Week 4 You Decide Essay

1395 Words Feb 27th, 2012 6 Pages
How is the $300,000 treated for purposes of Federal tax income?

The tax issue here is that John Smith wants to know how the $300,000 he earned through his client fee is taxed. The $300,000 is taxed as ordinary income and is taxed in the year received. John Smith worked on the case for two years but he did not earn the $300,000 until this year so he will include it in this year’s taxable income. Therefore John Smith needs to include the entire $300,000 as ordinary income on his Federal tax return. Gross Income means all income from whatever source derived which includes compensation for services, including fees, commissions, fringe benefits, and similar items. (IRC Sec. 61(a),(1))

b. How is the $25,000 treated for
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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)


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. (IRC Sec. 62 (a) (1))


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.

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