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REG Practice Questions: Calculate the Amounts to Include In An Individual's Gross Income
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May 3, 2024
In this video, we walk through 5 REG CPA exam practice questions on how to calculate the amounts that should be included in an individual's gross income, including wages, interest, dividends, guaranteed payments received from a partnership, income from a qualified retirement plan, and punitive damages. Important Links Link to the free study training webinar mentioned in the video: https://www.superfastcpa.com/strategic-study See the full post for this video: https://www.superfastcpa.com/reg-practice-questions-explained-calculate-amounts-included-in-an-individuals-gross-income-including-wages-interest-guaranteed-payments-retirement-and-punitive-damages/ See the other REG walkthrough videos here: https://www.superfastcpa.com/free-reg-cpa-practice-question-walkthroughs/ 00:00 Intro 01:08 Question 1: Calculating gross income including inheritance, wages, lottery, alimony and child support 04:56 Question 2: Calculating gross income including wages, interest from municipal bonds, unemployment, and guaranteed payments 06:59 Question 3: Calculating gross income including 401k distributions and annuities 09:04 Question 4: Calculating gross income including punitive damages and barters 11:04 Question 5: Calculating gross income including interest and dividends from investments, distributions from Roth IRAs, and Social Security 14:06 Pillar Topics
View Video Transcript
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Hi, I'm Logan, and in today's video, we're going to be going over how to calculate the
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amounts that should be included in an individual's gross income as reported on Form 1040, which
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is an individual income tax return, including wages, interest and dividends, guaranteed
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payments received from a partnership, income from a qualified retirement plan, and punitive damages
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There's a lot of stuff we're going to go over today. With that said, we're going to be learning how to do this the SuperfastCPA way, which
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is going straight into questions to learn the material. If you haven't really heard much about our strategies or if this is the first video you're
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seeing from us, again, that is our strategy. We go straight into the questions
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If you're interested in learning more about our strategies and if you like this video, make sure you go to superfastcpa.com and watch our free one-hour webinar training
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The link will be in the description, where we go over the six key ingredients to passing
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the CPA exam. Again, it's one hour, it's free, and it will save you months and months of struggling with
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your studying process. One more thing about this video, I will only be going over five questions in this video
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to learn this topic, but SuperfastCPA members will have access to the full video where I
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go over 10 questions. Alright, with all that said, let's jump straight into some questions
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Alright, here's the first question. During the year, Jane Doe had several sources of income
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She inherited $30,000 from her late aunt, which she placed in savings
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Her full-time job paid her wages amounting to $45,000. From a state lottery, Jane won $10,000 after purchasing a ticket for $500
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Additionally, under a divorce agreement executed in 2017, Jane receives an annual alimony of
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$15,000 from her ex-husband along with child support payments totaling $6,000. What amount should Jane report as her gross income on her tax return
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Alright, so if you don't know much about individual income taxes, you might not know what goes
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into an individual's gross income, except for maybe, you know, the wages
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That's probably pretty straightforward. But if you don't know much about it, that's okay, because we're going to be going straight
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into the answers here pretty soon and learning more about this. If you need a second, pause the video, make sure you understand what it's asking, read
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through it again, and when you're ready, come back and we will look at the answer. Alright, here's the answer
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$70,000, so what goes into it? Jane's gross income for the year should include her wages, of course, alimony, and lottery winnings
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According to the tax laws, inheritance and child support are not considered taxable income
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Okay, that's a really good thing to learn right there. Inheritance and child support are not taxable
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Therefore, Jane's gross income is comprised of her wages from employment, alimony received
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based on the pre-2019 divorce agreement, and you might be like, why does it matter the year
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Well, we're about to learn about that, and state lottery winnings of $10,000 totaling $70,000
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So let's learn a little bit more about a few of the things here. Alimony payments are amounts paid to a spouse or former spouse under a divorce or separation
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instrument in case you didn't know much about alimony. The tax treatment of such payments has changed due to the Tax Cuts and Jobs Act of 2017
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For divorce or separation agreements executed on or after January 1, 2019, alimony payments
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are no longer deductible by the payer, nor are they includable in the income of the recipient
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However, for agreements executed before this date, the old rules apply, meaning alimony
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payments remain deductible for the payer and are considered taxable income for the recipient
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So there's a big distinction there for alimony payments. If it's alimony for a divorce that was filed starting in the beginning of 2019 or later
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then the alimony is not deductible for the person paying it and not taxable for the person
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receiving it. But if it was before 2019, then it's the reverse
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It is deductible for the person paying it, and it is taxable for the person receiving it
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So alimony isn't necessarily listed specifically in the topic that we're going over today
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but it is something that most likely could come up in the exam
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So that's why we're still going over it. As for the treatment of lottery winnings slash gambling, these are included in gross income
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The amount paid for the winning ticket does not reduce the taxable income. However, for gambling losses slash costs of tickets that did not win, these can be counted
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as an itemized deduction up to the amount of gambling winnings. So in this case, we aren't really talking about itemized deductions
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We're only talking about the winnings. We're not talking about the losses. And then the non-taxable items, the inheritance and the child support obviously aren't included
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in the gross income. So there's a lot of things that we learned there about what goes into gross income
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Of course, wages, lottery goes into it and you don't get to deduct the ticket, or as
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in you don't get to reduce your gross income by the amount that you pay for the ticket
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Since this divorce was before 2019, then the alimony is taxable and then child support
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is never taxable. And that's something that did not change from the TCJA
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So that was the same either way. All right, let's go to the next question. All right, here's the next question
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Throughout the tax year, Robert Lane experienced several financial events. He was employed part-time and earned wages totaling $24,000
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In addition, he received $600 as interest income from municipal bonds. And just letting you know, municipal is something kind of like in a city or in a, you know
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kind of in a locality, not necessarily a state per se. He was also awarded unemployment compensation of $2,000 during a brief period of joblessness
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Furthermore, a partnership in which he is a non-active partner made a guaranteed payment
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to him for his invested capital amounting to $18,000. What is the total amount that Robert must include in his gross income for the current
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tax year? All right. So if you're ready, take a second, pause the video, read through it
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These are some new things that could or could not be included in gross income
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So think about it. And when you're ready, come back and we'll go over the answer. All right, let's go ahead and look at the answer
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All right. $44,000. Robert must include his wages of course, and the guaranteed payment from the partnership
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in his gross income. Just a little about guaranteed payments from partnerships
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It's kind of like a salary from the partnership for like, as in they will get this money no
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matter how well the partnership does or how much money the partnership makes
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So it's separate from the total income of the business. It is just money that they will receive for being a partner in the partnership
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The interest income from municipal bonds is typically exempt from federal income tax and
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thus not included in gross income. So even though it's interest income, since it's from municipal bonds, it is not going
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to be taxable. Unemployment compensation is also taxable and must be included in gross income
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Therefore, the total gross income reported should be the sum of his wages, the unemployment
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compensation and the guaranteed payment. The municipal bond interest is not included
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So that totals to $44,000. All right. We learned a few more things
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Again, unemployment taxable, guaranteed payments taxable, interest income may be taxable, but
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if it's from a municipal bond, not taxable. All right. Let's go to the next question
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All right. Here's the next question. Martin Smith, who is 65 years old, has decided to begin taking distributions from his
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retirement accounts. This year, he took out $50,000 from his 401k plan to which he had made contributions on
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a pre-tax basis. So this means that his contributions were just taken straight out of his paycheck before
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they were even taxed and put into his 401k plan. Additionally, he began receiving payments from a fixed period annuity into which he
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had invested $145,000 and which is designed to pay out $12,000 annually for the next 15 years
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Any contributions from these distributions should be included in Martin's gross income for the current tax year
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All right. Read through this. Make sure you understand what's going on. And when you're ready, come back and we'll look at the answer to learn more about what
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goes into gross income. All right. Here's the answer. Martin's entire 401k distribution is taxable and must be included in his gross income since
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the contributions were made on a pre-tax basis. So again, like I said, it was put into that 401k before it had even been taxed
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So he has to pay taxes on it now. For the annuity, part of each payment is a return of the initial investment, which
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is not taxable. And the remainder is the taxable income. The non-taxable portion is calculated by dividing the total investment by the number of payments
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So $145,000 divided by 15 years. So that means $9,667 per year is just a return of capital
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Basically them just giving him back the money that he put in. The taxable portion of the annuity payment is the annual payment minus the return of
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capital, which is $12,000 minus $9,667. And that equals $2,333. So we add up the 401k distribution of $50,000 and the taxable portion of the annuity, which
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is $2,333. And that gives us the $52,333. Pretty simple there. You basically just for the annuity, at least since it's a fixed period one, you just take
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what was put in divided by the 15 years. And then whatever that is, that portion of the annual payment is not taxable because
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it's just a return of capital. All right, let's go to the next question. All right, here's the next question
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John, a self-employed consultant encountered a few unusual transactions this year. In a legal settlement, John received $50,000 for punitive damages related to a breach of
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contract case. Additionally, he engaged in a barter transaction where he provided consulting services valued
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at $1,200 to an architect who in exchange rendered architectural services valued at
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$1,500 for a renovation John had planned for his home office. Based on these events, what amount should John report as income for the current tax year
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So just based off of these events, we don't know if he made money from anything else. So $50,000 from the punitive damages, is that taxable
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And then what amount of this is going to be counted as income, if any, from the barter
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So take a second, think about it when you're ready. Let's come back and look at the answer. All right, here's the answer
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So looks like the $50,000 of punitive damages is taxable. And then the value of the renovation is taxable
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So let's read this. According to tax law, punitive damages are generally included in gross income, even if
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they relate to a personal injury. So John must include the full $50,000 of punitive damages as income
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When services are traded, the fair market value of the services received is included
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in income. Therefore, John must also include the $1,500 value of the architectural services he received
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even though the services he provided were of lesser value. So even though his was only worth $1,200, whatever he received, that's what's taxable
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income to him. Thus, the total income John should report for the current tax year is the sum of the
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punitive damages and the fair market value of the architectural services, which equals $51,500
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All right. Most of the stuff you're seeing here is pretty straightforward
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You just need to know what the rules are because before this, you might not have known that
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punitive damages are typically taxable. You might not have known that it's the fair market value of a barter transaction that's taxable
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So once you know these things, they're pretty straightforward. All right, let's go to the next question
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All right, here's the next question. Susan Miller, a retired teacher, had various sources of income during the year
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She received $6,000 in interest from corporate bonds and $4,000 in dividends from her stock investments
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Susan also began taking distributions from her Roth IRA, from which she withdrew $10,000
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During the year, she received Social Security benefits amounting to $18,000. Her other income totals put her in a situation where 85% of her Social Security benefits
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are taxable. Considering these figures, how much should Susan report as her gross income for the current
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tax year? All right. So this interest is not from a municipal bond
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So is it going to be taxable? Are these dividends going to be taxable? We're five questions in, but this is new stuff
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See if you can think about it and figure out what is taxable, what's not taxable, or use
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your knowledge that you currently have. And when you're ready, come back and we'll look at the answer
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All right, $25,300. Susan's gross income includes interest from corporate bonds and dividends
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So that makes sense. Normal interest and normal bond and normal dividends are taxable
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Whereas as we remember from before, the interest from the municipal bonds was not taxable
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Her Roth IRA distributions are generally not taxable if certain conditions are met, such
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as the account being at least five years old and the distributions are taken after reaching
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age 59 and a half. Assuming Susan meets these conditions, the Roth IRA distribution is not included in her
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gross income. So just a note on Roth IRAs. So, you know, a 401k or a normal IRA, those are pre-tax dollars
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So the money that you put in has not been taxed yet. And so that money is taxed when it's taken out
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The awesome thing about Roth IRAs is that you take money that has already been taxed
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So it's the money that you actually got in your paycheck. You decide to put it in your Roth IRA, but since it's already been taxed, when you take
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it out, you know, 40 years later or whatever, it's not taxable, which is awesome because
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taxes are always going to go up. So that's how it works with Roth IRAs
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Assuming Susan meets these conditions, not, not including the gross income, we read that already
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However, 85% of her social security benefits are considered taxable based on her income level
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Therefore, Susan should include 85% of 18,000, which is $15,300 in addition to the $6,000
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in bond interest and $4,000 in dividends totaling $25,300 as her gross income
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So we're not going to dive super deep into social security benefits in this video, but
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basically there are different things that can affect how much of your social security benefits are taxable
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In this situation though, we're just assuming that the 85% is taxable
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So that means that that $15,300 is taxed. So the total ends up being the $10,000 plus the $15,300
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So $25,300 is taxable. So we learned a lot there as well
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Biggest thing to pay attention to is the Roth IRA, I would say. And then again, we're not going to dive super deep into social security benefits in this video
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All right. We went over a lot of things so far. Before we go any further, let's do another part of the process, which is called pillar topics
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Now if you don't know much about the strategy of SuperfastCPA, again, we do the questions
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to learn the material mainly. And another great part of it is called pillar topics
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This is where you take what you've learned over the past questions, you know, in this
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case, the past five questions, and you try to summarize, try to pick out what were obviously
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the most important things that you were supposed to know and learn for the exam based off of
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these questions. So let's go ahead and go into making the pillar topics. Okay
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First pillar topic, or at least we, let's just start listing what things go into gross income
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What goes into gross income to be taxed? Wages, obviously. Interest from bonds, except for municipal bonds
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Let's just keep going. Dividends from investments, distributions from normal IRAs or 401ks
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Some social security benefits. Let's see. Alimony received from a divorce before 2019
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What is not included? Roth IRA distributions. Oh, we forgot to include punitive damages
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That is another thing. IRA distributions, child support, alimony received for divorce
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Let's fix that. I don't want it to go off the screen. Inheritance, annuities, well, parts of annuities
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We might not write that out super in detail right this second. And then barters do include FMV or fair market value of service received
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All right. So pretty straightforward once you know what goes into it and what doesn't go into it
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but it might be hard to remember all those things. So that's why you make the pillar topics and you could even like try to make a mnemonic
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for yourself. You could do whatever you need to do to remember these things, but these are the pillar topics
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These are all the things that go into it. Wages, interest from bonds, except for municipal bonds, dividends from investments, distributions
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from normal IRAs or 401ks. Like these are things that are taxable
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Some social security benefits, alimony before 2019, punitive damages. What's not included
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Roth IRA distributions, child support, alimony after 2019, inheritance, parts of annuities
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And then another thing was that barters, whatever the fair market value of the thing was that
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you received, that is also included in your gross income. All right
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We learned a lot in this video. Just as a reminder, this is the end of this video
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We only went over five questions, but SuperfastCPA members will have access to the full video
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where I go over another five questions for a total of 10 questions
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If you liked this video, make sure to like it, leave a comment and share this video with
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anybody you know who is going through the CPA exams. Especially make sure you go to superfastcpa.com and watch our free one hour webinar training
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Again, the link is in the description where we go over the six key ingredients to passing
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the CPA exam. It will save you so much time of struggling and failing these exams
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Please go watch it. Again, thanks for watching and I'll see you in the next video
#Tax Preparation & Planning