Chapter 2
Tax Determination, Payments, and Reporting Procedures
Tax Rate Structures
" Progressive Rate Structure
o Tax rate increases as the tax base increases
o U.S. federal individual income tax
" Proportional Rate Structure
o Tax rate remains the same regardless of tax base
o U.S. state and local sales/property taxes
" Regressive Rate Structure
o Tax rate decreases as tax base increases
o U.S. social security taxes
" 6.2% of the first $102,000 ($106,800 for 2009) of wages you earn than 0% thereafter
Taxpayer Filing Status by Rank
(for same amount of income)
Married filing separately
Single
Head of household
Married filing jointly [also, qualifying widow(er)]
Tax Rate Schedules
See inside front cover of your text & pg 62 of CA booklet
Step 1 Choose the correct rate schedule (based on filing status).
Step 2 Locate the proper income bracket and note the tax applicable to the lowest income in that bracket.
Step 3 Subtract the lowest income in that bracket from taxable income.
Step 4 Multiply this difference by the listed tax rate.
Step 5 Add this result to the tax in step 2 to arrive at the tax on taxable income.
EXAMPLE: Single with $52,600 of taxable income
Marginal vs. Average Tax Rate
" Average
o % that a taxpayer pays in tax given a certain amount of taxable income
" Marginal
o Proportion of tax that he or she pays on the last dollar of taxable income
Tax Table Rates: Why is tax per the rate schedule different from the table:
When and how should/are they used?
Tax Table Cannot Be Used by:
" A person filing for a short period (less than 12 months) because of a change in accounting period
" A person claiming the foreign earned income exclusion
" A person filing Form 1040 with taxable income of $100,000 or more
Qualified Dividends & Net Capital Gain Rates
" Reduced rates
o Taxed at preferential rates - 5% if you are in the 10% or 15% bracket; 15% if you are in the 25% or higher brackets
o California DOES NOT have preferential rates
" Factors affecting taxability
o Holding Period of a Capital Asset
If long-term (held for more than 1 year) special rates apply
If short-term ordinary rates apply
" See 1099-DIV for Qualified Dividends
" More in Chapters 10 & 11
Paying the Tax
" Income Tax
o Withheld from paycheck - Form W-2
o Withheld from other income - e.g. Form 1099
o Estimated Taxes (Chapter 13)
" Social Security aka Old Age, Survivors, and Disability Insurance (OASDI)
o Sometimes employees have too much in OASDI taxes withheld from their wages. Too much withholding can occur when a person works for two or more employers.
" Credits - Personal & Business (Chapter 12)
Personal Tax Credits - Federal
Nonrefundable
" Child and dependent care credit
" Child tax credit
" Education credits
" Foreign Tax credit
" Elderly or disabled credit
" Adoption credit
" Retirement savings contributions credit
" Residential energy credits
" Alternative automobile credit - Form 8910
" Mortgage interest (low income homeowners)
Refundable
" Earned income credit
" Additional child tax credit
" Education credits
" First-Time Homebuyer credit
" Making Work Pay credit
" Federal tax withholdings and payments
" Government Retiree credit
Personal Tax Credits - California
Nonrefundable
" Renters credit
o See flowchart on page 50 of state booklet
Refundable
" State tax withholdings and payments
" Child & Dependent care credit
" Adoption credit
" Overpaid State Disability Insurance
" Joint Custody HOH
" Other see pages 11 - 12 & 21, state booklet
Child and Dependent Care Credit
" Nonrefundable - Federal Form 2441; State 3506 (refundable)
" Qualified person: The taxpayer must maintain a home where one of the following persons live:
o A "qualifying child" (dependent) under age 13
o A dependent physically or mentally unable to provide self-care
o A spouse physically or mentally unable to provide self-care
" Qualified expenses are amounts taxpayers spend for child and dependent care (reduced by reimbursements) so that they can work, look for work, or go to school.
" Earned income for disabled or full-time student spouse is $250 per month for each child (max. 2 children)
Child Tax Credit
" Nonrefundable
" Taxpayers may be able to claim a credit for each "qualifying child", if:
o Under the age of 17 as of the end of the tax year
o Can be claimed as a dependent on the taxpayer's tax return
" Phased out at higher AGI ($110,000 MFJ; $75,000 S & HOH)
" Taxpayers unable to benefit completely from the child tax credit as a nonrefundable credit can claim a refundable child tax credit up to 15% of their earned income in excess of $3,000.
Education Tax Credits
" Form 8863 - page 2-17
" American Opportunity credit - up to 40% refundable
o Maximum of $2,500 per eligible student
" HOPE scholarship credit
o Maximum of $1,800 per eligible student
" Lifetime learning credit
o Maximum of $2,000 per taxpayer, per year
" See Publication 970 handout & 1098-T
Earned Income Credit (EIC)
" Refundable
" Eligible individuals:
o Must be at least 25 years old, but not more than 64, at the end of the year
o Cannot be claimed as a dependent by another taxpayer
o Taxpayers do not face the above requirements if they have a "qualifying child."
" Schedule EIC - pg 2-28
o Cannot have more than $3,400 investment income
" See worksheet on pgs 42 - 46, 1040A instructions
" Look at AGI & Earned Income EIC amounts and use the lower EIC amount
" Examples - EIC Table in IRS booklet, pg. 51 - 58
o HOH, 2 children, Earned income & AGI $15,000
o Same as above but AGI is $17,000
o MFJ, 1 child, earned income $8,482 & AGI $10,000
o S, 22 years old, 0 children, Earned income $11,900 & AGI $12,045
o Same as above, but 28 years old
o MFJ, 3 children, earned income $35,422, investment income $3,505, & AGI $38,927
" Advanced payment of EIC - Proposed 2010 budget would eliminate this
o Form W-5
" Tax Preparer Form 8867
Foreign Tax Credit - Form 1116
Reduces the U.S. income tax by the taxes paid to foreign countries, which prevents foreign income from being taxed twice. As an option, individuals can deduct foreign taxes paid as an itemized deduction.
First-Time Homebuyers Credit
" Lesser of 10% of purchase price or $8,000
MFJ ($4,000 MFS) for Jan 1 - Nov 30, 2009
" First-Time = no ownership in prior 3 years
" AGI Phase out rules
" Will have to pay back if house is no longer main residence
" Form 5405 - refundable
" New Law 11/6/09 - above extended + $6,500 credit for non-first-time homebuyers
Making Work Pay Credit
" Refundable credit for 2009 & 2010
" Lesser of:
o 6.2% of earned income or
o $400 ($800 for MFJ)
" Not eligible
o Non resident alien
o Individual who can be claimed as a dependent
o Social Security number not provided
" AGI phase out starting at
o $75,000 ($150,000 MFJ)
Form 1040EZ
Users of Form 1040EZ must:
" Be single or joint filers, under age 65 and not blind
" Claim the standard deduction
" Make no claim for a dependency exemption
" Have very limited sources of gross income
" Have taxable interest income of $1,500 or less
" Have taxable income of less than $100,000
" Have no dividend income
" Not earn $20 or more in monthly tips from one employer that are omitted from Form W-2
" Not receive any advance earned income credit (EIC) payments
540 2EZ Criteria
" File as single, married/RDP, Head of Household or qualifying widow(er)
" Can be over 65 but not blind
" 0 - 3 dependents
" Total taxable income < $100,000 if single or HOH; $200,000 if MFJ/RDP or Widow
o Salaries, wages, tips interest income, dividends, pension, unemployment income plus other
" Taxable interest income - no limits
" No adjustments to income such as an Individual Retirement Account (IRA) contribution
" Renters credit only
Form 1040A
" Only taxpayers with taxable incomes of less than $100,000 can use Form 1040A
" Form 1040A permits more types of income than Form 1040EZ, but fewer types than Form 1040
" Form 1040A permits only four deductions for AGI:
o A qualifying IRA contribution
o Certain interest on student loans
o Educator expenses
o Tuition and fees deduction
" This form allows taxpayers to reduce AGI only by the standard deduction and allowable exemptions
California Form 540A
" Any filing status
" Any amount of income; exemptions
" Can itemize deductions; but, must be the same amount as on the federal return
" Sometimes the taxpayer is required to file Federal Form 1040 and can file the CA Form 540A
Form 1040 & CA Form 540 - The Long Forms
" Must use the long forms when they do not qualify to use the short forms.
" May also elect the long form to save taxes (more deductions and credits are available).
Extensions of Time to File - NOT Extension of Time to Pay
Entity Form Number for Ext Extension of Time
Individual (Form 1040, 1040A or 1040EZ) Automatic Form 4868 (CA Form 3519) Six months
Partnership (Form 1065) Automatic Form 7004 Six months
S Corporation (Form 1120S) Automatic Form 7004 Six months
C Corporation (Form 1120 or 1120A) Automatic Form 7004 Six months
End of Chapter 2
