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Taxation for Decision Makers, 2020, 10th Edition

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Taxation for Decision Makers, 2020, 10th Edition

Shirley Dennis-Escoffier, Karen A. Fortin

ISBN: 978-1-119-56215-3 July 2019 656 Pages

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Taxation 2020 introduces all relevant tax topic covered in the CPA exam to undergraduate or graduate students in one-semester introductory tax courses. Offering a decision-making approach to the material, this comprehensive yet accessible text maintains the appropriate balance between concepts and specifics. Twelve concise, student-friendly chapters supply sufficient details to build upon for future careers in taxation and consulting while avoiding the minutiae rarely seen in everyday practice.

The new tenth edition covers basic taxation of individuals, corporations, S corporations, partnerships, and fiduciary entities. An emphasis on tax planning helps students understand the effect taxation has on decisions for both individuals and entities. Thoroughly updated for the coming tax year, this textbook covers fundamental areas of taxation and its environment including business and property concepts, property dispositions, business and wealth taxation, and income, expenses, and individual taxes. A wealth of instructor resources includes two solutions manuals—one of which provides solutions to the Research and Tax Return problems—an extensive test bank, and PowerPoint slides. Engaging, highly-readable text enables instructors to assign students out-of-class readings and spend classroom time on more complex topics.

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Preface xx

About the Authors xxv

Part I Introduction to Taxation and Its Environment

1 An Introduction to Taxation 2

Setting the Stage—An Introductory Case 3

1.1. An Introduction to Taxes 3

1.1.1. What Is a Tax? 3

1.1.2. Evolution of the Federal Income Tax 4

1.1.3. State and Local Income Taxes 5

1.1.4. Employment Taxes 7

1.1.5. Wealth Taxes 8

1.1.6. Wealth Transfer Taxes 9

1.1.7. Consumption Taxes 10

1.1.8. Tariffs and Duties 12

1.2. Types of Tax Rate Systems 13

1.2.1. The Progressive Tax Rate System 13

1.2.2. Proportional “Flat” Tax Rate 15

1.2.3. Regressive Taxes 15

1.3. Characteristics of a Good Tax 16

1.3.1. Equity 16

1.3.2. Economy 17

1.3.3. Certainty 18

1.3.4. Convenience 18

1.4. The Taxing Units and the Basic Income Tax Model 19

1.4.1. The Basic Tax Model 20

1.4.2. Trusts and Estates 29

1.5. Choice of Business Entity 30

1.5.1. Sole Proprietorships 32

1.5.2. Partnerships 33

1.5.3. C Corporations 36

1.5.4. S Corporations 37

1.5.5. Comparing Business Entity Attributes 38

Revisiting the Introductory Case 40

Summary 40

Key Terms 41

Test Yourself 41

Problem Assignments 42

Answers to Test Yourself 46

2 The Tax Practice Environment 47

Setting the Stage—An Introductory Case 48

2.1. Tax Compliance 48

2.1.1. Filing a Tax Return 48

2.1.2. Selecting Returns for Audit 51

2.1.3. Types of Audits 52

2.1.4. The Appeals Procedure 53

2.1.5. Taxpayer Noncompliance Penalties 54

2.1.6. Collection Procedures 55

2.2. Professional Responsibilities and Ethics 56

2.2.1. Avoidance versus Evasion 56

2.2.2. Tax Preparer Registration 56

2.2.3. Tax Preparer Penalties 56

2.2.4. Tax Professionals’ Dual Responsibilities 57

2.2.5. Sources of Professional Guidance 58

2.3. Tax Planning 61

2.3.1. Cash Flows and Present Value 62

2.3.2. Significance of the Marginal Tax Rate 63

2.3.3. Timing Income and Deductions 63

2.3.4. Income Shifting 66

2.3.5. Changing the Character of Income 67

2.3.6. Other Factors Affecting Tax Planning 68

2.4. Tax Research 71

2.4.1. Gather the Facts and Identify the Issues 72

2.4.2. Locate Relevant Authority 72

2.4.3. Evaluate the Sources of Authority 79

2.4.4. Communicate the Recommendations 86

2.4.5. Keeping Up-to-Date 86

2.4.6. Sample Research Problem 87

Revisiting the Introductory Case 91

Summary 91

Key Terms 92

Test Yourself 92

Problem Assignments 92

Answers to Test Yourself 99

Appendix: Authorities for Sample Research Problem 99

Part II Income, Expenses, and Individual Taxes

3 Determining Gross Income 110

Setting the Stage—An Introductory Case 111

3.1. What Is Income? 111

3.1.1. Taxable versus Gross Income 112

3.1.2. Tax versus Financial Accounting 112

3.1.3. Return of Capital Principle 113

3.2. When Is Income Recognized? 114

3.2.1. The Tax Year 115

3.2.2. Accounting Methods 116

3.3. Who Recognizes the Income? 120

3.3.1. Assignment of Income Doctrine 120

3.3.2. Community Property Laws 120

3.4. Sources of Income 121

3.4.1. Interest Income 121

3.4.2. Dividend Income 126

3.4.3. Annuity Income 128

3.4.4. Transfers from Others 129

3.4.5. Discharge of Indebtedness 134

3.4.6. Tax Benefit Rule 135

3.4.7. System for Reporting Income 135

3.5. Exclusions 136

3.5.1. Gifts and Inheritances 136

3.5.2. Insurance Proceeds 137

3.5.3. Scholarships 139

3.5.4. Other Exclusions 140

3.6. Expanded Topics—Jurisdictional Issues 141

3.6.1. International Issues 141

3.6.2. Taxpayers Subject to U.S. Taxation 141

Revisiting the Introductory Case 144

Summary 144

Key Terms 145

Test Yourself 145

Problem Assignments 146

Answers to Test Yourself 154

4 Employee Compensation 155

Setting the Stage—An Introductory Case 156

4.1. Employee Compensation 156

4.1.1. Payroll Taxes 156

4.1.2. Employee versus Independent Contractor 158

4.1.3. Timing of Compensation Deduction 161

4.1.4. Reasonable Compensation 161

4.2. Employee Fringe Benefits 163

4.2.1. Group Term Life Insurance Premiums 165

4.2.2. Health and Accident Insurance Premiums 166

4.2.3. Child and Dependent Care Programs 167

4.2.4. Cafeteria Plans and Flexible Spending Arrangements 167

4.2.5. No-Additional-Cost Services 169

4.2.6. Employee Purchase Discounts 169

4.2.7. Employee Achievement Awards 170

4.2.8. De Minimis Fringe Benefits 170

4.2.9. Working Condition Fringe Benefits 171

4.2.10. Education Expenses 173

4.2.11. Employee Relocation Expenses 174

4.2.12. Substantiating Business Expenses 175

4.3. Employee Stock and Stock Options 176

4.3.1. Restricted Stock 176

4.3.2. Stock Options 179

4.3.3. Phantom Stock and Stock Appreciation Rights 181

4.4. Deferred Compensation and Retirement Planning 182

4.4.1. Qualified Retirement Plans 182

4.4.2. Types of Retirement Plans 183

4.4.3. Contribution Limits 185

4.4.4. Nonqualified Deferred Compensation Plans 186

4.4.5. Individual Retirement Accounts 187

4.5. Self-Employed Individuals 190

4.5.1. Employment Tax Consequences 190

4.5.2. Fringe Benefits Limited 192

4.5.3. Retirement Plans 193

4.6. Expanded Topics—Foreign Assignments 194

4.6.1. Foreign Earned Income Exclusion 194

4.6.2. Excess Housing Cost Exclusion 196

4.6.3. Credit for Foreign Taxes 196

4.6.4. Tax Reimbursement Plans 197

4.6.5. Tax Treaties 197

Revisiting the Introductory Case 198

Summary 198

Key Terms 199

Test Yourself 200

Problem Assignments 201

Answers to Test Yourself 208

5 Deductions for Individuals and Tax Determination 209

Setting the Stage—An Introductory Case 210

5.1. The Individual Tax Model 210

5.2. Adjustments to Income 212

5.2.1. Student Loan Interest Deduction 213

5.2.2. Educator Expenses 214

5.2.3. Health Savings Accounts 214

5.2.4. Penalty on Early Withdrawal of Savings 215

5.2.5. Other Adjustments to Income 215

5.3. Standard Deduction 216

5.3.1. Standard Deduction Amounts 216

5.3.2. Married Filing Jointly 218

5.3.3. Surviving Spouse 218

5.3.4. Married Filing Separately 219

5.3.5. Head of Household 220

5.3.6. Single (Unmarried) Individual 221

5.4. Itemized Deductions 221

5.4.1. Medical Expenses 222

5.4.2. Taxes 223

5.4.3. Interest Expense 224

5.4.4. Charitable Contributions 227

5.4.5. Casualty Losses 230

5.4.6. Miscellaneous Itemized Deductions 231

5.5. Qualified Business Income Deduction 233

5.6. Dependents 235

5.6.1. Qualifying Child 235

5.6.2. Qualifying Relatives 236

5.7. Tax Credits 238

5.7.1. Credits versus Deductions 238

5.7.2. Child Tax Credit 238

5.7.3. Education Credits 239

5.7.4. Dependent Care Credit 241

5.7.5. Earned Income Credit 242

5.7.6. Excess Payroll Tax Withheld 243

5.7.7. Other Credits 243

5.8. Computing the Tax 244

5.8.1. Medicare Surtaxes 246

5.8.2. Alternative Minimum Tax 248

5.8.3. Other Taxes 252

5.9. Payment of Tax and Filing the Return 252

5.9.1. Payment of Tax 252

5.9.2. NOL 253

5.9.3. Who Must File a Return? 253

Revisiting the Introductory Case 258

Summary 259

Key Terms 259

Test Yourself 260

Problem Assignments 261

Answers to Test Yourself 271

Part III Business and Property Concepts

6 Business Expenses 274

Setting the Stage—An Introductory Case 275

6.1. Criteria for Deductibility 275

6.1.1. General Provisions for Trade or Business Expenses 275

6.1.2. Ordinary and Necessary 276

6.1.3. Contrary to Public Policy 277

6.1.4. Related to Tax-Exempt Income 278

6.1.5. Accrued to Related Party 278

6.1.6. Obligation of Another Taxpayer 278

6.1.7. Substantiation 279

6.2. Timing of Deductions 279

6.2.1. Accrual Method 280

6.2.2. Cash Method 280

6.2.3. Restrictions on Prepaid Expenses 282

6.2.4. Disputed Liabilities 283

6.3. Costs of Starting a Business 283

6.3.1. Business Investigation and Start-Up Expenses 283

6.3.2. Organization Costs 284

6.4. Operating Expenses 285

6.4.1. Business Meals and Entertainment 285

6.4.2. Travel and Transportation Expenses 286

6.4.3. Combining Business with Pleasure Travel 289

6.4.4. Bad Debt Expenses 291

6.4.5. Insurance Premiums 292

6.4.6. Interest Expense 292

6.4.7. Legal Expenses 293

6.4.8. Taxes 293

6.5. Limited Expense Deductions 294

6.5.1. Residential Rental Property 294

6.5.2. Home Office Expenses 297

6.5.3. Hobby Expenses 300

6.6. Expanded Topics—Book/Tax Differences 300

6.6.1. Accounting for Income Tax Expense 300

6.6.2. UNICAP Rules and Inventory 307

Revisiting the Introductory Case 309

Summary 311

Key Terms 312

Test Yourself 312

Problem Assignments 313

Answers to Test Yourself 323

7 Property Acquisitions and Cost Recovery Deductions 324

Setting the Stage—An Introductory Case 325

7.1. Capital Expenditures 325

7.1.1. Capitalize or Expense 326

7.1.2. Basis of Property 327

7.2. MACRS 330

7.2.1. Averaging Conventions 331

7.2.2. Year of Disposition 335

7.2.3. Alternative Depreciation System (ADS) 336

7.3. Special Expensing Provisions 337

7.3.1. Section 179 Expensing Election 337

7.3.2. Bonus Depreciation 339

7.4. Provisions Limiting Depreciation 341

7.4.1. Mixed-Use Assets 341

7.4.2. Limits for Passenger Vehicles 342

7.5. Depletion 344

7.6. Amortization 345

7.6.1. Research and Experimentation Expenditures 346

7.6.2. Software 347

Revisiting the Introductory Case 347

Summary 348

Key Terms 348

Test Yourself 348

Problem Assignments 349

Answers to Test Yourself 357

Part IV Property Dispositions

8 Property Dispositions 360

Setting the Stage—An Introductory Case 361

8.1. Determining Gain or Loss on Dispositions 362

8.1.1. Property Dispositions and Cash Flow 362

8.1.2. Types of Dispositions 363

8.1.3. Amount Realized 364

8.1.4. Realized versus Recognized Gain or Loss 365

8.1.5. Holding Period 365

8.1.6. Character of Gains and Losses 367

8.1.7. Mixed-Use Assets 369

8.2. Disposition of Capital Assets 369

8.2.1. The Capital Gain and Loss Netting Process 369

8.2.2. Tax Treatment of Net Capital Gains and Losses 371

8.3. Disposition of Section 1231 Property 377

8.3.1. Depreciation Recapture 378

8.3.2. Unrecaptured Section 1250 Gains for Individuals 381

8.3.3. Section 1231 Look-Back Rules 382

8.4. Mixed-Use Property 384

8.5. Special Rules for Small Business Stock 385

8.5.1. Losses on Section 1244 Stock 385

8.5.2. Section 1202 Gains on Qualified Small Business Stock 386

8.5.3. Comparison of Sections 1244 and 1202 387

8.6. Sale of Principal Residence—Section 121 388

8.6.1. Debt Reductions, Short Sales, and Foreclosures 391

8.7. Navigating Individual Capital Gains Tax Rates 391

8.7.1. Determining the Long-Term Capital Gains Tax Rate 392

8.7.2. Planning with Multiple Tax Rates 393

Revisiting the Introductory Case 394

Summary 395

Key Terms 396

Test Yourself 396

Problem Assignments 397

Answers to Test Yourself 406

9 Tax-Deferred Exchanges 407

Setting the Stage—An Introductory Case 408

9.1. Basics of Tax-Deferred Exchanges 408

9.1.1. Basis Adjustments 409

9.1.2. Holding Period 410

9.2. Like-Kind Exchanges—Section 1031 410

9.2.1. Qualifying Properties 411

9.2.2. Determining Realized Gain or Loss and the Effect of Boot 411

9.2.3. Basis and Holding Period of Like-Kind Property 413

9.2.4. Indirect Exchanges 414

9.3. Involuntary Conversions 415

9.3.1. Casualty and Theft Losses 415

9.3.2. Gains on Involuntary Conversions—Section 1033 421

9.3.3. Involuntary Conversion of a Principal Residence 424

9.4. Other Tax-Deferred Exchanges or Dispositions 424

9.4.1. Wash Sales 424

9.4.2. Installment Sales 425

9.4.3. Related-Party Sales 426

9.4.4. Other Deferrals 428

9.5. Asset Transfers to Businesses 428

9.5.1. Transfers to Sole Proprietorships 428

9.5.2. Transfers to Controlled Corporations—Section 351 429

9.5.3. Transfers of Property to a Partnership 434

9.5.4. Formation of a Limited Liability Company 437

9.6. An Introduction to Corporate Reorganizations 437

Revisiting the Introductory Case 438

Summary 438

Key Terms 439

Test Yourself 439

Problem Assignments 440

Answers to Test Yourself 449

Appendix: Corporate Reorganizations 450

Part V Business Taxation

10 Taxation of Corporations 458

Setting the Stage—An Introductory Case 459

10.1. Introduction to Corporations 459

10.1.1. Corporate Advantages 460

10.1.2. Disadvantages of the Corporate Form 461

10.1.3. Capital Structure 461

10.2. Taxation of C Corporations 463

10.2.1. Dividend Received Deduction 463

10.2.2. Charitable Contribution Deduction 464

10.2.3. Capital Gains and Losses 465

10.2.4. Net Operating Losses 466

10.2.5. Computing the Corporate Income Tax 466

10.2.6. Reconciling Book and Taxable Income 467

10.2.7. Tax Credits 471

10.2.8. Filing and Payment Requirements 472

10.3. Corporate Dividend Distributions 472

10.3.1. Tax Effects of Dividend Distributions 473

10.3.2. Calculating Earnings and Profits 473

10.3.3. Applying E&P to Distributions 474

10.3.4. Property Distributions 477

10.3.5. Stock Dividends 478

10.4. Corporate Redemptions and Liquidations 479

10.4.1. Redemption Sale Requirements 479

10.4.2. Partial Liquidation 481

10.4.3. Liquidating Distributions 482

10.4.4. Dividend and Redemption Planning Issues 482

10.5. Issues for Closely Held Corporations 484

10.5.1. Constructive Dividends 484

10.5.2. Penalty Taxes to Encourage Dividend Payments 485

10.5.3. Controlled Corporate Groups 486

10.6. Consolidated Returns 488

10.6.1. Consolidated Net Income 489

Revisiting the Introductory Case 490

Summary 491

Key Terms 491

Test Yourself 492

Problem Assignments 492

Answers to Test Yourself 502

Appendix: Exempt Organizations 502

11 Sole Proprietorships and Flow-Through Entities 507

Setting the Stage—An Introductory Case 508

11.1. Introduction to Flow-Through Business Entities 508

11.2. The Sole Proprietorship 509

11.2.1. Forming the Sole Proprietorship 509

11.2.2. Operating the Sole Proprietorship 511

11.2.3. Limitation on Excess Losses 513

11.2.4. Qualified Business Income Deduction 514

11.2.5. Self-Employment Taxes 515

11.3. Partnerships 516

11.3.1. Types of Partnerships 516

11.3.2. Advantages and Disadvantages of Partnerships and LLCs 517

11.3.3. Entity versus Aggregate Concepts 517

11.3.4. Partnership Operations 518

11.3.5. Partner’s Basis Account 523

11.3.6. Loss Limitation Rules 525

11.3.7. Guaranteed and Nonguaranteed Payments 527

11.3.8. Partnership Distributions 528

11.3.9. Selling a Partnership Interest 532

11.3.10. Qualified Business Income Deduction 533

11.4. S Corporation Characteristics 534

11.4.1. Eligibility Requirements for S Status 535

11.4.2. Making the S Election 536

11.4.3. Terminating the S Election 536

11.4.4. S Corporation Operations 537

11.4.5. Loss Limitations 541

11.4.6. Tracking Basis 541

11.4.7. Property Distributions 542

11.4.8. The S Corporation Schedules M-1, M-2, and M-3 542

11.4.9. The Accumulated Adjustments Account 543

11.4.10. S Corporation Taxes 544

11.4.11. Redemptions and Liquidations by S Corporations 545

11.5. Expanded Topics—The Passive Deduction Limitations 546

11.5.1. Material Participation 547

11.5.2. Real Property Business Exception 548

Revisiting the Introductory Case 549

Summary 550

Key Terms 551

Test Yourself 551

Problem Assignments 552

Answers to Test Yourself 564

Part VI Wealth Taxation

12 Estates Gifts and Trusts 566

Setting the Stage—An Introductory Case 567

12.1. Overview of Wealth Transfer Taxation 567

12.1.1. The Unified Transfer Tax 567

12.1.2. Features of the Unified Transfer Tax 569

12.1.3. Major Exclusions 569

12.2. The Federal Gift Tax 572

12.2.1. Transfers Subject to Gift Taxes 572

12.2.2. Transfers Excluded from Gift Taxes 575

12.2.3. Valuation of Gift Property 576

12.2.4. Special Rules Affecting the Annual Gift Tax Exclusion 576

12.2.5. Gift Tax Deductions 579

12.3. Tax Consequences for Donees 580

12.3.1. Kiddie Tax 581

12.3.2. Special Education Savings Plans 582

12.4. The Taxable Estate 583

12.4.1. Identifying the Gross Estate 584

12.4.2. Valuation Issues 586

12.4.3. Estate Deductions 587

12.4.4. Generation-Skipping Transfer Taxes 587

12.5. Transfer Tax Planning 588

12.5.1. Selecting the Right Property to Give 588

12.5.2. Advantages of Making Lifetime Gifts 589

12.5.3. Disadvantages of Lifetime Gifts 591

12.6. Fiduciary Income Tax Issues 591

12.6.1. The Decedent’s Final Tax Return 591

12.6.2. Income Tax Consequences of Inherited Property 592

12.6.3. Income Taxation of Trusts and Estates 593

12.7. Expanded Topics—The Tax Calculations 594

12.7.1. Computing the Gift Tax 594

12.7.2. Computing the Estate Tax 595

12.7.3. Computing the Fiduciary Income Tax 596

Revisiting the Introductory Case 598

Summary 598

Key Terms 599

Test Yourself 599

Problem Assignments 600

Answers to Test Yourself 607

Appendix Selected Tax Tables for 2019 and 2018 609

Corporate Tax Rates for 2019 and 2018 609

Individual Income Tax Rate Schedules for 2019 and 2018 609

Social Security and Medicare Taxes for 2019 and 2018 611

Standard Deductions for 2019 and 2018 612

Tax Rates for Estates, Gifts, and Trusts for 2019 and 2018 612

Depreciation Tables 613

Present Value and Future Value Tables 615

Index 619

  • Completely updated to reflect all pronouncements and changes in tax laws
  • Revised information on corporate and flow-through business taxation
  • Updated discussions of the qualified business income deduction and individual tax return reporting
  • Completed sample tax forms and examples
  • Integrates online learning resources, auto-graded assignments, and customizable time management tools
  • Offers an accessible, balanced approach to concepts and specific details
  • Strengthens critical analysis and decision-making skills
  • Allows easy re-ordering of chapters and expanded topics to fit the level of rigor for each class
  • Includes end-of-chapter problems, background case studies, example tax forms, and selected 2019-2020 tax tables
  • Covers all tax topics on the most current CPA exam