between the distributions. For purposes of this allocation, disregard any qualified elementary and secondary education expenses.

Additional Tax on Taxable Distributions

Generally, if a taxpayer receives a taxable distribution, the taxpayer also must pay a 10% additional tax on the amount included in income.

Information Returns

Form W-2 and Form 1099-R (What to Do if Incorrect or Not Received)

Employers/payers have until January 31 to issue certain informational documents.

If a taxpayer does not receive the Form W-2 or Form 1099-R by January 31, or the information is incorrect on these forms, the taxpayer should contact his or her employer/payer. If the taxpayer does not receive the missing or corrected form by February 14 from the employer/payer, the taxpayer should call the IRS for assistance. After February 14, the IRS will contact the employer/payer for the taxpayer and request the missing form. IRS will also send the taxpayer a Form 4852, Substitute for Form W-2 or Form 1099-R, along with a letter containing instructions. If the missing form is not received in sufficient time to file the tax return timely, use the Form 4852 to complete the return. If the missing or corrected Form W-2 or Form 1099-R is received after the return is filed and a correction is needed, use Form 1040X, Amended U.S. Individual Income Tax Return.

Form 1099-MISC (What to do if incorrect)

If Form 1099-MISC is incorrect or has been issued in error, contact the payer. If the taxpayer cannot get this form corrected, attach an explanation to the tax return and report the income correctly.

Chapter Three - Gains and Losses

Gains and Losses

Chapter three covers investment gain and loss topics that may appear on the Enrolled Agent Exam. A tax return preparer must know how to figure a taxpayer’s basis in property. A gain from selling or trading stocks, bonds, or other investment property may be taxed or it may be tax free, at least in part. A loss may or may not be deductible. This chapter also discusses gains from selling property used personally by the taxpayer — including the special rules for selling a primary home.

In This Chapter

Basis of Property

Capital Gains and Losses

Sale of a Main Home

Reporting Capital Gains and Losses

Basis of Property

Purchase of Property

The cost basis of property is the amount of cash paid and the FMV of other property or services provided in the transaction. The following must also be included in the basis:

Sales and excise taxes on the purchase.

Freight charges to obtain the property.

Installation and testing charges.

Excise taxes.

Legal and accounting fees (when they must be capitalized).

Revenue stamps.

Recording fees.

Real estate taxes (if assumed for the seller).

Purchase of Real Property

If property purchased is real property, the following fees and other expenses are part of the basis in the property:

Real estate taxes owed by the seller paid by the buyer.

Assumption of existing mortgage. Basis includes amount paid on the mortgage assumed.

Settlement costs. The following are some of the settlement costs included in basis:

Abstract fees.

Charges for installing utility services.

Surveys.

Transfer taxes.

Title insurance.

Recording fees.

Legal fees (including title search and preparing sales contract and deed).

Any amounts the seller owes that the purchaser pays such as back taxes, closing costs, sales commissions, interest, etc.

Settlement costs do not include amounts placed in escrow for future payments such as taxes and insurance. The following settlement costs cannot be included in the basis of the property:

Casualty insurance premiums.

Rent for occupancy of the property before closing.

Charges for utilities or other services relating to occupancy of the property before closing.

Charges connected with getting a loan, such as points, mortgage insurance premiums, loan assumption fees, cost of a credit report, and fees for an appraisal required by lender.

Fees for refinancing a mortgage.

Property Received by Gift

Figuring the Basis

The following three amounts must be known to figure the basis of property received by gift:

The fair market value (FMV) of property at time of gift.

Adjusted basis in hand of donor.

Amount of gift tax paid.

FMV less than donor's adjusted basis:

Basis is donor's adjusted basis in figuring depreciation and gain when sold.

Basis is FMV when figuring loss when sold.

FMV equal to or more than the donor's adjusted basis:

Basis is donor's adjusted basis, and

Part of the gift tax paid, depending on the date of gift.

Gift received before 1977: Increase basis by the total gift tax paid.

Gift received after 1976: Increase basis by part of the gift tax paid:

Donee's basis = Donor's adjusted basis + gift tax × ((FMV - Donor's adj. basis) ÷ (FMV - annual gift tax exclusion for the year of the gift))

Inherited Property

Basis in property inherited from a decedent is generally one of the following:

FMV at the date of the decedent's death.

FMV at the alternative valuation date, if the estate elects to use alternative valuation on the federal estate tax return.

The value under the special-use valuation method for real property used in farming or a closely held business if chosen for estate tax purposes.

The decedent’s adjusted basis in land to the extent of the value excluded from the decedent’s taxable estate as a qualified conservation easement.

Note: If a federal estate tax return does not have to be filed, basis in the property is its appraised value at the date of death for state inheritance or transmission taxes.

Appreciated Property

The above rule does not apply to appreciated property received from a decedent if a taxpayer or taxpayer’s spouse originally gave the property to the decedent within 1 year before the decedent's death.

The taxpayer’s basis in this property is the same as the decedent's adjusted basis in the property immediately before his or her death, rather than its FMV. Appreciated property is any property whose FMV on the day it was given to the decedent is more than its adjusted basis.

Community Property

In community property states (Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin), married individuals are each usually considered to own half the community property.

When either spouse dies, the total value of the community property, even the part belonging to the surviving spouse, generally becomes the basis of the entire property. For this rule to apply, at least half the value of the community property interest must be includable in the decedent's gross estate, whether or not the estate must file a return.

Qualified Joint Interest

Include one-half of the value of a qualified joint interest in the decedent's gross estate. It does not matter how much each spouse contributed to the purchase price. Also, it does not matter which spouse dies first.

A qualified joint interest is any interest in property held by married individuals as either of the following.

Tenants by the entirety, or

Joint tenants with right of survivorship if the married couple are the only joint tenants.

Basis. The surviving spouse's basis in the property owned with his or her spouse as a qualified joint interest is the cost of the surviving spouse's half of the property with certain adjustments. Decrease the cost by any deductions allowed to the surviving spouse for depreciation and depletion. Increase the reduced cost by the basis in the half inherited.

Property Received for Services

Property received for services must be included in income at its FMV. The FMV becomes the basis in the property. If the services were performed for a price agreed on beforehand, it will be accepted as the FMV of the property if there is no evidence to the contrary.

Property Purchased from Employer below FMV

Include in income the difference between the purchase price and the FMV.

Exception: The difference represents a qualified employee discount.

Restricted Property

If property received for services is subject to certain restrictions, the basis in the property is its FMV when it becomes substantially vested unless the taxpayer makes a section 83(b) election. The property is substantially vested when it is transferable or not subject to a risk of forfeiture (losing the property).

Section 83(b) Election

The taxpayer can choose under IRC section 83(b) to include the property in income in the year of transfer. If the election is taken the basis of the property will be the FMV at the date of transfer.

Stock Dividends, Rights, and Splits

Basis of Stock

The basis is the purchase price plus the cost of the purchase such as commissions or recording fees.

Taxable Distribution

The basis in a taxable stock dividend or stock right is its FMV at the time of the distribution.

Nontaxable Distribution

Considered a return of capital; Reduce basis by distribution amount.

Stock Dividend or Split

The basis per share of stock must be adjusted if additional stock is received through stock dividend or splits.

Example: Purchased 50 shares of ABC Corp stock for $1,500 or $30 a share in 2020.

Purchased 100 shares of ABC Corp stock for $4,500 or $45 a share in 2021. ABC declares a 3-for-2 stock split in 2022.

Basis in stock in 2022:

50 × 3/2 = 75 shares with a basis of $1,500 ÷ 75 = $20 a share

100 × 3/2 = 150 shares with a basis of $4,500 ÷ 150 = $30 a share

Note: The total basis amount does not change.

Property Transfers between Spouses

No gain or loss is recognized on a transfer of property from an individual to (or in trust for the benefit of) a spouse or, if incident to a divorce, a former spouse. This nonrecognition rule does not apply in the following situations:

The recipient spouse or former spouse is a nonresident alien.

Property is transferred in trust. Gain must be recognized to the extent the amount of the liabilities assumed by the trust, plus any liabilities on the property, exceed the adjusted basis of the property.

Basis in Transferred Property

The transferee's basis in the property will be the same as the adjusted basis of the transferor. However, for property transferred in trust, the basis is adjusted for any gain recognized by the transferor if the liabilities assumed, plus the liabilities to which the property is subject, are more than the adjusted basis of the property transferred.

Property Changed to Business or Rental Use

If a taxpayer holds a property for personal use and then change it to business use or use it to produce rent, the taxpayer must figure its basis for depreciation.

Basis for the Sale of the Property

The basis of the property sold will depend on whether the taxpayer is figuring a gain or loss.

Gain. The basis for figuring a gain is the adjusted basis when the property is sold.

Loss. Figure the basis for a loss by starting with the smaller of the adjusted basis or the FMV of the property at the time of the change to business or rental use. Then adjust this amount for the period after the change in the property's use to arrive at a basis for loss.

Capital Gains and Losses

Capital Assets and Noncapital Assets

Capital Assets

For the most part, everything owned and used for personal purposes, pleasure, or investment is a capital asset.

Noncapital Assets

Any property owned is a capital asset, except the following noncapital assets:

Property held for sale to customers or property that will physically become part of merchandise for sale to customers.

Depreciable property used in trade or business.

Real property used in trade or business.

A certain patent; an invention, model, or design (whether or not patented); or a secret formula or process.

A copyright, a literary, musical, or artistic composition, a letter or memorandum that is created by personal efforts, prepared or produced, or acquired under circumstances entitling the taxpayer to the basis of the person who created the property or for whom it was prepared or produced.

Accounts or notes receivable acquired in the ordinary course of a trade or business for services rendered or from the sale of property described in (1).

U.S. Government publications received free or at a discount.

Certain commodities derivative financial instruments held by commodities derivatives dealers.

Hedging transactions, but only if the transaction is clearly identified as a hedging transaction before the close of the day on which it was acquired, originated, or entered into.

Supplies of a type regularly used or consumed in the ordinary course of a trade or business.

Holding Period

Short-term: Property held for one year or less. Report gains or losses on Form 8949, Sales and other Dispositions of Capital Assets, and Schedule D, Capital Gains and Losses.

Long-term: Property held for more than one year. Report gains or losses on Form 8949, Sales and other Dispositions of Capital Assets, and Schedule D, Capital Gains and Losses.

Holding Period for Different Types of Acquisitions

Type of acquisition:
When the holding period starts:

Stocks and bonds bought on a securities market

Day after trading date the security was bought. Ends on trading date the security is sold.

US Treasury notes and bonds

If purchased at auction, day after notification of bid acceptance. If purchased through subscription, day after subscription was submitted.

Nontaxable exchanges

Day after date the old property was acquired.

Gift

If the basis is giver’s adjusted basis, same day as giver’s holding period began. If basis is FMV, day after date of gift.

Inherited

Treated as long-term regardless of how long the property is held.

Real property bought

Generally, day after date the title to the property is received.

Real property repossessed

Day after date originally received title to the property but does not include time between the original sale and date of repossession.

Capital Gain Tax Rate

Maximum Long-Term Capital Gain Rate

If net capital gain is from... | Then maximum capital gain rate is...
a collectibles gain | 28%
an eligible gain on qualified small business stock minus the section 1202 exclusion | 28%
an unrecaptured section 1250 gain | 25%
other gain (if taxpayer’s regular tax rate is 37%) | 20%
other gain (if taxpayer’s regular tax rate is 22%, 24%, 32%, or 35%) | 15%
other gain (if taxpayer’s regular tax rate is 10% or 12%) | 0%

Net Short-Term Capital Gains

Net short-term capital gains are taxed as ordinary income.

Sale of Stock

Mutual Fund Stock

Mutual fund investors must report as capital gain any amounts that the fund allocates as a capital gain distribution, even if the investor did not actually receive the distribution. Increase the basis in the fund by the difference between the undistributed capital gain included in income and the amount of tax paid for the investor by the fund. Report capital gain distribution as long-term gain regardless of how long the shares in the fund have been owned.

Wash Sales

A wash sale occurs when a taxpayer (or spouse) sells or trades stock or securities at a loss and, within 30 days before or after the sale, buys substantially identical stock or securities. Losses from a wash sale are not deductible.

Return of Capital

A return of capital reduces the basis of the stock. It is not taxable until basis in the stock is reduced to zero.

Capital Gain Computation

How to Figure Capital Gains and Losses

Amount Recognized:

Recognized gain is taxable income. Recognized losses are deductible from gross income.

Amount Realized:

Money + FMV of property or service received + liabilities assumed by buyer.

Adjusted basis:

Original cost or other basis + additions - deductions.

Amount Recognized:

Amount Realized - Adjusted Basis.

Net Gain or Loss

The totals for short-term gains and losses and the totals for long-term gains and losses are figured separately.

Merge short-term capital gains and losses by adding all short-term capital gains, then adding short-term capital losses. Subtract one total from the other. The result is net short-term capital gain or loss. Use the same steps to figure long-term gains or losses. Then merge short-term capital gains or losses with long-term capital gains or losses.

Capital Loss Limitations and Carryovers

Capital Loss Limits

Maximum yearly limit: $3,000 ($1,500 if married filing separately)

Capital Loss Carryover

Capital loss exceeds the yearly limit. If net capital loss exceeds the yearly limit, carry over the excess to later years until it is completely used up. The carryover loss retains its original character as either long-term or short-term. When figuring capital loss carryover, use short-term losses first. If the yearly limit is not yet reached after using short-term losses, then use long-term loss until the limit is reached.

Decedent's capital loss. A capital loss sustained by a decedent during his or her last tax year (or carried over to that year from an earlier year) can be deducted only on the final income tax return filed for the decedent. The capital loss limits still apply in this situation. The decedent's estate cannot deduct any of the loss or carry it over to following years.

Joint and separate returns. If a taxpayer and his or her spouse once filed separate returns and are now filing a joint return, combine the separate capital loss carryovers. However, if the taxpayer and spouse once filed a joint return and are now filing separate returns, any capital loss carryover from the joint return can be deducted only on the return of the spouse who actually had the loss.

Nonbusiness Bad Debt

Nonbusiness bad debts are bad debts that did not come from operating a trade or business. They are deductible as short-term capital losses. To be deductible, nonbusiness bad debts must be totally worthless. A partly worthless nonbusiness debt is not deductible.

Genuine Debt Required

A debt must be genuine to deduct a loss. A debt is genuine if it arises from a debtor-creditor relationship based on a valid and enforceable obligation to repay a fixed or determinable sum of money.

Basis in Bad Debt Required

To deduct a bad debt, the taxpayer must have a basis in it. That is, the taxpayer must have already included the amount in income or loaned out cash. Cash method taxpayer’s cannot take a bad debt deduction for unpaid salaries, wages, rents, fees, interest, dividends, and similar items.

When Deductible

A bad debt is deducted only in the year the debt becomes worthless. A debt becomes worthless when there is no longer any chance that the amount owed will be paid.

How to Report Bad Debts

Deduct nonbusiness bad debts as short-term capital losses on Form 8949. For each bad debt, attach a statement to the return that contains:

A description of the debt, including the amount, and the date it became due,

The name of the debtor, and any business or family relationship between the taxpayer and the debtor,

The efforts made to collect the debt, and

Why the taxpayer decided the debt was worthless. For example, the taxpayer could show that the borrower has declared bankruptcy, or that legal action to collect would probably not result in payment of any part of the debt.

Filing a Claim for Refund

If a taxpayer did not deduct a bad debt on his or her original return for the year it becomes worthless, the taxpayer can file a claim for a credit or refund due to the bad debt by filing Form 1040X to amend the return for the year the debt became worthless. The amended return must be filed within 7 years from the date the original return had to be filed, or 2 years from the date the taxes were paid, whichever is later.

Small Business Stock (Section 1244)

Qualifications of Section 1244 Stock

Section 1244 (small business) stock must meet the following qualifications:

Stock must have been issued for money or property (other than stock and securities) in a domestic small business corporation.

During its 5 most recent tax years before the loss, the corporation must have derived more than 50% of its gross income from sources other than rents, royalties, dividends, interest, annuities and gains from sales and exchanges of stocks or securities.

Stock issued before July 19, 1984 must have been common stock.

Treating Losses on Section 1244 Stock

The following must be met to treat the loss on section 1244 stock as ordinary loss:

The stock must be issued to the individual taking the loss (must be original owner of the stock).

Deduct a loss on the sale, exchange, or worthlessness of small business stock as an ordinary loss.

The ordinary loss is reported on Form 4797.

The ordinary loss is limited to $50,000. The limit is $100,000 if married filing jointly even if only one spouse has this type of loss.

Contributions to Capital

If the basis of a taxpayer's section 1244 stock has increased, through contributions to capital or otherwise, the taxpayer must treat this increase as applying to stock that is not section 1244 stock when figuring an ordinary loss on its sale.

Contributed Property

To determine ordinary loss on section 1244 stock received in a trade for property, reduce the basis of the stock if:

The adjusted basis (for figuring loss) of the property, immediately before the trade, was more than its fair market value, and

The basis of the stock is determined by the basis of the property.

Reduce the basis of the stock by the difference between the adjusted basis of the property and its fair market value at the time of the trade. Reduce the basis only to figure the ordinary loss. Do not reduce the basis of the stock for any other purpose.

Recordkeeping

The taxpayer must keep records that shows the stock qualifies as section 1244 stock. The records must also distinguish section 1244 stock from any other stock owned in the corporation.

Section 1202 Exclusion

A taxpayer can exclude from income up to 50% of gain from the sale or trade of qualified small business stock held for more than 5 years. The exclusion can be up to 75% for stock acquired after February 17, 2009, and no later than September 27, 2010, and up to 100% for stock acquired after September 27, 2010.

Limit on Eligiable Gain

The amount of the gain from the stock of any one issuer that is eligible for the exclusion is limited to the greater of:

Ten times the basis in all qualified stock of the issuer sold or exchanged during the year, or

$10 million ($5 million for married individuals filing separately), minus the amount of gain from the stock of the same issuer used to figure the exclusion in earlier years.

Related Party Transactions

Property Sold or Traded to a Related Party

A taxpayer cannot deduct a loss on the sale or trade of property to a related party (e.g. family member).

Property Received from a Related Party

If property received from a related party is sold or traded at a gain, recognize the gain only to the extent that it is more than the loss previously disallowed to the related party.

Related Parties

Family members. This includes only brothers and sisters, half-brothers and half-sisters, spouse, ancestors (parents, grandparents, etc.), and lineal descendants (children, grandchildren, etc.).

A partnership in which a person directly or indirectly owns more than 50% of the capital interest or the profits interest.

A corporation in which a person directly or indirectly owns more than 50% in value of the outstanding stock.

A tax-exempt charitable or educational organization directly or indirectly controlled, in any manner or by any method, by a person or by a member of that person’s family, whether or not this control is legally enforceable.

In addition, a loss on the sale or trade of property is not deductible if the transaction is directly or indirectly between the following related parties:

A grantor and fiduciary, or the fiduciary and beneficiary, of any trust.

Fiduciaries of two different trusts, or the fiduciary and beneficiary of two different trusts, if the same person is the grantor of both trusts.

A trust fiduciary and a corporation of which more than 50% in value of the outstanding stock is directly or indirectly owned by or for the trust, or by or for the grantor of the trust.

A corporation and a partnership if the same persons own more than 50% in value of the outstanding stock of the corporation and more than 50% of the capital interest, or the profits interest, in the partnership.

Two S corporations if the same persons own more than 50% in value of the outstanding stock of each corporation.

Two corporations, one of which is an S corporation, if the same persons own more than 50% in value of the outstanding stock of each corporation.

An executor and a beneficiary of an estate (except in the case of a sale or trade to satisfy a pecuniary bequest).

Two corporations that are members of the same controlled group. (Under certain conditions, however, these losses are not disallowed but must be deferred.)

Two partnerships if the same persons own, directly or indirectly, more than 50% of the capital interests or the profit interests in both partnerships.

Installment Sales

An installment sale is a sale of property where one or more payments are received after the close of the tax year.

Payments

Each payment received usually consists of three parts:

Interest,

Return of investment (basis), and

Gain on the sale.

Unstated Interest

If an installment sale with some or all payments due more than one year after the date of sale does not provide for interest, part of each payment due more than 6 months after the date of sale will be treated as unstated (imputed) interest. The selling price and contract price must be reduced by any unstated (imputed) interest.

Figuring Gross Profit Percentage

To determine what part of the payment is gain, first determine the gross profit percentage:

Gross profit percentage = Gross profit ÷ Contract price

Gross profit = Selling price - (Basis of property + Selling expenses)

Selling price = Money rec'd + FMV of property rec'd + Mortgage assumed by buyer

Contract price = Down payment + Principal payments

1.
Selling price
(money + FMV of property +
mortgage assumed)......................
$              

2.
Less the sum of:

 Basis of property sold........$       

 Selling expenses...............       

 Depreciation Recapture Income..       

3.
Gross profit
(line 1 - line 2)......................

4.
Contract price
(Down payment + principal payments)....

5.
Gross profit percentage
(line 3 ÷ line 4)......................
$

Sale to a Related Person

If a taxpayer sells depreciable property to certain related persons, the taxpayer generally cannot report the sale using the installment method. Instead, all payments to be received are considered received in the year of sale.

Exception. A taxpayer can use the installment method to report a sale of depreciable property to a related person if no significant tax deferral benefit will be derived from the sale. The taxpayer must show to the satisfaction of the IRS that avoidance of federal income tax was not one of the principal purposes of the sale.

Dispositions of Installment Obligations

An installment obligation is the buyer's note, deed of trust, or other evidence that the buyer will make future payments.

If the obligation is disposed of, a gain or loss is recognized. The gain or loss is the difference between the basis in the obligation and the amount realized. The character of the gain or loss depends on the original installment sale. If the original installment sale of the property produced ordinary income, the disposition of the obligation will result in ordinary income or loss. If the original sale resulted in a capital gain, the disposition of the obligation will result in a capital gain or loss.

Repossession of Real Property

The repossession of real property cancels out the tax treatment that applied to the original installment sale and puts the taxpayer in the same tax position he or she was in before the sale.

The taxpayer recovers his entire adjusted basis when he resells the repossessed property. Payments received from the buyer of the original sale must be included in income. Report, as gain from the repossession, any part of the payments that have not already been included in income.

Reporting an Installment Sale

Form 6252

Use Form 6252, Installment Sale Income, to report a sale of property on the installment method.

The form is used to report the sale in the year it takes place and to report payments received in later years. Also, if the property is sold to a related person, the taxpayer may have to file the form each year until the installment debt is paid off, whether or not the taxpayer received a payment in that year.

Other Forms

The gain from Form 6252 is entered on Schedule D, Form 4797, or both.

Nontaxable Exchanges

A nontaxable exchange is an exchange of real property used in a business or held for investment for other real property used for business or investment real property of a like-kind.

Like-Kind Exchanges

To be nontaxable, a like-kind exchange must meet all of the following conditions:

Both the property transferred and the property received must be real property used in a trade or business or investment property.

The real property must not be held primarily for sale.

There must be an exchange of like-kind real property.

Real property to be received must be identified within 45 days after the date of transfer of the real property given up in the exchange.

The exchange must be completed on or before the earlier of:

The 180th day after the date the property being exchanged was transferred, or

The due date, including extensions, for filing that year's tax return.

The following are examples of like-kind exchanges:

An exchange of one rental property (e.g., apartment house) with another rental property (e.g., rented store building).

An exchange of city property for farm land.

An exchange of improved real property for unimproved real property.

An exchange of real estate owned for a real estate lease that runs 30 years or more.

Not Like-Kind Property

The rules of like-kind exchanges do not apply to the following property:

Real property used for personal purposes such as a home.

Real property held primarily for sale.

Any personal or intangible property.

Basis of Property

The basis of property received in a nontaxable exchange is the same as the basis of the property exchanged:

Decreased by any money received and any loss recognized on the exchanged, and

Increased by any additional cost incurred and any gain recognized on the exchange.

Sale of a Main Home

Main Home

Usually, the home the taxpayer live in most of the time is his or her main home and can be a:

House,

Houseboat,

Mobile home,

Cooperative apartment, or

Condominium.

Land

If a taxpayer sells the land on which the main home is located, but not the house itself, the taxpayer cannot exclude any gain from the sale of the land. However, if the taxpayer sells vacant land used as part of the main home and that is adjacent to it, the taxpayer may be able to exclude the gain from the sale if all of the following are true:

The taxpayer owned and used the vacant land as part of the home.

The sale of the vacant land and the sale of the home happened within 2 years of each other.

Both sales either meet the eligibility test or qualify for partial tax benefits as described under exclusion of gain below.

More than One Home

If the taxpayer has more than one home, the taxpayer can exclude gain only from the sale of his or her main home. If the taxpayer has two homes and live in both of them, the main home is ordinarily the one the taxpayer lives in most of the time during the year.

Loss on Sale

A loss on the sale of a main home is not deductible.

Foreclosure

If a home is abandoned, foreclosed on, or repossessed, it is treated as a sale or a disposition and any gain must be realized.

Trading Homes

Trading an old main home for a new main home is treated as a sale and purchase.

Exclusion of Gain

A taxpayer can exclude up to $250,000 the gain on the sale of a main home if all of the following are true:

Taxpayer owned the home for at least 2 of the last 5 years (the ownership test).

Taxpayer lived in the home as his or her main home for at least 2 of the last 5 years (the use test).

Taxpayer did not exclude gain from the sale of another home during the 2-year period ending on the date of the sale.

Taxpayer's filing jointly can exclude up to $500,000 of the gain if all of the following are true:

Married and file a joint return for the year.

Either spouse meets the ownership test.

Both spouses meet the use test.

Both spouses did not exclude gain from the sale of another home during the 2-year period ending on the date of the sale.

Temporary Absences

Short temporary absences for vacations or other seasonal absences, even if renting out the property during the absences, are counted as periods of use.

Ownership and Use Tests Met at Different Times

A taxpayer can meet the ownership and use tests during different 2-year periods. However, the taxpayer must meet both tests during the 5-year period ending on the date of the sale.

Exceptions to Ownership and Use Tests

Exceptions to Ownership and Use Tests for taxpayers with a Disability. There is an exception to the use test if:

The taxpayer becomes physically or mentally unable to care for himself or herself, and

Owned and lived in the home as a main home for a total of at least 1 year during the 5-year period before the sale of the home.

Under this exception, the taxpayer is considered to live in his or her home during any time within the 5-year period that the taxpayer own the home and live in a facility (including a nursing home) licensed by a state or political subdivision to care for persons in the taxpayer’s condition.

If the taxpayer meets this exception to the use test, the taxpayer still has to meet the 2-out-of-5-year ownership test to claim the exclusion.

Previous home destroyed or condemned.For the ownership and use tests, add the time owned and lived in a previous home that was destroyed or condemned to the time owned and lived in the replacement home. This rule applies if any part of the basis of the home sold depended on the basis of the destroyed or condemned home.

Members of the uniformed services or Foreign Service, employees of the intelligence community, or employees or volunteers of the Peace Corps. A taxpayer can choose to have the 5-year test period for ownership and use suspended during any period tax taxpayer or his or her spouse serve on “qualified official extended duty” as a member of the uniformed services or Foreign Service of the U.S., or as an employee of the intelligence community. The taxpayer can choose to have the 5-year test period for ownership and use suspended during any period he or she or spouse serve outside the U.S. either as an employee of the Peace Corps on “quali-fied official extended duty” or as an enrolled volunteer or volunteer leader of the Peace Corps.

Reduced Maximum Exclusion

If the taxpayer fails to meet the requirements to qualify for the exclusion, the taxpayer can still qualify for a reduced exclusion. To qualify for a reduced exclusion, the sale of the home must be due to one of the following reasons:

A change in place of employment.

Health.

Unforeseen circumstances (occurrence of an event that could not have been reasonably anticipated before buying the home such as loss of employment).

Exclusion on Sale of Main Home by Surviving Spouse

If spouse dies, surviving spouse may qualify to exclude up to $500,000 of any gain from the sale of a main home. To qualify, surviving spouse must not remarry, meet all the requirements for exclusion and the sale takes place within 2 years after the date of death of spouse.

Business Use or Rental of Home

A taxpayer can exclude a gain from the sale of a home that was used for business or to produce rental income if the taxpayer meets the ownership and use tests.

Depreciation for Business Use after May 6, 1997

A taxpayer cannot exclude part of the gain equal to any depreciation allowed or allowable as a deduction for periods after May 6, 1997.

Home Acquired Through Transfer from Spouse

If a taxpayer's home was transferred by a spouse or former spouse (whether in connection with a divorce or not), the taxpayer can count any time when the spouse owned the home as time owned by the taxpayer to meet the ownership test.

Death of Spouse

If a taxpayer sell his or her home within 2 years of the death of a spouse and the taxpayer has not remarried as of the sale date, the taxpayer can count any time the deceased spouse owned the home as time owned by the taxpayer to meet the ownership test.

Vacant Land Next to Home

Vacant land adjacent to the land on which a main home sits qualifies as part of the sale of a main if ALL of the following are true.

The vacant land is used and owned by the taxpayer as part of the main home.

The sale of the vacant land and the sale of the main home happened within 2 years of each other.

Both sales either meet the eligibility test or qualify for partial tax benefits.

If the sale of vacant land meets all these requirements, the taxpayer must treat that sale and the sale of the main home as a single transaction for tax purposes.

Like-Kind/1031 Exchange

A taxpayer cannot claim the exclusion if:

The taxpayer acquired the home in a like-kind exchange (also known as a section 1031 exchange), or the basis in the home is determined by reference to the basis of the home in the hands of the person who acquired the property in a like-kind exchange (for example, the taxpayer received the home from that person as a gift), and

The taxpayer sold the home during the 5-year period beginning with the date the home was acquired in the like-kind exchange.

Reporting the Gain

Do not report the sale of a main home on the tax return unless:

There is a gain on the sale and the gain does not qualify for full exclusion,

There is a gain and the taxpayer chooses not to exclude it, or

The taxpayer receives Form 1099-S.

If any of these conditions apply report the entire gain or loss on Form 8949, Sales and Other Dispositions of Capital Assets, and Schedule D (Form 1040 or 1040-SR), Capital Gains and Losses.

Reporting Capital Gains and Losses

A taxpayer reports gains and losses depending on his or her following classification:

Investor

Trader

Securities Dealer

Investor

Investors typically buy and sell securities and expect income from dividends, interest, or capital appreciation.

They buy and sell these securities and hold them for personal investment They are not conducting a trade or business. Sales of these securities result in capital gains and losses that must be reported on Form 1040 or 1040-SR, Schedule D, Capital Gains and Losses and on Form 8949, Sales and Other Dispositions of Capital Assets.

Form 8949

Report capital gains and losses on Form 8949. Complete Form 8949 before completing line 1b, 2, 3, 8b, 9, or 10 of Schedule D (Form 1040 or 1040-SR).

Use Form 8949 to report:

The sale or exchange of a capital asset not reported on another form or schedule.

Gains from involuntary conversions (other than from casualty or theft) of capital assets not held for business or profit.

Nonbusiness bad debts.

Securities that become worthless.

The election to defer capital gain invested in a qualified opportunity fund (QOF).

The disposition of interests in QOFs.

Schedule D

Use Schedule D (Form 1040 or 1040-SR) to report:

Overall gain or loss from transactions reported on Form 8949.

Certain transactions not report on Form 8949

Gain from Form 2439 or Form 6252 or Part I of Form 4797.

Gain or loss from Form 4684, 6781, or 8824.

Capital gain distributions not reported directly on Form 1040 or 1040-SR.

Capital loss carryover from the previous tax year to the current tax year.

Gain or (loss) from a partnership, S corporation, estate, or trust.

Transactions reported on a Form 1099-B (or substitute statement) showing basis was reported to the IRS and to which none of the Form 8949 adjustments or codes apply.

Capital Gain Distributions Only

Do not file Form 8949 or Schedule D if both the following are true:

The only amounts to report on Schedule D are capital gain distributions from box 2a of Form 1099-DIV (or substitute statement).

No amounts are shown in box 2b (unrecaptured section 1250 gain), 2c (section 1202 gain), or 2d (collectibles (28%) gain) of any Form 1099-DIV (or substitute statement).

Form 1099-B

If a taxpayer sells property such as stocks, bonds, or certain commodities through a broker during the year, the taxpayer should receive, for each sale, a Form 1099-B, Proceeds From Broker and Barter Exchange Transactions, or an equivalent statement from the broker.

A taxpayer should receive the statement by February 15 of the next year. It will show the gross proceeds from the sale. The IRS will also get a copy of Form 1099-B from the broker. Use Form 1099-B (or an equivalent statement received) to complete Form 8949 and Schedule D (Form 1040 or 1040-SR).

Form 1099-S

If a taxpayer sells or trades real estate, the taxpayer should receive a Form 1099-S, Proceeds From Real Estate Transactions, showing the proceeds and other information.

Trader

Special rules apply if the taxpayer is a trader in securities, in the business of buying and selling securities for his or her own account. The law considers this to be a business, even though a trader does not maintain an inventory and does not have customers. To be engaged in business as a trader in securities, a taxpayer must meet all of the following conditions:

Must seek to profit from daily market movements in the prices of securities and not from dividends, interest, or capital appreciation.

The activity must be substantial.

Must carry on the activity with continuity and regularity.

Traders report their business expenses on Form 1040 or 1040-SR, Schedule C, Profit or Loss From Business. The Schedule A limitations on investment interest expense, which apply to investors, do not apply to interest paid or incurred in a trading business. Commissions and other costs of acquiring or disposing of securities are not deductible but must be used to figure gain or loss upon disposition of the securities.

Dealers

Dealers in securities may be individuals or business entities.

Dealers purchase, hold, and sell securities to their customers in the ordinary course of their trade or business. Sometimes they maintain an inventory. Dealers are distinguished from investors and traders because they have customers and derive their income from marketing securities for sale to customers. Section 475 requires dealers to keep and maintain records that clearly identify securities held for personal gain versus those held for use in their business activity. Dealers must report gains and losses associated with dispositions of securities by using the mark-to-market rules.

The Mark-to-Market Election

Traders can choose to use the mark-to-market rules, investors cannot.

If a trader does not make a valid mark-to-market election under section 475(f), then he or she must treat the gains and losses from sales of securities as capital gains and losses and report the sales on Form 1040 or 1040-SR, Schedule D, Capital Gains and Losses and on Form 8949, Sales and Other Dispositions of Capital Assets, as appropriate. When reporting on Schedule D, both the limitations on capital losses and the wash sales rules continue to apply. However, if a trader makes a timely mark-to-market election, then he or she can treat the gains and losses from sales of securities as ordinary gains and losses (except for securities held for investment) that must be reported on Part II of Form 4797, Sales of Business Property. Neither the limitations on capital losses nor the wash sale rules apply to traders using the mark-to-market method of accounting. In general, a trader must make the mark-to-market election by the due date (not including extensions) of the tax return for the year prior to the year for which the election becomes effective. A trader can make the election by attaching a statement either to his or her income tax return.

Chapter Four - Adjustments to Income

Adjustments to Income

It is important for a tax return preparer to have a thorough understanding of adjustments that can be made to income when figuring a taxpayer’s adjusted gross income (referred to as AGI). Chapter four will explain the adjustments most often encountered by a return preparer in his or her practice and deemed important enough by the IRS to be assessed on the Enrolled Agent Exam.

In This Chapter

Individual Retirement Arrangements (IRAs)

Retirement Plan Rules for 2022

Moving Expenses

Alimony

Health Savings Account

Education Related Adjustments

Other Adjustments to Income

Individual Retirement Arrangements (IRAs)

Traditional IRAs Contributions Limit

A taxpayer regardless of age can contribute up to the lesser of:

$6,000 ($7,000 if age 50 or older), or

100% of his or her taxable compensation for each year.

Due Date for Contributions

The contribution must be made by the due date for filling his or her return (excluding extensions).

What is Compensation?

Compensation includes:

Wages and salaries, etc.

Commissions.

Self-employment income.

Taxable alimony and separate maintenance.

Nontaxable combat pay.

Taxable non-tuition fellowship and stipend payments

Note: Self-employment loss should not be subtracted from wages and salaries received when figuring total compensation.

Alimony and separate maintenance. For IRA purposes, compensation includes any taxable alimony and separate maintenance payments receive under a decree of divorce or separate maintenance but only with respect to divorce or separation instruments executed before 2019, that have not been modified to exclude such amounts.

Compensation does not include:

Earnings and profits from property, such as rental income, interest income, and dividend income.

Pension or annuity income.

Deferred compensation received (compensation payments postponed from a past year).

Income from a partnership for which the taxpayer provides no services that are a material income-producing factor.

Any amounts (other than combat pay) excluded from income, such as foreign earned income and housing costs.

Both Spouses have Compensation

If both spouses have compensation each can set up an IRA. An IRA cannot be set up for spouses to use jointly. If filing a joint return, only one spouse needs to have compensation.

How Much Can be Deducted?

Not Covered by an Employer Plan

If the taxpayer is not covered by an employer retirement plan, the taxpayer can take a full deduction on the amount contributed.

Spousal IRA Limit

In the case of a married couple with unequal compensation who file a joint return, the limit on the deductible contribution to the IRA of the spouse with less compensation is the smaller of the following two amounts:

$6,000 ($7,000 if age 50 or older), or

The total compensation includible in gross income of both spouses for the year reduced by the following three amounts.

The IRA deduction of the spouse with the greater compensation.

Any designated nondeductible contribution for the year made on behalf of the spouse with the greater compensation.

Any contributions for the year to a Roth IRA on behalf of the spouse with the greater compensation.

Covered by an Employer Plan

If the taxpayer is covered by an employer retirement plan, the taxpayer's IRA contribution is reduced or eliminated entirely depending on the taxpayer's modified AGI and filing status as shown below:

If taxpayer is covered and filing status is: 
Phaseout range modified AGI
Top phaseout range

Single or head of household

$68,000 - $78,000

$78,000

Married filing jointly or qualifying surviving spouse

$109,0000 - $129,000

$129,000

Married filing separately

$0 - $10,000

$10,000

Spouse Covered by Employer Plan

A taxpayer may be able to deduct up to $6,000 ($7,000 if age 50 or older) in contributions to his or her IRA even if his or her spouse is covered by an employer retirement plan. In this case, the deduction must be reduced if the taxpayer's modified adjusted gross income on a joint return is more than $204,000. The taxpayer cannot deduct any contributions if the modified adjusted gross income on the joint return is $214,000 or more.

If taxpayer's spouse is covered,

but the taxpayer is not and filing status is:

Phaseout range modified AGI
Top phaseout range

Married filing jointly

$204,000 - $214,000

$214,000

Married filing separately

$0 - $10,000

$10,000

Worksheet for reduced IRA deduction (If the taxpayer or the taxpayer's spouse is covered by an employer)

1. | Enter top phaseout range | $          
2. | Enter modified AGI (combined, if married filing jointly) | $
3. | Subtract line 2 from line 1 | $
4. | If MFJ or Q/W, Multiply line 3 by30% (.30) (by 35% (.35) if age 50 or older). All others, multiply line 3 by 60% (.60) (by 70% (.70) if age 50 or older) | $
5. | Enter compensation | $
6. | Enter contributions made | $
7. | IRA deduction. (The smaller of 4, 5 or 6) | $

Once the taxpayer's modified AGI reaches the top phaseout range, no IRA deduction is allowed. The deductible contribution can be made for a tax year up to the due date of the return (excluding extensions).

Modified Adjusted Gross Income (AGI)

Modified AGI is AGI without taking into account any of the following amounts:

IRA deduction.

Student loan interest.

Foreign earned income exclusion from Form 2555.

Foreign housing exclusion or deduction from Form 2555.

Exclusion of qualified savings bond interest from Form 8815.

Exclusion of employer-paid adoption expenses from Form 8839.

Nondeductible Contributions

Although a deduction for IRA contributions may be reduced or eliminated, contributions can be made to an IRA of up to the general limit or, if it applies, the spousal IRA limit. The difference between the total permitted contributions and the IRA deduction is the nondeductible contribution.

Form 8606

To designate contributions as nondeductible, Form 8606 must be filed. Form 8606 must be filed to report nondeductible contributions even if the taxpayer does not have to file a tax return for the year.

Failure to Report Nondeductible Contributions

If a taxpayer does not report nondeductible contributions, all of the contributions to the taxpayer's traditional IRA will be treated like deductible contributions when withdrawn. All distributions from the IRA will be taxed unless the taxpayer can show, with satisfactory evidence, that nondeductible contributions were made.

Penalty for Failure to File Form 8606

A taxpayer will have to pay a $50 penalty if he or she does not file a required Form 8606, unless the taxpayer can prove that the failure was due to reasonable cause.

Cost Basis

Taxpayers will have a cost basis in their traditional IRA if they made any nondeductible contributions. The cost basis is the sum of the nondeductible contributions to the IRA minus any withdrawals or distributions of nondeductible contributions.

Inherited IRAs

Inherited from spouse. If a taxpayer inherits a traditional IRA from his or her spouse, the taxpayer generally has the following three choices.

Treat it as his or her own IRA by designating himself or herself as the account owner.

Treat it as his or her own by rolling it over into his or her IRA, or to the extent it is taxable, into a:

Qualified employer plan,

Qualified employee annuity plan (section 403(a) plan),

Tax-sheltered annuity plan (section 403(b) plan),

Deferred compensation plan of a state or local government (section 457 plan), or

Treat himself or herself as the beneficiary rather than treating the IRA as his or her own.

Inherited from someone other than spouse. If a taxpayer inherits a traditional IRA from anyone other than his or her deceased spouse, the taxpayer cannot treat the inherited IRA as his or her own. This means that the taxpayer cannot make any contributions to the IRA or roll over any amounts into or out of the inherited IRA. However, the taxpayer can make a trustee-to-trustee transfer, as long as the IRA into which amounts are being moved is set up and maintained in the name of the deceased IRA owner for the benefit of the taxpayer as beneficiary.

IRA with basis. If a taxpayer inherits a traditional IRA from a person who had a basis in the IRA because of nondeductible contributions, that basis remains with the IRA. Unless the taxpayer is the decedent's spouse and choose to treat the IRA as his or her own, the taxpayer cannot combine this basis with any basis he or she has in his or her own traditional IRA(s) or any basis in traditional IRA(s) inherited from other decedents. If a taxpayer takes distributions from both an inherited IRA and his or her IRA, and each has basis, the taxpayer must complete separate Forms 8606 to determine the taxable and nontaxable portions of those distributions.

Excess Contributions

An excess contribution is the amount contributed to a traditional IRA for the year that is more than the smaller of:

$6,000 ($7,000 if age 50 or older), or

Taxpayer’s taxable compensation for the year.

The taxable compensation limit applies whether the contributions are deductible or nondeductible.

Tax on Excess Contributions

If the excess contribution is not withdrawn by the due date of the tax return (including extensions), the taxpayer will be subject to a 6% tax.

Excess Contributions Withdrawn by the Due Date of Return

Taxpayer will not be subject to the 6% tax if the excess contribution made during a tax year is withdrawn and any interest or other income earned on the excess contribution is also withdrawn by the due date of the return (including extensions).

How to Treat Withdrawn Interest or Other Income

Include in gross income the interest or other income that was earned on the excess contribution. Report it on the return for the year in which the excess contribution was made. The withdrawal of interest or other income may be subject to an additional 10% tax on early distributions.

Form 1099-R

A taxpayer will receive Form 1099-R indicating the amount of the withdrawal. If the excess contribution was made in a previous tax year, the form will indicate the year in which the earnings are taxable.

Deducting an Excess Contribution in a Later Year

A taxpayer cannot apply an excess contribution to an earlier year even if the taxpayer contributed less than the maximum amount allowable for the earlier year.

However, the taxpayer may be able to apply it to a later year if the contributions for that later year are less than the maximum allowed for that year. The amount to deduct this year is the lesser of the following two amounts.

The maximum IRA deduction for this year, minus any amounts contributed to a traditional IRA for this year.

The total excess contributions in the IRA at the beginning of this year.

This method lets the taxpayer avoid making a withdrawal. It does not, however, let the taxpayer avoid the 6% tax on any excess contributions remaining at the end of a tax year.

Prohibited Transactions

A prohibited transaction is any improper use of a taxpayer's IRA account or annuity by the taxpayer or any disqualified person. There is a 15% excise tax on the amount of the prohibited transaction and a 100% additional tax if the transaction is not corrected.

Disqualified Persons

Disqualified persons include the taxpayer's fiduciary and members of his or her family (spouse, ancestor, lineal descendant, and any spouse of a lineal descendant).

Examples of Prohibited Transactions

The following are examples of prohibited transactions with a traditional IRA:

Borrowing money from it.

Selling property to it.

Receiving unreasonable compensation for managing it.

Using it as security for a loan.

Buying property for personal use (present or future) with IRA funds.

IRA Ceases to be an IRA

Generally, if a taxpayer or a beneficiary engages in a prohibited transaction in connection with a traditional IRA account at any time during the year, the account stops being an IRA as of the first day of that year.

The account is treated as distributing all its assets to the taxpayer at their fair market values on the first day of the year. If the total of those values is more than the taxpayer’s basis in the IRA, the taxpayer will have a taxable gain that is included in income. The taxpayer may also have to pay the 10% tax on premature distribution.

Retirement Plan Rules for 2022

Type of Plan
Last Date for Contribution
Maximum Contribution
Maximum Deduction
When to Set Up Plan

SEP

Due date of employer’s return (including extensions).

Smaller of $61,000 or 25% of participant compensation.

25% of all participant's compensation

Any time up to due date of employer's return (incl. ext.).

SIMPLE IRA and SIMPLE 401(k) Plan

Salary reduction contributions: 30 days after the end of the month for which the contributions are to be made.

Matching contributions or nonelective contributions: Due date of employer's return (including extensions)

Employee: Salary reduction contribution, up to $14,000 ($17,000 if age 50 or over).

Employer contribution: Either dollar-for-dollar matching contributions, up to 3% of employee's compensation, or fixed nonelective contributions of 2% of compensation.

Same as maximum contribution.

Any time between 1/1 and 10/1 of the calendar year.

For a new employer coming into existence after 10/1, as soon as administratively feasible.

Qualified Plan: Defined Contribution Plan

Elective deferral: Due date of employer’s return (including extension).

Employer contribution: Due date of employer’s return (including extensions)

Employee contribution: Elective deferral up to $20,500 ($27,000 if age 50 or older).

Employer contribution: Smaller of $61,000 or 100% of participant’s compensation

25% of all participant's compensation, plus amount of elective deferrals made.

By the end of the year.

Qualified Plan: Defined Benefit Plan
Contributions generally must be paid in quarterly installments, due 15 days after the end of each quarter.
Amount needed to provide an annual benefit no larger than the smaller of $245,000 or 100% of participant’s compensation for highest 3 consecutive calendar years.
Based on actuarial assumptions and computations.
By the end of the year.

Moving Expenses

Requirements

For tax years 2018 through 2025, the deduction of certain moving expenses is suspended for nonmilitary taxpayers. Reimbursements for certain moving expenses are no longer excluded from gross income of nonmilitary taxpayers. Members of the Armed Forces on active duty moving because of a permanent change of station can deduct unreimbursed moving expenses.

A permanent change of station includes:

A move from the taxpayer's home to his or her first post of active duty,

A move from one permanent post of duty to another, and

A move from the taxpayer's last post of duty to his or her home or to a nearer point in the U.S. The move must occur within 1 year of ending active duty or within the period allowed under the Joint Travel Regulations.

Deductible Moving Expenses

Moving Household Goods and Personal Effects. Cost of packing and transporting the household goods and personal effects. Include the cost of storing and insuring these items while in-transit or during a foreign move.

Traveling to New Home. Cost of transportation and lodging while traveling to new home. If traveling by car, deduct either actual expenses or standard mileage rate of 18 cents per mile.

Meals

Expenses for meals relating to the move are not deductible.

Form 3903

Use Form 3903 to figure moving expense deduction.

Alimony

Deductible Alimony

For divorce or separation agreements executed before 2019 and not modified after 2018, alimony is deductible by the payer and included in income by the recipient.

Nondeductible Alimony

For divorce or separation agreements executed after 2018, a taxpayer can no longer deduct an amount equal to the alimony or separate maintenance payments paid during the tax year, nor will the alimony or separate maintenance payments be included in the gross income of the recipient spouse.

Alimony Requirements

A payment to a spouse under a divorce or separation instrument is alimony if the spouses do not file a joint return and all the following are met:

The payments are required by a divorce or separation instrument.

Payer and recipient spouse do not file a joint return with each other.

The payment is in cash only (including checks and money orders).

The instrument does not designate the payment as not alimony.

Spouses legally separated under a decree of divorce or separate maintenance are not members of the same household when payments are made.

Payments are not required after the death of recipient spouse.

The payment is not treated as child support.

Payments Not Alimony

Alimony does not include:

Child support.

Noncash property settlements.

Payments that are your spouse's part of community income.

Payments to keep up the payer's property.

Use of the payer's property.

Payments to a Third Party

Payments to a third party on behalf of a spouse under the terms of a divorce or separation instrument may be alimony, if they otherwise qualify.

This includes payments for spouse’s medical expenses, housing costs (rent, utilities, etc.), taxes, tuition, etc. The payments are treated as received by the spouse and then paid to the third party. Life insurance premiums paid under a divorce or separation instrument qualify as alimony to the extent the spouse owns the policy.

Child Support

A payment that is specifically designated as child support or treated as child support is not alimony. Child support payments are neither deductible by the payer nor taxable to the payee.

A payment will be treated as child support if the payment is reduced either:

On the happening of a contingency relating to child (e.g., child reaching a specific age or income level, dying, marrying, leaving school or home, etc.), or

At a time that can be clearly associated with the contingency.

Underpayment

If both alimony and child support payments are called for by a divorce or separation instrument, and payments are less than the total required, the payments apply first to child support and then to alimony.

Health Savings Account

A health savings account (HSA) is a tax-exempt trust or custodial account that a taxpayer sets up with a qualified HSA trustee to pay or reimburse certain medical expenses.

Benefits of an HSA

Contributions made by the taxpayer are tax deductible as an adjustment to gross income on Form 1040 or 1040-SR.

Contributions made by an employer may be excluded from gross pay

Contributions remain in the taxpayer’s account from year to year until the taxpayer uses them.

Interest or other earnings on assets in the account are tax free.

Distributions may be tax free if used to pay qualified medical expenses.

An HSA stays with the taxpayer if the taxpayer changes employers or leaves the work force.

Qualifying for an HSA

To qualify for a HSA, a taxpayer must meet the following requirements:

Have a high deductible health plan (HDHP).

Have no other health coverage except what is permitted under other health coverage below.

Have not enrolled in Medicare.

The taxpayer cannot be claimed on someone else’s tax return.

Other Health Coverage

If a taxpayer (and his or her spouse, if having a family coverage) have HDHP coverage, the taxpayer cannot have any other health coverage.

However, the taxpayer can still be an eligible individual even if his or her spouse has non-HDHP coverage, provided the taxpayer is not covered by that plan. The taxpayer can have additional insurance that provides benefits only for the following items.

Liabilities incurred under workers’ compensation laws, tort liabilities, or liabilities related to ownership or use of property.

A specific disease or illness.

A fixed amount per day (or other period) of hospitalization.

The taxpayer can also have coverage (whether provided through insurance or otherwise) for the following items.

Accidents

Disability

Dental care

Vision care

Long-term care

Last-Month Rule

Under the last-month rule, if a taxpayer is an eligible individual on the first day of the last month of his or her tax year (December 1 for most taxpayers), the taxpayer is considered an eligible individual for the entire year.

High Deductible Health Plan (HDHP)

An HDHP has:

A higher annual deductible than typical health plans, and

A maximum limit on the sum of the annual deductible and out-of-pocket medical expenses that a taxpayer must pay for covered expenses. Out-of-pocket expenses include copayments and other amounts, but do not include premiums.

The following shows the minimum annual deductible and maximum annual deductible and other out-of-pocket expenses for HDHPs for 2022.

Type of coverage
Minimum Annual Deductible

Maximum Annual Deductible and Other Out of Pocket Expenses

Self-only

$1,400

$7,050

Family

$2,800

$14,100

Contributions to an HSA

Any eligible individual can contribute to an HSA. For an employee's HSA, the employee, the employee's employer, or both may contribute to the employee's HSA in the same year.

For an HSA established by a self-employed (or unemployed) individual, the individual can contribute. Family members or any other person may also make contributions on behalf of an eligible individual. Contributions to an HSA must be made in cash not stock or property

Limits on Contributions

The amount that can be contributed to an HSA depends on the type of HDHP coverage, the taxpayer’s age, the date on becoming an eligible individual, and the date the taxpayer ceases to be an eligible individual. For 2022, self-only HDHP coverage can contribute up to $3,650 and family HDHP coverage can contribute up to $7,300.

When To Contribute

A taxpayer can make contributions to an HSA for 2022 until April 15, 2023.

If a taxpayer fails to be an eligible individual during the tax year, the taxpayer can still make contributions until April 15, 2023 for the months he or she were an eligible individual. An employer can make contributions to an employee’s HSA from January 1, 2023 through April 15, 2023, that are allocated to 2022. The employer must notify the employee and the trustee of the HSA that the contribution is for 2022. The contribution will be reported on the employee’s 2023 Form W-2.

Form 8889

Report all contributions to on Form 8889 and file it with Form 1040 or 1040-SR.

Distributions From an HSA

Distributions from an HSA are tax-free distributions if used to pay or be reimbursed for qualified medical expenses incur after establishing the HSA. If the taxpayer is no longer an eligible individual, he or she can still receive tax-free distributions to pay or be reimbursed qualified medical expenses.

Qualified Medical Expenses

Qualified medical expenses are those expenses that generally would qualify for the medical and dental expenses deduction.

Amounts paid after 2019 for over-the-counter medicine (whether or not prescribed) and menstrual care products are considered medical care and are considered a covered expense. Medical expenses paid with tax-free distributions from an HSA are not deductible as an itemized deduction on Schedule A (Form 1040 or 1040-SR).

Insurance Premiums

Insurance premiums are not qualified medical expenses unless the premiums are for long-term care insurance, health care continuation coverage (i.e., COBRA), health care coverage while receiving unemployment compensation under federal or state law, or Medicare and other health care coverage if the taxpayer is 65 or older (other than premiums for a Medicare supplemental policy).

Student Loan Interest Deduction

A taxpayer can deduct up to $2,500 interest on a student loan if all of the following apply:

The taxpayer paid interest on a qualified student loan.

The taxpayer’s filing status is any status except married filing separate.

The taxpayer is not claimed as a dependent on someone’s tax return.

The taxpayer is legally obligated to pay interest on a qualified student loan.

Loan Qualification

The student loan must have been taken out solely to pay qualified education expenses and cannot be from a related person or made under a qualified employer plan.

Student Qualifications

The student must be the taxpayer, spouse or dependent and enrolled at least half-time in a degree program.

Exceptions. For purposes of the student loan interest deduction, the following are exceptions to the general rules for dependents:

An individual can be the taxpayer's dependent even if the taxpayer is the dependent of another taxpayer.

An individual can be the taxpayer's dependent even if the individual files a joint return with a spouse.

An individual can be the taxpayer's dependent even if the individual had gross income for the year that was equal to or more than ($4,400 for 2022).

Qualified Education Expenses

For purposes of the student loan interest deduction, these expenses are the total costs of attending an eligible educational institution, including graduate school. They include amounts paid for the following items:

Tuition and fees.

Room and board.

Books, supplies, and equipment.

Other necessary expenses (such as transportation).

The cost of room and board qualifies only to the extent that it is not more than:

The allowance for room and board, as determined by the eligible educational institution, that was included in the cost of attendance (for federal financial aid purposes) for a particular academic period and living arrangement of the student, or

If greater, the actual amount charged if the student is residing in housing owned or operated by the eligible educational institution.

Adjustments to Qualified Education Expenses

Qualified education expenses must be reduced by certain tax-free items (such as the tax-free part of scholarships and fellowships).

Income Phaseout

The amount of student loan interest deduction is phased out if modified AGI is between $70,000 and $85,000 ($145,000 and $175,000 if married filing jointly).

Educator Expenses

Eligible educators can deduct up to $300 of qualified expenses paid as an adjustment to gross income. If the taxpayer and spouse are filing jointly and both are eligible educators, the maximum deduction is $600. However, neither spouse can deduct more than $300 of his or her qualified expenses.

Eligible Educator

An eligible educator is a kindergarten through grade 12 teacher, instructor, counselor, principal, or aide in a school for at least 900 hours during a school year.

Qualified Expenses

Qualified expenses include books, supplies, equipment (including computer equipment, software, and services), and other materials used in the classroom.

Qualified expenses do not include expenses for home schooling or for nonathletic supplies for courses in health or physical education. A taxpayer must reduce his qualified expenses by the following amounts:

Excludable U.S. series EE and I savings bond interest from Form 8815.

Nontaxable qualified state tuition program earnings or distributions.

Nontaxable earnings from Coverdell education savings accounts.

Any reimbursements received for these expenses that were not reported in box 1 of the taxpayer's W-2.

Other Adjustments to Income

Penalty on Early Withdrawal

A taxpayer must report the total interest received as interest income without subtracting the penalty. Deduct the penalty as an adjustment to income. The entire penalty is deducted even if it exceeds the interest income.

Deductible Part of Self-Employment Tax

One-half of self-employment tax is deducted as an adjustment to gross income.

Self-Employed Health Insurance Deduction

A self-employed person, a partner with net earnings from self-employment, or a shareholder receiving wages from an S corporation in which he or she owns more than a 2% of the outstanding stock can deduct all of the health insurance premiums paid for themselves and their family as a business expense. The deduction cannot exceed the person’s earned income.

Note: A taxpayer cannot take the deduction for any month in which he or she was eligible to participate in any subsidized health plan maintained by his or her employer or a spouse’s employer.

Certain Business Expenses of Reservists, Performing Artists, and Fee-Basis Government Officials

The following business expenses can be deducted from adjusted gross income on Form 2106. A taxpayer must first complete Form 2106 and deduct the following expenses on Schedule 1 (Form 1040 or 1040-SR):

Travel expenses for members of a reserve component of the Armed Forces of the United States who travel more than 100 miles from home to perform services as a National Guard or reserve member.

Performing arts related expenses as a qualified performing artist. To qualify as a performing artist, a taxpayer must meet all of the following requirements.

During the tax year, perform services in the performing arts as an employee for at least two employers.

Receive at least $200 each from any two of these employers.

The related performing-arts business expenses are more than 10% of the taxpayer's gross income from the performance of those services.

The taxpayer's adjusted gross income is not more than $16,000 before deducting these business expenses.

Business expenses of taxpayers who are employed by a state or local government and who are paid in whole or in part on a fee basis.

Disabled employee with impairment-related work expenses.

Chapter Five - Standard and Itemized Deductions

Standard and Itemized Deductions

After adjusted gross income has been calculated, eligible deductions must be subtracted to figure taxable income. Either the standard deduction or itemized deductions may be subtracted. A key responsibility of any return preparer is identifying valid deductions for his or her client. Chapter five describes the standard deduction and itemized deductions likely to appear on the Enrolled Agent Exam.

In This Chapter

Standard Deduction

Medical and Dental Expenses

Taxes

Interest Expense

Charitable Contributions

Nonbusiness Casualty and Theft Losses

Other Itemized Deductions

Qualified Business Income (QBI) Deduction

Standard Deduction

Filing status
Standard Deduction
65 or older*
Blind

Single

$12,950

$1,750

$1,750

Married Filing Jointly or Qualifying Surviving Spouse

$25,900

$1,400

$1,400

Married Filing Separate

$12,950

$1,400

$1,400

Head of Household

$19,400

$1,750

$1,750

* If a taxpayer turns 65 on January 1, 2023, the taxpayer is considered 65 at end of 2022

Standard Deduction for Dependents

The standard deduction for a person who can be claimed as a dependent on another person's tax return is limited to the greater of:

$1,150, or

The dependent's earned income for the year plus $400 (but not exceeding the regular standard deduction amount shown above for each filing status).

Note: A dependent taxpayer receives an addition standard deduction of $1,750 ($1,400 if married) for being is 65 or older or blind.

Higher Standard Deduction for Blindness

If the taxpayer is blind on the last day of the year and did not itemize deductions, the taxpayer is entitled to a higher standard deduction.

Not Totally Blind

If the taxpayer is not totally blind, the taxpayer must get a certified statement from an eye doctor (ophthalmologist or optometrist) that states:

The taxpayer cannot see better than 20/200 in the better eye with glasses or contact lenses, or

The taxpayer's field of vision is 20 degrees or less.

If the eye condition is not likely to improve beyond these limits, the statement should include this fact. The taxpayer must keep the statement in his or her records.

Decedent's Final Return

The standard deduction for a decedent's final tax return is the same as it would have been had the decedent continued to live.

Persons Not Eligible for the Standard Deduction

A taxpayer's standard deduction is zero and should itemize any deductions if:

The taxpayer's filing status is married filing separately, and his or her spouse itemizes deductions on his or her return,

The taxpayer is filing a tax return for a short tax year because of a change in annual accounting period, or

The taxpayer is a nonresident or dual-status alien during the year. A taxpayer is considered a dual-status alien if he or she was both a nonresident and resident alien during the year.

Medical and Dental Expenses

Deductible Medical Expenses

Deductible Medical Expenses

Bandages

Birth control pills prescribed by doctor

Body scan

Braille books

Doctor, dentist, and other medical practitioner fees

Expenses of an organ donor

Eye surgery—to promote the correct function of the eye

Fertility enhancement, certain procedures

Guide dogs or other animals aiding the blind, deaf, and disabled

Hospital services fees (lab work, therapy, nursing services, surgery, etc.)

Lead-based paint removal

Legal operation to prevent having children such as a vasectomy or tubal ligation

Legal abortion

Long-term care contracts, qualified

Part of life-care fee paid to retirement home designated for medical care

Meals and lodging provided by a hospital during medical treatment

Nursing services

Oxygen equipment and oxygen

Pregnancy test kit

Prescription medicines and insulin

Psychiatric and psychological treatment

Special items (artificial limbs, false teeth, eye-glasses, contact lenses, hearing aids, crutches, wheelchair, etc.)

Special education for mentally or physically disabled persons

Stop-smoking programs

Transportation for needed medical care

Treatment at a drug or alcohol center (includes meals and lodging provided by the center)

Wages for nursing services

Weight-loss, certain expenses for obesity

Nondeductible Medical Expenses

Nondeductible Medical Expenses

Baby sitting and childcare

Contributions to Archer MSAs

Diaper service

Flexible spending account reimbursements for medical expenses (if contributions were on a pre-tax basis)

Expenses for general health (even if following doctor’s advice) such as:

Health club dues

Household help

Social activities, such as dancing or swimming lesson

Trip for general health improvement

Funeral, burial, or cremation expenses

Health savings account payments for medical expenses

Teeth whitening

Illegal operation, treatment, or medicine

Maternity clothing

Nonprescription medicine

Nursing care for a healthy baby

Nutritional supplements, vitamins, herbal supplements, “natural medicines,” etc., unless recommended by a medical practitioner as a treatment for a specific medical condition diagnosed by a physician

Prescription drugs purchased in (or ordered shipped) from another country, in most cases

Surgery for purely cosmetic reasons

Toothpaste, toiletries, cosmetics, etc.

Weight loss program unless for obesity or other disease

Medical Insurance Premiums

Deductible Insurance Premiums

Hospital, surgical fees, and other medical and dental expenses.

Prescription drugs and insulin.

Replacement of lost or damaged contact lens.

Qualified long-term care insurance contracts.

Medicare B - supplemental medical insurance.

Medicare D - voluntary prescription drug insurance.

Nondeductible Insurance Premiums

Life insurance policies.

Policies providing payment for loss of earnings.

Policies for loss of life, limb, sight, etc.

Policies that pay a guaranteed amount each week for a stated number of weeks if hospitalized for sickness or injury.

The part of car insurance that provides medical insurance coverage for all persons injured.

Health or long-term care insurance if the premiums are paid with tax-free distributions from a retirement plan made directly to the insurance provider and these distributions would otherwise have been included in income.

When to Deduct Medical Expenses

Deduct medical expenses in the year paid regardless of when the services were provided.

Medical Deduction Limit

A taxpayer can deduct on Schedule A (Form 1040 or 1040-SR) only the amount of medical and dental expenses that is more than 7.5% of the taxpayer’s AGI.

Paying Others' Medical Expenses

Spouse. A taxpayer must have been married at the time expenses were incurred or when they were paid.

Dependents. A taxpayer can deduct medical expenses for a person (including a child before adoption) who can be claimed as a dependent at the time expenses were incurred or when they were paid. A taxpayer can also deduct medical expenses paid for a person who could be claimed as a dependent except that the person had gross income of $4,400 or more or had filed a joint return.

Deceased spouse or dependent. A taxpayer can deduct medical expenses in the year paid.

Child of divorced or separated parents. If both divorced or separated parents combine to provide more than half the child's support, either parent can deduct medical expenses paid for that child.

When to Deduct Decedent’s Medical Expenses

Medical expenses for a decedent that are paid from his or her estate are treated as paid at the time the medical services were provided if they are paid within the one-year period beginning with the day after the date of death.

Capital Expenses

Cost of special equipment installed in the home is deductible if it is for medical care for a taxpayer, spouse or dependent. Cost of the equipment must be reduced by the increase in property value.

Health Savings Account

Amounts contributed to a health savings account are not deducted as medical expenses. The amount is deducted as an adjustment to gross income on Schedule 1 (Form 1040 or 1040-SR).

Support Claimed Under a Multiple Support Agreement

A taxpayer can deduct medical expenses for a person if the taxpayer provides more than half of that person's support under a multiple support agreement.

Transportation Expense

Include in medical expense the cost of transportation primarily for, and essential to, medical care including bus, taxi, train, or plane fares. The taxpayer can include out-of-pocket car expenses used for medical reasons or can use the standard medical mileage rate of 18 cents per mile.

Lodging and Meals

Include in medical expenses the cost of meals and lodging at a hospital or similar institution if a principal reason for being there is to receive medical care. A taxpayer can include in medical expenses the cost of lodging not provided in a hospital if the lodging is for and essential to medical care. The amount for lodging cannot be more than $50 for each night for each person. Meals are not included.

Taxes

Test to Deduct any Tax

The following two tests must be met to deduct any tax:

The tax must be imposed on the taxpayer.

The taxpayer must pay the tax during the tax year.

Deductible Taxes

State and local income taxes or general sales tax (but not both).

Foreign income taxes.

Employee contribution to state disability fund or state unemployment fund.

State or local real estate taxes.

Tenant's share of real estate taxes paid by co-ops.

Taxes that are expenses of business or of producing income.

Taxes on property producing income.

Occupational taxes.

State or local personal property taxes that is:

Charged on personal property,

Based only on the value of the personal property, and

Charged on a yearly basis, even if collected more or less than once a year.

Limitation on deduction for state and local taxes

The deduction for state and local taxes is limited to $10,000 ($5,000 if married filing married separately). State and local taxes include state and local income tax or general sales taxes, real estate taxes, and personal property taxes.

Nondeductible Taxes

Federal income taxes.

Employee contribution to private or voluntary disability plans.

Federal excise taxes.

Foreign real estate taxes

Per capita taxes.

Social Security and other employment taxes for household workers.

Gift taxes.

Estate or inheritance taxes.

Fines and penalties.

Real Estate-Related Items:

Trash or pickup fees.

Homeowner's association fees.

Rent increase due to higher real estate taxes.

Taxes for local benefits (e.g. property improvements).

Transfer taxes.

State and Local Real Estate Taxes

Division of Real Estate Taxes Between Buyers and Sellers

Real estate taxes must be divided between the buyer and seller according to the number of days each owned the property in the property tax year. Neither buyer nor seller can deduct taxes paid before or after ownership.

The following steps are used to figure real estate taxes for each property bought or sold during the tax year:

Divide the number of days the property was owned during the real property tax year by 365.

Multiply the percentage calculated in Step 1 by the total real estate taxes for the real property tax year.

Delinquent Taxes

If the buyer agrees to pay delinquent taxes, the buyer cannot deduct them. The buyer must add them to the cost of the property. The seller can deduct these taxes paid by the buyer.

Taxes Placed in Escrow

If monthly mortgage payments include amounts put in escrow for real estate taxes, a taxpayer can only deduct the real estate tax that the third party actually paid to the taxing authority in the year it is paid.

Tenants by the Entirety

If a married couple held a property as tenants by the entirety and file separate federal returns, each spouse can deduct only the taxes each paid on the property.

Refund or Rebate

If a taxpayer received a refund or rebate of real estate taxes paid, the taxpayer must reduce the deduction by the amount refunded. If the taxpayer received a refund or rebate of real estate taxes deducted in an earlier year, include the refund or rebate in income in the year it is received.

Interest Expense

Deductible Interest

Home Mortgage Interest

Home mortgage interest is any interest paid on a loan secured by a main home or second home that the taxpayer has an ownership interest.

If all of the taxpayer’s mortgages fit into one or more of the following three categories at all times during the year, the taxpayer can deduct all of the interest on those mortgages. The three categories are the following:

Grandfathered debt. Mortgages taken out on or before October 13, 1987.

Home acquisition debt. Mortgages taken out after October 13, 1987 and prior to December 16,2017 to buy, build, or improve a home but only if throughout the year these mortgages plus any grandfathered debt totaled $1 million or less ($500,000 or less if married filing separately). Exception: A taxpayer who enters into a written binding contract before December 15, 2017, to close on the purchase of a principal residence before January 1, 2018, and who purchases such residence before April 1, 2018, is considered to have incurred the home acquisition debt prior to December 16, 2017.

Home acquisition debt. Mortgages taken out after December 15, 2017, to buy, build, or improve a taxpayer’s home but only if throughout the year these mortgages totaled $750,000 or less ($375,000 or less if married filing separately).

Note: The dollar limits for the second and third categories apply to the combined mortgages on the taxpayer’s main home and second home.

No deduction for Home Equity Loan Interest

No matter when the indebtedness was incurred, a taxpayer cannot deduct the interest from a loan secured by a home to the extent the loan proceeds were not used to buy, build, or substantially improve the home.

Qualified Home

To take a home mortgage interest deduction, the debt must be secured by a qualified home. This means a main home or second home. A home includes a house, condominium, cooperative, mobile home, house trailer, boat, or similar property that has sleeping, cooking, and toilet facilities.

Late Payment Charge on Mortgage Payment

Late payment charges are deductible as home mortgage interest.

Mortgage Prepayment Penalty

Mortgage prepayment penalty is deductible as home mortgage interest.

Reverse Mortgages

Interest on reverse mortgages is not deductible.

Refinanced Home Acquisition Debt

Any secured debt use to refinance a home acquisition debt is treated as home acquisition debt.

However, the new debt will qualify as home acquisition debt only up to the amount of the balance of the old mortgage principal just before the refinancing. Any additional debt not used to buy, build, or substantially improve a qualified home is not home acquisition debt.

Mortgage Insurance Premiums

The itemized deduction for mortgage insurance premiums has expired and cannot be deducted in 2022.

Business Interest

There is no limit on the amount of interest that can be deducted for business purposes.

Investment Interest

Investment interest deduction is limited to amount of net investment income.

Determine the amount of net investment income by subtracting investment expenses (other than interest expense) from investment income. Investment income includes property held for investment such as interest, dividends, annuities, and royalties.

Nondeductible Interest Expenses

Points charged for specific services:

Lender's appraisal fees.

Points charged for services of obtaining a VA or FHA loan.

Preparation cost of loan papers.

Settlement fees and notary fees.

Service charges.

Nonredeemable ground rent.

Interest on income tax paid to the IRS or to a state or local tax agency.

Annual fees on credit cards. Loan fees.

Credit investigation fees.

Mortgage insurance premiums.

Interest relating to tax-exempt income. Interest to purchase or carry tax-exempt securities.

Interest to purchase or carry certain straddle positions.

Personal interest:

Interest on car loan (nonbusiness use).

Interest on federal, state, or local income tax.

Finance charges on credit cards, consumer loans incurred for personal expenses.

Late payment charges by a utility.

Points

Points are prepaid interest and cannot be fully deducted when paid, but must be amortized over the life of the mortgage.

Exception: Points can be fully deducted in the year paid if all of the following tests are met:

The loan is secured by the taxpayer’s main home.

The payment of points is an established business practice in the area where the loan was made.

The points paid did not exceed the number of points charged in that area.

The taxpayer uses the cash method of accounting.

Points were not paid in place of amounts that are stated separately on the settlement statement, such as appraisal fees, inspection fees, title fees, attorney fees, and property taxes.

The funds provided at closing, plus any points the seller paid, were at least as much as the points charged. The funds cannot be borrowed from the lender or mortgage broker.

The loan was used to buy or build a main home.

The points were computed as a percentage of the principal amount of the mortgage.

The points are clearly shown on the settlement statement.

Points Paid by Seller

If a buyer meets the requirements, he or she may deduct points paid by the seller. The buyer must reduce the basis of the home by the amount of seller-paid points. The seller cannot deduct these points as interest but can deduct them as selling expenses that reduce the amount realized by the seller.

Second Home

Points paid on loans secured by a second home must be amortized over the life of the loan.

Refinancing

Generally, points paid to refinance a mortgage are not deductible in full in the year paid. This is true even if the new mortgage is secured by a main home. Points must be amortized over the life of the loan.

However, if part of the refinanced mortgage proceeds was used to improve the main home and the first 6 tests listed above are met, the taxpayer can fully deduct the part of the points related to the improvement in the year paid if they are paid with the taxpayer's own funds. The rest of the points must be deducted over the life of the loan.

Mortgage Ending Early

If points are deducted over the life of the mortgage, deduct any remaining balance in the year the mortgage ends.

Qualifying Organizations

The contribution (money or property) must be made to qualified organizations. Qualified Organizations (all 50% limit organizations) include the following:

Churches and religious organizations.

Most nonprofit charitable organizations such as Salvation Army, Red Cross, CARE, Goodwill Industries, United Way, etc.

Most nonprofit educational organizations such as Boy & Girl Scouts, Boys and Girls Club of America, colleges, and museums.

War veterans' organizations.

Nonprofit schools and hospitals.

Federal, state, and local governments (if the gifts are solely for public purposes).

Civil defense organizations.

Public parks and recreation facilities.

Nonprofit volunteer fire companies.

Certain Foreign Charitable Organizations

Under income tax treaties with Canada, Israel, and Mexico, a taxpayer may be able to deduct contributions to certain Canadian, Israeli, or Mexican charitable organizations. Generally, the taxpayer must have income from sources in that country.

Nonqualifying Organizations

Country clubs and other social clubs.

Cost of raffle, bingo, or lottery tickets.

Tuition.

Value of time or services.

Value of blood given to a blood bank.

Donations to homeowner's associations.

Political contributions.

Any contribution that is earmarked for the use of a specific individual.

Groups that are run for personal profit.

Contributions for lobbying.

Individuals.

Foreign organizations.

Organizations run for profit.

Civic leagues, social and sports clubs, labor unions.

Chamber of commerce and other business organizations.

Athletic events seating rights

Nondeductible Charitable Contributions

Value of Time or Services

A taxpayer cannot deduct the value of his or her time or services, including:

Blood donations to the Red Cross or to blood banks, and

The value of income lost while working as an unpaid volunteer for a qualified organization.

Personal Expenses

A taxpayer cannot deduct personal, living, or family expenses while performing services for a qualified organization unless it is necessary for the taxpayer to be away from home overnight while performing the services.

Appraisal Fees

A taxpayer cannot deduct as a charitable contribution any fees paid to find the fair market value of donated property.

Athletic Events

No deduction is allowed, if a taxpayer makes any payment to, or for the benefit of, a college or university in exchange for tickets (or the right to buy tickets) to an athletic event in an athletic stadium of the college or university.

Expenses Paid for Student Living with a Taxpayer

A taxpayer can deduct qualifying expenses (up to $50 a month) for a foreign or American student who:

Lives in the taxpayer’s home under a written agreement between the taxpayer and a qualified organization as part of a program of the organization to provide educational opportunities for the student,

Is not the taxpayer’s relative or dependent, and

Is a full-time student in the twelfth or any lower grade at a school in the U.S.

Note: Any month when conditions 1 through 3 are met for 15 days or more counts as a month.

Out-Of-Pocket-Expenses

Some expenses incurred while providing services to a qualified organization are deductible if they are:

Unreimbursed,

Directly connected with the service,

Solely attributable to the service, and

Not personal, living, or family expenses.

Car Expenses

Deduct actual car expenses or the standard rate of 14 cents a mile.

Travel Expenses

Deduct travel expenses only if there was no significant element of personal pleasure, recreation, or vacation in such travel.

Foster Parents

Foster parents may be able to deduct as a charitable contribution some of the costs of being a foster parent (foster care provider) if they have no profit motive in providing the foster care and are not, in fact, making a profit. A qualified organization must select the individuals the foster parents take into their home for foster care.

Benefits Received From Contribution

If a benefit is received from a contribution, deduct only the amount that is more than the fair market value of the benefit received.

Membership Fees or Dues

A taxpayer may be able to deduct membership fees or dues paid to a qualified organization. Deduct only the amount that is more than the value of the benefits received.

Costs of Raffles, Bingo, Lottery, Etc.

A taxpayer cannot deduct as a charitable contribution amounts paid to buy raffle or lottery tickets or to play bingo or other games of chance.

Contributions of Property

The amount of a charitable contribution of property is its fair market value (FMV).

If the FMV is greater than its adjusted basis on ordinary income property (held 1 year or less) the amount of deduction is the FMV less any short-term gain that would have been recognized if sold. If the property was a capital gain property (held more than 1 year) the amount of the deduction is generally the FMV of the property. A deduction of more than $5,000 for one property requires a written appraisal be obtained and attached to the return.

Clothing and Household Items

A taxpayer cannot take a deduction for clothing or household items donated unless the clothing or household items are in good used condition or better.

Exception: A taxpayer can take a deduction for a contribution of an item of clothing or household item that is not in good used condition or better if the taxpayer deducted more than $500 for it and included a qualified appraisal of it with the return.

Deduction more than $500

If a taxpayer donates a qualified vehicle with a claimed fair market value of more than $500, the taxpayer can deduct the smaller of:

The gross proceeds from the sale of the vehicle by the organization, or

The vehicle's fair market value on the date of the contribution. If the vehicle's fair market value was more than the cost or other basis, the taxpayer may have to reduce the fair market value to figure the deductible amount.

Form 1098-C

To take the deduction, the taxpayer must attach to his or her return Copy B of the Form 1098-C, Contributions of Motor Vehicles, Boats, and Airplanes, (or other statement containing the same information as Form 1098-C) received from the organization. The Form 1098-C (or other statement) will show the gross proceeds from the sale of the vehicle.

If e-filing the return, the taxpayer must:

Attach Copy B of Form 1098-C to Form 8453 and mail the forms to the IRS, or

Include Copy B of Form 1098-C as a PDF attachment if a software program allows it.

Exception: There are two exceptions to the rules just described for deductions of more than $500.

The vehicle is used or improved by organization. If the qualified organization makes a significant intervening use of or material improvement to the vehicle before transferring it, the taxpayer generally can deduct the vehicle's fair market value at the time of the contribution.

The vehicle is given or sold to needy individual. If the qualified organization will give the vehicle, or sell it for a price well below fair market value, to a needy individual to further the organization's charitable purpose, the taxpayer generally can deduct the vehicle's fair market value at the time of the contribution.

Form 8283

If the amount deducted for all noncash gifts is more than $500, attached Form 8283, Noncash Charitable Contributions, to the return.

Limits on Deductions

The amount of the charitable contribution cannot be more than 60% of the taxpayer's AGI. Contributions can be further limited to 20%, 30%, or 50% of AGI, depending on the type of property donated and the type of organization. The 60% limitation does not apply to noncash contributions. Noncash contributions are limited to 50% of AGI.

50% Limit: Contributions (other than capital gain property) to 50% limit organizations.

30% Limit:

Contributions for the use of any qualified organization.

Contributions to all qualifying organizations other than 50% limit organizations.

Contributions of capital gain property to 50% limit organizations.

20% limit: Contributions of capital gain property to all qualified organizations other than 50% limit organizations.

Carryovers

Contributions that cannot be deducted in the tax year because of the AGI limitations can be deducted in each of the next 5 years until used up, but not beyond that time.

Recordkeeping Requirements for Cash Contributions

A taxpayer cannot deduct a cash contribution, regardless of the amount, unless the taxpayer keeps one of the following:

A bank record that shows the name of the qualified organization, the date of the contribution, and the amount of the contribution. Bank records may include canceled checks, bank statements, or credit card statements.

A receipt (or a letter or other written communication) from the qualified organization showing the name of the organization, the date of the contribution, and the amount of the contribution.

Payroll deduction records that shows, name of the qualified organization, date and amount of the contribution.

Written Acknowledgment Required

A taxpayer cannot deduct a contribution of $250 or more unless the taxpayer has a written acknowledgment of the contribution from the qualified organization.

In figuring whether a contribution is $250 or more, do not combine separate contributions to the same charitable organization. Each payment is a separate contribution. A written acknowledgment for a contribution of $250 or more must be received before the due date of the return (including extensions) and must include:

The amount of cash contribution,

Whether the qualified organization gave the donor any goods or services (other than certain token items and membership benefits), and

A description and good faith estimate of the value of any goods or services provided to the donor.

Recordkeeping Requirements for Noncash Contributions

For a contribution not made in cash, the records that must keep depend on whether the deduction for the contribution is:

Less than $250,

At least $250 but not more than $500,

Over $500 but not more than $5,000, or

Over $5,000.

Amount of Deduction

In figuring whether the deduction is $500 or more, combine claimed deductions for all similar items of property donated to any charitable organization during the year.

Deductions of Less Than $250

A taxpayer must get and keep a receipt from the charitable organization showing:

The name of the charitable organization,

The date and location of the charitable contribution, and

A reasonably detailed description of the property.

Deductions of At Least $250 but Not More Than $500

A taxpayer must get and keep an acknowledgment of the contribution from the qualified organization.

If a taxpayer made more than one contribution of $250 or more, the taxpayer must have either a separate acknowledgment for each or one acknowledgment that shows the total contributions. The acknowledgment must contain the information in items (1) through (3) under Deductions of Less Than $250 above.

Deductions Over $500 but Not Over $5,000

If claiming a deduction over $500 but not over $5,000 for a noncash charitable contribution, the taxpayer must have the acknowledgment and written records described under Deductions of At Least $250 But Not More Than $500. The taxpayer's records must also include:

How the taxpayer got the property, for example, by purchase, gift, bequest, inheritance, or exchange,

The approximate date the property was received or, if created, produced, or manufactured by or for the taxpayer, the approximate date the property was substantially completed, and

The cost or other basis, and any adjustments to the basis, of property held less than 12 months and, if available, the cost or other basis of property held 12 months or more. This requirement, however, does not apply to publicly traded securities.

Deductions Over $5,000

If claiming a deduction of over $5,000 for a noncash charitable contribution of one item or a group of similar items, the taxpayer must have the acknowledgment and the written records described under Deductions Over $500 But Not Over $5,000. Generally, the taxpayer must also obtain a qualified written appraisal of the donated property from a qualified appraiser.

Casualty and Theft Losses - Nonbusiness

Casualty

A casualty is the damage, destruction, or loss of property resulting from an identifiable event that is sudden, unexpected, or unusual.

A sudden event is one that is swift, not gradual or progressive.

An unexpected event is one that is ordinarily unanticipated and unintended.

An unusual event is one that isn't a day-to-day occurrence and that isn't typical.

Limitation on Personal Casualty and Theft Losses

Personal casualty and theft losses of an individual sustained in a tax year beginning after 2017 are deductible only to the extent they’re attributable to a federally declared disaster. The loss deduction is subject to the $100 limit per casualty and 10% of the taxpayer’s adjusted gross income (AGI) limitation.

Exception: An exception to the rule limiting the deduction for personal casualty and theft losses to federal casualty losses applies where the taxpayer has a personal casualty gains. In this case, the taxpayer can deduct personal casualty losses that are not attributable to a federally declared disaster to the extent they do not exceed personal casualty gains.

Types of Casualty Losses

There are three types of casualty losses.

Federal casualty loss. A federal casualty loss is an individual’s casualty or theft loss of personal-use property that is attributable to a federally declared disaster.

Disaster loss. A disaster loss is a loss that is attributable to a federally declared disaster and that occurs in a an area eligible for assistance pursuant to the Presidential declaration.

Qualified disaster loss. A qualified disaster loss is an individual’s casualty or theft loss of personal-use property that is attributable to a major disaster declared by the President under section 401 of the Stafford Act in 2016, as well as from Hurricane Harvey, Tropical Storm Harvey, Hurricanes Irma and Maria, or the California wildfires.

Proof of Loss

Casualty loss proof. For a casualty loss, the taxpayer's records should show all the following:

The type of casualty (car accident, fire, storm, etc.) and when it occurred.

That the loss was a direct result of the casualty.

The taxpayer was the owner of the property or, if the taxpayer leased the property from someone else, the taxpayer was contractually liable to the owner for the damage.

Whether a claim for reimbursement exists for which there is a reasonable expectation of recovery.

Theft loss proof. For a theft loss, records should show all the following:

When the taxpayer discovered the property was missing.

Proof that the property was stolen.

Proof of ownership of property.

Whether a claim for reimbursement exists for which there is a reasonable expectation of recovery.

Loss on Deposits

A taxpayer can choose one of the following ways to deduct the loss.

As a nonbusiness bad debt deducted as a short-term capital loss on Form 8949 and Schedule D.

As a casualty loss (but only to the extent the loss does not exceed personal casualty gain).

Limits on Casualty & Theft Losses

Casualty and theft losses must be reduced by the following:

$100 ($500 for qualified disaster) for each casualty or theft loss, and

10% of AGI for the total of all casualty or theft losses.

Figuring the Amount of Loss

The smaller of:

The decrease in fair market value after the casualty/theft (FMV before minus FMV after casualty/theft), or

Adjusted basis in the property before the casualty or theft,

Subtract any insurance or other reimbursement received or expected to be received.

Reduce each casualty/theft loss by $100.

Reduce total casualty/theft losses by 10% of AGI.

Insurance and Other Reimbursements

Insurance and other reimbursements must be subtracted when figuring the loss.

If the taxpayer expects to be reimbursed for part or all of the loss, the taxpayer must subtract the expected reimbursement when figuring the loss. The loss must be reduced even if the reimbursements are not expected until a later tax year.

Failure to File a Claim for Reimbursement

If the property is covered by insurance, the taxpayer must file a timely insurance claim for reimbursement of the loss. Otherwise, the taxpayer cannot deduct this loss as a casualty or theft loss. However, this rule does not apply to the portion of the loss not covered by insurance (for example, a deductible).

Types of Reimbursements

The most common type of reimbursement is an insurance payment for stolen or damaged property. Other types of reimbursements are as follows.

Insurance payments for living expenses. Do not reduce casualty loss by insurance payments received to cover living expenses in either of the following situations.

Losing the use of a main home because of a casualty.

Government authorities don't allow the taxpayer access to his or her main home because of a casualty or threat of one.

Inclusion in income. If these insurance payments are more than the temporary increase in living expenses, include the excess in income. Report this amount as other income on Schedule 1 (Form 1040 or 1040-SR). However, if the casualty occurs in a federally declared disaster area, none of the insurance payments are taxable.

Disaster relief. Food, medical supplies, and other forms of assistance received do not reduce casualty loss, unless they are replacements for lost or destroyed property.

Gain from Reimbursement

If the reimbursement is more than the taxpayer's adjusted basis in the destroyed or stolen property, the taxpayer has a gain from the casualty or theft. The gain is included in income in the year the reimbursement is received, unless the taxpayer chooses to postpone reporting the gain

Postpone Reporting Gain

A taxpayer must buy a replacement property within the replacement period. The replacement period begins on the date of casualty/theft and ends 2 years after the tax year in which gain is realized. The replacement property must be related in service or use to the property on which the gain is to be postponed.

Deducted Loss Recovered

If any loss deducted in previous years is recovered, include the recovered amount in income.

When to Deduct a Loss

Deduct the part of a casualty or theft loss that is not reimbursable in the tax year the casualty occurred or the theft was discovered.

Disaster Area Loss

Generally a casualty loss must deduct in the disaster year. However, if a casualty loss is from a federally declared disaster that occurred in an area warranting public or individual assistance (or both), the taxpayer can elect to deduct that loss on the return or amended return for the tax year immediately preceding the disaster year.

Property Used Partly for Business and Partly for Personal Purposes

When property is used partly for personal purposes and partly for business or income-producing purposes, the casualty or theft loss deduction must be figured separately because the losses attributed to these two uses are figured in two different ways.

When figuring each loss, allocate the total cost or basis, the FMV before and after the casualty or theft loss, and the insurance or other reimbursement between the business and personal use of the property. The $100 rule and the 10% rule apply only to the casualty or theft loss on the personal-use portion of the property.

How to Report Gains and Losses

Use Form 4684, Casualty and Thefts, to report a gain or loss from a casualty or theft. Report a gain on Schedule D (Form 1040 or 1040-SR). Report a loss on Schedule A (Form 1040 or 1040-SR).

Other Itemized Deductions

No deduction for Miscellaneous Itemized Deductions Subject to 2% AGI.

Unless the taxpayer falls into one of the qualified categories of employment under unreimbursed employee expenses, miscellaneous itemized deductions that are subject to the 2% of adjusted gross income limitation can no longer be claimed.

Unreimbursed Employee Expenses

Unreimbursed employee expenses are no longer deductible unless they fall into one of the following categories of employment.

Armed Forces reservists. Members of a reserve component of the Armed Forces of the U.S. (Army, Navy, Marine Corps, Air Force, Coast Guard Reserve, Army National Guard or the Reserve Corps of the Public Health Service).

Qualified performing artists. Must met the following qualifications:

Performed services in the performing arts as an employee for at least two employers during the tax year,

Received from at least two of the employers' wages of $200 or more per employer,

Had allowable business expenses attributable to the performing arts of more than 10% of gross income from the performing arts, and

Had AGI of $16,000 or less before deducting expenses as a performing artist.

Fee-basis state or local government officials. An individual employed by a state or political subdivision of a state and are compensated, in whole or in part, on a fee basis.

Employees with impairment-related work expenses. An individual with physical or mental disabilities for attendant care at his or her place of employment.

Nondeductible Itemized Deduction

Appraisal Fees.

Education that is work related.

Legal fees related to job.

Personal legal expenses.

Voluntary unemployment benefit fund contributions.

Licenses and regulatory fees.

Malpractice insurance premiums.

Occupational taxes.

Passport for a business trip.

Tax preparation fees.

Legal expenses related to producing or collecting income.

Excess Deductions of an Estate.

Investment Fees and Expenses.

Hobby Expenses.

Adoption expenses (can take a credit).

Depreciation on computers even if:

For the convenience of employer, and

Required as a condition of employment.

Safe Deposit Box Rent.

Trustee's Administrative Fees for IRA

Job search expenses.

Union dues and expenses.

Club Dues.

Commuting Expenses.

Home office for an employee.

Clerical Help and Office Rent

Fines and Penalties.

Investment-Related Seminars.

Professional Accreditation Fees.

Lobbying Expenses.

Personal disability insurance premiums.

Burial or funeral expenses.

Deductible itemize deductions:

Amortizable premium on taxable bonds.

Casualty and theft losses from income-producing property.

Excess deductions of an estate or trust.

Federal estate tax on income in respect to a decedent.

Gambling losses up to the amount of gambling winnings.

Impairment-related work expenses of persons with disabilities.

Losses from Ponzi-type investment schemes.

Repayments of more than $3,000 under a claim of right.

Unlawful discrimination claims.

Unrecovered investment in an annuity.

Gambling Losses up to the Amount of Gambling Winnings

A taxpayer cannot reduce gambling winnings by gambling losses and report the difference.

A taxpayer must report the full amount of gambling winnings for the year as other income on Schedule 1 (Form 1040 or 1040-SR). The taxpayer can deduct gambling losses for the year as an itemized deduction on Schedule A (Form 1040 or 1040-SR). The taxpayer cannot deduct gambling losses that are more than winnings.

Diary of Winnings and Losses

A taxpayer must keep an accurate diary or similar record of losses and winnings. The diary should contain at least the following information:

The date and type of specific wager or wagering activity.

The name and address or location of the gambling establishment.

The names of other persons present with the taxpayer at the gambling establishment.

The amount(s) won or lost.

Proof of Winnings and Losses

In addition to a diary, a taxpayer should also have other documentation to prove winnings and losses through Form W-2G, Certain Gambling Winnings, Form 5754, Statement by Person(s) Receiving Gambling Winnings, wagering tickets, canceled checks, substitute checks, credit records, bank withdrawals, and statements of actual winnings or payment slips provided by the gambling establishment.

Qualified Business Income (QBI) Deduction

Owners of sole proprietorships, partnerships, S corporations and some trusts and estates may be eligible for a qualified business income (QBI) deduction (Section 199A) for tax years beginning after December 31, 2017. The QBI deduction has two components:

QBI Component. This component of the deduction equals 20% of QBI from a domestic business operated as a sole proprietorship or through a partnership, S corporation, trust or estate. The QBI Component is subject to limitations, depending on the taxpayer’s taxable income, that may include the type of trade or business, the amount of W-2 wages paid by the qualified trade or business and the unadjusted basis immediately after acquisition (UBIA) of qualified property held by the trade or business.

REIT/PTP Component. This component of the deduction equals 20% of qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership (PTP) income. This component is not limited by W-2 wages or the UBIA of qualified property. Depending on the taxpayer’s taxable income, the amount of PTP income that qualifies may be limited depending on the PTP’s trade or business.

Qualified Business Income (QBI)

QBI is the net amount of qualified items of income, gain, deduction and loss from any qualified trade or business, including income from partnerships, S corporations, sole proprietorships, and certain trusts.

Generally this includes, but is not limited to, the deductible part of self-employment tax, self-employed health insurance, and deductions for contributions to qualified retirement plans (e.g. SEP, SIMPLE and qualified plan deductions).

QBI does not include the following items:

Items that are not properly includable in taxable income

Investment items such as capital gains or losses or dividends

Interest income not properly allocable to a trade or business

Wage income

Income that is not effectively connected with the conduct of business within the U.S.

Commodities transactions or foreign currency gains or losses

Certain dividends and payments in lieu of dividends

Income, loss, or deductions from notional principal contracts

Annuities, unless received in connection with the trade or business

Amounts received as reasonable compensation from an S corporation

Amounts received as guaranteed payments from a partnership

Payments received by a partner for services other than in a capacity as a partner

Items treated as capital gains or losses

Qualified REIT dividends (deducted under the REIT/PTP component)

Qualified PTP income (deducted under the REIT/PTP component)

Deduction Limits

The deduction is limited to the lesser of the QBI component plus the REIT/PTP component or 20 percent of the taxable income minus net capital gain.

For the QBI component, if the trade or business is a specified trade or business (SSTB), the T/P can claim the credit only if his or her taxable income is less than or equal to $170,050 ($340,100 if married filing jointly). For business owners with taxable income in excess of $220,050 ($440,100 if married filing jointly), no deduction is allowed against income earned in a SSTB.

Specified Trade or Business (SSTB)

An SSTB is defined as any trade or business that performs services in the fields of:

Health

Law

Accounting

Actuarial science

Performing arts

Consulting

Athletics

Financial services

Brokerage services (including investment management and investing, trading, or dealing in securities, commodities, or partnership interests)

Any trade or business where the principal asset is the reputation or skill of one or more of its employees, as demonstrated by:

Receiving fees, compensation, or other income for endorsing products or services,

Licensing or receiving fees, com-pensation or other income for the use of an individual’s image, likeness, name, signature, voice, trademark, or any other symbols associated with the individual’s identity, or

Receiving fees, compensation, or other income for appearing at an event or on radio, television, or another media format.

Form 8995

Individuals and eligible estates and trusts that have QBI use Form 8995 to figure the QBI deduction.

Chapter Six - Credits

Credits

Chapter six explains various tax credits. There are two types of tax credits: Nonrefundable tax credits and refundable tax credits. Nonrefundable tax credits are subtracted directly from taxes owed and reduces tax liability, dollar for dollar. However, if the total of these credits is more than the taxes owed (federal income tax plus any alternative minimum tax), the excess is not refunded to the taxpayer. Refundable tax credits are treated as payments of tax. If the total of these credits plus withheld federal income tax and estimated tax payments are more than the total tax owed, the excess can be refunded to the taxpayer. Some tax credits can be part refundable and part nonrefundable. This chapter covers the qualifications for each tax credit that a return preparer should know to pass the Enrolled Agent Exam.

In This Chapter

Earned Income Credit

Child and Dependent Care Credit

Child Tax Credit

Education Credits

Credit for the Elderly or the Disabled

Premium Tax Credit

Foreign Tax Credit

Adoption Credit

Retirement Savings Contribution Credit

Residential Energy Credit

Credit for Prior Year Minimum Tax

Earned Income Credit (EIC)

Qualifications for the Credit

Rules for Everyone

All taxpayers must meet the following six rules to quality for the earned income credit:

The taxpayer's adjusted gross income (AGI) must be less than:

$16,480 ($22,610 if married filing jointly) if taxpayer does not have a qualifying child.

$43,492 ($49,622 if married filing jointly) if taxpayer has one qualifying child.

$49,399 ($55,529 if married filing jointly) if taxpayer has two qualifying children.

$53,057 ($59,187 if married filing jointly) if taxpayer has three or more qualifying children.

Have a valid social security number by the due date of the return (including extensions).

Must meet certain requirements if separated from spouse and not filing a joint return.

Must be a U.S. citizen or resident alien for the entire year.

Cannot claim the earned income credit if filing Form 2555, Foreign Earned Income.

Investment income must be $10,300 or less.

Must have earned income.

Rules if a Taxpayer Has a Qualifying Child

Additional rules if the taxpayer has a qualifying child:

Child must meet the relationship, age, residency, and joint return test.

Qualifying child cannot be used by more than one person to claim the EIC.

Taxpayer cannot be a qualifying child of another person.

Rules if a Taxpayer Has No Qualifying Child

Additional rules for taxpayers with no qualifying child:

Must be at least age 25 but under age 65 at the end of the year (if MFJ only one spouse must meet age rule).

Taxpayer cannot be the dependent of another person.

Taxpayer cannot be a qualifying child of another person.

Must have lived in the U.S. for more than half of the year (does not include Puerto Rico or U.S. possessions such as Guam).

Investment Income

Investment income is the total of the following amounts:

Taxable interest

Tax-exempt interest

Dividend income

Capital gain net income

Net royalty income

Net rental income of personal property

Net income from passive activities

What is Earned Income?

The following are earned income:

Wages, salaries, and tips.

Net earnings from self-employment.

Gross income received as a statutory employee.

Strike benefits paid by a union that are taxable.

Nontaxable combat pay if the taxpayer elects to include in earned income.

Long-term disability benefits. Disability benefits received from an employer's disability retirement plan are considered earned income until the taxpayer reaches minimum retirement age.

Income that is Not Earned Income

The following are not earned income:

Interest and dividends.

Pension and annuities.

Social security and railroad retirement benefits.

Alimony and child support.

Workfare benefits.

Worker’s compensation and unemployment compensation.

Employee compensation that is nontaxable and earnings while an inmate.

Nontaxable military pay.

What is a Qualifying Child?

A qualifying child must meet the following four tests:

Relationship test.

Residency test.

Age test.

Joint Return test.

Relationship Test

Child must be taxpayer's:

Child, adopted child, stepchild, eligible foster child, or a descendant of any of them (for example, granddaughter), or

Sibling, half sibling, step sibling, or a descendant of any of them (for example, niece or nephew).

Residency Test

Child must live with the taxpayer for more than half the year and the home must be in the U.S. not including Puerto Rico or U.S. possessions such as Guam. Exception: Military personnel stationed outside the U.S.

Age Test

Qualifying child must be one of the following:

Under age 19 at the end of year and younger than the taxpayer (or spouse, if filing jointly).

Under age 24 at the end of year, a full-time student, and younger than the taxpayer (or spouse, if filing jointly).

Permanently or totally disabled at any time during the year, regardless of age.

Joint Return Test

The qualifying child cannot file a joint return for the year. Exception: A joint return is filed only as a claim for refund.

Note: The taxpayer must provide a correct and valid social security number for each qualifying child by the due date of the return (including extensions).

Figuring and Claiming the Earned Income Credit

Receiving the Credit

To get the credit, a taxpayer must file a tax return even if he or she did not owe any tax or did not earn enough money to file a return.

EIC Questioned by IRS

The IRS may ask the taxpayer to provide documents to prove the taxpayer is entitled to claim the EIC. These may include birth certificates, school records, medical records, etc.

If Improper Claim Made in Prior Year

If a taxpayer’s EIC for any year after 1996 was denied or reduced for any reason other than a math or clerical error, the taxpayer must attach a completed Form 8862 to his or her next tax return to claim the EIC.

If the taxpayer’s EIC for any year after 1996 was denied and it was determined that the error was due to reckless or intentional disregard of the EIC rules, then the taxpayer cannot claim the EIC for the next 2 years. If error was due to fraud, then the taxpayer cannot claim the EIC for the next 10 years.

Schedule EIC

Complete and attach to Form 1040 or 1040-SR if the taxpayer has a qualifying child.

Due Diligence Requirements

Preparers who prepare tax returns claiming the Earned Income Tax Credit (EITC), the child tax credit (CTC), the additional child tax credit (ACTC), the credit for other dependents (ODC), the American opportunity tax credit (AOTC), and head of household (HOH) filing status must meet four due diligence requirements.

Compute the Credits Based on the Facts. Compute the credits and complete the applicable worksheet(s) or a preparer’s own worksheet(s) for any EITC, CTC/ACTC/ ODC or AOTC claimed on the return or claim for refund. Most professional tax return preparation software includes the worksheets.

Complete and Submit Form 8867. Complete Form 8867, Paid Preparer’s Due Diligence Checklist, and submit this completed form to the IRS with every electronic or paper return or claim for refund prepared that claims the EITC, CTC/ACTC/ODC, AOTC, or HOH filing status.

Make sure that the software used includes Form 8867 and file the completed form with every electronic return or provide the completed form with every paper return or claim for refund prepared that claims the EITC, CTC/ACTC/ODC, AOTC, or HOH filing status.

Answer each question on the form based on information from the client and information the preparer knows is true.

The preparer must also personally complete Part VI, Eligibility Certification.

Keep records. Keep copies of the following records either electronically or on paper:

Form 8867.

The applicable worksheet(s) or the preparer’s own worksheet(s) for the EITC, CTC/ACTC/ODC, or AOTC claimed on the return or claim for refund.

Any taxpayer documents that the preparer may have relied on to determine eligibility for the credit(s) and/or HOH filing status or to compute the amount of the credit(s).

A record of how, when, and from whom the information used to prepare Form 8867 and the applicable worksheet(s) was obtained.

Keep these documents for 3 years from the latest of:

The due date of the tax return.

The date the tax return was electronically filed.

For a paper return, the date the return or claim for refund was presented to the client for signature.

If the preparer is a non-signing tax return preparer, the date the non-signing preparer submitted to the signing tax return preparer the part of the return for which the non-signing preparer was responsible.

Ask all the right questions. The preparer, in interviewing the taxpayer, should ask adequate questions and document the taxpayer’s responses to determine eligibility to claim the credit(s) and/or HOH filing status.

Example of Documents

The following are examples of documents that a preparer may rely on to determine a taxpayer's eligibility for the credit(s) or the amount of the credit.

Residency of a Qualifying Child

School records or statement

Landlord or a property management statement

Health care provider statement

Medical records

Child care provider records

Placement agency statement

Social service records or statement

Place of worship statement

Indian tribal official statement

Employer statement

Disability of Qualifying Child

Doctor statement

Other health care provider statement

Social services agency or program statement

Schedule C

Business license

Forms 1099

Records of gross receipts provided by taxpayer

Taxpayer summary of income

Records of expenses provided by taxpayer

Taxpayer summary of expenses

Bank statements reconstruction

Penalty

Failure to meet the due diligence requirements for claiming the EIC, the CTC/ACTC/ODC, the AOTC, and/or HOH filing status could result in a $545 penalty for each failure.

For example, if a paid preparer prepared a return claiming the EIC, the CTC/ACTC/ODC, the AOTC, and/or HOH filing status, and failed to meet the due diligence requirements for all of these credits, the preparer could be subject to a penalty of for each failure.

Child and Dependent Care Credit

Tests to Claim the Credit

To claim the credit for child and dependent care expenses, a taxpayer must file Form 1040 or 1040-SR and meet all of the following tests:

Qualifying person test. The care must be for one or more qualifying persons.

Earned income test. Must have earned income during the year.

Work-related expense test. Must pay child and dependent care expenses in order to work or look for work.

Cannot make payments for child and dependent care to a spouse or someone who can be claimed as a dependent. If payment is to the taxpayer's child, the child cannot be a dependent and must be age 19 or older by the end of the year.

Can be any filing status except married filing separate. Must file a joint return if married.

Provider identification test. Must identify the care provider on the tax return.

If excluding dependent care assistance benefits provided by employer (up to $5,000), the exclusion must be less than the dollar limit for qualifying expenses ($3,000 if one qualifying person, $6,000 if two or more qualifying persons).

Qualifying Person Test

A qualified person is:

A qualifying child who is the taxpayer’s dependent under age 13 when the care was provided,

A spouse who was not physically or mentally able to care for himself or herself and lived with the taxpayer for more than half the year, or

A person who was not physically or mentally able to care for himself or herself, lived with the taxpayer for more than half the year, and either:

Was a dependent, or

Would have been a dependent except that:

the dependent received gross income of $4,400 or more,

the dependent had filed a joint return, or

the taxpayer (or taxpayer's spouse if filing jointly) could be claimed as a dependent on someone else’s return.

Earned Income Test

Earned income includes wages, salaries, tips, other taxable employee compensation, and net earnings from self-employment. A net loss from self-employment reduces earned income. Earned income also includes strike benefits and any disability pay reported as wages. Generally, only taxable compensation is included. However, a taxpayer can elect to include nontaxable combat pay in earned income.

Work-Related Expenses Test

Child and dependent care expenses must be work-related. Expenses are work-related if they:

Allow the taxpayer to work or look for work, and

Are for a qualifying person's care.

Volunteer work. A taxpayer is not considered to be working if doing unpaid volunteer work or volunteer work for a nominal salary.

Work for part of year. If a taxpayer works or actively looking for work during only part of the period covered by the expenses, then figure expenses for each day. For example, if a taxpayer works or looking for work for only 2 months and 15 days during the year and pays expenses of $250 a month, his or her work-related expenses are limited to $625 (2½ months × $250).

Examples of Expenses for Care of a Qualified Person

Household services. Expenses paid for household services qualify if they are at least partly responsible for the well-being and protection of a qualifying person. They include services for a housekeeper, maid, or cook. However, they do not include the services of a chauffeur, bartender, or gardener.

Dependent care centers. Count care provided outside the home by a dependent care center only if the center complies with all state and local regulations that apply to these centers.

Education. Expenses for a child in nursery school, preschool, or similar programs for children below the level of kindergarten are expenses for care. Expenses to attend kindergarten or a higher grade are not expenses for care. However, expenses for before- or after-school care of a child in kindergarten or a higher grade may be expenses for care. Summer school and tutoring programs aren’t for care.

Care outside the home. Count the cost of care provided outside the taxpayer's home if the care is for a qualifying person who regularly spends at least 8 hours each day in the taxpayer's home.

Dependent care center. A dependent care center only qualifies if the center complies with all state and local regulations that apply to these centers.

Camp. The cost of sending a qualified child to an overnight camp is not considered a work-related expense. The cost of sending the child to a day camp may be a work-related expense, even if the camp specializes in a particular activity, such as computers or soccer.

Transportation. Count transportation costs if provided by care provider. Transportation costs incurred by the taxpayer of getting a qualified person from home to the care location and back are not considered work-related expenses.

Expenses Not for Care

Expenses for care don’t include amounts paid for food, lodging, clothing, education, and entertainment. However, include small amounts paid for these items if they are incidental to and can’t be separated from the cost of caring for the qualifying person.

Expenses Prepaid in an Earlier Year

Count expenses paid for services before they are provided only in the year the care is received. Claim the expenses for the later year as if they were actually paid in that later year.

Expenses Not Paid Until the Following Year

Don’t count 2021 expenses paid in 2022 as work-related expenses for 2022. A taxpayer may be able to claim an additional credit for them on in 2022, but they must be figured separately.

Payments to Relatives or Dependents

A taxpayer can count work-related payments made to relatives who are not dependents, even if they live in the taxpayer's home. However, do not count any amounts paid to:

A dependent for whom the taxpayer (or a spouse if filing jointly) can claim an on his or her tax return,

The taxpayer's child who was under age 19 at the end of the year, even if he or she isn’t the taxpayer's dependent,

A person who was the taxpayer's spouse any time during the year, or

The parent of the taxpayer's qualifying person if the qualifying person is the taxpayer's child and under age 13.

Provider Identification Test

To identify the care provider, the taxpayer must give the provider's:

Name.

Address.

Taxpayer identification number.

Due Diligence

If the care provider information the taxpayer gives is incorrect or incomplete, the credit may not be allowed. However, if the taxpayer can show that he or she used due diligence in trying to supply the information, the taxpayer can still claim the credit.

Provider Refusal

If the provider refuses to give their identifying information, the taxpayer should report whatever information he or she has (such as the name and address) on the form use to claim the credit. Enter “See Attached Statement” in the columns calling for the information the taxpayer does not have. Then attach a statement explaining that the taxpayer requested the information from the care provider, but the provider did not give the information

Dependent Care Benefits

Exclusion or Deduction

If a taxpayer’s employer provides dependent care benefits under a qualified plan, the taxpayer may be able to exclude these benefits from income.

To claim the exclusion, the taxpayer must complete Part III of Form 2441 (Form 1040 or 1040-SR). If the taxpayer is self-employed and receives benefits from a qualified dependent care benefit plan, the taxpayer is treated as both employer and employee. Therefore, the taxpayer would not get an exclusion from wages. Instead, the taxpayer would get a deduction on Form 1040 or 1040-SR, Schedule C, line 14; Schedule E, line 19 or 28; or Schedule F, line 15. To claim the deduction, the taxpayer must use Form 2441. The amount that can be excluded or deducted is limited to the smallest of:

The total amount of dependent care benefits received during the year,

The total amount of qualified expenses incurred during the year,

The taxpayer’s earned income,

The spouse's earned income, or

$5,000 ($2,500 if married filing separately).

Reduced Dollar Limit

If a taxpayer received dependent care benefits that were excluded or deducted from income, the taxpayer must subtract that amount from the dollar limit ($3,000 for one qualifying person, or $6,000 for two or more qualifying persons) that applies to the taxpayer.

How to Figure the Credit

The credit is a percentage of work-related expenses. First figure the earned income limit and the dollar limit on those expenses. Then figure the applicable percentage for the credit.

Earned Income Limit

The amount of work-related expenses cannot be more than:

Earned income for the year, if single, or

The smaller of each spouse's earned income, if married.

Student-Spouse or Spouse Not Able to Care for Self

A spouse who is either a full-time student or not able to care for himself or herself is treated as having earned income. His or her earned income for each month is considered to be at least $250 if there is one qualifying person in the home, or at least $500 if there are two or more.

Community Property Laws

Disregard community property laws when figuring earned income for this credit.

Work-related Expenses Limit:

$3,000 for one qualifying person, and

$6,000 for two or more qualifying persons.

Amount of Credit

Note: Applicable % starts at 35% if AGI is $15,000 and decreases 1% for every $2,000 increase in AGI up to $43,001

Credit = Work related expenses limit x applicable percentage

Taxpayer’s AGI

Applicable

Percentage

Taxpayer’s AGI

Applicable

Percentage

$0 - $15,000

35%

$29,001 - $31,000

27%

$15,001 - $17,000

34%

$31,001 - $33,000

26%

$17,001 - $19,000

33%

$33,001 - $35,000

25%

$19,001 - $21,000

32%

$35,001 - $37,000

24%

$21,001 - $23,000

31%

$37,001 - $39,000

23%

$23,001 - $25,000

30%

$39,001 - $41,000

22%

$25,001 - $27,000

29%

$41,001 - $43,000

21%

$27,001 - $29,000

28%

$43,001 - No Limit

20%

Child Tax Credit

Qualifying Child

A qualifying child must meet all of the following:

Be the taxpayer’s son, daughter, stepchild, foster child, brother, sister, stepbrother, stepsister, or a descendant of any of them (e.g., grandchild, niece).

Under age 17 at the end of the year.

Qualifying child did not provide over half of his or her own support for the year.

Lived with the taxpayer for more than half of the year. Exception: The noncustodial parent can claim the child tax credit for a child if the custodial parent released a claim for the child as a dependent on Schedule 8332, Release/Revocation of Release of Claim to Exemption for Child by Custodial Parent, and the noncustodial parent attached the release to his or her return.

Is claimed as a dependent on the taxpayer’s return.

Does not file a joint return for the year (or files it only as a claim for refund).

Was a U.S. citizen, a U.S. national, or a resident of the U.S.

Exceptions to Time Lived with the Taxpayer

A child is considered to have lived with the taxpayer for more than half of year if the child was born or died during the year and the taxpayer’s home was this child's home for more than half the time he or she was alive. Temporary absences by the taxpayer or the child for special circumstances, such as for school, vacation, business, medical care, military service, or detention in a juvenile facility, count as time the child lived with the taxpayer.

Amount of Credit

The maximum credit claimed is $2,000 for each qualifying child. The tax credit will be refundable only up to $1,500, depending on T/P’s income, and the T/P must have earned income of at least $2,500 to even be eligible for the refund.

Credit for Other Dependents

Qualifying person for the credit

A person qualifies a taxpayer for the ODC if the person meets all of the following conditions.

The person is claimed as a dependent on the taxpayer's return.

The person can not be used by the taxpayer to claim the child tax credit or the additional child tax credit.

The person is a U.S. citizen, U.S. national, or U.S. resident alien.

Amount of Credit

The maximum credit claimed is $500 for each eligible dependent.

Claiming the Child Tax Credit and the Other Dependent Credit

To claim the credits use Form 1040, 1040-SR or 1040NR.

Limits on the Child Tax Credit and the Other Dependent Credit

The credits are reduced if the taxpayer’s modified AGI is above the threshold amount for each filing status shown below:

Filing Status | Amount
Married Filing Jointly | $400,000
All other filings statues | $200,000

Additional Child Tax Credit

The additional child tax credit is a refundable tax credit.

This credit may give the taxpayer a refund even if the taxpayer does not owe any tax. The additional child tax credit is figured on Schedule 8812 and carried to Form 1040 or 1040-SR. The maximum amount of the additional child tax credit is $1,500 per qualifying child.

Foreign Earned Income

A taxpayer cannot take the additional child tax credit if he or she claims a foreign earned income or housing exclusion on Form 2555.

Social Security Number (SSN) Required for Child Tax Credit

A child must have an SSN issued before the due date of the 2022 return (including extensions) to be claimed as a qualifying child for the child tax credit or additional child tax credit. If the dependent child has an ITIN, but not an SSN, issued before the due date of the return (including extensions), the taxpayer may be able to claim the new credit for other dependents for that child.

Education Credits

American Opportunity Credit

A taxpayer can claim an American opportunity credit of up to $2,500 for qualified tuition and related expenses paid for himself, his spouse and any dependent required for enrollment or attendance at any accredited college, university vocational school, or other accredited postsecondary educational institution. This credit can be claimed for the first four years of postsecondary education for each eligible student.

Eligible Student

An eligible student must meet the following requirements:

The student did not have expenses that were used to figure an American opportunity credit or Hope credit in at least 4 prior years.

The student has not completed the first 4 years of postsecondary education.

For at least one academic period beginning in the year, the student was enrolled at least half-time in a program leading to a degree, certificate, or other recognized educational credential.

The student is free of any felony conviction for possessing or distributing a controlled substance.

Qualified Education Expenses

Qualified expenses are tuition and certain related expenses required for enrollment at an eligible educational institution.

Student-activity fees are included in qualified education expenses only if the fees must be paid to the institution as a condition of enrollment or attendance. However, expenses for books, supplies, and equipment needed for a course of study are included in qualified education expenses whether or not the materials are purchased from the educational institution.

Prepaid Expenses

Qualified education expenses paid in 2022 for an academic period that begins in the first 3 months of 2023 can be used in figuring an education credit for 2022 only.

Tax-Free Educational Assistance

For tax-free educational assistance received in the year, reduce the qualified educational expenses for each academic period by the amount of tax-free educational assistance allocable to that academic period.

Amount of the Credit

The amount of the credit is 100% of the first $2,000 plus 25% of the next $2,000 paid for each eligible student’s qualified tuition and related expenses. The maximum credit that can be claimed is $2,500 times the number of eligible students.

Income Phaseout

The American opportunity credit is phased out (gradually reduced) if the taxpayer’s modified AGI is between $80,000 and $90,000 ($160,000 and $180,000 if married filing jointly).

Refundable Part of Credit

Forty percent of the American opportunity credit is refundable for taxpayers. A taxpayer does not qualify for the refundable part of the credit all if the following apply:

Taxpayer was:

Under age 18 at year end, or

Age 18 at year end and earned income was less than half of total support, or

A full-time student over age 18 and under age 24 at year end and earned income was less than half of total support.

At least one of the taxpayer’s parents was alive at year end.

Taxpayer is not filing a joint return for the year.

Lifetime Learning Credit

A taxpayer can claim a lifetime learning credit of up to $2,000 for qualified tuition and related expenses paid for himself, his spouse and any dependent required for enrollment or attendance at any accredited college, university vocational school, or other accredited postsecondary educational institution.

Unlike the American opportunity credit:

The lifetime learning credit is not based on the student’s work load. It is allowed for one or more courses.

The lifetime learning credit is not limited to students in the first four years of postsecondary education.

Expenses for graduate-level degree work are eligible.

There is no limit on the number of years for which the lifetime learning credit can be claimed for each student.

Student activity fees and expenses for course-related books, supplies, and equipment are qualified education expenses only if paid to the institution as a condition of enrollment or attendance.

Amount of Credit

The amount of the credit is 20% of the first $10,000 paid for qualified tuition and related expenses for all students in the family.

Income Phaseout

The lifetime learning credit is phased out (gradually reduced) if the taxpayer's modified AGI is between $80,000 and $90,000 ($160,000 and $180,000 if married filing jointly).

Who Can Claim an Educational Credit?

In any one year, only one person can claim a higher education credit for a student’s expenses.

If a taxpayer is paying higher education costs for a dependent child, either the taxpayer or the child, but not both, can claim a credit for a particular year. If the taxpayer claims the child as a dependent, only the taxpayer can take the credit. If the taxpayer claims the child as a dependent, any expenses paid by the child are treated as paid for by the taxpayer when figuring the amount of the American opportunity or lifetime learning credit.

Choosing Which Credit to Claim

For each student, a taxpayer can elect for any tax year only one of the higher education credits or a tax-free withdrawal from an education IRA.

If a taxpayer pays qualifying expenses for more than one student, the taxpayer can choose to take credits on a per-student, per-year basis. This means that a taxpayer can claim the American opportunity credit for one student and the lifetime learning credit for another student in the same tax year.

Form 1098-T requirement

To be eligible to claim the American opportunity credit, or the lifetime earning credit, the law requires a taxpayer (or a dependent) to have received a Form 1098-T from an eligible educational institution.

However, a taxpayer may claim one of these education benefits if the student does not receive a Form 1098-T because the student’s educational institution isn’t required to send a Form 1098-T to the student under existing rules. If a student’s educational institution is not required to provide a Form 1098-T to the student, a taxpayer may claim one of these education benefits without a Form 1098-T if the taxpayer otherwise qualifies, can demonstrate that the taxpayer (or a dependent) was enrolled at an eligible educational institution, and can substantiate the payment of qualified tuition and related expenses.

Comparison of Education Credits

American Opportunity Credit
Lifetime Learning Credit

Maximum credit

Up to $2,500 credit per eligible student.

Up to $2,000 credit per return.

Limit on modified adjusted gross income (MAGI)

$180,000 if married filing jointly;

$90,000 if single, head of household, or qualifying  surviving spouse.

$180,000 if married filing jointly;

$90,000 if single, head of household, or qualifying surviving spouse.

Refundable or nonrefundable

40% of credit may be refundable

Nonrefundable. Credit limited to the amount of tax owed.

Number of years of postsecondary education

Available ONLY for the first 4 years of postsecondary education.

Available for all years of postsecondary education and for courses to acquire or improve job skills.

Number of tax years credit available

Available ONLY for 4 tax years per eligible student.

Available for an unlimited number of years.

Type of degree required

Student must be pursuing an undergraduate degree or other recognized education credential.

Student does not need to be pursuing a degree or other recognized education credential.

Number of courses

Student must be enrolled at least half time for at least one academic period beginning during the tax year.

Available for one or more courses.

Felony drug conviction

No felony drug convictions on student's records.

Felony drug convictions are permitted.

Qualified expenses
Tuition and required enrollment fees. Course- related books, supplies, and equipment do not need to be purchased from the institution in order to qualify
Tuition and required enrollment fees, including amounts required to be paid to the institution for course-related books, supplies, and equipment.

Payments for academic periods
Payments made in 2022 for academic periods in 2022 and the first 3 months of 2023.

TIN needed by filing due date
Filers and students must have a TIN by the due date of their return (including extensions)

Educational institution's EIN
Must provide the educational institution's employer identification number (EIN) on Form 8863

Credit for the Elderly or the Disabled

Qualifying Individual

A qualifying individual must be a U.S. citizen or resident and either of the following applies.

Age 65 or older by the end of the year.

Under age 65 at the end of the year and all three of the following statements are true:

Retired on permanent and total disability.

Did not reach mandatory retirement age during the tax year.

Received taxable disability benefits during the tax year.

Permanent and Total Disability

A taxpayer cannot engage in any substantial gainful activity because of a physical or mental condition. A physician must certify that the condition has lasted or can be expected to last continuously for 12 months or more, or that the condition can be expected to result in death.

Substantial Gainful Activity

Substantial gainful activity is the performance of significant duties over a reasonable period of time while working for pay or profit.

Married Persons

If married at the end of the year, a taxpayer must file a joint return to receive the credit. If a taxpayer and spouse did not live together at any time during the year, the taxpayer can file either jointly or separately and still get the credit. Only one spouse needs to be over 65 to qualify for the credit.

Figuring the Credit:

Base amount, less

The total of:

Social Security and other nontaxable pensions

Excess AGI ((AGI minus AGI limit amount) divided by 2)

Multiply by 15%

Base Amount

$ 5,000 Filing Status: | Single, Head of Household, or Qualifying Surviving Spouse
$ 5,000 Filing Status: | Married Filing Jointly and one spouse qualifies for the credit
$ 7,500 Filing Status: | Married Filing Jointly and both spouses qualify for the credit
$ 3,750 Filing Status: | Married Filing Separately and did not live with spouse during the year

AGI Limit Amount

$ 7,500 Filing Status: | Single, Head of Household, or Qualifying surviving spouse
$10,000 filing status: | Married Filing Jointly
$ 5,000 filing status: | Married Filing Separately and did not live with spouse during the year

Premium Tax Credit

The premium tax credit (PTC) is a tax credit for certain individuals who enroll, or whose family member enrolls, in a qualified health plan offered through a Marketplace. The credit provides financial assistance to pay the premiums by reducing the amount of tax owe. Form 8962 must be filed to compute and take the PTC on a tax return.

Advance Payments of the Premium Tax Credit (APTC)

APTC is a payment made to the taxpayer’s insurance provider for coverage during the year that pays for part or all of the premiums for the coverage of the taxpayer, spouse and dependents.

The APTC eligibility is based on the Marketplace’s estimate of the PTC the taxpayer will be able to take on his or her tax return. If advance payments of the premium tax credit were made, the taxpayer must file a tax return and Form 8962, Premium Tax Credit to reconcile (compare) this APTC with the taxpayer's PTC. If the APTC is more than the taxpayer's PTC, the taxpayer has excess APTC and must repay the excess, subject to certain limitations. If the APTC is less than the PTC, the taxpayer can get a credit for the difference, which reduces the taxpayer's tax payment or increases his or her refund. The credit is a refundable credit reported on Schedule 3 (Form 1040 or 1040-SR). The excess is repaid as an additional tax on Schedule 2 (Form 1040 or 1040-SR).

Changes in Circumstances

The Marketplace determines a taxpayer's eligibility for and the amount of the APTC using projections of the taxpayer's income and the number of individuals the taxpayer certifies to the Marketplace would be in his or her tax family (taxpayer, spouse, and dependents) when enrolling in a qualified health plan. If this information changed during the year and the taxpayer does not promptly report it to the Marketplace, the amount of APTC paid may be substantially different from the amount of PTC the taxpayer can take on his or her tax return.

Report Changes in Circumstances

If APTC is being paid for an individual in a tax family certain circumstances has changed, report them to the Marketplace where enrolled in coverage.

Reporting changes in circumstances promptly will allow the Marketplace to adjust the taxpayer's APTC to reflect the PTC that are estimated to take on the tax return. Adjusting the APTC when re-enrolling in coverage and during the year can help avoid owing tax when filing the tax return. Changes that should be report to the Marketplace include the following.

Changes in household income.

Moving to a different address.

Gaining or losing eligibility for other health care coverage.

Gaining, losing, or other changes to employment.

Birth or adoption.

Marriage or divorce.

Other changes affecting the composition of your tax family.

Who Must File Form 8962

File Form 8962, Premium Tax Credit (PTC), with the income tax return (Form 1040, 1040-SR, or 1040-NR) if any of the following apply.

The taxpayer is taking the PTC.

APTC was paid for the taxpayer or another individual in the tax family.

APTC was paid for an individual the taxpayer told the Marketplace would be in the tax family and neither the taxpayer nor anyone else included that individual in a tax family.

Tax Family

For purposes of the PTC, a tax family consists the taxpayer, a spouse if filing a joint return, and dependents).

Form 1095-A

A taxpayer will need Form 1095-A, Health Insurance Marketplace Statement, to complete Form 8962. The Marketplace is required to provide or send Form 1095-A to the taxpayer.

Form 1095-C

Form 1095-C, Employer-Provided Health Insurance Offer and Coverage. Part II of the Form 1095-C indicates whether the employer offered health insurance coverage and, if so, includes information about the offer. If a taxpayer purchased health insurance coverage through a Marketplace and wish to take the PTC, this information may assist the taxpayer in determining whether he or she is eligible for the PTC.

Who Can Take the PTC?

A taxpayer can take the PTC if he or she meets all the conditions:

For at least one month of the year, all of the following were true:

An individual in the tax family was enrolled in a qualified health plan offered through the Marketplace on the first day of the month.

The individual was not eligible for minimum essential coverage, other than coverage in the individual market.

The portion of the enrollment premiums was paid by the due date of the tax return (not including extensions).

No one can claim the taxpayer as a dependent for the year.

The individual is an applicable taxpayer. To be an applicable taxpayer, the individual must meet all of the following requirements.

The taxpayer, or his or her spouse if filing a joint return, received or were approved to receive unemployment compensation for any week beginning during 2021, or your household income for 2021 is at least 100% of the federal poverty line for the family size.

If married at the end of the year, generally the taxpayer must file a joint return. However, filing a separate return from spouse will not disqualify taxpayer from being an applicable taxpayer if certain requirements are met.

Foreign Tax Credit

Deducting Foreign Tax Paid

A taxpayer can choose to deduct foreign taxes paid on his or her Schedule A (Form 1040 or 1040-SR) or take a foreign tax credit. A taxpayer cannot take a credit or deduction for foreign taxes paid on income that the taxpayer excluded from U.S. tax under any of the following:

Foreign earned income exclusion.

Foreign housing exclusion.

Income from Puerto Rico exempt from U.S. tax.

Possession exclusion.

How to Claim the Credit

The foreign tax credit is claimed on Form 1116 (Form 1040 or 1040-SR).

Election Not to File Form 1116

A taxpayer can claim the foreign tax credit without using Form 1116 if all of the following requirements are met:

All gross foreign source income was passive category income (which includes most interest and dividends).

The foreign tax paid on it were reported on Form 1099-INT, Form 1099-DIV, or Schedule K-1 (Form 1041), Schedule K-3 (Form 1065 or Form 1120-S), or similar substitute statements.

The foreign taxes for the tax year are not more than $300 ($600 if filing a joint return).

Note: This election is not available to estates or trusts.

Adoption Credit

Amount of Nonrefundable Credit

A taxpayer can claim up to $14,890 for qualified expenses paid to adopt an eligible child. The credit may be allowed for the adoption of a child with special needs even if the taxpayer does not have any qualified expenses.

Income Limit

The income limit on the adoption credit or exclusion is based on modified adjusted gross income (MAG). For 2022, use the following table to see if the income limit will affect the credit or exclusion.

IF MAGI is... | THEN the income limit...
$223,410 or less | will not affect the credit or exclusion.
Between $223,410 and $263,410 | will reduce the credit or exclusion.
$263,410 or more | will eliminate the credit or exclusion.

Married Persons Not Filing Jointly

Married taxpayers not filing jointly may be able to take the credit or exclusion if all of the following apply:

The taxpayer lived apart from his or her spouse during the last 6 months of the year.

The eligible child lived in the taxpayer's home more than half of the year.

The taxpayer provided over half the cost of keeping up a home.

Qualified Adoption Expenses

Qualified adoption expenses are expenses directly related to, and whose principal purpose is for, the legal adoption of an eligible child. These expenses include the following:

Adoption fees.

Court costs.

Attorney fees.

Travel expenses (including amounts spent for meals and lodging) while away from home.

Re-adoption expenses to adopt a foreign child.

Nonqualified Expenses

Qualified adoption expenses do not include expenses:

That violate state or federal law.

For carrying out any surrogate parenting arrangement.

For the adoption of a spouse's child.

For which the taxpayer received funds under any federal, state, or local program.

Allowed as a credit or deduction under any other federal income tax rule.

Paid or reimbursed by an employer or any other person or organization.

Eligible Child

An eligible child is any individual under age 18 or an individual incapable of physically or mentally caring for himself or herself.

Child with Special Needs

An eligible child is a child with special needs if all three of the following apply:

The child was a citizen or resident of the United States (including U.S. possessions) at the time the adoption process began.

A state (including the District of Columbia) has determined that the child cannot or should not be returned to his or her parents' home.

The state has determined that the child will not be adopted unless assistance is provided to the adoptive parents. Factors used by states to make this determination include:

The child's ethnic background,

The child's age,

Whether the child is a member of a minority or sibling group, and

Whether the child has a medical condition or a physical, mental, or emotional handicap.

When to Take the Credit

When to take the adoption credit or exclusion depends on whether the eligible child is a citizen or resident of the United States (including U.S. possessions) at the time the adoption effort began (domestic adoption).

Domestic Adoption

A domestic adoption is the adoption of a U.S. child (an eligible child who is a citizen or resident of the U.S. or its possessions before the adoption effort begins).

If the eligible child is a U.S. citizen or resident, a taxpayer can take the adoption credit or exclusion even if the adoption never becomes final. Take the credit or exclusion as shown in the following table for a domestic adoption.

IF paid qualifying expenses in...
THEN take the credit in...

Any year before the year the adoption becomes final
the year after the year of the payment.

The year the adoption becomes final
the year the adoption becomes final.

Any year after the year the adoption becomes final
the year of the payment.

IF an employer pays for qualifying expenses
under an adoption assistance program in...
THEN take the exclusion in....

Any year
the year of the payment.

Foreign Adoption

A foreign adoption is the adoption of an eligible child who is not yet a citizen or resident of the U.S. or its possessions before the adoption effort begins. Qualified adoption expenses paid before and during the year are allowable as a credit for the year when it becomes final.

Child with Special Needs

If the taxpayer adopts a U.S. child that a state has determined to have special needs, the taxpayer may be able to exclude up to $14,890 and claim a credit for additional expenses up to $14,890 (minus any qualified adoption expenses claimed for the same child in a prior year).

The exclusion may be available, even if the taxpayer or his or her employer did not pay any qualified adoption expenses, provided the employer has a written qualified adoption assistance program.

Foreign Child

If the child is not a U.S. citizen or resident at the time the adoption process began, the credit cannot be taken unless the adoption becomes final. Treat all adoption expenses paid or incurred in years before the adoption becomes final as paid or incurred in the year it becomes final.

How to Take the Credit

To take the credit, complete Form 8839 and attach it to Form 1040 or 1040-SR.

Documentation Requirements

A taxpayer should keep documentation that supports the claim for the adoption credit, but does not have to attach any documentation with the tax return.

Credit Carryover

A taxpayer can carryforward any unused credit amounts to future tax years.

Retirement Savings Contribution Credit

Who Can Take This Credit?

If a taxpayer makes eligible contributions to a qualified retirement plan, an eligible deferred compensation plan, or an IRA, the taxpayer can claim the credit if all of the following apply:

The taxpayer is age 18 or older.

The taxpayer was not a full-time student.

No one else can claim the taxpayer as a dependent.

The taxpayer’s AGI is not more than:

$68,000 if filing status is married filing jointly.

$51,000 if filing status is head of household.

$34,000 if filing status is single, married filing separately, or qualifying surviving spouse.

Credit Amount

A taxpayer can take a nonrefundable tax credit of up to $1,000 ($2,000 if married filing jointly) for making eligible contributions to an employer-sponsored retirement plan or to an individual retirement arrangement (IRA).

How to Figure and Report the Credit

The amount of the credit is based on the contributions made and the credit rate. The credit rate can be as low as 10% or as high as 50%. The credit rate depends on the taxpayer’s income and filing status. Figure the credit on Form 8880. Report the credit on Schedule 3 (Form 1040 or 1040-SR), and attach Form 8880 to the return.

Eligible Contributions

Contributions to a traditional or Roth IRA.

Salary reduction contributions (elective deferrals, including amounts designated as after-tax Roth contributions) to:

A 401(k) plan (including a SIMPLE 401(k)).

A section 403(b) annuity.

An eligible deferred compensation plan of a state or local government (a governmental 457 plan).

A SIMPLE IRA plan.

A salary reduction SEP.

Contributions to a section 501(c)(18) plan.

Contributions Reduced

Eligible contributions must be reduced by the total taxable and nontaxable distributions received in the two years before the year the credit is claimed, the year the credit is claimed, and the period after the end of the credit year but before the due date (including extensions) for filing the return for the credit year.

Maximum Eligible Contributions

After the contributions are reduced, the maximum annual contribution on which the credit can be based is $2,000 per person.

Residential Energy Credits

The residential energy credits are:

The residential energy efficient property credit, and

The nonbusiness energy property credit.

Residential Clean Energy Credit

A taxpayer can take a credit of 30% of the costs of qualified solar electric property, solar water heating property, fuel cell property, small wind energy property, geothermal heat pump property, biomass fuel property, and fuel cell property. The credit amount for costs paid for qualified fuel cell property is limited to $500 for each one-half kilowatt of capacity of the property.

Energy Efficient Home Improvement Credit

A taxpayer may be able to take a credit equal to the sum of:

10% of the amount paid or incurred for qualified energy efficiency improvements installed during 2022, and

Any residential energy property costs paid or incurred in 2022.

There is a lifetime limit of $500 for all years after 2005, of which only $200 can be for windows; $50 for any advanced main air circulating fan; $150 for any qualified natural gas, propane, or oil furnace or hot water boiler; and $300 for any item of energy efficient building property. If the total of nonbusiness energy property credits taken in previous years after 2005 is more than $500, no credit can be taken.

Qualified Energy Efficiency Improvements

Qualified energy efficiency improvements are the following improvements that are new, can be expected to remain in use at least 5 years, and meet certain requirements for energy efficiency:

Any insulation material or system that is specifically and primarily designed to reduce heat loss or gain of a home.

Exterior windows (including skylights).

Exterior doors.

Any metal or asphalt roof that has appropriate pigmented coatings or cooling granules specifically and primarily designed to reduce heat gain of the home.

Residential Energy Property

Residential energy property is any of the following:

Certain heat pump water heaters; electric heat pumps; central air conditioners; natural gas, propane, or oil water heaters; and stoves that use biomass fuel.

Qualified natural gas, propane, or oil furnaces; and qualified natural gas, propane, or oil hot water boilers.

Certain advanced main air circulating fans used in natural gas, propane, or oil furnaces.

Basis Reduction

Reduce the basis in the home by the amount of any credit allowed.

How to Take the Credit

Complete Form 5695 and attach it to Form 1040 or 1040-SR. Enter the credit on Schedule 3 (Form 1040 or 1040-SR).

Credit for Prior Year Minimum Tax

Tax laws give special treatment to some kinds of income and allow special deductions and credits for some kinds of expenses.

A taxpayer who benefits from these laws must pay at least a minimum amount of tax through an additional tax known as the alternative minimum tax. The special treatment of some items of income and expenses only allows a taxpayer to postpone paying tax until a later year. If in prior years a taxpayer pays alternative minimum tax because of these tax postponement items, the taxpayer may be able to take a credit for prior year minimum tax against his or her current year's regular tax. A taxpayer may be able to take a credit against regular tax if for 2021 the taxpayer had:

An alternative minimum tax liability and adjustments or preferences other than exclusion items,

A minimum tax credit that the taxpayer is carrying forward to 2022, or

An unallowed qualified electric vehicle credit.

Exclusion Items

The exclusion items are the following adjustments and preference items:

The standard deduction.

Itemized deductions (including any investment interest expense reported on Schedule E).

Tax-exempt interest from certain activity bonds.

Depletion.

The section 1202 exclusion.

Carryover the Credit

Any unused credit for prior year minimum tax can be carried over to later years until it is completely used.

Chapter Seven - Taxes

Taxes

Chapter seven explains the different taxes owed by a taxpayer other than federal income tax in preparing an individual tax return. Alternative minimum tax is an additional tax to ensure that some taxpayers, particularly wealthy taxpayers, pay at least a minimum amount of tax. Estimated taxes are tax payments made periodically during the year. The other taxes explained in this chapter are additional taxes that are calculated after subtracting nonrefundable tax credits from income tax and any alternative minimum tax.

In This Chapter

Alternative Minimum Tax (AMT)

Estimated Tax

Self-Employment Tax

Unreported Social Security and Medicare Tax

Household Employment Taxes

Tax on IRAs and Other Qualified Retirement Plans

First-Time Homebuyer Credit Repayment

Excess Social Security Tax or Railroad Retirement Tax Withheld

Other Taxes

Tax on Unearned Income of Certain Children

Alternative Minimum Tax

Subject to Alternative Minimum Tax

The tax law gives special treatment to some kinds of income and allows special deductions and credits for some kinds of expenses.

Taxpayers who benefit from this special treatment may have to pay at least a minimum amount of tax through an additional tax called AMT. The AMT is the excess of the tentative minimum tax over the regular tax.

The tentative minimum tax is figured separately from the regular tax. In general, the tentative minimum tax is computed by:

Starting with taxable income for regular tax purposes.

Eliminating or reducing certain exclusions, deductions, and credits (generally, business-related credits) that are allowed in computing the regular tax.

Subtracting the AMT exemption amount.

Multiplying the amount computed in (3) by the AMT rate.

Subtracting AMT foreign tax credit.

The AMT exemption amount and AMT rate are set by law. For capital gains and certain dividends, the rates in effect for the regular tax are used.

Adjustments to Taxable Income

The following are adjustments to taxable income in computing alternative minimum tax:

Add standard deduction (if claimed).

Add itemized deductions claimed for state and local taxes, certain interest, most miscellaneous deductions, and part of medical expenses.

Subtract refund of state and local taxes included in gross income.

Add accelerated depreciation that is more than straight line.

Add the difference between gain or loss on the sale of property reported for regular tax purposes and AMT purposes.

For stock acquired and not sold during the year through the exercise of an incentive stock option, add the amount of any fair market value of the stock that is more than the amount that was paid for it.

Add the change in certain passive activity losses.

Add certain depletion that is more than the adjusted basis of the property.

Add part of the deduction for certain intangible drilling costs.

Add tax-exempt interest on certain private activity bonds.

Add 7% of qualified small stock (section 1202) gain if purchase stock before 9/28/10.

Tax Preference Items

Tax preference items are income items and deductions that receive special treatment under tax laws. They must be added back to taxable income. Tax preference items include the following:

Excess accelerated depreciation over straight-line for real property placed in service before 1987.

Tax-exempt interest on certain private activity bonds.

Excess of depletion deduction over adjusted basis in property.

Part of any deduction for intangible drilling costs.

7% of gain on the sale of small business stock (section 1202 exclusion) if purchases before 9/28/10.

Exemption amounts:

IF filing status is... | AND alternative minimum taxable income is not over... | THEN exemption amount is...
Single or head of household | $539,900 | $75,900
Married filing jointly or qualifying surviving spouse | $1,079,800 | $118,100
Married filing separately | $539,900 | $59,050

Note: The AMT exemption is reduced by 25% of the amount by which alternative minimum taxable income (AMTI) exceeds $539,900 for single or head of household, $1,079,800 for married couples filing jointly or qualifying surviving spouse, and $539,900 for married filing separately. If AMTI is equal to or more than: $843,500 if single or head of household, $1,552,200 if married filing jointly or qualifying surviving spouse, or $776,100 if married filing separately, the exemption is zero.

AMT Tax Rates

The first $206,100 of alternative minimum taxable income (AMTI) ($103,050 if married filing separately) in excess of the exemption amount is taxed at a rate of 26%. AMTI in excess of the first $206,100 ($103,050 if married filing separately) above the exemption amount is taxed at a rate of 28%.

Estimated Tax

Who Does Not Have To Pay Estimated Tax

A taxpayer does not have to pay estimated tax for the year if he or she meets all three of the following conditions:

Had no tax liability for the previous year.

Was a U.S. citizen or resident alien for the whole year.

The previous tax year covered a 12-month period.

Who Must Pay Estimated Tax?

A taxpayer must make estimated tax payments if he or she expects to owe, after subtracting withholding and credits, at least $1,000 in tax and expects withholding and credits to be less than the smaller of:

90% of the tax liability for that year, or

100% of the tax liability in the previous year.

Estimated Tax for Higher Income Individuals

If a taxpayer’s 2021 adjusted gross income was more than $150,000 ($75,000 if married filing a separate return for 2022), the taxpayer will have to make estimated tax payments if he or she expects to owe, after subtracting withholding and credits, at least $1,000 in tax in 2022 and expects withholding and credits to be less than the smaller of:

90% of the tax liability for 2022, or

110% of the tax liability in 2021.

No Income Subject to Estimated Tax during First Period

A taxpayer starts making estimated payments only in the period in which he or she has income subject to estimated tax.

Separate Returns

In a noncommunity property state, if both spouses make separate estimated tax payments each spouse can only take credit for the estimated tax payment made by that spouse.

Estimated tax payment dates for calendar-year taxpayer
For the Period | Due Date
January 1  - March 31 | April 15
April 1  - May 31 (2 months) | June 15
June 1 - August 31 | September 15
September 1  - December 31 (4 months) | January 15 next year

January Payment

If a taxpayer files his tax return by January 31, he need not make the January 15th payment.

Estimated Tax Payment Dates for Fiscal-Year taxpayer

The 15th day of the 4th month of fiscal year.

The 15th day of the 6th month of fiscal year.

The 15th day of the 9th month of fiscal year.

The 15th day of the 1st month after the end of fiscal year.

How to Figure Each Payment

Figure the payment by using either of the following two methods.

Regular installment method. If the first estimated tax payment is due April 15, figure the required payment by dividing the annual estimated tax due by 4. Use this method only if income is received evenly throughout the year.

Annualized income installment method. If income is not received evenly throughout the year, each tax payment would vary. This method annualizes the tax at the end of each period based on a reasonable estimate of income, deductions, and other items relating to events that occurred from the beginning of the tax year through the end of the period. Figure the tax payments using Form 2210, Underpayment of Estimated Tax by Individuals, Estates, and Trusts.

How to Pay Estimated Tax

Estimated taxes can be paid the following ways.

Credit an overpayment on the previous year's tax return.

Pay by direct transfer from the taxpayer's bank account, or pay by credit or debit card using a pay-by-phone system or the Internet.

Send in a payment (check or money order) with a payment voucher from Form 1040-ES.

Underpayment Penalty

If a taxpayer did not pay enough tax, either through withholding or by making timely estimated tax payments, the taxpayer will have an underpayment of estimated tax and may have to pay a penalty.

The penalty is figured separately for each installment due date. Therefore, a taxpayer may owe the penalty for an earlier due date even if the taxpayer paid enough later to make up the underpayment or gets a refund when filing the tax return. The penalty is figured from the date the amount was due to the date the payment was made.

Form 2210

Form 2210 is used to figure the underpayment penalty. In most cases, a taxpayer does not need to file Form 2210. The IRS will figure the penalty and send the taxpayer a bill.

Waiver of Penalty

If a taxpayer has an underpayment, all or part of the penalty for that underpayment will be waived if the IRS determines that:

In the previous year or the current year, the taxpayer was retired after reaching age 62 or became disabled, and the underpayment was due to reasonable cause, or

The underpayment was due to a casualty, disaster, or other unusual circumstance, and it would be inequitable to impose the penalty.

Self-Employment Tax

Self-employment tax (SE tax) is a social security and Medicare tax primarily for individuals who work for themselves.

It is similar to the social security and Medicare taxes withheld from the pay of most wage earners. Figure SE tax using Schedule SE (Form 1040 or 1040-SR). Social security and Medicare taxes of most wage earners are figured by their employers.

SE Tax Rate

The self-employment tax rate for 2022 is 15.3%. The rate consists of two parts: 12.4% for social security and 2.9% for Medicare tax.

Maximum Earnings Subject to SE Tax

Only the first $147,000 of a taxpayer's combined wages, tips, and net earnings in 2022 is subject to any combination of the 12.4% social security part of SE tax, social security tax, or railroad retirement (tier 1) tax.

Additional Medicare Tax

A 0.9% Additional Medicare Tax applies to Medicare wages, Railroad Retirement Tax Act (RRTA) compensation, and self-employment income above the following threshold amounts:

Married filing jointly: $250,000

Married filing separately: $125,000

Single, Head of household, or Qualifying surviving spouse: $200,000

Use Form 8959, Additional Medicare Tax, to figure this tax.

Who Pays SE Tax?

A taxpayer must pay SE tax and file Schedule SE (Form 1040 or 1040-SR) if either of the following applies:

Taxpayer has net earnings from self-employment of $400 or more.

Taxpayer had church employee income of $108.28 or more.

Unreported Social Security and Medicare Tax from Form 4137 and 8919

Form 4137

If a taxpayer received tips of $20 or more in any month and did not report the full amount to his or her employer, the taxpayer must pay social security and Medicare tax on the unreported tips.

The taxpayer must also pay this tax if his or her W-2 form(s) shows allocated tips that are included in income. To figure the tax, use Form 4137, Social Security and Medicare Tax On Unreported Tip Income, to figure the social security and Medicare tax on unreported tip income.

Form 8919

If a taxpayer is an employee who received wages from an employer who did not withhold social security and Medicare tax from the taxpayer's wages, use Form 8919, Uncollected Social Security and Medicare Tax on Wages, to figure the unreported tax.

Household Employment Taxes

Social Security and Medicare Taxes

If a taxpayer who pays cash wages of $2,400 or more in 2022 to any one unrelated household employee, the cash wages paid (regardless of when the wages were earned) are subject to social security and Medicare taxes.

Federal Unemployment Tax (FUTA)

If a taxpayer pays cash wages to household employees totaling $1,000 or more in any calendar quarter of 2022, the taxpayer must pay federal unemployment tax on the first $7,000 of cash wages paid to each household employee.

Cash Wages

Cash wages includes wages paid by checks, money orders, etc. Cash wages do not include the value of food, lodging, clothing, and other noncash items given to a household employee. The value of these items is not subject to social security and Medicare tax or FUTA tax.

Federal Income Tax

A taxpayer is not required to withhold federal income tax from wages paid to a household employee. If the taxpayer does withhold federal income taxes, he or she is responsible for paying it to the IRS.

Forms to File

If a taxpayer is required to report social security and Medicare wages, FUTA, or withheld federal income tax, he or she must file either Form 941, Employer’s Quarterly Federal Tax Return, or Schedule H (Form 1040 or 1040-SR).

A taxpayer uses Schedule H, Household Employment Taxes, to figure his or her total household employment taxes (social security, Medicare, FUTA, and withheld federal income taxes). These household taxes are added to the taxpayer’s income taxes on Form 1040 or 1040-SR. Schedule H must be attached to Form 1040 or 1040-SR.

Additional Tax on IRAs and Other Qualified Retirement Plans

A taxpayer can owe this tax and must file Form 5329 if any of the following apply:

The taxpayer received any early distributions from an IRA or other retirement plan, an annuity, or a modified endowment contract entered into after June 20, 1988 and the total distribution was not rolled over in a qualified rollover contribution.

Excess contributions were made to an IRA, Coverdell education savings account, or Archer MSAs, or health savings accounts (HSAs) or ABLE account.

The taxpayer received taxable distributions from Coverdell ESAs, qualified tuition program, or ABLE account.

A taxpayer did not take the minimum required distribution from his or her IRA or other qualified retirement plan by April 1 of the year following the year he or she reached age 72.

First-Time Homebuyer Credit Repayment

The repayment requirement has expired for homes purchased after 2008. The repayment requirement continues to apply to homes purchased in 2008.

If a taxpayer bought the home in 2008 and owned and used the home as a main home for all of 2022, the taxpayer can enter the 2022 repayment on Schedule 2 (Form 1040 or 1040-SR) without attaching Form 5405.

A taxpayer must file Form 5405 if he or she meets either of the following conditions:

Disposed of the home in 2022.

Ceased using the home as a main home in 2022.

Excess Social Security Tax or Railroad Retirement Tax Withheld

Credit for Excess Social Security Tax or Railroad Retirement Tax Withheld

If a taxpayer worked for two or more employers in the year, the taxpayer may have had too much social security or tier 1 RRTA tax withheld from wages.

The taxpayer can claim the excess social security or tier 1 RRTA tax as a credit against income tax. The following table shows the maximum amount of wages subject to tax and the maximum amount of tax that should have been withheld for 2022.

Type of tax | Maximum wages subject to tax | Maximum tax that should have been withheld
Social security or RRTA tier 1 | $147,000 | $9,114
RRTA tier 2 | $109,200 | $5,350.80

Employer's Error

If any one employer withheld too much social security or tier 1 RRTA tax, the taxpayer cannot take the excess as a credit against income tax. The employer should adjust the tax. If the employer does not adjust the overcollection, the taxpayer can file a claim for refund using Form 843, Claim for Refund and Request for Abatement.

Other Taxes

Additional Medicare tax (Form 8959)

A 0.9% Additional Medicare Tax applies to Medicare wages, railroad retirement (RRTA) compensation, and self-employment income that are more than:

$125,000 if married filing separately.

$250,000 if married filing jointly.

$200,000 for any other filing status.

Net Investment Income Tax (Form 8960)

Taxpayers may be subject to Net Investment Income Tax (NIIT). The NIIT is 3.8% of the smaller of:

Net investment income, or

The excess of modified adjusted gross income over:

$125,000 if married filing separately.

$250,000 if married filing jointly or qualifying surviving spouse.

$200,000 if filing single or head of household.

Net Investment Income

Investment income includes, but is not limited to: interest, dividends, capital gains, rental and royalty income, non-qualified annuities, income from businesses involved in trading of financial instruments or commodities and businesses that are passive activities to the taxpayer. To calculate net investment income, investment income is reduced by certain expenses properly allocable to the income.

Tax on Unearned Income of Certain Children

Parent’s Election to Report Child’s Interest and Dividends (Form 8814)

Parents may be able to elect to include their child's interest and dividend income (including capital gain distributions) on their tax return using Form 8814. If they do, their child will not have to file a return. This election can be made if all of the following conditions are met:

Child was under age 19 (or under age 24 if a full-time student) at the end of the year.

Child is required to file a return, unless the parent(s) makes this election.

Child had income only from interest and dividends (including capital gain distributions and Alaska Permanent Fund dividends).

The child’s gross income was less than $11,500.

The child does not file a joint return for the year.

No estimated tax payment was made for the year and no overpayment from the previous year was applied to this year under the child's name and social security number.

No federal income tax was taken out of the child's income under the backup withholding rules.

The taxpayer is the parent whose return must be used when applying the special tax rules for children.

Tax for Certain Children Who Have Unearned Income (Form 8615)

Part of a child's investment income may be subject to tax at the parent's tax rate if all of the following statements are true:

The child's investment income was more than $2,300.

The child is required to file a return for the year.

The child either:

Was under age 18 at the end of the year,

Was age 18 at the end of the year and did not have earned income that was more than half of his or her support, or

Was a full-time student over age 18 and under age 24 at the end of the year and did not have earned income that was more than half of his or her support.

At least one parent was alive at the end of the tax year.

The child does not file a joint return for the year.

Form 8615

If the parent does not or cannot choose to include the child’s income on the parent’s tax return, use Form 8615, Tax for Certain Children Who Have Unearned Income, to figure the child’s tax rate and attach the completed form to the child’s Form 1040, Form 1040-SR or Form 1040-NR.

Change in Tax Rate

After tax year 2019, dependent children with unearned income above $2,300 are taxed at the parents' individual tax rate if the parent's rate is higher than the child's.

Which Parent's Return To Use

If a child's parents are married to each other and file a joint return, use the joint return to figure the tax on the child's investment income.

Parents are Married

If the child's parents file separate returns, use the return of the parent with the greater taxable income.

Parents Not Living Together

If the child's parents are married to each other but not living together, and the parent with whom the child lives (the custodial parent) is considered unmarried, use the return of the custodial parent. If the custodial parent is not considered unmarried, use the return of the parent with the greater taxable income.

Parents are Divorced

If the child's parents are divorced or legally separated, and the parent who had custody of the child for the greater part of the year (the custodial parent) has not remarried, use the return of the custodial parent.

Custodial Parent Remarried

If the custodial parent has remarried, the stepparent (rather than the noncustodial parent) is treated as the child's other parent. Therefore, if the custodial parent and the stepparent file a joint return, use that joint return. Do not use the return of the noncustodial parent.

Parents Never Married

If a child's parents have never been married to each other, but lived together all year, use the return of the parent with the greater taxable income.

Due Diligence Requirements

Preparers who prepare tax returns claiming the Earned Income Tax Credit (EITC), the child tax credit (CTC), the additional child tax credit (ACTC), the credit for other dependents (ODC), the American opportunity tax credit (AOTC), and head of household (HOH) filing status must meet four due diligence requirements.

Compute the Credits Based on the Facts. Compute the credits and complete the applicable worksheet(s) or a preparer’s own worksheet(s) for any EITC, CTC/ACTC/ ODC or AOTC claimed on the return or claim for refund. Most professional tax return preparation software includes the worksheets.

Complete and Submit Form 8867. Complete Form 8867, Paid Preparer’s Due Diligence Checklist, and submit this completed form to the IRS with every electronic or paper return or claim for refund prepared that claims the EITC, CTC/ACTC/ODC, AOTC, or HOH filing status.

Make sure that the software used includes Form 8867 and file the completed form with every electronic return or provide the completed form with every paper return or claim for refund prepared that claims the EITC, CTC/ACTC/ODC, AOTC, or HOH filing status.

Answer each question on the form based on information from the client and information the preparer knows is true.

The preparer must also personally complete Part VI, Eligibility Certification.

Keep records. Keep copies of the following records either electronically or on paper:

Form 8867.

The applicable worksheet(s) or the preparer’s own worksheet(s) for the EITC, CTC/ACTC/ODC, or AOTC claimed on the return or claim for refund.

Any taxpayer documents that the preparer may have relied on to determine eligibility for the credit(s) and/or HOH filing status or to compute the amount of the credit(s).

A record of how, when, and from whom the information used to prepare Form 8867 and the applicable worksheet(s) was obtained.

Keep these documents for 3 years from the latest of:

The due date of the tax return.

The date the tax return was electronically filed.

For a paper return, the date the return or claim for refund was presented to the client for signature.

If the preparer is a non-signing tax return preparer, the date the non-signing preparer submitted to the signing tax return preparer the part of the return for which the non-signing preparer was responsible.

Ask all the right questions. The preparer, in interviewing the taxpayer, should ask adequate questions and document the taxpayer’s responses to determine eligibility to claim the credit(s) and/or HOH filing status.

Example of Documents

The following are examples of documents that a preparer may rely on to determine a taxpayer's eligibility for the credit(s) or the amount of the credit.

Residency of a Qualifying Child

School records or statement

Landlord or a property management statement

Health care provider statement

Medical records

Child care provider records

Placement agency statement

Social service records or statement

Place of worship statement

Indian tribal official statement

Employer statement

Disability of Qualifying Child

Doctor statement

Other health care provider statement

Social services agency or program statement

Schedule C

Business license

Forms 1099

Records of gross receipts provided by taxpayer

Taxpayer summary of income

Records of expenses provided by taxpayer

Taxpayer summary of expenses

Bank statements reconstruction

Penalty

Failure to meet the due diligence requirements for claiming the EIC, the CTC/ACTC/ODC, the AOTC, and/or HOH filing status could result in a $545 penalty for each failure.

For example, if a paid preparer prepared a return claiming the EIC, the CTC/ACTC/ODC, the AOTC, and/or HOH filing status, and failed to meet the due diligence requirements for all of these credits, the preparer could be subject to a penalty of for each failure.

Chapter Eight - Estate & Gift Tax

Estate and Gift Tax

Gifts of money or property given by a taxpayer may be subject to federal gift tax. When a taxpayer dies, money and property owned by that taxpayer may be subject to federal estate tax. Chapter eight is designed to give you an understanding of when these taxes apply, when they do not apply, and covers the information likely to be assessed on the Enrolled Agent Exam.

In This Chapter

Estate Tax

Gift Tax

Generation-Skipping Transfer Tax

Estate Tax

Federal Estate Tax Applies to the Transfer of Property at Death

The estate of the decedent is liable for the tax on the entire taxable estate. If the estate tax is not paid when due, the executor can be held personally liable for the total tax. In addition, all persons receiving property from the estate are liable for the tax to the extent of the value of the property on the date of the decedent’s death.

Gross Estate

The gross estate includes the fair market value of all property to the extent of the decedent's interest in the property at the time of death.

What is Included in the Estate?

The gross estate includes property that was owned by a decedent at the time of death and was transferred at death by will or by intestacy laws. It may also include other property interest that the decedent did not own at death. The following are items included in the estate:

Certain transfers made during the decedent’s life without an adequate and full consideration in money or money’s worth.

Annuities.

The includable portion of joint estates with right of survivorship.

The includable portion of tenancies by the entirety.

Certain life insurance proceeds (even though payable to beneficiaries other than the estate).

Property over which the decedent possessed a general power of appointment.

Dower or curtesy (or statutory estate) of the surviving spouse.

Community property to the extent of decedent’s interest as defined by applicable law.

What is Excluded from the Estate?

Generally, the gross estate does not include the following:

Property owned solely by the decedent's spouse or other individuals.

Lifetime gifts that are complete (no powers or other control over the gifts are retained).

Life estates given to the decedent by others in which the decedent has no further control or power at the date of death

Valuation

The value of the decedent's property interest for estate tax purposes is its fair market value (FMV) at the date of death or at the alternate valuation date.

Alternate Valuation

An executor may elect to use the alternate valuation date. Under this method, property included in the decedent's gross estate is valued at FMV at a date other than that of death. This election is effective only if a return is required to be filed. The alternate valuation may not be elected unless it will decrease both the value of the gross estate and the total net estate taxes due after application of all allowable credits. If an election is made to use the alternate valuation method, then all property in the estate is valued according to the following rules:

Any property distributed, sold, exchanged or otherwise disposed of within 6 months after the decedent's death is valued as of the date of distribution, sale, exchange or other disposition.

Any property not distributed, sold, exchanged or otherwise disposed of within 6 months after the decedent's death is valued as of 6 months after the date of the decedent's death.

Any property, interest, or estate that is affected by mere lapse of time is valued as of the date of the decedent's death or on the date of its distribution, sale, exchange, or other disposition, whichever occurs first. However, the date of death value may change to account for any change in value that is not due to a “mere lapse of time” on the date of its distribution, sale, exchange, or other disposition.

Taxable Estate

Once the Gross Estate has been calculated, certain deductions (and in special circumstances, reductions to value) are allowed in arriving at taxable Estate. These deductions include the following:

Administration and funeral expenses.

Claims against the estate.

Mortgages and debt.

Casualty and theft losses.

Marital deduction (all property that is included in the gross estate and passes to the surviving spouse is eligible for the marital deduction).

Charitable deduction (if the decedent leaves property to a qualifying charity, it is deductible from the gross estate).

Losses during estate administration.

State death tax deduction.

After the net amount is computed, the value of lifetime taxable gifts (beginning with gifts made in 1977) is added to this number and the tax is computed. The tax is then reduced by credits against estate tax and the available unified credit.

Marital Deduction

The marital deduction is a deduction from the gross estate of the value of property that is included in the gross estate but that passes, or has passed, to the surviving spouse.

Generally, there is no limit on the amount of the marital deduction. Community property passing to the surviving spouse qualifies for the marital deduction. The marital deduction is generally not allowed if the surviving spouse is not a U.S. citizen. The unlimited marital deduction is allowed for property passing to such a surviving spouse in a qualified domestic trust (QDOT) or if such property is transferred or irrevocably assigned to such a trust before the estate tax return is filed.

Credits Against Estate Tax

The following credits are deducted from the gross estate tax to determine the net estate tax payable:

Applicable credit amount (unified credit).

Credit for tax on prior transfers.

Credit for foreign death taxes.

Applicable Credit Amount (Unified Credit)

The applicable credit amount is allowable credit against estate and gift taxes. It is calculated by determining the tentative tax on the applicable exclusion amount, which is the amount that can be transferred before an estate tax liability will be incurred. The applicable exclusion amount equals the total of:

The basic exclusion amount. In 2022, the basic exclusion amount, as adjusted for inflation is $12,060,000.

The deceased spousal unused exclusion amount (DSUE).

Deceased Spousal Unused Exclusion (DSUE)

If the decedent had a spouse who died on or after January 1, 2011, whose estate did not use all of its applicable exclusion against gift or estate tax liability, a DSUE amount may be available for use by the decedent's estate. If the predeceased spouse died in 2011, the DSUE amount was calculated and attached to his or her Form 706.

Year | Exclusion Amounts | Credit Amounts
2011 | $5,000,000 | $1,945,800
2012 | $5,120,000 | $1,993,800
2013 | $5,250,000 | $2,045,800
2014 | $5,340,000 | $2,081,800
2015 | $5,430,000 | $2,117,800
2016 | $5,450,000 | $2,125,800
2017 | $5,490,000 | $2,141,800
2018 | $11,180,000 | $4,417,800
2019 | $11,400,000 | $4,505,800
2020 | $11,580,000 | $4,577,800
2021 | $11,700,000 | $4,625,800
2022 | $12,060,000 | $4,769,800

Note: Any credit amount used against gift tax in one year reduces the amount of credit that can be used against estate tax.

Filing Requirements

For decedents who died in 2022, Form 706 must be filed by the executor of the estate of every U.S. citizen or resident:

Whose gross estate at time of death plus any adjusted taxable gifts made after 1976 is more than $12,060,000, or

Whose executor elects to transfer the DSUE amount to the surviving spouse, regardless of the size of the decedent's gross estate.

Due Date and Extension

The return is due 9 months after date of death unless an extension is granted. Use Form 4768, Application for Extension of Time To File a Return and/or Pay U.S. Estate (and Generation-Skipping Transfer) Taxes, to apply for an automatic 6-month extension of time to file.

Extension of Time to Pay Estate Tax (Form 4768)

The usual extension of time to pay is up to 12 months, but the IRS may extend the time up to 10 years for reasonable cause. The following illustrate reasonable causes:

Estate includes liquid assets located in several jurisdictions which are not within executor's immediate control. Consequently, such assets cannot readily be collected by the executor, even with reasonable effort.

Most of an estate's assets consist of rights to receive payments in the future (e.g., annuities, royalties, accounts receivables). These assets do not provide enough cash to pay the tax due.

An estate includes a claim to substantial assets that cannot be collected without litigation.

Executor made a reasonable effort to convert the decedent's assets into cash. But the estate would have to borrow funds at an interest rate higher than generally available to satisfy claims against the estate that are due and payable.

Distributions to Beneficiaries

A beneficiary of an estate, that must distribute all its income currently, must report his or her share of the distributable net income whether or not it was actually received.

Any other amount paid, credited, or required to be distributed to the beneficiary, must also be included in the beneficiary's gross income. Each item of income keeps the same character in the beneficiaries’ hands as it had in the hands of the estate. Each beneficiary who receives a distribution from the estate for the tax year or to whom any item is allocated must receive a Schedule K-1. Gifts or a bequest that meets the conditions described below are not taxable.

Bequest

A bequest is the act of giving or leaving property to another through the last will and testament. It will not be an allowable deduction to the estate or taxable to the beneficiary if the bequest is:

Required by the terms of the will,

A gift or bequest of specific sum of money or property, and

Paid out in three or fewer installments under the terms of the will.

Estate Tax Deduction

Income that a decedent had a right to receive is included in the decedent's gross estate and is subject to estate tax.

This income in respect of a decedent is also taxed when received by the recipient (estate or beneficiary). However, an income tax deduction is allowed to the recipient for the estate tax paid on the income.

Basis of Property Acquired from Decedent

An estate (or other person) required to file an estate tax return after July 31, 2015, must provide a statement to both the IRS and any beneficiary who receives property from the estate.

The statement must show the estate tax value of the property. If the property increases the estate tax liability, the beneficiary must use a basis consistent with the estate tax value of the property to figure his or her gain or loss when the property is sold or deemed sold.

Gift Tax

Filing Requirements

A taxpayer must file a gift tax return (Form 709) if any of the following apply:

Giving a gift to someone (other than spouse) that is more than the annual exclusion ($16,000).

A married taxpayer who is splitting a gift with his or her spouse.

Giving someone (other than to a spouse) a gift that he or she cannot actually possess, enjoy, or receive income from until some time in the future.

Giving a spouse an interest in property that will be ended by some future event.

Exception: The following are not taxable gifts. Form 709 is not required to be filed:

Gifts, excluding gifts of future interests, that are not more than the annual exclusion ($16,000) for the calendar year.

Tuition or medical expenses paid directly to an educational or medical institution for someone else.

Gifts to spouse.

Gifts to a political organization for its use.

Gifts to charities.

Gifts to certain exempt organizations de-scribed in 501(c)(4), 501(c)(5), and 501(c)(6).

Due Date

Form 709 must be filed on or after January 1 but no later than April 15 of the year after the year the gift was made.

Extension to File

There are two methods of extending the time to file the gift tax return. Neither method extends the time to pay the gift or generation-skipping transfer (GST) taxes.

By extending the time to file income tax return. Any extension of time granted for filing a calendar year federal income tax return will also automatically extend the time to file a federal gift tax return. Income tax extensions are made by using Form 4868, Application for Automatic Extension of Time To File U.S. Individual Income Tax Return, or Form 2350, Application for Extension of Time To File U.S. Income Tax Return.

By filing Form 8892. If a taxpayer does not request an extension for his or her income tax return, use Form 8892, Application for Automatic Extension of Time To File Form 709 and/or Payment of Gift/Generation-Skipping Transfer Tax, to request an automatic 6-month extension of time to file a federal gift tax return. In addition to containing an extension request, Form 8892 also serves as a payment voucher (Form 8892-V) for a balance due on federal gift taxes.

Note: Neither method extends the time to pay the gift or GST taxes. If a taxpayer wants an extension of time to pay the gift or GST taxes, he or she must request that separately.

Value of Gift

For calculating gift tax, the value of the gift is its FMV.

Exclusions and Deductions

Annual Exclusion

The first $16,000 of gifts made to any one person during the calendar year (except gifts of future interests in property) is excluded in determining the total amount of gifts for the calendar year.

Education Exclusion

The gift tax does not apply to amounts paid on behalf of an individual to a qualifying domestic or foreign educational organization. The payment must be made directly to the educational organization and it must be for tuition only.

No educational exclusion is allowed for amounts paid for books, supplies, or room and board. Contributions to a qualified tuition program (529 plan) on behalf of a designated beneficiary do not qualify for the educational exclusion. However, if a taxpayer contributed more than $16,000 to a 529 plan on behalf of any one person, the taxpayer may elect to treat up to $80,000 of the contribution for that person as if the taxpayer made it ratably over a 5-year period. The election allows the taxpayer to apply the annual exclusion to a portion of the contribution in each of the 5 years starting with the year of the contribution.

Medical Exclusion

The gift tax does not apply to amounts paid on behalf of an individual to a person or institution that provides medical care. The payment must be made directly to the care provider.

Marital Deduction

A taxpayer can deduct from taxable gifts the value of gifts made to a spouse. To qualify the spouses must be married and the spouse receiving the gift must be a U.S. citizen at the time the gift was made. The spouse making the gift need not be a U.S. citizen. For gifts made to spouses who are not U.S. citizens, the annual exclusion is $164,000 for 2022.

Joint Tenancy

If a taxpayer buys property with his or her own funds and the title to the property is held by the taxpayer and a donee as joint tenants with rights of survivorship, the taxpayer has made a gift to the donee in the amount of half the value of the property.

If the taxpayer creates a joint bank account for himself or herself and a donee, the taxpayer has made a gift to the donee when the donee draws on the account for his or her own benefit. The amount of the gift is the amount that the donee took out without any obligation to repay the taxpayer.

Gift Splitting

A gift made by a person to someone other than a spouse may be considered as made one-half by each spouse. This is known as gift splitting and both spouses must consent to its use.

Requirements

The spouses must be legally married at the time of the gift. If they are divorced during the year, they still may split the gift so long as neither remarries during the year. Both spouses must be citizens or residents of the U.S. on the date of gift.

All Gifts must be Split

If the spouses consent to gift splitting, all gifts made during the year must be split.

Consent

The consent to split gifts cannot be made after a gift tax return has been filed and the due date for filing the return has passed. A married couple cannot file a joint gift tax return. Each spouse must file separate gift tax returns to show that they both agree to use gift splitting. The consent may be revoked, but not after April 15 of the year following the year of the gift.

Annual Exclusion

Spouses who consent to gift splitting can exclude up to $32,000 of gifts to any one person without any gift tax liability. A gift of a future interest (i.e., Restricted right to the gift) does not qualify for the annual exclusion.

Generation-Skipping Transfer Tax (GST)

The GST tax may apply to gifts during a taxpayer's life or transfers occurring at death, called bequests, made to skip persons.

A skip person is a person who belongs to a generation that is two or more generations below the generation of the donor. For instance, a grandchild will generally be a skip person. The GST tax is figured on the amount of the gift or bequest transferred to a skip person, after subtracting any GST exemption allocated to the gift or bequest at the maximum gift and estate tax rates. Each individual has a GST exemption equal to the basic exclusion amount, as indexed for inflation, for the year involved.

Generation Assignment Where Intervening Parent is Deceased

If property is transferred to an individual who is a descendant of a parent of the transferor, and that individual's parent (who is a lineal descendant of the parent of the transferor) is deceased at the time the transfer is subject to gift or estate tax, then for purposes of generation assignment, the individual is treated as if he or she is a member of the generation that is one generation below the lower of:

The transferor's generation or

The generation assignment of the youngest living ancestor of the individual, who is also a descendant of the parent of the transferor.

Forms of GSTs

GSTs have three forms:

Direct skip. A direct skip is a transfer made during the taxpayer's life or occurring at death that is:

Subject to the gift or estate tax,

Of an interest in property, and

Made to a skip person.

Taxable distribution. A taxable distribution is any distribution from a trust to a skip person which is not a direct skip or a taxable termination.

Taxable termination. A taxable termination is the end of a trust's interest in property where the property interest will be transferred to a skip person.

Appendix A - Taxpayer Interest and Penalties

Failure-to-File Penalty

If a return is not filed by the due date (including extensions), taxpayer is subject to a penalty of 5% per month for each month or part of the month that the return is late, but not more than 25%. The penalty is based on the tax not paid by the due date (without regard to extensions). The penalty is based on the tax not paid by the due date (without regard to extensions).

Fraud

If the failure to file is due to fraud, the penalty is 15% for each month or part of a month that the return is late up to a maximum of 75%.

Return over 60 Days Late

If the return is more than 60 days late after the due date or extended due date, the minimum penalty is the smaller of $450 or 100% of the unpaid tax.

Failure-to-Pay Penalty

A penalty of .5% of the unpaid taxes for each month or part of a month, after the due date that the tax is not paid.

This penalty does not apply during the automatic 6-month extension of time to file period if paid at least 90% of actual tax liability on or before the due date of the return and pay the balance when the return is filed. The monthly rate of the failure-to-pay penalty is half the usual rate (.25% instead of .50%) if an installment agreement is in effect for that month. Return must be filed by the due date. (including extensions) to qualify for this reduced penalty. The penalty is increased to 1% per month if a notice of levy is issued.

Combine Penalties

If both the failure-to-file penalty and the failure-to-pay penalty apply in any month, the 5% (or 15%) failure-to-file penalty is reduced by the failure-to-pay penalty. However, if the return is filed more than 60 days after the due date or extended due date, the minimum penalty is the smaller of $450 or 100% of the unpaid tax.

Accuracy-Related Penalty

A taxpayer is subject to an accuracy-related penalty if the underpayment of tax is because of one of the following:

Negligence or disregard of the rules or regulations. Failure to make a reasonable attempt to comply with the tax law or to exercise ordinary and reasonable care in preparing a return. Negligence also includes failure to keep adequate books and records.

Substantially understate income tax. The understatement is substantial if it is more than the larger of 10% of the correct tax or $5,000.

Claimed tax benefits for a transaction that lacks economic substance.

Failure to disclose a foreign financial asset.

The penalty is equal to 20% of the underpayment. The penalty is 40% of any portion of the underpayment that is attributable to an undisclosed noneconomic substance transaction or an undisclosed foreign financial asset transaction. The penalty will not be figured on any part of an underpayment on which the fraud penalty is charged.

Fraud

If there is any underpayment of tax on the return due to fraud, a penalty of 75% of the underpayment due to fraud will be added to the tax owed. The fraud penalty on a joint return does not apply to a spouse unless some part of the underpayment is due to the fraud of that spouse.

Frivolous Return

The penalty for filing a frivolous return is $5,000. A frivolous return is one that does not include enough information to figure the correct tax or that contains information clearly showing that the tax reported is substantially incorrect.

Failure to Supply Social Security Number

If the taxpayer does not include his or her SSN or the SSN of another person where required on a return, statement, or other document, the taxpayer will be subject to a penalty of $50 for each failure. The taxpayer will also be subject to a penalty of $50 if the taxpayer does not give his or her SSN to another person when it is required on a return, statement, or other document.

Criminal Penalties

A taxpayer may be subject to criminal prosecution (brought to trial) for actions such as:

Tax evasion.

Willful failure to file a return, supply information, or pay any tax due.

Fraud and false statements.

Preparing and filing a fraudulent return.

Identity theft.

Criminal convictions may result in fines up to $250,000 and/or up to five years in prison for each offense.

Appendix B - Forms and Schedules at a Glance

Tax Return Exemptions

Form 8332 - Release/Revocation of Release of Claim to Exemption for Child by Custodial Parent

Form 1040 or 1040-SR Schedules 1

Schedule 1 - Additional Income and Adjustments to Income

Part l - Additional Income:

Taxable refunds, credits, or offsets of state and local income taxes

Alimony received

Business income or (loss) from Schedule C

Other gains or (losses) from Form 4797

Rental real estate, royalties, partnerships, S corporations, trusts, etc from Schedule E

Farm income or (loss) from Schedule F

Unemployment compensation

Other income

Part ll - Adjustments to Income:

Educator expenses

Certain business expenses of reservists, performing artists, and fee-basis government officials from Schedule 2106

Health savings account deduction from Form 8889

Moving expenses for members of the Armed Forces from Form 3903

Deductible part of self-employment tax

Self-employed SEP, SIMPLE, and qualified plans

Self-employed health insurance deduction

Penalty on early withdrawal of savings

Alimony paid

IRA deduction

Student loan interest deduction

Schedule 2 - Additional Taxes

Part l - Tax:

Alternative minimum tax from Form 6251

Excess advance premium tax credit repayment from Form 8962

Part ll - Other Taxes

Self-employment tax from Schedule SE

Unreported social security and Medicare tax from:

Form 4137 - Social Security and Medicare Tax On Unreported Tip Income

Form 8919 - Uncollected Social Security and Medicare Tax on Wages

Additional tax on IRAs, other qualified retirement plans, and other tax-favored accounts

Household employment taxes from Schedule H

Repayment of first-time homebuyer credit from Form 5405

Additional Medicare Tax from Form 8959

Net Investment Income Tax from Form 8960

Uncollected social security and Medicare or RRTA tax on tips or group-term life insurance from Form W-2, box 12

Schedule 3 - Nonrefundable Credits

Part l - Nonrefundable Credit

Foreign tax credit

Credit for child and dependent care expenses. Attach Form 2441

Education credits from Form 8863, line 19

Retirement savings contributions credit from Form 8880

Residential energy credit from Form 5695

Other credits from:

Form 3800 - General Business Credit

Firm 8801 - Credit for Prior Year Minimum Tax

Form 8839 - Adoption Credit

Schedule R - Credit for the Elderly or Disabled

Form 8910 - Alternative motor vehicle Credit

Form 8836 - Qualified Plug-in Motor Vehicle Credit

Form 8396 - Mortgage Interest Credit

Form 8834 - Qualified Electric Vehicle Credit

Schedule 3 - Other Payments and Refundable Credits

Part ll - Other Payments and Refundable Credits

Net premium tax credit from Form 8962

Amount paid with request for extension to file

Excess social security and tier 1 RRTA tax withheld

Credit for federal tax on fuels from Form 4136

Credit for qualified sick and family leave wages paid in 2022 from Schedule(s) H for leave taken before April 1, 2021

Credit for repayment of amounts included in income from earlier years

Deferred amount of net 965 tax liability

Credit for qualified sick and family leave wages paid in 2022 from Schedule(s) H for leave taken after March 31, 2021, and before October 1, 2021

Qualified sick and family leave credits from Schedule(s) H and Form(s) 7202 for leave taken after March 31, 2021

Other payments or refundable credits

Income

Schedule B - Interest and Ordinary Dividends

Schedule D - Capital Gains and Losses

Form 8949 - Sales and Other Disposition of Capital Assets

Schedule E - Supplemental Income and Loss (from rental real estate, royalties, partnerships, S corporations, estates, trusts, REMICs, etc.)

Form 4797 - Sales of Business Property

Business Income or Loss

Schedule C - Profit or loss From Business

Schedule F - Profit or Loss From Farming

Form 4562 - Depreciation and Amortization

Form 8829 - Expenses for Business Use of Your Home

Form 8582 - Passive Activity Loss Limitations

Form 8594 - Asset Acquisition Statement Under Section 1060

Form 8995 - Qualified Business Income Deduction Simplified Computation

Form 8995-A - Qualified Business Income Deduction

Adjustments to Gross Income

Form 8889 - Health Savings Account (HSAs)

Form 3903 - Moving expenses for members of the Armed Forces

Form 2106 - Certain business expenses of reservists, performing artists, and fee-basis government officials

Schedule SE - Deductible part of self-employment tax

Itemize Deductions

Schedule A - Itemize Deductions

Form 4952 - Investment Interest Expense Deduction

Form 4684 - Casualties and Thefts

Form 8283 - Noncash Charitable Contributions

Qualified Business Income Deduction

Form 8995 - Qualified Business Income Deduction Simplified Computation

Form 8995-A - Qualified Business Income Deduction

Credits

Schedule EIC - Earned Income Credit

Form 8867 - Paid Preparer's Earned Income Credit Checklist

Schedule R - Credit for the Elderly or the Disabled

Form 2441 - Child and Dependent Care Expenses

Form 8863 - Education Credits (American Opportunity and Lifetime Learning Credits)

Schedule 8812 - Child Tax Credit

Form 8801 - Credit for Prior Year Minimum Tax - Individuals, Estate, and Trusts

Form 1116 - Foreign Tax Credit (Individual, Estate, or Trust)

Form 8839 - Qualified Adoption Expenses

Form 5695 - Residential Energy Credit

Form 8880 - Credit for Qualified Retirement Savings Contribution

Form 8962 - Premium Tax Credit

Taxes

Schedule SE - Self-Employment Tax

Form 4137 - Social Security and Medicare Tax On Unreported Tip Income

Form 5329 - Additional Taxes on Qualified Plans (Including IRAs), and Other Tax-Favored Accounts

Form 5405 - Repayment of the First-Time Homebuyer Credit

Form 6251 - Alternative Minimum Tax - Individuals

Form 2210 - Underpayment of Estimated Tax By Individuals, Estates, and Trusts

Schedule H - Household Employment Taxes

Form 8615 - Tax for Certain Children Who Have Unearned Income

Form 8814 - Parent’s Election To Report Child’s Interest and Dividends

Form 8959 - Additional Medicare Tax

Form 8960 - Net Investment Income Tax - Individuals, Estates, and Trusts

Refunds

Form 8888 - Allocation of refund (Including Savings Bond Purchases)

Form 1040X - Amended U.S. Individual Income Tax Return 

Form 843 - Claim for Refund and Request for Abatement 

Form 1045 - Application for Tentative Refund (used for NOL carrybacks)

Taxes Owed

Form 9465 - Installment Agreement Request

Electronic Filing

Form 8453 - U.S. Individual Tax Transmittal for an IRS e-file Return

Form 8879 - IRS e-file Signature Authorization

Reporting Forms

Form W-2 - Wage and Tax Statement

Form 1099-INT - Interest Income

Form 1099-DIV - Dividends and Distributions

Form 1099-MISC - Miscellaneous Income

Form 1099-NEC - Nonemployee Compensation

Form 1099-B - Proceeds From Broker and Exchange Transactions

Form 1099-C - Cancellation of Debt

Form 1099-G - Certain Government Payments (Unemployment compensation, State or local income tax refunds or credits, and Taxable grants)

Form 1099-Q - Payments From Qualified Education Programs

Form 1099-R - Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.

Form 1099-S - Proceeds From Real Estate Transactions

Form 1099-SA - Distributions From an HSA, Archer MSA, or Medicare Advantage MSA

Form SSA-1099 - Social Security Benefit Statement

Form 1098 - Mortgage Interest Statement

Form 1098-C - Contributions of Motor Vehicles, Boats, and Airplanes

Form 1098-E - Student Loan Interest Statement

Form 1098-T - Tuition Statement

Form 1041 (Schedule K-1) - Beneficiary's Share of Income, Deductions, Credits, etc.

Form 1065 (Schedule K-1) - Partner's Share of Income, Deductions, Credits, etc.

Form 1120-S (Schedule K-) - Shareholder's Share of Income, Deductions, Credits, etc. (from S Corporations)

Phoenix Tax Group Refund Policies

30 Day Refund

If you are not satisfied with any of our products, you can return them for a full refund, excluding shipping and handling charges.

A refund must be requested within 30 days of purchase, and all hardcopy materials must be returned in the original box. No credit will be given for any materials marked on, missing or damaged in any way. To request a refund, fill out the Refund Request form at the link below.

Pass Guarantee Refund

The Pass Guarantee applies only to products designated as "Packages."

To receive a refund, you must have taken and failed a test or exam twice.

You must provide your failed scores for both failed exams by filling out the online Refund Request Form (see link below). This must be done within 30 days of the second failed exam.

Hard copy materials must be returned within 30 days of the second failed exam.

If you purchased Enrolled Agent study materials together in a 3 part package, refunds will be pro-rated for the part being returned.

The refund will only apply to the person who purchased the study materials from The Phoenix Tax Group. The refund policy does not apply to companies purchasing study materials for employees.

Instructions

To ensure proper credit, please fill out our online refund request form.

http://www.phoenixtax.com/about/refunds

Evaluation

Enrolled Agent Exam Study Package Survey

We feel we have the best and most comprehensive enrolled agent exam preparatory materials available. However, we are always looking for ways to improve. We would appreciate it if you would take a moment to complete our online evaluation at:

http://www.PhoenixTax.com/ea_survey

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