Question

Identify and discuss, in in at least 150 words, the concepts, principles, and doctrines of the federal tax law.

Completing this Assessment will help you meet the following outcomes:

Course Outcomes:

Identify the concepts, principles, and doctrines of the federal tax law.

Program Outcomes:

Interpret and apply generally accepted accounting principles (GAAP)to analyze, record, and report financial information.

Institutional Outcomes:

Thinking Abilities:  Employ strategies for reflection on learning and practice in order to adjust learning processes for continual improvement.

Answer 1

Answer:

Multifaceted system of tax principles and concepts may seem bewildering at first. However, most tax systems have developed around fundamental concepts that do not change much and thus provide a deep structure to tax rules as I will discuss through this post. For example: a number of principles and concepts guide how tax laws are structured in the United States. While these tax principles and concepts cannot be used to provide guidance on all tax rules, they generally explain why many tax laws are structured the way they are throughout the world

Ability-to-Pay Principle

Under the ability-to-pay principle, the tax is based on what a taxpayer can afford to pay. One concept that results from this is that taxpayers are generally taxed on their net incomes.

This concept does not apply to every tax in every jurisdiction. Nor do the rest of the concepts presented in this post. Furthermore, those that do most often are understood rather than explicit. That is, they are unofficially applied administratively rather than mandated by primary sources of law.

These concepts are more likely to have developed in more industrialized societies where tax laws have become more complex, the foremost example being the United States.

Entity Principle

Under the entity principle, an entity (such as a corporation) and its owners (for a corporation, its shareholders) are separate legal entities. As such, the operations, record keeping, and taxable incomes of the entity and its owners (or affiliates) are separate.

The Doctrine Principle

Closely related to the entity concept is the arm’s length doctrine. Doctrines are principles that, while often not officially appearing in the tax laws, carry the weight of law. In the United States, for example, doctrines are developed through a series of court cases. An arm’s length transaction is one in which all the parties in the transaction have bargained in good faith and for their individual benefit, not for A Framework for Understanding the benefit of the transaction group. Transactions that are not made at arm’s length will not be given their intended tax effect.

Example

Assume that in Example-2 the corporation pays its entire $250,000 in net income to the entrepreneur as a salary for being president of the corporation. Suppose that a reasonable salary for a president of a small software company is $100,000. The effect of the salary is to reduce the corporation’s taxable income to zero, so that it does not have to pay any taxes. While salaries in such closely held corporations are deductible in general, in this case the arm’s length test is not met. As a result, only $100,000 (i.e., the reasonable portion) of the salary will be deductible by the corporation. The remaining $150,000 will be considered a dividend.

Pay-as-You-Go Concept

Related to the ability-to-pay concept is the pay-as-you-go concept. Taxpayers must pay part of their estimated annual tax liability throughout the year, or else they will be assessed penalties and interest. For individuals, the most common example is income tax withholding.

In the United States, for example, employers withhold estimated income taxes and payroll taxes from each employee’s paycheck and then remit the withholding to the government. These taxes, and the requirements for withholding, can be imposed by local governments (such as cities) as well as higher levels (such as state and national governments), but are more common of the higher levels.

Recovery of Capital Concept

Closely related to the income-realization concept are the concepts of recovery of capital, claim of right, and constructive receipt:

• Under recovery of capital, a taxpayer does not usually recognize income on the sale of an asset until the taxpayer’s capital is first recovered.
• Under claim of right, income is recognized once the taxpayer has a legal right to the income.
• Under constructive receipt, income is recognized when it is available for the taxpayer’s use, even if the taxpayer does not collect the income.

Business Purpose Concept

Business purpose is closely related to legislative grace as it relates to deductions. Here business expenses are deductible only if they have a business purpose, that is, the expenditure is made for some business or economic purpose, and not for tax-avoidance purposes. The test is applied to a bona fide trade or business, or to expenses for the production of income. The former is a sole proprietorship, corporation, or other business entity. The latter generally includes investment-type income of individual investors. This rule typically is enforced only when the business deduction also gives some economic benefit to the owner; thus, the owner is trying to get something of value in after-tax dollars, when the item is not otherwise deductible. The rule typically is enforced only in the case of a closely held business.