You Decide

Memo

To: John & Jane Smith

From: Mike James

Date:2/4/2013

After reviewing John and Jane Smith’s points of view.

1. John Smith tax issues:

a. How is the $300,000 treated for purposes of Federal tax income?

This is considered a service on John’s part. $300,000 would be taxable income for John. So all fees obtained by John in this process is earned income for the profession of an attorney.

b. How is the $25,000 treated for purposes of Federal tax income?

Publication 535 (2011), Business Expenses

http://search.irs.gov/search?as_sitesearch=www.irs.gov/publications/p535&q=business+loans&output=xml_no_dtd&proxystylesheet=irs_portals_frontend&client=irs_portals_frontend&oe=UTF-8&ie=UTF-8&num=10&ud=1&requiredfields=-archive:1&exclude_apps=1&site=default_collection&numgm=5&&access=p&sort=date:D:L:d1&entqr=3&entqrm=3

$25,000 would be considered a business expense. This would be considered ordinary and necessary business expense according to the IRS. An ordinary expense is one that is common and accepted in a specific trade or business. A necessary expense is one that is helpful and appropriate for your trade or business. An expense does not have to be indispensable to be considered necessary.

c. What is your determination regarding reducing the taxable amount of income for both (a) and (b) above?

IRC Section 72(b) would be appropriate because he could set up a non-qualified deferred annuity.   He also could put some of the money into various retirement accounts to help lower the taxable amount. John could choose to invest part of his fee collected into his retirement accounts to reduce the taxable amount. If he invested some of it into the company, he could make it a business expense which would allow him to have more deduction reducing his tax liabilities. He could also invest in small business with his wife, which would help him reduce tax. Then there is always Non for...