Limitations on Charitable Deductions and Carryovers under § 170(b)a.
§ 170(b) imposes quantifiable limits on how much can be deducted based on AGI. You can deduct charitable deductions in excess of 50% of your AGI on income tax returns. If giving the charitable deduction to a private organization, you can only deduct 30%:
- 50 % total limit § 170(1)(1)(g)
- 30% limit to private organizations
- 30 % limit to appreciated property
- 20% limit to appreciated property to private organization IRS Reg. 1.170A-1 (c)(1)
These limits are applied sequentially by the IRS which means that the total of all gifts is first compared with the overall 50 percent limit. If it exceeds that limit, the deductions disallowed are considered to come from the least-favored category according to the Internal Revenue Code.
Any amounts that are disallowed by these IRS rules may be CARRIED OVER by the taxpayer and deducted in up to five subsequent tax years, pursuant to the rules of § 170(d). The charitable gifts retain their character in the carryover year according to the IRS regulations
What is Section 1245 Property- Depreciable Property Used In Business?
A gain on the disposition of §1245 property is treated as ordinary income to the extent of depreciation allowed or allowable on the property. The gain treated as ordinary income is the lesser of:
- The depreciation allowed or allowable on the property.
- The gain realized on the disposition (the amount realized from the disposition minus the adjusted basis of the property taking into account depreciation.)
Extent gain results from artificial depreciation deductions, § 1245 applies. The extent the gain results because the taxpayer sells the property for more than he paid for it, § 1245 does not apply
This is all taxed at the Capital Gains Rate. Any gain recognized that is more than the part that is ordinary income from depreciation is §1231 gain.
§168 of the Internal Revenue Code provides various cost recovery schedules. Under the accelerated cost recovery system” ACRS, the cost recovery of an asset depends on three things:
- The total amount of cost to be recovered
- The number of years over which the cost is to be recovered
- The rate at which the cost is to be recovered over those years
The total amount of cost to be recovered by the taxpayer is the total expected decline in value while the asset is used in the taxpayer’s business, as measured by the different between the original cost and the salvage value.
The Internal Revenue Service (IRS) allows that the depreciation of an asset is $0 under § 168(b)(4).
What is a realization event?
There is no tax on the gain until the occurrence of a “realization event”, such as a cash dividend or other types of payouts considered by the IRS. Although the cash dividend does not make the owner any richer, it serves as the trigger for taxing the enrichment that the tax system had previously ignored.
This is mainly justified by the tax policy of Administrative ease for the Internal Revenue Service's enforcement of tax law.
Rules for Capital Loss Carrybacks and Carryover
Under § 1212, corporate taxpayers may carry back those
capital losses for up to the three preceding taxable years to offset any
net capital gains that corporation might have enjoyed in those prior years. Immediate refund can be obtained for anything a taxpayer deserves from the IRS.
For non-corporate taxpayers, there is no carryback provision. However, losses that are nondeductible because of the § 1211 limitations may be carried over to future years indefinitely. You can offset the whole amount against ordinary income because of the
small business exception.
Unrealized gain in donated property is deductible only if:
- The gain would have been long-term capital gain had the taxpayer sold the property;
- In the case of a contribution of tangible personal property (not land):
- Use of property by charity is related to its tax-exempt purpose, AND
- Property is not given to a private foundation, which are a category of charities with special treatment in a number of respects including charitable property deductions.
- You can’t get unrealized appreciation of personal property through deduction if giving this way to a private organization.
Netting of Long term and Short term Capital Gains and Losses
These groups of
capital gains are netted against one another according to the following rules in § 1221.
- Long-term capital gains are netted against long-term loses.
- Short-term capital gains are netted against short-term losses.
- If the results of the first two netting procedures have the same sign (that is, both are losses or both are gains for the taxpayer), then the taxpayer has that amount of each type of net gain or loss, and each is treated accordingly by the Internal Revenue Code and the Internal Revenue Service.
- However, if the results of the first two netting procedures have opposite signs (that is, if one is a net gain and the other a net loss), those two outcomes are netted against each other.
- This final result of this netting has the character of whatever type of gain or loss “sticks out” after the netting procedures regarding capital gains are finished
The Definition of Business Entertainment Deductions in Tax Accounting
§ 274 of the Internal Revenue Code authorizes no deductions, it limits conditions or prohibits certain deductions that § 162 or 212 would otherwise permit.
BUSINESS ENTERTAINMENT DEDUCTIONS
§ 274(a) If an activity is “of a type generally considered to constitute entertainment, amusement, or recreation its expenses may be deducted if
- Activity is directly related to the taxpayer’s business OR
- Activity is associated with the conduct of the taxpayer’s business and it immediately precedes for follows a substantial business discussion
STANDARD: There must be a substantial and bona fide business deduction and a minimal nexus between business and the activity. This is required for a taxpayer claiming a business entertainment deduction.
Definition of Reasonable Compensation
§ 162(a)(1) of the Internal Revenue Code allows for “a reasonable allowance for salaries or other compensation for personal services actually rendered."
The reasonable compensation section of the tax code often comes into play because the double taxation of corporations. If the officers and executives of a corporation are substantially identical with its major shareholders, a temptation may arise to distribute some of the earnings of the corporation under the label of additional compensation for services, rather than under the dividend label to save on taxes.
The reduction in dividend tax lessens that tax advantage of compensation over dividends, but in many situations a significant tax advantage for compensation remains. There are still many controversies between businesses and the IRS over what is considered reasonable compensation for a corporate officer.
Shareholders: They are the owners of the corporation.
The
Shareholders possess the right to 1) Elect directors 2) Vote on fundamental transactions like mergers, sale of assets, dissolutions, and amendments of articles of incorporation.
- They have residual claim on corporations assets if it is dissolved (“liquidation right”). Once creditors have been paid in a liquidation, the shareholders can get the remaining assets.
- They have a right to receive a pro rata share of corporate profits (dividends) if authorized by board of directors. This is not absolute, they have to bargain for this right. Preferred Shares get dividends first.
- Control rights are weighted by the size of your investment. This is different than a general partnership where all partners vote equally.
- Other than electing the board, they have no management of conduct rights. Shareholder do not have rights to act on behalf of the corporation. They are passive investors.
A company's authorized stock is the number of shares that it may legally issue. The amount of authorized stock will appear in the articles of incorporation that a company files with the secretary of state during the beginning of its existence.
A corporation cannot issue more stock, or stock of a different class, that the articles of incorporation authorize. This is why it is important for a company to anticipate its future financing needs when preparing its articles of incorporation.
However, with approval of the board of directors or shareholders, the articles of incorporation may be amended to increase the number of shares authorized, or to create an entirely new class of stock for selling to investors.
Preferred Shares –Bargain for Rights
- Have preference or priority in payment over common shares Terms are set out in articles or in separate document called “certificate of designations.
- They get dividends paid out first. The dividends could accumulate and then preferred shares must get paid out first before holders of other classes of stock outstanding.
- Initially, they did not have voting rights
- Liquidation Preference- Might get right to sell shares back to the company at a certain price
- Preemptive rights – a right to buy shares ahead of other shareholders from the corporation This is an Anti-Dilution Device and normally something that preferred shareholders pay for and bargain to receive.
Capitalization and Depreciation- Matching Expenses with the Income that those expenses help produce
§168 of the Internal Revenue Code provides various cost recovery schedules. Under the accelerated cost recovery system ACRS, the cost recovery of an asset depends on three things:
- The total amount of cost to be recovered
- The number of years over which the cost is to be recovered
- The rate at which the cost is to be recovered over those year.
Taxpayers have two primary choices that they must stick to when completing accounting records for tax returns. What are the main differences between the cash method of accounting and the accrual method of accounting for tax purposes?
The Cash Method
The cash method of accounting has a focus on money our and money in. For example, a taxpayer has income when she receives a payment from a buyer. The taxpayer has a deduction when they make payment.
The Accrual Method
Oppositely, the accrual method of accounting focuses more on legal rights and obligations: An item is considered income when the right to receive it is earned. An item is deductible when the taxpayer becomes liable to pay the item.
It is important to note that individual taxpayers are generally required to use the cash method of accounting. Certain taxpayers must use the same method of accounting for tax purposes as they use to keep their books.
How are business ethics different in the US than other countries?
U.S political and legal social institutions create much greater coercive and normative pressure for US companies to comply with ethical standards. There are many prescriptive rules that companies are required to follow. For example, in the United States Sarbanes-Oxley is a law that dictates ethical guidelines for US companies. In comparison, in England there is no law requiring British companies to follow prescribed ethical guidelines. Instead, companies voluntarily comply with the Cadbury Code of Best Practices. It is very important to consider U.S. Business Ethics when doing business in the United States.
Is Sarbanes-Oxley necessary?
The law imposes much stricter guidelines on companies and executives creating stronger shareholder rights. Yet Critics argue that the increased compliance costs hurt US companies and are unnecessary. For overall investment in the United States, the law creates a safer environment for foreign investors. Therefore, it has become a necessary part of doing business in the United States.
What are IRS Section 197 Intangibles- Amortization?
Normally the goodwill of a business is a non-depreciable asset. However, congress made an exception.
§ 197 : Taxpayers are allowed to recover the cost of a wide range of purchased intangibles, including goodwill and other “customer based intangibles,” on a straight line basis over 15 years, without regard to the actual useful life of the asset.
- § 197 usually does not apply to intangibles created by the taxpayer itself.
- Little practical significance because taxpayers can deduct the majority of costs used to create goodwill under § 162
- § 197 only comes into effect when goodwill is purchased
What types of
tax deductions are available for individual taxpayers regarding
work clothing?
The generally accepted rule governing the
deductibility of clothing expenses is that the cost of clothing is deductible as a business expense only if:
- The clothing is of a type required as a condition of employment
- It is not adaptable to general usage as ordinary clothing, and
- It is not so worn as ordinary/daily clothing.
A taxpayer must satisfy all these requirements in order to pass an audit by the IRS concerning a work clothing tax deduction.
The following are examples of fixed costs and variable costs:
- Indirect labor- fixed costs could be variable under certain circumstances
- Indirect materials- variable costs
- Insurance on building- fixed costs
- Depreciation on building (straight-line)- fixed costs
- Overtime premium pay- variable costs
- Property taxes- fixed costs
- Polishing compounds- variable costs
- Depreciation on machinary (based on machine hours used)- variable costs
- Employer's payroll taxes- variable costs
- Machine lubricants- variable costs
- Employees' hospital insurance (paid by employer)- fixed costs
- Labor for machine repairs- variable costs
- Vacation pay- variable costs
- Patent amortization- fixed costs
- Janitor's wages- fixed costs
- Rent- fixed costs
- Factory electricity- fixed costs
- Plant manager's salary- fixed costs
The main purpose of the
accounting income statement is to report the net income earned by a company during a specified period. Most company's issue annual and quarterly income statements.
The income statement is generally considered the best representation of a company's financial health. A well prepared should answer the following questions:
- What is the company's current financial status (profit/loss) ?
- What were the company's operating results for the period?
- What did the company use its cash for during the period.
Additional Links to Accounting Problems and Examples:
In relation to financial and managerial accounting,
default risk is the probability that a company or customer will not be able to make timely debt or interest payments when they are required.
When the amount of debt in a company's capital structure increases, the likelihood of default increases significantly because the principal and required interest payments become much larger.
Additional Accounting Examples:
What is the purpose of higher leverage?
There are many important reasons why a company might make use of high leverage in its borrowing practices. One reason is that higher leverage allows a company to expand without requiring additional stockholder investments but also will make repayment to creditors less certain.
It is important to check a company's financial statements with financial ratios to ensure that they will be able to meet future liabilities.
Additional Accounting Examples:
It is important to consider Dividend Preferences in companies that have both common stock and preferred stock. The manner in which the dividends are divided is based on the rights of preffered stock holders.
Additional Accounting Examples and Explanations:
What is the different between Prepaid Rent and Unearned Rent?
The following is an accounting example explaining the different between prepaid rent and unearned rent. Prepaid rent is a type of payment made by a tenant in advance of its due date and is an asset to the receiving company. For example, if the apartment's tenant had paid $240 in January for the entire year rent ($20 a month), it would show as of 1/31/xx $240 as prepaid rent. 240/12=20, 240-20=220.
The landlord in this situation would show $220 as unearned rent as of 1/31/xx a liability on the balance sheet, because they have received money for rent in which they have not provided service February through December, therefore the title unearned rent. This is the matching principle in accounting, primarily the major underlying principal of generally accepted accounting principles (GAAP).
Additional Accounting Examples:
Advance Payments and Unearned Rent
Credit Sales and Purchases
Accounting Cost Principle
Revenue Recognition Principle
Many firms have inventories that are highly seasonal and change greatly throughout their business year. Therefore, calculating the
inventory turnover from end of year inventories will not produce the most accurate results for different firms. Companies with large seasonal changes in inventories are better to calculate the firm's average inventory over the past year and use that to calculate
inventory turnover than other less accurate methods.
What is fair value accounting and how is it related to the accounting for trading securities?
In accounting we have to rationalize relevance and reliability, as outlined in the FASB's conceptual framework. In financial reporting this means fair value vs. historical costs. On many physical assets, GAAP is recording at historical costs. However, on trading securities and many intangible assets, its irrelevant to record them at historical costs.
Companies follow a fair value hierarchy, when reporting costs. There are three levels, based on reliability.
A
receivable turnover ratio measures how long it takes for a company to collect on credit sales. This turnover ration tells an accountant how many times receivables are turned over. The
average collection period will indicate the average length of time that a firm must wait after making a sale before it receives cash.
Receivables Turnover = Sales/ Accounts Receivable
Convergence is the increasing similarity of management practices in firms. It is more apparent in transnational firms than multinational firms.
Globalization is pushing
convergence for multiple reasons including global customers, growing levels of economic development, and global competition. In order for firms to remain competitive, it is an advantage to be aware of what people are doing in other foreign countries.
Transnational firms must seek to take advantage of their foreign domestic situations by assimilating into their culture.
For further information about international business, check these links:
Advantages and Disadvantages of Globalization
Multi-Domestic Strategy and Transnational Strategy
The following is the accounting definition and explanation of a
fiscal year:
The year long accounting period used by a company is known as its fiscal year. The maximum length of this accounting period is generally twelve months which includes all transactions that have taken place in the
accounting cycle or
fiscal yearA year-long accounting period that ends when its business activities are at their lowest point in the annual operating cycle is called a natural business year. It is possible to see the long-term financial history of a company by reviewing
balance sheets that are prepared every year. The history of operations for each
fiscal year is shown in the
income statement.
The following four types of errors will not cause an
inequality in the trial balance of an account.
- Recording a transaction more than once
- Posting part of a specific transaction correctly as a debit or credit yet doing it in the wrong account.
- Failing to record a transaction or to post a transaction in the appropriate account
- Accidentally recording the exact same erroneous amount for both debit and credit parts of a transaction.
Additional Accounting Examples and Explanations:Information on the Accounting CycleWhat is a Trial Balance?Common Trial Balance Errors
What is a Normal Balance
The sum of increases to the account is equal to or greater than the decreases to the account. Hence, the account is considered to have a normal balance.
There are two important criteria for an action to be considered an Accounting Business Transaction
- The business transaction must be recorded
- Transactions that are not related directly to outsiders are sometimes referred to as internal transactions.
What is the accounting definition of
Maturity Value?
Bond Maturity Value is the amount of an obligation to be collected or paid at maturity by the bond issuer that is equal to the principal plus any interest.
The Plant-wide overhead rate is used by companies as a single overhead rate that is used throughout all production departments in a specific plant. It is popular for companies to use multiple overhead rates rather than plantwide overhead rates to more accurately distribute overhead costs among produced products.
It is a good idea to use multiple overhead rates in manufacturing situations when one department is machine intensive and another department is more labor intensive in its production techniques.
Globalization drivers are conditions in an industry that favor transnational/international strategies over multi-local/regional strategies.
These factors generally fall into four categories such as markets, costs, governments, and competition.
An example of a cost factor would include the search for cheaper local labor and procuring cheaper raw materials in foreign countries.
For further information about international business practices, check these links:
Advantages and Disadvantages of Globalization
Multi-Domestic Strategy and Transnational Strategy
A
work sheet is a preparation tool used by accountants to help them produce
financial statements. They are normally only used within the company and will not be shown to outsiders. In todays computer economy, many are prepared on computer spreadsheet programs such as Excel.
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