Chapter 6 Deductions And Losses: In General

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Discussion Questions
1. LO.1 “All income must be reported, and all deductions are allowed unless specifically disallowed in the Code.” Discuss.
2. LO.1 Michael earned $20,000 at the K-M Resort Golf Club during the summer prior to his senior year in college. He wants to make a contribution to a traditional
IRA, but the amount is dependent on whether it reduces his taxable income. If
Michael is going to claim the standard deduction, will a contribution to a traditional
IRA reduce his taxable income? Explain.
3. LO.1 Classify each of the following expenditures as a deduction for AGI, a deduction from AGI, or not deductible:
a. Sam gives cash to his father as a birthday gift.
b. Sandra gives cash to her church.
c. Albert pays Dr. Dafashy for medical services rendered.
d. Mia pays alimony to Bill.
e. Rex, who is self-employed, contributes to his pension plan.
f. April pays expenses associated with her rental property.
4. LO.1 Classify each of the following expenditures as a deduction for AGI, a deduction from AGI, or not deductible:
a. Amos contributes to his H.R. 10 plan (i.e., a retirement plan for a self-employed individual).
b. Keith pays child support to his former wife, Renee, for the support of their son,
Chris.
c. Judy pays professional dues that are reimbursed by her employer.
d. Ted pays $500 as the monthly mortgage payment on his personal residence.
Of this amount, $100 represents a payment on principal, and $400 represents an interest payment.
e. Lynn pays a moving company for moving her household goods to Detroit, where she is starting a new job. She is not reimbursed by her employer.
f. Ralph pays property taxes on his personal residence.
5. LO.1 Larry and Susan each invest $10,000 in separate investment activities. They each incur deductible expenses of $800 associated with their respective investments. Explain why Larry’s expenses might be properly classified as deductions from AGI (itemized deductions) and Susan’s expenses might be appropriately classified as deductions for AGI.
6. LO.1 Nanette is a first-grade teacher. Potential deductions are charitable contributions of $800, personal property taxes on her car of $240, and various supplies purchased for use in her classroom of $225 (none reimbursed by her school). How will these items affect Nanette’s Federal income tax return for 2016?
7. LO.1 In the determination of whether a business expense is deductible, the reasonableness requirement applies only to salaries. Evaluate this statement.
8. LO.1 Dave uses the second floor of a building for his residence and the first floor for his business. The uninsured building is destroyed by fire. Are the tax consequences the same for each part of the building? Explain.
9. LO.1 Mary Kate owns a building that she leases to an individual who operates a grocery store. Rent income is $10,000, and rental expenses are $6,000. On what Form 1040 schedule or schedules are the income and expenses reported?
10. LO.2 What is the “actually paid” requirement for the deduction of an expense by a cash basis taxpayer? Does actual payment ensure a deduction? Explain.
11. LO.2 Aubry, a cash basis and calendar year taxpayer, decides to reduce his taxable income for 2016 by buying $65,000 worth of supplies for his business on
December 27, 2016. The supplies will be used up in 2017.
a. Can Aubry deduct the expenditure for 2016? Explain.
b. Would your answer in part (a) change if Aubry bought the supplies because the seller was going out of business and offered a large discount on the price?
Explain.
12. LO.3 Clear, Inc., is a bottled water distributor. Clear’s delivery trucks frequently are required to park in no-parking zones to make their deliveries. If the trucks are occasionally ticketed, can Clear deduct the fines that it pays? Explain.
13. LO.3 Ted, an agent for an airline manufacturer, is negotiating a sale with a representative of the U.S. government and with a representative of a developing country. Ted’s company has sufficient capacity to handle only one of the orders.
Both orders will have the same contract price. Ted believes that if his employer authorizes a $500,000 payment to the representative of the foreign country, he can guarantee the sale. He is not sure that he can obtain the same result with the U.S. government. Identify the relevant tax issues for Ted.
14. LO.3 Stuart, an insurance salesperson, is arrested for allegedly robbing a convenience store. He hires an attorney who is successful in getting the charges dropped. Is the attorney’s fee deductible? Explain.
15. LO.3 Linda operates an illegal gambling operation. Which of the following expenses that she incurs can reduce taxable income?
a. Bribes paid to city employees.
b. Salaries to employees.
c. Security cameras.
d. Kickbacks to police.
e. Rent on an office.
f. Depreciation on office furniture and equipment.
g. Tenant’s casualty insurance.
h. Utilities.
16. LO.3 Gordon anticipates that being positively perceived by the individual who is elected mayor will be beneficial for his business. Therefore, he contributes to the campaigns of both the Democratic and the Republican candidates. The Republican candidate is elected mayor. Can Gordon deduct any of the political contributions he made?
17. LO.3 Melissa, the owner of a sole proprietorship, does not provide health insurance for her 20 employees. She plans to spend $1,500 lobbying in opposition to legislation that would require her to provide such insurance. Discuss the tax advantages and disadvantages of paying the $1,500 to a professional lobbyist rather than spending the $1,500 on in-house lobbying expenditures.
18. LO.3 What limits exist on the deductibility of executive compensation? Do the limits apply to all types of business entities? Are there any exceptions to the limitations? Explain.
19. LO.3 Paul operates a restaurant in Cleveland. He travels to Columbus to investigate acquiring a business. He incurs expenses as follows: $1,500 for travel, $2,000 for legal advice, and $3,500 for a market analysis. Based on the different tax consequences listed below, describe the circumstances that were involved in Paul’s investigation of the business.
a. Paul deducts the $7,000 of expenses.
b. Paul cannot deduct any of the $7,000 of expenses.
c. Paul deducts $5,000 of the expenses and amortizes the $2,000 balance over a period of 180 months.
20. LO.3 Karen and Andy own a beach house. They have an agreement with a rental agent to rent it up to 200 days per year. For the past three years, the agent has been successful in renting it for 200 days. Karen and Andy use the beach house for one week during the summer and one week during Thanksgiving. Their daughter, Sarah, a college student, has asked if she and some friends can use the beach house for the week of spring break. Advise Karen and Andy on how they should respond, and identify any relevant tax issues.
21. LO.3 Hank was transferred from Arizona to North Dakota on March 1 of the current year. He immediately put his home in Phoenix up for rent. The home was rented May 1 to November 30 and was vacant during the month of December. It was rented again on January 1 for six months. What expenses related to the home, if any, can Hank deduct on his return? Which deductions are for AGI, and which ones are from AGI?
22. LO.3 Ray loses his job as a result of a corporate downsizing. Consequently, he falls behind on the mortgage payments on his personal residence. His friend Ted would like to make the delinquent mortgage payments for him.
a. Could the payments be structured so that Ray can deduct the mortgage interest?
b. Could the payment arrangement deny both Ray and Ted a mortgage interest deduction?
c. Could the payments be structured so that Ted can deduct the mortgage interest?
23. LO.3 Edna incurs various legal fees in obtaining a divorce. Which types of expenses associated with the divorce are deductible by Edna, and which are not?
24. LO.3 Ella owns 60% of the stock of Peach, Inc. The stock has declined in value since she purchased it five years ago. She is going to sell 5% of the stock to a relative. Ella is also going to make a gift of 10% of the stock to another relative.
Identify the relevant tax issues for Ella.
25. LO.3 Jarret owns City of Charleston bonds with an adjusted basis of $190,000. During the year, he receives interest payments of $3,800. Jarret partially financed the purchase of the bonds by borrowing $100,000 at 5% interest. Jarret’s interest payments on the loan this year are $4,900, and his principal payments are $1,100.
a. Should Jarret report any interest income this year? Explain.
b. Can Jarret deduct any interest expense this year? Explain.