Chp 9: Business Income, Deductions, And Accounting Methods

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12-Month Rule

Back 1

Regulation that allows prepaid business expenses to be currently deducted when the contract does not extend beyond 12 months and the contract period does not extend beyond the end of the tax year following the year of the payment.

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Accounting Method

Back 2

The procedure for determining the taxable year in which a business recognizes a particular item of income or deduction thereby dictating the timing of when a taxpayer reports income and deductions.

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Accounting Period

Back 3

A fixed period in which a business reports income and deductions, generally referred to as a tax year.

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all-events test

Back 4

Requires that income or expenses are recognized when:

1. All events have occurred that determine or fix the right to receive the income or liability to make the payments.

2. The amount of the income or expense can be determined with reasonable accuracy.

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Allowance Method

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Bad debt expense is based on an estimate of the amount of the bad debts in the accounts receivable at year-end.

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arm's length amount

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price in transaction among unrelated taxpayers, where each transacting party negotiates for his or her own benefit.

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Casualty Losses

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A loss arising from a sudden, unexpected, or unusual event such as a "fire, storm, or shipwreck" or loss from theft.

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Deferral Method

Back 8

Recognizes income from advance payments for goods by the earlier of:

1. When the business would recognize income for tax purposes if it had not received the advance payment

or

2. When it recognizes the income for financial reporting purposes.

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Direct Write-off Method

Back 9

1. Required method for deducting bad debt for tax purposes.

2. Under this method, businesses deduct bad debt only when the debt becomes wholly or partially worthless.

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Domestic Production Activities Deduction(DPAD)

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A deduction for businesses that manufacture goods in the United States.

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Economic performance test

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1. The third requirement that must be met for an accrual method taxpayer to deduct an expense currently.

2. The specific event that satisfies the economic performance test varies based on the type of expense.

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Fiscal Year

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A year that ends the last day of a month other than December.

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Flow-Through Entities

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1. Legal entities like partnerships, limited liability companies, and S corporations that do not pay income tax.

2. Income and losses from flow-through entities are allocated to their owners.

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Full-inclusion method

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1. The method for accounting for advance payments for goods that requires that businesses immediately recognize advance payments as taxable income.

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Impermissible accounting method

Back 15

An accounting method prohibited by tax laws.

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Mixed-motive expenditures

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Activities that involve a mixture of business and personal objectives.

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Payment liabilities

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1. Liabilities of accrual method businesses for which economic performance occurs when the business actually pays the liability for, among others:

1. Worker's compensation

2. tort

3. breach of contract or violation of law

4. rebates and refunds

5. awards, prizes,and jackpots

6. insurance, warranties, and service contracts provided to the businesses

7. taxes

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Permissible accounting method

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1. Accounting method allowed under the tax law.

2. Adopted the first time a taxpayer uses the method on a tax return.

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Personal Expenses

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1. Expenses incurred for personal motives.

2. Personal expenses are not deductible for tax purposes.

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Qualified Production activities income(QPAI)

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The income from selling or leasing property that was manufactured in the United States.

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Reasonable Amount

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An expenditure is reasonable when the amount paid is not extravagant nor exorbitant.

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Recurring item

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An election under economic performance to currently deduct an accrued liability if the liability is expected to persist in the future and is either not material or a current deduction better matches revenue.

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Section 481 adjustment

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A change to taxable income associated with a change in accounting methods.

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Tax year

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A fixed period in which a business reports income and deductions generally referred to as an accounting period.

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Travel expenses

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Expenditures incurred while "away from home overnight," including the cost of transportation, meals, lodging, and incidental expenses.

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Uniform cost capitalization rules(UNICAP rules)

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Specify that inventories must be accounted for using full absorption rules to allocate the indirect costs of productive activities to inventory.