Various methods of depreciation that yield larger deductions in the earlier years of the life of an asset than does the straight-line method. The double (or 200 percent) declining balance method is an example of an accelerated depreciation method.
Accident and Health Benefits
Employee fringe benefits provided by employers through the payment of health and accident insurance premiums or the establishment of employer-funded medical reimbursement plans. Employers generally are entitled to a deduction for such payments. Employees generally exclude the benefits from gross income.
A plan for reimbursing employees for expenses such as meals, entertainment, travel, and transportation incurred for business purposes on behalf of the employer. A plan is an accountable plan if the employer requires the employee to account for all business expenses and to return any excess reimbursements. For employees under an accountable plan, reimbursements aren't entered on the tax return as income and the expenses aren't deductible.
The method under which income and expenses are determined for tax purposes. Major accounting methods are the cash method and the accrual method.
The 12-month period that a taxpayer uses to determine federal income tax liability. Unless a taxpayer makes a specific choice to the contrary, his accounting period is the calendar year.
Accrual Method of Accounting
One of the two most common methods of accounting, the other being the cash method. Under the accrual method of accounting, income is reported in the tax year earned, whether or not received, and deductions are claimed in the tax year incurred, whether or not paid.
Interest that has been earned but not yet paid or credited; for example, interest earned on a bond since the last interest payment was made.
Debt incurred to acquire, construct, or improve the taxpayer's principal or secondary residence.
For purposes of the passive loss rules, income must be divided into three categories: active income, passive income, and portfolio income. Active income is income for which the taxpayer performs services. Examples are wages, salaries, tips, bonuses, and business and partnership income in which the taxpayer materially participates in the business or partnership. See Passive Income and Portfolio Income.
A taxpayer who is covered by an employer-maintained qualified retirement plan, or a qualified self-employed retirement plan, if even for only one day during the year.
Actual Expenses (Regular Method)
The method of deducting automobile expenses based on actual costs incurred.
Additional Child Tax Credit
A refundable credit available to taxpayers with three or more children qualifying for the child tax credit and whose regular child tax credit exceeds tax liability minus other nonrefundable credits. The additional child tax credit is computed on Form 8812. See also Child Tax Credit.
The cost or other original basis of property reduced by adjustments such as depreciation allowed or allowable and increased by capital improvements and other adjustments.
Adjustment to Income
An expense that may be deducted even if the taxpayer does not itemize deductions. Adjustments to income are subtracted from gross income to arrive at adjusted gross income.
A nonrefundable credit for qualified adoption expenses incurred for each eligible child. The credit cannot exceed $5,000 per child, or $6,000 per special-needs child. The limit is a per-child limit, not an annual limit, and can be carried forward for five years or until used.
Advance Earned Income Credit
Payment by an employer based on an employee's claim to entitlement to the earned income credit. Advance earned income credit payments are treated as additional taxes on the tax return.
Prepayments for services or goods that generally are includable in gross income upon receipt for both accrual- and cash-basis taxpayers.
Payments made by one spouse to the other spouse or former spouse under a separation or divorce agreement. Qualified alimony and separate maintenance payments are includable in the gross income of the recipient and are deductible by the payer. Child support payments, voluntary payments, and property settlements are not treated as alimony.
Alternative Minimum Tax (AMT)
The alternative minimum tax is designed to prevent taxpayers from escaping a fair share of tax liability by use of certain tax breaks. A taxpayer is subject to this tax if he or she has certain minimum tax adjustments or tax preference items and his or her alternative minimum taxable income exceeds the exemption allowed for his or her filing status and income level. The alternative minimum tax is computed on Form 6251.
Alternative Straight-Line Depreciation System
A MACRS (Modified Accelerated Cost Recovery System) system of depreciation using the straight-line method over an alternative (usually longer) recovery period.
A tax return filed on Form 1040X after the original return has been filed. An amended return is used to correct errors or to claim more advantageous ways of filing the original return. An amended return can also be used to carry back certain unused credits or a net operating loss.
The deduction of certain capital expenses over a fixed period of time. Amortization is claimed on Form 4562. Amortizable expenses include business start-up expenses, qualified forestation or reforestation costs, goodwill, going-concern value, covenants not to compete, franchises, trademarks, trade names, and section 197 costs.
The amount received by a taxpayer on the sale or exchange of property. The amount received is the sum of the cash and the fair market value of any property or services plus any of the seller's liabilities assumed by the purchaser. Determining the amount realized is the starting point for arriving at realized gain or loss.
The actual income and expenditures for a particular period multiplied by the ratio of the number of months in the period to 12 months.
A person who receives a pension or an annuity.
A fixed sum payable to a person at specified intervals for a specific period of time or for life. Payments represent a partial return of capital and a return on the capital investment. Therefore, an exclusion ratio must generally be used to compute the taxable and nontaxable amounts.
Annuity Starting Date
The first day of the first period for which an amount is due as an annuity payment under an annuity contract.
An item of useful or valuable property.
Special rules limiting the taxpayer's deductible business, partnership, S corporation, or real estate loss to cash invested plus debt he or she is legally obligated to pay and the adjusted basis of any property contributed.
An IRS examination and verification of a taxpayer's return or other transactions with tax consequences. An office audit is an audit by the IRS that is conducted in the agent's office. A field audit is conducted by the IRS on the business premises of the taxpayer or in the office of the tax practitioner representing the taxpayer.
Automobile expenses are generally deductible to the extent the automobile is used in business or for the production of income. Personal commuting expenses are not deductible. The taxpayer may deduct actual expenses (including depreciation and insurance) or the standard (optional) mileage rate may be used during any one year. For 1999, the standard business mileage rate was 32.5 cents per mile from January 1 through March 31, and 31 cents per mile for the remainder of the year. The standard business mileage rate for 2000 is 32.5 cents per mile. Automobile expenses incurred for charitable activities, medical purposes, and in connection with job-related moving expenses are deductible to the extent of actual out-of-pocket expenses for gas and oil or at the rate of 14 cents per mile for charitable activities, and 10 cents per mile for medical purposes and job-related moving expenses.
Business accounts receivable that have been included in income in a prior year that are uncollectible, legally binding debts owed to the taxpayer that are totally worthless and uncollectible, and debts the taxpayer must pay that he or she guaranteed in connection with his business or for a profit may be deductible as bad debts.
For tax purposes, a formal petition filed in a Bankruptcy Court under Chapter 7, 11, 12, or 13 of Title 11 of the U.S. Code.
The amount assigned to an asset from which gain or loss is determined for income tax purposes when the asset is sold. For assets acquired by purchase, basis is cost. Special rules govern the basis of property received by virtue of another's death or by gift, the basis of stock received on a transfer of property to a controlled corporation, the basis of the property transferred to the corporation, and the basis of property received upon the liquidation of a corporation.
Basis of Stock
If purchased, the amount paid for the stock. If the stock is received as a gift, basis is generally the basis of the previous owner or the fair market value when received. The basis of inherited stock is usually its fair market value on the date of the decedent's death.
A bond that has no owner's name registered on the books of the issuing company and is therefore payable to the holder.
A gift by will of personal property. A bequest is not includable in the income of the recipient. Basis is usually the value of the property at the decedent's death. If a bequest of money is to be paid at intervals, then to the extent that it is paid out of income from property, it is taxable income to the recipient.
A note obliging a corporation or governmental unit to repay, on a specified date, money loaned to it by the bondholder. The holder receives interest for the life of the bond. If a bond is backed by collateral, it is called a mortgage bond. If it is backed only by the good faith and credit rating of the issuing company, it is called a debenture.
Cash or property of a type not included in the definition of a nontaxable exchange. The receipt of boot will cause an otherwise tax-free transfer to become taxable to the extent of the lesser of the fair market value of the boot or the realized gain on the transfer. Examples of nontaxable exchanges that could be partially or completely taxable due to the receipt of boot include transfers to controlled corporations and like-kind exchanges.
Assets used in a trade or business or used to produce rental or royalty income.
Business Bad Debts
Business accounts receivable that have been included in income that are uncollectible, legally binding debts owed to you that are uncollectible, and debts you must pay that you guaranteed in connection with your business or for a profit may be deductible as bad debts.
The cost of qualified business gifts is deductible to a maximum of $25 per year per client or customer. The $25 limit does not apply to promotional items costing $4 or less on which the taxpayer's name is clearly imprinted.
Property used for the production of income. Examples include rental houses, machinery, factories, office buildings, and similar items.
A year that begins January 1 and ends December 31.
An option to purchase stock at a fixed price within a specified period of time.
A bond issue, all or part of which may be redeemed before maturity by the issuing corporation under specific conditions. The term also applies to preferred shares of stock, which may be redeemed by the issuing corporation.
Broadly speaking, all assets are capital assets except those specifically excluded by the tax Code. Major categories of non-capital assets include property held for resale in the normal course of business (inventory), trade accounts and notes receivable, depreciable property, and real estate used in a trade or business.
An expenditure made for assets with useful lives of more than one year. Usually capital expenditures may not be deducted in the year they are paid, even if they are paid in connection with a trade or business. In other words, they are capitalized and generally may be depreciated or amortized.
The gain from the sale or exchange of a capital asset.
Capital Gain Distributions
Amounts paid by mutual funds, regulated investment companies, and real estate investment trusts. These amounts represent the shareholder's portion of gain from the sale of capital assets owned by these investment companies. Capital gain distributions are taxed in the year constructively received and are always considered to be held long term.
Capital Gain or Loss Holding Period
The length of time a capital asset is owned by the taxpayer. Assets owned 12 months or less are held short term; those owned more than 12 months are held long term.
An improvement made to extend the useful life of a property or add to its value. Major repairs such as the replacement of a roof are capital improvements. The costs of capital improvements to business property must be capitalized and may be depreciated.
To treat the cost of additions and improvements to property as a capital improvement.
The loss from the sale or exchange of a capital asset. Up to $3,000 of net capital loss is deductible annually with the excess carried forward to future years. Losses on personal-use assets are not deductible.
Shares of stock that represent ownership of a portion of the corporation.
Provisions in the tax Code that allow certain losses or credits to be used in a tax year other than the tax year incurred. A carryover is to a future year. A carryback is to a prior year.
Cash Equivalent Doctrine
Generally, a cash-basis taxpayer does not report income until cash is constructively or actually received. Under the cash equivalent doctrine, cash-basis taxpayers are required to report income if the equivalent of cash (property, for example) is received in a taxable transaction.
Cash Method of Accounting
One of the two most common methods of accounting, the other being the accrual method defined elsewhere in this glossary. Under the cash method of accounting, income is reported in the tax year actually or constructively received and expenses are deducted in the tax year paid.
The complete or partial destruction of property resulting from an identifiable event of a sudden, unexpected, or unusual nature.
A casualty is the complete or partial destruction of property resulting from an identifiable event of a sudden, unexpected, or unusual nature. Examples are floods, storms, fires, earthquakes, and auto accidents. Individuals may deduct a casualty loss only if the loss is incurred in a trade or business, in a transaction entered into for profit, or is a personal loss arising from a disaster such as those mentioned above. Individuals deduct personal casualty losses as itemized deductions on Schedule A, subject to a $100 nondeductible amount and a reduction of the loss by 10 percent of the taxpayer's AGI. Use of Form 4684 is required.
The actual piece of paper that is evidence of ownership of stock in a corporation.
Certified Historic Structure
A structure listed on the National Register of Historic Places or located in a designated historic area. The IRS Code provides tax incentives for the rehabilitation of such structures.
Change in Accounting Method
A change from one method to another, which usually requires prior approval from the IRS. A change generally requires adjustments to avoid omissions or duplications.
Change in Accounting Period
A change from one period to another. Income for the short period created by the change must be annualized to calculate the tax for that period.
Money or property donated to a qualified charitable organization. Such donations are deductible on Schedule A as an itemized deduction.
Child and Dependent Care Credit
A tax credit of 20-30 percent of employment-related child and dependent care expenses for amounts of up to $4,800 is available to individuals who are employed and maintain a household for a dependent child or disabled spouse or dependent. The credit is computed on Form 2441 for Form 1040 filers and on Schedule 2 for Form 1040A filers.
Child Support Payments
Payments pursuant to a court order, divorce decree, or other legal obligation. Payments for child support do not constitute alimony and are not includable in gross income by the recipient or deductible as alimony by the payer.
Child Tax Credit
A nonrefundable credit of up to $500 per dependent child under age 17 at the end of the tax year.
Claim of Right
A term used in the tax Code in connection with money or other property received as income that the recipient holds, but that he or she is required to restore to the payer in whole or in part in a later year because it develops that he or she did not have an unrestricted right to it.
A tax year for which the statute of limitations has expired. The taxpayer can't claim a refund and the IRS can't collect additional taxes (with certain exceptions).
(1) The broker's fee for purchasing or selling securities or property for a client. (2) An allowance paid to a salesperson or agent for services rendered.
Contracts to buy or sell some fixed amount of a commodity (wheat or soy beans, for example) for a fixed price at a future date.
A state in which the laws governing property rights are based on British common law. The property and income of each spouse belongs to him or her separately.
Shares in the ownership of a corporation that are entitled to residual dividends, after bonds and preferred stock have first received interest and dividends. A common stockholder usually has a vote in deciding company affairs, including the election of a corporation's board of directors.
Income of a married couple, living in a community property state, which is considered to belong equally to each spouse, regardless of which spouse receives the income.
Property considered to belong in equal shares to a husband and wife. This concept of ownership for property acquired after marriage is followed in Arizona, California, Idaho, Louisiana, New Mexico, Nevada, Texas, Washington, and Wisconsin.
Traveling from one's residence to one's regular place of business and back to the residence.
Wages, commissions, tips, professional fees, and net self-employment income from services rendered; that is, earned income.
The taking of property by a public authority. The property is condemned as the result of legal action and the owner is compensated by the public authority. The power to condemn property is known as the right of eminent domain.
Payment in money or replacement property that is received for property condemned by a government authority.
A cash-basis taxpayer is taxed on income only as it is received. But if the income was unreservedly subject to his or her demand and he or she could have received it but chose not to do so, it is regarded as having been constructively received by him or her and is taxable. For example, interest credited to a savings account is constructively received even if the taxpayer hasn't withdrawn it.
An amount payable to the seller and equal to the gross selling price when no mortgages are involved. If a mortgage is assumed, the contract price is the gross selling price minus the amount of the mortgage plus the excess (if any) of the mortgage over the seller's basis and expenses of sale.
(1) Gifts to qualified charitable organizations as opposed to gifts to private individuals. Such contributions are generally deductible on Schedule A.
Travel expenses incurred in attending a convention are deductible if the meetings are related to a taxpayer's trade or business or job-related activities. If, however, the convention trip is primarily for pleasure or for investment purposes, no deduction for travel expenses is permitted. Limitations may apply to foreign convention expenses.
A bond or preferred stock that may, under specified conditions, be exchanged for common stock or another security, usually of the same corporation.
The exclusive legal right to sell, reproduce, or publish a literary, musical, or artistic work.
For income tax purposes, this term includes associations, trusts that have a majority of corporate characteristics, joint stock companies, and insurance companies.
(1) Cash and/or the value of property given to acquire the property received.
A method for recovering the taxpayer's investment in natural resources or timber. The cost is recovered ratably as the resource is extracted or the timber harvested. Total cost depletion cannot be claimed in excess of basis. Percentage depletion, the other method for computing depletion of natural resources, is defined elsewhere in this glossary.
Cost Method of Inventory Valuation
Valuing inventory purchased during the year at cost; that is, the invoice price less any discounts plus transportation or other costs incurred in acquiring the merchandise.
Cost of Goods Sold
Beginning inventory plus direct purchases, direct labor costs, and overhead costs less withdrawals for personal use and ending inventory. Sole proprietors compute their cost of goods sold in Part III of Schedule C.
Cost of Maintaining a Home
Expenses necessary to maintain a taxpayer's residence. These costs include rent or mortgage interest and real estate taxes, fire and casualty insurance on the dwelling, upkeep and repairs, utilities, paid domestic help, and food consumed in the home.
The writing off of the capital cost of qualified assets over a specified time period. See also Accelerated Cost Recovery System (ACRS) and Modified Accelerated Cost Recovery System (MACRS).
A bond with interest coupons attached. The coupons are clipped as they come due and are presented by the bond holder for payment of accrued interest.
Reductions of tax liability that Congress has decided should be allowed for various purposes to taxpayers who meet the qualifications. Some credits are refundable; that is, the IRS will send the taxpayer a check for any amount in excess of the tax liability. Most credits are not refundable, but some credits may be carried to other tax years.
The parent with whom a child lives for more than half the year.
A person or firm that regularly buys and sells property. A person is classified as a dealer if at the time of the sale, that person held the property primarily for sale to customers in the ordinary course of business. Gains from the sale of such property are ordinary gains not capital gains.
Declining Balance Method of Depreciation
An accelerated method of depreciation. The percent is determined by the type of property. The depreciable basis for the next year is reduced by the depreciation deduction taken in the current year.
An amount that may be subtracted from income that is otherwise taxable.
Compensation that will be taxed when received or upon the removal of certain restrictions on receipt and not when earned. For example, contributions by an employer to a qualified pension or profit-sharing plan on behalf of an employee is considered deferred compensation. Such contributions will not be taxed to the employee until the funds are made available or distributed to the employee, usually upon retirement.
Nonrecognition of realized gain at the time of a tax-deferred exchange. Deferred gain on the sale of a principal residence generally applies only to those sales made before May 7, 1997.
Defined Benefit Plan
An employee benefit plan that provides determinable benefits not based on employer profits.
Defined Contribution Plan
An employee benefit plan that provides a separate account for each person covered and pays benefits on amounts allocated to each account.
An exemption for an individual who qualifies as the taxpayer's dependent ($2,750 for 1999).
An individual who qualifies to be claimed as a dependent exemption on another person's income tax return.
Dependent Care Credit
A nonrefundable credit based on expenses paid for a dependent's care. Such care must enable the taxpayer to be gainfully employed or to look for gainful employment. The credit is computed on Form 2441 for Form 1040 filers and on Schedule 2 for Form 1040A filers.
The process by which the cost or other basis of a natural resource (for example, an oil and gas interest) is recovered upon extraction and sale of the resource. The two ways to determine the depletion allowance are the cost and percentage methods, both of which are defined elsewhere in this glossary.
Tangible personal property or real property used in business or held for the production of income with a determinable useful life of more than one year.
The deduction of a reasonable allowance for the wear and tear of assets (excluding inventory) used in a trade or business or held for the production of income. In a more narrow sense, the term depreciation refers to the method used to write off the cost or other basis of assets placed in service before 1981 over their estimated useful lives.
A transfer of real property to a beneficiary under the terms of a decedent's will. For income tax purposes, the term is used mainly in connection with determining the basis of property so acquired. Basis is the value of the property at the date of death of the decedent, or the later alternate valuation date if chosen for estate tax purposes. Receipt of property by devise is not a taxable event.
A taxable pension from an employer-funded disability plan or a disability provision of a retirement plan.
If a casualty is sustained in an area designated as a disaster area by the President of the United States, the casualty is designated a disaster loss. A disaster loss may be treated as having occurred in the taxable year immediately preceding the year in which the disaster actually occurred. Thus, immediate tax benefits are provided to victims of the disaster.
Money a taxpayer withdraws from a retirement plan such as an individual retirement arrangement or an employer-maintained pension plan. See also Distributions by Corporations.
Distributions by Corporations
As used in the tax Code, this term refers to any amounts paid by a corporation to its shareholders, or any property distributed, other than for value received in goods or services. It is a broader term than dividends, for a distribution may be a dividend, and therefore taxable income, or it may be a return of capital. See also Returns of Capital.
A stockholder's share of the profits of a corporation. An insurance dividend is not a true dividend but a return of premium. Dividends from a savings and loan association or credit union are interest, not dividends.
Divorce Decree (Final)
A decree issued after a divorce is declared final by the court. This action dissolves the marriage and returns the spouses to unmarried status. Alimony payments made as a result of this decree are deductible by the payer and income to the recipient, if requirements are met.
Divorce Decree (Interlocutory)
A divorce decree that is not yet final. Alimony paid under an interlocutory decree is deductible by the payer and income to the recipient, if requirements are met.
Dollar Amount Paid
Cash plus the principal amount of a loan on the property that the taxpayer is legally obligated to pay.
The sale of more animals in a particular year than is the farmer's usual practice because of drought conditions. If certain conditions are met, the farmer may elect to report the proceeds from such sales either in the year of the sale or in the following year.
Income from personal services as distinguished from income generated by property or other sources. Earned income includes all amounts received as wages, tips, bonuses, other employee compensation, and self-employment income, whether in the form of money, services, or property.
Earned Income Credit
A refundable tax credit for qualified taxpayers based on earned income and modified adjusted gross income.
Employees may deduct education expenses if the expenses are incurred either to maintain or improve existing job-related skills or to meet the express requirements of the employer or legal requirements to retain current employment status. Such expenses are not deductible if the education is required to meet the minimum educational requirements for the taxpayer's job or if the education qualifies the taxpayer for a new trade or business. Education expenses may also qualify the taxpayer for the Hope scholarship credit or the lifetime learning credit, both of which are defined elsewhere in this glossary.
A tax-favored savings plan under which the taxpayer may contribute up to $500 per year per eligible beneficiary. Contributions are nondeductible. Earnings are tax free and withdrawals are also tax free if used to pay for qualified higher education expenses.
The right of a government authority to take private property for public use and paying fair compensation to the owner.
For income tax purposes, an employee is to be distinguished from an independent contractor. This is important, because the withholding of income taxes on wages applies only to employees. Also, employee status will affect the manner and extent of some deductions and credits. The regulations state that an employee is one who is subject to the will and control of the employer not only as to what shall be done but also as to how it shall be done.
Employee Stock Option
An option granted to an employee to purchase the employer's stock. Employee stock options to which special income tax treatment is accorded are known as statutory options.
Employer-Funded Retirement Plan
A pension plan funded in full or in part by employer contributions on behalf of employees.
Ordinary and necessary expenses required to perform the duties for which the taxpayer was hired.
Energy Tax Credit--Business Property
An energy tax credit allowed for the purchase of certain business-use property utilizing solar, geothermal, or biomass energy.
Such expenses are deductible by employees and self-employed taxpayers only if the expenses are directly related to or associated with a trade, business, or profession. To prevent abuses, various restrictions and documentation requirements have been imposed on the deductibility of entertainment expenses. The deduction for qualified business entertainment is limited to 50 percent of cost.
A taxable entity that is established upon the death of a taxpayer. It consists of all the decedent's property and personal effects. The estate exists until the final distribution of its assets to the heirs and other beneficiaries. During the period of administration, the executor must usually file a return.
The amount of tax a taxpayer expects to owe for the year after subtracting expected amounts withheld and the amount of any expected credits.
Estimated Tax Voucher
A statement by an individual of (1) the amount of income tax he or she estimates he or she will incur during the current taxable year on income that is not subject to withholding, (2) the excess amount over that withheld on income that is subject to withholding, and (3) his or her estimated self-employment tax. Advance payment of tax may be required (on as many as four payment dates) unless estimated tax due after withholding and credits is less than $1,000.
Estimated (Useful) Life
The period of time over which an asset will be used by a particular taxpayer. Although that period cannot be longer than the estimated physical life of an asset, it can be shorter if the taxpayer does not intend to keep the asset until it wears out. The estimated useful life of an asset is essential to determining the annual tax deduction for depreciation and amortization.
Excess Social Security Tax Withheld
If a taxpayer worked for more than one employer during 1999, and more than $4,501.20 was withheld for social security tax, the excess over the maximum is included in the Payments section of the return. The excess amount has the same character as withholding tax.
A transfer of property for other property or services. Exchanges of like-kind property are a popular method for deferring taxes.
Excludable Amount of Pension
The portion of pension distributions that is not taxable.
Generally applies to gains realized on the sale of a principal residence. For sales after May 6, 1997, a taxpayer may exclude up to $250,000 ($500,000 MFJ) of gain on the sale if he or she owned and occupied the residence for at least two of the five years prior to the sale.
An amount of income that is not included in adjusted gross income because the tax Code excludes it.
Used to establish the excludable amount of a pension under the general rule. This percentage is determined by dividing the taxpayer's total contribution by the expected return.
An amount ($2,750 for 1999) allowed by law as a reduction of income that would otherwise be taxed. There are two kinds of exemptions: personal and dependency.
For a lifetime pension, this is determined by multiplying the annual pension by the taxpayer's expected life multiple from government actuarial tables.
For federal income tax purposes, expenses are divided into four categories: (1) trade or business expenses, (2) expenses in connection with production of income, in connection with management, conservation, or maintenance of property held for production of income, (3) expenses in connection with the determination, collection, or refund of any tax, and (4) personal, family, or living expenses. Expenses in the first three categories are generally deductible in determining taxable income. Expenses in the fourth category are not deductible, except in a few cases (medical expenses, charitable contributions, etc.) in which they are specifically allowed by law. Expenses are to be distinguished from "capital expenditures," defined elsewhere in this glossary.
Expenses of Sale
When paid by the seller, these expenses reduce the sale price of property. Examples are commissions to a broker or real estate agent, title search, title insurance, legal fees, and transfer taxes.
A term used to refer to the section 179 expense deduction, defined elsewhere in this glossary.
Fair Market Value (FMV)
The amount at which property would change hands between a willing buyer and a willing seller, neither being under compulsion to buy or sell and both having reasonable knowledge of the relevant facts.
Fair Rental Value
The amount the owner of property could reasonably expect to receive from a stranger for the same type of lodging; generally, the amount at which a home with its furnishings could be rented to a similar size family in a similar location.
Federal Income Tax Withheld
The amount withheld from an employee's wages and submitted by the employer to the IRS as an advance payment of the employee's federal income tax.
One who acts for an estate or trust to manage the property of the estate or trust.
Amounts paid for the privilege of making purchases on a deferred-payment basis.
First In, First Out (FIFO)
An accounting method for determining the cost of inventories. Under this method, the first items purchased are treated as being the first items sold. Ending inventory is valued using the cost of later purchases, or the lower of cost or market.
An accounting year ending on the last day of any month except December.
A corporation not organized under the laws of one of the states or territories of the United States.
Foreign Tax Credit or Deduction
A credit or deduction available to a U. S. citizen or resident alien, and in limited circumstances to a U. S. nonresident alien, who incurs or pays income taxes to a country other than the United States.
For tax purposes, a child other than a natural or adopted child, who lived with the taxpayer for the entire year and whom the taxpayer cared for as his own child. The term foster child does not include a child placed with the taxpayer by a child-placing agency that makes payments to the taxpayer as a foster parent.
Compensation or other benefits received by an employee that are not in the form of cash. Some fringe benefits (for example, accident and health plans, and group-term life insurance) may be excluded from the employee's gross income and, therefore, are not subject to federal income tax.
An individual who is enrolled in a school for the number of hours or courses considered by the school to be full-time. School includes elementary and secondary schools, post-secondary colleges, on-the-farm training courses, and technical and trade schools. It does not include on-the-job training, correspondence schools, or night school. However, a student will not be disqualified by night classes that are part of a full-time course of study.
Fully Taxable Pensions
Pensions for which taxpayers contributed none of the cost or have recovered their cost in previous years.
The excess of the amount realized from a sale or exchange over the adjusted basis of the property sold or exchanged.
General Depreciation System
The most commonly used MACRS system. Personal property is depreciated using the declining-balance method (double or 150 percent, depending on the recovery class) switching to straight line when that method results in the larger deduction. Residential rental property is depreciated using the straight-line method over 27.5 years, and nonresidential real property is depreciated using the straight-line method over 39 years (31.5 years for property placed in service before May 13, 1993).
Used to determine the taxable portion of a pension or annuity.
General Straight-Line Depreciation System
A MACRS system of depreciation using the straight-line method over the normal MACRS recovery period for the asset.
A transfer of property from one person or entity to another without consideration or compensation. For income tax purposes, the words "gift" and "contribution" usually have separate meanings, the latter word being used in connection with contributions to charitable, religious, etc., organizations, whereas the word "gift" refers to transfers of money or property to private individuals, needy persons, friends, relatives, etc. The recipient of a gift is not required to include it in his gross income, and the maker of the gift is not entitled to deduct it (except for business gifts to customers of $25 or less per donee per year).
A graduated federal tax paid by donors on gifts exceeding $10,000 per year per donee.
An agreement entered into by a corporation with its top executives to make substantial payments to the executives in the event of a change in corporate control. Such payments are treated as compensation.
The ability of a business to generate income in excess of a normal rate on assets due to superior managerial skills, market position, new product technology, etc. In the purchase of a business, goodwill represents the difference between the purchase price and the value of the net assets. Goodwill acquired after August 10, 1993, must be amortized over a 15-year period and is subject to recapture when the business is sold. Amortization is computed on Form 4562.
Government Bonds Issued at a Discount
Certain U.S. Government bonds (Series E and EE) are issued at a discount and do not pay interest during the life of the bond. Instead, the bonds are redeemable at increasing fixed amounts. Thus, the difference between the purchase price and the amount received upon redemption represents interest income to the holder. A cash-basis taxpayer may defer recognition of taxable income until such bonds are redeemed or until the year of final maturity, whichever is earlier. Alternatively, the taxpayer may elect to include the annual increase in the value of the bond in gross income on an annual basis.
Total worldwide income received in the form of money, property, or services that is subject to tax unless specifically exempt or excluded by law.
Total income from rents before expenses or the depreciation or cost recovery deduction.
Group Term Life Insurance
Life insurance coverage purchased by an employer for a group of employees. Such insurance is renewable on a year-to-year basis and does not accumulate in value; that is, no cash surrender value is built up. The premiums paid by the employer on such insurance are usually not taxed to an employee unless coverage exceeds $50,000.
A specific amount to be paid by an annuity. This may be a certain payment for a given number of years or a given amount to be paid regardless of death.
Head of Household
The filing status used by an unmarried taxpayer who pays over half the cost of maintaining his home that is the principal residence for over half the tax year of his unmarried child or other lineal descendent (this child does not have to be a dependent) or of his dependent married child or other qualified relative. A dependent parent who does not live with the taxpayer may also qualify the taxpayer for the head of household status if qualifications are met.
A nondeductible loss arising from a personal hobby as contrasted with a loss arising from an activity engaged in for profit.
The period of time property has been owned for income tax purposes. The holding period determines if gain or loss from the sale or exchange of a capital asset is long or short term.
Home Office Expenses
Expenses of operating a portion of a residence used for business or employment-related purposes. Several restrictions limit the deduction for home-office expenses.
Hope Scholarship Credit
A nonrefundable credit of up to $1,500 per qualified student for tuition and fees paid for the first two years of post-secondary education.
An individual who performs nonbusiness services for the taxpayer in or around the taxpayer's home. Such services include child and dependent care, house cleaning, cooking, and yard work.
A portion of total support; the value of lodging plus food consumed in the home, utilities paid, and repairs made. The total is divided equally among all family members. Each member's share of household expenses is part of his or her total support.
Husband and Wife
A status that, among other things, entitles a couple to file a joint income tax return. For the purpose of joint returns, common-law marriages are recognized only if the state in which the two persons reside recognizes such marriages or if the state in which the marriage began recognizes common-law marriages. The status as husband and wife on the last day of the tax year governs the right to file a joint return.
Hybrid Method of Accounting
A combination of accounting methods, usually of the cash and accrual methods.
All taxpayers and dependents must have identifying numbers. Individuals, with rare exceptions, use their social security numbers. Businesses, estates, trusts, partnerships, and payers of dividends and interest, use employer identification numbers. Certain resident and nonresident aliens use an individual taxpayer identification number. Certain children in the process of being adopted may receive an adoption tax identification number.
Imputed (or Unstated) Interest
In the case of certain long-term sales of property, the IRS has the authority to convert some of the gain from the sale into interest income if the contract does not provide for a minimum rate of interest to be paid by the purchaser. Such converted interest is called imputed interest.
Incentive Stock Option
A statutory stock option that allows an employee to purchase stock of the employer below current market price. No income tax consequences result from the grant or exercise of such an option and, if holding period requirements are met, gain on the eventual sale of the stock is long-term capital gain.
The word "income," in its broad sense, is the gain derived from capital, labor, or a combination of the two. It is distinguishable from the capital itself. Ordinarily, for income tax purposes, the word "income" is not used alone. Rather it is used within such descriptive terms as gross income, taxable income, and adjusted gross income, all of which are defined elsewhere in this glossary.
A method by which farmers may sometimes reduce tax liability by computing their income tax as if their current farm income had been spread evenly over the preceding three years.
A taxpayer who contracts to do work according to his own methods and who is not subject to control except as to the results of such work. An employee, by contrast, is subject to the control of the employer as to the methods to be used to obtain the desired results.
Individual Retirement Arrangement (IRA)
There are three types of IRAs: traditional IRAs, Roth IRAs, and education IRAs.
These are returns, such as Form W-2 and the various 1099 forms, which report to the IRS income and property transactions. The payer, broker, or other designated person is required to file these returns and is subject to penalties for noncompliance.
As distinguished from a bequest or devise, an inheritance is property acquired through laws of descent and distribution from a person who dies without leaving a will. Property so acquired usually takes as its basis, for gain or loss on later disposition or for depreciation, the fair market value at the date of the decedent's death. An inheritance of property is not a taxable event, but the income from an inheritance is taxable.
A financial condition in which a taxpayer's total liabilities (debts owed) exceed the total fair market value of all his or her assets (cash and other property). A taxpayer is insolvent to the extent his or her liabilities exceed his or her assets.
A method of accounting enabling a taxpayer to spread the recognition of gain on the sale of property over the payment period. Under this procedure, the seller computes the gross profit percent from the sale (that is, the gain divided by the contract price) and applies it to each payment received to arrive at the amount of the gain to be recognized.
Amounts paid to policy holders are not dividends on capital stock, but are a rebate of a portion of the premiums paid for the insurance. Such dividends reduce the cost of the insurance and are not taxable unless in excess of the total premiums paid. Interest paid when the dividends are left with the insurance company is reported to the taxpayer as interest and is taxable.
Intangible Personal Property
Property, other than real property, with no intrinsic value; its value lies in the rights conveyed. Examples include cash, insurance, stock, goodwill, and patents.
An amount received for the use of money that is to be repaid in full at a specified time or on demand.
Internal Revenue Service (IRS)
The division of the U.S. Treasury Department responsible for collecting taxes.
A list of articles of property. For income tax purposes, inventory refers only to a list of articles comprising stock in trade--articles held for sale to customers in the regular course of a trade or business. The cost of goods sold during the year is determined by adding to the inventory at the beginning of the year the purchases during the year, and subtracting from this sum the inventory at the close of the year.
Interest paid on loans acquired to purchase or hold investment property. Investment interest is deductible as an itemized deduction to the extent of net investment income.
Property owned primarily for its potential increased value. Examples include land, stock, works of art, and collectibles.
The receipt of money or other property as reimbursement for the loss or destruction of property through theft, casualty, or condemnation. Any gain realized on an involuntary conversion can, at the taxpayer's election, be considered nonrecognizable for federal income tax purposes if the owner reinvests the proceeds within a prescribed period of time in similar property.
Certain personal expenditures allowed by the tax Code as deductions from adjusted gross income. Examples are certain medical expenses, qualified interest on home mortgages, and charitable contributions. Itemized deductions are reported on Schedule A, Form 1040. A taxpayer who itemizes deductions may not claim the standard deduction.
Jointly Owned Property
Property held in the name of more than one person.
A return combining the income, exemptions, credits, and deductions of a husband and wife.
A form of joint ownership. Each tenant has an undivided interest in the entire property. On death of one of the owners, the survivor becomes the owner of the whole. A joint tenancy may involve more than two persons.
An enterprise participated in by associates acting together, with a community of interests, each associate having the right to participate in its management. For income tax purposes, a joint venture is treated as a partnership, not taxable in its own capacity, but regarded as a taxpayer for the purpose of computing its taxable income, which is distributable among the associates in the proportions agreed upon. Such distributive shares are reported by the associates on their individual income tax returns.
The value of the land in a sale where the total sale price includes land as well as any improvements to the land.
Last In, First Out (LIFO)
An accounting method for valuing inventories for tax purposes. Under this method, the last items purchased are treated as being the first items sold. Ending inventory is valued using the cost of the items with the earlier purchase dates.
Separated under a decree of separate maintenance that requires the spouses to live apart.
One who rents property from another. In the case of real estate, the lessee is also known as the tenant.
One who rents property to another. In the case of real estate, the lesser is also known as the landlord.
Lien for Taxes
The U.S. Treasury, as part of its tax collection effort, may attach a lien (a legal claim) on the property of a taxpayer who is delinquent in the payment of amounts owed to the IRS and who has not made arrangements to pay.
Lifetime Learning Credit
A nonrefundable credit equal to 20 percent of the first $5,000 of qualified higher education tuition and fees paid during the year on behalf of the taxpayer, his or her spouse, or his or her dependents.
An exchange of property held for productive use in a trade or business or for investment (except inventory and stocks and bonds) for property of the same type. Unless different property is received (called boot), the exchange is nontaxable in the current year. Any gain or loss is not recognized until the property received in the exchange is sold or disposed of. Like-kind exchanges are reported on Form 8824.
Business or investment properties that are the same type.
(1) The process of converting securities or other property into cash.
A return of capital received because of a partial or complete liquidation (going out of business) of a corporation. The basis of the stock on which liquidation distributions are paid is reduced by the amount of the distributions. Any amount received in excess of basis in the stock is taxable. In a liquidation that results in cancellation of the stock, a loss can be claimed the year the final distribution is received if total distributions are less than the taxpayer's basis. Report liquidation distributions on Schedule D, Form 1040.
Listed property includes passenger autos and other property used for transportation, property generally used for purposes of entertainment, recreation, or amusement, computers not used exclusively at a regular business establishment, cellular telephones, and other property to be specified by the IRS. Restrictions apply to the depreciation of listed property.
The portion of the price of buying shares in a mutual fund that goes for the salesperson's fees and the costs of making the transaction and maintaining the fund.
A portion of total support. Lodging includes the fair rental value of a room, apartment, or house in which the dependent lives, a reasonable allowance for the use of furniture and appliances, and all utilities.
Long-Term Capital Gains and Losses
Gains and losses on the sale or exchange of capital assets that have been held for more than 12 months. A net long-term capital gain is the excess of long-term gains over long-term losses, or vice versa for a net long-term capital loss.
Lower of Cost or Market Method of Inventory Valuation
Inventory valuation considering the actual cost or the replacement cost of merchandise on the inventory date. The lower value is used, creating a reduced gross profit for the period in which the decline occurred. An approximately normal gross profit is realized during the period in which the item is sold.
Payment of the entire amount due at one time rather than in installments. Such distributions often occur from qualified pension or profit-sharing plans upon the retirement or death of a covered employee. The recipient of a lump-sum distribution may be eligible for special tax treatment of the distribution.
Regular, permanent place of abode.
A percentage of the full price of a security that must be paid as a down payment by an investor buying on credit. The required margin fluctuates subject to federal regulations.
Married Filing Jointly
The filing status used by a couple who are married at the end of the tax year and not legally separated under a final decree of divorce or separate maintenance and who record total income, exemptions, and deductions of both spouses on one tax return.
Married Filing Separately
The filing status used by a married couple who choose to record their respective incomes, exemptions, and deductions on separate individual tax returns.
Material Participation Income
Active income, as distinguished from passive income, from employment as well as business and other for-profit activities in which the taxpayer takes a significant and active role.
Qualified medical expenses of an individual, spouse, and dependents are allowed as an itemized deduction to the extent that such amounts (less reimbursements) exceed 7.5 percent of adjusted gross income.
Tips reported to an employer by a tipped employee. Such tips are subject to Medicare withholding.
Total wages paid to an employee that are subject to Medicare tax. This amount doesn't include tips, which are reported separately.
Mileage Rate (Optional Method)
The method of deducting automobile expenses based on business miles driven. For 1999, two rates apply: the rate is 32.5 cents per mile for the period January 1-March 31; the rate is 31 cents per mile for the period April 1-December 31.
Modified AGI (Adoption Credit)
For purposes of computing the adoption credit, modified adjusted gross income is regular AGI plus: (1) any foreign earned income exclusion, (2) any foreign housing exclusion or deduction, and (3) any exclusion of income from U.S. possessions and Puerto Rico.
Modified AGI (Child Tax Credit)
For purposes of computing the child tax credit, modified adjusted gross income is regular AGI minus any excluded foreign, U.S. possession, or Puerto Rican income.
Modified AGI (Earned Income Credit)
For purposes of computing the earned income credit for most taxpayers, modified AGI is regular AGI without regard to any excess of capital losses over capital gains; net loss from estates and trusts; net loss from nonbusiness rents and royalties; and 75 percent of any net loss from businesses computed separately with respect to (1) nonfarm businesses conducted as a sole proprietor, (2) farm businesses conducted as a sole proprietor, and (3) other trades or businesses (not including income as an employee).
Modified AGI (Social Security)
For purposes of determining the taxable portion (if any) of social security or Railroad Retirement benefits, modified AGI is the sum of AGI plus (1) tax-exempt or excluded interest, and (2) any amounts exempted or excluded for foreign earned income, foreign housing, American Samoan income, or Puerto Rican income.
Mortgage Credit Certificate
Qualified taxpayers who receive a mortgage credit certificate from a state or local government to buy, rehabilitate, or improve their main homes may claim a credit for a percentage of their home mortgage interest. The percentage is set by the government and ranges from 10 to 50 percent. If the percentage exceeds 20 percent, the maximum credit is $2,000 per year. The itemized deduction for home mortgage interest must be reduced by the amount of the credit. The credit is not refundable, but any portion that is unused because it exceeds tax liability may be carried over to the following three years where it can be added to any credit for the current year. The credit is computed on Form 8396. Mortgage credit certificates may be subject to a recapture rule if the home is sold within nine years.
An adjustment to income permitted to employees and self-employed individuals who move for work-related reasons, providing certain requirements are met. Form 3903 is used to compute deductible moving expenses.
Multiple Support Agreement
If two or more persons who would otherwise be entitled to an exemption for a dependent, together furnish more than half the dependent's support (but no one individual provides more than half), any one of them who furnishes more than 10 percent of the support is entitled to the exemption if all the others who furnished more than 10 percent of the support file written declarations that they will not claim an exemption for the individual for that taxable year. Form 2120 is used for this purpose.
(1) An open-ended investment company that invests money of its shareholders in a usually diversified group of securities of other corporations.
An expense that is appropriate and helpful in furthering the taxpayer's business or income-producing activity. See also Ordinary defined elsewhere in this glossary.
A lack of such reasonable care and caution as would be expected of a prudent person. A penalty may be assessed if any part of an underpayment of tax is due to negligent or intentional disregard of rules and regulations.
Net Operating Loss (NOL)
A net loss for the year attributable to business or casualty losses. In order to mitigate the effect of the annual accounting period concept, the law allows taxpayers to use an excess loss of one year as a deduction for certain past or future years. In this regard, a carryback period of two years (three or five years for certain losses) and a carryforward period of 20 years is allowed.
Nonbusiness Bad Debts
A bad debt loss not incurred in connection with a creditor's trade or business. A nonbusiness bad debt is deductible as a short-term capital loss and is allowed only in the year the debt becomes entirely worthless.
The parent who does not have physical custody of the child.
No recourse Debt
An obligation for which the endorser is not personally liable.
Property that does not qualify for a cost recovery deduction under ACRS or MACRS or property the taxpayer elects to exclude from ACRS or MACRS by choosing a depreciation method not based on a number of years.
A credit that cannot exceed the taxpayer's tax liability.
A person who is not a U.S. citizen and does not live in the United States, or lives in the United States under a nonresident visa, or does not meet the substantial presence test.
A general term applied to stock dividend distributions that are not taxable. These distributions generally take the form of return of capital, stock dividends, stock splits, and/or tax-free distributions.
Nontaxable Earned Income
Income a taxpayer receives for services that is excludable from gross income. Examples include military housing allowances, ministers' housing allowances, excludable combat pay, and deferred compensation. Nontaxable earned income is earned income for purposes of computing the earned income credit.
An exchange on which no gain or loss is recognized in the current year.
Income that is by law exempt from tax.
A taxable year for which the statute of limitations has not yet expired.
One who holds the working or operating rights in a gas or oil activity and is obligated for the costs of development and production.
An agreement to buy or sell property on or before a specified date at an established price. The sale or exchange of an option to buy or sell property results in capital gain or loss if the property is a capital asset.
Common and accepted in the general industry or type of activity in which the taxpayer is engaged. It is one of the tests for the deductibility of expenses incurred or paid in connection with a trade or business; for the production of income; for the management, conservation, or maintenance of property held for the production of income; or in connection with the determination, collection, or refund of any tax.
Ordinary Income or Loss
Income or loss that is fully includable in (or deductible from) gross income and that does not have the characteristics of capital gain or loss.
A sole proprietor (self-employed individual).
Partly Taxable Pensions
Pensions funded through employer plans to which both the employer and employee contribute.
A form of business in which two or more persons join their money and skills in conducting the business. Partnerships are treated as a conduit and are not subject to taxation. Various items of partnership income, expenses, gains, and losses flow through to the individual partners and are reported on their personal income tax returns.
Passive income is income from business activities in which the taxpayer does not materially participate, and all rental activities (except those of qualified real estate professionals). See also Active Income and Portfolio Income.
The exclusive right of an inventor to make, use, or sell his invention for a period of years. A patent is an intangible asset that may be depreciated over its remaining life. The sale of a patent usually results in long-term capital gain treatment.
A rebate from a cooperative to its members of a portion of the purchase price of merchandise. Patronage dividends received on the purchase of personal-use property are not taxable. Patronage dividends received on the purchase of business-use property may be taxable or may reduce the basis of the property purchased.
For tax purposes, amounts that the IRS may assess at a statutory rate as an addition to a tax deficiency and interest. The tax Code provides for penalties for various infractions, such as underpayment of estimated tax, late filing of a return, late payment of tax, substantial understatement of tax, negligent or intentional disregard of rules, and fraud.
Payments made periodically of (generally) a definite amount for a specified period (usually life) from an employer-funded plan to workers who have met the stated requirements. Its primary purpose is to provide retirement income.
Pension/Annuity Starting Date
The first day of the first period for which an amount is due as a pension/annuity payment under the contract.
A specified percentage of the gross income from the property not exceeding 50 percent of the taxable income from the property before depletion allowance (increased by section 1245 gains--see definition of section 1245 property). In each year, the method that results in the greater deduction is used. (See also Cost Depletion.) Percentage depletion is allowed for nearly all natural resources, except timber.
A requirement for alimony paid under pre-1985 agreements to be deductible. The amount to be paid or the duration of payment must be indefinite for a payment to qualify as periodic.
Permanent and Total Disability
A disability that prevents an individual from engaging in any substantial gainful activity because of a medically determined physical or mental impairment that is expected to result in death, or that has lasted or is expected to last for a continuous period of not less than 12 months.
Personal and Dependency Exemptions
The tax Code provides a $2,750 exemption (for 1999) for each individual taxpayer and an additional $2,750 exemption for his spouse if a joint return is filed. An individual may also claim a $2,750 dependency exemption for each dependent providing certain tests are met. Taxpayers who may be claimed as dependents on other taxpayers' returns may not claim their own personal exemptions. The exemption amount is phased out for taxpayers whose adjusted gross incomes exceed certain levels.
Expenses of an individual for personal reasons are not deductible unless stated to be deductible under tax Code.
Generally, all property other than real estate.
The property in which the taxpayer lives and to which he or she returns after temporary absences. A taxpayer may have one or more residences such as a main home and a vacation house. A residence is not limited to a house. Condominiums, cooperative apartments, townhouses, mobile homes, and houseboats can all qualify as residences.
Property owned for personal well-being and enjoyment includes a taxpayer's home, vehicles, furniture, clothing, and other property.
The taxpayer with whom a child lives is considered to have physical custody.
A loan-origination fee (one-time charge paid for the use of money) that a buyer generally may deduct as interest; fully in the year paid if for the purchase or improvement of a principal residence or, if not, then ratably over the term of the loan.
Income from such sources as dividends, interest, capital gains, and royalties. See also Active Income and Passive Income.
Cash-basis as well as accrual-basis taxpayers usually are required to capitalize prepayments for rent, insurance, etc. that cover more than one year. Deductions are taken for the period during which the benefits are received.
Interest paid in advance is deductible as an interest expense only as it accrues. The one exception to this rule involves the interest element when a cash-basis taxpayer pays points to obtain financing for the purchase or improvement of a principal residence if the payment of points is an established business practice in the area in which the indebtedness is incurred and the amount involved is not excessive. Points paid to refinance a principal residence, however, must be deducted over the life of the loan.
Payments received on the contract price.
Principal Place of Business
The main place where work is performed or business is transacted. Taxpayers who engage in more than one business can have more than one principal place of business. For purposes of the home-office deduction, a principal place of business may also be an area of a taxpayer's home that is used for the management and recordkeeping portions of the business, provided there is no other fixed location where the taxpayer performs such functions.
Regular, permanent abode.
Prizes and Awards
The fair market value of a prize or award generally is includable in gross income. An exception applies when a qualified recipient of an award for charitable and like achievements designates that the prize is to be transferred by the payer to a governmental unit or to certain charitable, educational, or religious organizations. Another exception is made for certain employee achievement awards such as the traditional gold watch presented upon retirement.
Taxes levied by state governments on the value or quantity of production or extraction of natural resources.
The sole owner of a trade or business.
A business controlled and operated by one person.
Public Retirement System
A retirement system established by the United States, a state, territory, or possession of the United States, or their political subdivisions.
Puts and Calls
These are option contracts. A put gives its holder the option to sell a particular stock at a fixed price within a specified period of time. A call gives its holder the right to buy stock under the same conditions. Put and call contracts can last up to several months and usually specify a price close to the market value of the stock at the time they are drawn. Puts are purchased by investors who think the price of the stock will fall; calls are purchased by investors who think the price will rise.
Qualified Charitable Organization
An entity, usually an association or nonprofit corporation, designed to provide some form of public charity or service and specifically approved by the U.S. Treasury as a recipient of deductible charitable contributions.
Qualified Pension or Profit-Sharing Plan
An employer-sponsored plan that meets the requirements of IRS Code section 401. If these requirements are met, none of the employer's contributions to the plan are taxed to the employee until distributed to him. The employer is allowed a deduction in the year the contributions are made.
The filing status available to a qualified taxpayer for two tax years following the year of the spouse's death. To qualify, the surviving spouse must have been entitled to file a joint return for the year of death, remain unmarried at the end of the current tax year, and pay over half the cost of maintaining his or her home, which was the principal residence the entire tax year of his or her dependent child.
Realized Gain or Loss
The difference between the amount received upon the sale or other disposition of property and the adjusted basis of the property.
Also known as real estate, includes land, buildings, and their structural components.
The inclusion of a previously deducted or excluded amount in gross income or tax liability. Recapture may be applicable to accelerated depreciation, cost recovery, amortization, and various credits.
Recapture of Depreciation or Cost Recovery
Each year that a depreciable business asset is owned, depreciation is claimed that theoretically corresponds with the using up of the property through normal wear, obsolescence, etc. Thus, the property should be worth approximately its adjusted basis. If the property is sold for more than its adjusted basis, section 1245 of the tax Code requires that the gain on personal property and certain nonresidential real property (to the extent of depreciation claimed) be recaptured; that is, included as ordinary income on the tax return. The purpose of this recapture is to prevent capital gain treatment of gain resulting from claiming depreciation. The recapture of depreciation or cost recovery rules don't apply when the property is disposed of at a loss.
Recognized Gain or Loss
The portion of realized gain or loss that is subject to income taxation.
The amount of a deduction or creditable expense paid in a previous year that is later refunded to the taxpayer. The recovered amount must usually be included in income in the year it is received, to the extent of the previous tax benefit.
The portion of an item deducted in a prior year and recovered in whole or part in a later tax year, which did not generate any tax benefit for the taxpayer. Because no tax benefit was derived from this portion of the recovered amount, it is not taxable.
Recovery of Cost
The amount that was paid for income received--usually a factor only in income from sales of items purchased for resale, income from sales of property, and income from pensions or annuities. The portion of income that represents recovery of cost is not taxable.
A period of years during which the cost of business assets is written off under ACRS or MACRS.
Tangible depreciable property that is not excluded from ACRS (Accelerated Cost Recovery System) or MACRS (Modified Accelerated Cost Recovery System). Generally, this property acquired for use in a trade or business or property held for the production of income.
A credit for which the IRS will send the taxpayer a refund for any amount in excess of the taxpayer's tax liability.
Regular Method (Automobile Expenses)
A deduction for business use of the taxpayer's vehicle based on actual cost of gas, oil, repairs, tires, washing, etc. plus a deduction for depreciation.
Regulated Investment Company (Mutual Fund)
A company or trust that uses its capital to invest in other companies. The two principal types are closed-end and open-end mutual funds. Shares in closed-end mutual funds, some of which are listed on stock exchanges, are readily transferable on the open market and are bought and sold like other shares. Open-end funds sell their own new shares to investors, stand ready to buy back their old shares, and are not listed.
The IRS Commissioner publishes his interpretation of the tax Code in the form of regulations. They do not have the force and effect of law except in those cases in which the law on a particular subject calls for rules on that subject to be expounded through regulations.
Earnings that the shareholder has accepted as additional shares of stock rather than as cash. They are taxable in the year constructively received.
Income received by the taxpayer for allowing another person's use of the taxpayer's property. Rental income includes advance rental payments, late payments, and current payments. Payments received for lease cancellation and forfeited security deposits are rental income the year received or forfeited. Rental income is considered passive income for purposes of the passive loss rules, except for that of qualified real estate professionals.
Current expenditures to restore business-use property to an original condition or maintain the property through minor alterations rather than to extend its useful life. The cost of repairs normally is deductible annually. Substantial repairs that increase the value or extend the life of the property are treated as capital improvements and must have their cost recovered over a number of years.
Taking possession of property that was earlier sold on an installment contract because the buyer defaults on payment of the debt.
A citizen of another country who lives in the United States and/or has resident status by law or visa, or passes the substantial presence test.
Returns of Capital (Nontaxable Distributions)
A return of a shareholder's investment generally made because an excess amount of capital has been accumulated. Returns of capital may be received in cash or reinvested to acquire additional shares at the shareholder's request. Amounts received that are not in excess of the basis of the stock on which they are paid are not taxable. The basis of the stock on which returns of capital are paid must be reduced. Amounts received in excess of the basis of the stock on which returns of capital are paid are reported on Schedule D, in Part I if stock has been owned short term, or in Part II if stock has been owned long term.
The opportunity a corporation gives a shareholder to buy additional shares at a special price for a limited time. Shareholders who don't use their rights can sell them to other investors.
The conversion of an employer distribution or an existing IRA to another IRA without taxable consequences. This action must take place within 60 days of receiving the distribution.
Contributions to Roth IRAs, which were introduced in 1998, are not deductible. Earnings grow tax free and qualified withdrawals are also tax free.
(1) A payment received for the right to exploit a taxpayer's ownership of natural resources or a taxpayer's literary, musical, or artistic creation.
An interest in the oil and gas in place that entitles the holder to a specified fraction, in kind or in value, of the total production from the property, free of any expense of development and operation.
Tax regulations that allow a (usually) simpler method of determining a tax consequence than is available following the precise language of the Code or regulations. An example is the simplified method for determining the taxable portion of pension distributions.
The estimated value that will be realized upon the sale or other disposition of an asset at the end of its useful life.
Official IRS forms used to report various types of income, deductions, and/or credits.
Scholarships and Fellowships
Scholarships and fellowships received by degree candidates for the payment of tuition, fees, books, supplies, and equipment are generally excluded from gross income. Amounts received for room and board as well as scholarship and fellowship money received by non-degree candidates must be included in income.
An elective provision permitting certain small business corporations and their shareholders to elect special income tax treatment. Of major significance is the fact that S corporation status usually avoids the corporate income tax and corporate losses can be claimed by the shareholders.
Section (followed by a number)
The section of the tax Code in which particular laws are given.
In general, any evidence of (1) an interest in corporate stock or stock rights or (2) an interest in any note, bond, debenture or other evidence of indebtedness issued by a government or corporation. For certain tax purposes, however, the definition is more limited.
Taxpayers who work for themselves. They decide when, how, and where to work, obtain their own jobs or sales, pay their own expenses, and receive social security and Medicare coverage through payment of self-employment tax.
Self-employed individuals are taxed on their net income from self-employment and are entitled to social security and Medicare benefits through the payment of self-employment tax.
For 1999, self-employed persons are subject to social security tax of 12.4 percent on net earnings of up to $72,600 and Medicare tax of 2.9 percent on all net earnings. If a self-employed individual receives wages from an employer that are subject to social security tax, the amount of self-employment income subject to social security tax may be reduced. Self-employment tax is computed on Schedule SE.
Separate Maintenance Payments
Amounts paid to one spouse by the other spouse under a court order or agreement while they live apart.
A business in which income is produced chiefly by personal services rendered.
Payment received because part of a property is condemned and the value of the retained part is thereby decreased.
An individual or entity that owns shares of capital stock.
A sale in which the seller borrows the stock certificates or other property delivered to the buyer. At a later date, the seller either purchases similar stock or property necessary to "cover" the sale, and delivers it to the lender or delivers to the lender stock or property that he or she already held but did not wish to transfer at an earlier date. For income tax purposes, there is no gain or loss on the transaction until the short sale is covered by purchase and transfer. Special rules apply in determining whether the gain or loss on a short sale is a long-term or short-term capital gain or loss.
Short-Term Gain or Loss
Gain or loss on the sale or exchange of a capital asset held one year or less.
SIMPLE Retirement Plan
Small employers may establish a savings incentive match plan for employees retirement plan. A SIMPLE plan can be either an IRA for each employee or a cash or deferred arrangement, such as a 401(k) plan.
Simplified Employee Pension (SEP)
An arrangement whereby an employer makes contributions to an employee's individual retirement account (IRA), or a self-employed person contributes to his own plan.
The filing status used by an unmarried taxpayer who does not qualify for any other filing status.
Single-Purpose Agricultural Building
An agricultural structure used for only one purpose. Examples are milking sheds and greenhouses. Such buildings may be contrasted with, for example, barns. Barns are generally used for a variety of farming purposes.
Social Security and Medicare Taxes Withheld
The employee's share of these taxes that was withheld and submitted along with the employer's share to the IRS by the employer.
Social Security Tips
The amount of tips reported to an employer by an employee that is subject to this tax. Tips are also subject to Medicare tax.
Social Security Wages
Total wages paid to an employee that are subject to this tax. This amount does not include tips. Wages are also subject to Medicare tax.
A base amount of income not subject to tax. The regular standard deductions for 1999 are $4,300 for single taxpayers, $6,350 for heads of household, $7,200 for married couples filing joint returns and qualifying widow(er)s, and $3,600 for married persons filing separately. Taxpayers who are blind and/or age 65 or older have higher standard deductions. Taxpayers who may be claimed as dependents on other taxpayers' returns may have reduced standard deductions.
Standard Business Mileage Rate
For 1999, two rates apply: The rate was 32.5 cents per mile for the period from January 1 through March 31, and 31 cents per mile for the remainder of the year.
Explanations of various types of income, deductions, and/or credits reported on a schedule or directly on Form 1040. Statements may or may not be official IRS forms.
State and Local Income Tax Withheld
The amounts withheld from an employee's pay and submitted to the state or local tax division as an advance payment of the employee's state or local income tax.
A worker who is treated as an employee for social security and Medicare tax purposes and as self-employed for income tax purposes. The "Statutory employee" box on such a worker's Form W-2 should be marked.
Additional shares of stock distributed to shareholders at no cost. The number of shares received are a percentage of the shares owned. The basis of the original shares is generally apportioned equally to the total shares owned after the distribution.
Stock in Trade
Property held primarily for sale to customers in the ordinary course of business.
Additional shares of stock distributed to shareholders at no cost. The number of shares received are a ratio of the shares owned. The basis of the original shares is generally apportioned equally to the total shares owned after the split.
A combination of a call and a put (both of which are defined elsewhere in this glossary) written at the same time on the same number of shares of a security at the same price during the same period of time. The call and put parts of a straddle are generally bought by different holders.
Straight-Line Depreciation Method
The most commonly used method of depreciation prior to 1981. Basis less salvage value or land value divided by useful life equals depreciation deduction.
Student Loan Interest Deduction
An adjustment to income (limited to $1,500 for 1999) for interest paid during the year on qualified higher-education loans. Qualified interest payments are those made during the first 60 months in which such payments are required.
Supplemental unemployment benefits. These benefits are generally received from a company-financed fund and are fully taxable as wages.
The total amount provided on behalf of an individual. Support includes food, lodging, and other necessities as well as recreation and other nonessential expenditures. Support is not limited to necessities and can be as lavish as the taxpayer can afford.
Tangible Personal Property
Property, other than real property, that has a physical existence and an intrinsic value. Examples are livestock, machinery, equipment, and vehicles.
Adjusted gross income less itemized deductions or the standard deduction, less allowable personal and dependent exemption amounts.
Taxable U.S. Domestic Corporation
An organization incorporated in and doing business with the intent to make a profit in the United States. Examples are H&R Block, General Motors, and IBM.
The calendar year or fiscal year for which the taxable income is computed.
Tax Benefit Rule
A rule that limits the recognition of income from the recovery of an expense or loss properly deducted in a prior tax year to the amount of the deduction that reduced taxable income.
The rate at which income at a particular level is taxed.
The U.S. Tax Court is one of three trial courts of original jurisdiction that decide litigation involving federal income, death, and gift taxes.
Tax Credit for the Elderly or the Disabled
Eligible taxpayers 65 years old and older, and those under 65 retired on a permanent and total disability, may claim the credit. The amount of the credit, if any, is computed on Schedule R, Form 1040, or Schedule 3, Form 1040A.
Income that by law is not subject to income tax.
Transfers of property specifically exempt from federal income tax consequences in the current year. Examples are a transfer of property to a controlled corporation and a like-kind exchange.
The business location, post, or station of the taxpayer. If an employee is temporarily reassigned to a new post for a period of one year or less, the taxpayer's tax home is his personal residence and the travel expenses are deductible.
The amount of total tax due the IRS after any credits and before taking into account any advance payments (withholding, estimated payments, etc.) made by the taxpayer.
Includes the taxpayer's natural child, stepchild, or a child placed for legal adoption regardless of when the child came to live with the taxpayer; also, any other child whom the taxpayer cared for as his own child for the entire year unless the child's natural or adoptive parents provided over half of the child's support.
Tax Preference Items
Tax items that may result in the imposition of the alternative minimum tax.
Tax Rate Schedules
Tax rate schedules are used by certain taxpayers. Separate rate schedules are provided for married individuals filing jointly or qualifying widow(er)s, unmarried heads of household, single taxpayers, and married individuals filing separate returns.
The Tax Table is provided for taxpayers with taxable incomes of less than $100,000. Separate columns are provided for single taxpayers, married taxpayers filing jointly or qualifying widow(er)s, heads of household, and married taxpayers filing separately.
A work assignment away from the taxpayer's tax home, the termination of which can be foreseen at the time the job begins, within a reasonably short period. Deduction of temporary assignment expenses is allowed to provide relief to those who have extra expenses because of their work. To have any deductible expenses, the taxpayer must own or be renting or buying lodging in the general area of the regular place of employment and intend to return to that lodging at the end of the temporary assignment.
Tenancy by the Entirety
A tenancy in which parties jointly own property. After the death of one, the survivor takes the whole estate. Tenancy by the entirety can be terminated during their lifetime only by joint action of the parties.
Tenancy in Common
Two or more individuals jointly owning property. Each owns an undivided share of the whole. The shares remain separate even if one party dies.
Threat of Condemnation
When a property owner is informed, either orally or in writing, by a representative of a governmental body or by a public official authorized to acquire property for public use, that a decision has been made to acquire his property, and it is reasonable to believe that the property will be taken, a threat of condemnation exists.
Gratuities received by the taxpayer for services rendered. Tips of $20 or more from any one job during a calendar month must be reported to the taxpayer's employer.
Date on which a capital asset is actually bought or sold.
The amount by which the seller reduces the sale price of a property in return for the property of the buyer. This does not affect the buyer's basis in the property purchased.
Trade or Business Expenses
Deductions from gross income that are attributable to a taxpayer's business or profession.
An individual retirement arrangement, contributions to which may or may not be deductible depending on the taxpayer's AGI and whether he or she is covered under an employer-sponsored retirement plan. Earnings within a traditional IRA grow tax-deferred. Distributions from a traditional IRA are taxable except to the extent they represent nondeductible contributions.
A tax imposed when real estate is sold or transferred from one person to another.
Transportation expenses for an employee or self-employed taxpayer include only the cost of transportation (taxi fares, auto expenses, etc.) incurred in the course of business or employment when the taxpayer is not away from home in a travel status.
Travel expenses include meals and lodging and transportation expenses while away from home in the pursuit of a trade or business (including that of an employee).
A tax entity created by a trust agreement. This entity distributes all or part of its income to beneficiaries as instructed by the trust agreement. This entity is required to pay taxes on undistributed income.
The basis of property for purposes of figuring depreciation under ACRS or MACRS. The unadjusted basis is the original cost or other basis without regard to salvage value.
If a taxpayer did not pay enough tax on a timely basis during the year, he or she will have an underpayment of estimated tax, and may, depending on circumstances, be required to pay a penalty. The penalty, if any, is computed on Form 2210.
Taxable income other than that received for services performed (earned income). Unearned income includes money received for the investment of money or other property, such as interest, dividends, and royalties. It also includes pensions, alimony, unemployment compensation, and other income that is not earned.
Properties that are used for different purposes and/or are of different types.
Interest that must be calculated and the sale price reduced by this amount when interest is not stated in an installment agreement or the interest rate used is less than the applicable rate.
The tax Code places restrictions upon taxpayers who rent their residences or vacation homes to others for part of the tax year. The restrictions may result in scaling down of expense deductions for such taxpayers.
Pension benefits owned by the taxpayer.
A certificate authorizing the holder to buy a corporation's stock at a specified price, either indefinitely or within a certain time. Warrants are different from rights in that they generally last longer, and the price at which the holder is entitled to buy the stock usually is more than the stock's market price when the warrant was issued.
The purchase of substantially similar stock or other securities within 30 days before or after the sale of the similar stock or security at a loss. A taxpayer cannot claim a wash sale loss; instead, the loss is added to the basis of the most recently purchased substantially similar securities.
Welfare to Work Credit
A tax credit for employers who hire workers off welfare rolls.
A woman who has not remarried following the death of her husband.
A man who has not remarried following the death of his wife.
Withholding of Tax at Source
The withholding of tax by a payer prior to payment of various types of income as required by the tax Code. The recipient of the income claims the amount withheld as a tax payment on his or her tax return.
Work Opportunity Credit
A credit available to employers who hire employees from specified disadvantaged groups.
An operating interest in oil and gas in place that is burdened with the responsibility and cost of developing and operating the property.
A record of compiled information that is generally not sent to the IRS with a tax return.
A loss is allowed for a security that becomes worthless during the year. The loss is deemed to have occurred on the last day of the year. Special rules apply to securities of affiliated companies and small business stock.