Week 4 You Decide Activity 1

1239 Words Dec 10th, 2014 5 Pages
Prepare a three-page memo (at least 900-1,500 words per page) to John and Jane Smith addressing the issues presented:
1. John Smith tax issues:
a. How is the $300,000 treated for purposes of federal tax income?
b. How is the $25,000 treated for purposes of federal tax income?
c. What is your determination regarding reducing the taxable amount of income for both (a) and (b) above?
d. Is it more beneficial to continue leasing the business space or to buy the building?
2. Jane Smith tax issues:
a. What are the different tax consequences between paying down the mortgage (debt) and assuming a new mortgage (debt) for federal income tax purposes?
b. Can John and Jane Smith utilize a 1031 tax exchange to buy a more expensive house using
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You are not eligible to utilize a 1031 exchange. A 1031 exchange is for property held for production in a trade or investment purposes. Personal residences do not qualify.vii A 1031 exchange is for deferring taxes on capital gains and depreciation recapture on business property.

Section 61(a) also includes hobby income in taxable gross income. The $20,000 that you made from selling the jewelry you hand crafted is considered income from a trade because your motive is to make a profit. IRS Publication 535 also outlines that making jewelry is a business because of the time and effort put into it and that you expect to continue to make a profit from it.

If you want to keep the jewelry as just a hobby you can only deduct expenses to the extent of your income under Section 183.viii You could not make jewelry with the intent to make a profit. You would be much better off if you keep the jewelry as a separate business so that you could take business deductions in excess of your income. As a hobby, you would lose out on depreciation and other expense deductions beyond your income. Hobby deductions are only taking on Schedule A. If you have a year that you do not have enough to itemize your deductions you would lose out on all of the business expenses.

It would also be beneficial to set up a limited liability company. (LLC) A LLC limits the partner’s liability to your basis in the company

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