 Income tax 2023-2024, taxable income overview. Get ready and some coffee so we can recognize the quacks when doing income tax preparation 2023-2024. Most of this information can be found in the line instructions section of the form 1040 instructions tax year 2023, which you can find on the IRS website at irs.gov, irs.gov. Looking at the income tax formula, our focus on line one income. Remembering that the first half of the income tax formula is in essence a funny income statement. Normally an income statement having income minus expenses leaving the net income. For the income tax equation, we have the income line item, the expenses are basically deductions, which are the above the line deductions or adjustments to income below the line deductions, the greater of standard or itemized deductions to get to first a word from our sponsor. Yeah, actually we're sponsoring ourselves on this one because apparently the merchandisers, they don't want to be seen with us. 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Noting that for taxes, everything that's flipped on its head, normally we like higher income. But for taxes, we want the income to be as low as possible because a lower income will result in lower taxable income, which will result in less taxes. So our question is often going to be with the income line item, do I have to include this in income? Or is there an exception where it's exempt? And I do not have to include it in income. We also have a question as to whether it's going to be taxed at ordinary income rates or taxed at some other income rates, such as special types of income like qualified dividends. Here's the income section on the form 1040. You can see you have a long list of items here that could be included in income. We can also think of the schedule one and other forms like a schedule C, schedule E, and so on, which also contribute in essence to the income line item, which we'll talk about in a bit in future presentations. Here's the schedule one, which has more line items that could possibly be included in income, additional income, and adjustments to income. All right, let's get the general outline here, income. Generally, you must report all income except income that is exempt from tax by law. For details, see the following instructions and the schedule one instructions, especially the instructions for line one through seven and schedule one line one through eight Z. You can also take a look at publication 525. So when we're thinking about the income line item, the question is, is this something that has to be included in income? From the IRS's perspective, they say that basically everything has to be included in income, unless there's an exception. So you can see where the default position here is in the matter of a gray area the IRS is leaning towards. It should be included in income. For most basic tax returns, the reporting of income can be fairly straightforward because we'll have the forms that will help us to populate the tax return and we have the forms because of the IRS's treatment and approach in order to generate those forms. That being, when they're looking at financial transactions, as we saw in prior presentations, they're looking at the payer of a transaction because that's the one that usually gets the deduction and they're going to say, if you want that deduction, you have to tell us who you gave the money to. That's where we get the W-2 forms. If you have an employee, do you want to deduct the expense of paying the employee? If yes, then you have to have a W-2 form. Give it to them. Give it to us. I'm talking as the IRS. I'm not the IRS, but the IRS would say give it to us and to them. If they're not an employee, you might still have those 1099 forms that you would have to give in certain circumstances. So for basic tax returns, we have that guidance. But you can think of many different scenarios where you might not have the guidance of a tax form and still be legally required to include income in the income tax formula on the income tax form. So forgiveness of paycheck protection program, the PPP loans. These, of course, were loans that were specific to a particular point in time when we had the whole COVID situation happening. So there's a bunch of complexities around the PPP loans themselves. So you don't need to include the amount of a forgiven PPP loan in your income tax. Now, normally when you have a loan, if the bank was to give you a loan, then if they were to forgive you the loan, meaning that would normally happen because you can't pay the bank back. They know that you don't have the money. They're just going to say, it's not worth our time to collect on it. We're going to forgive the loan. Well, if they forgive the loan, that would be similar to them basically giving you the money and then you give it back to them because you owe them the money. So you would think it would be included in essence in income. So it would be unless specifically in the code, it says that it's not. And that's what we're looking for. We're looking in the code to say, OK, by default, this would be income. The code might say in some situations that it is exempt, meaning we don't have to include it income, which of course would be good for taxes because for taxes we want the income to be lower rather than higher. So although you don't need to report the income from the forgiveness of your PPP loan on Form 1040 or 1040 SR, you do need to report certain information related to your PPP loan as an attachment to your tax return. So if you're in that situation, you can take a look at Publication 525, Foreign Source Income. You must report unearned income such as interest, dividends, and pension from sources outside the United States unless exempt by law or tax treaty. So clearly when we're thinking about taxes, we're talking about U.S. taxes, it can get a little bit confusing when we're talking about transactions outside of the United States, but typically from an income tax perspective, the government's going to say, well, if it's tax, if it's income, by default it'll be taxable unless they say basically otherwise, unless there's an exception. You must also report earned income such as wages and tips from sources outside the United States. If you worked abroad, you may be able to exclude part or all of your foreign-earned income for details, see Publication 54 and Form 2555. So it depends import on the treaties that we have with other countries and so on as to whether you're going to be reporting the income because you could of course wind up in situations where you're paying taxes in the foreign country and in the current country unless there's some kind of agreement between the two of them so that you're not basically doubling up on the taxes. Now, this is another area that might be of specialization. You might be a tax preparer that says I'm going to deal with a lot of people that have foreign income and work in that area in a more specialized way or you might be a person saying I'm going to stay away from that area because I'm trying to automate my taxes and that's going to cause more complexity than I want to deal with. It's outside of my point of focus. So again, as a tax preparer, you have to be able to determine where you want to be and you have to be strong enough to tell the clients that want you to take on work that you don't want to take on no. This is not within my scope of where my point of focus is. So foreign retirement plans, so if you were a beneficiary of a foreign retirement plan you may have to report the undistributed income earned in your plan. However, if you were the beneficiary of a Canadian registered retirement plan you can see REV procedure 2014 or 2014-55, 2014-44, IRB 753 and so on and so forth if that is applicable to you. Report distributions from foreign pension plans on lines 5A and 5B. Foreign accounts and trusts. You must complete part 3 of schedule B if you had a foreign account or trust, received a distribution from or were a grantor of or a transferer to a foreign trust. Again, foreign trusts of course would be typically a more wealthy individual type of situation and could add of course more complexity to the tax return preparation. You may also have to file form 3520, foreign financial assets. If you had foreign financial assets in 2023, you may have to file form 838, C form 83938 and its instructions. So clearly if you have foreign financial assets, you typically thinking of stocks and bonds the IRS is going to be skeptical that you had earnings from them such as dividends and interest that they want you to be reporting. If they were in the United States and stocks on the stock exchange, you would have been required to get the form 1099 for those transactions by the financial institution and so you can see if it's foreign then again the government is going to be skeptical that possibly you might not be reporting income from those sources you can imagine. So chapter 11 bankruptcy cases. So if you are a debtor in a chapter 11 bankruptcy case income taxable to the bankruptcy estate and reported on the estate's income tax return includes earnings from services you performed after the beginning of the case, both wages and self-employment income. Again, this is kind of a specialty type of area where you have bankruptcy. There's different chapters with regards to bankruptcy chapter 7 chapter 11. This would be another point of specialization possibly for some individuals and another point where some people might say that's beyond the scope for my general tax preparation practice. So income from property described in section 541 of title 11 of the U.S. Code that you either owned when the case began or that you acquired after the case began and before the case was closed dismissed or converted to a case under the different chapter. So because this income is taxable to the estate don't include this income on your own individual income tax return. Now we get into here into basically different entities that might be basically subject to tax and we have an estate that may have to basically in essence file the taxes in and of itself. You have a similar situation which we might touch on as well with regards to a state taxes or in the event of a death, for example. If someone dies, the question is if you inherit the money, is that something that's going to be included in taxes? You also have other types of entities such as trusts, for example, that could have different kind of tax implications. And again, the idea would be do you want to be in a situation where you're going to be dealing with those more complex scenarios with different taxable types of entities in which case you have to determine things like is the income taxable on the individual tax return or possibly in the other entity such as the estate or trust, for example, or are those cases where you're going to be working possibly with someone else and advising people possibly where to go for further assistance on those types of things. For that purpose you must take into account all your self-employment income for the year from services performed both before and after the beginning of the case. Also, you or the trustee, if one is appointed, must allocate between you and the bankruptcy estate, the wages, salary, or other compensation and withheld income tax reported to you on Form W2. In other words, you might have gotten paid for the managing of the estate and that possibly could then be taxable to you. So a similar allocation is required for income and withheld income tax reported to you on Forms 1099. So you might have got a 1099 basically treating you as a contractor as opposed to a W2. So you must also include a statement that indicates you filed a Chapter 11 case and that explains how income and withheld income tax reported to you on Forms W2 and 1099 are allowed between you and the estate for more details including acceptable allocation methods. You can see notice 2006-832006-40. Alright, community property states. Now this is an interesting thing again because we have the federal taxes we're looking at here which could be impacted by some things that are basically under state laws. One of those big things being whether or not you're in a community property state or not. So community property states include Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin. If you and your spouse lived in a community property state, you must usually follow state law to determine what is community income and what is separate income. So this could come into play for example when a married couple decides to file married filing separately. You might have different tax implications based on whether you're in a community property state or not. So for details you can see form 8958 and publication 555. Nevada, Washington, and California domestic partners. So now we have this situation with again a domestic partner is something that could be under the state laws which could have an impact on the federal tax component. So a registered domestic partner in Nevada, Washington, or California must generally report half the combined community income of the individual and their domestic partner. So for that you can see form 8958 and publication 555 for more detail.