 Hello and welcome to this session. This is Professor Farhad, in which you would look at the CPA exam simulation, where we have to compute taxable income. So we have a client, and we are giving a bunch of information about this client, such as income and expenses, and we have to compute taxable income. Now, on the CPA exam, you may not receive a comprehensive simulation, such as this one. You may receive a partial of it. Also on this simulation, we're gonna illustrate the concepts of deductions for AGI and deductions from AGI. Also in this session, we are going to talk about rental property. So this CPA simulation or this exercise touches upon several topics, which are how to compute taxable income, which is a big one, deductions for AGI, deductions from AGI, and we have to determine how to treat a rental property that's rental of vacation home. So on the exam, they might give you the data such as this one, or they might give you exhibits for some of the data. So rather than giving you, for example, here I'm giving you the interest on vacation home, 5,000. I'm giving you the property taxes on vacation home, 2,400. So rather than giving you this information, I can give you form 1098 from the bank, showing you how much interest you paid, showing you how much property taxes you paid for the rental property. Also, you have interest on your main home and property taxes on your main home. I could also show you a 1098, another 1098, showing you this information. So the CPA exam, what they try to do, they try to show you the information in a different format. Same thing with dividend, I'm giving you dividend. I can give you a 1099, DIV, showing you 600, or I can tell you, you're received from Ford Motor Company, 600 of dividend. So don't be afraid when you see exhibits. Look at the exhibit and examine the exhibits. Nevertheless, we're gonna go ahead and solve this simulation. Let's go ahead and get started. Before we proceed any further, I have a public announcement about my company, farhatlectures.com. Farhat Accounting Lectures is a supplemental educational tool that's gonna help you with your CPA exam preparation as well as your accounting courses. My CPA material is aligned with your CPA review course, such as Becker, Roger, Wiley, Gleam, Miles. My accounting courses are aligned with your accounting courses, broken down by chapter and topics. My resources consist of lectures, multiple choice questions, true-false questions, as well as exercises. Go ahead, start your free trial today. First, we have to compute how much income. So first, start with income. Well, we have income and we have income from wages, income from wages and income from wages 45,000. Is that included in your taxable income? 100% that's included in taxable income. Therefore, we're gonna start by listing salary of 45,000. The next source of income is rental of vacation home. Rental of vacation home is, the property was rented 60 days, used personally 60 days and it was vacant 245 days. Now we're gonna dive into the rental of vacation home property. What are the rules for that? So now you have to know the rules. Well, remember, if you have a rental of vacation home, it can be three different classification. It can be personal use, in other words, not a big deal, you don't have to worry about it. It could be hybrid or it could be fully rental. Fully rental means primarily rental. So it could be primarily personal, primarily rental and hybrid. In the prior session, I talked about, we covered these topics, but let's go ahead and apply what we learned. Okay, so when is it personal use? Strictly personal use. Well, it's strictly personal use when we use the property for, when we rented the property for less than 14 days. So here we rented the property, rented for 60 days. Therefore, it cannot be that classification. Why? Because we rented the property for 60 days, 60 days is more than 15 days. Therefore, it's not personal use. It's not personal use. We cannot treat it as so. We have two more options, hybrid and rental. So let's see if this property is a hybrid. So we know it's not primarily personal. Let's see if it's hybrid. When is it hybrid? If the personal residence is rented for 15 days or more, which is yes, we do need that qualification. 15 days or more. And is used for personal days more than the greater of for personal days. Did we use it for personal days? Greater of A, 14 days or 10% of rented days. Well, let's see. We used it for, it's rented for more than 15 days. That's fine. We met that. We met that because it's rented for 60 days and it was rented for the greater of 14 days. Or 10% of 60, 10% of 60 equal to six days. Yes. And it was used for personal days for more than that. So it's rented more than 15 and met the second qualification, the greater of either 14 days or 10% of rental days. Well, what does this looks like? This looks like a hybrid. When is it primarily rental? The same rule as this, but not used for personal days for more than 15 days or 10%. So here it's used more because it's used more, it's hybrid. If it was not used more, it would have been rental. So all in all, what do we say? We say this is a hybrid property. What does that mean? If it's a hybrid property, it means the expenses will have to be allocated between personal and business. So the expenses will have to be allocated. Also, if it's a hybrid, we have to treat it as a hobby. What does that mean? Hobby means we cannot have a net loss. The maximum we can have is, is, is a zero, a break even. So the rental days is 60. It was, and rental days rented for 60 days, the rental days is 60. 10% of this is six days. So it's a greater of 14 days or 10% of rental days. Yes, we used it greater than 14 days, or 10% of rental days for personal because the personal was 60, therefore it's hybrid. Well, if it's hybrid, again, the maximum we can deduct is whatever we got an income. So let's complete a schedule E for this rental property. First, we are going to report the rental income, which happens to be 4,250. So we're done with the 45. Now we reported the 4,250. Now we need to deduct the expenses. The first thing we're going to deduct is the interest on vacation home and property taxes on vacation home. That's what you deduct first because those could be deducted on your schedule A. So you have to deduct them first in that order. Well, let's see. Mortgage and taxes, what we do is we add them up, we add them up 5,000. We add them up 5,000 plus 2,400 and we multiply them by 60 divided by 365. And as a result, we are going to be deducting $1,216, $1,216 in mortgage and taxes. How much is income remainder that we can deduct is 3,033. The next we're going to do, we're going to look at utilities and maintenance for the vacation home, 3,300. Well, we can deduct half of it because this is a hybrid. We can deduct half of maintenance, not maintain maintenance, which is for maintaining the home. We can deduct half of this, which is 1,500. After we deduct half of this, we are going to have income of 1,533. We still have depreciation on rental property of 4,000. We cannot use 4,000 because if we use 4,000 we'll have a net loss. Therefore, we can only deduct 1,533 and now we have a break-even of zero. Now, bear in mind any amount, any amount. So notice here, the total amount of mortgage and interest. If we add up the mortgage and the interest, they add up to 7,400. We used up, we used of them, we used of those 1,216. The remainder that's not used is 6,184, which will be used on schedule A. And the depreciation, you know, whatever not depreciated will be carried on for future years as well. So basically we're done with rental. Therefore, how much do we report for rental as far as income? We report for rental zero. And I put zero here to remind you, this is treated as a hobby because it's a hybrid property. What else do we have? So we're done with the rental, municipal bond. That's not taxable. Also, we have interest on loan use for municipal bond. That's not deductible. So take this one out, okay? But what I want to mention before we proceed any further is all the deductions that we took here, the 12,16, the 1,500, the 1,533.56, those are deductions for AGI because we took them before we arrived to AGI. We have not arrived to AGI as of yet. Then we have dividend from Ford Motor Company. Is that taxable? Of course, the dividend is taxable. Therefore, our total taxable income is 46,600, okay? Now, what we have left is interest on home mortgage. This is, hopefully we know this, this is schedule A and schedule A is deduction from AGI. So basically, the 45,600 is our AGI, our adjusted gross income. It was income minus the adjustments. Property tax on home, that's schedule A as well. State income taxes, that's schedule A. Charitable contribution, that's a schedule A. Tax preparation fees, we cannot deduct. We cannot deduct. And depreciation, we already took care of that, okay? So now what we're gonna do, we're gonna take deductions from AGI. And I mentioned them, let's go ahead and add them up. So those are the four items that I mentioned that goes on schedule A. And what else goes on schedule A? The remaining interest and mortgage that we did not take on schedule E, which happens to be 6,184. So the total schedule A, which is deduction from AGI, the total schedule A is 21,834. Now, what do we need to decide upon? We have to look at our schedule A versus the standard deduction, whether we are single or married, filing jointly. And we have to determine whether schedule A is greater than the standard deduction. If it's a greater, we'll take the standard deduction. If it's a greater, we'll take the itemized deduction, schedule A. If it's not, we'll take the standard deduction. Now we can compute our taxable income, which is adjusted gross income minus the schedule A. And the reason I did this is to remind you that schedule A items are deductions from AGI, deductions from AGI. And this is our taxable income. And from this amount, we can compute our taxes. Remember, we have dividend, we have to be careful. We're not gonna go any further into this. But the point I'm trying to make, you'll have to know what are the deductions for AGI? What are the deductions from AGI? You have to know how to determine whether your vacation home is primarily rental use, primarily personal use, personal slash rental use, which is in our situation today. What should you do now? Go to Farhat Lectures, look at additional resources, multiple choice, true, false. Invest in yourself, whether you are a CPA exam candidate, whether you are an enrolled agent studying for that or an accounting student. Invest in yourself, good luck, study hard and stay safe.