RTRP Exam Complementary Study Materials from 1040exampre.

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Contained In This Guide: Filing Basics Filing Status Personal Exemptions Dependent Exemptions Unique Filing Status and Exemption Situations Business Income Capital Gain or Loss Retirement Income Rental and Schedules K-1 Social Security Benefits Other Income Military Income Adjustments to Income Military Moving Expenses Standard Deductions and Tax Computation Itemized Deductions Military Employee Business Expenses Credit for Child and Dependent Care Expenses Education Credits Child Tax Credit Miscellaneous Credits Other Taxes Payments Earned Income Credit Refund and Amount of Tax Owed Quality Review of the Tax Return Concluding the Interview Military Finishing and Filing the Return Amended and Prior Year Returns 2 3 5 6 10 13 14 18 21 24 24 27 28 31 31 32 34 36 37 41 42 43 44 45 46 49 49 49 51

Cases, Examples, and Tips from IRS P4491 FILING BASICS Who is legally required to file a federal tax return? Example Lucy is 36 years old and single, and her gross income is $20,000. She must file a tax return since her income exceeds the amount for her age and filing status.

TIP: Do not include social security benefits when determining filing requirement unless the taxpayers are married, are filing a separate return, and lived with their spouse at any time during the tax year.

Example Henrietta and Javier are married and plan to file a joint return. Henrietta is 67 and had a gross income of $11,000 for the tax year. Javier is 66. His gross income was $5,000 for the year. Since their combined gross income is less than the minimum amount for their ages and filing status, they do not have to file a return. How do I choose the appropriate tax return form? Example Trudy, a single 22-year-old full-time college student, is claimed as a dependent on her mothers tax return. Last year Trudy grossed $6,100 from her part-time job as an administrative assistant. Trudy can use Form 1040EZ.

TIP: For tax payers who filed Form 1040A the previous year, determine whether their situation has changed. It May be to their advantage to file Form 1040 if additional adjustments or deductions will result in a lower tax!

Example Ramon and Julia are married and have two dependents. They will file Married Filing Jointly. Their sources of income include salaries from their jobs, Ramons pension, and Julias IRA. Their combined taxable income was $65,000 for the tax year. Ramon and Julia can file Form 1040 or 1040A, however, Form 1040 is recommended if the return will be e-filed. Example Cynthia is divorced and will file as Head of Household. She has two children she will claim as dependents. She owns a medical transcription business and earned $35,000 in taxable income for the year. She plans to itemize her deductions. Cynthia must file Form 1040.

FILING STATUS Who is Head of Household? Who is a qualifying person for Head of Household status?

TIP: The qualifying person for Head of Household filing status must be related to the tax payer

TIP: A person may be a qualifying relative dependent, but not qualify the taxpayer for Head of Household filing status. For example, a companion or friend who lives with the taxpayer all year may be the taxpayers dependent but not a qualifying person for Head of Household filing status.

Example Kates unmarried 16-year-old daughter, Shelby, lived with her all year. Kate is single, provided all of Shelbys support, and paid all the costs of keeping up the home. Shelby is Kates qualifying child dependent and is Kates qualifying person for Head of Household filing status. Example Michael provided all the costs of keeping up his home for the year. Michaels son Justin lived with him the entire year. Justin is 22 and was not a full-time student in 2011. Although Justin only worked part-time, he earned too much for Michael to claim him as a dependent. Therefore, Michael cannot file Head of Household because he does not have a qualifying person. Example Jane and Todd are not married. Their daughter, Amanda, lived all year with Jane in an apartment. Todd lived alone. Todd earns more than Jane, and provides for some of her living expenses. He paid over half the cost of Janes rent and utilities. He also gave Jane extra money for groceries. Even though Todd paid over half the cost of providing a home for Jane and Amanda, he cannot file Head of Household because Amanda did not live with him over half the year. Jane cannot be Head of Household either because she did not provide more than half the cost of keeping up the home for her daughter. Example Nancy is single and lives alone. Nancys mother, Maxine, lives alone in another city. Maxine receives social security payments, but has no other income. Nancy pays all of the costs of keeping up the home her mother lives in, and provides over half her support. Even though Maxine did not live with her, Maxine is Nancys qualifying person for Head of Household filing status because Nancy can claim her mother as a dependent under the rules for qualifying relative.

Example Since her husband died five years ago, Joan has lived with her friend, Mary Ann, who is also a widow. Joan is a U.S. citizen, is single, and lived with Mary Ann all year. Joan had no income and received all of her support from Mary Ann. Joan is Mary Anns qualifying relative because she lived with Mary Ann all year as a member of her household. Mary Ann can claim Joan as a dependent on her return. However, Joan is not a qualifying person for Head of Household because she is not related to Mary Ann in one of the ways listed in Publication 17: Relatives who do not have to live with you. She is Mary Anns qualifying relative dependent only because she lived with Mary Ann all year as a member of her household. Joan does not fall under the other relative definition, Filing Status. Who can be considered unmarried for Head of Household? Example Denise is married and has lived apart from her husband for two years. Denises 12-yearold son lives with her. As long as Denise meets all the qualifications for Head of Household, she can choose to file as Head of Household for the year of her husbands death. Who is a Qualifying Widow(er) with Dependent Child? A foster child does not qualify a taxpayer for the Qualifying Widow(er) with Dependent Child filing status. Example Lauras husband, Jim, died in September of the tax year. She has not remarried, and provides all the support for their dependent children, ages 8 and 10. Laura can file as Married Filing Jointly, claiming an exemption for her deceased husband. For the next two years, she can use the Qualifying Widow(er) with Dependent Child status if she does not remarry

TIP: A foster child does not qualify a taxpayer or the qualifying widow(er) with dependent child filing.

PERSONAL EXEMPTIONS What are exemptions?

The exemption amounts are indexed for inflation and are generally updated every year.

Persons who qualify to be claimed as a dependent may file a return for taxes withheld, but they cannot claim any exemptions

Who may be claimed as a dependent? A dependent may be either a qualifying child or a qualifying relative. Both types of dependents have unique rules, but some requirements are the same for both. Joint Return Test A married person who files a joint return cannot be claimed as a dependent unless the joint return is filed strictly to claim a refund and there would be no tax liability for either spouse on separate returns.

Taxpayers who are divorced or legally separated at the end of the tax year cannot claim their (former) spouse as an exemption. A common-law marriage is recognized for federal tax purposes if it is recognized by the state where the tax payers currently live or in the state where the common-law marriage began. Legal advice may be necessary to determine if a common-law marriage exists. However, filing a joint return for a common-law marriage applies to the federal return only. You must check state or local law before completing a state return.

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DEPENDENCY EXEMPTIONS Example Ruth, who had no income, was married in November of the tax year. Ruths husband had $16,700 income, and they claimed two personal exemptions on their return. Although Ruths father supported her and paid for the wedding, he cannot claim her as a dependent because she is filing a joint return with her husband. While the return is being filed to claim a refund of taxes withheld, Ruths husband would have tax liability if he filed a separate return. Citizen or Resident Test Example Joan, who is a U.S. citizen, adopted an infant boy from Cambodia who lived with her for the entire tax year. Even though Joans child is not yet a U.S. citizen or resident, he meets the citizen or resident test because he was a member of Joans household for the entire year. Residency Exceptions to the Residency Test Example Hughs daughter died on January 15 of the tax year. If she met all the dependency tests up until her death, Hugh can claim an exemption for her on his return. Support Example Bob, 22, is a full-time student and lives with his parents when he is not in the dorm. He worked part time and made $6,000, but that was not over half of his total support. Bob meets the relationship, age, and support tests. If he meets the rest of the tests for a qualifying child, he can be claimed as a dependent by his parents. Example Doris, a U.S. citizen, is 8 years old and had a small role in a television series. She made $60,000 during the tax year, but her parents put all the money in a trust fund to pay for college. She lived with her parents all year. Doris meets the relationship, age, and residency tests. Doris also meets the support test since the $60,000 in earnings were not used for her own support. Since she meets the tests for a qualifying child, she can be claimed as a dependent by her parents. Can the child be a qualifying child of more than one person? Example Lynne and her mother, Margaret, share a home and both contribute to the household expenses. Lynnes twelve-year-old-daughter, Karen, lives with them. Although Karen meets all the

conditions to be a qualifying child for both Lynne and her mother, Lynne is the taxpayer who can claim Karen as a qualifying child, because she is Karens parent. However, if Lynne chooses not to claim Karen, then Margaret may claim Karen as a qualifying child if Margarets AGI is higher than Lynnes. What are the tests for qualifying relatives? Not a Qualifying Child Test A child is not considered a taxpayers qualifying relative if the child is the taxpayers qualifying child or is the qualifying child of another taxpayer Example Todd has lived with his girlfriend, Eva, and her two children all year in his home. Eva is not required to file, and does not file, a 2011 tax return. Eva and her two children pass the not a qualifying child test to be Todds qualifying relatives. Todd can claim them as dependents if he meets all the other tests. (Eva and Todds relationship does not violate local laws.) Example All the facts are the same as in the previous example, except that Eva is required to file a tax return since she earned $12,000. Since Eva has a filing requirement and her children meet the tests to be Evas qualifying children; Todd can no longer claim the children as qualifying relatives. Example Since late in 2010, Sally has been supporting her friend, Ann, and Anns young son, Bobby. Ann and Bobby lived TIP: The tests for qualifying relative are applied only when the test for with Sally all of 2011 and meet all the tests to be Sallys qualifying child are not met. qualifying relatives. Ann worked part-time and made $3,100 in wages during 2011. Ann files a return only to have her withholding refunded. She does not claim her own exemption. Sally can claim Ann and Bobby as dependents Example All the facts are the same as in the previous example, except, when Ann files her tax return, she also claims TIP: In the case of a child who was born and died during the year, an the earned income credit. Because Ann is filing to claim SSN is not required but the return the earned income credit and to get a refund of her cannot be e0filed. The tax return mst withholding, Bobby is considered Anns qualifying child. be mailed. Refer to Publication 17 for specific rules for these rare situations Therefore, Sally cannot claim Bobby as a dependent under the rules for qualifying relative. Ann cannot claim Bobby as a dependent either, since Ann is a dependent herself. Ann can use Bobby as a qualifying child for the earned income credit (covered in the Earned Income Credit lesson).

Member of Household or Relationship Test Example Susan and Ted are married and file a joint return. They have supported Teds parents for the majority of the tax year. Even though Teds parents do not live with Ted and Susan, Teds parents meet the member of household or relationship test. Gross Income Test Example Joe is 65 years old and lives with his son and daughter-in-law. In 2011, Joes taxable pension income was $4,700. Joes son and daughter-in-law cannot claim a dependency exemption for Joe because Joes income exceeds the exemption amount for 2011, which is $3,700. Support Test Example Sherries father received $2,700 from social security and investments, but he put $300 of it in a savings account and spent only $2,400 for his own support. Sherrie spent $2,600 of her income for his support, so she has provided over half of his support. Example Steve provided $4,000 toward his mothers support during the year. His mother had earned income of $600, nontaxable social security benefit payments of $4,800, and taxexempt interest of $200. She used all of these for her support. Steve cannot claim a dependency exemption for his mother because the $4,000 he provided was not more than half of her total support of $9,600. Example In December 2010 Mary and her 6-year-old-son, Ricky, moved in with their neighbor, Ellen, who lives down the street. Mary and Ricky lived with Ellen the entire 2011 year. Ellen paid all the household bills for her home and provided all the support for Mary and Ricky. Mary did not have any income in 2011 and she did not support anyone else. Neither Mary nor Ricky are qualifying children of any other taxpayer. All are U.S. citizens and have valid SSNs. Even though they are not related to Ellen, both Mary and Ricky meet the tests to be her dependents under the rules for Qualifying Relative. Ellen does not qualify as Head of Household since neither Mary nor Ricky are qualifying persons for purposes of Head of Household. For Head of Household, the qualifying person must be related to the taxpayer.

TIP: State benefit payments like welfare, Temporary Assistance for Needy Families (TANF), food stamps, Medicaid, or housing assistance are considered support provided by the state, not by the taxpayer. Social Security benefits received by a child and used toward support are considered to have been provided by the child. Refer to the Worksheet for Determining Support in the Volunteer Resource Guide or the Personal Exemptions and Dependents chapter of Publication 17.

Multiple Support Agreements (Form 2120) Example Freds father, Charlie, lives with him and receives 27% of TIP: Multiple Support Agreements apply only to a qualifying relative, not his support from social security, 40% from Fred, 24% from Charlies brother Ray, and 9% from one of Charlies to a qualifying child. friends. Either Fred or Ray can take the exemption for Charlie because they each provided more than 10% of Charlies support, and together contributed more than 50% toward his support. If they agree that Fred should take the exemption, Ray will sign Form 2120 and Fred will attach the form to his tax return. Example Diane and her brother each provided 20% of their grandmothers support for the year. Two persons who are not related to Dianes grandmother, and who do not live with her, provided the remaining 60% of her support equally. No one is entitled to the dependency exemption, since more than half of the grandmothers support is provided by people who cannot claim her exemption.

TIP: The taxpayers who provide multiple support for a dependent decide among themselves who will take the exemption for the year. Volunteer tax preparers do not decide.

Special Rule for Children of Divorced or Separated Parents or Parents Who Live Apart. Example Chloe has one child, Timmy, and is divorced. In 2011, Timmy lived with Chloe 209 nights and with his father 156 nights. Timmy lived with Chloe more nights during the year, Chloe is the custodial parent. Example Ted is divorced and has a daughter who lived with him and his ex-spouse for an equal number of nights. Teds adjusted gross income is $45,000 and his ex-spouses adjusted gross income is $30,000. Ted is his daughters custodial parent because he had a higher adjusted gross income. Example When Troy turned age 18 in May 2011, he became emancipated under the law of the state in which he lives. As a result, he is not considered in the custody of his parents for

more than half of the year. The special rule for children of divorced or separated parents does not apply.

UNIQUE FILING STATUS AND EXEMPTIONS SITUATIONS What is the substantial presence test? Example Glorias husband, Dante, has neither a green card nor a visa. Dante does not have a tax home in another country. He was physically present in the U.S. for 150 days in each of the years 2009, 2010, and 2011. Is Dante a resident alien under the substantial presence test for 2011? The decision tree indicates that Dante does meet the substantial presence test and is considered a resident alien for tax purposes. 2011: 150 days 2010: 1/3 of 150 = 50 days 2009: 1/6 of 150 days = 25 days Total = 225 days Example Paul, a U.S. citizen, and his wife, Gabriella, were married at the end of 2011. Gabriella

TIP: If a persons visa has expired or the person is not complying with the requirements of the visa, then that person is not an exempt individual and cannot exclude those days he or she is physically present in the U.S.

does not have a green card or a valid visa. They have no children and are not supporting anyone else. Gabriella lived in the U.S. for 120 days in 2011 (from September to December) as a nonresident alien. She was also in the U.S. for 120 days in each of the years 2009 and 2010. Gabriella does not have a tax home in another country. Does Gabriella meet the substantial presence test? Following the decision tree, you find that Gabriella does not meet the substantial presence test. For tax purposes, she is considered a nonresident alien. 2011: 120 days 2010: 1/3 of 120 days = 40 days 2009: 1/6 of 120 days = 20 days Total = 180 days When can nonresident aliens file a joint return? For more information, see Publication 17, Filing Status. Example Even though Gabriella, Pauls nonresident alien wife, does not pass the green card or

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substantial presence test, they both agree to choose to treat Gabriella as a resident alien by attaching a signed TIP: An adopted nonresident alien statement to their joint return. Paul and Gabriella must child must live with the taxpayer all year to pass the citizen or report their worldwide income for the year and for all later resident test. years unless the choice is ended or suspended. Although Paul and Gabriella must file a joint return for the year they make the choice, they may file either joint or separate returns for later years. What exemptions can be claimed? Example As mentioned earlier, Raul is a U.S. citizen serving in the U.S. Army in Japan. His wife and children live with him and he is able to claim the children as dependents. Rauls wife, a citizen of Japan, chooses not to file a joint return with him. Raul can claim his wifes personal exemption as long as she has no U.S. source income, she is not anyone elses dependent, and has an SSN or ITIN. Example Tom is a U.S. citizen. He married Anna, a Korean citizen, in 2011, but came back to the U.S. without her. Anna is still in Korea getting her paperwork in order. She did not choose to file a joint return with him. Tom is filing as Married Filing Separately. Anna has no U.S. source income and cannot be claimed as a dependent on anyone elses U.S. tax return. She has an ITIN for now. Tom can claim her personal exemption on his tax return. Can a taxpayer claim a dependency exemption for a child born overseas? Example Patricia, a U.S. citizen and member of the armed forces, is married to Gilberto, a nonresident alien from Spain. Their daughter, Eva, was born in Spain, where they live. Eva is entitled to U.S. citizenship. Her mother should check with the military office for information on reporting the birth of the child, so Eva will be recognized as a U.S. citizen. Eva will need a social security number to be claimed as a dependent on her mothers tax return. Can a foreign-born stepchild be claimed as a dependent?

TIP: While applying for the Consular Report of Birth Abroad, parents should also apply for a social security number and passport for their child. Without a social security number, the parents will not be able to claim the child as a dependent or take advantage of credits, such as the earned income credit or the child tax credit, even if all of the other prerequisites are met.

Example Terry, a U.S. citizen, is married to a German citizen whose three children are German citizens and do not have green cards. Terry has not adopted the children. They all live in Germany. The children were not physically present in the U.S. during the tax year.

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Since the children are not U.S. citizens and are not residents of the U.S., Canada, or Mexico, Terry cannot claim the children as dependents. INCOME: WAGES, INTEREST, ETC. How do I report wages, salaries, tips, etc.? What is Form W-2? Example During the tax year, Tina earned income from both a full-time and a part-time job. She received two Form W-2s, each listing different employer addresses. Her return will list her wages as the total of the amounts in box 1, but each Form W-2 must be entered into the tax software separately.
TIP: According to current law, oil spill payments for lost wages or business income are taxable. The law treats compensation for lost wages or income differently for tax purposes than compensation for physical injuries or property loss, which generally is nontaxable. Some issues, such as casualty losses, should be referred to a professional tax preparer.

TIP: If the taxpayer eventually receives the employers Form W-2, and the numbers differ from those on Form 4852, the taxpayer will need to amend the return to report the correct amounts.

Self-employed taxpayers who receive tips, such as hair stylists and manicurists, should include their tips in gross receipts on Schedule C. What interest is taxable? Example Bob holds a promissory note for a cash loan that he made to his brother-in-law, Stan. Stan pays Bob principal and interest each month. Even though Bob does not receive a Form 1099-INT, he reports that interest on Schedule B of his tax return.

TIP: Interest on qualified U.S. Series EE and Series I savings bonds that are used to pay for higher education expenses may be eligible for exclusion from income using Form 8815, Exclusion of Interest from Series EE and I U.S. Savings Bonds Issued After 1989.

Example Hazel has four savings accounts in four different banks. The total amount of interest earned from the accounts is $1,700. Hazel will receive four Forms 1099-INT. She will list each payer and amount on Schedule B and file it with her tax return.

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What about the interest on an IRA? Example Mike makes contributions to a traditional IRA each year. Throughout the year, he gets statements listing the interest earned. Because it is tax-deferred, he does not report any of the interest income from his traditional IRA on his tax return. How do I handle dividends? What are ordinary dividends? Example Olivia held both common stock and preferred stock in several U.S. corporations. Several of them paid dividends during the tax year. The following January, she received Forms 1099-DIV listing these as ordinary dividends. Where do I get dividend information? Example During the tax year, Olivia owned shares in a mutual fund and in a real estate investment trust. Both made capital gain distributions that year. The following January, she received Forms 1099-DIV listing these capital gain distributions. What should be reported on Form 1040, line 10? Refer taxpayers who received a state or local income tax refund in 2011 that is for a tax year other than 2010 to a professional tax preparer.

TIP: Capital gains are not the same as capital gain distributions. A capital gain occurs when the owner of a mutual fund or other capital asset sells the asset for more than its cost. A capital gain distribution is the owners portion of the capital gains that were realized when the mutual fund or REIT sold assets. If you are not certified in this area, refer taxpayers who actually sold mutual fund shares, or other shares of stock, to a VITA/TCE tax preparer who has been trained to handle capital gains and losses.

Example Nancy itemized her deductions on her 2010 federal return. She included the income taxes she had paid to her state during 2010. However, she received a refund in 2011 on the overpaid portion of those taxes. When filing her 2011 tax return, she must use the state tax refund worksheet to see how much of the refund to include in her federal taxable income. BUSINESS INCOME Example Tim works as an independent contractor for ABC Construction Company. The company sent Tim a Form 1099-MISC that shows he received $15,000 for the work he did for them. He also received cash payments of $4,000 from several different individuals for the work he

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completed. He did not receive Forms 1099-MISC for the $4,000. Tim must include the $4,000 cash payments as self-employment income along with the $15,000 from Form 1099-MISC. Car and Truck Expenses Example Dana is a self-employed masseuse. She does neck massages for office workers and travels to three office buildings each work day. It is 10 miles from home to the first office and 5 miles from the last office back home. These 15 miles are commuting miles and, therefore, not deductible. The 13 miles Dana drives from the first office to the

TIP: Oil spill payments for lost wages or business income are taxable. Compensation for lost wages or income is treated differently than compensation for physical injuries or property loss (generally nontaxable). Refer issues such as casualty losses to a professional tax preparer. Refer to Publication 4906, Gulf Oil Spill Overview & Guidance for VITA/TCE, and Publication 4899, Decision Tree - Gulf Oil Spill Affected Taxpayers, available on www.irs.gov, or search for keywords Gulf Oil Spill Information Center for more information.

second office and 5 miles from the second office to the third office are deductible. Of the 33 miles driven each work day, 18 miles are deductible. Utilities Example Kiana runs a small business from her home. She has only one phone line and frequently makes long distance calls for business. The cost of the phone line cannot be deducted, but Kiana can deduct the long-distance charges for her business calls. Example A taxpayer received Form 1099-K showing $1,200 in box 1. However, included in this amount is $200 that the taxpayer paid as cash back to the buyer who used a debit card. The taxpayer enters $1,200 on Schedule C, line 1a and enters $200 on line 2 so it will be subtracted from gross receipts.

TIP: Examples of deductible business expenses include advertising, car and truck expenses, commissions and fees, insurance, interest, legal and professional services, office expenses, rent or lease expenses, repairs and maintenance, tools that last less than a year, supplies, taxes, travel, the allowable percentage of business meals and entertainment, and utilities. The base rate of the first telephone line to a residence cannot be deducted, but additional costs incurred for business purposes can be included as an expense.

CAPITAL GAIN OR LOSS 0 FORM 1040, LINE 13

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What is the basis of stock? Although stock splits and stock dividends do not occur often, always ask taxpayers if they received any additional shares from these transactions. Example Alice paid $1,100 for 100 shares of ABC, Inc. stock (which included the brokers commission of $25). The original basis per share was $11 ($1,100 100). She received 10 additional shares as a tax-free stock dividend. Her $1,100 basis must be allocated to the 110 shares (100 original shares plus the 10-share stock dividend). This results in an adjusted basis of $10 per share ($1,100 110).

How do I determine the holding period? Example Erma bought stock on January 11, 2010 (trade date). Her holding period began the next day, January 12, 2010. If she sold that stock on January 11, 2011, she would own the stock exactly one year, and the holding period would be short-term. However, if she sold the stock on January 12, 2011 or later, the holding period would be one year and one day, which constitutes long-term.

TIP: If the taxpayer knows the basis of property that was inherited or received as a gift, you can provide assistance. If they do not know the basis of the property, refer the taxpayer to a professional tax preparer.

Example Lenny bought 500 shares of XYZ Corporation stock for $1,500, including his brokers commission. Five years later, XYZ distributed a 2% nontaxable stock dividend (10 shares). Three days after the stock dividend was distributed, Lenny sold all his XYZ stock for $2,030. Although Lenny owned the 10 shares for only three days, all the stock has a long-term holding period. Stock acquired as a nontaxable stock dividend has the same holding period as the original stock owned. Because he bought the stock for $1,500 and then sold it for $2,030 more than a year later, Lenny has a long-term capital gain of $530 on the sale of his 510 shares. Stock Example Marie bought 100 shares of Antrim Corporation stock for $2,000. A year later, she bought another 100 shares of Antrim for $2,300. Five years later, she sold 100 shares of

TIP: In general, a wash sale occurs when a taxpayer sells or otherwise disposes of stock or securities (including a contract or option to acquire or sell stock or securities) at a loss and, within 30 days before or after the sale or disposition, the taxpayer buys, acquires, or enters into a contract or option to acquire substantially identical stock or securities.

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Antrim for $3,000 but she did not identify the specific block at the time of sale. Because Marie purchased the earliest block of 100 shares at $2,000, the adjusted basis of the shares she sold was $2,000. The sales price of the 100 shares sold was $3,000. Marie had a long-term capital gain of $1,000. However, if she had told her broker to sell the 100 shares from the second block of stock she bought, the adjusted basis would have been $2,300, giving Marie a long-term capital gain of $700 What information do I need from Form 1099-B? Example Richard sold stock for $2,300. He paid his broker a commission of $35 on the sale and received net proceeds of $2,265. Richards broker has reported the sales price: Box 2 of Form 1099-B shows $2,300 The box next to sales price is checked Because box 2 shows the sales price, the brokers commissions and fees ($35) are added to Richards basis in the stock to compute the capital gain or loss. How do I report capital gain distributions? Example Eldridge received a Form 1099-DIV. Box 2a shows he received a total capital gain

TIP: Some brokers do not issue standard Forms 1099-B. Instead, they may issue their own statement sometimes entitled 1099 Consolidated Statement or Substitute 1099, which shows stock sales and other types of distributions, such as dividends and interest.

distribution of $170. Eldridge also received a Form 1099-B that shows a net sales price of $1,200 on the sale of 600 shares of ABC Group, Inc. He held the stock for over 6 years. His basis in ABC, including commission, is $1,455. Eldridge must use Schedule D to report his capital gain distribution because he sold stock that must be reported on Schedule D. How do I complete reporting of capital gain or loss? Example Bill bought 1,000 shares of stock for $15,000 (including commission). One year later he sold 600 shares of the stock for $7,800, net proceeds. Bill had a net loss of $1,200 as shown below: Basis = ($15,000 1,000) x 600 = $9,000 Sales Price = $7,800 Gain or Loss = Sales Price Basis = $7,800 $9,000 = $1,200 Bill had a short-term loss of $1,200. Example Margo bought stock for $1,500, plus a $25 commission; 18 months later she sold all the

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stock for $2,000 and paid a $25 commission. Her Form 1099-B shows the gross proceeds of $2,000 as the sales price. Basis = ($1,500 + $25 + $25) = $1,550 Sales Price = $2,000 Gain or Loss = Sales Price Basis = $2,000 $1,550 = $450 Margo had a long-term gain of $450. What is considered a main home? Example Lucille owns a home in a Colorado ski area (the ski home). She stays at the ski home most weekends and spends the entire months of December, January, and February there. When she is not at the ski home, she lives in a four-room apartment that she rents in Denver. Even though she does not own it, Lucilles main home is her rental apartment in Denver, because she lives there most of the time. What are the ownership and use tests? Example In 2003, Helen lived in a rented apartment. The apartment building was later changed to a condominium, and she bought her apartment on December 1, 2008. In 2009, Helen became ill and on April 14 of that year she moved into her daughters home. On July 10, 2011, while still living in her daughters home, she sold her apartment. Helen can exclude all the gain on the sale of her apartment because she met the ownership and use tests. Her five-year period is from July 11, 2006, to July 10, 2011, the date she sold the apartment. She owned her apartment from December 1, 2008, to July 10, 2011 (over two years). She lived in the apartment from July 11, 2006 (the beginning of the five-year period) to April 14, 2009 (over two years). Reduced Exclusion Example Jennifer, who is single, bought her first home in August 2009. In December 2010, the company she worked for notified her that she would be transferred to another town by the end of 2011. She continued to live in the home until June 2011, when she sold it at a gain and moved 500 miles to the new town. Jennifer owned and lived in the home less than two years, so she does not meet the ownership and use tests. However, she may qualify to exclude all or part of the gain because she sold the home due to a change in place of employment. Jennifer should be referred to a professional tax preparer.

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How do I figure the gain (or loss) from the sale of a home?

TIP: If the taxpayer used the home for business purposes or as rental property after May 6, 1997, refer them to a professional tax preparer. The taxpayer cannot exclude the part of the gain equal to the depreciation allowed or allowable as a deduction.

TIP: If the taxpayer can exclude the entire gain from the sale of a main home, the person responsible for closing the sale (i.e., a real estate broker or settlement agent) generally will not issue Form 1099-S. If Form 1099-S is issued and you determine that the gain is excludable, the sale should be recorded on Form 8949 and Schedule D to notify the IRS of the exclusion.

TIP: If the taxpayer has a loss on the sale of a main home for which Form 1099-S was received, the taxpayer must report the loss on Form 8949 and Schedule D even though it is not deductible.

TIP: To figure the adjusted basis of a home, use Worksheet 1, Adjusted Basis of Home Sold, in Publication 523.

TIP: How much of the gain from a home sale can a taxpayer exclude? Use Worksheet 2, Taxable Gain on Sale of Home in Publication 523 to figure the gain or loss, the exclusion, and the taxable gain from a sale. Note that line 3 is the amount realized, line 4 is the adjusted basis, and line 5 is the amount of gain or loss from the sale.

INCOME RETIREMENT INCOME What is the Five-Year Test Period Suspension? Example Peter bought a home in 2002 and lived in it for 2 years. Beginning in 2005, he was on qualified official extended duty in the U.S. Army. He sold his home in 2011 and had a $12,000 gain. Peter would normally not meet the use test in the five-year period before the sale (20062011). Because of the suspension, Peters test period is the five years before he went on qualified official extended duty. What do I need to know about retirement income distributions? If the taxpayer did not contribute to the retirement plan, all the distributions are fully taxable.

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Example Mark retired after working 30 years for a construction company. Each week, he contributed to the Carpenters Pension Plan. Every year, Mark paid tax on the gross amount of his salary, including his pension contribution. This means his pension contributions were made with dollars that had already been taxed. Now that he is receiving payments from the pension, he will not be taxed on the portion that represents his contribution; he will be taxed on the portion that represents earnings. Taxpayers may not always understand why they must pay taxes on their retirement income. When this is the case, take the time to clearly explain what retirement funds are taxed and why. It is usually a good idea to question taxpayers about the nature of their contributions to ensure that they will not be taxed twice on the same funds. How do I find the taxable portion of IRA income? When you learn about IRA accounts in the Adjustments to Income lesson, be sure to note the difference between contributions and deductions. Simply put, contributions are the amounts deposited into an IRA account, and deductions are the portion of the contribution that is deducted on the tax return; that portion may be total or partial. Example Richard contributed $500 a year to a traditional IRA. Each year, he deducted these contributions from his income. This year he received his first distribution from the traditional IRA. It is fully taxable: Richard will pay income tax on the distributions he receives, which represent the contributions he made and deducted, as well as the earnings on these contributions over the years. Taxpayers are considered disabled if they cannot engage in any substantial gainful employment because of a physical or mental condition. A physician must determine that the condition can be expected to result in death or to be of long, continued, and indefinite duration. How are IRA distributions reported? An early distribution from a traditional or Roth IRA may be subject to a 10% additional tax. Refer to the Other Taxes lesson for more information. Distributions from a SIMPLE IRA and from a SEP IRA are generally fully taxable and are out of scope for VITA/TCE. If a QCD is made in January 2011, the taxpayer can elect to treat it as if it was made in 2010. If this election is made, the QCD is included in the 2010 $100,000 exclusion limit, as well as the 2010 RMD. For more information, see Publication 590, Individual Retirement Arrangements (IRAs). How do I find the taxable portion of pensions and annuities? Social security benefits and IRA distributions are not reported on the pension line of the tax return.

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Example Sue worked for a software development company for 20 years. She retired and began receiving pension income the same year. Sue never contributed to the pension plan while she was working; her employer made all of the contributions. Her pension is fully taxable. Partially Taxable Pensions and Annuities If the taxpayers annuity starting date is before July 2, 1986, the General Rule has to be used unless the Three-Year Rule can be used. Example Melvin retired from a manufacturing plant. While he was working at the plant, his employer withheld money from each paycheck and sent it to the Engineers Pension Fund. Melvin will receive a monthly pension payment for the rest of his life. Melvin will use the Simplified Method Worksheet to determine the tax-free part of monthly payments. What other retirement income issues are there? Minimum Distributions Example Peter turned 70 on August 20, 2011. For 2011, he must receive the required minimum distribution from his IRA by April 1, 2012. He must receive the required minimum distribution for 2012 by December 31, 2012. Example Ralph retired in 2005. He turned 70 in 2011. He must begin taking minimum distributions from his qualified plans by April 1, 2012. Example Myrna was 72 when she retired in 2011. She was required to begin taking minimum distributions from her traditional IRA after age 70 even though she has not retired. Myrna has until December 31, 2011to take her 2011 minimum distribution. How do I determine when an adjustment to withholding should be made? Taxpayers who receive a very large refund may make better use of their funds if tax withholding is lowered. Explain ways they can reduce their withholding.

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INCOME RENTAL and SCHEDULES K-1 What qualifies as a rental expense? Generally, mortgage interest expense is fully deductible. However, refer taxpayers with rental-related interest expenses other than mortgage interest to a professional tax preparer. Example Paul Kingman lived in his home through September, when he was notified he was being transferred overseas. He rented his home beginning in October. The total amount of Kingmans mortgage interest for the tax year was $2,400 and his property taxes were $600. Report nine months (JanuarySeptember) of mortgage interest and property taxes as itemized deductions on Schedule A, that is, $1,800 and $450, and the other three months (OctoberDecember) as expenses on Schedule E, that is, $600 and $150. What are other deductible rental expenses?
TIP: When a tenant does not pay the rent, a cash-basis landlord cannot take a deduction for the unpaid rent. Taxpayers cannot take a deduction for a payment they did not include in income.

How do I handle depreciation of rental property? Example Captain Barbara Ventura purchased a condo in August 2008 for $225,000, which was her principal residence. The purchase price did not include the cost of any land. She was transferred overseas on December 20, 2010. Repairs were made to the condo in January and February 2011. On March 1, 2011, the property was rented. Assuming her depreciable basis is $225,000, she is allowed to take 9 months of depreciation. Using the depreciation table for residential Rental Property, Barbara is allowed a depreciation amount of $6,478.00. (Multiply the depreciable basis of $225,000 by .02879 the percentage from Table A-6 of Pub 946.). Example Captain Ventura bought a new stove that she placed in service on August 27, 2011, for $1,500. Under MACRS, using the half-year convention, she can take 6 months of depreciation, though the stove was in service for approximately 4 months. The amount of depreciation is calculated by multiplying the depreciable basis of $1,500 by applicable percentage from Table A-1 of Pub 946. What is considered the basis and adjusted basis for depreciation purposes?

TIP: For taxpayers who acquired their home as an inheritance or gift, the basis may not be the original cost. For more information, see Publication 551, Basis of Assets.

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Example Carlos and Vanetta purchased a house in 1986 for $100,000. The value of the building was $85,000. They made no improvements. In 2011, they were transferred overseas and decided to rent out the home, which was their personal residence. The value of the house and land in 2011 was $125,000. The basis for depreciation is $85,000. What are considered recovery periods? Example A set of major appliances that Mark Newcomb used in his rental property had an adjusted basis of $500. He acquired a set of new appliances with a fair market value of $2,000 by trading in the old appliances and paying $1,000 in cash. Although the fair market value of the new appliances was $2,000, Marks basis for depreciation purposes is $1,500 (the $500 adjusted basis plus his $1,000 cash payment). How do I figure the MACRS deduction? What is the placed in service date? Example Joan Smith moved from her home in July. During August and September, she made several repairs to her house. On October 1, she listed the property for rent with a real estate company, which rented on December 1. The property is considered placed in service on October 1, the date when it was available for rent.
TIP: See Publication 946, How to Depreciate Property, Appendix A, for Tables of Depreciation, which show the recovery periods for different property classes.

How do I handle rental property that the taxpayer also uses? How do I differentiate between rental expenses and personal use expenses? Example Gloria rents one room in her 1,200 square foot house to a tenant. The rental room measures 10 feet by 12 feet (120 square feet, or 10% of the total house). She may deduct: 100% of any expenses that relate only to the rental portion of the house, such as repairs or upgrades to the rented room 10% of any qualified expense that benefits the entire house Example Charles used his rental property for personal use 7 days and rented it for 63 days. In most cases, 10% of Charles expenses are not rental expenses and cannot be deducted on Schedule E (7 = 10% of 70 total days: 7 personal days + 63 rented days).

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Are there any exceptions? Example On February 28, 2010, Trent moved out of the house he had lived in for six years because he accepted a job in another town. He rented his house at a fair rental price from March 15, 2010, to May 14, 2011. On June 1, 2011, he moved back to town and moved back into his house. Because he rented his property for 12 or more consecutive months, his use of the house is not counted as personal use. Since these days are not counted as days of personal use, the limitations on deductions do not apply. Are there any limitations? Example Roger owns a condominium apartment in a resort area. He rented it at a fair rental price for a total of 170 days during the year. For 12 of those days, the tenant was not able to use the apartment and allowed Roger to use it even though he did not refund any of the rent. Rogers family actually used the apartment for 10 of those days. Therefore, the apartment is treated as having been rented for 160 days (170 10). Roger figures 10% of the total days rented to others at a fair rental price is 16 days. Rogers family also used the apartment for 7 other days during the year. Roger used the apartment as a home because he used it for personal purposes for 17 days. That is more than the greater of 14 days or 10% of the 160 days it was rented (16 days). Roger must allocate expenses related to personal use. In addition he is limited in the expenses that he can report on Schedule E. Example Latricia converted the basement of her home into a one-bedroom apartment. She rented the apartment out at a fair rental price to college students during the nine-month school year. During June, Latricias brother stayed in the apartment rent-free. This is considered personal use. Limitations apply to Latricias rental expense deductions because the apartment was used for personal purposes for 30 days, which was more than the greater of: 14 days or 10% of the 270 days it was rented (27 days) How do I handle rental losses? What is active participation?

TIP: For more information, see Publication 925, Passive Activity and At-Risk Rules.

Example Sally Jenkins, a U.S. citizen, lives in Europe and is paid $25,000 in wages by the U.S. government and had $100 of interest income. She rented out her U.S. home and incurred $1,000 in rental loss for the tax year. Although her sister collects the rent, Sally makes all of the decisions as to whom, and for what amount, the property will be

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rented. While Sally is in Europe, she pays her sister to manage the property. Sallys rental loss of $1,000 may be offset against her gross income of $25,100 because she is considered to be an active participant in the rental activity INCOME SOCIAL SECURITY BENEFITS What are social security and railroad retirement benefits? Example Jacob is a retired railroad switchyard operator. Using the intake and interview sheet, the volunteer determined Jacob received Railroad Retirement Benefits. He received Form RRB-1099 and Form RRB-1099-R. The amount from Form RRB-1099 will be added to any amount of social security benefits. When are social security benefits and tier 1 RRBs taxable? The taxable portion of social security benefits is never more than 85% of the net benefits the taxpayer received. In many cases, the taxable portion is less than 50%. Example Wanda and Dan are both retired and will file a joint return. Wanda received Form SSA1099 with an amount of $4,300 appearing in box 5. Dan retired from the railroad, and box 5 of his Form RRB-1099 shows an amount of $6,800. Wanda and Dan will use the combined benefits of $11,100 and only one worksheet to calculate if any of their benefits are taxable. INCOME OTHER INCOME (Line 21) How do I handle other income? Visit the Gulf Oil Spill Information Center on www.irs.gov for the most up-to-date information. Additional information can also be found in: Publication 4873, The GulfOil Spill and Your Taxes Publication 4873-A, Gulf Oil Spill: Questions and Answers Are distributions from Educational Savings Accounts, such as a Coverdell ESA and a 529 plan, taxable? An American opportunity credit or lifetime learning credit can be claimed in the same year the beneficiary takes a tax free distribution from a QTP or Coverdell ESAs, as long as the same expenses are not used for both benefits. See Publication 17 and Publication 970, Tax Benefits for Education, for more details. What are lump-sum benefit payments? Do not confuse this type of lump-sum benefit payment with the lump-sum death benefit that both the SSA and RRB pay to many of their beneficiaries. No part of the lump-sum death benefit is subject to tax.

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Example In 2010, Jane applied for social security disability benefits but was told she was ineligible. She appealed the decision and won. In 2011, she received a lump-sum payment of $6,000, of which $2,000 was for 2010 and $4,000 was for 2011. Jane also received $5000 in social security benefits in 2011, so her 2011 Form SSA-1099 shows benefits paid of $11,000. Jane had other taxable income in both 2010 and 2011. She should figure her taxable benefits under the lump-sum election method to see if it is lower. What is worldwide income? Example In 2011, Alfredo Kendall earned $40,000 while working in Dallas, Texas, for Dade Corporation. In September 2011, he transferred to their office in Stuttgart, Germany. While in Germany, he earned $30,000 (U.S. dollars). All of Alfredos wages, including the income he earned in Germany, is included in his gross income. His Form 1040, line 7, will show $70,000.

TIP: Foreign income might be reported to taxpayers on forms or in ways that are not used in the United States. Question taxpayers closely to ensure that they are reporting all worldwide income. Review the income records to ensure that includible amounts are accurate and complete.

How do I convert foreign income to U.S. Dollars? Example Ryan received 3,000 Euros (3000) on a day that the exchange rate was 0.74855 Euros to one U.S. dollar. Based on this exchange rate, the value of Ryans 3000 is: 3000 0.74855 = $4,007.75 Which exchange rate should I use? Example Edward Hall worked in Dallas for Lubbock Incorporated from January until September. On September 29, he was transferred to Lubbocks Mexico City office, where he will be working for three more years. In Mexico, he is paid in Mexican pesos. Because he received the majority of his annual salary in U.S. currency, he should not use the annual average exchange rate for the Mexico source income. If he does not know the exchange rate at the time he received the funds, he can use the monthly average exchange rate for October, November, and December.

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What are the eligibility requirements?

TIP: The terms foreign, abroad, and overseas do not include Puerto Rico, U.S. Virgin Islands, American Samoa, Guam, the Commonwealth of the Northern Marianas, Wake Island, the Midway Islands, and Johnston Island.

How do I determine the tax home? Example John and Mary are both in the Armed Forces and have been permanently stationed in Germany since August 2006. Their tax home for 2011 is Germany. How do I determine whether the U.S. is the taxpayers regular place of abode? Example Henry is a member of the Armed Forces. He was assigned to a post in Japan in 2011. This assignment was for an indefinite period that exceeds one year. Margaret, his wife, accompanied him to Japan and has foreign earned income. They have not used their home in the U.S. as a place of residence for over a year. Therefore, their tax home for 2011 is Japan. What is the period of stay requirement? Example Charles is a military spouse who has lived and worked in England since 2005. His mother still lives in the U.S. Charles came to the U.S. for two weeks in 2011 to be with his mother after she had surgery. Charles trip to the U.S. does not affect his status as a bona fide resident of a foreign country What is the physical presence test? Example If a taxpayer left England by ship at 10:00 p.m. on July 6 and arrived in Lisbon at 6:00 a.m. on July 8, the taxpayer would lose July 6, 7, and 8 as full days because the trip took more than 24 hours. In this example, if the taxpayer remained in Lisbon, the first full day would be July 9. What is qualifying income? Example Alisa, a U.S. resident, is a member of the Armed Forces and has lived in Japan since 2009. Her military pay is not eligible for the foreign earned income exclusion. In her spare time, she is a self-employed DJ in Tokyo. The income from her self-employment may qualify for the exclusion.

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What are sources of earned income? Example Earl works and lives in the Bahamas. During the tax year, he worked 50 weeks in the Bahamas. He attended a business meeting in Florida for one week, and was on vacation for one week. One-fiftieth or 2% of his wages are not foreign earned income because of the week spent working in Florida. Example Ron and his wife Amy, both U.S. citizens, have lived in England for two years. Ron is in the military and Amy works in a pastry shop in a nearby town. Rons military income does not qualify for the foreign earned income exclusion but Amys wages from the company in England does qualify. The source of Amys income is England. When do I complete and file Form 2555 or Form 2555-EZ? Example Michael and his wife, Eva, have been stationed in Australia since 2008. Michael is a member of the Armed Forces and Eva operates a home day-care business. Their tax home is Australia, and they meet the bona fide residence test. Eva wants to exclude her self-employment income from U.S. taxation. Because her income is from self-employment, she will need to complete Form 2555 instead of Form 2555-EZ to exclude the income, and must complete Schedule SE to pay social security and Medicare taxes. INCOME MILITARY INCOME What is military separation with disability severance pay? Example Anita Zapata was an active duty service member who was separated due to a medical condition, and began receiving her military pension in February 2010. Here are the payments she reported on her 2010 tax return: Payments Amounts Disability severance pay $10,000 Service pension $33,000 Active duty pay $ 5,000 In 2011, the VA determined that she was retroactively entitled to a VA disability pension of $837 each month from the date of her discharge (February 2010). She can amend her 2010 tax return to exclude $9,207 ($837 x 11 months) of the pension she received plus the entire $10,000 disability severance payment. She must attach a copy of her letter of determination to the amended return. Her 2011 Form 1099-R will not include the nontaxable VA disability retirements received during 2011.

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What is a combat zone?

TIP: A taxpayer serving in a combat zone may qualify for relief from certain IRS compliance actions, such as audits or enforced collections, until 180 days after the taxpayer has left the zone. Taxpayers qualifying for such combat zone relief may notify the IRS directly of their status through a special e-mail address: [email protected]. They should provide name, stateside address, date of birth, and date of deployment to the combat zone. They should not include any social security numbers in an email. This notification may be made by the taxpayer, spouse, or authorized agent or representative. For more information visit www.irs.gov.

What is non-qualifying presence in a combat zone? Example Sgt. Bobby Osage was not assigned to a combat zone but he performed duty that qualified for hostile fire pay. He can exclude that income.
TIP: U.S. service members are considered to be serving in a combat zone if they are either assigned on official temporary duty to a combat zone or they qualify for hostile fire/imminent danger pay while in a combat zone.

ADJUSTMENTS TO INCOME How do I handle educator expenses? What expenses qualify? Example Gloria is a 5th and 6th grade teacher who works full-time in a year-round school. She had 1800 hours of employment during the tax year. She spent $262 on supplies for her students. Of that amount, $212 was for educational software. The other $50 was for supplies for a unit she teaches sixth graders on health. Only the $212 is a qualified expense. She can deduct $212. Example Debbie is a part-time art teacher at an elementary school. She spent $185 on qualified expenses for her students. Because she has only 440 hours of documented employment as an educator during the tax year, she cannot deduct her educator expenses. What other rules apply? Example Evelyn managed to work 1000 hours as an educator during the tax year while completing graduate studies. She spent $200 to buy qualified school supplies for her students. She covered $400 of her own educational expenses from her Coverdell ESA. She cannot take the deduction for educator expenses.

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How do I handle penalties for early withdrawal? Example Gloria withdrew $5,000 early from a one-year, deferred-interest certificate of deposit. She had to pay a penalty of three months interest. She can claim this penalty amount as an adjustment to income. How do I handle alimony paid? Example Anthony has been divorced for three years. Under his divorce instrument, he paid his ex-wife $12,600 during the tax year. As a favor, he also made $2,400 in payments to cover part of her vehicle lease, so she could keep steady employment. He can take the $12,600 as an adjustment to income. He cannot count the lease payments because those were payments not required by the divorce instrument. How do I handle IRA contributions? Example Fred has a traditional IRA account and a Roth IRA account. During the tax year, Fred contributed $2,200 to his traditional IRA and $1,000 to his Roth IRA. The most Fred will be able to deduct is the $2,200 contribution to his traditional IRA. What are the eligibility requirements for an IRA contribution?

TIP: Be sure the taxpayer knows that if a contribution is reported on the 2011 return but is not made by the deadline, the taxpayer must file an amended return.

How much can a taxpayer contribute to an IRA? What is the compensation requirement? Example Gene and Sue are married and are both over 50 years old. Gene earned $70,000 and Sue earned $1,500. During the tax year, Gene contributed $3,500 to his traditional IRA and $2,000 to a Roth IRA, making his total contributions $5,500. To figure the maximum contribution to Sues IRA, use a total compensation of $66,000 (i.e., $71,500 $5,500). If Gene and Sue file jointly, they can contribute up to $6,000 to Sues IRA even though her own compensation was just $1,500. Example Bill is 29. He has a traditional IRA account at City Home Savings Bank and another traditional IRA account through his stockbroker. He also opened a Roth IRA through his stockbroker. Bill can contribute to any or all of his accounts this year, but the combined contributions for the tax year cannot exceed $5,000.

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Form 1099-R Example Maria, age 35, made an excess contribution in 2011 of $1,000, which she withdrew by April 17, 2012, the due date of her return. At the same time, she also withdrew the $50 income that was earned on the $1,000. She must include the $50 in her gross income for 2011 (the year in which the excess contribution was made). She must also pay an additional tax of $5 (the 10% additional tax on early distributions because she is not yet 59 years old), but she does not have to report the excess contribution as income or pay the 6% excise tax. Maria receives a Form 1099-R showing that the earnings are taxable for 2011. How do I handle student loan interest? Example Robert has taken his first job after completing law school. His filing status is Single. He paid $3,000 in interest on his student loans during the tax year. With all adjustments to income (except student loan interest adjustment), his MAGI is $49,000. He can deduct $2,500 of his student loan interest as an adjustment to income. Example Veronica and her husband are filing jointly. Their MAGI is $120,000. She completed her doctoral degree in 2010 and paid $2,400 in student loan interest in 2011. Due to their high MAGI, their deduction must be calculated; it will be less than the full amount of interest that she paid. Who is an eligible student? Example This year, Jeremy paid interest on a loan that allowed his 21-year-old daughter, Kate, to complete a program in holistic medicine as a full-time student at the Southwestern College of Synergistic Therapy. Although she qualifies as his dependent, and the loan paid for books, supplies, and equipment, the college is not accredited. Therefore, Jeremy cannot deduct the interest on the student loan. How do I handle tuition and fees? Example Leonard, a single taxpayer who had a total income of $24,000, meets all the requirements to take the deduction. He paid $4,427 in tuition and fees. Because his gross income is well below the MAGI limit, he would be able to deduct the maximum amount ($4,000) for his tuition and fees payments. Example Juanita is married but uses the Married Filing Separately status. She cannot deduct tuition and fees.

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Who is eligible for this deduction? Example Joseph is 30. Although he lives at home and goes to school full time, he earns about $5,000 each year, so his parents cannot claim him as a dependent. Only Joseph can take the tuition and fees adjustment, even if his parents pay his education expenses. Example Carly is 18 and claimed by her parents as a dependent. She took out student loans and paid all of her own tuition and fees. Carly cannot take the deduction because she is a dependent. Carlys parents cant claim the deduction either because they did not pay the education expenses. Carlys parents should look into the education credits. MILITARY MOVING EXPENSES
TIP: For 2011, two rates are in

What expenses are included in the moving expense adjustment?

effect for move-related mileage: 19 cents per mile from January 1 through June 30

How do I handle military reimbursements? 23.5 cents per mile from July 1 How do I report a DITY move? through December 31 Example Captain Cook receives orders for a PCS. He chooses to pack and drive his household goods to the new duty station in his own vehicle. The Air Force estimates that the move would have cost the government $2,500. Captain Cooks actual expenses for the move were $1,750. He receives a payment for $2,375 (95% of the governments estimate), but Form W-2, box 1, will show only $625 ($2,375 minus $1,750) for the DITY move. Captain Cook cannot deduct any of his expenses, since hes already been reimbursed. STANDARD DEDUCTIONS AND TAX COMPUTATION Who cannot take the standard deduction? Example Chase is Married Filing Separately. Her spouse, Grant, will be itemizing his deductions. Chase cannot use the standard deduction; she will have to itemize her deductions. How does age or blindness affect the standard deduction? Example Sherman is 73 years old and blind. He files as Single using Form 1040. On page 2, line 38, you enter his AGI of $37,800 from line 37. Because Sherman is over 65 and blind, enter 2 on line 39a.

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Who qualifies as 65 or older? Example Armando died on November 24, 2011. He would have been 65 if he had reached his birthday on December 12, 2011. He does not qualify for a higher standard deduction for being 65, even though he was born before January 2, 1947. Who qualifies as blind?

TIP: If vision can be corrected beyond those limits only by contact lenses and the taxpayer can only wear the lenses briefly because of pain, infection, or ulcers, the taxpayer can take the higher standard deduction for blindness.

What is the standard deduction based on age or blindness? Example Tim is 67 and is filing as Single. He is not blind and he cannot be claimed as a dependent on someone elses return. His standard deduction is $7,250. Example Kevin and Jane are both 60, and Jane is blind. They are filing as Married Filing Jointly. Neither can be claimed as a dependent on someone elses return. Their standard deduction is $12,750. Example Janet is single, 22, a full-time student, and not blind. Her parents claimed her as a dependent on their 2011 tax return. She has no itemized deductions, so she will take the standard deduction. She has interest income of $120, taxes withheld of $35, and wages of $780. Her standard deduction is $1,080 ($780 + $300). How are taxable income and tax determined?

TIP: A separate worksheet is used to calculate the tax (instead of the tax tables) for taxpayers with certain types of income, such as capital gains, qualifying dividends, or foreign earned income.

ITEMIZED DEDUCTIONS What are itemized deductions?

TIP: For taxpayers using the Married Filing Separately status, if one spouse itemizes, the other must also itemize (even if their itemized deduction amount is zero).

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What medical and dental expenses are deductible?

TIP: The standard mileage rate allowed for out-of-pocket expenses for a car when used for medical reasons is 19 cents per mile from January 1, 2011, through June 30, 2011, and 23.5 cents per mile from July 1, 2011, through December 31, 2011. Taxpayers can also deduct parking fees and tolls.

Whose expenses are covered?

TIP: If a child of divorced or separated parents is claimed as a dependent on either parents return, each parent may deduct the medical expenses that they individually paid for the child.

Example Stewart and Carmen are divorced. Their son, Raymond, lives with Carmen, who claims him as a dependent. Carmen paid for and deducted Raymonds standard medical and dental bills. Stewart deducted the emergency bill he paid when Raymond broke his arm.

TIP: If you and a taxpayer disagree as to whether a particular expense is deductible, politely refer the taxpayer to the Site Coordinator. The taxpayer may be correct, but you should not deduct an expense unless you are sure it is deductible.

How do I handle interest paid? Home Mortgage Interest

TIP: Members of the clergy and military can subtract qualified mortgage interest even if they receive a nontaxable housing allowance.

TIP: A taxpayer may be able to deduct interest on a main home and a second home. A home can be a house, cooperative apartment, condominium, mobile home, house trailer, or houseboat that has sleeping, cooking, and toilet facilities.

Example From 1991 through 1998, Alfredo and Cindy Kendall obtained home equity loans totaling $91,000. Alfredo and Cindy used the loans to pay off gambling debts, overdue credit payments, and some nondeductible medical expenses. The current balance of Alfredo and Cindys home equity loan is $72,000. The fair market value of their home is $230,000, and they carry $30,000 of outstanding acquisition debt (the amount used to buy, build, or improve their home). If Alfredo and Cindy file a joint return, they can deduct the interest on their loans

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because: The total of these loans throughout 2011 ($72,000) does not exceed $100,000 and The total amount of the home equity ($72,000) is not more than the homes fair market value minus any outstanding acquisition debt ($230,000 $30,000 = $200,000) How do I handle gifts to charity?

TIP: Qualified organizations are listed in Publication 78, Cumulative List of Organizations. An online version is offered to help taxpayers efficiently search organizations that are eligible to receive tax-deductible charitable contributions. To find out if the organization is a qualified charity, call the IRS at 1-877829-5000 or go to http://www.irs.gov/app/pub-78/.

TIP: To be deductible, contributions must be made to a qualifying organization, not an individual.

Which gifts to charity are not deductible? Example Susan ran a 10K organized by the Chamber of Commerce to benefit a qualified charitable organization. She paid the race organizers a $30 entry fee and received a free T-shirt and pancake breakfast after the race. Susan did not make a contribution to the qualifying organization. She paid the Chamber of Commerce, which allotted funds to the benefiting organization. Therefore, none of Susans entry fee is tax deductible. If the race had been organized by the qualifying organization itself, part of her entry fee may have been deductible. What records should the taxpayer keep for noncash contribution deductions?
TIP: Deductions are not allowed for the charitable contribution of clothing and household items if the items are not in good used condition or better.

TIP: If the taxpayer is donating capital gain property or property that was previously depreciated, refer them to a professional tax preparer.

MILITARY EMPLOYEE BUSINESS EXPENSES

TIP: Although the intake and interview sheet does not list military employee business expenses, service members should take advantage of deductions to which they are entitled. Ask taxpayers if they had any unreimbursed military work-related expenses.

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What are qualified uniform expenses? Are professional dues deductible? Example Lt. Walker, an electrical engineer at Maxwell Air Force Base, can deduct professional dues paid to the American Society of Electrical Engineers.

TIP: The same rules apply for active duty personnel and reservists.

Can service members claim work-related educational expenses?

TIP: This section relates only to expenses that may be deductible on Schedule A subject to the 2% AGI limitation. Service members can determine whether the expenses also qualify as an education credit, then claim them where they are most beneficial.

Example Col. Wilson, an Army pilot, incurred educational expenses to obtain an accounting degree. He cannot deduct his accounting degree expenses on Schedule A because the degree will qualify him for a new trade or business. What about travel and transportation expenses incurred for educational expenses? What are travel expenses? When are travel expenses deductible? What is meant by away from home? For Navy personnel assigned to permanent duty aboard a ship that has regular eating and living facilities, the ship is considered to be home for travel expense purposes. What is the 100-mile rule for reservists?

TIP: See Publication 970 for additional information regarding Educational Expenses.

TIP: If Armed Forces members do not claim reimbursement for expenses they are entitled to, no deduction for those expenses may be claimed.

TIP: Military reservists include members of the U.S. Armed Forces (i.e., Army, Navy, Marine Corps, Air Force, and Coast Guard Reserve), the U.S. Army National Guard, the U.S. Air National Guard, or the Reserve Corps of the U.S. Public Health Service. The 100-mile rule is an exception to Form 2106 requirements and qualifies as an adjustment to income, which is an above-the-line deduction.

Example Mary is in the Army Reserve. She lives in a town that is 120 miles from Base A, where she normally reports for Reserve drills or meetings. During 2011, she occasionally traveled to Base B, which was only 40 miles from her home. Mary may claim the travel expenses she incurred going to Base A as an adjustment to income. Marys remaining expenses for travel to Base B may qualify as an itemized

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deduction on Schedule A. This deduction will be subject to the 2% AGI limitation. What is the deduction for meals?

TIP: For information on using the standard meal allowance instead of actual expenses, see Publication 463, Travel, Entertainment, Gift, and Car Expenses.

What are local transportation expenses? Are

TIP: The standard mileage rate can be found on Form 2106, Part II, Section B, and Form 2106-EZ, Part II.

expenses related to temporary work locations deductible? Example Sgt. Purdue attended a meeting of an Armed Forces reserve unit. The meeting is considered to be a second place of business because it is held on one of Sgt. Purdues regular work days. He can deduct the expense of traveling from his home and regular work location to the meeting location. Who needs to complete Form 2106?

TIP: Form 2106-EZ can only be used by employees who received no reimbursement from their employer and who use the standard mileage rate. In most cases, military members with workrelated travel expenses will have received reimbursement and will need to use Form 2106.

Example Capt. Glendale traveled from his duty station in California to Washington, DC, for a conference. He was away for five days. The Army advanced $700 to Capt. Glendale for the trip. His actual expenses were $625. When he filed his travel voucher with the Army, he returned the extra $75. He does not have to complete Form 2106. CREDIT FOR CHILD AND DEPENDANT CARE EXPENSES What is the qualifying person test?

TIP: See the rules for Qualifying Child and the special rules for children of divorced or separated parents or parents who live apart in Publication 17, Personal Exemptions and Dependents.

Example Jim paid someone to care for his wife, Janet, so he could work. Janet is physically unable to care for herself. Jim also paid to have someone prepare meals for their 12-year-old

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daughter, Jill. Both Janet and Jill are qualifying persons for the credit What is the work-related expense test? What are examples of work-related expenses? Example Roger takes his 10-year-old child to a private school. In addition to paying for the cost of the education, Roger also pays an extra fee so that his child can attend a before- and after-school program while he is at work. Roger can count the cost of the before- and after-school program when figuring the credit, but not the cost of the education. What expenses do not qualify as work-related? Example Krista takes her 3-year-old child to a nursery school that provides lunch and educational activities as part of its preschool childcare service. She can count the total cost when she figures the credit. What is the joint return test?

TIP: Generally, married persons who are considered unmarried will

What about employer-provided dependent care use the filing status, Head of Household. benefits? Example Paula has one dependent child, Jenny, who is 6 years old. She paid $2,900 in qualified expenses. Paulas Form W-2, box 10, shows she received $1,400 during the year from her employers dependent care assistance program. Because she received dependent care benefits, Form 2441, Part III, must be completed before completing Part II. What limits apply to this credit? Example Mary has three qualifying children. She received $4,800 in dependent care benefits through her employer. When Mary figures her credit, her work-related expenses will be limited to $1,200 ($6,000 $4,800). EDUCATION CREDITS Who can take an education credit? How do I handle dependents? Example Erma Bradley has a grandson named Kevin. He is claimed as a dependent on his parents joint return. Erma paid Kevins tuition directly to the university. For purposes of claiming an education credit, Kevin is treated as receiving the money as a gift and paying for the qualified tuition and related expenses.

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Since his parents are claiming him on their return, they may be able to use the expenses to claim an education credit. Alternatively, if he is claiming himself on his return, he might be able to claim the expenses as if he paid them to the school. What are qualifying expenses? Example When Janice enrolled for her freshman year of college, she had to pay a separate student activity fee in addition to her tuition. This activity fee is required of all students and is used solely to fund on-campus organizations and activities run by students, such as the student newspaper and the student government. No portion of the fee covers personal expenses. Although labeled as a student activity fee, the fee is required for Janices college enrollment and attendance; therefore, it is a qualified expense. Which expenses do not qualify? Example Jackie paid $3,000 for tuition and $5,000 for room and board at an eligible university. The $5,000 paid for room and board is not a qualified expense for the education credits. Are any amounts excluded from qualified expenses? Example Joan Smith received Form 1098-T, shown above, from the college she attends. It shows her tuition was $9,500 and that she received a $1,500 scholarship. She had no other scholarships or nontaxable payments. Her maximum qualifying expenses for the education credit would be $8,000 ($9,500 - $1,500). What about payments for the next academic year? Example Thomas pays $1,500 in December 2011 for qualified tuition for the winter semester that begins in January 2012. He can use the $1,500 paid in December 2011 to compute his credit for 2011. He cannot count it again in 2012. What rules apply to each credit? American Opportunity Tax Credit If the student does not meet all of the conditions for the American opportunity credit, the taxpayer may be able to take the lifetime learning credit for part or all of the students qualified expenses. Example Under current law, the American opportunity tax credit is for amounts paid through 2012. Mindy started college in 2009. She can claim the American opportunity tax credit for the first four years of her college education. Example Mindys brother, Jim, started college in 2008. He claimed the Hope credit for his first

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year of college (2008). Since the American opportunity expanded the education credit for the first four years of postsecondary education, he can claim the American opportunity tax credit for tax years 2009 through 2011. Example Toby had receipts for books and supplies his first year at college. He spent $1,291 for required books, lab supplies, and rock-hunting equipment he needed for his introductory chemistry and geology courses. The school has no policy requiring that these books and equipment be purchased from the college in order to enroll. These are qualified expenses for the American opportunity credit. Lifetime Learning Credit Example Jill attends Wandas School of Beauty, an eligible institution. She pays $4,400 for the course of study, which includes tuition, equipment, and books required for the course. The school requires that students pay for the books and equipment when registering for the course. The entire $4,400 would be an eligible educational expense. FOREIGN TAX CREDIT What if the foreign tax credit is reported on Form 1099-INT or Form 1099-DIV? TIP: A credit for foreign taxes can be claimed only for foreign tax Example imposed by a foreign country or Ryan, who is single, received a 2011 Form 1099-DIV that U.S. possession. shows $299 of foreign taxes paid (box 6). According to Ryan, he paid no other foreign taxes. He is eligible to claim the foreign tax credit and does not have to complete Form 1116. What are the rules for claiming the foreign tax credit on Form 1116?

TIP: The foreign earned income exclusion differs from the foreign tax credit; try both methods for taxpayers and choose the approach that results in the lowest tax. The exclusion allows a portion of the foreign earned income to be excluded from taxable income, so it is not taxed The credit adds the foreign income to the taxable income and then reduces the U.S. tax due by some portion of taxes paid to the foreign government(s)

What qualifies taxpayers for the credit?

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Example Robb Kendall and his wife are U.S. citizens who reside in France. Their Form 1040, Schedule B, Interest and Ordinary Dividends, lists $500 interest from a U.S. bank and $600 interest from a French bank. They paid income taxes on both amounts to both countries. On their U.S. tax return, they can compute a foreign tax credit to offset the taxes they owe to the U.S. on the interest received from the French bank. They would need to check with the French taxing authorities to determine if they can claim a similar tax credit on their French tax return to offset the taxes paid to the U.S. on the interest income earned in the U.S. Example Eva is a U.S. citizen who lives in Hong Kong. Eva owns her home in Hong Kong and paid $2,000 in real estate taxes and $1,000 in personal property taxes. She also paid $300 in income taxes to the government of Hong Kong. She cannot claim a foreign tax credit for either the real estate taxes or the personal property taxes because they are not income taxes. Eva can compute a foreign tax credit on the $300 in income taxes paid to Hong Kong. However, Eva can deduct the real estate taxes that she paid as an itemized deduction on her U.S. tax return. She can itemize the foreign personal property tax only if it is based on the value of the personal property. What is economic benefit?

TIP: According to Publication 514, Foreign Tax Credit for Individuals, taxpayers are considered to receive a specific economic benefit if they conduct a business transaction with a person who receives an economic benefit from a foreign country and under the terms and conditions of the transaction, the taxpayer directly or indirectly receives some part of the benefit.

Example Lawrence is a business owner who lives in China, which has a two-tier income tax system: Everyone is taxed according to their income Business owners pay additional tax on their profits The second tier entitles business owners to certain reduced fees and other benefits, such as ability to rent space in a government building. Because of the specific economic benefits Lawrence receives, he cannot use the second-tier tax payments to compute a foreign tax credit on his U.S. tax return. However, the first tier income taxes are similar to U.S. income taxes and can be used to figure his foreign tax credit.

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What are Sanctioned Country Restrictions and Section 901(j) Income?

TIP: Foreign income earned in sanctioned countries is subject to U.S. tax. A separate Form 1116 must be completed for foreign income from a sanctioned country, using the Section 901(j) income category. This is beyond the scope of the volunteer program; refer taxpayers to a professional tax preparer.

What categories of income qualify for the credit?

TIP: A separate Form 1116 must be completed for each type of income; each Form 1116 can include income earned in as many as three foreign countries.

General Category Income Passive Category Income

TIP: Wages and salaries are considered to be general category income, which is discussed later in this topic. Passive category income may qualify as general category income if the foreign government taxes it at a rate higher than the highest U.S. tax rate; see High-Taxed Income later in this lesson.

General Category Income Example Robert paid taxes to Spain for earned income and did not claim the foreign earned income exclusion. He can claim a foreign tax credit for the taxes paid to Spain. What is high-taxed income? Example Brenda is a U.S. citizen who lives in a foreign country and pays 45% income tax on her interest income in that country. She can list this as General Category Income on Form 1116, since the tax rate paid on this passive income is higher than the highest U.S. income tax rate. CHILD TAX CREDIT
TIP: Dont confuse these credits

Who can claim the child tax credit? tax credit! Example Eds son, Jeff, turned 17 on December 30, 2011, and has a valid SSN. He is a citizen of the United States. According to the Child Tax Credit rules, he is not a qualifying child for the child tax credit because he was not under the age of 17 at the end of 2011.

with the child and dependent care

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Are there special rules for children of divorced or separated parents or parents who live apart? Example Mary and Ralph got a divorce in 2002. They have one child together, Amy, who lives with Mary. All are U.S. citizens and have SSNs. Mary and Ralph provide more than half of Amys support. Marys AGI is $31,000, and Ralphs AGI is $39,000. Amy is 12. The divorce decree does not state who can claim the child. Ralph, the noncustodial parent, can claim the dependency exemption and child tax credit only if Mary signs Form 8332. Mary can still claim the earned income credit, Head of Household, and child and dependent care credit for Amy assuming she qualifies for them. What is the amount of the credit? Example Stan files as Head of Household and has three children who qualify for purposes of the child tax credit. Stans MAGI is $54,000 and his tax liability is $4,680. Stan is eligible to take the full $1,000 per child ($3,000) because his MAGI is less than $75,000 and his tax liability is greater than $3,000. Example May and Bob file as Married Filing Jointly and have two children who qualify for the child tax credit. Their MAGI is $86,000 and their tax liability is $954. Even though their AGI is less than the threshold limit of $110,000, they can only claim $954, reducing their tax to zero. As they could not claim the maximum child tax credit, May and Bob may also be eligible for the additional child tax credit. What is the additional child tax credit? Who can take the additional child tax credit? Example Remember May and Bob who have two qualifying children, a MAGI of $86,000, and a tax liability of $954? Because their tax liability is less than the full amount of the credit (in their case $2,000), they may be able to take the additional child tax credit of up to $1,046 ($2,000 $954). MISCELLANEOUS CREDITS What is the retirement savings contributions credit? The retirement savings contributions credit is a nonrefundable credit eligible taxpayers may claim if they made a qualifying contribution to a retirement plan.

Back to top

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TIP: Some employers allow employees to contribute after tax money to a Roth plan. These after-tax contributions are listed on Form W-2, box 12 with code AA for a Roth 401(k) or BB for a Roth 403(b).

What is the maximum contribution amount for married taxpayers? Example Jose and Lucy are married and will file a joint return. Their combined adjusted gross income was $39,000. They each contributed $3,000 to a 401(k) plan. They did not receive any distributions during the three-year period and cannot claim any other credits. Jose and Lucy are each eligible for a credit based on the maximum eligible annual contribution amount of $2,000 each. Example Joe and Mary are married and filed joint returns for 2009 and 2010, and plan to do so in 2011. Joe received a distribution from a qualified plan in 2009 and a distribution from an eligible deferred compensation plan in 2010. Mary received distributions from a Roth IRA in 2010. Both Joe and Mary made qualifying contributions to an IRA in 2011 and otherwise qualify for the retirement savings credit. They must reduce the amount of their qualifying contributions in 2011 by the total of the distributions they received in 2009 and 2010. This calculation is completed on Form 8880. How do I handle the Credit for the Elderly or the Disabled?
TIP: A taxpayer with a permanent and total disability is unable to engage in substantial, gainful activity, or in other words, paid employment. Taxpayers who can do such work are not considered disabled. Working in a sheltered workshop setting, however, is not considered substantial, gainful activity.

How do I determine the amount of the credit? Schedule R is used to calculate the credit, and has three parts: Part I, Filing Status and Age Part II, Statement of Permanent and Total Disability which ensures that taxpayers who are under 65 have obtained a completed physicians statement that proves they are permanently and totally disabled Part III, Figure Your Credit Example John is unmarried and filing a single return. He is 67 years old and received $12,000 in nontaxable social security benefits in the tax year. His AGI is $9,000. Even though John is a qualified individual, he is not eligible to claim the credit since his nontaxable social security benefits exceed $5,000.

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OTHER TAXES What is self-employment tax?

TIP: The VITA/TCE program scope includes Schedule C, with limits. The Schedule C criteria are the same as Schedule C-EZ except it includes those taxpayers who have up to $10,000 in expenses. In addition, taxpayers who meet the criteria can file more than one Schedule C if they have more than one business. Self-employed taxpayers who receive tips should include the tips in gross receipts on Schedule C/CEZ.

What about taxes on unreported tip income? What about tips that the employee did not report to the employer? Example Carla waits tables at a caf. Her employer reports all tips that customers add to their credit card tabs, but she leaves it up to Carla to keep track of her cash tips. Carla receives more than $20 per month in cash tips. Carla keeps a record but, because she doesnt report her cash tips to her employer, they are not included on her Form W-2. Carla includes the unreported tips as income on Form 1040, line 7. Carla also uses Form 4137 to calculate and pay the social security and Medicare taxes on those tips.

TIP: As part of your interview, explain to taxpayers that sometimes people do not realize they owe taxes on tips they do not report to their employer. Also explain the taxes paid on those tips actually boost the taxpayers future social security benefits.

What about taxes on IRAs and other qualified retirement plans?

Example John is 39 years old and received Form 1099-R with code 1 in box 7. He used the money to pay for car repairs. For the additional tax, enter 10% of the taxable amount on the applicable line of Form 1040. The word no appears to the left of this line to indicate that Form 5329 is not required. Example Laura is 41 years old and received an early distribution from her 401(k) account. The volunteer determines that Laura used the money for unreimbursed qualified medical expenses, and she meets the requirements for exception code 05. In this case Form 5329, Part I, would be completed. Laura would not have to pay the additional tax on this distribution.

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What about repayment of the first-time homebuyer credit? Example Joan received a first-time homebuyers credit of $7,500 in 2008 and she still lives in the home. Joan paid the first installment with her 2010 return. She will pay her second installment of $500 with her 2011 tax return. The $500 is entered on the Form 1040, Other Taxes section. PAYMENTS How do I report federal income tax withheld?

TIP: The total amount withheld from income is included on the return, but not all income statements must be attached. Attach all Forms W-2. Also attach Forms W-2G and Forms 1099 if tax was withheld.

Example Freda worked as a clerk and received a Form W-2 that reported federal income tax withholding of $1,000. She also received Form 1099-INT from her bank, which reflected federal income tax withholding of $50. The correct total withholding reported on her return would be $1,050 ($1,000 + $50). What about estimated taxes and amounts applied from the prior years return? What are estimated tax payments?

TIP: Estimated tax includes the taxpayers income tax and self-employment tax, which is equivalent to the social security and Medicare taxes withheld from employees pay.

Where do I get this information?

TIP: If a taxpayer paid substantially more or less than required in estimated tax, encourage them to recalculate it. They can adjust their estimated tax payments by following the instructions and worksheet on Form 1040-ES.

What is important to know about the first-time homebuyer credit?

TIP: A refundable credit can be more than a taxpayers tax liability. This means taxpayers will receive the credit amount in a refund even if their tax is zero.

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What about amounts paid with an extension to file?

TIP: If the April 15 deadline falls on a Saturday, Sunday, or legal holiday; the filing deadline will be the next business day.

Example One of Bernices Forms W-2 was lost in the mail. She requested a copy from her former employer, but it did not arrive by April 15. She filed for an extension, calculated the amount of taxes owed based on her final pay stub from that employer, and paid the $243 that was due. When she finally received her Form W-2, she filed her return and reported the $243 on the applicable line in Form 1040, Payments section. EARNED INCOME CREDIT (EIC) What rules apply to everyone?

TIP: Individual Taxpayer Identification Numbers (ITINs) and Adoption Taxpayer Identification Numbers (ATINs) cannot be used when claiming the EIC. If a couple is filing a joint return, both spouses and all qualifying children must have valid social security numbers. However, if a valid number is obtained later and the taxpayer meets all the qualifications, an amended return may be filed claiming the EIC.

What is earned income for EIC purposes?

TIP: There is a limit to the amount of investment income a person can receive and still qualify for the EIC. For 2011, the amount is $3,150. Investment income includes such items as taxable interest and dividends, tax exempt interest, capital gain net income, and income from residential rental property

What about self-employment income? Example Jeffs self-employment income reported on Form 1040, line 12 is $2,000. The deductible portion of his self-employment tax, which is recorded in the adjustments section of Form 1040, is $141. His income for EIC purposes is $2,000 $141 = $1,859.

TIP: Volunteers must remember to include all allowable expenses when completing Schedules C and CEZ.

What are the rules for taxpayers with qualifying children? Example Jane, 31, and Todd, 33, have an 8-year-old daughter, Amanda. All are U.S. citizens and have valid SSNs. Jane and Todd have never been married. Jane and Amanda lived together all year in an apartment. Todd lived alone. Jane earned $15,000 working as a

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clerk in a clothing store. Todd is an assistant manager of a hardware store and earned $48,000. He paid over half Janes rent and utilities, and also gave Jane extra money for groceries. Todd does not pay any expenses or support for any other family member. Although Todd provided over half the cost of a home for Jane and Amanda, he cannot file Head of Household and he cannot claim the child for EIC, since Amanda did not live with him more than half the year. Jane cannot file as Head of Household either. Review the Filing Status for Head of Household rules in the Volunteer Resource Guide (Tab B). Jane is the only one who can claim Amanda as a qualifying child for EIC. Review the Earned Income Credit rules in the Volunteer Resource Guide (Tab H).

TIP: For EIC purposes, a qualifying child does not have to be the taxpayers dependent (unless the child is marries). In the case of divorced or separated parents, the custodial parent (with whom the child lived for more than half the year, can qualify for the EIC regardless of whether or not they claim the dependency exemption for the child. The noncustodial parent cannot qualify for EIC because the child did not live with them for more than half the year.

What are the rules for a qualifying child of more than one person? Example Robyn is 25 years old. She and her 2-year-old son, Aiden, lived with Robyns mother all year. Aiden has a valid social security number. What are the rules for taxpayers without qualifying children?
TIP: Taxpayers turning 25 on January 1 are considered to be of age as of December 31. Taxpayers reaching the age of 65 on January 1 are still considered 64 as of December 31. Taxpayers in either of these situations whose return is rejected may need to file a paper return. TIP: For a couple filing a joint return, only one taxpayer has to meet the age requirement.

Example Tom and Martha are a married couple. Tom is 66 and Martha is 58 years old. If all other rules are met, they would qualify for the EIC. REFUND AND AMOUNT OF TAX OWED How do I know if the taxpayer is due a refund?

TIP: RALs, RACs, and Other Financial Products: You may be asked about Refund Anticipation Loans (RALs). A RAL is money borrowed by a taxpayer from a lender based on the taxpayers anticipated income tax refund. A variation of a RAL is a Refund Anticipation Check (RAC). Financial Institutions also offer a variety of other financial products to taxpayers based on their refunds. Providers that assist taxpayers in applying for a RAL or other financial products have additional responsibilities and may be sanctioned by the IRS if they fail to adhere to the requirements.

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TIP: A new field in the signature section at the bottom of Form 1040 labeled Identity Protection PIN is designed to help prevent refunds from being issued to an identity thief. See Form 1040 Instructions for more information.

TIP: Publication 4541 and Publication 4542, available for download on www.irs.gov, provide information about split refunds.

TIP: When an adjustment is made to a tax refund, the IRS sends a letter explaining any errors that resulted in the adjustment, as well as any changes made to the refund amount and the amount of each direct deposit.

What if the taxpayer makes a mistake on the return that decreases the amount of the refund? Example Joans return shows a refund of $300 and she asks the IRS to split her refund among three accounts with $100 to each account. Due to an error, her refund is decreased by $150. The IRS will adjust her direct deposits as follows: Requested Direct Deposits $100 $100 $100 Actual Direct Deposits $100 $50 $0

Account 1 Account 2 Account 3

Example Bill asks that his refund of $780 be deposited into three different accounts: $300 into Account 1, $300 into Account 2, and $180 into Account 3. However, Bill owes federal taxes of $290 on an earlier tax year, and after this is offset, only $490 remains to be direct deposited. Account 3 will receive $0, Account 2 will receive $190, and Account 1 will receive $300. Example Melanie is due a refund of $1,000; $700 of the refund is an Earned Income Credit (EIC). She asks that her refund be split into three different accounts: $500 into Account 1, $300 into Account 2, and $200 into Account 3. Melanies EIC amount of $700 was held pending a review. So, $300 went to Account 1 and $0 went to Accounts 2 and 3. Later, when the IRS allowed her EIC refund amount, it was deposited into Account 1.

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What do I need to know about the option to buy U.S. savings bonds with a federal tax refund? Example Marys tax return shows she is due a refund of $548.00. She wants to buy a $500 savings bond. Using Form 8888, Mary can purchase the savings bond and elect to deposit the remaining $48 into her checking account. How do I know if an amount is owed?
TIP: Taxpayers who pay their income tax (including estimated tax) by credit or debit card can deduct the convenience fee charged by the card processor as a miscellaneous itemized deduction (subject to the 2% AGI floor). TIP: Form 1040-V includes instructions and a table of IRS addresses.

TIP: Any amount of tax owed that is not paid by the April due date is subject to penalties and interest. Taxpayers who cannot pay should choose the option that is the least costly. For example, the 60- or 120day pay-in-full option has no user fee

How is the estimated tax penalty calculated? What is the Estimated Tax Penalty? Example Marks total tax is $1,657 for 2011. His withholding is $417. He owes $1,240. His 2010 tax was $2,000. Mark will probably be charged an estimated tax penalty because the amount he owes is over $1,000 and his withholding and credits are less than 90% of his 2011 tax or 100% of his 2010 tax.

TIP: Form 2210 is no longer included with the estimated tax penalty notice. Refer taxpayers who need assistance with Form 2210 to a professional tax preparer.

How can taxpayers make sure the correct amount of tax is withheld? When should taxpayers submit a revised Form W-4 to their employer? Example Mary was claiming an allowance for her son on her Form W-4. Mary will not be able to claim her son as a dependent on next years return. Mary will change her Form W-4 to reduce the number of allowances and submit it to her employer. Example John works two full-time jobs. He reviews his withholding and realizes he will not have enough tax withheld. He gives his employer a revised Form W-4 to increase his withholding so he will not owe money when he files his return.

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QUALITY REVIEW OF THE TAX RETURN How is a quality review of a return completed? When should the taxpayer sign the return?

TIP: Volunteers should always review their work, even if it is to be reviewed by another party. Corrections must be marked on the intake sheet by the preparer or quality reviewer.

TIP: Always include the taxpayer in the quality review process. TIP: For deceased taxpayers, review documentation authorizing the executor of the estate to file the final return. See Publication 559 for details.

CONCLUDING THE INTERVIEW When should the taxpayer make estimated tax payments? Example Maria is retired, and her only income is from a pension and some investments. She had no withholding and is not eligible for any tax credits. When you complete her return this year, she has a balance due of $1,300. Maria should begin making estimated payments, since her balance due next year will be more than $1,000, and she has no withholding. If Maria does not want to make estimated payments, she could submit Form W-4P to request withholding from her pension instead. MILITARY FINISHING AND FILING THE RETURN Where and when should members of the Armed Forces file their returns? Where should the taxpayer file the return?
TIP: Many military facilities have a Volunteer Example Income Tax Assistance Center that will e-file Sergeant Kane, who is stationed in Maine but tax returns. whose permanent home address is in California, should send her federal return to the service center for Maine.

TIP: Refer to the Volunteer Resource Guide (Tab 12), Balance Due Returns, for guidance on helping taxpayers avoid a balance due. Advise taxpayers to use the withholding calculator on www.irs.gov to check their withholding for next year. If they need to adjust the amount withheld, suggest they submit a revised Form W-4, and if appropriate, help them complete the revised Form W-4.

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TIP: If April 15 falls on a weekend or holiday, then the due date is the next business day. For tax year 2011, the due date is April 17, 2012 because of the Emancipation Day holiday. TIP: If the postal service does not deliver to the taxpayers street address and the taxpayer has a post office box, enter the post office box number on the line for the present home address.

What are the extension requirements for taxpayers within the U. S.?

TIP: See Publication 3, Armed Forces Tax Guide which is a helpful resource for those assisting members of the Armed Forces. TIP: There are three ways to request an automatic extension of time to file a U.S. individual income tax return: e-file Form 4868 Pay all or part of the estimated income tax due using a credit or debit card File a paper Form 4868 See Form 4868 for details TIP: For more details on penalties, refer to filing information in Publication 17.

What are the extension requirements for taxpayers outside the U.S. and Puerto Rico? What must taxpayers attach to their return?

TIP: Traveling outside the United States and Puerto Rico on the due date does not qualify the taxpayer for an automatic two month extension.

What are the tax options for combat zone participants? Example Captain Kristina Jones entered a combat zone on December 1, 2009. She remained there through March 31, 2011, when she departed for the U.S. She was not injured and did not return to the combat zone. Her deadlines for filing 2009, 2010, and 2011 returns are: 2009 tax return deadline is January 10, 2012. This deadline is extended by 285 days (180 plus 105) after the Captains last day in the combat zone. The 105 additional days are the number of days in the 3 month filing period that were left when she entered the combat zone (January 1April 15, 2010). 2010 tax return deadline is January 10, 2012; the deadline is extended by 285 days (180 plus 105). 2011 tax return deadline is not extended because the 180-day extension period after March 31,

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2011, ends on September 27, 2011 (which is before the start of the next filing period, January 1 April 15, 2012).

TIP: Request Publication 3 if you prepare returns at a military site. There are many special provisions that apply to service personnel and this publication is a valuable reference.

What are the tax forgiveness provisions for decedents?

TIP: Only the decedents part of the joint income tax liability is eligible for the refund or tax forgiveness.

What are the rules for filing a return for decedents? Example Bob died in February 2011. His 2010 tax returndue on April 18, 2011is not the final tax return. The final tax return would be the 2011 Form 1040, filed in 2012. When is an amended return required? If the federal return has to be amended, often the state return must also be amended. Example Two weeks after Bernards current-year tax return was filed, he received another Form W-2 in the mail. The volunteer tax preparer reviews Bernards file to be sure the Form W-2 wasnt included on the original return. The volunteer then helps Bernard prepare Form 1040X to include the additional Form W-2 on the current-year return. After the due date of the original return, a taxpayer can change from Married Filing Separately to Married Filing Jointly, but cannot change from Married Filing Jointly to Married Filing Separately. However, an executor may be able to make this change for a deceased spouse. Refer to Publication 17 for more information. AMENDED AND PRIOR YEAR RETURNS What are the time limits on amended returns? Example Roberts 2008 tax return was due April 15, 2009. He filed it on March 20, 2009. He amends the 2008 return, expecting the correction to result in a refund. If he gets it postmarked on or before April 17, 2012, (the due date for returns this year) it will be within the three-year limit, and the return will be accepted. But if the amended 2008 return is postmarked after April 17, 2012, it will fall outside the three-year period and he will not receive the refund.

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What if the taxpayer owes money on the amended return?

TIP: Refer taxpayers to the Form 1040X Instructions for information they must include on their check or money order. TIP: The Refund or Amount You Owe section on Form 1040X must be filled out carefully. The original refund is entered on line 17, Overpayment, if any, as shown on original return. However, if the IRS adjusted the refund, enter that amount instead of the original amount.

Who can prepare prior year returns?

TIP: VITA/TCE sites are not required to prepare prior year returns. TIP: The Partner and Volunteer Resource Page on www.irs.gov (keyword search: Partner and Volunteer Resource Center) includes hot topics for partners and volunteers. TIP: The Interactive Tax Assistant (ITA) is an online tool that provides consistent answers to a limited number of current and prior year tax law questions using a probe and response process. ITA is available on www.irs.gov. TIP: Taxpayers can also visit the local IRS Taxpayer Assistance Center to hand deliver their prior year return or payment.

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