Tax Treatment of Issues - Income Tax Law - Solved Exam, Exams of Law

Download Tax Treatment of Issues - Income Tax Law - Solved Exam and more Exams Law in PDF only on Docsity! ID: (Exam Number) Exam Name: Federal Income Taxation Spring 2008 Instructor: NA Kim Stanley Grade: 1) Part ll: Essay Question Dear Sebastian, Below you will find my examination of your tax liability for the 2008 tax year. | have decided to proceed item by item and discuss with you the legality of you taking deductions for various elements of your work and personal life. In order for you to best understand the way in which the tax system works, itis advised that you keep the following oradmap in mind. It is the system by which one calculates their taxes which are owed, and is the order in which | have decided to take the discussion of your past year's activities. Start with: Gross Income Minus: Deductions (Greater of Itemized or Standard) Minus: Exemptions Equals: Taxable Income Apply: Rate of Taxation (You will be filing as single under IRC §1 rates for 2008) Equals: Tax Liability Factor in: Capital Gains x Capital Gains Rate (add this), OR Capitall Losses (Only up to a certain amount can be used against normal Gross Income Total) Less: Tax Credits Equals: Amount of Taxes Owed Keeping that in mind, let us first start with a discussion of what you gross income O "necessary and ordinary" under the meaning of the Code. In interpreting the code, the courts have typically tried to apply the cammon usage of the two terms when determining if an expense is "necessary and ordinary" in the carrying on of the trade or business. In Heivering v. Welch the court stated that a "necessary" expense was one which was helpful and appropriate to the business. They also interpreted "ordinary" did not necessarily mean regular or habitual expenses, but meant normal, common, or accepted expenses in the course of that type of business. Here, we have an issue. For the seeking of your lodging in connection with your position at HSFA, while arising because of your new job, does not seem to be "necessary and ordinary" in carrying on the business of being a professor. All employees, regardless of where they are working, require as a personal necessity to have a place to live. Unless you can show that something in the nature of your new apartment is specifically tailored to your teaching position, it is unlikely the Service will view it as a deductible business expense under §162. There is an alternative route to deducting the expense however, which | think is impartant to paint out ta you. You could attempt to deduct the aparment cost of 24K for the year (2K/mo for 12 mo) under the theory of business expenses which take the form of travel and lodging expenses. This has been a tricky area for the courts to navigate, but the basic test is this. In order to qualify for the deduction, the expenses must be reasonable and necessary, must be incurred while away from home, and must be incurred in the pursuit of business. The issue of whether the apartment rental cost can be considered to have been incurrad in pursuit of business can probably be satifactorily argued, You had to establish housing for yourself in order to take the job at HSFA. As for reasonable and necessary, much the same logic applies. It is necessary because you need a place to stay, as your original home inb Leland is some 1,000mi away. The issue Y of reasonable will have to do with what the standard rent rate is near the HSFA campus. lf $2K par month is an extravagant amount of rent to be paying, then you might run into some problems with the establishing that it was "reasonable". However, in my experience, many apariments in university towns, especially well known ones, could easily cost that much, so | wouldn't be surprised if this is a reasonable rate. The last, and most difficult hurdle, will be to show that you are indeed "away from home". This is problematic, because typically "away from home" for the deduction of business related travel expenses is considered to be synonomaus with being away from one's “principal place of business". The Service is going to argue that since you have retired, you no langer have a “principal place of business" to move away from, and that your new apartment near HSFA has effectively become that "principal place of business". Leland will no longer qualify, because while you may retain a personal attachment there (in the form of a residence with your ex-wife which is about to ba sold), it has little to do with your "business", The court in Flowers, did not allow the taxpayer to deduct travel expenses incurred in going from his home to Mobile, Al because it was his personal choice to keep a "home" in another location and to not relocate to be nearer to the site of his ongoing job. This rule could very well be applied to your situation, because of the fact that it would be expected of you to relocate to be nearer to HSFA, and any expenses incurred in having a "temporary" residence there are of your own chasing. However, there is one more possibility far you to look at. Revenue Ruling 99-7 recognizes some exceptions to the rule of nat allowing deductions for travel expenses between one's residence and a work location. Assuming for the moment that you insist on labeling Leland as your residence, because you still own an interest in your mansion there, and you have lived there for many years, we must look to see if you satisfy the requirements for qualifying for one of the exeptions @ wile under RR 99-7. Your best option is the first possible exception under the rule: lf you are commuting between your residence and a "temporary" work location outside of the metropolitan areas where you typically live and work (Leland as you would argue it), then you may deduct. The Rule defines "temporary" as a employment which is realistically expected to last for one year or less, and in fact does so. Here, you have contracted with HSFA for a teaching stint which cavers ten (10) months out of the year (nde tie Even if you call it the full 2008 year, you would fall within the time restaraint of he Rule \eo(m ay Also, you are clearly leaving the metropolitan area of Leland when you travel ~1,000mi Yule | q me" (5 The trick here, will be to prove that Leland will remain your primary home. The best way ieee ) to arque this is by asserting that you still pay for the upkeep and maintenance of your a mansion there, and you intend to return to that area after your (One Year) stint as @ uF a visiting professor at HSFA is up. If you can do this, you may be able to deduct the eo entirety of the 24K as duplicated living expenses in the pursuit of business under §162 duct The next thing which must be looked at is whether you can write off at least the ee ? second bedroom, and the furnishing thereof, as a business related expense. The general rule is that if one maintains a home office, it only qualifies as a deductible business expense if it meets one of three situations. It must either be the pricipal place of business for any trade or business of the taxpayer, a place of business that is used by patients, clients, etc for meetings, or in the case of a separate ernie, used exclusively in the pursuit of a trade or business. For obvious reasons, the separate structure option will not be helpful to you. The fact that you use the University provided offices for meeting with your students will also preclude you from using the second option of it being a "meeting place”, This leaves us with the first option which IRC §280A provides. Namely, that it is the principal place of business. There is a two prong tast here. First, on determing if it is the principal place of business it is dependant upon the relative Y were not actually using the office at thal time As for the furniture and computer equipment, there might be another issue. You may not be allowed the full deduction (of the apportioned $1,500) for these items for 2008, because they may be considered to be capital expenditures, and not assets. If this is the case, you will only be able to take a depreciation deduction in the amount allowed e iy in IRC §168. The computer might fall under §168(e)(3)(B)tiv) [qualified technilogical \ : equipment]. And if so, it would be classified as a Syr property, and the depreciable deduction would accordingly have to be determined based on the required ACRS of §168. In addition, if we find that the "family pass" tickets prices are deductible, then those amounts spent for the trips back to Leland in relation to the appraisal business will also be deductible as travel expenses under §212. Let us now turn to the issue of the professional conference held in Hawaii which you have been attending for the past 30 years. The general rule is that travel expenses related to education (if that education is connected with a pre-existing business) can be deducted when: the educational expense related to business fulfills the five requirements for qualifying as a business expense nder §162. and if the taxpayer is away from home ind educdhim primarily to obtain the education (Treas. Ru oo v4e2-s(e), foods v. Commissioner the court found in favor of a taxpayer who attended a conference which helped to keep him abreast of Federal Tax Law issues which were his specialty. Here, you can argue that the national conference provides you with the same opportunity. However, the fact that you are staying at such a noce hotel might be considered to be an extravagant expense, and that portion ($2,500) of the tatal cost (54,000) will most likely be non- deductible, meaning that you will only be able to deduct $1,500 of the total cost incurred when you went to the conference under §162. @ The last area that we must examine in relation to your §162/§212 deductions are the cost of your airline tickets which you have recieved fram your nephew's "family pass" option. The first thing to look at, is whether these tickets fall into the category of fringe fem employment benefits which can avoid being included in gross income. Since your we nephew transferred the property interest in ther to you, they would be counted as be sy First the question of whether the "family passes” are legitimate employee fringe income towards you. Then we must look at what portion, if any, of the $2,000 (10 roundtrip flights at $200 a trip) can be deducted as business expenses. benefits which can be excluded from your nephew, and in turn your income for 2008. In order for a fringe benefit to be excluded from gross income, it must: SEE OUTLINE BELOW. Secondly, we can assume that only the portion of those airline tickets which you used in conjunction with you appraisals can be deducted (under §212). For arguments sake, we will suppose that half of your trips were-for this purpose. Meaning that only $1,000 worth of tickets are deductable. The trying of a case of divorce is not covered by 212. Okay, let's review what we know so far regarding your tax liability and what you owe for the 2008 tax year Sebastion. Using the formula | described earlier, let's plug in some information: Start with: Gross Income: $160,000 (HSFA + Appraisor Incomes) Minus: Deductions and Exemptions: $6,500/ $28,000 ("Home Office’(alternatively entire apartment) + "airfare" + “conference” + "equipment". the first figure is the conservative version, in which you do not qualify for the deduction of the entire $24K for the HSFA related apariment) Equals: Taxable Income: $153,500/$132,000 Apply: Rate of Taxation: ($33,385 + 36% of excess over $127,000) Equals: Tax Liability: $41,885/ $34,385 Now that we have calculated your basic tax liability, we must quickly asses the best way to handle your Capital Gains/Losses. You will want to maximize the loss regarding your capital assets so that you may take a loss, and therefor deduct it against your total taxes owed. The best way to do this, is to look at which version of transferring paintings would get you a gain. If you give the 5 paintings to your wife, which total rete $100K, then you would end up having a long term capital gain since you have held them aD os 5 for over a year, and you have a basis in them in the amount of only $500. This will result in you having to pay a capital gains rate of 28% on them because they are considered to be collectibles. It is better if you transfer the painting which is a would fall in the short- term category (you have not yet held it for over a full year). While you will not realize any actual loss, you will still able to apply $3,000 dollars deduction from the transaction ta ” reduce the taxes you owe, Thus, proceeding with our formula: Egg unos aetees Factorr in: Capital Losses: $3,000 Less: Tax Credits: NA Equals: Amount of Taxes Owed: Either: $38,885 or $31,385 depending on success of apartment deduction claim. | sincerely wish | had better news for you Sebastian, but this is the best | can come O up with