Glossary of Tax Terms
- 529 Plan
- Similar to a Roth IRA, this allows a taxpayer to make deposits for the benefit of another person. The earnings are never taxed provided that the beneficiary uses distributions for qualified educational purpses. The money is controlled by the donor and can be transfered to a different beneficiary if desired. [Top]
- Acquisition Debt
- The debt incurred to first acquire an asset, minus the amount of principle that has been paid on the loan. [Top]
- The Adjusted Gross Income is usually referred to as AGI. This is your total taxable income less any adjustments to income. These adjustments are not your itemized deductions, but direct "off-the-top" reductions such as alimony paid, tax-defered contributions to an IRA, education expense if taken as a reduction in income, etc. [Top]
- Alternate Minimum Tax is a totally separate tax system created in the late 1960s to ensure that the wealthiest few did not excape taxes. Unfortunately, Congress did not index the thresholds. Now it requires annual adjustments to avoid a heavy tax hit on some 25% of US taxpayers. While it needs to be fixed, paying for the offset will be painful. [Top]
- Barter is any benefit received other than cash in exchange for labor or other goods. When two people exchange work, both must pay taxes on the value of the service they received. When property is exchanged any value of the property received above the basis of the property given up is taxable. (This does not apply to non-taxable exchanges executed under section 1031 of the Code.) [Top]
- The basis, or adjusted basis, is the net investment you have in property (tangible or not). In the simplest case it is what you paid for it. But it also includes the cost of improvements made. Any losses or deductions (i.e., depreciation) taken against the property reduces your basis. Often the process of calculating basis on property can become very complicated. [Top]
- CTEC Licenses Tax Preparer - one who has meet the educational and registration requirements of CTEC and is thus granted license to prepare tax returns for pay in California. (Also called a CTEC Registered Tax Preparer.) [Top]
- Community Property State
- Any such state (e.g., California) where assets, income, and expenses are deemed to be jointly and equally owned by a husband and wife. For tax purposes this applies if the husband and wife lived together at any time during the year. In this situation, should the couple desire to file separately ("Married Filing Separately") they will both claim half the combined income and half the combined expenses. They are not permitted to file where she claims her income and he clains his income, etc. [Top]
- Coverdale IRA
- Type of tax-defered savings account that allows for saving to pay the cost of education. The account is established for the benefit of a minor. Although any number of people can contribute to the account, the total annual contributions are limited to $2000. [Top]
- A Certified Public Accountant is highly qualified in accounting procedures, having demonstrated through testing and experince that they are competent. Usually these individuals first secure a college degree in some accounting field. These individuals often specialize in a subfield, just as medical doctors do. Some are experts in corporate taxes, others in mergers, some in taxation, etc. [Top]
- CTEC Registered Tax Preparer - one who has meet the educational and registration requirements of CTEC and is thus granted license to prepare tax returns for pay in California. (Also called a CTEC Licenses Tax Preparer.) [Top]
- California Tax Education Council provides tracking of continuing education for tax preparers and issues licenses to prepare taxes for hire. In California it is illegal to be paid for preparing a tax return unless licensed by CTEC, or as an EA, CPA, or attorney. (Note that not everyone who is a CPA or atorney has expertise in tax issues. We recommended that you inquire about a CPA's current tax expertise, and have any tax advice or work done by an atorney checked by a licensed tax professional.) [Top]
- A person who provides tax benefit to the tax payer.
A spouse cannot be a dependent.
There are seven tests that must all be passed for a person to claim another as a dependent.
The first three of these are listed here.
The last four vary depending on whether the person is qualifying as a Qualifying Child or Qualifying Relative.
Without special provisions or details, the tests briefly are:
See Qualifying Child or Qualifying Relative.
- The taxpayer (or spouse if filing joint) cannot be claimed as a dependent on someone else's return.
- The person must not be fililng a joint return with someone else, or be able to file jointly, unless they are not requried to file and are simply filing to receive a refund of tax deposits.
- The person must be a citizen of the US or a resident of the US, Canada, or Mexico.
- The process of expensing an item over multiple years. This is generally required when the useful life of an asset exceeds one year and the cost is material to the net income of the business. [Top]
- Disqualified IRA Distribution
- A distribution from an IRA that does not meet the requirement for preferential tax treatment. [Top]
- The position of Enrolled Agent ("EA") was created by Congress in 1884 to represent citizens before the federal government on tax issues. An EA is the only person tested, licensed, and regulated by the IRS to represent others before the IRS in audits. This person is then also permitted by the IRS to prepare tax returns for hire. Having an EA license supersedes any state requirements. [Top]
- Earned Income
- In general this includes all income from wages, salaries, tips, and other compensation included in taxable gross income, plus net earnings from self-employment. [Top]
- Fair Market Value
- The amount a willing seller would sell something to a willing buyer when neither is compelled to participate in the transaction. [Top]
- The Fair Market Value is the amount a willing seller would sell something to a willing buyer when neither is compelled to participate in the transaction. [Top]
- Gross Income
- In general all income received. However, for the purposes of the dependency test, only taxable income is considered. [Top]
- Head of Household
- This is a filing status available to unmarried individuals who are providing a home for their child. The person must be able to demonstrate that they pay over 50% of the cost to provide that home with their own funds (e.g., no child support that covers the cost, no government payments for the cost). One can also qualify for this filing status when claiming certain other relatives as their dependent. This filing status is challenged by the tax authorities on a very regular basis. [Top]
- Stands for "Individual Retirement Agreement" although it is commonly used for Individual Retirement Account without any confusion. Created by Congress to benefit those who do not work for a large employer with retirement plans, these accounts permit a person to save toward retirement without paying taxes on the account earnings. In certain cases, contributions to Traditional IRAs are excluded from current taxation. Roth IRAs do not benefit from tax deferal on contributions, but have much more flexible distribution rules. Previously there was an Educational IRA but that is now replaced by the Coverdale IRA. [Top]
- Marginal tax rate
- This is the incremental tax rate paid on additional income. Consider it as the amount of tax that would be paid on the next $100 of income. [Top]
- Under federal law, this is a legal union between a man and a woman. This aspect of the federal law does not submit to any state law or court rulings. It does, however, accept state law for the establishment of the marriage between a man and a woman. Specifically, it will accept (or reject) a "common law marriage" if permitted (or not recognized) by state law. [Top]
- This is commonly used for "Married Filing a Joint" return. To use this filing status the taxpayers must be legally married on the last day of the tax year. It is restricted to a man and a woman as husband and wife, but otherwise follows state law in terms of common-law marriages, etc. [Top]
- Non-Recourse Loan
- A loan with colateral (such as a mortgage) where the lender may foreclose on the loan for non-payment but may not pursue the borrower if the fair market value (FMV) of the item is insufficient to satisfy the debt. In that case the lender simply loses a portion of the investment (amount loaned). [Top]
- Non-refundable Credit
- This is a tax credit that will reduce your income tax. It cannot, however, be used to reduce your tax below zero. If the total of your nonrefundable tax credits exceed your income tax, then the balance of these credits are forfeited. Also they cannot offset certain taxes, such as self-employment tax and retirement fund early withdrawl penalties. The ability to offset the Alternate Minimum Tax (AMT) is inconsistent - some credits can, and some cannot. [Top]
- Old-Age, Survivors and Disability Insurance is a part of Social Security or FICA. The other portion is Medicare. OASDI is capped each year for the maximum amount of tax a person must pay into the insurance. [Top]
- Portfolio Income
- In general this includes all income derived from investments. Generally this is interest earned, dividends, and capital gains. [Top]
- Preparer's Tax Identification Number -- This number is issued by the IRS for the purpose of identifying a tax preparer. It is used in place of the preparer's social security number to provide privacy for the preparer to help prevent identity theft. This number should be shown on your tax return in the paid preparer section. [Top]
- Qualified IRA Distribution
- A distribution from either a Traditional IRA or Roth IRA that meets the requirements for a favorable tax treatment. Detailed criteria is shown under Roth Distributions or Traditional IRA. [Top]
- Qualifying Child
- To be a Qualifying Child the person must meet the four following tests in addition to the three Depoendent tests:
See also Qualifying Relative.
- Relationship Test: The child must be the taxpayer's son, daughter, stepchild, foster child, brother, sister, stepbrother/sister, or a descendant of any of these such as grandchild or niece.
- Member of Household Test: The child must have lived with the taxpayer more than half the year.
- Age Test: The child must be under age 19, under age 24 and a full time student, or permanently and totally disabled.
- Support Test: THe child cannot have provided over 50% of their own support.
- Qualifying Relative
- To be a Qualifying Relative the person must meet the four following tests in addition to the three Dependent tests:
See also Qualifying Child.
- Relationship Test: Must be:
- Son, daughter, stepchild, forster child, or descendant of any of these
- Brother, sister, or descendant of any of these
- Father, mother, ancestor, or sibling of any of these (e.g., aunt)
- Stepbrother, stepsister, stepfather, stepmother, son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, sister-in-law
- Any other person (except spouse) who lived with the taxpayer the entire year as a member of their household and where the living arangement does not violate local law.
- Not Qualifying Child Test: Relative must not be the Qualifying Child of another taxpayer.
- Gross Income Test: The person must not have gross income over the current personal exemption level.
- Support Test: Over 50% of the support for the person must be provided by the taxpayer.
- Qualifying Widow
- The Qualifying Widow(er) is a special filing status. While there are several requirements to qualify for this filing status, the basic idea is that it provides the same tax benefits of Married Filing Joint (MFJ) for a widow or widower for the two years following the death of their spouse, if they are providing the home for a dependent child. (You must be able to demonstrate that you pay more than 50% of the costs to maintain the home.) [Top]
- Recourse Loan
- A loan with colateral (such as a mortage on real property or a car loan) where the lender may foreclose on the loan for non-payment, and if the fair market value (FMV) of the item is less than the outstanding loan balance, the borrower is responsible for paying the remaining balance. [Top]
- Refundable Credit
- This is a tax credit that you may receive even if the total of your credits and payments exceed your tax liability. [Top]
- Roth IRA
- A type of IRA where contributions are after tax, so not tax deductible. Earning are still not taxed. The great value is that qualified withdrawals are not taxed. This means that the earnings are never taxed. [Top]
- An elective form of taxation of a corporation where most of the tax liability for general income is passed to the shareholders rather than the corporation paying the taxes.
Therefore this is called a "pass-through" type of business entity.
There are numerous restrictions on this election. [Top]
- Sole Proprietorship
- A business operated by an individual. The business is not incorporated. The business generally operates under the social security number of the owner unless it has employees, in which case an EIN is required. Note that a business operated by a husband and wife is not a sole proprietorship, but should be a partnership. However, there is some tolerance when operated in a Community Property state. [Top]
- Taxable Compensation
- Taxable compensation includes a lot more than just wages, interest, dividends, retirement benefits, and the like. Some portion of Social Security benefits are subject to taxation, as are many other government benefits such as unemployment and public assitance (e.g., welfare). Cancelled debt is taxable. Insurance claims may be taxable, and proceeds from lawsuits are taxable. Probably the biggest item many people do not realize is that barter is taxable. [Top]
- Unearned Income
- Income that is not earned through wages or salary. In most contexts it is portfolio income (interest, dividends, and capital gains from investments). [Top]