Discussion Questions

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Chapter I:7

Business Expenses and Deferred Compensation

Discussion Questions

I:7-1 It is important to distinguish whether an individual is an employee or an independent contractor (self-employed) because some expenses are only partially deductible by employees or not deductible at all. A self-employed individual who incurs a business-related expenditure may deduct, under Section 162, the expense for determining AGI on Schedule C, Form 1040. In addition, employers pay certain payroll taxes on behalf of their employees. On the other hand, an individual’s employment-related activities, such as travel and transportation, are no longer deductible in tax years 2018–2025. Individuals may prefer to be classified as employees rather than independent contractors because the employee portion of the social security tax rate in 2025 of 7.65% is less than the self-employment tax rate of 15.3%. This difference is mitigated somewhat because self-employed individuals receive an income tax deduction equal to 50% of their self-employment tax. Consideration should also be given to the hospital insurance portion of the FICA tax, which continues to apply without limit at a 1.45% rate for both employees and

employers and at a 2.90% rate for self-employed individuals. p. I:7-3.

I:7-2 For reporting purposes, deductions for AGI can be classified into two categories: (1) expenses that are netted against income from the activity, such as expenses connected with a trade or business (Schedule C), rental real estate (Schedule E), or a farm (Schedule F); and (2) various other types of for AGI deductions that are reported as Adjustments to Income on Schedule 1 of Form 1040. From AGI deductions are itemized deductions reported on Schedule

A. p. I:7-2.

I:7-3 Expenses of a self-employed individual are netted against the income from his business activity and the net amount is reported on Schedule C. The net amount of income from Schedule C is then reported on Line 3 of Schedule 1 of Form 1040. A similar reporting procedure is also followed for Schedule E for rental real estate and Schedule F for a farm. Other types of for AGI deductions are merely listed as Adjustments to Income on Schedule 1 of Form 1040. p. I:7-2.

I:7-4 a. Marilyn may deduct the travel expenses for 2025 including airfare, lodging, and meals for AGI assuming that the trips are necessary and not personal in nature. (Note: The business meal portion of this expense is reduced by 50% for 2025 and future years.)

• For 2025, reimbursed travel expenses of employees are no longer deductible.

However, since the reimbursements are made pursuant to an accountable plan, Marc will not report the reimbursement as income or the travel expenses as deductions on his return. This so- called “wash” treatment of reimbursements and business expenses is because the employer maintained an accountable plan.

• Marc may not deduct unreimbursed expenses as a miscellaneous itemized

deduction in 2025. Miscellaneous itemized deductions are not deductible for tax years 2018- 2025.

• Kay may deduct travel expenses for AGI for 2025. pp. I:7-2 through I:7-8. 1 / 3

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I:7-5 Kelly may deduct $850 as a for AGI deduction in 2025. The deduction is computed as

follows:

Total business meal expenses $2,200

Minus: lavish and extravagant expenses ( 500)

Balance of meal expenses $1,700 Reduction of 50% for meals ( 850) Deductible amount $ 850 For meals to be considered lavish or extravagant is a rare occurrence. It possibly could happen in large cities at very expensive restaurants. This lavish or extravagance rule is more of a weapon of the IRS rather than being self-reported by taxpayers. pp. I:7-4 and I:7-7.

I:7-6 a. All expenses except personal clothing (e.g., transportation, meals and lodging) are classified as travel expenses and are deductible for AGI in 2025. The meal costs of $1,000 are deductible in 2025, subject to the 50% reduction. Thus, the total deductible amount is $8,500 ($1,000 + 7,000 + 500). The expenses are deductible because her assignment is temporary in nature, i.e., less than one year in duration.

• Same as a. Latoya could deduct the expenses for the nine-month assignment, as

that employment would be considered temporary under Rev. Rul. 93-86. None of her expenses incurred in Ohio after the nine-month assignment would be deductible, as the assignments would be indefinite in nature, per Rev. Rul. 93-86. pp. I:7-4 through I:7-8.

I:7-7 For 2025, the travel expenses related to attending the seminars are not deductible since they are related to the production of income under Sec. 212 rather than a trade or business. Also, the registration fees of $1,000 are not deductible as miscellaneous itemized deductions are no longer deductible. pp. I:7-8 and I:7-9.

I:7-8 For 2025, a self-employed individual can only deduct travel expenses that are incurred while away from home overnight. Her expenses incurred in the city where she lives and works are treated as transportation expenses and are limited in nature. When she is away from home

overnight, she can deduct her travel expenses. p. I:7-5.

I:7-9 For 2025, the actual expense method may be used in subsequent years for self-employed individuals. However, MACRS under the regular method may not be used for computing depreciation (straight-line method is required) and the basis of the automobile must be reduced by 33 cents in 2025, 30 cents in 2024, 28 cents in 2023, 26 cents in 2022 and 2021, 27 cents in

2020, and 26 cents in 2019. p. I:7-11.

I:7-10 The taxpayer may not switch to the standard mileage rate method. If a taxpayer depreciates an automobile under MACRS or expenses all or part of the automobile under Sec.

179, a change to the standard mileage rate method is not permitted. p. I:7-11.

I:7-11 When a taxpayer mixes business and pleasure on a trip, the tax law requires that the trip be deemed as either primarily business or primarily personal. If the trip is primarily business (more days spent on business than pleasure), the entire cost of the transportation to and from the 2 / 3

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destination is deductible. Other expenses, such as hotel and meals, are deductible only on the business days. If the trip is primarily personal, no expenses incurred in traveling to and from the destination are deductible. The other costs (hotel, meals, etc.) are deductible only for the business days. pp. I:7-7 and I:7-8.

I:7-12 Robert may deduct the automobile expenses other than commuting expenses of $2,470 and the business lunches with his customers of $580 (subject to 50% reduction for meals in 2025). He is not allowed any deduction for commuting expenses and lunch by himself. The lunch is not deductible because it is not a travel expense, as he is not away from home overnight.The lunch is a personal expense. pp. I:7-9 and I:7-10.

I:7-13 Moving expenses are no longer deductible for most taxpayers. The only taxpayers allowed to deduct moving expenses are members of the U.S. Armed Forces on active duty who move pursuant to a military order and incident to a permanent change of station. p. I:7-14.

I:7-14 Self-employed individuals can deduct business automobile expenses under either of two methods: the actual expense method or the mileage method. The actual expense method includes gasoline, oil, repairs, and depreciation for the business-use portion of the automobile. The mileage method allows taxpayers to deduct 70 cents (2025) per business mile. Parking and tolls can be deducted in addition to the amounts computed under both methods. Taxpayers generally must be consistent over the years. pp. I:7-10 through I:7-12.

I:7-15 For tax years 2018-2025, entertainment expenses are not deductible. p. I:7-12.

I:7-16 For tax years 2018-2025, entertainment expenses are not deductible. Expenses related to country club dues are considered entertainment expenses and, therefore, are not deductible.However, if a self-employed individual pays for a business meal with a customer at a country

club, the meal would be deductible. p. I:7-12.

I:7-17 For tax years 2018-2025, entertainment expenses are not deductible. Therefore, the cost of the tickets to the Super Bowl are not deductible. However, since the cost of food and beverages at the event are separately-stated, they will be deductible as a business meal. In this case, Bass may deduct $2,500 (10 tickets times $500 less 50% disallowance). As mentioned

above, the cost of the tickets of $20,000 are not deductible. p. I:7-12.

I:7-18 The $2,500 expense incurred for the CPA review course is nondeductible because these expenses were incurred to meet the minimum standards for entry into the profession of accounting. The continuing education expenses are deductible for AGI in the amount of $900 ($1,000 less 50% of meals). The law school expenses of $9,000 are nondeductible because these expenses qualify the taxpayer for a new trade or business. pp. I:7-15 and I:7-16.

I:7-19 a. Yes, Maggie is entitled to an office-in-home deduction because the office is used exclusively on a regular basis as the principal place of business for a trade or business, and it is used as a place for meeting or dealing with patients, clients, or customers in the normal course of business. Additionally, her office is the most significant place for the conduct of her business activities. She is self-employed.

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