Business Income, Deductions, and Accounting Methods

Business gross income
1. Includes gross profit from inventory sales, income from services provided to customers, and income from renting property to customers
2. A business is allowed to exclude certain types of realized income from gross income, such as municipal bond interest
Business Expenses
1. Must be incurred in pursuit of profits, not personal goals
2. A deduction must be ordinary and necessary
  1. Expense that is normal or appropriate and that is helpful or conducive to the business activity
3. Only reasonable amounts are allowed as deductions
  1. When the amount paid id neither extravagant nor exorbitant
Limitations on business deductions
1. No business deductions are allowable for expenditures that are against public policy (bribes) or are political contributions
2. Expenditures that benefit a period longer than 12 months generally must be capitalized
3. No deductions are allowable for expenditures associated with the production of tax-exempt income
4. Personal expenditures are not deductible
  1. Expenses incurred for personal motives
Mixed-motive expenditures
1. Special limits are imposed on expenditures that have both personal and business benefits
2. Entertainments expenses are generally not deductible
3. Only 50 percent of business meals are deductible
4. Contemporaneous written records of business purpose are required
Business Interest Limitation
1. The deduction of business interest expense is limited to business interest income plus 30% of the business's adjusted taxable income for taxpayers with average annual gross receipts in excess of $26 million
2. Adjusted taxable income is taxable income allocable to the business computed without interest income and before depreciation and interest expense deductions
3. Disallowed business expense can be carried forward indefinitely
Specific business deductions
1. Losses on dispositions of business property
  1. Businesses are allowed to deduct losses incurred when selling or disposing of business assets
  2. Businesses realize and recognize a loss when the asset's tax basis exceeds the sale proceeds
2. Business casualty losses
  1. Businesses can incur losses when their assets are stolen, damaged, or completely destroyed by a force outside of their control
  2. Businesses may deduct losses in they year the casualty occurs or is discovered
Accounting periods
1. Individuals and proprietorships generally account for income using a calendar year-end
2. Corporations are allowed to choose a fiscal year
  1. A fiscal year ends on the last day of a month other than December
3. Partnerships and other flow-through entities generally use a tax year consistent with their owners' tax years
Revenue recognition under the accrual method
1. Income is recognized when earned (all-events) or received (if earlier)
2. Under the all-events test, income is recognized when the business has the right to receive payment
3. Taxpayers can generally elect to defer recognition of prepaid (unearned) income for goods and services, but the deferral only lasts for one year
Inventories
1. Businesses with three-year average annual gross receipts in excess of $26 million must use the accrual method to account for substantial inventories
2. The UNICAP rules require capitalization of most indirect costs or production
3. The LIFO method is allowed if also used for financial reporting purposes
Accrual of business-expense deductions
1. Both all-events and economic performance are required for deducting accrued business expenses
2. The all-events test requires that the business be liable for the payment
3. Economic performance generally requires that the underlying generating the liability has occurred in order for the associated expense to be deductible

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Business Income, Deductions, and Accounting Methods

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	Created by Megan Heflin over 4 years ago