Acct553 You Decide W4

John Smith Tax Issues:

1(a)

Issue:

How is the $300,000 received for fees treated for purposes of Federal tax income?

Rule/Analysis:

The rule pertaining to the aforementioned issue is Section 61(a) of the Code. IRC Section 61(a) states that gross income includes “all income from whatever source derived, including but not limited to the following items: compensation for services, including fees, commissions, fringe benefits, and similar items…” (www.taxalmanac.org); therefore, all income is included in gross income no matter what source it is derived from, unless it is exempt. Additionally, the Constructive Receipt Doctrine would come of issue. The Constructive Receipt Doctrine, Reg. 1.451-2, applies to employees that use the cash basis method of accounting and requires that income be reported in the year in which it is received (www.businessdictionary.com). In this case, John could receive the $300,000 in a lump sum when his client receives the jury award of $2,000,000 from damages; therefore, it should be treated as income for purposes of Federal taxation in the tax year in which it is received.

Conclusion:

John Smith should treat the $300,000 received for fees as income for purposes of Federal taxation.

1(b)

Issue:

How is the $25,000 received for recovery of expenses paid up front treated for purposes of Federal tax income?

Rule/Analysis:

The rule pertaining to the aforementioned issue is Section 162(a) of the Code. IRC Section 162(a) requires six elements be met in order to claim a deduction, the expense must be and “ordinary and necessary expense that was paid or incurred during the taxable year in carrying on a trade or business activity.” If these elements are not met, then Congress considers the cost to be a consumptive expense. Therefore, if the $25,000 out of pocket was for normal and necessary business expenses throughout the year than they can be considered a business deduction: the $25,000 reimbursement would be...