Chapter 5 – Gross Income and Exclusions

Gross income: all income when (1) an economic benefit is received (2) is realized and (3) no tax provision
excludes or defers it for that year

Economic Benefit
Includes:
Compensation for services (cash, property, or services), proceeds from property sale,
investment income.
Does not include :
Taxpayer borrowing money (cash received offset by liability required to pay)

Return of Capital Principle

When the proceeds of sales also covers the initial cost to sell an item is covered.
A refund is NOT typically considered in gross income b/c it is either a return of capital or
a reduction in expense if for same year.
IF it is not for same year:
A refund is included in gross income if that amount is a tax benefit for
previous year – then include the amount for current year
Itemized deductions
(a) Subject to limitations, which may eliminate/reduce tax
benefit
(b) Tax benefit only if itemized deduction exceeds standard
deduction by $100

(c)

Constructive Receipt Doctrine: when income is realized as it is constructed. Occurs when taxpayer
credits receipt to their account, without conditions (they have control of receipt), and they are aware.
Ex: You cashing a check from Dec 31st on January 4th.

Claim of Right Doctrine: when taxpayer receives income in one period but required to return it in a
subsequent period. Conditions are taxpayer receives and there are no conditions.

Assignment of Income Doctrine: prevents taxpayers transferring income to others

(a) Interest from bond is taxable to whoever owns it
(b) Income from property to whoever owns it
Community Property Systems:
Income and/or property earned from one spouse is shared with the other spouse 50/50 gross
income. Property brought into a marriage from before is treated separately.
Common law consequences
(1) All income earned from services of one spouse is included in gross income
of spouse who earned it
(2) Same with property
(3) Property owned jointly (not separately) is taxed to each spouse/owners for
the income attributable to their share.

Types of Income
Earned income
(a) Income from labor/services/wages/fees
Unearned Income
(a) Gains/losses from sale of property
(b) Dividends, interests,
(c) Rents, royalties
(d) Annuities

Annuities
Investments that pays equal payments over time. We have to determine what part of payments
is nontaxable and what part is taxable (return of capital/original investment) with equation:

There are two types of annuities:

(1) Paid over fixed period
a. Expected value = # of payments x amnt of payment
(2) Paid over person’s life (as they are alive)
a. Amnt of payments is hard to determine so table is used

If taxpayer lives longer than expected, any income, or extra payments thereafter is included in
gross income. If taxpayer dies before receiving all payments, the total of [Initial investment –
Amnts received treated as nontaxable return] is DEDUCTED on tax return
Property Dispositions

The rate at which taxpayers are taxed on gains from property dispositions and extent they can
deduct losses depend on if the asset was used for business, investment or personal purposes

Flow-through entities
S-corpos and partnership income and deductions ‘flow through’ to the owners of that entity.
The owners report income and deduction.
Each partner or S corporation shareholder reports income or deductions