ACCT-4021EL Lecture Notes - Lecture 10: Double Taxation, Income Splitting

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3 Dec 2018

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Non- arm"s length transactions close encounters of a tax kind! some very unkind tax consequences. It is therefore; very important to know who you are. Transactions involving taxpayers who do not deal with each-other at arm"s length, can have. Find yourself in the following chart and think of all those people that you are not at arm"s length with! Your spouse"s brothers & sisters & their spouses. If property is sold below fmv, then the taxpayer is deemed to have sale proceeds equal to the fmv, and the acb to the new owner is the actual purchase price. If property is sold above fmv, and the taxpayer is deemed to have sold the property for the actual sales price, then the acb to the new owner is fmv. Only the gifting scenario does not result in some degree of double taxation!

Related Questions

First discussion question

Read the belowAICPA article.

President Barack Obama releasedhis last proposed budget, for the governmentâs 2017 fiscal year,on Tuesday February 9. Itcontains tax provisions affecting education, health care, andretirement, as well as proposing extensive changes affectingbusinesses. Many of the changes and areas should now be familiar toyou - Sec. 179, reducing tax benefits for high-income taxpayers,simplified accounting for small businesses, incentives to bringjobs back to America, and last week's discussion of foreign earnedincome for corporations.

Pick a few of the proposals youagree with, plus several you disagree with, and discuss thereasons?

Second Final Question<

First, there is no such thing asa tax "loophole" - they are called deductions. Remember that ALLincome is taxable, unlessspecifically excluded by law. And ALL expenses are disallowedunless specifically included by law.

We have a tax system that triesto modify taxpayer behavior by changing the tax rates on income,and by allowing or disallowing certain types of deductions. But ourtax system is not collecting enough revenue to cover governmentexpenditures. Some think corporations are paying too much, but ifthey don't pay, then the individual taxpayer has to pay. However,as we now know, the individual taxpayer already carries themajority of the tax burden, and if the wealthiest don't pay theirfair share, the middle and lowest earners have to pay. The bottomline is someone has to pay - the question is how to make thatequitable. Is it as simple as having a flat tax forindividuals?

AICPAARTICLE

Presidentâs budget proposes manytax changes By Alistair M. Nevius, J.D. February 9, 2016President Barack Obama released hislast proposed budget, for the governmentâs 2017 fiscal year, onTuesday. It contains tax provisions affecting education, healthcare, and retirement, as well as proposing extensive changesaffecting businesses. The budget presents a wish list of changesthe administration would like to see enacted; however, theRepublican-held Congress is unlikely to support much of thepresidentâs plan. Among the many proposed tax changes are thefollowing: Earned income tax credit The budget proposes expandingthe Sec. 32 earned income tax credit for taxpayers who do not havea qualifying child (including noncustodial parents). The amount ofthe credit available to these taxpayers would increase to roughly$1,000. The credit would also be made available to workers who areages 21â24 and ages 65 and 66. It also would create a newsecond-earner tax credit of up to $500 for married couples in whichboth spouses work. The credit would be phased out for couples whoseadjusted gross income (AGI) exceeded $120,000. Child and dependentcare credit The budget would essentially triple the amount of thechild and dependent care credit to $3,000 per child for familieswith children under the age of 5. It would also increase thephasedown limit so that it does not apply to taxpayers with annualAGI of less than $120,000. (The credit is currently phased down fortaxpayers with AGI above $15,000.) However, the budget would alsoeliminate flexible spending accounts for child care expenses.Education credits The budget proposes folding the Sec. 25A lifetimelearning credit into the American opportunity tax credit. It wouldalso expand the American opportunity tax credit to make itavailable for five years and refundable up to $1,500. (Currently,it is available for four years and is refundable up to $1,000.)Pell Grants would be exempt from taxation and from the Americanopportunity tax credit calculation, and student loan forgivenesswould no longer be considered to result in taxablecancellation-of-debt income. Community colleges The budget wouldcreate a new $5,000 tax creditâcalled the community collegepartnership tax creditâfor employers that help community collegesfill their investment shortfalls and that hire qualifying communitycollege graduates. Presidentâs budget proposes many tax changesPage 1 of 4http://www.journalofaccountancy.com/news/2016/feb/budget-proposes-many-tax-changes-201613856.html2/10/2016 The budget calls for funding of a program calledAmericaâs College Promise that would create a federal-statepartnership to make two years of community college free. Retirementsavings The proposed budget includes a number of proposals that aredesigned to increase access to retirement plans and to makeportability of retirement savings and benefits easier. Theseinclude requiring employers with more than 10 employees that do notoffer a retirement plan to automatically enroll their employees inan IRA. Businesses with fewer than 100 employees would get taxcredits of up to $4,500 for offering automatic IRA enrollment.Reducing tax benefits for high-income taxpayers The budget wouldlimit the value of certain deductions and exclusions from AGI andall itemized deductions. The proposal would reduce to 28% of thevalue of the specified exclusions and deductions that wouldotherwise reduce a taxpayerâs taxable income in the 33%, 35%, or39.6% tax brackets. The definition of net investment income wouldbe expanded to include gross income and gain from any trades orbusinesses of an individual that is not otherwise subject toemployment taxes. The budget also proposes an implementation of theso-called Buffett rule (called a âFair Share Taxâ in the budget),which would require high-income taxpayers to pay at least a 30% taxrate (after charitable contributions). Capital gains tax Under thebudget, the maximum capital gains tax rate would increase to 28%(inclusive of the 3.8% net investment income tax). It would alsoeliminate basis step-ups on gifts and bequests by treatingtransfers of appreciated property as a sale, so that the donor or deceased owner wouldrealize a capital gain on the transfer. The budget would also taxcarried interests at ordinary income tax rates instead of ascapital gain. Corporate tax reform The budget would cut thecorporate tax rate to 28%. It would also impose a 19% minimum taxon foreign earnings, which would be imposed when the earnings areearned. As a transition to the minimum tax, previously untaxedforeign income would be subject to a one-time 14% tax. The budgetwould also provide further rules against earnings stripping andcorporate inversions. Incentives to bring jobs to the United StatesThe budget proposes to provide a tax credit equal to 20% ofeligible expenses to businesses that reduce or eliminate a line ofbusiness currently conducted overseas and start up, expand,or otherwise move the same trade orbusiness to the United States. Sec. 179 expensing The budgetproposes increasing the maximum Sec. 179 expensing limitation to $1million and to index it for inflation (the phaseout threshold wouldremain $2 million, indexed for inflation). Simplified accountingfor small business Presidentâs budget proposes many tax changesPage 2 of 4http://www.journalofaccountancy.com/news/2016/feb/budget-proposes-many-tax-changes-201613856.html2/10/2016 The proposed budget would create a uniform small businessaverage annual gross receipts threshold of $25 million for allowingexceptions from certain accounting rules. Eligible businesses wouldbe allowed to use the cash method, avoid the uniform capitalizationrules, and use an inventory accounting method that either conformsto their financial accounting method or otherwise properly reflectsincome. Startup expenses Under the budget proposal, the limit ondeductible startup expenses would be increased to $20,000 (from$5,000). This amount would be reduced (but not below zero) by theamount by which those expenditures exceed $20,000 (currently$50,000). Research credit The budget would do away with the currentbifurcated Sec. 41 research credit, under which eligible taxpayerscan claim either a 20% regular credit or a 14% simplified credit.Instead, the budget proposes to create a single formula with acredit worth 18%. Increase intobacco tax The budget would increase taxes on tobacco to fund aninitiative to expand access to preschool and to expand homevisiting programs by nurses, social workers, and otherprofessionals. Clean energy The budget would simplify, expand, andmake permanent several tax incentives for clean energy investment.It would also create two new tax credits to provide an incentivefor commercial deployment of carbon capture, utilization, andstorage. The budget would also eliminate $4 billion a year in taxsubsidies to oil, gas, and other fossil fuel producers. Cadillactax The budget proposes changes to the Sec. 4980I excise taxon high-cost employer-sponsored health coverage (known as theCadillac tax). The Cadillac tax has been the focus of repealefforts in Congress, and the recently enacted ConsolidatedAppropriations Act, 2016, P.L. 114-13, postponed its effective dateto 2020. (It was originally scheduled to take effect in 2018.)Under the proposal, the threshold above which the tax applies wouldbe modified to be equal to the greater of the current law thresholdor the average premium for a marketplace gold plan in each state.This is designed to protect employers from paying the tax justbecause they are in a high-cost state. Estate tax The budgetproposes to revert the estate tax to its form in 2009, with a 45%tax rate, a $3.5 million exclusion amount for estate andgeneration-skipping transfer tax purposes, and a $1 million gifttax exclusion (with no indexing for inflation). The budget wouldalso expand the property subject to the new basis reportingconsistency requirement under Sec. 1014(f) to include propertyeligible for the estate tax marital deduction and gifts required tobe reported on a federal gift tax return. Oil tax Presidentâsbudget proposes many tax changes Page 3 of 4http://www.journalofaccountancy.com/news/2016/feb/budget-proposes-many-tax-changes-201613856.html2/10/2016 The budget proposes a $10.25-per-barrel âfeeâ on oil. TheOffice of Management and Budget estimates that this provision wouldraise $319 billion over 10 years.

erinduck149

It is now late May 2018 and you, CPA, have just finished meetingwith your partner, Ms. Wong. Ms. Wong wants your help with someclients of hers.

One client, Garden Supplies Co. (GSC) has had a new shareholderbuy shares. Ms. Wong wants you to tell her if GSC is a resident ofCanada for tax purposes in 2018 and describe the personal taxconsequences that Mrs. Gardiner will have from her 2018 share sale.You can ignore the acquisition of control rules. Also, given thelist of GSCâs 2018 expenditures in Exhibit I, calculate the total2018 expenses that are deductible in 2018 when computing net incomefor tax purposes. GSC is very profitable and wants to claim themaximum amount of deductions possible. You do not need to commenton non-deductible items.

Note: Additional information about GSC is provided in ExhibitI.

Another client, Mr. Rich, who is a non-resident of Canada, hasjust purchased a newly built townhouse in Canada for $1,500,000that he plans to rent out. The home was purchased on May 1, 2018and will be rented out starting on July 1, 2018. What Canadianincome tax obligations will Mr. Rich face in 2018? If you have anyrecommendations that will reduce Mr. Richâs Canadian income taxobligations (in 2018 or in future years) with respect to his rentalproperty, then you should provide them. Additional informationabout Mr. Rich is provided in Exhibit II.

Ms. Wong wants you to draft a memo to her answering herquestions. She says you can ignore provincial income taxes, ignoreforeign taxes and ignore any income tax treaties. Explain youranswers, show all your detailed calculations and give IncomeTax Act (ITA) section, subsection and paragraph (whereapplicable) references and Income Tax Regulations sectionand subsection references in order to support your answers. Whengiving references you must be specific. Do not just list multiplereferences!

Exhibit I

Garden Supplies Co.

Garden Supplies Co (GSC) is a private company that wasincorporated in Canada in 1963 by Mr. Taft. Mr. Taft subscribed for1,000 common shares in return for $100 (in aggregate). GSC does nothave any other shares outstanding

GSC has a December 31^st year-end and its board ofdirectors meetings are typically held in the United States(U.S.)

GSC operates gardening supply stores in Canada and it startedwith one store in Toronto in 1963. Now it has 10 stores throughoutCanada

In 2005, Mr. Taft sold his shares to Mrs. Gardiner for $1M inaggregate (which was their FMV at the time)

In late January 2018, Mrs. Gardiner sold 600 of her GSC commonshares for $3,000 per share to Marcus Jones, an armâs length person(she still owns 400 common shares of GSC)

In January 2018, Mrs. Gardiner paid $3,500 to a charteredbusiness valuator to value her GSC shares and paid $2,500 in legalfees related to her sale of GSC shares

The FMV of GSC was determined to be $3M

Mrs. Gardiner incurred $300 of safety deposit box rental fees in2018 and she keeps her GSC share certificates in her safety depositbox

Assume GSC is not a qualified small business corporation

Marcus Jones is a non-resident of Canada

In 2018 GSC incurred the following expenditures:

Income taxes paid of $124,500

Salary and wages expense paid of $390,000

In addition, GSC accrued a bonus payable to Mrs. Gardiner of$70,000 for work performed in 2018. This bonus will not be paiduntil May 31, 2019

Interest expense paid of $5,000 on a bank loan used to financebusiness operations

Dividends paid to shareholders of $55,000

Warranty expense accrued of $25,000 (based on estimated warrantycosts). The actual cost in 2018 of servicing warranties was$20,000

Purchased new shelving units to display merchandise on April 1,2018 for $200,000

Purchased new computer software for $3,000 on January 1,2018

Purchased goodwill for $40,000 as part of a business acquisitionon January 1, 2018

Purchased a patent, with an 18-year legal life remaining onDecember 31, 2018 for $10,000

Accrued office supply expenses of $12,000, for suppliespurchased (and used) in late 2018. Payment of this account payablewas made in early 2019

Paid $7,000 for Toronto Blue Jays (baseball) tickets used totake large customers out to games

Incurred $4,000 of legal fees related to obtaining bankfinancing, and

Incurred lobbying expenses of $1,300 for matters related to thebusiness

Assume all expenditures are reasonable unless otherwiseindicated

Assume the prescribed interest rate is 1% at all times

Exhibit II

Mr. Rich

Mr. Richâs rental income is property income; i.e., he is notrunning a business

Mr. Rich wants to minimize his Canadian rental income and hedoes not have any other Canadian income

Mr. Rich has prepared the following (assume that all theexpenses below are paid in 2018 and are reasonable):

Mr. Richâs Canadian Rental Income

For the year-ended December 31, 2018

Gross rental revenue ($4,000 permonth) $24,000

Mortgage interest ($2,200 permonth) $13,200

Property taxes ($610 permonth) $3,660

Maintenance and repairs ($500 permonth) $3,000

Insurance ($200 permonth) $1,200

Total expenses $21,060

Netincome $2,940

coffeealpaca338

Alice J. and Bruce M. Byrd are married taxpayers who file a joint return. Their Social Security numbers are 123-45-6789 and 111-11-1112, respectively. Aliceâs birthday is September 21, 1969, and Bruceâs is June 27, 1968. They live at 473 Revere Avenue, Lowell, MA 01850. Alice is the office manager for Lowell Dental Clinic, 433 Broad Street, Lowell, MA 01850 (employer identification number 98-7654321). Bruce is the manager of a Super Burgers fast-food outlet owned and operated by Plymouth Corporation, 1247 Central Avenue, Hauppauge, NY 11788 (employer identification number 11-1111111). The following information is shown on their Wage and Tax Statements (Form Wâ2) for 2016.

Line Description

Alice Bruce 1 Wages, tips, other compensation $58,000 $62,100

2 Federal income tax withheld 4,500 6,300

3 Social Security wages 58,000 62,100

4 Social Security tax withheld 3,596 3,850

5 Medicare wages and tips 58,000 62,100

6 Medicare tax withheld 841 900

15 State Massachusetts Massachusetts

16 State wages, tips, etc. 58,000 62,100

17 State income tax withheld 2,950 3,100

The Byrds provide over half of the support of their two children, Cynthia (born January 25, 1992, Social Security number 123-45-6788) and John (born February 7, 1996, Social Security number 123-45-6786). Both children are full-time students and live with the Byrds except when they are away at college. Cynthia earned $4,200 from a summer internship in 2016, and John earned $3,800 from a part-time job. During 2016, the Byrds provided 60% of the total support of Bruceâs widower father, Sam Byrd (born March 6, 1940, Social Security number 123-45-6787). Sam lived alone and covered the rest of his support with his Social Security benefits. Sam died in November, and Bruce, the beneficiary of a policy on Samâs life, received life insurance proceeds of $1,600,000 on December 28. The Byrds had the following expenses relating to their personal residence during 2016:

Property taxes $5,000

Qualified interest on home mortgage 8,700 Repairs to roof 5,750

Utilities 4,100

Fire and theft insurance 1,900

The Byrds had the following medical expenses for 2016:

Medical insurance premiums $4,500

Doctor bill for Sam incurred in 2015 and not paid until 2016 7,600

Operation for Sam 8,500

Prescription medicines for Sam 900

Hospital expenses for Sam 3,500

Reimbursement from insurance company, received in 2016 3,600

The medical expenses for Sam represent most of the 60% that Bruce contributed toward his fatherâs support. Other relevant information follows:

â¢ When they filed their 2015 state return in 2016, the Byrds paid additional state income tax of $900.

â¢ During 2016, Alice and Bruce attended a dinner dance sponsored by the Lowell Police Disability Association (a qualified charitable organization). The Byrds paid $300 for the tickets. The cost of comparable entertainment would normally be $50.

â¢ The Byrds contributed $5,000 to Lowell Presbyterian Church and gave used clothing (cost of $1,200 and fair market value of $350) to the Salvation Army. All donations are supported by receipts, and the clothing is in very good condition.

â¢ Alice and Bruce made a gift to a needy family who lost their home in a fire ($100). In addition, they made several cash gifts to homeless men downtown ($35).

â¢ In 2016, the Byrds received interest income of $2,750, which was reported on a Form 1099âINT from Second National Bank, 125 Oak Street, Lowell, MA 01850 (Employer Identification Number 98-7654322). The mortgage (outstanding balance of $425,000 as of January 1, 2016) was taken out by the Byrds on May 1, 2012.

â¢ Aliceâs employer requires that all employees wear uniforms to work. During 2016, Alice spent $850 on new uniforms and $566 on laundry charges.

â¢ Bruce paid $400 for an annual subscription to the Journal of Franchise Management and $741 for annual membership dues to his professional association.

â¢ Neither Aliceâs nor Bruceâs employer reimburses for employee expenses.

â¢ The Byrds do not keep the receipts for the sales taxes they paid and had no major purchases subject to sales tax.

â¢ All members of the Byrd family had health care coverage for all months of 2016.

â¢ This year the Byrds gave each of their children $2,000, which was then deposited into their Roth IRAs.

â¢ Alice and Bruce paid no estimated Federal income tax.

Neither Alice nor Bruce wants to designate $3 to the Presidential Election Campaign.

Tax Computation:

Compute net tax payable or refund due for Alice and Bruce Byrd for 2016. If they have overpaid, they want the amount to be refunded to them. If you use tax forms for your computations, you will need Forms 1040 and 2106 and Schedules A and B.

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ACCT-4021EL Lecture Notes - Lecture 10: Double Taxation, Income Splitting

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