28. A taxpayer is considering three alternative investments of $10,000. Assume the taxpayer is in the 28% marginal tax bracket for ordinary income and 15% for qualifying capital gains and dividends in all tax years. The selected investment will be liquidated at the end of five years. The alternatives are:
Taxable Corporate Bond yielding 6% before tax, and the interest can be reinvested at 6% before tax.
The taxable bond and reinvested earnings will accumulate at an after-tax rate of 4.32% [(1 – .28) × .06] to equal $12,355 at the end of 5 years [$10,000 × (1.0432)5 = $10,000 × 1.2355 = $12,355].
A series EE bond that will have a maturity value of $13,070 (a 5.5% before-tax rate of return.) 10000*5.5%^5 = 13,070
The income from the Series EE bond will not be taxed until maturity in five years, and the after-tax value will be $12,210 [$13,070 – .28($13,070 – $10,000)].
$13,070 - 859.6
Thus, the after-tax proceeds from the land must exceed $12,355.
Because the gain on the land will be taxed as long-term capital gain, the sales proceeds less 15% of the appreciation must exceed $12,355.
$10,000 + (1 – .15)(X – $10,000) = $12,356
$10,000 + .85x – $8,500 = $12,356
.85x = $10,856
x = $12,772.
Thus, the land must increase in value by at least $2,772 to yield a greater after-tax return than the investment in either of the bonds.
It should be noted if the land increases in value to $12,772, it will have a smaller before-tax value than the Series EE bond, but the land will have a greater after-tax value. The greater after-tax value of the land results from the lower tax rate.
Thus, the tax rate and the timing of the tax payments are determinants of the after-tax rate of return from an investment.
pp. 4-4 to 4-6, 4-36, and 4-37
29.Determine the taxpayer’s gross income for tax purposes in each of the following situations:
a. Olga a cash basis taxpayer, sold a corporate bond with accrued interest of $300 for 10,800. Olga’s cost of the bond was $10,000.
Olga has $300 of interest income and a recognized gain of $500 ($10,800 – $300 – $10,000).
b. Olga needed $10,000 to make a down payment on her house. She instructed her broker to sell some stock to raise the $10,000. Olga’s cost of the stock was $3,000. Based on her broker’s advice, instead of selling the stock, she borrowed the $10,000 using the stock as collateral for the debt.
b.Olga does not recognize income from using the stock as collateral for the debt. Her assets (cash) and liabilities increased by the same amount, and she continued to own the stock. Thus, there is no realized gain.
c. Olga owed a vacant lot that was zoned for residential housing. She spent $900 in attorney fees to get the property rezoned as commercial. The property’s value increased by $10,000 as a result of the rezoning.
c.Mere increases in the value of an asset are not included in gross income. Note the attorney’s fee should be added to Olga’s cost of the property in calculating her basis for the vacant lot.
pp. 4-4 to 4-8
30.Determine Amos Seagull’s gross income in each of the following cases:
a. In the current year, Seagull Corporation purchased an automobile for $25,000. The company was to receive a $1,500 rebate from the manufacturer. However, the corporation directed that the rebate be paid to Amos, the corporation’s sole shareholder.
a.The $1,500 is a dividend from the corporation to Amos. The corporation was entitled to the rebate. The rebate was a reduction in the cost of the corporation’s automobile. The assignment of the $1,500 to Amos was an economic benefit realized solely because he was the controlling shareholder and thus is a dividend to him.
b.Amos sold his corporation. In addition to the selling price of the stock, he received $50,000 for a covenant not to compete – an...