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1031 (a) (1)) I don’t think John and Jane would be able to utilize a 1031 tax exchange in this scenario because I don’t think the handcrafted jewelry that Jane sells would constitute their house as a business property as that is not the main purpose of the property. Personal properties are unable to take advantage of the 1031 tax exchange.
2-C:
c. Does Jane have a business or hobby? Why is this distinction important? Jane’s handcrafted jewelry would likely be classified as a business. The reason this is true is because to be classified as a business one must engage in the activity with the motive of turning a profit. (Doggett v. Burrett, 3 ustc ¶1090, 12 AFTR 505, 65 F.2d 192 (CA-D.C., 1933) With a profit of $20,000 for the year it is safe to say that this is a business and not a hobby. Also to be taken in to consideration when distinguishing between hobby and business is the amount of time dedicated to the activity. This is not provided to us but since the jewelry she is selling is handcrafted I think it can be assumed that enough time is dedicated to the activity to label it as a business. The reason this distinction is important is in the scenario where a loss may be incurred. If this activity is classified as a business any losses may be deducted whereas if it were classified as a hobby, the losses would not be able to be deducted. Also, when classified as a business she is allowed more deductions such as first year expenses and auto expenses. As a hobby she may only deduct expenses up to as much as her income. Expenses in excess of hobby income are considered personal losses. (http://www.ipowerweb.com/iboost/manage/business/your_business/40004.htm) 2-D: d. Would Jane (and John) realize better tax benefits if she had a separate business for her jewelry making activities? Jane would likely realize better tax benefits if she incorporated the business since she would no longer have to pay self-employment taxes and would instead just need to pay taxes on her wages. It would probably be most beneficial for her to set up the business as an LLC so she can separate herself from the business. She should report the income on a schedule C on their tax return. This allows any losses to be used to offset John’s income. Single-member LLC’s are not treated as a separate entity for income tax purposes. (http://www.irs.gov/instructions/i1040sc/ch01.html) 2-E: e. What tax benefits would John realize if he invested $15,000 in Jane’s jewelry making? If John and Jane file a joint return they would be able to deduct the $15,000 as long as Jane used the $15,000 for business expenses. …show more content…
(IRC Sec. 62 (a) (1))
2-F:
f. Can Jane depreciate her vehicle or jewelry making equipment? How?
Yes, Jane can depreciate her vehicle and equipment. Since both are frequently used for business purposes she is allowed to depreciate them. She would be able to deduct the full purchase price of the vehicle and the equipment from her gross income (IRC Sec. 179). In order to qualify for the deduction the equipment/vehicle in question must be used more than 50% of the time for business purposes. The deduction is limited to the percentage of business use of the asset. (http://www.section179.org/section_179_deduction.html)
3: 3. John and Jane Smith tax issue:
a. Should John and Jane file separate tax returns or jointly?
John and Jane should definitely file a joint return. The difference in their income is so great that if they filed separately John would likely be in a higher tax bracket whereas if they filed jointly, Jane’s low income would likely bring them down to a lower tax bracket allowing them to pay a lesser tax rate on John’s income. (http://www.moneychimp.com/features/tax_brackets.htm)
2-C:
c. Does Jane have a business or hobby? Why is this distinction important? Jane’s handcrafted jewelry would likely be classified as a business. The reason this is true is because to be classified as a business one must engage in the activity with the motive of turning a profit. (Doggett v. Burrett, 3 ustc ¶1090, 12 AFTR 505, 65 F.2d 192 (CA-D.C., 1933) With a profit of $20,000 for the year it is safe to say that this is a business and not a hobby. Also to be taken in to consideration when distinguishing between hobby and business is the amount of time dedicated to the activity. This is not provided to us but since the jewelry she is selling is handcrafted I think it can be assumed that enough time is dedicated to the activity to label it as a business. The reason this distinction is important is in the scenario where a loss may be incurred. If this activity is classified as a business any losses may be deducted whereas if it were classified as a hobby, the losses would not be able to be deducted. Also, when classified as a business she is allowed more deductions such as first year expenses and auto expenses. As a hobby she may only deduct expenses up to as much as her income. Expenses in excess of hobby income are considered personal losses. (http://www.ipowerweb.com/iboost/manage/business/your_business/40004.htm) 2-D: d. Would Jane (and John) realize better tax benefits if she had a separate business for her jewelry making activities? Jane would likely realize better tax benefits if she incorporated the business since she would no longer have to pay self-employment taxes and would instead just need to pay taxes on her wages. It would probably be most beneficial for her to set up the business as an LLC so she can separate herself from the business. She should report the income on a schedule C on their tax return. This allows any losses to be used to offset John’s income. Single-member LLC’s are not treated as a separate entity for income tax purposes. (http://www.irs.gov/instructions/i1040sc/ch01.html) 2-E: e. What tax benefits would John realize if he invested $15,000 in Jane’s jewelry making? If John and Jane file a joint return they would be able to deduct the $15,000 as long as Jane used the $15,000 for business expenses. …show more content…
(IRC Sec. 62 (a) (1))
2-F:
f. Can Jane depreciate her vehicle or jewelry making equipment? How?
Yes, Jane can depreciate her vehicle and equipment. Since both are frequently used for business purposes she is allowed to depreciate them. She would be able to deduct the full purchase price of the vehicle and the equipment from her gross income (IRC Sec. 179). In order to qualify for the deduction the equipment/vehicle in question must be used more than 50% of the time for business purposes. The deduction is limited to the percentage of business use of the asset. (http://www.section179.org/section_179_deduction.html)
3: 3. John and Jane Smith tax issue:
a. Should John and Jane file separate tax returns or jointly?
John and Jane should definitely file a joint return. The difference in their income is so great that if they filed separately John would likely be in a higher tax bracket whereas if they filed jointly, Jane’s low income would likely bring them down to a lower tax bracket allowing them to pay a lesser tax rate on John’s income. (http://www.moneychimp.com/features/tax_brackets.htm)