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E. J. Thiel, a citizen, who is married and living with his wife, has a net income of $12,000.00 for the current calendar year. Compute the amount of his income tax.
George Cahill is married and lives with his wife. They have a joint net income of $13,000.00. Of this amount $10,000.00 was Mr. Cahill's income and $3,000.00 was his wife's income. Compute the tax and show whether it would be advantageous to file a combined return or separate returns and whether it would be advantageous for either the husband or wife to deduct the full amount of the personal exemption on his or her return or for them to divide the personal exemption equally between them.
(Note. In the following solution, the income of the husband and wife
is combined in a single joint return.)
Net Income of Husband and Wife..
Income Subject to Normal Tax..
(Note. In the following solution, the husband and wife file separate returns, the husband taking the full amount of the personal exemption in his return.
(Note. In the following solution, the husband and wife file separate returns, the wife taking the full amount of the personal exemption in her return.
(Note. In the following solution, the husband and wife file separate returns and divide the personal exemption between them.)
From an analysis of these returns, it will be seen that if George Cahill and his wife file a single joint return, the tax will amount to $420.00. If each files separate returns, the husband taking the full amount of the personal exemption, the combined tax will amount to $280.00. This would represent a saving of $140.00. If the husband and wife file separate returns, the wife taking the full amount of the personal exemption, the combined tax will amount to $330.00. While this would represent a saving of $90.00 as compared with the first plan, it would mean a loss of $50.00 as compared with the second plan.
If the husband and wife file separate returns, dividing the personal exemption between them, the combined tax will amount to $320.00. This would mean a saving of $100.00 as compared with the first plan, a loss of $40.00 as compared with the second plan, or a saving of $10.00 as compared with the third plan. The most advantageous basis for filing returns in this case is for the husband and wife to file separate returns, the husband taking the full amount of the personal exemption.
Computing Income on Annual Basis. (b) Where a separate return is so made, and in all other cases where a separate return is required or permitted, by regulations prescribed by the Commissioner with the approval of the Secretary, to be made for a fractional part of a year, then the income shall be computed on the basis of the period for which separate return is made.
(c) If a separate return is made under subdivision (a) the net income, computed in accordance with the provisions of subdivision (b), shall be placed on an annual basis by multiplying the amount thereof by twelve and dividing by the number of months included in the period for which the separate return is made. The tax shall be such part of the tax computed on such annual basis as the number of months in such period is of twelve months.
(Section 226-1924 Act)
In the event a taxpayer changes the basis of computing his net income from a fiscal year to a calendar year, or from a calendar year to a fiscal year, or from one fiscal year to another fiscal year, and it thereby becomes necessary for him to file a return for a period of less than twelve months, the Law provides that his income must be computed on an annual basis. This is done by multiplying the amount of the net income for the period by twelve and dividing by the number of months in the period in which the income was received and for which the return is made. Thus, if a taxpayer is filing a return for a period of four months during which period his net income amounts to $3,000.00, it will be necessary for him to compute the income on an annual basis by multiplying by twelve and dividing by four. In this case, the annual income will be found to be $9,000.00. The tax
should then be computed on this basis, but the tax to be paid will be such part of the tax computed on the annual basis as the number of months in the period is of twelve months. Thus, after computing the tax on the annual income of $9,000.00, the result should be divided by twelve and multiplied by the number of months in the period for which the return is made in order to arrive at the amount of tax to be paid.
If, because of a change in the accounting period, it becomes necessary for a taxpayer to file a return for a fractional part of a year or for a period of less than twelve months, the credits allowed because of the personal exemption and for dependents may be claimed in accordance with the taxpayer's status on the last day of such taxable period. However, if a return is made for a fractional part of a year for any reason other than because of a change in the accounting period, the credits allowed on account of the personal exemption and for dependents must be prorated so that the credits will bear the same ratio to the full credits provided by Law as the number of months in the period for which the return is made bears to twelve months.
The following proposition will be used as a basis of illustration covering the computation of income on an annual basis and computing the credits as provided by Law.
L. L. Jones is engaged in business and, with the consent of the Commissioner, has decided to change his accounting period from a calendar year ending on December 31 to a fiscal year ending on March 31. Because of this change in his accounting period, it has become necessary for him to file a return for a period of three months ending on March 31. His net income for this period amounts to $2,400.00. Included in his income are dividends from a domestic corporation amounting to $400.00. On March 31, Mr. Jones was a married man with one dependent minor child. Compute the income tax which he will be required to pay on his income for this period.
There are three features of this solution to which special attention is called.
1. The net income is computed on an annual basis by multiplying by the number of months in the year and dividing by the number of months in the period for which the return is made.
2. The amount of credit allowed on account of the dividends is likewise computed on an annual basis. It is necessary to follow this procedure because the dividends were included in the net income which was computed on an annual basis. Of course, if the amount of the dividends were deducted from the net income before computing it on an annual basis, the result would be the
3. The credits allowed for the personal exemption and dependent are not computed on an annual basis but are claimed in accordance with the status of the taxpayer on the last day of the period for which the return is being made.
Tax on Capital Net Gain. If desired, the net gain derived from the sale or exchange of capital assets, acquired and held for profit or investment for more than two years, may be computed separately and a tax of 122% paid on the income from this source in lieu of the regular normal tax and surtax. This includes property of any kind, whether or not connected with the trade or business, except property held for personal use or consumption by yourself or family.
The term "capital net gain" means the excess of the total amount of capital gain over the sum of the capital deductions and capital losses. The proper procedure in making up the return is to compute the tax upon the basis of the ordinary net income, exclusive of the capital gains, at the regular normal and surtax rates. To the tax computed in this manner should be added 122% of the capital net gain. Of course, the capital net gain need not be included in gross income when the tax is computed separately in accord with this provision of the Law. Reference should be made to Section 208 for further information in regard to this provision.
Payment of Tax at Source. (d) Income upon which any tax is required to be withheld at the source under this section shall be included in the return of the recipient of such income, but any amount of tax so withheld shall be credited against the amount of income tax as computed in such return.
(Section 221-1924 Act)