CHAPTER 5 GROSS INCOME: EXCLUSIONS

1. Bob had a terminal illness and realized that he “can’t take it with him.” Therefore, he cashed in his insurance policy and received $120,000. He had paid $50,000 in premiums on the policy. He used the money to fulfill his lifelong ambitions of going to the Super Bowl, driving an expensive sports car, and vacationing in Bermuda.

Was Bob’s behavior consistent with the Congressional intent in providing the tax exemption he was permitted to use?

2. Ben was hospitalized for back problems. While he was away from the job, he collected his regular salary from an employer­sponsored income protection insurance policy. Ben’s employer­sponsored hospitalization insurance policy also paid for 90% of his medical expenses. Ben also collected on an income protection policy that he purchased. Which of the above sources of income are taxable? Explain the basis for excluding any item or items.

3. The CEO of Cirtronics Inc., discovered that the company’s competitor had adopted a cafeteria plan for its employees. The CEO is concerned about retaining his talented employees and would like you to provide a brief explanation as to why a cafeteria plan may be attractive to the company’s employees.

4. What Federal income tax benefits are provided for college students?

5. The taxpayer was in the 35% marginal tax bracket in 2013 and deducted $15,000 in state income taxes as an itemized deduction that year. In 2014, he filed his 2013 state income tax return and received a $5,000 refund of state income taxes paid in 2013. His marginal tax rate in 2014 was 15%. What was the taxpayer’s Federal tax benefit from the overpayment of his 2013 state income tax?

6. Employers can provide numerous benefits to their employees and the employees are permitted to exclude the value of these benefits from gross income. What are the effects of the exclusions on:

a. The progressiveness of the tax system?

b. The complexity of the tax system?

7. Sally and Ed each own property with a fair market value less than the amount of the outstanding mortgage on the property and also less than the original cost basis. They each were able to convince the mortgage holder to reduce the principal amount on the mortgage. Sally’s mortgage is on her personal residence and Ed’s mortgage is on rental property he owns.

a. Explain whether each of these individuals has realized income from the reduction in the debt.

b. Assume that under the current system of measuring income, each of these taxpayers realized income from the reductions in the mortgages. Should either of these taxpayers be permitted to exclude any of the debt reduction income?

8. If a tax­exempt bond will yield approximately .65 (1 – .35) times the yield on a taxable bond of equal risk, who benefits from the tax exemption: the Federal government, the state and local governments who issue the bonds, or the investors?