Itemized Deductions
Ch.7: itemized deductions
1. Medical expenses
2.Taxes
3.Interest
4.Charitable contributions
5.Miscellaneous
i. medical expenses-
a. ? Is deductible?
1. amounts paid 4 d diagnosis,cure,relief,treatment, or prevention of disease,or a condition affecting d structure or function of d body–4 taxpayer,spouse, & dependents.
a. d status of d taxpayer’s spouse or dependent must exist either @ d time d medical services R rendered or @ d time d expenses R paid.
1) both d gross income test & d joint return test R waived 4 purposes of determining dependency status.
2) medical expenses of children of divorced parents R deductible by d parent who pays d expenses.
b. amounts must b paid in d year d expense is claimed.
2. deductions 4 medicines & drugs R limited 2 expenditures 4 prescription drugs
3. capital expenditures R deductible in part or in full
a. expenditures which do nt affect d market value of taxpayer’s home R deductible in full (e.G., wheelchairs,crutches,eyeglasses).
b. expenditures which affect d market value of taxpayer’s home (improvement or betterment) R deductible 2 d extent dey exceed d increase in fmv (e.G.,swimming pool).
c. expenditures 4 removing structural barriers 4 d handicapped R fully deductible (e.G., eleva2rs,exit ramps,widening doorways).
d. d maintenance costs of d above R also deductible (as long as d medical reason 4 d capital expenditure c…. Exist).
Note
These expenditures must have been incurred 4 necessary medical care of d tp,tp’s spouse,or tp’s dependent(s).
4. travel costs 2 seek medical treatment R deductible
a. au2mobiles – keep records of actual expenses or use d per diem r8 of 23.5 cents/mile plus parking & 2lls.
b. meals-
1) meals while en route 2 & frm treatment R 50% deductible
2) 100% of meals while @ d medical facility R deductible if taxpayer is an in-p8ent.
3) no deduction is allowed while @ d medical facility 4 out-p8ents & 4 those who accompany d p8ent.
c. lodging – limited 2 $50/night/person if:
1) travel is essential 2 medical care;
2) care is provided in licensed hospital;&,
3) no significant element of personal pleasure
5. costs of staying @ an institution (tuition) R deductible if p8ent is placed there on doc2r’s orders.
6. health insurance premiums –
a. employees – 100% dfrom agi.
b. self-employed – 100% d4 agi.
7. long-term care (“ltc”)-
a. insurance premiums – deductible with limits (c footnote 8,pg.7-5).
b. ltc expenditures – deductible if “chronically ill” 4 ≥ 90 days.
b. wen is d medical expense deductible?
1. only in d year in which d medical expense is actually paid (credit card payment is considered “paid”).
2. prepayments R nt allowed as deductions unless d taxpayer is required 2 make d prepayment.
c. ? Is d amount deductible?
1. medical expenses,net of ne insurance reimbursements, in excess of 10% of agi R deductible.
2. if insurance reimbursements R received in a subsequent year,follow d tax benefit rule
2 determine if ne of d reimbursement is taxable (review example 7 on pg.7-7).
example
— taxpayer,who is nt self-employed,incurred d following expenses during 2014:
hospitaliz8on insurance premiums $540
premiums 4 a policy 2 reimburse him 4
lost income due 2 illness $320
prescription drugs $170
aspirins $20
over-d-counter cold capsules $40
dental expense 4 false teeth $380
2othpaste & dental floss $25
trip taken 2 florida recommended by his doc2r
4 d general improvement of his health:
airfare $250
lodging $280
food $220
hospital $1,520
doc2r $365
he also received insurance reimbursements 4:
hospital $1,200
doc2r $275
lost wages $300
taxpayer had gross income of $15,000,agi of $10,000,& taxable income of $2,000. compute taxpayer’s medical expense deduction (if ne) 4 2014.
Example
— in 2013,single taxpayer hs itemized deductions other than medical expenses of $7,000 & qualified medical expenses of $2,500. his agi is $20,000. during 2014,he is reimbursed $500 of d $2,500 medical expenses incurred. how much of d reimbursement must b included in gross income 4 2014?
? If he had no other itemized deductions (other than medical expenses) during 2013?
? If he had $5,700 in other itemized deductions (other than medical expenses) during 2013?
Example
— George suffers frm severe allergies. on his doc2r’s advice,George installed central air conditioning & an electronic air cleaner in his home. he also was 2ld 2 purchase a vacuum cleaner. d cost of d equipment was $950 4 d central air,$150 4 d air cleaner & $125 4 d vacuum. although d air cleaner did nt affect d value of his home,d central air increased d fmv of his home by $500. determine d amount 2 b included as a medical expense. assume his agi is $6,000.
ii. taxes – an exactment 4 purposes of raising revenue 4 public or governmental use & nt 4 a privilege or service.
- garbage tax is a fee,nt a tax.
- vehicle tax is a tax,nt a fee (must b based upon value 2 b deductible).
- vehicle registr8on charge is a fee,nt a tax.
- an occup8onal privilege tax is a tax,nt a fee.
if ad valorem – it is deductible.
if per capita – it is nt deductible.
a. d following classes of taxes R deductible:
Note
D4 agi if self-employed (§162) or 4 rental & royalty purposes — ol others dfrom agi.
- st8,local,& 4ign real property taxes.
- st8 & local personal property taxes (if ad valorem)
. - st8,local,& 4ign income taxes (deductible wen paid or withheld).
- war profits tax & excess profits tax.
- st8 & local sales tax (in lieu of st8 & local income taxes).
- other st8,local,or 4ign taxes directly rel8d 2 §162 or §212 activities.
b. apportionment of taxes btwn buyers & sellers of real est8 — taxes R apporti1d based on d # of days d property is owned during d real est8 tax year.
Example
— s sells his home 2 b on 12/1/14 4 $50,000. d real est8 tax year is 9/1 2 8/31. d annual taxes R $730.
s’s share of taxes b’s share of taxes
x $730 = $182 x $730 = $548
wen d deduction is taken–
s b
wen paid 4 cash basis wen paid 4 cash basis
if selling agreement does nt correctly apportion taxes,
if s paid d entire $730 —
reduce selling price & buyer’s basis by $548
if b paid d entire $730–
_____ selling price & buyer’s basis by $____
c. tax assessments against real est8 4 local improvements in which only d assessed property benefits
R nt deductible (e.G.,sidewalk,sewer,w8r install8on).
d. tax assessments against real est8 4 meeting general community needs R deductible (e.G.,sidewalk repairs, interest payments on loans 2 st8 or federal government).
e. st8 & local income tax refunds R often received in d year after a deduction hs been taken– follow d tax benefit rule.
tru/false
_____ 1. t is in gud health & hs no specific ailment. if t spends $450 4 a complete annual physical exam,dis amount does nt qualify 4 d medical expense deduction.
_____ 2. d cost of m8rnity clothes purchased by a pregnant taxpayer qualifies 4 d medical expense deduction.
_____ 3. n places u (her dependent uncle) in a nursing home coz u is interfering with her career & social life. d room & board charges n pays 2 d nursing home do nt qualify 4 d medical expense deduction.
_____ 4. d cost of ol capital improvements made 2 a taxpayer’s personal residence 4 medical reasons must b capitalized. annual depreci8on over d life of d improvements can qualify 4 d medical expense deduction.
_____ 5. 2 allevi8 a respira2ry disorder,on d advice of his physician,t hs an air filtr8on system installed in his residence. in order 2 ascertain d change in value due 2 d improvement,t pays 4 real est8 appraisal on d residence. d cost of d appraisal also qualifies as a medical expense.
_____ 6. t,a physically handicapped individual,pays $9,200 4 d install8on of wheel chair ramps,support bars,& railings 2 his personal residence. coz t lives in a retirement community,these improvements increase d value of his personal residence by $3,000. only $6,200 of these expenditures qualifies as a medical deduction.
_____ 7. d $0.235/mile option 4 medical transport8on does nt include rel8d parking & 2lls.
_____ 8. during 2014,t,a self-employed individual who is single & hs no employees,paid $3,000 4 hospitaliz8on insurance. presuming sufficient earned income,$3,000 may b claimed as a deduction 4 agi.
_____ 9. t pays d medical expenses of her son,s. s would qualify as t’s dependent except dat s files a joint return with his wife. t may claim s’s medical expenses.
_____ 10. a noncus2dial divorced parent cannot claim d medical expenses paid on behalf of d children if d cus2dial parent claims d dependency exemption 4 dem.
_____ 11. in 2014,t is reimbursed $400 4 medical expenses he paid in 2013. if t claimed d standard deduction in 2013,n1 of d $400 reimbursement is income 4 2014.
_____ 12. a fee which is disallowed as an itemized deduction may, nevertheless,b deducted as a trade or business expense under §162 if d fee is business-rel8d.
_____ 13. a mo2r vehicle tax based on w8 is an ad valorem tax & will,there4,qualify as a personal property tax.
_____ 14. a taxpayer may deduct d cost of a new sidewalk (rel8ve 2 a personal residence) if d construction is required by d city & d sidewalk merely provides an incidental benefit 2 d public welfare.
_____ 15. d apportionment of taxes on real property btwn buyer & seller is made in accordance with d real est8 closing agreement.
_____ 16. ne real est8 taxes paid by d seller & alloc8d 2 d buyer 4 income tax purposes reduces d seller’s realized amount & reduces d buyer’s adjusted basis in d property.
_____ 17. t’s sole source of income is frm a pharmacy which she owns & oper8s. ne st8 income tax t pays cannot b claimed as a business expense but is tre8d as an itemized deduction.
_____ 18. t,a calendar year cash basis taxpayer,overpaid her 2013 st8 income tax. if t chooses 2 apply d overpayment 2ward her st8 income taxes 4 2014 & does nt claim a refund,she will avoid ne recognition of income.
iii. interest –
there R 6 types of interest 4 tax purposes:
1. trade or business interest – §162 activities in which taxpayers m8rially particip8.
2. passive activity interest – passive §212 oper8ng activities & §162 activities in which taxpayers do nt m8rially particip8.
3. investment interest – interest paid 4 d production of dividends,bond interest, annuities,royalty income,& other assets held as investments.
4. personal interest – consumer interest- ne interest nt included in numbers 2-5.
5. qualified residence interest- interest on d primary residence of d taxpayer & 1 secondary residence.
6. student loan interest – interest paid on loans 2 finance higher educ8on expenses.
a. trade or business interest – fully deductible.
b. passive activity interest – nt covered.
c. investment interest – may deduct up 2 net investment income
investment income minus investment expenses (after applying d 2% limit8on 4 misc.I.D.)–c example 16 on pg.7-15.
inv.Income = dividends,interest,annuities,nstcg & non- business royalties
Note
: tp can elect 2 include qualified dividends & ltcg in investment income. if election is made,qualified dividends & ltcg R then taxed @ ordinary r8s.
Example
— kevin’s agi 4 d current year is $200,000. included in his agi is $25,000 investment income. in earning d investment income,kevin paid investment interest expense of $33,000. he also incurred d following expenditures subject 2 d 2% agi limit8on:
subscriptions 2 investment journals $700
investment counseling $2,000
safety deposit bx rental (4 securities) $300
unreimbursed employee business expenses $1,500
tax return prep fees $500
? R kevin’s deductible expenses?
d. personal interest – nt deductible.
e. qualified residence interest.
1. qualified residence –
a. house,vac8on home,condominium,recre8onal vehicle,boat.
b. taxpayer may deduct interest on d primary residence & 1 secondary residence (vac8on home).
2. qualifying residence interest –
a.
Acquisition indebtedness
Debt 4 acquisition or improvement of primary or secondary home
limit–debt cannot exceed $1,000,000
b.
Home equity indebtedness
Loans secured by primary or secondary residence 4 other purposes
limit–lesser of: $100,000 (debt limit)
or
fmv minus acq.Indebtedness
Note
If tp hs equity in residence,may use portion of home equity indebtedness in determining qualified residence interest.
Example
— c purchased his present residence several years ago @ a cost of $1.9 million. d present balance on his home mortgage is $800,000 & d property is valued @ $2.5 million. dis year,c borrowed $300,000 2 purchase a business secured by a 2nd mortgage on his home. d interest on how much of d debt is deductible as qualified residence interest?
special rule 4 rel8d parties–an accrual basis taxpayer may nt deduct accrued interest expense owed 2 a cash basis rel8d party til d interest is paid.
f. deduction 4 student loan interest –
a maximum of $2,500 of interest paid on qualified student loans is deductible 4 agi.
qualified = loans 4 higher educ8on expenses of d taxpayer, spouse,& dependents enrolled @ least 1/2 time in a degree or certific8on program.
qualified expenses R reduced by:
1. employer-provided assistance
2. u.S.Savings bond interest
Phase-out
d deduction is phased-out 4 modified agi in excess of $65,000 ($130,000 4 married).
modified agi = agi + 4ign income exclusion + qualified housing exclusion + exclusion 4 income frm u.S.Possessions + educ8onal savings bond exclusion
deductible amount x = reduction in deduction
Example
— in 2014,diana day2n pays $2,000 interest on a qualified educ8on loan. diana & her husband file a joint return & report modified agi of $130,000. ? Amount is deductible 4 agi?
classific8on of interest expense –
classific8on is determined by d use of d loan proceeds,nt d coll8ral used 2 obtain d loan.
general exception – home equity loans.
other exceptions –
1. funds held in bank accounts – d interest on d account is investment interest til d funds R drawn & used.
Example
— ruth borrows $100,000 on january 1 & deposits it in a separ8 account where it remains til april 1 wen she purchases an interest in a limited partnership 4 $20,000. on september 1,ruth purchases a new car 4 $30,000. interest expense attributable 2 d $100,000 is alloc8d in d following manner:
2. commingled funds – wen borrowed funds R deposited in d same account with personal funds,d 1st funds spent R deemed 2 b d borrowed funds.
Example
— on oc2ber 1,ben borrowed $1,000 2 purchase a snowplow attachment 4 d front of his truck. he plans 2 make some extra m1y dis winter by plowing driveways & parking lots. ben deposited d $1,000 in his only checking account. on oc2ber 20,he bought d attachment 4 $1,500. prior 2 oc2ber 20,he wrote $700 in checks 4 groceries & other personal items. on ? Loan amount may ben deduct interest?
tru/false
_____ 1. in 2014,t is audited by d irs as 2 a prior year’s income tax return. as a result of d audit,t pays a tax deficiency plus interest. n1 of d interest can qualify as a federal income tax deduction.
_____ 2. some investment expenses fall in2 d c8gory of other miscellaneous deductions & R subject 2 d 2% of agi floor.
_____ 3. investment interest which is disallowed in 1 tax year may b carried 4ward & tre8d as investment interest in succeeding years.
_____ 4. d interest on home equity loans can b deducted only if d loan funds R used 2 make home improvements.
iv. charitable contributions –
a. deduction requirements:
1. d contribution must b a gift of m1y or other property given 2 a qualified d1e.
2. qualifying d1es R organiz8ons,nt individuals
b. if an individual directly or indirectly receives a benefit frm d charitable organiz8on,d gift is nt deductible.
c. if taxpayer purchases products or services @ a premium,only d excess over fmv of d purchase price is deductible as a charitable contribution.
d. only 80% of amounts paid 2 university athletic clubs R deductible.
e. there R 2 types of charities:
1. public charities – supported by don8ons
2. priv8 found8ons – more than 1/3 of their support comes frm priv8 sources;membership fees,dues,etc.
a. priv8 oper8ng found8ons
b. priv8 non-oper8ng found8ons
f. limit8ons on charitable contribution deductions:
1. limit8ons depend on:
a. d nature of d charitable organiz8on.
b. d nature of d property given.
2. there R 3 limit8ons (c chart on d next page):
a. limit8on 1 – d limit8on within each individual cell.
b. limit8on 2 – d % limit8on given under d heading of each column.
c. limit8on 3 – an overall limit8on of 50% of agi 2tal deduction 4 d year.
Charitable contribution deduction | ||||||
Nature of property | Public charities & priv8 oper8ng found8ons | Priv8 non-oper8ng found8ons | ||||
50% | 30% | 20% | ||||
1.Cash | fully deductible | fully deductible | n/a | |||
2.Ordinary income property | basis | basis | n/a | |||
(inven2ry,stcg,loss property) | ||||||
exception: if basis > fmv | fmv | fmv | n/a | |||
3.Capital gain property | taxpayer’s option: | n/a | basis | |||
1.Basis (limited 2 50% of agi) | ||||||
2.Fmv (limited 2 30% of agi) | ||||||
if tangible personalty is given | basis | n/a | basis | |||
& put 2 unrel8d use | ||||||
4.Contribution of services | nt deductible ——————————————————————————————————–> | |||||
5.Expenses rel8d 2 services | actual expenses deductible | |||||
transport8on limited 2 14 cents/mile | ||||||
6.Free or bargain use property | nt deductible ——————————————————————————————————–> |
example–
a. U gave gamma co.S2ck worth $10,000 2 charity dat cost U $4,000 4 months ago. ? Is yur charitable contribution deduction?(apply limit8on #1 only).
b. U give alpha co.S2ck 2 yur college. it cost U $5,000 several years ago & is worth $10,000 on d d8 of d gift. ? Is yur 2013 deduction?(apply limit8on #1 only).
c. let’s say dat yur agi is $70,000 & dat during d year U made d following gifts: (1) $5,000 in cash 2 yur church,(2) securities 2 yur college dat cost U $5,000 many years ago but were worth $45,000 on d d8 of d gift,& (3) $10,000 in cash 2 a priv8 non-oper8ng found8on. how much can U deduct in 2013? (apply ol limit8ons).
tru/false
_____ 1. t purchases a banquet ticket @ a fund raising function 4 d omaha museum of natural his2ry. d ticket costs $250 & d normal cost of such a banquet is $50. t hs a charitable contribution deduction of $50.
_____ 2. 4 ol of 2014,t allows d salv8on army 2 use a building he owns rent-free. if d building normally rents 4 $18,000 a year,t will b allowed a charitable contribution deduction 4 2014 of $18,000.
_____ 3. a taxpayer pays tuition 2 a parochial school run by his church in order 2 enable his children 2 attend. since d church is a qualified charity,d tuition payments can b claimed as a charitable contribution.
_____ 4. t mails a check 4 $600 2 his church on 12/31/14. d check is nt received by his church til 1/2/15. d $600 qualifies as a charitable contribution by t 4 2014.
_____ 5. in order 2 dissuade his pas2r frm resigning & taking a position with a larger church,t,an ardent leader of d congreg8on,gives d pas2r a new car. d cost of d car is deductible by t as a charitable contribution.
_____ 6. contributions 2 public charities in excess of 50% of agi may b carried 4ward 5 years.
_____ 7. in applying d percentage limit8ons,carryovers must b claimed 1st be4 current charitable contributions R considered.
_____ 8. t don8s art 2 a qualified museum. in order 2 ascertain & 2 support d value of d assets don8d,t pays $1,200 2 an independent appraiser. d $1,200 is nt deductible as a charitable contribution but can b claimed by t as a miscellaneous itemized deduction & is subject 2 d 2% of agi limit8on.
v. miscellaneous itemized deductions –
a. those only deductible in excess of 2% of agi:
- expenses rel8d 2 §212 activities (except 4 rents/royalties).
- unreimbursed employee business expenses (e.G.,professional dues,subscriptions,specialized work clothing,union dues).
- costs of tax advice (including tax prep.Fees.,appraisals 4 charitable contributions,legal fees incurred in est8 planning)
- job hunting expenses (if same trade or business–nt allowed 4 1st job)
- hobby expenses (tier 2 & tier 3 expenses)
- deductible home office expenses (basic cost of 1 teleph1 nt deductible)
- deductible educ8onal expenses
b. those fully deductible:
- gambling losses (nt in excess of gambling winnings).
vi. overall limit8on (phase-out) 4 id’s
agi thresholds: $305,050 (mfj)
$279,650 (hh)
$254,200 (s)
$152,525 (mfs)
reduction: lesser of:
1.3% of excess agi (above threshold);or,
2.80% of ids (nt counting medical expenses,investment interest,casualty losses,& gambling losses)
reduction applied after taking in2 account d other limit8ons on id’s (e.G.,2% of agi limit8on).
Practice questions
:
_____ 1. in 2014,r (a single tp) purchases 4 pleasure a boat 4 $110,000. in order 2 obtain financing 4 d purchase,r issues a lien on his personal residence in d amount of $110,000. @ d time d loan is obtained,d residence hs a fmv of $500,000 & is encumbered with a 1st mortgage of $420,000. 4 d boat loan,r may claim as qualified residence interest d interest on:
a. $0.
b. $80,000.
c. $100,000.
d. $110,000.
e. n1 of d above.
_____ 2. m suffers frm a rare b1 disorder & decides 2 seek treatment @ a special clinic. m’s granddaughter,k,takes m 2 d clinic coz m is unable 2 travel al1. it takes dem 3 days 2 drive d 900 miles 2 d clinic & 3 days 2 return home. @ d clinic,m is tre8d on an outp8ent basis 4 6 days. m & k share a motel room during d entire trip & incur d following expenses:
motel en route 2 & frm clinic:
$75 per night 4 6 nights
motel while @ d clinic:
$80 per night 4 6 nights
meals en route 2 & frm d clinic:
m $90
k $105
meals while @ d clinic:
m $110
k $125
m may deduct d following expenses (be4 agi limit8ons):
a. $1,522.
b. $1,397.
c. $1,287.
d. $1,248.
e. n1 of d above.
_____ 3. during 2014,j,who is a security officer,is shot while on d job. as a result,j suffers frm a leg injury & must spend most of his time in a wheelchair. j’s physician prescribes dat he install a whirlpool bath in his home 4 therapy. during d year,j makes d following expenditures:
wheelchair $700
whirlpool bath $1,800
maintenance of whirlpool $280
handicap entrance ramp $3,800
a professional appraiser tells j dat d whirlpool hs increased d value of his home by $800 & d ramp increased d value of d home by $280. j’s deductible expenses,be4 agi limit8ons,4 2014 will b
a. $6,580.
b. $5,780.
c. $5,500.
d. $5,700.
e. n1 of d above.
_____ 4. during 2013,d,a single taxpayer who is age 40,reports d following items of income & expense:
agi $40,000
qualified medical expenses 4,000
other i.D.’s 3,500
in 2014,d receives a reimbursement 4 medical expenses of $1,200. as a result,d must
a. include $800 in gross income in 2014.
b. include $800 in gross income in 2013.
c. include $3,000 in gross income in 2014.
d. include $3,000 in gross income in 2013.
e. n1 of d above.
_____ 5. g hs agi of $40,000. g incurs d following expenses in g’s hardware business:
-$300 sales tax.
-$300 vehicle registr8on.
-$20 vehicle inspection report.
-$200 unemployment taxes 4 employees.
-$100 st8 income taxes.
how much will g b able 2 deduct as business expenses under §162?
a. $920.
b. $820.
c. $620.
d. $0.
e. n1 of d above.
_____ 6. on september 1,2013,a,a cash basis taxpayer,sells his farm 2 b,also a cash basis taxpayer 4 $100,000. a’s basis in d farm is $65,000. d real property tax year is d calendar year. real est8 taxes on d property 4 d year R $1,800 & R payable on april 1 of d following year. d sales agreement does nt provide 4 apportionment of real est8 taxes btwn d buyer & d seller. assume b pays ol of d real est8 taxes in 2014. d effects of dis sales structure will b
a. $602 of taxes 2 a,$1,198 of taxes 2 b,increase a’s gain by $602.
b. $1,198 of taxes 2 a,$602 of taxes 2 b,increase a’s gain by $1,198.
c. $0 of taxes 2 a,$1,800 of taxes 2 b,no effect on a’s gain.
d. $1,198 of taxes 2 a,$0 of taxes 2 b,increase a’s gain by $1,198.
e. $1,198 of taxes 2 a,$602 of taxes 2 b,increase a’s gain by $602.
_____ 7. sam’s records 4 2014 contain d following in4m8on:
don8d s2ck having fmv of $1,000 2 a qualified charitable organiz8on. he acquired d s2ck 5 months ago 4 $800.
paid $3,000 2 a church school as a requirement 4 d enrollment of his daughter.
paid $200 4 annual homeowner’s associ8on dues.
drove 300 miles in his personal au2. d travel was directly rel8d 2 services he per4med 4 his church (actual costs unavailable).
? Is sam’s charitable contribution deduction 4 2014 if his agi is $25,000?
a. $842.
b. $1,032.
c. $4,032.
d. $4,072.
e. n1 of d above.
_____ 8. t incurred d following expenses 4 her dependent son during d year:
payment of son’s au2 loan $8,000
interest on above loan 1,000
payment of son’s medical expenses 2,000
payment of son’s property taxes 1,200
how much may t consider in computing her i.D.’s?
a. $0.
b. $2,000.
c. $2,200.
d. $3,000.
e. n1 of d above.