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Law Outlines Federal Income Tax (Duke Zelenak) Outlines

Tax Preferences And Tax Shelters Outline

Updated Tax Preferences And Tax Shelters Notes

Federal Income Tax (Duke Zelenak) Outlines

Federal Income Tax (Duke Zelenak)

Approximately 51 pages

Federal Income Taxation outline for Professor Zelenak from Duke Law...

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Tax Preferences and Tax Shelters

Tax preferences

  1. Tax preference: Any exclusion or deduction that results in taxable income understating a taxpayer’s true economic income

    1. Section 103 excludes of municipal bond interest income.

    2. Example

      1. You are choosing between 100 municipal bond with 7% annual rate/ corporate bond 10% interest rate

      2. Mtr 30%

      3. Municipal bond 7 dollars interest income, tax liability 0

      4. Corporate bond 10 dollars interest income, tax liability 3, 7 after tax income

      5. Suppose mtr is 20%, corporate bond is preferable for the 20% mtr tax payer

Tax shelters

  1. Tax shelters: tax shelters refer to an investment or transaction that produces artificial tax losses, which can be used to avoid tax on income from other unrelated income

  2. Debt financed shelter

    1. 265(a)(2) provides that no deduction shall be allowed for interest on indebtedness incurred or continued to purchase or carry obligations the interest on which is wholly exempt from the taxes imposed by this subtitle.

    2. This disallows the interest expense deduction when a taxpayer uses borrowed money to buy muni bonds.

    3. It also applies when a taxpayer who already owns muni bonds takes out a loan secured by the bonds, and then uses the money to pay some unrelated expense.

    4. It does not apply merely because a taxpayer happens to have outstanding debts at the same time he owns municipal bonds. The statute requires some nexus between the bonds and the debt before the disallowance kicks in

  3. Passive loss rule

    1. Section 469 prohibits taxpayers from deducting losses from passive activities, defined as losses from businesses in which the taxpayer does not “materially participate,” against either salary income or portfolio income.

    2. The Act provides that deductions from passive trade or business activities, to the extent they exceed income from all such passive activities (exclusive of portfolio income), generally may not be deducted against other income. Suspended losses and credits are carried forward and treated as deductions and credits from passive activities in the next year. Suspended losses from an activity are allowed in full when the taxpayer disposes of his entire interest in the activity.

    3. 469 does not prohibit the deduction of a loss from a passive activity against any unrelated income; a loss from one passive activity can be used to shelter income from another passive activity

    4. Material participation

      1. a passive activity is a business in which the taxpayer does not materially participate

      2. The general rule of §469(h)(1) tells us only that material participation must be “regular, continuous, and substantial.” In addition, §469(h)(2) provides that a limited partner cannot materially participate in a limited partnership.

      3. In most cases, a taxpayer will not satisfy the material participation standard unless he participates in the activity for more than 500 hours during the year

      4. §469(c)(2) provides that any rental activity is passive, but two special rules provide limited relief for some real estate investors. Under §469(i), moderate-income taxpayers who “actively participate” (a less demanding standard than material participation) in rental real estate activities can deduct up to $25k of their losses. In addition, real estate professionals (such as developers and brokers) who devote more than 750 hours per year to real estate businesses are not subject to the rule that rental activities are automatically passive

    5. Grouping...

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