MAGIC TAX

●       Increased Confidence: Participants will feel empowered to handle their own tax preparation and planning, reducing anxiety around tax season.

●       Practical Application: Readers will be able to apply the knowledge and skills gained in real-world scenarios, effectively managing their taxes or advising clients.

●       Enhanced Knowledge: A solid understanding of tax laws, regulations, and terminology, enabling informed discussions and decisions regarding taxes.

●       Maximized Deductions: The ability to identify and utilize available deductions and credits, leading to potential tax savings.

●       Effective Use of Tools: Familiarity with tax software and resources that streamline the tax preparation process, improving efficiency and accuracy.

●       Networking Opportunities: Connections with fellow participants and professionals, fostering a community for ongoing support and knowledge sharing.

●       Lifelong Learning: A mindset geared towards continuous education in the ever-evolving field of taxation, encouraging participants to stay updated on changes and trends.

 

 

This chapter is a general overview of tax preparation. 

Learn what the IRS considers as income.

How to prepare a Schedule C 

Learn about the basic deductions. 

Learn how to amend tax returns. Also known as a 1040X

GLOSSARY

 

A

AARP

American Association of Retired Persons

 

Accrual method

Accounting method that reports income when earned (not necessarily received) and expenses when incurred (not necessarily paid), as opposed to the cash method. (Out of scope for the VITA/TCE programs.)

 

Active Participation

When a taxpayer makes significant rental or business management decisions, such as approving rental terms, repairs, expenditures, and new tenants (versus passive activity). Taxpayers who use a leasing agent or property manager are still considered active participants if they retain final management rights.

 

Active Pay

The military income a service member receives while on active duty (versus retirement or retainer pay).

 

Actual Expense Method

One of two methods for calculating business automobile expenses. For the actual expense method, the taxpayer determines the business portion of expenses for fuel, auto maintenance, parking fees and tolls, and auto loan interest. (The other method is the standard mileage method). The actual expense method is out of scope for the VITA/TCE programs.

 

Additional Child Tax Credit

A credit that may be taken if the full amount of the child tax credit cannot be claimed.

 

Adjusted Basis

The adjusted basis is the taxpayer's basis in a home increased or decreased by certain amounts. Increases include additions or improvements to the home such as installing a recreation room or putting on a new roof. In order to be considered an increase, the improvement must have a useful life of more than one year. Repairs that maintain the home in good condition are not considered improvements and should not be added to the basis of the property.

 

Adopted children

If a child is adopted during the year, the child is included in the taxpayer's household only for the full months that follow the month in which the adoption occurs. Similarly, if you place a child for adoption or foster care, the child is included in the tax household only for the full months before the month in which the placement occurs.

 

Adjusted Gross Income (AGI)

The taxpayer's total adjusted gross income (AGI) is the amount that is used to compute some limitations, such as the medical and dental deduction on Schedule A and the credit for child and dependent care expenses.

 

Adoption Taxpayer Identification Number

A nine-digit tax-processing number issued by the IRS for children who are in the process of being adopted and who can be claimed as a dependent or claimed for a childcare credit. The ATIN is used wherever the child's social security number is requested.

 

Advance EIC Payments

Payments of the earned income credit (EIC) paid to qualified taxpayers through the regular paycheck.

 

Advanced Premium Tax Credit

A tax credit for certain people who pay premiums to enroll in a qualified health plan offered through the Marketplace (Exchange). The credit reduces the amount of tax the taxpayer owes. It may also give the taxpayer a refund or increase the refund. If the taxpayer qualifies, the taxpayer is allowed a credit amount for any month during the year that the taxpayer or one or more of the family members (spouse or dependents) were:

 

AEIC

Advance Earned Income Credit Payments

 

After-tax Contributions

After-tax means the employee paid taxes on the money when it was contributed, i.e., the taxpayer has a cost basis in the plan.

 

Age Test

One of the tests for identifying a qualifying child: Was the potential dependent under age 19 and younger than the taxpayer at the end of the year? Or, was the person under age 24 at the end of the year and a full-time student for some part of each of five months during the year? Or, Was the person any age and permanently and totally disabled?

 

Alimony

Alimony is a payment to or for a spouse or former spouse under a separation or divorce instrument.

 

Allocated Tips

Tips an employer assigns to an employee. They are in addition to the tips the employee reported to the employer.

 

American Opportunity Tax Credit

The American opportunity credit can be up to $2,500 per eligible student, depending on the amount of eligible expenses and the amount of tax on the return. The American opportunity credit can be up to $2,500 per eligible student, depending on the amount of eligible expenses and the amount of tax on the return.

 

 

Amount Realized

The amount realized is the selling price minus selling expenses commissions, advertising fees, legal fees, and loan charges paid by the seller, such as points.

 

Annuity

A series of payments under a contract from an insurance company, a trust company, or an individual. Annuity payments are made at regular intervals over a period of more than one full year.

 

Applicable taxpayer (ACA term)

(For purpose of premium tax credit) – Taxpayer must be an applicable taxpayer to claim the premium tax credit (PTC). Generally, an applicable taxpayer is one who has household income at least 100 percent but not more than 400 percent of the Federal poverty line (FPL) for the family size, and cannot be claimed as a dependent. If the taxpayer is married at the end of the year, the taxpayer must file a joint return to be an applicable taxpayer unless an exception is met.

 

●       A taxpayer with household income below 100 percent of the FPL is an applicable taxpayer if all of the following requirements are met:

○       The taxpayer, the taxpayer's spouse or a dependent enrolled in a policy through a Marketplace.

○       The Marketplace estimated at the time of enrollment that the taxpayer's household income would be between 100% and 400% of the FPL for the taxpayer's family size.

○       Advance credit payments were made for the coverage for one or more months during the year.

○       The taxpayer otherwise qualifies as an applicable taxpayer.

 

A taxpayer with household income below 100% of the federal poverty line can be an applicable taxpayer as long as the taxpayer, the taxpayer's spouse, or a dependent who enrolled in a qualified health plan is not a U.S. citizen but is lawfully present in the U.S. and not eligible for Medicaid because of immigration status.

 

 

ARRA

American Recovery and Reinvestment Act

 

ATIN

Adoption Taxpayer Identification Number, issued by the IRS while a final domestic adoption is pending and the child does not have a social security number.

 

At-Risk Rule

One of two restrictions on how much a loss from passive activity can offset other sources of income. Taxpayers are restricted from claiming a loss for more than they could actually lose from the activity; they can claim a loss only up to the amount for which they are personally at-risk in the activity. (The other restriction is the passive activity rule.)

 

 

 

 

 

 

B

 

BAH

Basic allowance for housing, a type of excludable military income.

 

BAS

Basic allowance for subsistence, a type of excludable military income.

 

Basis

The basis in a home is determined by how the taxpayer obtained the home. If a taxpayer bought or built a home, the basis is what it cost the taxpayer to buy or build that home. If the taxpayer inherited the home, generally the basis is its fair market value on the date of the decedent's death, or on the later alternate valuation date chosen by the representative for the estate. There are special rules for determining the basis of property received from decedents who died in 2010.

 

Before-tax Contributions

Before-tax simply means that the employee did not pay taxes on the money at the time it was contributed, i.e., the taxpayer has no cost basis in the plan.

 

Bitcoin

Known as a virtual currency there may be creating immediate tax consequences for those using Bitcoins to pay for goods and services.

 

Blocked income

Blocked income is when a taxpayer cannot convert foreign currency to U.S. dollars due to local law or local government policy. Special tax rules allow taxpayers with blocked income to delay reporting part of their income.

 

Bona Fide Residence Test

To meet the bona fide residence test for the foreign earned income exclusion, taxpayers must show that they have set up permanent quarters in a foreign country for an entire, uninterrupted tax year.

 

Business Expenses

Business expenses are amounts that are ordinary and necessary to carry on a business.

 

Business Income

Business income is income received from the sale of products or services. For example, fees received by a professional person are considered business income. Rents received by a person in the real estate business are business income. Payments received in the form of property or services must be included in income at their fair market value.

 

Business Travel Expenses

Qualified business expenses for members of the armed forces such as uniforms, education and travel. Military employee business expenses are necessary business related expenses incurred by active members of the U.S. Armed Forces.

 

 

 

C

 

Cancellation of Debt For Principal Residence

Under the Mortgage Forgiveness Debt Relief Act of 2007, taxpayers may exclude certain debt forgiven or canceled on their principal residence. This exclusion is applicable to the discharge of qualified principal residence indebtedness. If the canceled debt qualifies for exclusion from gross income, the debtor may be required to reduce tax attributes (certain credits, losses, and basis of assets) by the amount excluded.

 

Capital Gain or Loss

Sale of stock, mutual funds, and the sale of a personal residence. The Capital Gain or Loss lesson will help you identify the asset's holding period, adjusted basis, net short term and long-term capital gains or losses, the taxable gain or deductible loss, the tax liability, and the amount of any capital loss carryover.

 

Capital Gain Distributions

Capital gains passed to investors typically by Mutual funds (regulated investment companies) and real estate investment trusts (REITs)

 

Capital Gains

See Capital Gain Distributions

 

 

 

Capital Loss Carryover

A taxpayer cannot take net losses of more than $3,000 ($1,500 for married taxpayers filing separately) in figuring taxable income for any single tax year. The allowable loss is referred to as the deduction limit. Unused losses can be carried over to later years until they are completely used up. The carryover losses are combined with the gains and losses that actually occur in the next year.

 

Cash for Keys

Cash for Keys Program income, which is taxable, is income from a financial institution, offered to taxpayers to expedite the foreclosure process.

 

Cash Method

Accounting method that reports income when constructively received (not earned) and expenses when paid (not incurred), as opposed to the accrual method.

 

Child and Dependent Care Credit

A nonrefundable credit that allows taxpayers to claim a credit for paying someone to care for their qualifying Dependents under the age of 13 or spouses or dependents who are unable to care for themselves. The credit ranges from 20 to 35% of the taxpayer's expenses.

 

Child Tax Credit

A credit that may reduce tax by as much as $2,000 for each qualifying child.

 

Citizen or Resident Test

One of the tests for identifying a qualifying child or qualifying relative as a dependent: Assuming all other dependency tests are met, the citizen or resident test allows taxpayers to claim a dependency exemption for persons who are U.S. citizens for some part of the year or who live in the United States, Canada, or Mexico for some part of the year.

 

 

Combat Zone

\Any area (1) the President of the United States designates by Executive Order as an area in which the U.S. Armed Forces are engaging or have engaged in combat, (2) the Department of Defense has certified for combat zone tax benefits due to its direct support of military operations, or (3) a Qualified Hazardous Duty Area established by statute where the service member receives imminent danger pay. Members of the U.S. Armed Forces who serve in a combat zone may exclude military pay from their taxable income.

 

Compensation

Wages, salaries, commissions, tips, bonuses, professional fees, earnings from self employment, and alimony.

 

Constructively Received

When an amount is credited to the taxpayer's account or made available to the taxpayer (or taxpayer's agent) without restriction.

 

Cost basis

An amount for which taxes have already been paid.

 

Coverage Family

All members of the taxpayer's family who are enrolled in a qualified health plan and are not eligible for minimum essential coverage (other than coverage in the individual market). The members of the coverage family may change from month to month. A taxpayer is allowed a premium tax credit only for health insurance purchased for members of the coverage family.

 

Coverdell ESA

A Coverdell ESA is a trust or custodial account created or organized in the United States only for the purpose of paying the qualified education expenses of the designated beneficiary of the account.

 

Credit

A direct reduction of the taxpayer's liability. Credits are allowed for such purposes as child care expenses, higher education costs, qualifying children, and earned income of low-income taxpayers.

 

Credit for the Elderly or Disabled

The credit for the elderly or the disabled is calculated on Schedule R and reported in the Tax and Credits section of Form 1040.

 

 

D

 

Date of Transaction

Either the date on a check made payable to the taxpayer or the date money is credited to the taxpayer's account. When converting foreign currency to U.S. dollars, the date of transaction is the date that determines the exchange rate to use.

 

Dependency Tests

Tests used for identifying qualifying children or qualifying relatives as dependents.

 

Dependent

Either a qualifying child or a qualifying relative of the taxpayer.

 

Dependent Care Benefits

These benefits include amounts employers pay to a taxpayer or directly to the care provider.

 

Dependent Taxpayer Test

One of the tests for identifying a qualifying child or qualifying relative as a dependent: Can the taxpayer or spouse (if filing jointly) be claimed as a dependent by another person?

 

Dependents of more than one taxpayer

The tax household does not include someone that can, but is not, claimed as a dependent if the dependent:

●       is properly claimed on another taxpayer's return, or

●       can be claimed by a taxpayer with higher priority under the tie-breaker rules.

 

Depreciation

An annual deduction that allows taxpayers to recover the cost of property used in a trade or business or held for the production of income. The amount of depreciation depends on the basis of the property, its recovery period, and the depreciation method. This is inscope for Military certification only (rental property).

 

Disability Income

This income comes from an employer's disability insurance, health plan, or pension plan. The payments replace wages for the time the taxpayer missed work because of the disability.

 

Disability Pension Income

Generally paid to a taxpayer who retires because of a disability before the minimum retirement age (set by the employer). The disability pension is considered regular pension income when the taxpayer reaches the minimum retirement age.

 

DITY

Move Do-it-yourself move. The most common form of military move is the partial DITY move, where the military provides a moving company to transport some of the service member's goods. Service members who receive DITY payments must include them in their gross income if it exceeds the allowable expenses.

 

Dividends

A corporation's distributions to its shareholders from its earnings and profits.

 

Divorced, separated, or never married parents

Special rules apply if the dependent is supported by parents who are divorced or separated; these rules also apply to parents who were never married. In general, the child will be considered a dependent of the custodial parent, assuming the child meets all the rules for a qualifying child or qualifying relative. However, the custodial parent can agree to allow the noncustodial parent to treat the child as a qualifying child or qualifying relative if certain conditions are met. A signed Form 8332 or equivalent is required and must be attached to the noncustodial parent's return, or attached to Form 8453 if filing electronically.

 

Domicile

A taxpayer's legal, permanent residence. It is not always where the person presently lives.

 

DRIP Accounts

DRIP accounts leave cash dividends with the company for the purchase of additional shares. Even though these shares are from the same company, they retain their own individual basis separate from the original purchase

 

Dual Status Alien

An alien who is both a nonresident and resident alien during the same tax year. The most common dual-status tax years are the years of arrival and departure.. Each new purchased share could have a different basis.