MGMT 127A Lecture Notes - Lecture 6: American Opportunity Tax Credit, Foreign Tax Credit, Child Tax Credit

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8 May 2016
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1. Lecture 6: continuation of section 1
Tax liability:
oThis is only looking at
TAXABLE income, not anything
else
oCalculated from the tax tables
or the tax schedules and it is a
function of filing status
oStatutory rates:
oTaxable income: in general,
taxable income is taxed at
statutory rates from 10% up to
39.6%
oYou are taxed at 0% until you
reach an income of $9,225 if
you're single and $18,450 if you
are married filing jointly
oAlso look a the bottom of page 152 in course reader for tax rate schedules
You can see that the chart is already doing the math for you and calculating the
amount of tax for all of the previous levels- you only tax the money that is more than
the amount for the next step at that next step
They multiply the step numbers for single by 2 to find married filing jointly only
for the smaller steps- once you get higher you see more of a marriage penalty
oCapital gains and dividends (taxed the same levels):
Long term capital gains are taxed at a maximum rate of 20% (if the taxpayer is in
the 39.6% bracket)
They are taxed at 0% if the taxpayer is in the 10% or 15% bracket and 15% if
they are in the 25%, 28%, 33% or 35% brackets
For dividends to qualify, the stock on which the dividend is paid must have been
held for more than 60 days during the 120 day period beginning 60 days before the
ex-dividend date
oExample: you make 500k at work, and you make 50k on some stock you sell
The 500k is taxed at the normal rates, and then the extra 50k is only taxed at
20% (they are considered the last dollars earned so you can benefit from the shadow
bracket)
Calculate the tax on your income by subtracting out the long term capital gain
income first and then calculate the taxes on long term capital gains separately
If you live off of dividend income, you are taxed at only this shadow rate
Short term (hold for less than a year) is just taxable income- if you buy stock and
hold onto it for more than a year, then you are able to qualify for the lower rates
Same with dividends
oAverage tax rate= tax liability / taxable income
oMarginal tax rate= the highest rate that is applied in the tax computation for a particular
taxpayer
If you are just before the bump up to the text step, then your marginal rate is
the next step
oEffective tax rate= change in tax / change in income or deduction
Helpful for business planning
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Credits (will only talk about the first 3 credits):
oChild and dependent care credit
oChild tax credit
oForeign tax credit
oOther: credit for elderly, American opportunity tax credit (replaces the hope scholarship
credit), lifetime learning credit, earned income credit, adoption expenses credit, retirement
plan contribution credit, specific business-related credits
Prepayments
oPrepayment methods include withholdings, estimated payments, excess FICA
oNormally these just get taken out of a paycheck, but if you are self employed, you have
to write the check yourself and send it in
oSafe harbor:
During the tax year, to avoid penalties, a taxpayer must have paid the lesser of
90% of the current year's liability OR
100% of the past year's liability
But if the taxpayer's AGI>$150k, then it is 110% of the past year's liability
Tax planning example:
oSam attended business school in 2014 and has no income in that year
oIn 2015 he works after he graduates and therefore only has half of his income in that
year
oHe works the entire year in 2016
oHe has some investment opportunities and therefore wants to delay paying his taxes as
must as possible in both 2015 and 2016
oCalculate how much Sam must pay in each tax year to avoid the penalty for failure to
pay estimated taxes
o2014
Income: 0
Tax: 0
Must pay during the year 0
Remainder to pay 4/15/15 0
o2015
Income: 70k
Tax: 14k
Must pay during the year 0
Remainder to pay 4/15/16 14k
o2016
Income: 140k
Tax: 35k
Must pay during the year 14k (because 14k < 31.5k)
Remainder to pay 4/15/17 21k
oBecause Sam didn’t earn anything in 2014 he is still benefiting in 2015 (this safe harbor
is especially beneficial in the year when your income suddenly pops)
Tax planning example 2:
oSteve is single with income= $100k
oHis for AGI deductions=0 and his itemized deduction= $20k
oNote that when you first start working, you fill out a form called the W4
oOn the W4, you cannot indicate that you are going to itemize your deductions and it will
automatically act as if you are getting the standardized deduction
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