Question

Write an approximately 3 page paper. Describe the rules for taxation of each of the following types of income. Each response should be 1/3 to ½ page. 1. Long Term Capital Gains and Losses 2. Annuity income 3. Amounts received from settlement of lawsuits or from court judgments. Specify the different treatment for (a) compensation for pain and suffering, (b) punitive damage awards, (c) compensation for mental and emotional distress, (d) compensation for lost wages 4. Discharge of Indebtedness Income 5. Scholarships 6. Divorce payments: Alimony vs. Child Support vs. Property Division

Answer 1

rules for taxation of Long Term Capital Gains and Losses:

Long-term capital gain is taxable at 20% + surcharge and education cess. Tax on short-term capital gain when securities transaction tax is not applicable: If securities transaction tax is not applicable, the short-term capital gain is added to your income tax return and the taxpayer is taxed according to his income tax slab.Tax on short-term capital gain if securities transaction tax is applicable: If securities transaction tax is applicable, the short-term capital gain is taxable at the rate of 15% +surcharge and education cess.

rules for taxation of Annutiy income:

Annuity owners can elect a number of payout options. The basic rule for annuity payouts (as distinguished from withdrawals or other non-periodic payments) is that the money a contract owner invests in the contract is returned in equal tax-free installments over the payment period. The remainder of the amount received each year is treated as the earnings on the owner’s premiums and is included in income. The income portion is taxed at ordinary income tax rates, not capital gains rates. The total amount that is received tax free can never exceed the premiums the owner paid for the contract.

The taxable portion of each payment is equal to the excess of the payment over the “exclusion amount.” With a fixed annuity, the exclusion amount generally is computed by (a) dividing the premiums paid for the annuity by the total expected return from all scheduled annuity payments, and (b) multiplying each payment by this “exclusion ratio.” With a variable annuity, because the expected return cannot be predicted, the exclusion amount is generally computed by dividing the premiums paid for the contract by the number of years that payments are expected to be made. For a lifetime annuity, the expected return is always computed by reference to the annuitant’s life expectancy as determined using IRS tables.

To illustrate, assume that a male age 65 elects a lifetime annuity and his investment in the contract is $100,000. Assume further that he has elected to receive annual variable annuity payments and the payment for the first year is $8,000. Since the payments are variable, they will vary each year thereafter. (For simplicity, this illustration assumes annual annuity payments, although monthly or quarterly payments are more common.) Applicable IRS tables indicate that such a person is expected to live 20 years. The portion of each annuity payment excluded from income is $5,000, which is $100,000 divided by 20. During the first year, $5,000 of the $8,000 will be excluded from income and $3,000 will be included and taxable. The $5,000 is excluded each year until the total investment in the contract has been received.