Question

For each of the following scenarios, determine the amount included in the taxpayer’s gross income for 2019:

1. Office Supplies, Inc., an accrual basis taxpayer, leases a copying machine to a new customer on December 23, 2019. The machine was to rent for $250 per month for a period of 24 months beginning January 1, 2020. The customer was required to prepay 2 months’ rent at the time the lease was signed on December 23,2019. The customer was also required to pay a $1,500 damage deposit at the time the lease was signed. Determine the amount of gross income Office Supplies, Inc. recognizes in 2019.

2. Kathy, an accrual basis taxpayer, operates a gym. She sells memberships that entitle the member to use the facilities at any time. A one-year membership costs $360 ($360/12 = $30 per month); a two-year membership costs $648 ($648/24 = $27 per month). Cash payment is required at the beginning of the membership. On July 1, 2017, Kathy sold a one-year membership and a two-year membership. Determine the amount of income Kathy recognizes in 2019.

3. Ted won a car worth $27,000 on The Price is Right on November 30, 2019. He plans to sell the car next year. How much income does Ted recognize in 2019?

4. On March 13, 2019, Jason, a cash basis taxpayer, was one of 3 winners of a $1.2 billion Powerball jackpot (Lucky!). Jason had the option to receive a one-time cash payment of $307.5 million or 30 annual payments of $13.3 million. Jason elected to receive 30 annual payments and received the first payment of $13.3 million on July 1, 2019. How much gross income does Jason have in 2019 as a result of the Powerball winnings?

5. On July 1, 2019, Stephanie’s grandmother gave her 1,000 shares of Starbucks stock worth $75,000 as a graduation present. Starbucks declared a dividend of 17 cents per share on October 19, 2019, to be paid on November 30, 2019 to shareholders of record as of November 15, 2019. Stephanie still owned all of the stock on December 31, 2019. How much gross income does Stephanie have as a result of the gift and the dividend in 2019?

Answer 1

Ans a) On December 2019, Office supplies Inc is required to recognize $500 i.e, ($250 X 2) as their income from advance payment from lease/rent as it is not eligible for deferral, where as the damage deposit of $1,500 is not an income. Unlike advance rent/lease, a security/damage deposit isn't taxable when you receive it. Instead, it's taxable income only if and when you're no longer obligated to return it to the lessee. For instance, if a the lessee damages the machine after use. At that time, the money should be included in your gross income.

Ans b) She should report an income of $162 for the year 2019. The subscription is starting from June 2017 hence the payment she received for the services is in deferral because the services her gym will be providing is for next two years. Please refer the Image Attached

Hence the reported income should be $162 in 2019

If a client pays in advance for services that will be performed in the future, there are special rules that govern the length of time that revenue can be deferred. When you and a client agree that the services will be provided in the next tax year, the revenue can only be deferred one year – which is the year that the services are provided.

Generally, if you're prepaid for services to be performed in a later year you include such payment in your gross income in the year the payment is received. However, the IRS allows a limited deferral for accrual method taxpayers.If you are prepaid to perform a service in a later year, the IRS allows you to postpone reporting the prepayment until the following year. However, you cannot defer a prepayment beyond the year following the year of payment even if you contracted to perform the service for a longer period.

Ans c) Ted has to pay $ 6750 to the sponsor for the federal tax withholding. Hence he can recognize $20,250 in his Form 1040 for which $ 6750 is withheld by the sponsor as federal tax.

The winning of car is a sweepstake prize. In IRS Sweepstake Prizes are considered taxable income regardless of whether the prize is in the form of cash, trips or merchandise. If you win a prize valued over $600, the sweepstakes or contest sponsor must report the value to you and the Internal Revenue Service on a Form 1099-MISC. You’re still supposed to report and pay tax on prizes under $600. IRS also provides that If the sweepstakes prize is worth more than $5,000, the sponsor must withhold 25 percent of the prize value for federal taxes and may have to withhold state taxes as well. But if the prize is a car or other expensive merchandise, you may be required to give the sponsor the cash to pay the federal tax withholding before the sponsor will release the non-cash prize to you. In this instance Ted has to pay $6,750 to the sponsor for the federal tax withholding before the sponsor will give Ted the car. Ted may also have to pay state withholding up front. The sweepstakes sponsor could choose to pay the federal tax withholding, but if it does, the sponsor’s withholding rate is one-third of the prize’s fair market value.

Ans d) Jason will recognize $1.2 million on his gross income where assuming Jason is from New York and state tax on winning of lottery is 8.8%

Mega Millions and other lotteries generally allow a winner to decide how they want to take possession of the jackpot – either by choosing an annuity where the jackpot is paid out over a 29-year period or in a lump sum. Most winners take the lump sum.

The top federal tax rate is 37 percent on income of more than $500,000 for individuals. The first thing that happens, tax-wise, when Jason win is that the federal government takes 24 percent of the winnings off the top. Jason will owe the rest of the tax – the difference between 25 and 37 percent – at tax time next year. Winning of lotteries are subject to collection of state tax as per state tax regime.

Ans e) On Dec 2019 Stephanie has a gross income of $170 from the dividends. Under IRS the donor is generally responsible for paying the gift tax, she must file a gift tax return to report the transfer to IRS.