Chapter 8, Problem 57CP

To determine

Calculate 2018 federal income tax payable (or refund due) for J.

Explanation of Solution

Calculate 2018 federal income tax payable (or refund due) for J.

Step 1: Compute taxable income of J.

Details	Amount ($)	Amount ($)	References
Net business income		17,500	Refer working note 1
Interest income		4,000
Gross income		$21,500
Less: Deduction for AGI
Self-employment tax deduction		(1,237)	Refer working note 2
Adjusted gross income(AGI)		20,263
Less: ‘ From AGI deductions’
Itemized deductions	(12,650)		Refer working note 3
Deduction for qualified business income	(1,523)	(14,173)	Refer working note 4
Taxable income		$6,090

Step 2: Compute net tax payable or refund due for J.

Details	Amount ($)	Amount ($)	Reference
Tax liability	609		Refer working note 5
Add: Self-employment tax	2,473		Refer working note 2
Total tax liability		3,082
Less: Estimated tax payments		(3,000)
Net tax payable (refund due)		$82

Hence, 2018 federal income tax payable for J is $82.

Working note (1):

Calculate net business income of J.

Details	Amount ($)	Amount ($)
Income from sales		85,000
Less: Expenses
Rent	16,500
Utilities	7,900
Supplies	1,800
Insurance	5,000
Travelling expense	2,300
Meals	600
Depreciation and §179 deduction	33,400	(67,500)
Income from business		$17,500

Calculate the amount for meals.

$\begin{array}{c}\text{Amount for meals}=\text{Meals amount}\times \text{Cut back adjustments}\\ =\text{\$1,200}\times \text{50\%}\\ =\text{\$600}\end{array}$

Calculate the amount for travelling expense.

$\begin{array}{c}\text{Travelling expenses}=\text{Travel expense}-\text{Meals amount}\\ =\text{\$3,500}-\$1,200\\ =\$2,300\end{array}$

Calculate Depreciation and §179 deduction for J.

Calculate MACRS deduction for furniture and fixtures.

Step 1: Calculate the cost recovery for furniture and fixtures.

$\begin{array}{c}\left\{\begin{array}{l}\text{Cost recovery for }\\ \text{furniture and fixtures}\end{array}\right\}=\left[\left(\text{Original basis}- \S \text{179 expense}\right)\times \text{Rate}\right]\\ =\left[\left(\$21,000-\$21,000\right)\times .1429\right]\\ =\left(0\right)\end{array}$

Step 2: Calculate maximum total depreciation deduction.

$\begin{array}{c}\begin{array}{l}\text{MACRS Deduction for }\\ \text{furniture and fixtures}\end{array})=\left(\begin{array}{l}\S 179\lim it+Costrecovery\\ forfurnitureandfixtures\end{array}\right)\\ =\$21,000+0\\ =\$21,000\end{array}$

Calculate MACRS deduction for computer equipment.

Step 1: Calculate the cost recovery for computer equipment.

  $\begin{array}{c}\left\{\begin{array}{l}\text{Cost recovery for }\\ \text{computer equipment}\end{array}\right\}=\left[\left(\text{Original basis}-\S \text{179 expense}\right)\times \text{Rate}\right]\\ =\left[\left(\$12,400-\$12,400\right)\times .2000\right]\\ =\left(0\right)\end{array}$

Step 2: Calculate maximum total depreciation deduction.

  $\begin{array}{c}\begin{array}{l}\text{MACRS Deduction for }\\ \text{computer equipment}\end{array})=\left(\begin{array}{l}\S 179\lim it+Costrecovery\\ for\text{computer equipment}\end{array}\right)\\ =\$12,400+0\\ =\$12,400\end{array}$

Calculate the Depreciation and §179 deduction for J.

Details	Amount ($)
MACRS Deduction for furniture and fixtures	21,000
MACRS Deduction for computer equipment	12,400
Total MACRS deductions	$33,400

Working note (2):

Calculate self-employment tax deduction.

Step 1: Calculate self-employment tax.

2018 Self-employment tax Worksheet
1.	Net earnings from self-employment.	$17,500
2.	Multiply line 1 by 92.35%.	$16,161
3.	If amount on line 2 is $132,900 or less, multiply line 2 by 15.3%. This is the self-employment tax.	$ 2,473
4.	If amount on line 2 is more than $132,900, multiply the excess over $132,900 by 2.9% and add $20,333.70. This is the self-employment tax.

Step 2: Calculate self-employment tax deduction.

In 2018, ‘For AGI Deduction’ the deduction part of the self-employment tax is 50% of self-employment tax. Hence, the deduction is $1,237$\left(\$2,473\times 50\%\right)$.

Working note (3):

Calculate the itemized deductions.

Details	Amount ($)
State income tax	2,950
Home mortgage interest	6,000
Property taxes on home	2,500
Charitable contributions	1,200
Total itemized deductions	12,650

Working note (4):

Calculate deduction for qualified business income.

$\begin{array}{c}\text{Qualified business income deduction = }\left(\begin{array}{l}\text{Lesser of: }\\ \text{20\% }\times \text{ Qualified business income }\\ \text{or,20\%}\times \text{Modified business income}\end{array}\right)\\ =\left(\begin{array}{l}\text{Lesser of:}\\ \text{20\%}\times \left(\$17,500-\$1,237\right)\\ \text{or, 20\%}\times \left(\$20,263-\$12,650\right)\end{array}\right)\\ =\left(\begin{array}{l}\text{Lesser of:}\\ \text{20\%}\times \$16,263\\ \text{or, 20\%}\times \$7,613\end{array}\right)\\ =\text{Lesser of:}\text{\$3,253 or, \$1,523}\\ \text{=\$1,523}\end{array}$

Working note (5):

Calculate tax liability on taxable income of $6,090.

Single Tax payer - Use Schedule – X for the tax rates for the year 2018:

$\begin{array}{c}\text{Tax liability}=\text{Taxable income}\times \text{10\%}\\ =\text{\$6,090}\times \text{10\%}\\ =\$609\end{array}$