California Tax Education Council (CTEC)

Transcription

CPE/CE
5 Credit Hours
California Tax
for CRTPs
California Tax Education Council (CTEC)
Interactive Self-Study CPE/CE Course
California Tax for CRTPs Self-Study CPE/CE
Course Overview
Program Content: This course covers rules specific to California income tax returns. Program content includes rules for individuals, partnerships, LLCs, corporations, estates and trusts, and other filing requirements and user fees
administered by the State of California Franchise Tax Board.
Publication Date: September 2015.
Expiration Date: The Final Exam must be completed online within one year from your date of purchase or shipment. See
the Final Examination Instructions on the next page for information regarding final exam completion.
Field of Study: Taxes.
Program Level: Overview. This course provides a general overview of the subject area from a broad perspective. It is
appropriate for tax professionals at all organization levels.
Recommended Participants: Individuals who prepare California income tax returns are encouraged to participate in this course.
Prerequisites: Individuals with a basic knowledge of preparing federal Form 1040, U.S. Individual Income Tax Return.
Advance Preparation: No advanced preparation is needed to complete this course.
Type of Delivery Method: Interactive self-study.
CPE/CE Credit Hours: 5 Credit Hours. One 50-minute period equals one CPE/CE Credit Hour.
Passing Grade: Participants who answer a minimum of 70% correct on the final exam will receive a Certificate of Completion.
See the Final Examination Instructions on the next page for further information regarding passing requirements and acquiring the Certificate of Completion.
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a sponsor of continuing professional education on the National Registry of CPE Sponsors. State boards of
accountancy have final authority on the acceptance of individual courses for CPE credit. Complaints regarding registered sponsors may be submitted to the National Registry of CPE Sponsors through its website:
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Tax Materials, Inc. has been approved by the California Tax Education Council to offer the California Tax for
CRTPs Self-Study CPE/CE Course 6193-CE-0032, which provides 0 hours of federal credit and 5 hours of state
credit towards the annual “continuing education” requirement imposed by the State of California. A listing of
additional requirements to register as a tax preparer may be obtained by contacting CTEC at P.O. Box 2890,
®
Sacramento, CA, 95812-2890, toll-free by phone at 1-877-850-2832, or on the internet at www.ctec.org.
CTEC Course ID Number 6193-CE-0032
Copyright © 2015 Tax Materials, Inc.
All Rights Reserved
TheTaxReview™ California Tax for CRTPsOverview i
California Tax for CRTPs Self-Study CPE/CE
Course
Completion
Instructions
Helpful Hint: Attempt to relate your tax preparation experience with the information you are studying. By doing
so, you will increase retention and maximize your results. Also, utilize the “Notes” sections to jot down reminders
and information that will be helpful to you in your tax practice.
Final
Examination
Instructions
Expiration Date Reminder: The Final Exam must be completed online within one year from your date of purchase
or shipment. CPE/CE credits are not available more than one year after your date of purchase or shipment.
Follow the instructions below:
1) Start each chapter by reading the Learning Objectives.
2) Read the course materials in the chapter. Pay close attention to:
a) Key Facts: Information that is particularly pertinent to the Learning Objective.
b) Examples: Review the examples to associate the information to real-world application.
c) Notes: Many of the main points of the chapter are highlighted. Review the notes and try to relate the
content with your experience.
3) Complete the Self-Quiz at the end of the chapter. The questions are broken out by Learning Objective. Review
the Learning Objectives before completing each set of questions. Determine your progress by comparing your
answers to the correct ones on the pages that follow.
4) After all chapters have been studied, and each Self-Quiz has been taken, complete the Final Exam located
at the back of this instruction booklet.
All Final Exams are administered online at www.thetaxbook.com. It is recommended that you review the Final
Exam at the end of the course before taking it online. Final Exams mailed in will not be graded.
1) Go to www.thetaxbook.com.
2) Click on “Take CPE/CE Final Exams,” where you will find a location to log in to the Final Exam.
3) Enter your User Name in the self-study CPE/CE login location. The email address associated with your account at Tax Materials, Inc. is your User Name. If you do not have an email address, or have not provided
one, please call our toll-free number at 1-866-919-5277 to be assigned a User Name.
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5) Select the California Tax for CRTPs Exam and click the “Take Exam” button.
6) You will be taken to the Final Exam.
• First confirm your First Name and Last Name are correct. This is how your name will appear on your
Certificate of Completion should you achieve a score of 70% or higher.
• Take the Final Exam. Read the questions carefully and answer them to the best of your ability. At the bottom
of the exam, click on “Submit Answers” when finished. You will instantly know if you have passed the test.
If you failed, you are able to retake the test. If you passed, the Certificate of Completion will be available
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Complete
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ii Overview
TheTaxReview™ California Tax for CRTPs
Learning Objectives / Table of Contents
Chapter
1
Residency and Filing Requirements. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
2
Conformity to Federal Tax Law. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
3
Deductions, Exemption Credits, and Use Tax. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 59
4
Tax Credits, AMT, and Other Taxes. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 83
5
Business Tax Issues.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 109
6
Circular 230 Revisions.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 133
7
Miscellaneous Federal Updates. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 145
1-A Identify filing requirements for California residents, nonresidents, and part-year residents.
1-B Classify categories of income as taxable or nontaxable by the state of California.
1-C Differentiate between community property and separate property.
2-A Recognize the extent to which California tax law conforms to federal tax law.
2-B Classify addition or subtraction adjustments from federal adjusted gross income for California
tax purposes.
2-C Identify differences between California tax law and federal tax law with regard to itemized
deductions.
3-A Determine the California standard deduction and calculate California itemized deductions.
3-B Calculate the total exemption credits available per taxpayer.
3-C Define and calculate California use tax.
4-A Determine eligibility for the California Child and Dependent Care Credit and calculate the credit.
4-B Determine eligibility and calculate other California tax credits for personal income tax purposes.
4-C Recognize when the Mental Health Services Tax and the California alternative minimum tax (AMT)
applies to certain taxpayers.
5-A Determine business registration requirements and fees for partnerships, corporations, and LLCs.
5-B Identify annual filing requirements for partnerships, corporations, and LLCs.
5-C Calculate the California franchise tax rate for corporations.
6-A Identify recent changes in the IRS manner of ensuring competence of tax practitioners under
Circular 230.
6-B List the responsibilities of individuals with principal authority for overseeing a tax firm’s practice to
ensure the members, associates, and employees comply with Circular 230.
6-C Identify the special treatment granted to California Registered Tax Preparers (CRTPs) under revised
regulations set forth in Circular 230.
7-A List filing requirements for individuals with interests in foreign financial bank accounts.
7-B Identify rules set forth in the Affordable Care Act (ACA).
7-C Recognize rules for loan modifications for home owners under the Home Affordable Modification
Program (HAMP).
Table of Contents iii
Learning Objectives / Table of Contents
Chapter
8
Mandatory California Subjects.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 157
8-A Compare the regular method for computing expenses for business use of the home with the
optional simplified method.
8-B Choose the correct filing status for same-sex married couples.
8-C Apply rules for miscellaneous subjects as noted in the CTEC Education Standards and Provider
Policy Updates materials.
Final Exam. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 167
Index. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 177
Course Evaluation. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 179
iv Table of Contents
1
Residency and Filing Requirements
CPE/CE
Learning Objectives
Successful completion of this course will enable the participant to:
1-A Identify filing requirements for California residents, nonresidents, and
part-year residents.
1-B Classify categories of income as taxable or nontaxable by the state of
California.
1-C Differentiate between community property and separate property.
Glossary Terms
Community property. All of the property that is not separate property acquired
by spouses/RDPs while domiciled in a community property state.
Separate property. Property owned, inherited, or earned separately by spouses/RDPs before, during, or after a marriage or registered domestic partnership.
Compensation. Wages, salaries, commissions, and any other form of payment
to employees for personal services.
Domicile. The place a taxpayer fixes their permanent home and intends to return
to when absent.
Intangible income. Interest, dividends, capital gains, other income arising
from the ownership, sale, exchange, or other disposition of intangible property
such as investments, deposits, patents, trademarks, and copyrights. Intangible
income does not include prizes, awards, or other income associated with any
lottery winnings.
Registered domestic partner (RDP). Two persons who filed a Declaration of
Domestic Partnership with the California Secretary of State. California law, unlike federal law, generally treats RDPs and former RDPs as married taxpayers
or former spouses for California income tax purposes.
Residency status. A designation for income tax filing purposes that determines filing requirements and categorizes taxable income.
Learning Objective 1-A
Identify filing requirements for California residents, nonresidents, and partyear residents.
Basic Filing Requirements
Residency determines what kind of filing requirement a taxpayer may have.
Generally, residents are taxed on all of their income for the year, while nonresidents are taxed on California-source income.
Residents. Residents file a California tax return if gross income or California
adjusted gross income (AGI) is more than the amounts shown on the Filing Requirements chart, page 2, for filing status, age, and number of dependents.
Generally, residents are taxed on all
of their income for the year, while
nonresidents are taxed on Californiasource income.
Chapter 1 1
NOTES
Gross income. Gross income consists of all income received from all sources in
the form of money, goods, property, and services, that is not exempt from tax.
California AGI. California AGI consists of federal AGI from all sources, reduced or increased by all California income adjustments.
Nonresidents and part-year residents. Nonresidents and part-year residents
file a California tax return if either California source and gross income or California adjusted gross income (AGI) is more than the amounts shown on the Filing Requirements chart, below, for filing status, age, and number of dependents.
California-source income and gross income. Any income from California
sources and a taxpayer’s gross income, which consists of all income received
from all sources in the form of money, goods, property, and services, that is not
exempt from tax.
California AGI. California AGI consists of federal AGI from all sources, reduced
or increased by all California income adjustments.
Note: If gross income or AGI is less than the amounts listed on the chart, below,
a taxpayer may still have a filing requirement.
Filing Requirements —Tax Year 2015
Filing status
Single or Head of
Household
Married/RDP Filing
Jointly or Separately
(The income of both spouses/
RDPs must be combined. Both
spouses/RDPs may be required
to file a return even if only one
spouse/RDP had income over
the amounts listed.)
Qualifying Widow(er)
Age as of
December 31*
California Gross Income
California Adjusted
Gross Income
Dependents
Dependents
0
1
2 or
more
0
1
2 or
more
Under 65
$16,256 $27,489 $35,914 $13,005 $24,238 $32,663
65 or older
$21,706 $30,131 $36,871 $18,455 $26,880 $33,620
Under 65 (both spouses $32,514 $43,747 $52,172 $26,012 $37,245 $45,670
/RDPs)
65 or older (one spouse) $37,964 $46,389 $53,129 $31,462 $39,887 $46,627
65 or older (both
spouses/RDPs)
$43,414 $51,839 $58,579 $36,912 $45,337 $52,077
Under 65
n/a
$27,489 $35,914
n/a
$24,238 $32,663
65 or older
n/a
$30,131 $36,871
n/a
$26,880 $33,620
Dependent of another
Under 65
person (any filing status)
65 or older
More than the standard deduction for filing status.
(See California Standard Deduction Worksheet for
Dependents, page 60.)
*Taxpayers that turn 65 on January 1, 2016, are considered to be age 65 at the end of 2015.
Resident and Nonresident Defined
Resident. A resident is any individual who meets any of the following conditions.
•The individual is present in California for other than a temporary or transitory purpose.
•The individual is domiciled in California, but outside California for a temporary or transitory purpose. See Domicile, page 4.
A nonresident is any individual who
is not a resident.
2 Chapter 1
Nonresident. A nonresident is any individual who is not a resident.
Part-year resident. A part-year resident is any individual who is a California
resident for part of the year and a nonresident for part of the year.
NOTES
KEY FACT
Safe harbor. Safe harbor is available for certain individuals leaving California
under employment-related contracts. The safe harbor provides that an individual domiciled in California who is outside California under an employmentrelated contract for an uninterrupted period of at least 546 consecutive days
will be considered a nonresident unless any of the following is met.
•The individual has intangible income exceeding $200,000 in any taxable year
during which the employment-related contract is in effect, or
•The principal purpose of the absence from California is to avoid personal
income tax.
The spouse/registered domestic partner (RDP) of the individual covered by this
safe harbor rule will also be considered a nonresident while accompanying
the individual outside California for at least 546 consecutive days.
Return visits to California that do not exceed a total of 45 days during any
taxable year covered by the employment contract are considered temporary.
Individuals not covered by the safe harbor determine their residency status
based on facts and circumstances. The determination of residency status cannot be solely based on an individual’s occupation, business, or vocation. Instead, consider all activities to determine residency status. For instance, students who are California residents who leave the state to attend an out-of-state
school do not automatically become nonresidents, nor do students who are
nonresidents of California coming to the state to attend a California school automatically become residents. In these situations, individuals must determine
their residency status based on their facts and circumstances. See Temporary or
Transitory Purposes, page 5.
Students who are California residents
who leave the state to attend an outof-state school do not automatically
become nonresidents, nor do students
who are nonresidents of California
coming to the state to attend a
California school automatically
become residents.
EXAMPLE
Francis is a California resident. He agreed to work overseas for one year. He
returned to California after the employment contract expired and stayed for
three months. Then, he signed another contract with the same employer to
work overseas for another year. He cannot be considered a nonresident under
the safe harbor rule because his absence from California for employment reasons was not for an uninterrupted period of at least 546 consecutive days. He
cannot combine the days he was overseas from the two separate contracts.
EXAMPLE
Julio is a California resident. He transferred to his employer’s Germany office
for a two-year work assignment. He visited California for a three-week vacation. Under the safe harbor rule, he was a nonresident of California for the
two years he was in Germany. His three-week visit to California is considered
temporary.
Chapter 1 3
NOTES
EXAMPLE
Loretta and her spouse are California residents. She agreed to work overseas
for 20 months under an employment contract. Her family remained in San
Diego, California. During those 20 months she visited her family in San Diego
for a month. She can be considered a nonresident during her absence under
the safe-harbor rule. Her month-long visit to California is considered temporary. During the year, she earned $80,000 on her overseas assignment and her
spouse earned $30,000 as a teacher in San Diego. She did not have any other
income. See the tables, below, to see how to report income if she filed a joint
income tax return or separate income tax return.
Joint Return
Income
Loretta’s Wages
Spouse’s Wages
Total Wages
$80,000
$30,000
$110,000
Return for Loretta’s and Spouse Form 540NR
CA AGI
Total AGI
Sch CA (540NR) Col. E
$80,000
$40,000*
$30,000
$30,000
$110,000
$70,000
Separate Returns
Income
Loretta’s Wages
Spouse’s Wages
Total Wages
Loretta’s Return Form 540NR
CA AGI
Total AGI
Sch CA (540NR) Col. E
$40,000
$0
$15,000
$15,000
$55,000
$15,000
Loretta’s Spouse’s Return Form 540
Total AGI
Sch CA (540) no adjustments
$40,000*
$15,000
$55,000
*Half of Loretta’s wages are taxable to California because California is a community property state and her spouse is a resident of California.
Domicile
KEY FACT
Domicile has a special legal definition that is not the same as residence. While
many states consider residence and domicile to be the same, California makes
a distinction and views them as separate concepts, even though they may often overlap. For instance, a taxpayer may be domiciled in California but not be
a California resident or may be domiciled in another state but be a California
resident for income tax purposes.
Domicile is defined for tax purposes as the place:
•Where a taxpayer and family voluntarily establishes with a present intention
of making it his or her true, fixed, and permanent home.
•To which he or she intends to return whenever absent.
Taxpayers can only have one domicile at a time. Once a taxpayer acquires a
domicile, he or she retains that domicile until acquiring another. A change of
domicile requires all of the following:
•Abandonment of prior domicile.
•Physically moving to and residing in the new locality.
•Intent to remain in the new locality permanently or indefinitely as demonstrated by the taxpayer’s actions.
4 Chapter 1
Guidelines for Determining Residency
The underlying theory of residency is that a taxpayer is a resident of the place
where he or she has the closest connections.
The following list shows some of the factors that can be used to help determine
residency status. Since a taxpayer’s residence is usually the place where he or
she has the closest ties, a taxpayer should compare ties to California with ties
elsewhere. In using these factors, it is the strength of a taxpayer’s ties, not just
the number of ties, that determines residency. This is only a partial list of the
factors to consider. No one factor is determinative. Consider all the facts of a
taxpayer’s particular situation to determine residency status.
NOTES
No one factor is determinative.
Consider all the facts of a taxpayer’s
particular situation to determine
residency status.
Factors to consider are as follows:
•Amount of time spent in California versus amount of time spent outside
California.
•Location of taxpayer’s spouse/RDP and children.
•Location of taxpayer’s principal residence.
•State that issued taxpayer’s driver’s license.
•State where taxpayer’s vehicles are registered.
•State in which taxpayer maintains professional licenses.
•State in which taxpayer is registered to vote.
•Location of the banks where taxpayer maintains accounts.
•The origination point of taxpayer’s financial transactions.
•Location of taxpayer’s medical professionals and other healthcare providers
(doctors, dentists etc.), accountants, and attorneys.
•Location of taxpayer’s social ties, such as place of worship, professional
associations, or social and country clubs of which the taxpayer is a member.
•Location of taxpayer’s real property and investments.
•Permanence of taxpayer’s work assignments in California.
Temporary or Transitory Purposes
KEY FACT
Generally, a taxpayer’s state of residence is where he or she has their closest
connections. If the taxpayer leaves his or her state of residence, it is important to determine if their presence in a different location is for a temporary
or transitory purpose. Consider the purpose and length of the taxpayer’s stay
when determining residency.
Coming into California. When a taxpayer is present in California for temporary or transitory purposes, he or she is a nonresident of California. For instance, if a taxpayer comes to California for a vacation or to complete a transaction or are simply passing through, the taxpayer’s purpose is temporary or
transitory. As a nonresident, a taxpayer is taxed only on income from California
sources.
When a taxpayer is in California for other than a temporary or transitory purpose, he or she is considered a California resident. For instance, a taxpayer’s
stay is other than temporary or transitory if:
•A taxpayer’s employer assigns him to an office in California for a long or
indefinite period.
Chapter 1 5
NOTES
•A taxpayer retires and comes to California with no specific plans to leave.
•A taxpayer is ill and is in California for an indefinite recuperation period.
As a resident, a taxpayer is taxed on income from all sources.
A taxpayer will be presumed to be a
California resident for any taxable
year in which he or she spends more
than nine months in the state.
Presumption of residency. A taxpayer will be presumed to be a California
resident for any taxable year in which he or she spends more than nine months
in the state.
Although a taxpayer may have connections with another state, if his or her
stay in California is for other than a temporary or transitory purpose, he or she
is a California resident. As a resident, income from all sources is taxable by
California.
EXAMPLE
Jill is a business executive and resides in New York with her family. Several
times each year she travels to other states for business purposes. Her average stay is one or two weeks and the entire time spent in California for any
taxable year does not exceed six weeks. Her family usually remains in New
York when she is traveling for business purposes.
Under these circumstances, Jill is not a California resident because her stays
in California are temporary or transitory in nature. As a nonresident, she is
taxed only on her income from California sources, including her income for
services performed in California.
EXAMPLE
In December 2014, Piper moved to California on an indefinite job assignment.
She rented an apartment in California and continued to live in the apartment.
She retained her home and bank account in Illinois until April 2015, at which
time she sold her home and transferred her bank account to California.
Piper’s assignment in California was for an indefinite period. Therefore, her
stay in California was not of a temporary or transitory nature. Although she
kept ties in Illinois until April 2015, she became a California resident upon entering the state in December 2014. As a resident, she is taxed on her income
from all sources.
Leaving California. Any individual who is a resident of California continues to
be a resident when absent from the state for a temporary or transitory purpose.
An absence from California under an employment-related contract for a period of at least 546 consecutive days may be considered an absence for other
than a temporary or transitory purpose. See Safe harbor, page 3.
EXAMPLE
Until September 2013, Kayla was a resident of California. At that time, she declared herself to be a resident of Nevada, where she has a summer home. She
continues to spend six or seven months each year at her home in California,
which she has retained. She spends only three to four months in Nevada and
the rest of the time traveling in other states or countries. She transferred her
bank accounts to Nevada. However, she continues to maintain her social club
and business connections in California.
continued on next page
6 Chapter 1
Example continued
NOTES
Kayla’s declaration of residency in another state does not establish residency
in that state. Her closest connections are to California and her absence from
California is for temporary or transitory purposes. She is, therefore, a resident
of California and is taxed on her income from all sources.
EXAMPLE
Piper and her spouse are California residents. She accepts a contract to work
in South America for 16 months. She leases an apartment near the job site.
Her contract states that her employer will arrange her return back to California when her contract expires. Her spouse and her children will remain in
California residing in the home she owns.
Piper maintains strong ties with California because her spouse and children
remain in her California home during her absence. Her intent is to return to
California, and her absence is temporary and transitory. She remains a California resident during her absence. Piper is taxed on income from all sources,
including income earned in South America.
EXAMPLE
Larry receives and accepts a permanent job offer in Spain. He and his spouse
sell their home in California, pack all of their possessions and move to Spain
on May 5, 2015, with their children. He leases an apartment and enrolls his
children in school in Spain. Larry obtains a driver’s license from Spain and
makes numerous social connections in his new home. He has no intention of
returning to California.
Larry is a part-year resident. Through May 4, 2015, he was a California resident.
On May 5, 2015, he became a nonresident. All of his income while he was a
resident is taxable by California. While he is a nonresident, only income from
California sources is taxable by California.
EXAMPLE
Jed is a resident of California and a single taxpayer. He accepts a three-year
assignment in Japan. His assignment in Japan covers the period January 1,
2014, through December 31, 2016. He rented out his residence and put his truck
and belongings in storage in California. He maintained his California bank accounts, driver’s license, and voter registration. He has less than $200,000 of
intangible income during each year. Upon completion of his assignment, he
intends to return to California. He returned to California to visit family no longer
than a total of 45 days during 2014 or 2015.
Jed meets the safe harbor rule. He is a nonresident during his absence from
the state.
Specific Professions
Certain professions have some exceptions to the general residency rules.
Chapter 1 7
NOTES
Military
Servicemembers domiciled outside of California, and their spouses, exclude
the servicemember’s military compensation from gross income when computing the tax rate on nonmilitary income.
Filing requirements for military servicemembers domiciled in California remain unchanged. Military servicemembers domiciled in California must include their military pay in total income. In addition, they must include their
military pay in California-source income when stationed in California. However, military pay is not California-source income when a servicemember is
permanently stationed outside of California.
An individual domiciled in California when entering the military is considered
to be a:
•Resident while stationed in California.
•Resident while stationed on temporary duty (TDY) assignments outside of
California, regardless of the duration.
•Nonresident while stationed outside California on permanent change of
station (PCS) orders.
Servicemembers domiciled outside of California when entering the military
are considered nonresidents for tax purposes when stationed in California.
Military Spouses Residency Relief Act (MSRRA). The MSRRA amended the
federal Servicemembers Civil Relief Act. For taxable years beginning on or after
January 1, 2009, a nonmilitary spouse of a military servicemember shall neither
lose nor acquire a residence or domicile for tax purposes by being absent from
or present in California to be with the servicemember serving in compliance
with military orders if the servicemember and spouse have the same domicile.
Income of a military servicemember’s nonmilitary spouse for services performed in California is not California-source income subject to state tax if the
spouse is in California to be with the servicemember serving in compliance
with military orders, and the servicemember and spouse have the same domicile in a state other than California.
The rules for military personnel do
not apply to civilians working for the
military or for spouses not covered
under MSRRA.
Civilians working for the military. The rules for military personnel do not
apply to civilians working for the military or for spouses not covered under
MSRRA. Determine residency status and the source of income based on the
guidelines explained earlier for residents and nonresidents.
Career Appointees in the U.S. Foreign Service
The rules for military personnel and spouses do not apply to career appointees
in the U.S. Foreign Service. Determine residency status and the source of income based on the general residency guidelines.
Airline Employees
The wages of nonresident flight personnel (e.g., pilot, copilot, flight attendant)
are not taxable by California unless more than 50% of the individual’s scheduled flight time is in California. If more than 50% of the scheduled flight time
is in California, wages are apportioned to California based on the ratio of time
spent in California to the total scheduled flight time.
8 Chapter 1
Flight personnel who are California residents are taxed on all wages received
regardless of where the flight time is spent.
NOTES
Interstate Rail and Motor Carrier Employees
KEY FACT
The wages of nonresident railroad employees or truck drivers whose regularly
assigned duties are performed in two or more states may only be taxed by the
individual’s state of residence.
Railroad employees or truck drivers who are California residents are taxed on
all wages received regardless of where the duties are performed.
Merchant Seamen
A merchant seaman who is in California only because California is a port-ofcall and who maintains no other contact or connections with California, is a
nonresident. However, a seaman who maintains close connections with California remains a California resident while at sea. Under such circumstances,
the seaman’s absence is for a temporary or transitory purpose.
EXAMPLE
Carlos is a merchant seaman and spends six to ten months a year aboard a ship
outside California. He spends his off-duty time in California. He owns a home
in California where his spouse resides. He votes and banks in California. He
has a California driver’s license and his automobile is registered in California.
Carlos is a resident of California. His time at sea is temporary and transitory.
As a resident, all of his income is taxable by California, including his income
earned while at sea.
EXAMPLE
Zane is a merchant seaman and spends eight to ten months a year aboard a
ship outside California. He is single and has no dependents. He spends 50% of
his off-duty time or 10% of his total time in California. He returns to California
only when his employment brings him here. When visiting California, he stays
in hotels or with friends. He has a California bank account in joint tenancy
with his father. He has a California driver’s license, but no car. He does not
own real property in California.
Zane is a nonresident of California. His ties to California are not substantial
and his time in California is temporary or transitory.
Residents of or Individuals in Foreign Countries
If a taxpayer is a resident of a foreign country and performs services in California and/or receives income from California sources, he or she may have a California income tax filing requirement even if he or she does not have a federal
filing requirement.
Tax treaty. A tax treaty between the U.S. government and a foreign country
may exempt some types of income from federal taxation. Generally, unless the
A tax treaty between the U.S.
government and a foreign country
may exempt some types of income
from federal taxation.
Chapter 1 9
NOTES
treaty specifically excludes the income from taxation by California, the income
is taxable.
Note: Amounts received for teaching, research, or other services performed by
a student are not excludable as a qualified scholarship or fellowship, even if the
services are required as a condition of receiving the scholarship or fellowship.
EXAMPLE
Han is a resident of China doing research at a university in California and received wages of $15,000 for teaching and doing research. For federal income
tax purposes, the wages are excludable due to the tax treaty between the
United States and China.
Although the wages may be exempt from income for federal income tax purposes, the wages will be taxable by California. The tax treaty specifically states
that the taxes covered by the tax treaty are federal income taxes imposed by
the Internal Revenue Code. Tax treaties between the United States and other
countries which expressly limit their application to federal income taxes do not
apply to California. Nonresidents are taxed by California on wages for services
performed in California. Since Han received wages for services performed in
California, the wages are taxable by California. Han includes the wages of
$15,000 on his California nonresident income tax return.
A federal income tax clearance does
not affect California tax liability.
Income tax clearance. A federal income tax clearance does not affect California tax liability. The FTB does not issue tax clearance certificates for individuals
in this situation.
Foreign Tax Credit or foreign earned income exclusion. California does not
allow a Foreign Tax Credit or a foreign earned income exclusion. If a taxpayer
claimed the foreign earned income exclusion on his or her federal return, add
back the amount of the foreign earned income exclusion on the taxpayer’s return.
Nonresident and Part-Year Resident Calculation of Tax
Nonresidents and part-year residents determine California tax by multiplying
California taxable income by an effective tax rate. The effective tax rate is the
California tax on all income as if the taxpayer was a California resident, divided
by that income.
Prorated Tax = CA taxable income × Tax on total taxable income
Total taxable income
California taxable income. California taxable income is California AGI less
California itemized or standard deductions.
Total taxable income. Total taxable income is the entire taxable income as if
the taxpayer was a California resident for the current taxable year, and for all
prior taxable years for any carryover items, deferred income, suspended losses,
or suspended deductions.
Steps to Calculating California Tax Liability—Nonresidents and
Part-Year Residents
Step 1: Determine taxpayer’s total adjusted gross income (AGI) from all sources
as if the taxpayer was a California resident for the entire year. Total AGI includes
10 Chapter 1
income from sources within California and outside California including foreign
earned income. Military income of a servicemember not domiciled in California
is not included.
NOTES
Step 2: Compute taxpayer’s total taxable income by subtracting itemized deductions or the standard deduction (in the amount allowed as if the taxpayer
had been a resident of California for the entire year) from his or her total AGI
and determine taxpayer’s tax on his or her total taxable income, usually from
the Tax Tables or the Tax Rate Schedule.
Step 3: Calculate taxpayer’s California tax rate by dividing the tax computed
on the total taxable income by the total taxable income.
California tax rate = Tax on total taxable income
Total taxable income
Step 4: Determine taxpayer’s California AGI. This is any income from a source
within California and income from non-California sources while taxpayer was
a resident of California.
Step 5: Calculate taxpayer’s itemized deductions as if he or she was a California
resident. Multiply the larger of the itemized deductions or the applicable standard deduction by the ratio of California AGI (Step 4) to the total AGI (Step 1).
Larger of itemized deductions × California AGI = California itemized deductions
or the standard deduction
Total AGI
(or standard deduction)
Step 6: Calculate taxpayer’s California taxable income by subtracting California itemized deductions (Step 5) from California AGI (Step 4).
Step 7: Calculate taxpayer’s California tax by multiplying his or her California
taxable income (Step 6) by the California tax rate (Step 3).
Step 8: Compute taxpayer’s California prorated exemption credits by multiplying total exemption credits by a ratio of the California taxable income (Step 6)
to the total taxable income (Step 2).
Exemption Credits × California taxable income = California prorated
Total taxable income Exemption Credits
Step 9: Finally, compute taxpayer’s California tax after credits by subtracting
the prorated exemption credits from the tax before credits.
EXAMPLE
Jada was a Florida resident until March 31, 2015. While a Florida resident, she
earned and received wage income of $15,000 and interest income of $1,000.
On April 1, 2015, she permanently moved to California. While a California resident, she earned and received wage income of $65,000 and interest income
of $3,000. Jada is single and had the following itemized deductions in 2015:
Real estate taxes............................................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,200 (CA house)
$800 (FL house)
Mortgage interest........................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $17,000 (CA house)
$3,000 (FL house)
Charitable contributions............................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,500
Total itemized deductions.. ........................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $24,000
Chapter 1 11
NOTES
Example continued
Jada’s 2015 California Tax Liability
CA AGI............ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 65,000 CA wages
+ $ 3,000 Interest earned while a CA resident
$ 68,000 CA AGI
Total AGI......... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 80,000 Wages from all sources
+ $ 4,000 Interest income from all sources
$ 84,000 Total AGI
CA itemized deductions .. . . . . . . . . . . . . $ 24,000 Total itemized deductions
× .8095 CA AGI ÷ Total AGI
$ 19,428 CA itemized deductions
CA taxable income . . . . . . . . . . . . . . . . . . . . . . $ 68,000 CA AGI
- $ 19,428 CA itemized deductions
$ 48,572 CA taxable income
Total taxable income.. . . . . . . . . . . . . . . . . . . $ 84,000 Total AGI
- $ 24,000 Total itemized deductions
$ 60,000 Total taxable income
Tax on total taxable income.. . . . . . . . . . $ 3,057
Prorated tax. . .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 48,572
× .0510
$ 2,477
Tax table
CA taxable income
Tax on total taxable income ÷ total taxable income
Prorated tax
Prorated Exemption Credit.. . . . . . . . . . . . . . $ 109 Personal Exemption Credit
× .8095 CA taxable income ÷ total taxable income
$ 88 Prorated Exemption Credit
Tax liability..... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 2,477 Prorated tax
- $ 88 Prorated Exemption Credit
$ 2,389 2015 California tax liability
Like-Kind Exchange Reporting (IRC §1031)
Effective January 1, 2014, all individuals and business entities that perform likekind exchanges of property located in California for property located outside
California must file an annual information return to report previously deferred
California-source gain or loss.
The taxpayer must file Form FTB 3840, California Like-Kind Exchanges, annually:
•As long as the taxpayer defers the gain or loss.
•If the taxpayer replaces the out of state property with another out of state
property as part of another exchange.
•Regardless of residency or domicile.
• Until the taxpayer recognizes the deferred California-source gain or loss on a
California tax return.
•Until the deferred California-source gain or loss is eliminated because of the
property owner’s death.
The taxpayer no longer needs to file if the property is donated to a non-profit
organization.
Filing information. Form FTB 3840 is required to be filed annually with the
taxpayer’s income or franchise tax return, either by the original or the extended
due date. For taxpayers that are not required to file an income tax or franchise
tax return, Form FTB 3840 is filed with the address listed in the instructions for
Form FTB 3840.
12 Chapter 1
Calculating gain or loss. When the property received in a tax-deferred likekind exchange is eventually sold, the taxpayer must report as income the lesser
of the deferred California-source gain or the actual gain on the property.
NOTES
EXAMPLE
Sue sold a California relinquished property (RQ) on February 19, 2014, for $4,500
as part of a 1031 exchange. Her basis in the RQ was $1,000, resulting in a
realized gain of $3,500. Sue bought an out-of-state replacement property (RP)
for $5,000. Her adjusted basis in the replacement property is $1,500 ($1,000
carryover basis + $500 additional cash paid).
Assuming that there is no other property received (aka: boot), she defers her
California-source gain of $3,500. Under the new California law, Sue must annually report deferred California-source gain on Form FTB 3840.
Sue later sells the RP on January 15, 2016 for $4,500. She needs to report the
lesser of the deferred California-source gain or the actual gain from the sale
of the replacement property. In Sue’s case, she must report and pay tax on the
$3,000 California-source gain on her 2016 California income tax return, since
her actual gain on the sale of the replacement property ($3,000) was less than
the deferred amount.
Learning Objective 1-A Self-Quiz
For answer, see Chapter 1 Self-Quiz Answers, page 24.
Test your knowledge and comprehension of information presented in Learning
Objective 1-A.
1) Bob is a California resident, filing as Head of Household, with one dependent son. In 2015, he earned $15,000 in wage income and had $20,000 rental
income. Is he required to file a California income tax return?
a) Yes, because he had California gross income over $27,489.
b)Yes, because he had California adjusted gross income under $53,545.
c) No, because he had California adjusted gross income under $27,489.
d)No, because he had California gross income under $53,545.
Learning Objective 1-B
Classify categories of income as taxable or nontaxable by the state of
California.
Income Taxable by California
Residents. Residents of California are taxed on all income, including income
from sources outside California.
Nonresidents. Nonresidents of California are taxed only on income from California sources. Nonresidents of California are not taxed on pensions received
after December 31, 1995.
Chapter 1 13
NOTES
Part-year residents. Part-year residents of California are taxed on all income
received while a resident and only on income from California sources while a
nonresident.
Long Form 540NR. Figure taxable income as if the taxpayer was a California
resident for the entire year. Complete Schedule CA (540NR), California Adjustments—Nonresidents or Part-Year Residents, column A through column D, to figure
total adjusted gross income (AGI). Figure California AGI applicable to a nonresident or part-year resident on Schedule CA (540NR), column E.
Short Form 540NR. Complete Short Form 540NR to figure total AGI and California AGI applicable to a nonresident or part-year resident.
Wages and Salaries
Wages and salaries have a source
where the services are performed.
Wages and salaries have a source where the services are performed. Neither
the location of the employer, where the payment is issued, nor the taxpayer’s
location when he or she receives payment affect the source of this income.
Residents include on column E, Schedule CA (540NR), or line 32, Short Form
540NR, all wages and salaries earned while a resident, regardless of where the
services were performed. Nonresidents include the income for services performed in California.
EXAMPLE
Blake is a resident of New York working temporarily in California for a New
York corporation. Blake’s income earned for services performed in California
has a California source. As a nonresident, he includes this California-source
income on column E, Schedule CA (540NR).
EXAMPLE
Johnny is a California resident. As a representative for his employer, he spent
two weeks in Georgia to give training. He was paid by a Georgia corporation
while he was in Georgia. Because he is a California resident, he is taxed on
all income, regardless of source. The income is taxable by California, even
though it has a source in Georgia.
Interest and Dividends
Interest and dividends generally have a source where the taxpayer is a resident. However, see Exception, page 15.
EXAMPLE
Jan is a resident of Texas and has interest income from a California bank account. Because she is a resident of Texas, the interest income has a source
in Texas. The interest income is not taxable by California.
EXAMPLE
Polly is a resident of California and has interest income from a savings account
in Oregon. Because she is a California resident, she is taxed on all income,
regardless of source. The interest income is taxable by California.
14 Chapter 1
EXAMPLE
NOTES
Joe is a resident of Montana and has dividends from a California corporation.
Because he is a Montana resident, the dividends have a source in Montana.
The dividends are not taxable by California.
Exception: Interest and dividends have a source in California if the account
or security is used in a trade or business or pledged as security for a loan, the
proceeds of which are used in a trade or business in California. For special
rules regarding qualifying investment securities, refer to California Revenue
and Taxation Code (R&TC) section 17955.
Business Income (or Loss)
KEY FACT
A nonresident’s income from California sources includes income from a business, trade, or profession carried on in California. If the nonresident’s business, trade, or profession is carried on both within and outside California, the
income sourced to California may be based only on the business conducted
within California, or may be determined by using the apportionment formula
for corporations engaged in multi-state businesses.
California uses a mandatory market assignment method and single-sales factor
apportionment to apportion business income to California. A nonresident may
have California-source income or apportionable business income if receiving
income from sales or services sourced to California. Such income includes:
•Sales of services to the extent that the purchaser of the service receives the
benefit of the service in California.
•Sales of intangible property to the extent that the intangible property is used
in California. For marketable securities, the sales are in California if the customer is in California.
•Sales from the sale, lease, rental, or licensing of real property if the real
property is located in California.
•Sales from the rental, lease, or licensing of tangible personal property if the
property is located in California.
See California Schedule R, Apportionment and Allocation of Income, for more
information.
Withholding may be required on a nonresident’s business income if an exemption, waiver, or reduction is not certified or approved.
Pensions and Keoghs
Residents. Distributions from employer-sponsored and self-employment (Keogh) pension, profit-sharing, stock bonus plans, or other deferred compensation arrangements are taxable by California regardless of where the services
were performed.
Nonresidents. Distributions are not taxable by California.
Chapter 1 15
NOTES
EXAMPLE
Kathy was a resident of California when she earned her pension. She retired
during 2015 and moved permanently to New Mexico. After becoming a resident
of New Mexico, she began drawing her pension.
Because Kathy is a nonresident, the distribution is not taxable by California.
EXAMPLE
Janet lived and worked in Ohio. She retired in Ohio and received her first
pension check on January 1, 2015. She moved permanently to California on
July 1, 2015.
Janet became a California resident on July 1, 2015. Her pension income received beginning July 1, 2015, is taxable by California because California residents are taxed on all income, regardless of source.
Lump-Sum Distributions
Residents. Lump-sum distributions are taxable by California. Residents of
California are taxed on all income, regardless of source. Therefore, the distribution is taxable even if it is attributable to services performed outside of California and accrued prior to becoming a California resident.
Nonresidents. Generally, lump-sum distributions from a qualified plan or annuity are not taxable by California. However, lump-sum distributions, derived
from a California source, received from most nonqualified plans, continue to
be taxable by California.
EXAMPLE
Kyle lived and worked in New York. He retired and moved to California and
became a resident. Prior to relocating, he elected to receive a lump-sum distribution from his qualified pension plan. He received the distribution after he
became a California resident.
The distribution is taxable by California because California residents are taxed
on all income, regardless of source.
EXAMPLE
Lupe was a California resident and worked for a corporation in California. She
moved to Ohio during 2015 and elected to take a lump-sum distribution from
her qualified pension plan. She received the distribution after she became a
resident of Ohio.
Because Lupe is a nonresident, the distribution is not taxable by California.
IRA, SEP, and Keogh Distributions
IRA, Roth IRA, SIMPLE IRA, Simplified Employee Pension (SEP), and Keogh distributions received after becoming a nonresident are not taxable by California.
Distributions from a SEP from contributions made after 1986 are taxed by California in the same manner as pension and Keogh distributions. Distributions
16 Chapter 1
from contributions made before 1987 are taxed by California in the same manner as IRA distributions.
NOTES
Sale of Real Estate
The gain or loss from the sale of real estate has a source where the property
is located. If a taxpayer sells his or her California real estate and moves out of
state, the gain is taxable by California. The gain is taxable by California even if
the real estate is sold when the taxpayer is a nonresident.
EXAMPLE
Andrew is a resident of Idaho. He sold undeveloped real estate located in
California at a gain.
Because the property is in California, the gain is California-source income. As
a nonresident, Andrew includes this California-source income on column E,
Schedule CA (540NR).
EXAMPLE
Hank is a resident of California. He sold real estate located in England at a gain.
Because he is a California resident, he is taxed on all income, regardless of
source. The gain on the sale is taxable by California.
EXAMPLE
George is a resident of Nevada. He owns residential rental property located
in California. His property has always shown a loss. He sold the property for
a gain.
Because the property is located in California, the gain on the sale is taxable by
California. Since rental real property is classified as a passive activity, the sale
“triggers” the release of suspended losses incurred in taxable years beginning
on or after January 1, 1987. The suspended losses may be used to offset any
gain from the sale or income from other passive activities.
Withholding Services and Compliance
Withholding may be required on income with a California source. This includes
sales of California real estate, income allocations or distributions from S corporations and partnerships, and other payments of California-source income
paid to nonresidents.
Withholding may be required on
income with a California source.
Note: Withholding is not always required. An exemption, reduction, or waiver
can be filed.
For taxable years beginning on or after January 1, 2010, with certain limited exceptions, payers that are required to withhold and remit backup withholding
to the Internal Revenue Service (IRS) are also required to withhold and remit
to the Franchise Tax Board (FTB). The California backup withholding rate is 7%
of the payment. For California purposes, dividends, interests, and any financial
institutions release of loan funds made in the normal course of business are
exempt from backup withholding.
Chapter 1 17
NOTES
Partnership, S Corporation, Limited Liability Company (LLC), and
Trust Income (Loss)
When a partner is a part-year resident during any part of his or own or the
partnership’s taxable year, the part‑year resident must divide his or her taxable year into two distinct periods. For the period during which the part‑year
resident was a resident of California, all items of income and deductions are
to be included in the partner’s California taxable income. For the period during which the part-year resident was a nonresident of California, only gross
income and deductions realized from sources within California are included in
the partner’s California taxable income. Therefore, all California-source items
of income and loss realized by the partnership during the partnership’s taxable
year when the partner was a nonresident of California are included in California taxable income. This also applies to shareholders of an S corporation, partners of an LLC classified as a partnership, and beneficiaries of a trust.
EXAMPLE
Dorothy, a nonresident calendar year individual taxpayer, has a 50% interest
in BD Partnership. BD has a December 31 year-end. BD conducts business
within and outside California. For the fiscal year ended December 31, Dorothy’s
Schedule K-1 (565) from BD shows that Dorothy has $10,000 of taxable income
from all sources, $5,000 of which is sourced to California. On September 15,
Dorothy became a resident of California.
Dorothy was a nonresident for 257 days of BD’s fiscal year and a resident for
108 days. Dorothy will include in California taxable income for the year, $6,480
of income from BD, computed as follows:
•For the portion of the year Dorothy was a nonresident: 257/365 × $ 5,000 =
$3,521.
•For the portion of the year Dorothy was a resident: 108/365 × $10,000 = $2,959.
EXAMPLE
Faith, a calendar year individual resident of California, owns a 50% share of
the LEM Corporation, an S corporation. LEM Corporation has an October 31
year-end. LEM Corporation conducts business within and outside California.
For the October 31 year‑end, Faith’s Schedule K-1 (100S) from LEM Corporation
shows that Faith has $8,000 of taxable income from all sources, $3,000 of which
is sourced to California. On June 10, Faith became a nonresident taxpayer.
Faith was a nonresident for 144 days of LEM Corporation’s fiscal year-end and
a resident for 221 days. Faith will include in California taxable income for the
year, $6,028 of income from LEM Corporation, computed as follows:
•For the portion of the year Faith was a nonresident: 144/365 × $3,000 = $1,184.
•For the portion of the year Faith was a resident: 221/365 × $8,000 = $4,844.
The gain or loss from the sale of
stocks or bonds has a source where
the taxpayer is a resident at the
time of the sale.
18 Chapter 1
Sale of Stocks and Bonds
The gain or loss from the sale of stocks or bonds has a source where the taxpayer is a resident at the time of the sale. If buying and selling stocks and bonds is
the taxpayer’s trade or business, see Business Income (or Loss), page 15, for more
information.
NOTES
EXAMPLE
Danny is a resident of Oregon and sells stock of a California corporation at a
gain. Because he is an Oregon resident, the gain has an Oregon source. The
gain is not taxable by California.
EXAMPLE
Beverley is a resident of California and sells stock of a Kansas corporation
at a gain. Because she is a California resident, she is taxed on all income,
regardless of source. The gain is taxable by California.
Reimbursement of Moving Expenses
The source of reimbursed moving expenses is the state to which the taxpayer
moves, regardless of residency at the time the reimbursement is made.
Installment Sales
KEY FACT
California taxes installment gains received by a nonresident from the sale
of tangible property on a source basis. Real property is sourced and taxed
based upon where the property is located. California taxes residents on all
income regardless of source. The chart below indicates the tax treatment for
installment payments received by residents, nonresidents, and individuals who
changed residency.
Residency Status
Sold Property
California Property
Out-of-State Property
Always a Nonresident
Anytime
Taxable
Nontaxable
Always a Resident
Anytime
Taxable
Taxable
Former Resident
Prior to
moving out
Taxable
Former Nonresident
Prior to
moving out
Taxable
2001 and prior – Taxable
2002 and after – Nontaxable
2001 and prior – Nontaxable
2002 and after – Taxable
Learning Objective 1-B Self-Quiz
Objective 1-B.
2) Josie is retired and lives in Nevada. In 2015, she had business income from
California, capital gain from selling stock of a California corporation, pension income from her old job in California, and capital gain from real estate
sold in Nevada. Which of the following is considered taxable to California?
a) Capital gain from real estate sold in Nevada.
b)Pension income from California source.
c) Capital gain from California source.
d)Business income from California source.
Chapter 1 19
NOTES
Learning Objective 1-C
Differentiate between community property and separate property.
Division of Income
California is a community property
state.
California is a community property state. The domicile of the spouse/RDP
earning the income determines the division of income between spouses/RDPs
when separate returns are filed. Each spouse/RDP must follow the laws in his
or her state of domicile to determine whether income is separate or community. When separate returns are filed, the taxpayer and spouse/RDP must each
report half of the community income plus all of separate income on the tax
return.
Community Property
Community property is all of the property that is not separate property acquired by a husband/RDP or wife/RDP or both while domiciled in a community property state.
Each spouse/RDP owns one-half of all community property. If property cannot be specifically identified as separate property, it is considered community
property.
The following states are community property states (and U.S. territories):
Arizona Louisiana
New Mexico
Washington
California Nevada
Wisconsin
Puerto Rico
Idaho Guam
Texas
Northern Mariana Islands
Community income. Income generated from community property is community income. Community income also includes compensation for services if the
spouse/RDP earning the compensation is domiciled in a community property
state. Divide the community income equally between the taxpayer and spouse/
RDP when separate returns are filed.
KEY FACT
Separate property. Separate property includes the following:
•Property owned separately by each spouse/RDP before marriage or registering as a domestic partnership.
•Property received separately as gifts or inheritances.
•Property purchased with separate property funds.
•Money earned while domiciled in a separate property state.
•All property declared separate property in a valid agreement.
Maintain separate property separately. If separate property or income from
the property is used for community purposes, or commingled, it could lose its
separate property character, overriding any agreements.
Separate income. Generally, income from separate property is income of the
spouse/RDP who owns the property. When filing separately, the taxpayer and
spouse/RDP report income(s) separately, on separate returns.
20 Chapter 1
Deductions. When taxpayers file separate returns, expenses incurred to earn
or produce community business or investment income are generally divided
equally between the taxpayer and spouse/RDP. Each spouse/RDP is entitled to
deduct half of the expenses of the business or investment expenses on his or
her separate return.
NOTES
Expenses incurred to earn or produce separate business or investment income
are deductible by the spouse/RDP who owns the investment generating the
income, provided that spouse/RDP pays the expenses from his or her separate
funds.
Expenses that are not attributable to any specific income, such as medical expenses, are deductible by the spouse/RDP who pays them. If these expenses
are paid from community funds, the deduction is divided equally between the
taxpayer and spouse/RDP.
If one spouse/RDP itemizes deductions, both spouses/RDPs must itemize deductions, even if the itemized deductions of one spouse/RDP are less than the
standard deduction.
If one spouse/RDP itemizes
deductions, both spouses/RDPs must
itemize deductions, even if the
itemized deductions of one spouse/
RDP are less than the standard
deduction.
Exemption credits. When taxpayers file separate returns, the taxpayer and
spouse/RDP must each claim their own personal exemption credit.
When the taxpayer has more than one dependent supported by community
funds, the taxpayer and spouse/RDP may divide the number of dependents
between them in any manner they choose. However, the credits may not be
split for any one dependent.
Credits may not be split for any one
dependent.
Division of Income—Residents of California
EXAMPLE
Theresa and her spouse are residents of California. She earned $15,000 in
wages. Her spouse earned $30,000. In addition to wages, she has stock that
she inherited. The stock is in her name only, and she keeps the stock and the
dividend income separate from community funds. Theresa received $5,000 in
dividends. Theresa and her spouse have decided to file separate returns.
Theresa and her spouse each has $22,500 in community income: ($15,000 +
$30,000 = $45,000 ÷ 2). In addition to her $22,500 in community income to be
reported, she includes the $5,000 of separate income from dividends, making
her total income $27,500.
EXAMPLE
Henry and his spouse are residents of California. For the first six months of
the year, he earned wages of $30,000. His spouse did not earn any income.
On June 30, Henry and his spouse physically separated with no intention of
reconciliation. During the last six months, he earned wages of $30,000 and his
spouse earned wages of $10,000. Henry and his spouse have decided to file
separate returns.
Chapter 1 21
NOTES
Example continued
For the first six months of the year, Henry’s earnings were community income.
He and his spouse must each report on their individual returns one half of
the income earned during this period. When Henry and his spouse physically
separated with no intention of reconciliation, Henry’s community income status ended. Therefore, from July 1 through December 31, the income earned
by Henry and his spouse was separate income.
EXAMPLE
John and Jackie are full-year nonresidents of California. Jackie earned $30,000
in wages for services performed in her state of residence. Jackie also sold
property in California that was her separate property. She had a $100,000**
gain. John received a pension distribution of $10,000 based on services performed in California. For California purposes, John’s taxable pension distribution for the year is 0.* John has a rental house in California that is his separate
property.
His net rental income was $1,000.** John and Jackie filed separate federal
returns, therefore, they file separate California returns. The following four situations show how their income would be divided based on domicile.
1)John and Jackie are
both domiciled in
community property
states.
Total
Wages......... . . . . . . . . $ 30,000
Gain............. . . . . . . . . . . 100,000
Pension. . ...... . . . . . . . . . . . 10,000
Rental income. . . . . . . . . . . 1,000
John
Schedule CA
(540NR),
column D
Jackie
Schedule CA
(540NR),
column E
Schedule CA
(540NR),
column D
$ 0
100,000
0
0
$ 15,000
100,000
5,000
0
$ 0
0
0
1,000
$ 15,000
0
5,000
1,000
Schedule CA
(540NR),
column E
John would complete his Schedule CA (540NR) as shown in the partial view that follows.
Part II Income Adjustment Schedule
Section A — Income
7 Wages, salaries, tips, etc. See instructions
before making an entry in column B or C . . . . . . 7
16 Pensions and annuities. See instructions.
(a) ___$10,000___ . . . . . . . . . . . . . . . . . (b)
17 Rental real estate, royalties, partnerships,
S corporations, trusts, etc. . . . . . . . . . . . . . . . . . 17
A
Federal Amounts
(taxable amounts
from your federal
return)
B
Subtractions
See instructions
(difference
between CA and
federal law)
C
Additions
See instructions
(difference
between CA and
federal law)
D
Total Amounts
Using CA Law As
If You Were A
CA Resident
(subtract column B
from column A;
add column C to
the result)
$15,000
$15,000
5,000
5,000
1,000
1,000
E
CA Amounts
(income earned or
received as a CA
resident and income
earned or received
from CA sources as
a nonresident)
1,000
*Nonresidents are not taxed on pension income.
**This income is from separate property; therefore, it is not divided even when domiciled in a
community property state.
22 Chapter 1
NOTES
Example continued
2)John and Jackie are
domiciled in separate
property states.
John
Schedule CA
(540NR),
column D
Total
Wages. . . . . . . .......... $ 30,000
Gain. . . . . . . . . . . . ........... 100,000
Pension.. . . . . ............. 10,000
Rental income. . ......... 1,000
3)John is domiciled in a
community property
state and Jackie in a
separate property state.
Total
Wages. . . . . . . .......... $ 30,000
Gain. . . . . . . . . . . . ........... 100,000
Pension.. . . . . ............. 10,000
Rental income. . ......... 1,000
4)John is domiciled in
a separate property
state and Jackie in a
community property
state.
Total
Wages. . . . . . . .......... $ 30,000
Gain. . . . . . . . . . . . ........... 100,000
Pension.. . . . . ............. 10,000
Rental income. . ......... 1,000
Jackie
Schedule CA
(540NR),
column E
$ 0
0
0
1,000
$ 0
0
10,000
1,000
Schedule CA
(540NR),
column D
Jackie
Schedule CA
(540NR),
column E
$ 0
0
0
1,000
$ 0
0
5,000
1,000
Schedule CA
(540NR),
column D
$ 15,000
0
10,000
1,000
Schedule CA
(540NR),
column E
$ 0
100,000
0
0
$ 30,000
100,000
5,000
0
John
Schedule CA
(540NR),
column D
$ 0
100,000
0
0
$ 30,000
100,000
0
0
John
Schedule CA
(540NR),
column D
Schedule CA
(540NR),
column E
Jackie
Schedule CA
(540NR),
column E
$ 0
0
0
1,000
Schedule CA
(540NR),
column D
$ 15,000
100,000
0
0
Schedule CA
(540NR),
column E
$ 0
100,000
0
0
Learning Objective 1-C Self-Quiz
Objective 1-C.
3) Joey and Marissa are married and California residents. In 2015, Joey earned
$20,000 wage income and Marissa earned $50,000 wage income and $1,500
dividend income. Joey also had a $60,000 capital gain from a house he sold,
which he owned prior to his marriage to Marissa. Marissa also received
$10,000 capital gain income from stock she sold. Which of the following is
considered separate property in California?
a) Joey and Marissa’s $70,000 total wage income.
b)Joey’s $60,000 capital gain.
c) Marissa’s $10,000 capital gain.
d)Marissa’s $1,500 dividend income.
Chapter 1 23
NOTES
Chapter 1 Self-Quiz Answers
Multiple Choice
1) Bob is a California resident, filing as Head of Household, with one dependent son. In 2015, he earned $15,000 in wage income and had $20,000 rental
income. Is he required to file a California income tax return?
a) Yes, because he had California gross income over $27,489.
Correct.Bob is required to file a California resident income tax return
because his gross income is more than the amount for his HOH
filing status.
b) Yes, because he had California adjusted gross income under $53,545.
Incorrect. While this is a correct statement, there is no filing requirement
to be under a certain dollar amount. The rules indicate that individuals must file a return with income over threshold dollar
amounts.
c) No, because he had California adjusted gross income under $27,489.
Incorrect.Bob’s California AGI is $35,000, which is more than the filing
threshold for his HOH filing status.
d) No, because he had California gross income under $53,545.
Incorrect. While this is a correct statement, there is no filing requirement
to be under a certain dollar amount. Bob is required to file a
return because his gross income exceeds the filing threshold for
his filing status.
2) Josie is retired and lives in Nevada. In 2015, she had business income from
California, capital gain from selling stock of a California corporation, pension income from her old job in California, and capital gain from real estate
sold in Nevada. Which of the following is considered taxable to California?
a) Capital gain from real estate sold in Nevada.
Incorrect. Josie is a nonresident. Therefore, any capital gain from property
sold outside of California is not taxable income for California
purposes because it is not California-source income.
b) Pension income from California source.
Incorrect. Josie is a nonresident. Therefore, any pension income from California is not taxable. Pension distributions to nonresidents are
not taxable by California.
c) Capital gain from California source.
Incorrect. The gain from the sale of stock has a source where the taxpayer
is a resident at the time of the sale. Josie is a resident of Nevada,
so the sale of stock is considered Nevada source income. The
gain is not taxable by California.
d) Business income from California source.
Correct. Josie is a nonresident and she is taxed by California on all California-source income. Her business income has a California
source, and is therefore considered taxable to California.
24 Chapter 1
3) Joey and Marissa are married and California residents. In 2015, Joey earned
$20,000 wage income and Marissa earned $50,000 wage income and $1,500
dividend income. Joey also had a $60,000 capital gain from a house he sold,
which he owned prior to his marriage to Marissa. Marissa also received
$10,000 capital gain income from stock she sold. Which of the following is
considered separate property in California?
a) Joey and Marissa’s $70,000 total wage income.
Incorrect.The wage compensation income is considered community
property because the compensation was earned while Joey and
Marisa were domiciled in California, a community property
state.
NOTES
b) Joey’s $60,000 capital gain.
Correct.The sale of real property that Joey owned prior to marriage is
considered separate property and not community property.
c) Marissa’s $10,000 capital gain.
Incorrect. Marissa is domiciled in a community property state and all income generated during her marriage is considered community property because she did not own the property prior to her
marriage.
d) Marissa’s $1,500 dividend income.
Incorrect. Marissa is domiciled in a community property state so her dividend income is considered community property as there is no
indication she owned the property prior to her marriage.
Chapter 1 25
26 Chapter 1
2
Conformity to Federal Tax Law
CPE/CE
Learning Objectives
2-A Recognize the extent to which California tax law conforms to federal tax
law.
2-B Classify addition or subtraction adjustments from federal adjusted gross
income for California tax purposes.
2-C Identify differences between California tax law and federal tax law with
regard to itemized deductions.
Glossary Terms
Adjusted gross income. Adjusted gross income is calculated as total gross
income minus allowable adjustments and deductions.
Conformity. Conformity refers to the degree to which the state tax code follows
the federal tax code.
Kiddie Tax. A tax applied on a child’s unearned income over $2,000, at the parents’ tax rate instead of the child’s rate.
Itemized deductions. A sum of various allowable deductions, rather than using the standard deduction, that is used to reduce the amount of income upon
which a taxpayer is taxed.
Standard deduction. A set dollar amount that reduces the amount of income
upon which a taxpayer is taxed.
Statute of limitations. A time period established by law to review, analyze,
and resolve taxpayer and/or IRS tax-related issues.
Recognize the extent to which California tax law conforms to federal tax law.
California Conformity Date
The California Personal Income Tax Law conforms to the Internal Revenue
Code (IRC) as of January 1, 2009. There are however, continuing differences
between California and federal tax law, and when California does conform to
federal tax law changes, not all of the changes are adopted. For example, in
2010, three major Acts changed federal law, the Patient Protection and Affordable Care Act, the Small Business Jobs Act, and the Tax Relief, Unemployment
Insurance Authorization, and Job Creation Act. But, for the most part, California has not conformed to any of these Acts.
In 2010, three major Acts changed
federal law, the Patient Protection
and Affordable Care Act, the Small
Business Jobs Act, and the Tax
Relief, Unemployment Insurance
Authorization, and Job Creation Act.
But, for the most part, California has
not conformed to any of these Acts.
Federal regulations and guidance. Federal regulations issued in both temporary and final forms are applicable for California purposes unless they conflict
with California law or regulations. Additionally, federal rulings and administrative guidance on the IRC is considered persuasive authority in interpreting
California tax law that conforms to the IRC.
Chapter 2 27
NOTES
Deficiency Assessments or Refunds
Because California tax law is largely based on the federal IRC, deficiency assessments or refunds based on federal changes or corrections generally apply
to California tax liabilities.
KEY FACT
Statute of limitations. The California statute of limitations provides that except
in a case of a false or fraudulent return and except as otherwise provided, a
notice of proposed deficiency assessment shall be mailed to a taxpayer within
four years after the return was filed.
Deficiency from federal adjustment. When there has been a federal adjustment or change to an item of gross income or deduction, a taxpayer must report
the federal changes or corrections within six months after the date of the final
federal determination. The Franchise Tax Board (FTB) may issue a notice of deficiency within the later of the general four year (three years for federal purposes)
statute of limitation or two years from the date of a taxpayer’s notice or the date
a taxpayer files an amended return with the FTB. If a taxpayer reports the federal changes late (after six months), the FTB has four years from the date of a
taxpayer’s notice or the date that a taxpayer files an amended return with the
FTB to propose the deficiency assessment.
Generally, no refund or credit may
be allowed unless a taxpayer files a
claim for refund within four years
of the date a timely return was filed
or within one year from the date of
the overpayment, whichever period
expires later.
Refund from federal adjustment. Generally, no refund or credit may be allowed unless a taxpayer files a claim for refund within four years of the date a
timely return was filed or within one year from the date of the overpayment,
whichever period expires later. A taxpayer is not required to report a final federal adjustment if application of that adjustment would result in a California
refund rather than additional California tax. A taxpayer has the later of the
general statute of limitations period or two years from the date of the final
federal determination to file a claim for refund resulting from a federal adjustment or change.
Tax Rates
California does not conform to the federal individual income tax rates, and instead has its own individual income tax rates that range from 1% to 12.3%. Also,
there is an additional tax of 1% on the portion of a taxpayer’s taxable income
that exceeds $1,000,000.
Filing Status
California conforms to federal requirements for the Head of Household (HOH)
filing status and the “considered unmarried” definition for tax purposes. If a
taxpayer is qualified to use the HOH filing status on the federal return, he or
she is also able to use that filing status on the California return.
California conforms to the federal requirements for Qualifying Widow(er) filing status with one qualification.
•A taxpayer in a RDP whose partner died may qualify as a Qualifying
Widow(er) on the California return (if requirements are otherwise met), but
can only claim Head of Household or Single on the federal return.
28 Chapter 2
California recognizes same sex marriage and individuals who are married must
file for federal purposes as either Married Filing Jointly or Married Filing Separately, unless otherwise qualified to file as Head of Household. Those individuals in a registered domestic partnership must file as Single on the federal return.
NOTES
Personal Exemption Phaseout
California does not conform to federal personal exemption deductions. Instead
of personal exemption deductions, California tax law provides personal tax exemption credits. See Exemption Credits, page 65.
Dependent Exemptions
California conforms to all federal definitions of qualifying child, qualifying relative, and support. An individual who qualifies as a dependent of a taxpayer on
the federal return also qualifies as a dependent on the California return.
California conforms to all federal
definitions of qualifying child,
qualifying relative, and support.
Military Conformity
Military pay. California law is generally the same as federal law regarding
which type of military pay (active duty, disability, reserve, and retirement) is
taxable. However, active duty military pay is not included as part of California
source-income unless the military member is domiciled and stationed in California and the pay is earned in California.
Military Spouses Residency Relief Act (MSRRA). The MSRRA amended the
federal Servicemembers Civil Relief Act. For taxable years beginning on or after
January 1, 2009, a nonmilitary spouse of a military servicemember shall neither
lose nor acquire a residence or domicile for tax purposes by being absent from
or present in California to be with the servicemember serving in compliance
with military orders if the servicemember and spouse have the same domicile.
Heroes Earnings Assistance and Relief Tax (HEART) Act. California conforms to the federal HEART Act of 2008 that permits the rollover of a federal
military death gratuity payment or Servicemembers’ Group Life Insurance
proceeds into a Roth Individual Retirement Arrangement (IRA) or Coverdell
education savings account (ESA), without regard to otherwise applicable contribution limits.
KEY FACT
Differential wage payments. California conforms to the federal tax law on differential wage payments. Differential wage payments made on or after January 1, 2009, to members of the uniformed services on active duty for more than
30 days will be treated as compensation for purposes of a retirement plan and
IRA contributions. Differential wages are all or part of the wages paid by an
employer as if the member were performing service for the employer rather
than being on active duty.
Individual retirement plan contributions. California conforms to the federal Heroes Earned Retirement Opportunities Act that allows members of the
Armed Forces serving in a combat zone to make contributions to their individual retirement plans even if the compensation on which such contribution
is based is excluded from gross income.
Chapter 2 29
NOTES
Early distributions not subject to additional tax. California conforms to the
exceptions from the penalty on early withdrawals from retirement plans for
qualified distributions made after September 11, 2001, to reservists while serving on active duty for at least 180 days. If a taxpayer received one of these distributions and was assessed a penalty, the taxpayer may amend his or her tax
return to claim a refund within the applicable statute of limitations.
Sale of principal residence. California law does not conform to the federal
special rule for members of the uniformed services in determining the exclusion of gain from the sale of a principal residence and to restore the tax-exempt
status of death gratuity payments to members of the uniformed services.
Mortgage Forgiveness Debt Relief
The California exclusion from income due to forgiveness of mortgage debt applied to discharges occurring before January 1, 2014.
Qualified principal residence indebtedness was limited to $800,000 ($400,000
for married/RDP filing separate), and taxpayers could exclude from gross income up to $500,000 ($250,000 for married/RDP filing separate) of mortgage
debt forgiven.
Short sale guidance. The IRS issued information letters with clarification and
guidance regarding debt forgiveness status as recourse or nonrecourse. The
guidance states that a deficiency judgment will not apply in any event after a
sale of real property under a mortgage that secures a purchase-money loan.
A purchase money loan is a loan that was used to pay all or part of the purchase
price of an owner-occupied dwelling for not more than four families and that is
secured by the property. The IRS states their understanding is for loans that qualify, a lender has no recourse against a mortgagor for a deficiency under any circumstance. The cancellation of a nonrecourse loan upon disposition of property does not result in
cancellation of indebtedness (COD) income. In addition, a “purchase-money
loan” includes a loan used to refinance a purchase-money loan, or subsequent
refinances of a purchase-money loan, except to the extent that lender lends
new principal that is not applied to an obligation owed or to be owed under the
purchase-money loan.
2013 and later—tax relief for short sales. California did not enact legislation to conform to the 2013 extension of the federal Mortgage Forgiveness Debt
Relief Act and Debt Cancellation. For federal income tax purposes, mortgage
forgiveness debt relief exclusion applies to discharges occurring on or after
January 1, 2007, and before December 31, 2013. However, for California purposes, the exclusion applies to discharges occurring on or after January 1, 2007,
and before December 31, 2012. California did not enact legislation to extend the
exclusion to include the taxable year 2013.
However, there is relief for taxpayers who sell their principal residence in a
“short sale, which is the sale of real property for less than the outstanding
mortgage loan balance with consent of the lender.
California conforms to federal law and the IRS has determined that California
taxpayers who sell their principal residences where the lender has agreed to
30 Chapter 2
a short sale for less than what is owed on the home do not have cancellation
of indebtedness income, which may have been taxable. Instead, the amount of
cancelled debt is included in the amount realized in determining gain on the
sale of that residence.
NOTES
The IRS guidance is limited to short sales only involving a principal residence
for tax years 2011 and forward. The IRS guidance did not specifically address
other types of real estate transactions such as non-judicial foreclosures.
This guidance is relevant to California taxpayers:
•Who incurred short sales in 2013.
•Who recognized cancellation of indebtedness income from a short sale in
2011 and 2012.
Capital gains income not excluded. Even though California taxpayers may
not have cancellation of indebtedness income on the short sale of their residences, they may incur capital gains income on the transactions, which could
be taxable.
Nonrecourse debt. If the taxpayer owned property that was subject to a nonrecourse debt in excess of the FMV of the property, the lender’s foreclosure on
the property does not result in ordinary income from the cancellation of debt.
The entire amount of the nonrecourse debt is treated as an amount realized on
the disposition of the property.
Recourse debt. If the lender forgives all or part of the amount of the debt in
excess of the FMV of the property, the cancellation of the excess debt may result in ordinary income. The ordinary income from the cancellation of debt (the
excess of the canceled debt over the FMV of the property) must be included
in gross income reported on the tax return unless an exception or exclusion
applies.
Objective 2-A.
1) Which one of the following items does California tax law differ from federal
tax law?
a) Differential wage payments for military personnel.
b)Health savings account (HSA) contributions.
c) Interest income from savings account.
d) Alimony deduction.
Chapter 2 31
NOTES
Classify addition or subtraction adjustments from federal adjusted gross
income for California tax purposes.
Schedule CA, California Adjustments
Taxpayers use Schedule CA, California Adjustments, to make adjustments to
federal adjusted gross income (AGI) and to federal itemized deductions using
California law.
SCHEDULE
TAXABLE YEAR
2014
CA (540)
California Adjustments — Residents
Important: Attach this schedule behind Form 540, Side 5 as a supporting California schedule.
SSN or ITIN
Name(s) as shown on tax return
Part I Income Adjustment Schedule
Section A – Income
Federal Amounts
Subtractions
A (taxable amounts from
Additions
B See instructions
your federal tax return)
C See instructions
7 Wages, salaries, tips, etc. See instructions before making an entry in column B or C . . . . 7
8 Taxable interest (b)
. . . . . . . . . . . . . . . . . . . . . . . . . . . . .8(a)
SCHEDULE
TAXABLE YEAR
9 Ordinary dividends. See instructions. (b)
. . . . . . . . . . .9(a)
10 Taxable refunds, credits, offsets of state and local income taxes . . . . . . . . . . . . . . . . . . . 10
SCHEDULE
YEAR
11TAXABLE
Alimony
received . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Important:
schedule
12 BusinessAttach
income this
or (loss)
. . . . . .behind
. . . . . . .Long
. . . . . Form
. . . . . .540NR,
. . . . . . . Side
. . . . . 3. .as
. . .a. .supporting
. . . . . 12 California schedule.
SSN or ITIN
13 Capital gain or (loss). See instructions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
14 Other gains
or (losses)
. . . . . . . . .behind
. . . . . . .Long
. . . . . Form
. . . . . .540NR,
. . . . . . . Side
. . . . . 3. .as
. . .a. .supporting
. . . . . 14 California schedule.
Important:
Attach
this schedule
Part
I asdistributions.
Residency
Information.
Complete
Name(s)
shown on tax
return
SSN or ITIN
15 IRA
See
instructions.
(a) all lines that apply to you. .and
. . . your
. . . . spouse/RDP.
. . . . . . .15(b)
During
2014: and annuities. See instructions. (a)
Yourself
Spouse/RDP
16 Pensions
. . . . . . . . . . .16(b)
1
a
I
was
domiciled
in
(enter
state
or
country)
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
_____________________
______________________
17 Rental
real estate,
royalties, partnerships,
corporations,
trusts,
. . . . spouse/RDP.
. . . . . . . . . 17
Part
I Residency
Information.
Complete allSlines
that apply
to youetc..
and. your
I2014:
was
in the or
military
...
_____________________
______________________
18 bFarm
income
(loss)and
. . .stationed
. . . . . . . .in. .(enter
. . . . .state
. . . . or
. . country)
. . . . . . . .. .. .. .. .. .. .. .. .. .. .. .. .. .. .. .. .. .. .. .. .18
During
Yourself
Spouse/RDP
21 aI Unemployment
became
a California
(enter
______________________
19
compensation
. .or. .the
. . .state
. . . .or
I was domiciled
in resident
(enter state
country)
. .country
. . . . . . of
. . prior
. . . . .residence
. . . . . . . and
. . . .date
. . . .of. .move)
. . .19
. .. .. _____________________
_____________________
______________________
3
I
became
a
nonresident
(enter
new
state
or
country
of
residence
and
date
of
move).
.
.
.
.
.
.
.
.
_____________________
______________________
20 bSocial
benefitsand
(a)stationed in (enter state or country)
. . . . . . . . . . . . . . . . . . . . . . . ..20(b)
I wassecurity
in the military
......
_____________________
______________________
was a income.
nonresident
California
the the
entire
year
or country
of residence).
. . . . .. .. _____________________
_____________________
______________________
21
a
a
24 II Other
became
a Californiaofresident
(enter
state
or (enter
countrystate
of prior
residence
and date of .move)
______________________
5
The
number
of
days
I
spent
in
California
(for
any
purpose)
is:
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
_____________________
______________________
b
California
lottery winnings
e NOL
from FTBand
3805D,
b
3 I abecame
a nonresident
(enter new state or country
of residence
date3805Z,
of move). . . . . . . . .
_____________________
______________________
6
I
owned
a
home/property
in
California
(enter
“Yes”
or
“No”)
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
_____________________
______________________
c _____________
c
Disaster
loss carryover
from FTB
3805Vyear (enter
3806,
3807,
or 3809of residence). . . . .21
4 I bwas
a nonresident
of California
the entire
state
or country
...
_____________________
______________________
Before
2014:
c Federal
(Form
1040,inline
21) (for anyf purpose)
Other (describe):
d
d
5 The
numberNOL
of days
I spent
California
is: . . . . . . . . . . . . . . . . . . . . . . . . .
_____________________
______________________
7
I
was
a
California
resident
for
the
period
of
(enter
dates
as
mm/dd/yyyy)
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
_____________________
______________________
e
e
NOL acarryover
from FTB
3805V (enter “Yes” or “No”) . . . . . . . . . . . . . . . . . . . . . . . . . . .
6 I downed
home/property
in California
_____________________
______________________
8 I entered
_____________________
______________________
f
f
Before
2014: California on (enter date as mm/dd/yyyy) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
9
I
left
California
on
(enter
date
as
mm/dd/yyyy)
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
_____________________
______________________
22
7 through
21 inofcolumn
Addasline
7 through line
7 I Total.
was a Combine
Californialine
resident
for theline
period
(enter A.
dates
mm/dd/yyyy)
. . .21f
. . . in
...........
_____________________
______________________
A
B
C
D
E
Part
II
Income
Adjustment
Schedule
and column
C. Godate
to Section
B. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .22
8 I column
entered BCalifornia
on (enter
as mm/dd/yyyy)
...
_____________________
______________________
Federal Amounts
Subtractions
Additions
Total Amounts
CA Amounts
9 I left California on (enter date as mm/dd/yyyy) . . (taxable
. . . . . . .amounts
. . . . . . .from
. . . . . .See
. . . instructions
. . . . . . . . . . . . See
_____________________
______________________
instructions
Using CA Law
(income earned or
SectionIIB –Income
Adjustments
to Income
your federal
As If You
receivedEas a CA
A tax return) (difference
B between (difference
C between
D Were a
Part
Adjustment
Schedule
CA & federal law)
CA & federal law)
CA Resident
resident and income
Section
A — Income
Additions
Total Amounts
CA Amounts
23 Educator
expenses . . . . . . . . . . . . . . . . . . . . . . . . .Federal
. . . . . . Amounts
. . . . . . . . . . . . .Subtractions
. . . . . . . . . 23
2014
2014
California Adjustments —
Nonresidents or Part-Year Residents
CA (540NR)
CA (540NR)
{
(taxable amounts from
See instructions
Certain business expenses of reservists, performing
andreturn)
fee-basis
your artists,
federal tax
(difference between
government officials . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . CA
. . . &. .federal
. . . . . law)
. 24
7 Wages,
salaries,account
tips, etc.deduction
See instructions
25
Health savings
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
making
an entry
26 before
Moving
expenses
. . . . in
. . col.
...B
. . or
. . C.
. . . . . . . . 7. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26
87 Taxable
interest.
(b)
________________
27
Deductible
part of
self-employment
tax . . . . 8(a)
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
Wages,
salaries,
tips,
etc. See instructions
9 Ordinary
dividends.
See
28
Self-employed
SEP,
SIMPLE,
before
making
an
entry
ininstructions.
col. and
B orqualified
C. . . . . .plans
7 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
. . . . . . .deduction
. . . . . . .. .. . 8(a)
9(a)
29
Self-employed
insurance
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
8 (b)
Taxable
interest.health
(b) ________________
10
or offsets
of state
30
Penaltyrefunds,
on
earlycredits,
withdrawal
of savings.
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30
9 Taxable
Ordinary
dividends.
See instructions.
local income
. .. .. .. .. .. .. SSN
.. .. .. .. .. .. .. .. .. 109(a)
31a and
Alimony
paid. (b)taxes.
Recipient’s:
–
–
(b)
11
received.credits,
See instructions.
. . . 11
10 Alimony
Taxable refunds,
or offsets of. .state
12 Business
income taxes.
or (loss)
.. .. .. .. name
.. .. .. .. .. 12
. . . 31a
and local income
. . .. .. .. .. .. Last
10
13
gain
or (loss).
13
32 Capital
IRA deduction.
. .See
. . .See
. . . instructions.
. . . . . . . ... .. .. .. .. . 11
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
11
Alimony
received.
instructions.
14
gains
orinterest
(losses)
. . .. .. .. .. .. .. .. .. .. .. .. .. .. .. 12
14
33 Other
Student
loan
deduction
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
12
Business
income
or (loss)
15
distributions.
instructions.
34 IRA
Tuition
and or
fees
.See
. . .See
. . . instructions.
. . . . . . . . . . .. .. .. .. 13
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34
13
Capital
gain
(loss).
15(b)
35 (a)
Domestic
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
14
Other
gainsproduction
or (losses)activities
. . .. .. .. .. ..deduction.
.. .. .. .. .. .. .. .. .. 14
16
and annuities.
See
15 Pensions
IRA distributions.
See instructions.
.
.
.
16(b)
instructions.
(a)
36 (a)
Add line 23 through line 31a
. . .and
. . . line
. . . .32
. . through
. . 15(b) line 35 in columns A, B, and C.
17
realand
estate,
See instructions
.royalties,
. . . . .See
. . .partnerships,
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
16 Rental
Pensions
annuities.
S
corporations,
trusts,
etc..
.
.
.
.
.
.
.
.
.
.
.
.
. . .. 17
16(b)
instructions. (a)
18
or (loss)
. . . .partnerships,
.line
. . .22
. . in
. . columns
. . . . 18 A, B, and C. See instructions . . . . . . . . 37
37 Farm
Total.income
Subtract
line
36. from
17
Rental
real
estate,
royalties,
19 Unemployment
compensation
.
.
.
.
.
.
.
.
.
.
.
19
S corporations, trusts, etc.. . . . . . . . . . . . . . 17
20(b)
20
securityorbenefits.
18 Social
Farm income
(loss) . .(a)
. . . . . . . . . . . . . . . 18
21 Unemployment
Other income. compensation . . . . . . . . . . . 19
19
a California
lottery
winnings
a
20(b)
20 Social
security
benefits.
(a)
Disaster
loss carryover from FTB 3805V
b
21 bOther
income.
ca Federal
NOL
(Form
1040, line 21)
California
lottery
winnings
ac _____________
For Privacy Notice, get FTB 1131 ENG/SP.
7731133
NOL
carryover
from FTBfrom
3805V
db
bd Disaster
loss carryover
FTB 3805V 21
NOL from
FTB
3805D,
FTBline
3805Z,
ce Federal
NOL
(Form
1040,
21)
c _____________
FTB 3806,
FTB from
3807,FTB
or FTB
3809
d NOL
carryover
3805V
21
de
Otherfrom
(describe):___________________
f
ef NOL
FTB 3805D, FTB 3805Z,
________________________________
FTB 3806, FTB 3807, or FTB 3809
e
22 af Other
Total:(describe):___________________
Combine line 7 through line 21
f
in each column. Continue to Side 2 . . . . . 22a
________________________________
24
{{
See instructions
(difference between
CA & federal law)
(subtract col. B from
Using CA Law
col. A; add col. C
As If You Were a
to the result)
CA Resident
col. A; add col. C
to the result)
earned or received
(income earned or
from CA sources
received as a CA
as a nonresident)
resident and income
earned or received
from CA sources
as a nonresident)
a _____________
b _____________
ac _____________
Schedule CA (540) 2014 21 Side 1
db _____________
_____________ 21
c
e _____________
d
_____________
f
21
21
e _____________
f
22 a Total: Combine line 7 through line 21
7741133
*As of
the date of printing, 2015 forms are not
yet available.
7741133
32 Chapter 2
Schedule CA (540NR) 2014 Side 1
Schedule CA (540NR) 2014 Side 1
NOTES
California Adjustments to Federal Income
Subtractions
Report taxable amounts on the federal return that are
subtractions in column B on Schedule CA.
• Military pay earned by taxpayers outside of California.
• Sick pay received under FICA and railroad retirement.
• Qualified transportation fringe benefits that exceed
federal limits.
• Exclusion for compensation from exercising a California
Stock Option (CQSO).
• Health savings account (HSA) contribution deduction
taken on the federal return for contributions made by a
taxpayer.
• Income exclusion for In-Home Supportive Services (IHSS)
supplementary payments included in federal wages.
• Compensation of certain merchant seamen, military
servicemembers, rail carriers, motor carriers, and aircraft
carriers.
• U.S. government interest.
• Interest earned from Ottoman Turkish Empire settlement
payments.
• Interest and dividend income from children under age 19
or students under age 24 included on the child’s federal
tax return and reported on the California return by the
parent. See Kiddie Tax interest, page 37.
• Mutual fund dividends if at least 50% of its assets are
invested in U.S. government obligations and/or California
state or local municipal obligations.
• Noncash patronage dividends from farmers’ cooperatives
or mutual associations.
• State income tax refund taxed on the federal return.
• Certain business adjustments.
• Capital and ordinary gain or loss adjustments due to
differences in the basis of the asset for California tax
purposes versus the federal basis.
• Capital gain distributions from children under age 19 or
students under age 24 included on the parent’s or child’s
federal tax return and reported on the California tax
return by the opposite taxpayer.
• IRA distributions where the California taxable amount is
less than the federal taxable amount.
• Tier 2 railroad retirement benefits from Form RRB 1099-R
included in federal taxable income.
• Unemployment compensation.
• Paid family leave insurance benefits, also known as
family temporary disability insurance.
• Social Security benefits or equivalent Tier 1 railroad
retirement benefits.
• California lottery winnings.
• Disaster carryover from line 6, Part III, Form FTB 3805V.
• NOL allowable under California law from Forms FTB
3805V, 3805D, 3805Z, 3806, 3807, or 3809.
• Reward from a crime hotline.
• Beverage container recycling income.
• Rebates or vouchers from a local water agency, energy
agency, or energy supplier.
• Cost-share payments received by forest landowners.
• HSA distributions taxable for federal purposes because
they were not used for qualified medical expenses.
• Grants paid to low-income individuals to construct or
retrofit buildings to make them more energy efficient.
• State of California death benefits paid to the surviving
spouse or beneficiary of certain military personnel killed
in the line of duty.
• Ottoman Turkish Empire settlement payments.
Additions
Report amounts not included as taxable on
the federal return as additions in column C
on Schedule CA.
• Employer health savings account (HSA)
contribution reported on federal Form W-2,
box 12, code W.
• Federally exempt dividends from other
states, or their municipal obligations,
and/or mutual funds that do not meet the
50% rule. See Exempt interest dividends
(mutual funds), page 37.
• Non-California state or local bond interest
and dividends.
• Interest from obligations of the District of
Columbia issued after December 27, 1973.
• Interest or other earnings from an HSA.
• Interest on any bond or other obligation
issued by the government of American
Samoa.
• Interest and dividend income from
children under age 19 or students under
age 24 included on the parent’s federal tax
return and reported on the California tax
return by the child.
• Controlled foreign corporation dividends in
the year distributed.
• Regulated investment company capital
gains in the year distributed.
• Distributions of pre-1987 earnings from an
S corporation.
• Noncash patronage dividends from
farmers’ cooperatives or mutual
associations.
• Certain business adjustments.
• Capital and ordinary gain or loss
adjustments due to differences in the
basis of the asset for California tax
purposes versus the federal basis.
• IRA distribution where the California
taxable amount is more than the federal
taxable amount.
• Certain taxable distributions from
Coverdell ESAs.
• Certain retirement annuity distributions
where distributions began between July 1,
1986 and January 1, 1987.
• NOL deduction from line 21, Form 1040.
• Federal foreign earned income or housing
exclusion.
• Mortgage relief upon sale or other
disposition of principal residence if the
amount of debt relief for federal purposes
is more than the California limit.
Chapter 2 33
NOTES
Wages, Salaries, Tips, Etc.
Generally, no adjustments are made for income unless a taxpayer has any of
the following types of income.
•Active duty military pay.
•Sick pay.
•Foreign income.
•Ridesharing fringe benefits.
•California Qualified Stock Options (CQSO).
•IHSS supplementary payments.
•Merchant seamen, rail carriers, motor carriers, aircraft carriers income.
•Native American income.
•Employer contributions to a health savings account (HSA).
Military pay. How military pay is taxed by California depends on whether a
taxpayer is domiciled in California or not.
Domiciled in California. Servicemembers (and their spouses) domiciled in
California and stationed outside of California all year, exclude the servicemember’s military compensation (and spouse’s non-California wages) from gross
income when computing the tax rate on any nonmilitary income. Report all
income, including military income, on line 7, column A, Schedule CA (540NR).
Do not enter military income on column B or column C. Report on column E,
all California-source income. Do not include in column E, military, intangible,
or other non-California-source income (including the spouse’s income for services performed outside of California). If there is no California-source income,
a taxpayer does not have to file a California tax return.
Not domiciled in California. Servicemembers (and their spouses) who are
not domiciled in California are not taxed by California on pay received for
military services performed in California, even though they were stationed in
California for the entire year. However, all other income of nonresident military servicemembers from California sources is subject to California tax. Enter
all military income on line 7, column B. Report only California-source income,
plus spouse’s intangible income and other non-California-source income in
column E, Schedule CA (540NR).
Under the MSRRA, income of a nonresident military servicemember’s nonmilitary spouse for services performed in California is not considered Californiasource income subject to state tax if the spouse is in California to be with the
servicemember serving in compliance with military orders, and the servicemember and spouse have the same out-of-state domicile in a state other than
California. Thus, a spouse is not taxed by California on income received from
services performed in California. However, all other income of nonresident
spouses from California sources is subject to California tax.
34 Chapter 2
TAXABLE YEAR
SCHEDULE
2014
EXAMPLE
Important: Attach this schedule behind Long Form 540NR, Side 3 as a supporting California schedule.
CA (540NR)
NOTES
SSN or ITIN
Sgt. Finley and Mrs. Finley are domiciled in Kansas. Sgt. Finely was stationed
Part I Residency Information. Complete all lines that apply to you and your spouse/RDP.
in California
all of 2015 and received $55,000 in militaryYourself
wages and Mrs.
Finley,
During
2014:
Spouse/RDP
1 a I was domiciled in (enter state or country) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
_____________________
______________________
who
also
livedandin
California
$30,000 in______________________
wages. Sgt.
b I was
in the military
stationed
in (enter state orwith
country) her
. . . . . . .husband,
. . . . . . . . . . . . . . . .received
.
_____________________
2 I became a California resident (enter the state or country of prior residence and date of move) . . _____________________
______________________
and
Mrs.
Finley
aresidence
jointandsavings
from which they
received
3 I became
a nonresident
(enteralso
new state have
or country of
date of move). .account
.......
_____________________
______________________
4 I was a nonresident of California the entire year (enter state or country of residence). . . . . . . .
_____________________
______________________
$300
in interest
They
also
property ______________________
for a net gain
5 The number
of days I spent income.
in California (for any
purpose)
is: . . . .sold
. . . . . . . California
. . . . . . . . . . . . . . rental
_____________________
6 I owned a home/property in California (enter “Yes” or “No”) . . . . . . . . . . . . . . . . . . . . . . . . . . .
_____________________
______________________
of
$50,000.
Following
are
illustrations
of
how
their
income
would
be reported
Before 2014:
7 I was a California resident for the period of (enter dates as mm/dd/yyyy) . . . . . . . . . . . . . . . . .
_____________________
______________________
on
Schedule
CAdate
(540NR)
of. . .their
8 I entered
California on (enter
as mm/dd/yyyy)
. . . . . . . . California
. . . . . . . . . . . . . . . . .tax
. . . . . . return.
_____________________
______________________
9 I left California on (enter date as mm/dd/yyyy) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
A
B
Part II Income Adjustment Schedule
Federal Amounts
Subtractions
(taxable amounts from
your federal tax return)
7 Wages, salaries, tips, etc. See instructions
before making an entry in col. B or C. . . . . . 7
8 Taxable interest. (b) ________________ . . 8(a)
9 Ordinary dividends. See instructions.
. . . . . . . . . . . . . . . 9(a)
(b)
10 Taxable refunds, credits, or offsets of state
and local income taxes. . . . . . . . . . . . . . . . . 10
11 Alimony received. See instructions. . . . . . 11
12 Business income or (loss) . . . . . . . . . . . . . . 12
13 Capital gain or (loss). See instructions. . . . . 13
14 Other gains or (losses) . . . . . . . . . . . . . . . . 14
15 IRA distributions. See instructions.
. . . . . . . . . . . . . . 15(b)
(a)
16 Pensions and annuities. See
. . . 16(b)
instructions. (a)
17 Rental real estate, royalties, partnerships,
S corporations, trusts, etc.. . . . . . . . . . . . . . 17
18 Farm income or (loss) . . . . . . . . . . . . . . . . . 18
19 Unemployment compensation . . . . . . . . . . . 19
20(b)
20 Social security benefits. (a)
21 Other income.
a California lottery winnings
b Disaster loss carryover from FTB 3805V
c Federal NOL (Form 1040, line 21)
d NOL carryover from FTB 3805V
21
e NOL from FTB 3805D, FTB 3805Z,
FTB 3806, FTB 3807, or FTB 3809
f Other (describe):___________________
________________________________
22 a Total: Combine line 7 through line 21
See instructions
(difference between
CA & federal law)
85,000
300
55,000
50,000
_____________________
C
D
Additions
See instructions
(difference between
CA & federal law)
______________________
E
Total Amounts
Using CA Law
As If You Were a
CA Resident
col. A; add col. C
to the result)
CA Amounts
(income earned or
received as a CA
resident and income
earned or received
from CA sources
as a nonresident)
30,000
300
50,000
50,000
Sick pay. California excludes from income sick pay received under the Federal
Insurance Contributions Act (FICA) and the Railroad Retirement Act.
Foreign income. Income exempted by treaty under federal law may be excluded for California only if the treaty specifically excludes the income for state
a _____________
purposes. If a treaty does not specificallybaexempt income
from state income tax,
b _____________
c _____________ c
California requires the reporting of adjusted
gross
income from all 21sources.
d
d _____________ 21
{
Ridesharing fringe benefits. Under federal
lawe _____________
and the provisions adminise
f
f
tered by the Employment Development Department, qualified transportation
benefits are excluded from gross income subject to a monthly limitation. Under the California Revenue and Taxation Code (R&TC), there are no monthly
limits for the
exclusion
ofENG/SP.
these benefits
and California’s
definitions
are1 more
7741133
Schedule
CA (540NR) 2014 Side
For Privacy
Notice, get FTB 1131
expansive.
Income exempted by treaty under
federal law may be excluded
for California only if the treaty
specifically excludes the income for
state purposes.
Federal law provides an income exclusion for the value of qualified parking
provided to an employee. Federal law also provides an income exclusion for
commuter highway transportation and transit passes provided to an employee.
California law provides an income exclusion for compensation or the fair market value of other benefits (except for salary or wages) received for participation in a California ridesharing arrangement (subsidized parking, commuting
in a third-party vanpool, a private commuter bus, a subscription taxipool, and
monthly transit passes provided for employees and their dependents).
California Qualified Stock Options (CQSO). California law provides an income exclusion for California qualified stock options (issued on or after January 1, 1997, and before January 1, 2002), that are exercised by an individual. To
claim this exclusion:
•Earned income must be $40,000 or less from the corporation granting the
CQSO.
•The market value of the options must be less than $100,000.
•The total number of shares must be 1,000 or less.
Chapter 2 35
NOTES
The corporation issuing the stock must designate that the stock issued is CQSO
at the time the option is granted.
In-Home Supportive Services (IHSS). California law allows an exclusion
from gross income for IHSS supplementary payments received by IHSS providers. IHSS providers only receive a supplementary payment if they paid a
sales tax on the IHSS services they provide. The supplementary payment is
equal to the sales tax paid plus any increase in the federal payroll withholding
paid due to the supplementary payment.
For California purposes, nonresidents
may exclude compensation for the
performance of duties of certain
merchant seamen and compensation
of an employee of a rail carrier,
motor carrier, or air carrier from
gross income.
Merchant seamen, rail carriers, motor carriers, aircraft carriers. For California purposes, nonresidents may exclude compensation for the performance
of duties of certain merchant seamen and compensation of an employee of a
rail carrier, motor carrier, or air carrier from gross income.
KEY FACT
Native American income. Federal law taxes income received by Native American Indians from reservation sources.
California does not tax income earned by tribal members who live in Indian
country affiliated with their tribe and receive earnings from the same tribal
source of which they are members.
Military compensation is considered income from tribal sources. Native Americans who are domiciled on an Indian reservation and receive military compensation must recalculate any AGI percentage calculation(s) by first subtracting
military compensation from federal AGI.
Income earned for services performed by tribal members who live on their
reservation and perform the services while on their reservation is tax-exempt,
whether it is paid by the tribe or by a third party.
Health savings account (HSA). Federal law allows taxpayers a deduction for
contributions to an HSA account. California does not conform to this provision. Additionally, contributions made on behalf of an eligible individual by
an employer are excluded from W-2 wages. California does not conform to this
provision.
Taxable Interest
Adjustments must be made only
if there is a difference between the
federal and California treatment of
the interest income.
Interest income from savings accounts is taxable to California just as it is on
the federal return. However, some interest income that is subject to federal tax
may not be taxed by California. Similarly, some interest income that is exempt
from federal tax may be partially or fully taxable to California. All interest that
is taxable on the federal return is already included on the California return.
Therefore, adjustments must be made only if there is a difference between the
federal and California treatment of the interest income.
U.S. Savings Bonds. Federal law requires the interest earned on federal bonds
(U.S. obligations) to be included in gross income. California does not tax this
interest income.
Exception: Interest from the following entities is fully taxable to California.
•Federal National Mortgage Association (Fannie Mae) bonds.
•Government National Mortgage Association (Ginnie Mae) bonds.
36 Chapter 2
•Federal Home Loan Mortgage Corporation (FHLMC) (Freddie Mac)
securities.
NOTES
Other states/local bonds. Federal law does not tax interest from state or local
bonds. California taxes the interest from non-California state and local bonds.
Ottoman Turkish Empire. California law excludes from gross income, interest
income received from settlement payments by individuals persecuted by the
regime that was in control of the Ottoman Turkish Empire from 1915 until 1923,
or the individual’s heirs or estate.
Exempt interest dividends (mutual funds). California does not tax dividends
paid by a fund attributable to interest received from U.S. obligations or California state or municipal obligations if at least 50% of the fund’s assets would
be exempt from California tax when held by an individual. The proportion of
dividends that are tax-exempt is shown on a taxpayer’s Form 1099-DIV, Dividends and Distributions.
California taxes dividends derived from mutual funds that are paid from interest received from obligations (bonds) issued by non-California states or municipalities in other states. If a taxpayer received any dividends from the fund
attributable to obligations issued by non-California states or municipalities
within other states that were excluded from a taxpayer’s federal income, enter
the excluded amount on Schedule CA (540/540NR).
Health savings account (HSA) interest. Federal law allows taxpayers to exclude HSA interest and earnings from income. California, however, taxes all
interest and other earnings from HSAs in the year earned. All HSA interest is
included as an income adjustment for California.
Kiddie Tax interest. California conforms to the “Kiddie Tax” federal rules, which
apply to children under age 19, or students under age 24. Parents may elect to
report their child’s interest and dividend income on their California return by
completing California Form 3803, Parents’ Election to Report Child’s Interest and Dividends. If this election is made, the child will not have to file a return. All interest
income reported on the parents’ return may be adjusted, as applicable.
Parents may report their child’s income on their California income tax return
even if they did not do so on their federal income tax return. If the parents do not
elect to report the income on their return, use California Form 3800, Tax Computation for Certain Children with Investment Income, to calculate the child’s tax.
Ordinary Dividends
Dividend income reported on Form 1099-DIV, Dividends and Distributions, is
taxable by California. No special rate applies for qualified dividends or capital
gain distributions as California taxes all dividends at the same rate as other
income. Qualified dividends and capital gains are taxed at a taxpayer’s regular
ordinary tax rate.
Generally, no difference exists between the amount of dividends reported for
federal tax purposes and the amount reported using California law. However, California taxes dividends derived from other states and their municipal
obligations.
Generally, no difference exists
between the amount of dividends
reported for federal tax purposes
and the amount reported using
California law.
Chapter 2 37
NOTES
Kiddie Tax dividends. Add dividends received from children under age 19, or
students under age 24, included on the parents’ or child’s federal tax return and
reported on the California tax return by the opposite taxpayer.
Add dividends received from children under age 19, or students under age 24,
excluded on the parents’ or child’s federal tax return and reported on the California tax return by the opposite taxpayer.
Noncash patronage dividends. Federal law taxes noncash patronage dividends from farmers’ cooperatives or mutual associations in the year of receipt.
California permits an election to include the dividend in gross income either
when received or when redeemed. If a taxpayer elects or elected to include the
dividend in the year redeemed, enter the amount received and the amount
redeemed Schedule CA (540/540NR).
KEY FACT
Controlled Foreign Corporation (CFC) and Regulated Investment Company
(RIC). California taxes CFC dividends and the undistributed capital gain from a
RIC in the year distributed rather than in the year earned. If CFC dividends or
capital gain from a RIC is earned in one year and distributed in a later year,
enter the dividends or capital gain included in federal income for the year
earned and the dividends or capital gain for the year distributed Schedule CA
(540/540NR).
Taxable Refunds, Credits, or Offsets
State income tax refund. Federal law includes the state income tax refund in
income (if a taxpayer used state and local income tax as an itemized deduction
in the previous tax year). California excludes the state income tax refund from
income.
Alimony Received
Generally, no adjustment is made for alimony unless a taxpayer is a nonresident alien that received alimony.
For a nonresident alien, alimony
received which was not included on
the federal return must be included
on the California return.
Nonresident alien. For a nonresident alien, alimony received which was not
included on the federal return must be included on the California return.
Business Income or Loss
Adjustments are generally necessary to federal business income or loss reported on the federal return because of the difference between California and
federal law relating to depreciation methods, special credits, and accelerated
write-offs. As a result, the recovery period or basis used to calculate California
depreciation may be different from the amount used for federal purposes.
Nonresident business income. Gross income from the entire business, trade,
or profession is included in a nonresident’s adjusted gross income from all
sources. If a nonresident owns a business, trade, or profession carried on within California that is an integral part of a unitary business carried on both within
and outside of California, the amount of such income having its source in California is determined by an apportionment formula.
38 Chapter 2
Adjustments to Basis or Business Deductions
California provides special credits and accelerated write-offs that affect the
California basis of qualifying assets.
NOTES
Basis adjustments related to any of the following items:
•Property acquired prior to becoming a California resident.
•Sales or use tax credit for property used in an EZ, Local Agency Military Base
Recovery Area (LAMBRA), Targeted Tax Area (TTA), or former LARZ.
•Reduced recovery periods for fruit-bearing grapevines replaced in a California vineyard on or after January 1, 1992, as a result of phylloxera infestation;
or on or after January 1, 1997, as a result of Pierce’s disease.
•Expenditures for tertiary injectants.
•Property placed in service on an Indian reservation after January 1, 1994, and
before January 1, 2015.
•Amortization of pollution control facilities.
•Discharge of real property business indebtedness.
•Vehicles used in an employer-sponsored ridesharing program.
•An enhanced oil recovery system.
•Joint Strike Fighter property costs.
•The cost of making a business accessible to disabled individuals.
•Property for which a taxpayer received an energy conservation subsidy from
a public utility on or after January 1, 1995, and before January 1, 1997.
•Research and experimental expenditures.
Business expense deductions related to any of the following items:
•Wages paid in an EZ, LAMBRA, Manufacturing Enhancement Area (MEA),
or TTA.
•Certain employer costs for employees who are also enrolled members of
Indian tribes.
• Abandonment or tax recoupment fees for open-space easements and timberland preserves.
•Business located in an EZ, LAMBRA, or TTA.
•Research expense. The amount of research expenses must be reduced by the
amount of the California credit.
•Employer wage expense for the Work Opportunity Credit and Welfare-toWork Credit. California has no similar credits. Enter the amount of the federal Work Opportunity Credit or Welfare-to-Work Credit that reduced the
federal deduction for wages on line 12, column B, Schedule CA (540/540NR).
•Pro-rata share of deductions received from a CFC by a U.S. shareholder.
•Interest paid on indebtedness in connection with company-owned life insurance policies.
•Premiums paid on life insurance policies, annuities or endowment contracts
issued after June 8, 1997, where the owner of the business is directly or indirectly a policy beneficiary.
•Business expenses. California does not allow a deduction for business expenses incurred at a club that discriminates on the basis of ancestry, race,
national origin, ethnic group identification, genetic information, religion, age,
sex, sexual orientation, color, or disability.
Chapter 2 39
NOTES
•Commercial Revitalization Deductions for Renewal Communities. Federal
law allows a deduction of one-half of any qualified revitalization expenditures chargeable to capital account with respect to any qualified revitalization building for the taxable year in which the building is placed in service
or a deduction for all such expenditures ratably over the 120-month period
beginning with the month in which the building is placed in service. California does not allow this deduction.
• Small Employer Health Insurance Credit. Federal law allows a credit for small
employers who provide health coverage for their employees. For federal purposes, a taxpayer must reduce the insurance deduction for the amount of the
credit. For California purposes, the full amount of insurance is deductible.
Depreciation, Amortization, and Expensing
Adjustments are calculated on Form FTB 3885A, Depreciation and Amortization
Adjustments, and are most commonly necessary for the following items described below.
California allows a Section 179
election up to $25,000 and California
phaseout starts at $200,000.
Section 179 election. Federal limitation amounts are generally different than
California limitation amounts. California allows a Section 179 election up to
$25,000 and California phaseout starts at $200,000. Additionally, federal law
allows a Section 179 election for off-the-shelf computer software and certain
qualified real property, California does not conform. Form FTB 3885A is used
to calculate the adjustment to enter on Schedule CA (540/540NR).
2014 Federal Section 179
Expense Limit
$500,000
Phaseout
$2,000,000
2014 California Section 179
Expense Limit
$25,000
Phaseout
$200,000
Nonresidential real property. For federal purposes, the MACRS recovery period for nonresidential real property is 39 years. California conformed to this
provision on January 1, 1997. The California recovery period of 31.5 years is
used for property placed in service on or after May 13, 1993, and before January
1, 1987.
Depreciation—assets acquired before January 1, 1987. Federal law allowed
the rapid write-off of tangible personal property and buildings over recovery
periods which were shorter than economic useful lives under the Accelerated
Cost Recovery System (ACRS). California law in general did not conform to
federal law but did allow ACRS for certain residential rental property constructed in California on or after July 1, 1985, and before January 1, 1987. Continue to calculate California depreciation for assets acquired before January 1,
1987, in the same manner as prior years.
Depreciation—assets acquired on or after January 1, 1987. California provides special credits and accelerated write-offs that affect the California basis
of qualifying assets. Additionally, certain special depreciation and accelerated
recovery periods are not allowed for California purposes. Therefore, the California basis and recovery periods may be different for some assets.
Special depreciation. Federal law allows an additional 30% first-year depreciation deduction for property placed in service after September 10, 2001. The
first-year depreciation deduction is increased to 50% for property placed in
40 Chapter 2
service after May 5, 2003. For assets placed in service on or after September 11,
2001, and before January 1, 2005, California did not conform to these provisions.
NOTES
Federal law allows an additional 50% first-year depreciation deduction for certain qualified property placed in service on or after January 1, 2007, and before
January 1, 2015. California does not conform to this provision.
Qualified leasehold improvements and qualified restaurant property. Federal law requires a 15-year recovery period for qualified leasehold improvements and qualified restaurant property. For California purposes, qualified
leasehold improvements and qualified restaurant property must be recovered
over a 39 year period.
For California purposes, qualified
leasehold improvements and
qualified restaurant property must
be recovered over a 39 year period.
Amortization of intangibles. Property classified as Section 197 intangibles
under federal law is also Section 197 property for California purposes. However, for Section 197 property acquired before January 1, 1994, the California
basis as of January 1, 1994, must be amortized over the remaining federal amortization period.
Grapevines. Newly planted grapevines in California that replace grapevines
in the same vineyard damaged by phylloxera infestation or Pierce’s disease are
allowed a five-year recovery period (federal law generally requires a 10-year
recovery period for fruit bearing vines for purposes of accelerated cost recovery). A 10-year alternative depreciation system (ADS) recovery period is also
allowed instead of the general 20-year ADS recovery period. Taxpayers must
obtain a written certification from an independent state-certified integrated
pest management advisor or state agricultural commissioner or advisor that
specifies replanting was necessary to restore the vineyard.
Start-up expenses. For tax years beginning on or after January 1, 2010, federal
law increased the deduction for start-up expenses under IRC section 195 from
$5,000 to $10,000 and the phaseout threshold from $50,000 to $60,000. California
does not conform to the federal increases.
For both federal and California, start-up expenses not deducted are amortized
ratably over a 180-month period.
Listed property. California generally conforms to the federal 2003 increase
(section 280F) for the limitation on luxury automobile depreciation. In addition,
SUVs and minivans built on a truck chassis are included in the definition of
trucks and vans when applying the 6,000 pound gross weight limit.
Cell phones. For tax years beginning on or after January 1, 2010, federal law
removed cellular phones from the definition of listed property under section
280F. California does not conform to this provision.
Employee business expenses. Form FTB 3885A is not used to report depreciation expense from federal Form 2106, Employee Business Expenses. Instead, those
adjustments are reported on Schedule CA (540/540NR). See Employee business
expense, page 52.
Passive activity. Generally, California law is the same as federal law concerning passive activity losses. However, differences, such as the special treatment
for real estate professionals may cause a taxpayer’s California PAL to be different from their federal PAL.
Chapter 2 41
NOTES
An election under IRC section
469(c)(7) to group all interests in
rental real estate activities into
a single activity is inapplicable
for purposes of California personal
income or franchise tax.
Beginning in 1994, and for federal purposes only, rental real estate activities of
taxpayers engaged in real property business are not automatically treated as
passive activities. California did not conform to this provision. For California
purposes, all rental activities are passive activities. Therefore, an election under
IRC section 469(c)(7) to group all interests in rental real estate activities into a
single activity is inapplicable for purposes of California personal income or
franchise tax and taxpayers should group rental activities without regard to
IRC section 469(c)(7).
Use Form FTB 3801, Passive Activity Loss Limitations, if a taxpayer has:
•One or more passive activities that produce a loss.
•One or more passive activities that produce a loss and any nonpassive activity reported on federal Schedule C, Profit or Loss From Business.
Use Form FTB 3885A, Depreciation and Amortization Adjustments, if a taxpayer has:
•Only nonpassive activities which produce either gains or losses (or combination of gains and losses).
•Passive activities that produce gains.
Capital Gains and Losses
California taxes long and short term capital gains as regular income. No special rate for long term capital gains exists. However, the California basis of the
assets listed below may be different from the federal basis due to differences
between California and federal laws. If there are differences, a taxpayer uses
Schedule D (540/540NR), California Capital Gain or Loss Adjustment, to calculate
the capital gain amount for California purposes.
• Gain on the sale of qualified small business stock under IRC section 1045 and
IRC section 1202. California does not conform to the deferral or exclusion of
gain of qualified small business stock.
•Basis amounts resulting from differences between California and federal law
in prior years. The basis differences may affect the gain or loss on disposition
for California purposes.
•Gain or loss on stock and bond transactions.
•Installment sale gain reported on Form FTB 3805E, Installment Sale Income.
•Gain on the sale of personal residence where depreciation was allowable.
•Pass-through gain or loss from partnerships, fiduciaries, S corporations, or
LLCs.
•Capital loss carryover from a taxpayer’s 2014 California Schedule D.
•Capital gain from children under age 19, or students under age 24, included
on the parent’s or child’s federal tax return and reported on the California tax
return by the opposite taxpayer.
•Capital loss carryback. Federal law allows a deduction for carrybacks of certain capital losses. California has no similar provision.
Other Gains or Losses
The California basis of a business asset may differ from its federal basis due to
differences between California and federal law. Therefore, a taxpayer may have
to adjust the amount of other gains or losses by using Schedule D-1, Sales of
Business Property.
42 Chapter 2
IRA Distribution
There may be significant differences in the taxable amount of an IRA distribution (including a distribution from conversion of a traditional IRA to a Roth
IRA), for California and federal tax purposes.
IRA basis adjustments. Differences in the taxable amount of a distribution
depends on when the contributions were made, if a taxpayer changed residency status after he or she first began making contributions to the IRA, or made
different deductions for California because of differences between California
and federal self-employment income. Calculate a taxpayer’s IRA basis as if he
or she were a California resident for all prior years.
NOTES
Calculate a taxpayer’s IRA basis as if
he or she were a California resident
for all prior years.
Roth IRA. Federal law and California law are the same regarding contributions, conversions, and distributions. However, the taxable amount of a distribution may not be the same because of basis differences.
If the taxable amount using California law is:
•Less than the amount taxable under federal law, enter the difference in
column B, line 15, Schedule CA (540/540NR).
•More than the amount taxable under federal law, enter the difference in
column C, line 15, Schedule CA (540/540NR).
Pensions and Annuities
If a taxpayer received Tier 2 railroad retirement benefits or partially taxable
distributions from a pension plan, the following adjustments may need to be
made.
•Railroad retirement benefits. California does not tax railroad retirement
benefits reported on federal Form RRB-1099-R, Annuities or Pensions by the
Railroad Retirement Board.
•A taxpayer may have to pay an additional tax if he or she received a taxable
distribution from a qualified retirement plan before reaching age 59½ and
the distribution was not rolled over into another qualified plan.
•The cost of group term life insurance for retirees funded by the transfer of
excess pension assets is taxable for California purposes.
Rental Real Estate, Royalties, Partnerships, S Corporations, Trusts, etc.
Adjustments to federal income or loss may be necessary because of the difference between California and federal law relating to depreciation methods,
special credits, and accelerated write-offs. As a result, the recovery period or
basis used to calculate California depreciation may be different from the recovery period or amount used for federal purposes. See Depreciation, Amortization,
and Expensing, page 40.
Rental real estate. California law does not conform to federal law for material
participation in rental real estate activities. Beginning in 1994, and for federal
purposes only, rental real estate activities conducted by persons in real property businesses are not automatically treated as passive activities.
•One or more passive activities that produce a loss and any nonpassive activity reported on federal Schedule E (Form 1040), Supplemental Income and Loss.
Chapter 2 43
NOTES
LLCs that are classified as
partnerships for California purposes
and limited liability partnerships
(LLPs) are subject to the same rules
as other partnerships.
•Only nonpassive activities which produce either gains or losses (or a combination of gains and losses).
LLCs that are classified as partnerships for California purposes and limited liability partnerships (LLPs) are subject to the same rules as other partnerships.
LLCs report distributive items to members on Schedule K-1 (568), Member’s
Share of Income, Deductions, Credits, etc. LLPs report to partners on Schedule K-1
(565), Partner’s Share of Income, Deductions, Credits, etc.
Farm Income or Loss
Adjustments to federal income or loss may be necessary because of the difference between California and federal law relating to depreciation methods, special credits, and accelerated write-offs. As a result, the recovery period or the
basis used to calculate California depreciation may be different from the amount
used for federal purposes. See Depreciation, Amortization, and Expensing, page 40.
•One or more passive activities that produce a loss and any nonpassive activity reported on federal Schedule F (Form 1040), Profit or Loss From Farming.
•Only nonpassive activities which produce either gains or losses (or a combination of gains and losses).
Unemployment Compensation
California excludes unemployment compensation from taxable income.
Paid Family Leave. Compensation paid from the Paid Family Leave (PFL)
Program (Family Temporary Disability Insurance) is not taxable by California.
However, it is taxable for federal purposes.
Social Security Benefits
KEY FACT
California excludes U.S. Social Security benefits or equivalent Tier 1 railroad
retirement benefits from taxable income. Any taxable U.S. Social Security benefits or equivalent Tier 1 railroad retirement benefits included in federal AGI
is excluded for California purposes.
Other Income or Loss
California lottery winnings. California excludes California lottery winnings
from taxable income. However, California taxes lottery winnings from other
states. Any California lottery winnings included in federal AGI is excluded for
California purposes.
44 Chapter 2
California and federal laws allow gambling losses only to the extent a taxpayer
reports gambling income. If a taxpayer reduced gambling income for California lottery income, he or she may need to reduce the losses included in the
federal itemized deductions.
Net operating loss (NOL). Differences between federal and California law
may result in a different NOL amount available for California purposes.
NOTES
California and federal laws allow
gambling losses only to the extent a
taxpayer reports gambling income.
Net operating loss (nol) carryback. NOLs incurred in taxable years beginning on or after January 1, 2013, shall be carried back to each of the preceding
two taxable years. The allowable NOL carryback percentage is phased in. For
an NOL incurred in a taxable year beginning on or after:
• January 1, 2015, the carryback amount shall be 100% of the NOL.
• January 1, 2014, and before January 1, 2015, the carryback amount shall not
exceed 75% of the NOL.
• January 1, 2013, and before January 1, 2014, the carryback amount shall not
exceed 50% of the NOL.
Individuals, Estates, and Trusts compute the NOL carryback in Part IV of form
FTB 3805V, Net Operating Loss (NOL) Computation and NOL and Disaster Loss Limitations—Individuals, Estates, and Trusts.
Amended return. Individuals, estates, and trusts claim a 2015 NOL carryback
by amending the 2013 and/or 2014 tax return using Form 540X, Amended Individual Income Tax Return, or Form 541, California Fiduciary Income Tax Return.
If an individual, estates, or trust will claim the NOL as a carryback in any of the
previous two years, they will first file the applicable 2015 tax return and attach
the completed 2015 Form FTB 3805V to the tax return. After the 2015 tax return
is filed, the individual, estate, or trust will file the amended return for 2013
and/or 2014 to claim the NOL carryback deduction and provide the following
explanation on Form 540X, Part II, Explanation of Changes, line 5: “2015 NOL
carryback deduction.” For amended Form 541, attach a statement and provide
the following explanation: “2015 NOL carryback deduction.” Do not attach the
2015 Form FTB 3805V to the 2013 or 2014 amended return. Attaching Form FTB
3805V may delay processing of the amended return.
Election to waive carryback. Any taxpayer entitled to a carryback period pursuant to IRC section 172(b)(3) may elect to waive the entire carryback period
with respect to an NOL incurred in the current taxable year. By making the
election, the taxpayer is electing to carry an NOL forward instead of carrying it
back in the previous two years.
To make the election, check the box in Part I under Section C, Election to Waive
Carryback, of Form FTB 3805V, and attach Form FTB 3805V to the tax return.
The election shall be made by the due date (including extensions) for filing the
taxpayer’s return for the taxable year of the NOL for which the election is to be
in effect. If the taxpayer filed the return on time without making the election,
the taxpayer can still make the election on Form FTB 3805V and attach it to an
amended return filed within six months of the due date of the return (excluding
extensions). Once made, the election shall be irrevocable for the taxable year.
Chapter 2 45
NOTES
NOL suspensions. For taxable years beginning in 2010 and 2011, California
suspended the NOL carryover deduction. Taxpayers continued to compute
and carryover NOLs during the suspension period. However, taxpayers with a
modified adjusted gross income of less than $300,000 or with disaster loss carryovers were not affected by the NOL suspension rules.
For taxable years beginning in 2008 and 2009, California suspended the NOL
carryover deduction. Taxpayers continued to compute and carryover their NOL
during the suspension period. However, taxpayers with a net business income
of less than $500,000 or with disaster loss carryovers were not affected by the
NOL suspension rules.
The carryover period for any NOL or NOL carryover, for which a deduction is
disallowed because of the 2008 – 2011 suspension, are extended by:
• One year for losses incurred in taxable years beginning on or after January 1, 2010,
and before January 1, 2011.
• Two years for losses incurred in taxable years beginning before January 1, 2010.
• Three years for losses incurred in taxable years beginning before January 1, 2009.
• Four years for losses incurred in taxable years beginning before January 1, 2008.
For more information, see FTB Legal Ruling 2011-04.
Carryovers. For NOLs incurred in taxable years beginning on or after January 1, 2008, California has extended the NOL carryover period from 10 taxable
years to 20 taxable years following the year of the loss.
For taxable years that began in 2002 and 2003, California suspended the NOL
carryover deduction. Taxpayers continued to compute and carryover an NOL
during the suspension period. However, the deduction for disaster losses was
not affected by the NOL suspension rules.
The carryover period for an NOL incurred in taxable years:
• Beginning before January 1, 2002, have been extended for two years.
• Beginning on or after January 1, 2002, and before January 1, 2003, have been
extended for one year.
Carryover percentages. For taxable years beginning on or after January 1,
2004, the NOL carryover percentage is 100%. The NOL carryover percentage
varies for NOLs incurred prior to January 1, 2004. See the Instructions for Form
FTB3508V for more information.
Disaster loss carryover. The allowable disaster loss carryover under California law is different than the allowable disaster loss carryover under federal law.
If a taxpayer has a California disaster loss carryover from the previous year’s
Form FTB 3805V, Net Operative Loss (NOL) Computation and NOL and Disaster
Loss Limitations—Individuals, Estates, and Trusts, enter that amount as a positive
number on line 21, Schedule CA (540/540NR).
Federal/California NOL/carryover. If a taxpayer’s federal AGI includes a federal NOL, enter the federal NOL as a positive number in column C. Due to
differences between federal and California law, a taxpayer must recalculate his
or her NOL carryover for California purposes. Use Form FTB 3805V to calculate the allowable California NOL and enter the result as a positive number on
line 21, Schedule CA (540/540NR).
46 Chapter 2
Other NOL. Federal law has no comparable deduction for an NOL from Enterprise Zones (EZ), LAMBRAs, the TTA, the former LARZ, or Pierce’s disease. Use
Forms FTB 3805Z, FTB 3807, FTB 3809, FTB 3806, or 3805D to calculate the NOL
and enter the result as a positive number on line 21, Schedule CA (540/540NR).
NOTES
Parents’ election to report child’s interest and dividends. California conforms to federal law for elections made by parents reporting their child’s interest and dividends. Parents may elect to report their child’s income on their California income tax return by completing Form FTB 3803, Parents’ Election to Report
Child’s Interest and Dividends. If the parent(s) makes this election, the child will
not have to file a tax return. The parent(s) may report the child’s income on their
California income tax return even if they do not do so on their federal income
tax return. If the amount of the child’s income the parent(s) is reporting on the
California income tax return is different than the amount reported on the federal income tax return, enter the difference on Schedule CA (540/540NR).
Reward from a crime hotline. California does not tax a reward authorized
by a government agency and received from a crime hotline established by a
government agency or nonprofit organization. A taxpayer may not make this
adjustment if he or she is an employee of the hotline or someone who sponsors
rewards for the hotline. Any crime hotline reward included in federal AGI is
excluded for California purposes.
Federal foreign income or housing exclusion. California does not allow the
federal exclusion for foreign-earned income and employer-provided housing
allowance. Any foreign-earned income and housing allowance excluded from
federal AGI is included for California purposes.
Beverage container recycling income. Federal law taxes beverage container
recycling income. California law does not tax income received by a consumer
for recycling empty beverage containers. Any beverage container recycling income included in federal AGI is excluded for California purposes.
Rebates or vouchers from a local water agency, energy agency, or energy
supplier. California law allows an income exclusion for rebates or vouchers
from a local water agency, energy agency, or energy supplier for the purchase
and installation of water conservation appliances and devices. Federal law has
no similar exclusion. Any rebate or voucher amounts included in federal AGI
is excluded for California purposes.
Original issue discount (OID). In the taxable year in which the debt instrument matures, is sold, exchanged, or otherwise disposed of, a taxpayer must
recognize the difference between the amount reported on the federal return
and the amount reported for California purposes.
Issuers (debtors) enter the difference between the federal deductible amount
and the California deductible amount on line 21f, Schedule CA (540/540NR).
Holders (lenders) enter the difference between the amount included in federal
gross income and the amount included for California purposes.
Foreign income of nonresident aliens. The federal return requires only United States source income be reported. California requires the reporting of AGI
from all sources. Adjust federal income to reflect worldwide income computed
under California law.
Chapter 2 47
NOTES
California excludes compensation
for false imprisonment or wrongful
incarceration from income.
Compensation for false imprisonment. California excludes compensation for
false imprisonment or wrongful incarceration from income. Any compensation for false imprisonment included in federal AGI is excluded for California
purposes.
Grants paid to low-income individuals. California excludes grants paid to
low-income individuals to construct or retrofit buildings to make them more
energy efficient. Federal law has no similar exclusion.
Health savings account (HSA) distributions. HSA distributions not used for
qualified medical expenses and included in federal income, are not taxable for
California purposes. Any distribution not used for qualified medical expenses
and included in federal AGI is excluded for California purposes.
Death benefits. Death benefits received from the state of California by a surviving spouse/registered domestic partner or member-designated beneficiary
of certain military personnel killed in the performance of duty is excluded from
gross income. Military personnel include the California National Guard, State
Military Reserve, or the Naval Militia.
Ottoman Turkish Empire payments. California law provides an income exclusion for settlement payments received by an individual persecuted by the
regime that was in control of the Ottoman Turkish Empire from 1915 until 1923,
or the individual’s heirs or estate. Any settlement payment amount included in
federal AGI is excluded for California purposes.
Mortgage forgiveness debt relief. For taxable years 2007 through 2014, federal law allows an exclusion of income from discharge of indebtedness from the
disposition of a principal residence. California law does not conform to federal
law on or after January 1, 2014. Any amount of discharge excluded from federal
AGI is included for California purposes.
Federal subsidies for prescription drug plans. Federal law provides an exclusion from gross income of certain federal subsidies for prescription drug
plans. California does not conform to this provision. Any amount that qualifies
for the federal exclusion is included on the California return.
Adjustments to Income
California law is generally the same as federal law with the exception of the
following adjustments to income.
Federal law allows a deduction for
teachers, instructors, counselors,
principals, or aides for K-12 grades.
California has not conformed.
Educator expenses. Federal law allows a deduction for teachers, instructors,
counselors, principals, or aides for K-12 grades. California has not conformed.
Any educator expense reported on the federal return as an adjustment to income is added back for California purposes.
Certain business expenses of reservists, performing artists, and fee-basis
government officials. California law conforms to federal law in the tax treatment of expenses for reservists, performing artists, and fee-basis governmental
officials. However, there could be continuing differences in the depreciation
deduction such as Section 179 or bonus depreciation claimed on federal Form
2106, Employee Business Expenses.
HSA deduction. Federal law allows a deduction for contributions to an HSA
account. California does not conform to this provision. Any HSA contribution
48 Chapter 2
amount reported on the federal return as an adjustment to income must be
added back for California purposes.
NOTES
Moving expenses. California law and federal law are the same for moving expenses except if a taxpayer moves out of California in connection with a new job
and receives compensation from that job attributable to a California source. A
taxpayer’s moving expense adjustment will be limited by the ratio of Californiasource compensation from the new job to total compensation from the new job.
KEY FACT
Deductible part of self-employment tax. For residents, the deduction claimed
on the federal return is the same for the California return. For part-year and
nonresidents, if a taxpayer claimed a deduction on the federal return for selfemployment tax, the California deduction is limited to a percentage ratio based
on self-employment income when a taxpayer is a California resident and while
a nonresident.
Self-employed SEP, SIMPLE, and qualified plans. For residents, the deduction claimed on the federal return is the same for the California return. For
part-year and nonresidents, the California deduction is limited by California
compensation or California self-employment income.
Self-employed health insurance deduction. For residents, the deduction
claimed on the federal return is the same for the California return. For partyear and nonresidents, the California deduction is limited to a percentage of
the total deduction based on the percentage ratio of California-source income
to total income.
Penalty on early withdrawal of savings. For residents, the deduction claimed
on the federal return is the same for the California return. For part-year and
nonresidents, the interest penalties charged while a California resident or on
California-source income is an adjustment.
Alimony paid. For residents, the deduction claimed on the federal return is the
same for the California return. For part-year and nonresidents, the deduction
is calculated by using a percentage ratio of California-source income to total
income. Alimony expense paid by a nonresident alien that was not deducted
on the federal return is a deduction on the California return.
IRA deduction. The amount of the California deduction for IRA, Keogh, SEP,
and SIMPLE contributions is the same as the federal deduction. However, the
California deduction may be limited by California compensation or by California self-employment income, which may affect part-year and nonresidents
more than residents.
EXAMPLE
Jan moved into California on December 1. She made contributions to her IRA
and claimed a deduction of $5,000 on her federal tax return. Her California
wages were $2,000. Her allowable California deduction is the lesser of:
•The federal deduction of $5,000.
•The California compensation of $2,000.
Therefore, Jan enters $2,000 Schedule CA (540NR).
Chapter 2 49
NOTES
An active duty military
servicemember domiciled outside of
California may have an adjustment
if his or her IRA deduction was
limited because of a federal AGI
limitation.
Nonresident military. An active duty military servicemember domiciled outside of California may have an adjustment if his or her IRA deduction was limited because of a federal AGI limitation. Recalculate the deduction excluding a
taxpayer’s active duty military pay. If the recalculated amount is larger than the
allowable federal amount, the difference is entered as an adjustment.
Student loan interest deduction. California conforms to federal law regarding student loan interest deduction except for a spouse/RDP of a non-California domiciled military taxpayer residing in a community property state. Use
the Student Loan Interest Deduction Worksheet, below, to compute the amount to
enter on Schedule CA (540/540NR).
Student Loan Interest Deduction Worksheet
1)Enter the total amount from Schedule CA (540/540NR),
line 33, column A. If the amount on line 1 is zero, STOP.
The taxpayer is not allowed a deduction for California.. . . . . . . . . 1)__________
2)Enter the total interest paid in 2015 on qualified
student loans but not more than $2,500 here.. . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__________
3)From Form 1040, add line 33 (student loan interest
deduction) to line 37 (AGI). Enter the result here.. . . . . . . . . . . . . . . . . . . . 3)__________
4)Enter the total military income included in federal
adjusted gross income.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4)__________
5)Subtract line 4 from line 3.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5)__________
6)Enter the amount shown below for filing status.
• Single, Head of Household, or Qualifying
Widow(er): $60,000
• Married/RDP Filing Jointly: $120,000. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6)__________
7)Is the amount on line 5 more than the amount on line 6?
No. Skip lines 7 and 8, enter -0- on line 9, and go to line 10.
Yes. Subtract line 6 from line 5.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7)__________
8)Divide line 7 by $15,000 ($30,000 if Married/RDP Filing Jointly).
Enter the result as a decimal (rounded to at least three
places). If the result is 1.000 or more, enter 1.000.. . . . . . . . . . . . . . . . . . . 8)__________
9)Multiply line 2 by line 8.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9)__________
10)Student loan interest deduction. Subtract line 9 from line 2.
For Schedule CA (540NR), enter result on line 33,
column D.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10)__________
11)Student loan interest adjustment. If line 1 is less than
line 10, enter the difference here and on Schedule CA
(540/540NR), line 33, column C. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11)__________
Tuition and fees deduction. Federal law generally allows a deduction from
income up to $4,000 for qualified higher education expenses paid. California
does not conform to this provision. Any tuition and fees deduction reported
on the federal return as an adjustment to income is added back for California
purposes.
50 Chapter 2
Domestic Production Activities Deduction (DPAD). California does not
conform to the federal law regarding the domestic production activities deduction. Any DPAD reported on the federal return as an adjustment to income is
NOTES
Any DPAD reported on the federal
return as an adjustment to income is
Objective 2-B.
2) In 2015, Candace earned $50,000 in wages. She made $1,000 contribution to
her Roth IRA, and her employer made $2,000 in contributions to her HSA.
Candace received $5,000 in unemployment compensation. She also received
$910 California tax refund from 2014. Which of the following is an addition
adjustment to federal income for California tax purposes on Candace’s 2015
California Form 540?
a) The $2,000 contribution to Candace’s HSA from her employer.
b)The $1,000 contribution to Candace’s Roth IRA.
c) The $5,000 unemployment compensation Candace received.
d)The $910 California tax refund from 2014 Candace received.
Identify differences between California tax law and federal tax law with
regard to itemized deductions.
Itemized Deductions
Taxpayers may take the standard deduction or itemized deductions for California purposes, whether or not they itemized on the federal return. Therefore, a
taxpayer may itemize on the federal return and then claim the standard deduction on the California return.
Federal differences. There are several differences from the federal itemized
deductions and the allowable itemized deductions for California purposes.
Federal itemized deductions are adjusted as follows for California itemized
deduction purposes. Taxpayers that did not itemize on the federal return will
complete a mock federal Schedule A to determine any California adjustments.
Taxes. A deduction is not allowed for several tax deductions claimed on the
federal return, including state and local general sales tax. The federal election
to deduct state and local sales taxes instead of state and local income taxes is
not available for California purposes.
State, local, and foreign income taxes. California does not allow a deduction
for state, local, or foreign income taxes paid, including amounts paid for State
Disability Insurance (SDI).
California does not allow a
deduction for state, local, or foreign
income taxes paid, including
amounts paid for State Disability
Insurance (SDI).
Chapter 2 51
NOTES
Annual tax paid by a limited partnership. Federal law allows a deduction for
the annual tax paid by a limited partnership. California specifically disallows
this deduction.
Franchise tax or income taxes paid by an S corporation. Federal law allows
a deduction for franchise taxes or income taxes paid under the Corporation Tax
Law. California specifically disallows this deduction.
Medical and dental expense deduction. Federal law has increased the threshold percentage to be able to deduct allowable medical and dental expenses to
10% of federal AGI. California allows a deduction for medical and dental expenses that exceed 7.5% of federal AGI. The amount by which the California
medical and dental expense deduction exceeds the federal deduction is entered as a positive adjustment for California purposes.
Adoption related expenses. Adoption expenses claimed as a deduction on
Schedule A (Form 1040) are not allowed for California itemized deduction purposes if a taxpayer is also claiming the adoption cost credit for the same amount
on Form 540/540NR. Any amount claimed as adoption related expenses on the
federal return is a negative adjustment for California purposes.
Mortgage interest credit. If a taxpayer reduced his or her federal mortgage
interest deduction by the amount of the mortgage interest credit (from federal
Form 8936, Mortgage Interest Credit), increase California itemized deductions by
the same amount as a positive adjustment for California purposes.
Nontaxable income expenses. If a taxpayer claimed on federal Schedule A,
Form 1040, expenses related to producing income taxed under federal law but
not taxed by California, that amount is a negative adjustment for California
purposes.
A taxpayer may claim expenses related to producing income taxed by California law but not taxed under federal law by entering the amount as a positive
adjustment for California purposes.
Employee business expense. If a taxpayer completed federal Form 2106 or
Form 2106-EZ, prepare a second set of forms reflecting employee business expense following California law. Generally, California law conforms with federal law and no adjustment is needed. However, differences occur when:
•Assets (requiring depreciation) were placed in service before January 1, 1987.
Calculate the depreciation based on California law.
•Federal employees were on temporary duty status. California does not conform to the federal provision that expanded temporary duties to include
prosecution duties, in addition to investigation duties. Therefore, travel expenses paid or incurred in connection with temporary duty status (exceeding one year), involving the prosecution (or support of the prosecution) of a
federal crime, should not be included in the California amount.
Compare federal Form 2106 or Form 2106-EZ and the form(s) completed using
California amounts. If the federal amount is larger, enter the difference as a
negative adjustment for California purposes. If the California amount is larger,
enter the difference as a positive adjustment for California purposes.
Investment interest expense. A taxpayer’s California deduction for investment interest expense may be different from the federal deduction. Net capi-
52 Chapter 2
tal gain from the disposition of property held for investment is excluded from
investment income when figuring the investment interest limitation. However,
taxpayers may elect to include in their investment income as much of their net
capital gain investment income as they choose, if they also reduce the amount
of net capital gain eligible for the special federal capital gain tax rate. Use Form
FTB 3526, Investment Interest Expense Deduction, to make the California election
and calculate the amount to enter on Schedule CA (540/540NR).
Gambling losses. California lottery winnings are not taxable. Therefore, losses
from the California lottery are not deductible. Any amount of California lottery
losses shown on federal Schedule A (Form 1040) is a negative adjustment for
NOTES
California lottery winnings are not
taxable.
Federal estate tax. Federal estate tax paid on income in respect of a decedent
(IRD) is not deductible for California. Any amount of federal estate tax shown on
federal Schedule A (Form 1040) is a negative adjustment for California purposes.
Generation-skipping transfer tax. Tax paid on generation-skipping transfers is not deductible under California law. Any tax amount shown on federal
Schedule A (Form 1040) is a negative adjustment for California purposes.
State legislator’s travel expenses. Under California law, deductible travel expenses for state legislators include only those incurred while away from their
place of residence overnight. Calculate the difference between the amount allowed using federal law and the amount allowed using California law. The difference is a negative adjustment for California purposes.
Charitable qualified contributions. The California deduction may be different from the federal deduction. California limits the amount of the deduction
to 50% of federal AGI. The difference between the amount allowed using federal law and the amount allowed using California law is a negative adjustment
Charitable contribution carryover deduction. A taxpayer’s charitable contribution carryover deduction may be different for California purposes. If a
taxpayer is deducting a prior year charitable contribution carryover, and the
California carryover is larger than the federal carryover, the additional amount
is entered as a positive adjustment for California purposes.
Health savings account (HSA) distributions. There is a difference between
allowable medical expense deduction for federal (over 10% of AGI) and California (over 7.5% of AGI), therefore an adjustment may be required. If a taxpayer
received a tax-free HSA distribution for qualified medical expenses, the qualified expenses paid that exceed 7.5% of federal AGI is entered as an adjustment
to itemized deductions. The amount by which the California medical expense
deduction exceeds the federal deduction is entered as a positive adjustment for
If a taxpayer is deducting a prior
year charitable contribution
carryover, and the California
carryover is larger than the federal
carryover, the additional amount is
entered as a positive adjustment for
Carryover deduction appreciated stock contributed to a private foundation prior to January 1, 2002. If the fair market value allowed for federal purposes is larger than the basis allowed for California purposes, the difference is
entered as a negative adjustment for California purposes.
Chapter 2 53
NOTES
KEY FACT
Interest on loans from utility companies. Taxpayers are allowed a tax deduction for interest paid or incurred on a public utility company financed loan that
is used to purchase and install energy efficient equipment or products. Federal
law has no equivalent deduction. Interest paid for energy efficient equipment
or products for qualified residences is entered as a positive adjustment for
Private mortgage insurance (PMI) deduction. California does not allow the
deduction for PMI paid. Any PMI amount deducted on the federal Schedule A
(Form 1040) is entered as a subtraction adjustment for California purposes.
Claim of right. If a taxpayer repaid an amount that was included in income
in an earlier year, because at the time a taxpayer thought he or she had an
unrestricted right to it, the amount repaid may be a deduction from income in
the year in which it was repaid. Or, if the amount repaid is more than $3,000, a
credit may be taken against tax for the year in which it was repaid, whichever
results in the least tax. If the amount repaid was not taxed by California, then
no deduction or credit is allowed.
Credit. If a taxpayer claimed a credit for the repayment on the federal tax return and is deducting the repayment for California, the allowable deduction is
entered as a positive adjustment for California purposes.
Deductions of $3,000 or less are subject to the 2% federal AGI limit. If a taxpayer chooses to take the credit instead of the deduction for California, add the
credit amount on the total payment line, of the Form 540. To the left of the total,
write “IRC 1341” and the amount of the credit.
Deduction. If a taxpayer deducted the repayment on the federal tax return and
is taking a credit for California, the amount of the federal deduction is entered
as a negative adjustment for California purposes.
Registered Domestic Partners
For federal tax purposes, a partner in a registered domestic partnership is considered single and not required to itemize on his or her federal return if his or
her partner itemizes on their return. If RDPs file separate California returns,
both must itemize deductions or both must take the standard deduction on
their California returns. For both federal and California returns, expenses paid
by community funds must be equally divided between the partners. Expenses
paid by separate funds are deductible to the partner that paid them.
EXAMPLE
Kate and Toni are registered domestic partners who lived together all year in
California. Kate earned $80,000 in wages and Toni earned $12,000 in wages.
They own a home together and paid $18,000 in mortgage interest for the year.
Toni received a small inheritance of $6,000 and used it all to pay off an outstanding medical bill of Kate’s. They must file separate federal returns. Kate
and Toni must split the $18,000 in mortgage interest evenly and each would
claim $9,000. Only Toni may claim the $6,000 medical deduction.
54 Chapter 2
NOTES
Objective 2-C.
3) Which of the following categories of itemized deductions would be the same
for federal and California tax purposes?
a) State and local general sales tax.
b)Private mortgage insurance.
c) Medical and dental expenses.
d)Real estate tax.
Chapter 2 55
NOTES
Multiple Choice
1) Which one of the following items does California tax law differ from federal
tax law?
a) Differential wage payments for military personnel.
Incorrect. California conforms to federal tax law on differential wage
payments.
b) Health savings account (HSA) contributions.
Correct. Federal law allows a deduction for contributions to an HSA
account. California does not conform to this provision.
c) Interest income from savings account.
Incorrect. California tax law conforms with federal tax law regarding interest
income from savings account. There is no California adjustment.
d) Alimony deduction.
Incorrect.The deduction claimed on the federal return is generally the
same for the California return
2) In 2015, Candace earned $50,000 in wages. She made $1,000 contribution to
her Roth IRA, and her employer made $2,000 in contributions to her HSA.
Candace received $5,000 in unemployment compensation. She also received
$910 California tax refund from 2014. Which of the following is an addition
adjustment to federal income for California tax purposes on Candace’s 2015
California Form 540?
a) The $2,000 contribution to Candace’s HSA from her employer.
Correct. For California purposes, the amount contributed to an HSA by
an employer is added to calculate California gross income.
b) The $1,000 contribution to Candace’s Roth IRA.
Incorrect.Candace’s contribution to her Roth IRA is not deductible for
federal purposes, therefore, no addition adjustment is needed
c) The $5,000 unemployment compensation Candace received.
Incorrect. Unemployment compensation that was included for federal purposes is excluded from taxable income for California purposes.
d) The $910 California tax refund from 2014 Candace received.
Incorrect. Federal law generally includes the state income tax refund in income, but California excludes the state income tax refund from
income.
56 Chapter 2
3) Which of the following categories of itemized deductions would be the same
for federal and California tax purposes?
a) State and local general sales tax.
Incorrect. While a deduction for state and local general sales tax is allowed
on the federal return, the deduction is not allowed for California
purposes.
NOTES
b) Private mortgage insurance.
Incorrect. A deduction for private mortgage insurance (PMI) premiums is
an allowable deduction on the federal Schedule A, but is not allowed for California purposes.
c) Medical and dental expenses.
Incorrect. Federal law has increased the threshold percentage to be able to
deduct allowable medical and dental expenses to 10% of federal
AGI. California allows a deduction for medical and dental expenses that exceed 7.5% of federal AGI.
d) Real estate tax.
Correct.There is no difference on the real estate tax deduction on the
federal Schedule A and for California purposes. No adjustment
is necessary for the real estate tax deduction.
Chapter 2 57
58 Chapter 2
3
Deductions, Exemption Credits, and Use Tax
CPE/CE
Learning Objectives
3-A Determine the California standard deduction and calculate California
itemized deductions.
3-B Calculate the total exemption credits available per taxpayer.
3-C Define and calculate California use tax.
Glossary Terms
Dependent. A dependent is a person, other than the taxpayer or spouse/registered domestic partner, for whom the taxpayer can claim an exemption.
Itemized deductions. A sum of various allowable deductions, rather than using the standard deduction, that is used to reduce the amount of income upon
which a taxpayer is taxed.
Standard deduction. A set dollar amount that reduces the amount of income
upon which a taxpayer is taxed.
Use tax. A tax imposed on out-of-state purchases in which sales tax was not
paid and the item is used, given away, stored, or consumed in California.
Determine the California standard deduction and calculate California
itemized deductions.
Deductions
To reduce California taxable income, taxpayers may take the standard deduction or elect to itemize their deductions, including charitable contributions,
medical expenses, mortgage interest paid, and other various deductions. The
amount of a taxpayer’s California income tax will be less if he or she takes the
larger of either total California itemized deductions or the California standard
deduction.
The amount of a taxpayer’s
California income tax will be less if
he or she takes the larger of either
total California itemized deductions
or the California standard
deduction.
AGI limitation. California itemized deductions may be limited based on federal AGI. To compute limitations, use Schedule CA (540/540NR). Registered
domestic partners (RDPs) use a recalculated federal AGI to figure itemized
deductions. See California itemized deduction limitation, page 62.
Disaster losses. On federal tax returns, individual taxpayers who claim the
standard deduction are allowed an additional deduction for net disaster losses.
For California, deductions for disaster losses are only allowed for those individual taxpayers who itemized their deductions.
Married/RDP filing separate. If taxpayers are married or registered domestic
partners (RDP) and filing separate returns, the taxpayer and spouse/RDP must
either both itemize deductions (even if the itemized deductions of one spouse/
RDP are less than the standard deduction) or both take the standard deduction.
Chapter 3 59
NOTES
California Standard Deduction
The standard deduction amount is indexed annually. The California standard
deduction is subtracted from California adjusted gross income (AGI) in computing California taxable income.
For 2015, the California standard deduction by filing status for most individuals
is shown on the California Standard Deduction Chart, below.
2015 California Standard Deduction Chart
Filing status
Standard Deduction Amount
Single or Married/RDP Filing Separately.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 4,044
Married/RDP Filing Jointly, Head of Household, Qualifying Widow(er.. . . . . . . . . . . . . . . . . $ 8,088
Aged and blind. Additional standard deductions for individuals who are blind
and/or over age 65 are allowed on the federal return. However, California does
not allow the additional standard deduction amounts, but gives additional personal exemption credits instead. See Exemption Credits, page 65.
Dependents. If someone else can claim the taxpayer as a dependent, the taxpayer may claim the greater of the standard deduction or his or her itemized
deductions, if applicable.
A taxpayer (or spouse/RDP) claimed as a dependent on another person’s return uses the following California Standard Deductions Worksheet for Dependents
to calculate the allowable standard deduction.
California Standard Deduction Worksheet for Dependents
Use this worksheet only if someone else can claim the taxpayer (or spouse/
RDP) as a dependent.
1)Enter earned income from the federal Form 1040 Standard
Deduction Worksheet for Dependents.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1)__________
$1,050
2)Minimum California standard deduction.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__________
3)Enter the larger of line or line 2 here. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3)__________
4)Enter the amount shown for filing status:
• Single or Married/RDP Filing Separately: $ 4,044
• Married/RDP Filing Jointly, HOH, QW: $ 8,088.. . . . . . . . . . . . . . . . . . . . . . . . . 4)__________
5)Standard deduction. Enter the smaller of line 3 or line 4
here and on line 18, Form 540/540NR.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5)__________
California Itemized Deductions
KEY FACT
California itemized deductions begin with the total amount of itemized deductions from line 4 (medical and dental expenses), line 9 (taxes paid), line 15 (interest paid), line 19 (gifts to charity), line 20 (casualty and theft losses), line 27
(job expenses and miscellaneous deductions), and line 28 (other miscellaneous
deductions) on the taxpayer’s federal Schedule A (Form 1040), Itemized Deductions. Then, certain adjustments may be necessary for California purposes on
lines 39 through 43, Schedule CA (540/540NR), California Adjustments.
If the taxpayer did not itemize on the federal return, first complete federal
Schedule A as if the taxpayer is going to itemize, before completing lines 39
through 43 on Schedule CA (540/540NR), California Adjustments.
60 Chapter 3
SCHEDULE A
(Form 1040)
Itemized Deductions
Department of the Treasury
Internal Revenue Service (99)
Name(s) shown on Form 1040
Medical
and
Dental
Expenses
Taxes You
Paid
Interest
You Paid
Note.
Your mortgage
interest
deduction may
be limited (see
instructions).
OMB No. 1545-0074
▶ Information
about Schedule A and its separate instructions is at www.irs.gov/schedulea.
▶ Attach to Form 1040.
15
NOTES
Attachment
Sequence No. 07
Your social security number
DRAFT AS OF
July 30, 2015
DO NOT FILE
Caution. Do not include expenses reimbursed or paid by others.
1 Medical and dental expenses (see instructions) . . . . .
1
2 Enter amount from Form 1040, line 38
2
3 Multiply line 2 by 10% (.10). But if either you or your spouse was
3
born before January 2, 1951, multiply line 2 by 7.5% (.075) instead
4 Subtract line 3 from line 1. If line 3 is more than line 1, enter -0- . .
5 State and local
a
Income taxes
. . . . . . . . . . .
5
b
Reserved
6 Real estate taxes (see instructions) . . . . . . . . .
6
7 Personal property taxes . . . . . . . . . . . . .
7
8 Other taxes. List type and amount ▶
8
9 Add lines 5 through 8 . . . . . . . . . . . . . . . .
10 Home mortgage interest and points reported to you on Form 1098 10
11 Home mortgage interest not reported to you on Form 1098. If paid
to the person from whom you bought the home, see instructions
and show that person’s name, identifying no., and address ▶
.
.
.
.
.
.
4
.
.
.
.
.
.
9
.
.
.
.
.
.
15
.
.
.
.
.
.
19
}
11
12 Points not reported to you on Form 1098. See instructions for
special rules . . . . . . . . . . . . . . . . .
12
13 Reserved . . . . . . . . . . . . . . . . . .
13
14 Investment interest. Attach Form 4952 if required. (See instructions.) 14
15 Add lines 10 through 14 . . . . . . . . . . . . . . .
Gifts to
16 Gifts by cash or check. If you made any gift of $250 or more,
see instructions . . . . . . . . . . . . . . . .
16
Charity
17 Other than by cash or check. If any gift of $250 or more, see
If you made a
gift and got a
instructions. You must attach Form 8283 if over $500 . . .
17
benefit for it,
18 Carryover from prior year . . . . . . . . . . . .
18
see instructions.
19 Add lines 16 through 18 . . . . . . . . . . . . . . .
Casualty and
Theft Losses 20 Casualty or theft loss(es). Attach Form 4684. (See instructions.) . . . . . . . .
20
Job Expenses 21 Unreimbursed employee expenses—job travel, union dues,
and Certain
job education, etc. Attach Form 2106 or 2106-EZ if required.
Miscellaneous
21
(See instructions.) ▶
Deductions
22 Tax preparation fees . . . . . . . . . . . . .
22
23 Other expenses—investment, safe deposit box, etc. List type
and amount ▶
Other
Miscellaneous
Deductions
24
25
26
27
28
23
Add lines 21 through 23 . . . . . . . . . . . .
24
Enter amount from Form 1040, line 38 25
Multiply line 25 by 2% (.02) . . . . . . . . . . .
26
Subtract line 26 from line 24. If line 26 is more than line 24, enter -0- .
Other—from list in instructions. List type and amount ▶
.
.
29 Is Form 1040, line 38, over $154,950?
Total
Itemized
No. Your deduction is not limited. Add the amounts in the far right column
for lines 4 through 28. Also, enter this amount on Form 1040, line 40.
Deductions
.
.
2015 California Adjustments, Schedule CA
27
28
}
.
Yes. Your deduction may be limited. See the Itemized Deductions
Worksheet in the instructions to figure the amount to enter.
30 If you elect to itemize deductions even though they are less than your standard
deduction, check here . . . . . . . . . . . . . . . . . . . ▶
For Paperwork Reduction Act Notice, see Form 1040 instructions.
.
29
.
Schedule A (Form 1040) 2015
Cat. No. 17145C
Side 2 Schedule CA 2015
Part II Adjustments to Federal Itemized Deductions
38
Federal itemized deductions. Enter the amount from federal Schedule A (Form 1040), lines 4, 9, 15, 19, 20, 27, and 28 . . . . . .
38
39
Enter total of federal Schedule A (Form 1040), line 5 (State Disability Insurance, and state and local income tax, or
General Sales Tax), and line 8 (foreign income taxes only). See instructions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
39
40
Subtract line 39 from line 38 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
40
41
Other adjustments including California lottery losses. See instructions. Specify
....
41
42
Combine line 40 and line 41 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
42
43
Is your federal AGI (Form 540, line 13) more than the amount shown below for your filing status?
Single or married/RDP filing separately . . . . . . . . . . . . . . . . . . . . . . . . . . . . $176,413 178,706
Head of household . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $264,623 268,063
Married/RDP filing jointly or qualifying widow(er) . . . . . . . . . . . . . . . . . . . . $352,830 357,417
No. Transfer the amount on line 42 to line 43.
Yes. Complete the Itemized Deductions Worksheet in the instructions for Schedule CA (540), line 43 . . . . . . . . . . . . . . . . . . . .
43
Enter the larger of the amount on line 43 or your standard deduction listed below
Single or married/RDP filing separately . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $3,992
4,044
Married/RDP filing jointly, head of household, or qualifying widow(er) . . . . . . $7,984
8,088
Transfer the amount on line 44 to Form 540, line 18 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
44
44
Chapter 3 61
NOTES
State, local, and foreign income taxes, and general sales tax. The total amounts
for state and local income tax (including limited partnership tax and income or
franchise tax paid by corporations), State Disability Insurance (SDI), foreign income taxes, or state and local general sales tax are not allowed for California
purposes and are subtracted from the total federal itemized deductions. Enter
the amount from line 5, federal Schedule A, on line 39, Schedule CA (540/540NR).
Other adjustments. Federal itemized deductions are adjusted for California
itemized deduction purposes based on differences in federal and California tax
law. For specific information on all of the itemized deductions differences, see
Itemized Deductions, page 51.
Some of the more common differences between California and federal itemized deductions are as follows.
Medical and dental expense deduction. For federal purposes, a deduction
is allowed for unreimbursed medical and dental expenses that exceed 10% of
federal AGI. California allows a deduction for medical and dental expenses that
exceed 7.5% of federal AGI. To determine the amount of the itemized deduction adjustment, subtract the federal medical and dental expense deduction
from the California medical and dental expense deduction. Enter the amount
as a positive number on line 41, Schedule CA (540/540NR).
Private Mortgage Insurance (PMI). The PMI deduction is not allowed for
California purposes. If the taxpayer took the deduction on line 13, federal
Schedule A, enter the PMI amount as a negative number on line 41, Schedule
CA (540/540NR).
Employee business expenses. If the taxpayer has either assets placed in service before January 1, 1987, or is a federal employee on temporary duty status,
a second federal Form 2106 needs to be prepared using California law. If the
federal amount is larger, enter the difference as a negative number on line 41,
Schedule CA (540/540NR). If the California amount is larger, enter the difference as a positive number on line 41, Schedule CA (540/540NR).
California lottery losses are not
deductible for California purposes
because California winnings are not
taxable to California.
California gambling losses. California lottery losses are not deductible for
California purposes because California winnings are not taxable to California.
Enter the amount of California lottery losses shown on federal Schedule A as a
negative number on line 41, Schedule CA (540/540NR).
California itemized deduction limitation. California generally conforms
to federal law regarding limitations on the amount of itemized deductions
claimed by high-income taxpayers. The total California itemized deductions
for high-income taxpayers must be reduced by the lesser of:
•6% (3% under federal law) of the excess of AGI over the threshold amount
(see chart below), or
• 80% of the amount of the California itemized deductions otherwise allowable
for the tax year.
California Itemized Deduction Limitation AGI Threshold chart
Filing Status
2015 AGI Threshold
Single or Married/RDP Filing Separately.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 178,706
Head of Household. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 268,063
Married/RDP Filing Jointly or Qualifying Widow(er).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 357,417
62 Chapter 3
If the taxpayer’s California AGI is more than the amount shown on page 62 for
their filing status, the Itemized Deductions Worksheet, below, must be filled out to
calculate the California itemized deduction limitation.
NOTES
Itemized Deductions Worksheet
1)Amount from line 42, Schedule CA (540). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1)__________
2)Using California amounts, add the amounts on line 4,
line 14, and line 20, Schedule A, federal Form 1040, plus
any gambling losses included on line 28.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__________
3)Subtract line 2 from line 1.................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3)__________
Note: If -0-, stop. Enter the amount from line 1 on line 43,
Schedule CA (540).
4)Multiply line 3 by 80% (0.80)................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4)__________
5)Amount from line 13, Form 540............ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5)__________
6)Enter the amount shown, page 62, for filing status. . . . . . . . . . . . . . . . . . 6)__________
7)Subtract line 6 from line 5.................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7)__________
Note: If -0- or less, stop. Enter the amount from line 1 on
line 43, Schedule CA (540).
8)Multiply line 7 by 6% (0.06)................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8)__________
9)Compare line 4 and line 8. Enter the smaller amount here. . . . 9)__________
10)Total itemized deductions. Subtract line 9 from line 1.
Enter here and on line 43, Schedule CA (540). . . . . . . . . . . . . . . . . . . . . . . . . . 10)__________
EXAMPLE
In 2015, Jason and Laura filed jointly with an AGI of $385,000. Their federal
OMB No. 1545-0074
SCHEDULE Adeductions totaled $64,447 (limited from $66,700 due to high-income
itemized
Itemized Deductions
(Form 1040)
15
Information about Schedule A and its separate instructions is at www.irs.gov/schedulea.
Department
of the Treasury
AGI
limitation).
Attachment
Attach to Form 1040.
Internal Revenue Service (99)
▶
Sequence No. 07
▶
Name(s) shown on Form 1040
SCHEDULE
Jason A
and Laura
Itemized Deductions
(Form 1040)
Caution. Do not include expenses reimbursed or paid by others.
OMB No. 1545-0074
DRAFT AS OF
DRAFT
OF
July 30,AS
2015
JulyNOT
30, 2015
DO
FILE
DO NOT FILE
15
Schedule
and its separate
Medicalof the Treasury
1 Medical and dentalabout
expenses
(seeAinstructions)
. instructions
. . . . is at
1 www.irs.gov/schedulea.
Department
Attachment
to Form 1040.
Internal
Sequence No. 07
and Revenue Service2 (99)Enter amount from Form 1040, line 38▶ Attach
2
Name(s)
shown
on
Form
1040
Dental
3 Multiply line 2 by 10% (.10). But if either you or your spouse was
Jason
and
Laura
Expenses
born before January 2, 1951, multiply line 2 by 7.5% (.075) instead
3
▶ Information
Medical
Taxes You
and
Paid
Dental
Expenses
Taxes You
Paid
Interest
You Paid
Note.
Your mortgage
interest
Interest
deduction may
be limited
(see
You
Paid
instructions).
Note.
Your mortgage
interest
deduction may
be limited (see
Gifts to
instructions).
Charity
If you made a
gift and got a
benefit for it,
see
instructions.
Gifts
to
4
1
5
2
3
6
4
7
5
8
9
6
10
7
11
8
9
10
11
12
13
14
15
12
16
13
17
14
15
18
16
19
Charity and
Casualty
17
Theft
Losses
20
If
you made
a
gift
got a
Joband
Expenses
21
benefit for it,
18
and Certain
see instructions.
Caution. line
Do not
include
or line
paid1,byenter
others.
Subtract
3 from
line expenses
1. If line 3 reimbursed
is more than
-0Medical
and
dental expenses (see instructions) . . . . .
State and
local
Enter amount
a
Incomefrom
taxesForm 1040, line
. . 38. .2 . . . . . . .
Multiply
line 2 by 10% (.10). But if either you or your spouse was
b
Reserved
born
2, 1951,
multiply line
Real before
estate January
taxes (see
instructions)
. 2. by.7.5%
. .(.075)
. .instead
. .
Subtract
3 from
line 1.
Personal line
property
taxes
. If. line
. 3.is more
. . than
. . line
. 1,
. enter
. . -0.
State
local
Other and
taxes.
List type and amount ▶
a
Income taxes
. . . . . . . . . . .
b
Reserved
Add
lines
5 through 8 . . . . . . . . . . . . . .
Real
estate
taxes
(see
instructions)
. . to
. you
. .on .Form
. 1098
. .
Home mortgage interest and points reported
Personal
property
taxesnot
. reported
. . . to. you
. on
. Form
. . 1098.
. . If. paid
.
Home mortgage
interest
▶ the home, see instructions
Other
andyou
amount
to the taxes.
personList
fromtype
whom
bought
Add lines 5 through 8 . . . . . . . . . . . . . .
Home mortgage interest and points reported to you on Form 1098
Home mortgage
interest
not reported
you on
Form
1098. If paid
Points
not reported
to you
on Formto1098.
See
instructions
for
to
the person
special
rules .from
. whom
. . .you. bought
. . .the. home,
. . see
. instructions
. . . .
Reserved . . . . . . . . . . . . . . . . . .
Investment interest. Attach Form 4952 if required. (See instructions.)
Add lines 10 through 14 . . . . . . . . . . . . .
Points
reported
to you
on Form
See
for
Gifts bynot
cash
or check.
If you
made 1098.
any gift
ofinstructions
$250 or more,
special
rules . .. .. .. .. .. .. .. .. .. .. .. .. .. .. .. ..
see instructions
Reserved
. . or. check.
. . If. any
. .gift. of. $250
. . or .more,
. . see
.
Other than. by. cash
Investment interest.
Attachattach
Form Form
4952 if8283
required.
(See
instructions.)
instructions.
You must
if over
$500
. . .
Add
lines 10
through
14 . .. .. .. .. .. .. .. .. .. .. .. ..
Carryover
from
prior year
Giftslines
by cash
or check.
Add
16 through
18 If. you
. made
. . .any. gift
. of
. $250
. . or
. more,
. .
see instructions . . . . . . . . . . . . . . . .
Other
than
cash
or check.
If any
of $250
more, see
Casualty
or by
theft
loss(es).
Attach
Formgift
4684.
(See or
instructions.)
instructions.
You
must attach
Form 8283 iftravel,
over $500
. .
Unreimbursed
employee
expenses—job
union. dues,
Carryover
from
prior
year
.
.
.
.
.
.
.
.
.
. . .
job education, etc. Attach Form 2106 or 2106-EZ if required.
Add lines
16 through
▶ 18 . . . . . . . . . . . . .
(See
instructions.)
}
}
Miscellaneous 19
Casualty and 22 Tax preparation fees . . . . . . . . . . . . .
Deductions
.
.
1
.
.
3
6
. 7.
.
.
.
5
8
.
6
10
7
.
.
.
8
.
10
11
.
.
.
.
12
13
14
. 11.
.
.
.
.
4
.
4
30,400
5
12,500
.
.
.
30,400
.
.
.
.
9
42,900
.
.
.
.
9
42,900
.
.
.
.
15
21,500
.
15
21,500
2,300
12,500
21,500
21,500
12
16
13
14
17
. 18.
.
.
.
.
.
.
.
.
.
.
.
19
.
.
.
.
.
.
20
.
.
16
.
17
18
. 21.
22
Theft Losses 23
20 Other
Casualty
or theft loss(es). Attach
Form
4684.box,
(Seeetc.
instructions.)
expenses—investment,
safe
deposit
List type . .
Job Expenses 21 Unreimbursed
and amount ▶ employee expenses—job travel, union dues,
TheTaxReview™
Californiajob
Taxeducation,
for CRTPs
and Certain
etc. Attach Form 2106 or 2106-EZ if required. 23
▶ 23 . . . . . . . . . . . .
Miscellaneous 24 (See
21
instructions.)
Add lines
21 through
24
Deductions
22 Tax
fees
. 1040,
. . line
. . 38. 25
. . . . . . .
22
Enterpreparation
amount from
Form
25
2,300
.
.
.
.
.
.
.
.
2,300
.
.
19
continued
. . .
20 on next page
2,300
Chapter 3 63
NOTES
Other
24
25
26
27
28
23
Add lines 21 through 23 . . . . . . . . . . . .
24
Enter amount from Form 1040, line 38 25
Multiply line 25 by 2% (.02) . . . . . . . . . . .
26
Subtract line 26 from line 24. If line 26 is more than line 24, enter -0- .
▶
Other—from list in instructions. List type and amount
.
.
.
.
.
27
Miscellaneous continued
Example
Deductions
29 Is Form 1040, line 38, over $154,950?
Total
Itemized
No. Your deduction is not limited. Add the amounts in the far right column
for lines 4 through 28. Also, enter this amount on Form 1040, line 40.
Deductions
X Yes. Your deduction may be limited. See the Itemized Deductions
28
}
.
64,447
29
.
Worksheet in the instructions to figure the amount to enter.
30 If you elect to itemize deductions even though they are less than your standard
deduction, check here . . . . . . . . . . . . . . . . . . . ▶
For Paperwork Reduction Act Notice, see Form 1040 instructions.
Schedule A (Form 1040) 2015
Cat. No. 17145C
Jason and Laura used California Schedule CA to make adjustments to their
federal itemized deductions. Additionally, their California itemized deductions
were limited due to their AGI. The calculations are shown on the following
Schedule CA excerpt and worksheet.
Part II Adjustments to Federal Itemized Deductions
Jason and Laura Example
38
Federal itemized deductions. Enter the amount from federal Schedule A (Form 1040), lines 4, 9, 15, 19, 20, 27, and 28 . . . . . .
38
64,447
39
Enter total of federal Schedule A (Form 1040), line 5 (State Disability Insurance, and state and local income tax, or
General Sales Tax), and line 8 (foreign income taxes only). See instructions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
39
34,400
40
Subtract line 39 from line 38 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
40
34,047
41
Other adjustments including California lottery losses. See instructions. Specify
....
41
0
42
Combine line 40 and line 41 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
42
34,047
43
Is your federal AGI (Form 540, line 13) more than the amount shown below for your filing status?
Single or married/RDP filing separately . . . . . . . . . . . . . . . . . . . . . . . . . . . . $176,413 178,706
Head of household . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $264,623 268,063
Married/RDP filing jointly or qualifying widow(er) . . . . . . . . . . . . . . . . . . . . $352,830 357,417
No. Transfer the amount on line 42 to line 43.
Yes. Complete the Itemized Deductions Worksheet in the instructions for Schedule CA (540), line 43 . . . . . . . . . . . . . . . . . . . .
43
32,392
Enter the larger of the amount on line 43 or your standard deduction listed below
Single or married/RDP filing separately . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $3,992
4,044
Married/RDP filing jointly, head of household, or qualifying widow(er) . . . . . . $7,984
8,088
Transfer the amount on line 44 to Form 540, line 18 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
44
32,392
44
Itemized Deductions Worksheet
Jason and Laura Example
$34,047
1)Amount from line 42, Schedule CA (540). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1)__________
2)Using California amounts, add the amounts on line 4,
line 14, and line 20, Schedule A, federal Form 1040, plus
any gambling losses included on line 28.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__________0
$34,047
Note: If -0-, stop. Enter the amount from line 1 on line 43,
Schedule CA (540).
$27,238
4)Multiply line 3 by 80% (0.80).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4)__________
$385,000
5)Amount from line 13, Form 540.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5)__________
This space reserved for 2D barcode
$357,417
6)Enter the amount shown, above, for filing status.. . . . . . . . . . . . . . . . . . . . 6)__________
$27,583
Note: If -0- or less, stop. Enter the amount from line 1 on
Side 243,
Schedule
CA (540) 2013
7732133
line
Schedule
CA (540).
$1,655
8)Multiply line 7 by 6% (0.06).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8)__________
$1,655
9)Compare line 4 and line 8. Enter the smaller amount here. . . . 9)__________
10)Total itemized deductions. Subtract line 9 from line 1.
$32,392
Enter here and on line 43, Schedule CA (540). . . . . . . . . . . . . . . . . . . . . . . . . . 10)__________
64 Chapter 3
NOTES
Objective 3-A.
1) In 2015, Howard and Betty file jointly with an AGI of $255,000. They want to
itemize their deductions for California and they claimed the following itemized deductions on their federal Schedule A.
•State and local taxes: $23,525
•Real estate taxes: $9,875
•Personal property taxes: $550
•Home mortgage interest: $13,540
•Mortgage insurance premiums: $1,375
•Gifts to charity: $5,300
What is Howard and Betty’s total California itemized deductions?
a) $54,165
b) $52,790
c) $29,265
d) $30,640
Calculate the total exemption credits available per taxpayer.
Exemption Credits
For federal tax purposes, personal and dependency exemptions are a subtraction from AGI used to calculate federal taxable income. For California, however, California tax is calculated first and then personal and dependency exemptions credits reduce total California tax.
Personal exemption. Taxpayers are allowed one personal exemption for themselves, and one for a spouse/RDP, if filing jointly.
Senior exemption. Taxpayers are allowed one additional senior exemption if
he or she is 65 or older and a second additional senior exemption for a spouse/
RDP 65 or older, if filing jointly.
Blind exemption. Taxpayers are allowed one additional blind exemption if he
or she is visually impaired and a second additional blind exemption for a visually impaired spouse/RDP, if filing jointly.
Dependent exemption. Taxpayers are allowed one dependent exemption for
each qualifying dependent claimed on the federal return.
Missing or kidnapped children. California follows federal law, which allows
taxpayers to claim a dependency exemption for missing or kidnapped children.
Chapter 3 65
NOTES
The exemption credit amounts
are indexed annually based on
percentage change in the California
Consumer Price Index.
Exemption Credit Amount
The exemption credit amounts are indexed annually based on percentage
change in the California Consumer Price Index.
For 2015, the exemption credit amounts are shown on the 2015 Exemption Credit
chart, below.
2015 Exemption Credit Amounts
Filing Status
Exemption Credit Amount
Single.................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $109
Married/RDP Filing Separately.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $109
Married/RDP Filing Jointly.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $218
Head of Household.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $109
Qualifying Widow(er). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $218
Blind person. . ...... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $109 (additional)
Blind person – both spouses/RDPs.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $218 (additional)
Senior – age 65 or older.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $109 (additional)
Senior – age 65 or older (both spouses).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $218 (additional)
Dependent . . ......... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $337
Estate................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $10
Trust...................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1
Disability Trust..... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $109
Form 540/540NR. For 2015, the personal and dependency exemption amounts
are entered on Form 540/540NR as follows.
• If the taxpayer’s filing status is Single, Married/RDP Filing Separately, or Head
of Household, enter one exemption in the box on line 7, Form 540/540NR.
•If the taxpayer’s filing status is Married/RDP Filing Jointly or Qualifying
Widow(er). Enter two exemptions in the box on line 7, Form 540/540NR.
Blind. Enter one, or if both the taxpayer and spouse/RDP are blind, enter two in
the box on line 8, Form 540/540NR. The blind definition follows the federal rules.
The additional blind exemption credit is not allowed for a taxpayer, spouse, or
RDP claimed as a dependent.
Senior. For individuals age 65 or over on or before January 1, 2015. Enter one,
or if both taxpayers (if Married/RDP) are age 65 or over, enter two in the box on
line 9, Form 540/540NR.
The additional senior exemption credit is not allowed for a taxpayer, spouse, or
RDP claimed as a dependent.
Dependent. The taxpayer may claim a dependent exemption credit for each
dependent claimed on the federal return as a qualifying child or qualifying
relative. Enter the total number of dependents in the box on line 10, Form
540/540NR.
Taxpayer/spouse/RDP is a dependent. If the taxpayer (and/or spouse/RDP)
can be claimed as a dependent:
•The exemption credit is $0 if filing status is Single, Married/RDP Filing Separately, Head of Household, or Married/RDP Filing Jointly and both the taxpayer and spouse/RDP can be claimed as dependents. Enter zero in box on
line 7.
66 Chapter 3
•The exemptions credit is $109 if filing status is Married/RDP Filing Jointly
and only one spouse/RDP can be claimed as a dependent. Enter one in box
on line 7.
NOTES
EXAMPLE
In 2015, Amber files as Head of Household and claims three dependent children. Her total exemption credit amount is $1,120 ($109 (HOH) + $337 (dependent) + $337 (dependent) + $337 (dependent) = $1,120).
EXAMPLE
In 2015, Jerome and Betty file a joint return. Betty is 68 years old. Jerome is
77 years old and blind. Their total exemption credit amount is $545 ($218 (MFJ)
+ $218 (both senior) + $109 (one blind) = $545).
High-income taxpayers. Exemption credits may be limited for certain highincome taxpayers. The personal exemption tax credits are reduced when a
taxpayer’s federal AGI exceeds a threshold amount. For 2015, the exemption
credits are reduced by $6 ($12 if MFJ) for each $2,500 ($1,250 if MFS) of AGI or
fraction thereof, that exceeds the threshold amounts shown on the Exemption
Credits—AGI Limitation chart, below.
Exemption credits may be limited for
certain high-income taxpayers.
Exemption Credits—AGI Limitation
Federal AGI/RDP
Filing Status
Recalculated AGI Exceeds
Single or Married/RDP Filing Separately...................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $178,706
Married/RDP Filing Jointly or Qualifying Widow(er)... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $357,417
Head of Household........................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $268,063
Registered domestic partners (RDPs). For purposes of computing limitations
based upon AGI, RDPs recalculate their AGI using a federal pro forma or the
California RDP Adjustments Worksheet. If the recalculated federal AGI is more
than the amount shown on the Exemption Credits—AGI Limitation chart, above,
for filing status, exemption credits will be limited. RDPs who file a California
tax return and have no RDP adjustments between federal and California do
not need to complete the worksheet. Instead, combine the amount on line 37
from each individual RDP’s federal Form 1040 filed with the IRS to determine
the total AGI for calculating the exemption credits on a joint California return.
Reduced exemption credit. To calculate the reduced exemption credit amount,
complete the following worksheet.
Chapter 3 67
NOTES
AGI Limitation Worksheet
a)Enter the amount from line 13, Form 540, or RDP
recalculated AGI. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . a)__________
b)Enter the amount for filing status on line (b):
Single or Married/RDP Filing Separately: $178,706
Married/RDP Filing Jointly or QW: $357,417
HOH: $268,063.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . b)__________
c)Subtract line (b) from line (a).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . c)__________
d)Divide line (c) by $2,500 ($1,250 if Married/RDP Filing
Separately). If the result is not a whole number, round to
the next higher whole number. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . d)__________
e)Multiply line (d) by $6.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . e)__________
f)Add the numbers from the boxes on lines 7, 8, and 9,
Form 540 (not the dollar amounts). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . f)__________
g)Multiply line (e) by line (f).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . g)__________
h)Enter the total dollar amount for lines 7, 8, and 9,
Form 540.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . h)__________
i)Subtract line (g) from line (h). If zero or less, enter -0-.. . . . . . . . . . . i)__________
j)Enter the number from the box on line 10, Form 540
(not the dollar amount).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . j)__________
k)Multiply line (e) by line (j). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . k)__________
l)Enter the dollar amount (that was filled in) from line 10,
Form 540.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . l)__________
m)Subtract line (k) from line (l). If zero or less, enter -0-. . . . . . . . . . m)__________
n)Add line (i) and line (m). Enter the result here and on
line 32, Form 540.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . n)__________
Nonresidents and part-year residents. Multiply the amount on line (n) by the
CA Exemption Credit Percentage on line 38, Form 540NR. Enter the result on
line 39, Form 540NR.
EXAMPLE
In 2015, Tim and Lindsay filed jointly and have two dependents, Cooper and
Tyler. Their total AGI is $385,000. Their total exemption credit before the limitation is applied is $892 [$218 (MFJ) + $337 (Cooper) + $337 (Tyler) = $892]. After
the limitation is calculated, their total exemption credit available is $604.
68 Chapter 3
AGI Limitation Worksheet
NOTES
Tim and Lindsay Example
a)Enter the amount from line 13, Form 540, or RDP
$385,000
recalculated AGI..................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . a)__________
b)Enter the amount for filing status on line (b):
Single or Married/RDP Filing Separately: $178,706
Married/RDP Filing Jointly or QW: $357,417
$357,417
HOH: $268,063............................................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . b)__________
$27,583
c)Subtract line (b) from line (a).............. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . c)__________
d)Divide line (c) by $2,500 ($1,250 if Married/RDP Filing
Separately). If the result is not a whole number, round to
12
the next higher whole number........... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . d)__________
$72
e)Multiply line (d) by $6.. ............................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . e)__________
f)Add the numbers from the boxes on lines 7, 8, and 9,
Form 540 (not the dollar amounts). . ... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . f)__________2
$144
g)Multiply line (e) by line (f)..................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . g)__________
h)Enter the total dollar amount for lines 7, 8, and 9,
$218
Form 540...................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . h)__________
$74
i)Subtract line (g) from line (h). If zero or less, enter -0-.. . . . . . . . . . . i)__________
j)Enter the number from the box on line 10, Form 540
(not the dollar amount).......................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . j)__________2
$144
k)Multiply line (e) by line (j). . .................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . k)__________
l)Enter the dollar amount (that was filled in) from line 10,
$674
Form 540...................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . l)__________
$530
m)Subtract line (k) from line (l). If zero or less, enter -0-. . . . . . . . . . m)__________
n)Add line (i) and line (m). Enter the result here and on
$604
line 32, Form 540...................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . n)__________
Nonresidents and part-year residents. Multiply the amount on line (n) by the
CA Exemption Credit Percentage on line 38, Form 540NR. Enter the result on
line 39, Form 540NR.
Nonresidents and part-year residents. Nonresidents and part-year residents are allowed reduced personal exemption credits on the basis of prorated
California taxable income. The phase-out for high-income taxpayers is applied
before the proration. The California prorated exemption credits is calculated
by dividing California taxable income by total taxable income and multiplying
that resulting percentage by the total exemptions credit amount.
EXAMPLE
In 2015, Brian and Ally moved to California from Missouri. Their total income
for the year was $150,000 and their California taxable income was $90,000. The
California exemption credit percentage is 60% ($90,000 ÷ $150,000 = 0.60). Their
total personal exemption credit amount available for is $218 (MFJ). However,
their reduced personal exemption credit amount is $131 ($218 × 0.60 = $130).
Chapter 3 69
NOTES
Objective 3-B.
2) In 2015, Bob (67 years old) and Geri (55 years old) are filing jointly and have
two dependent children. How much is their total exemption credit?
a) $1,001
b) $892
c) $555
d) $1,110
Define and calculate California use tax.
California Use Tax
California law requires tax on instate purchases, and also requires
tax on items purchased out-of-state
for use in California.
California residents are required to pay a tax when they purchase tangible
property that will be used, consumed, or stored in California. California law
requires tax on in-state purchases, and also requires tax on items purchased
out-of-state for use in California.
The use tax has been in effect in California since July 1, 1935. It applies to purchases from out-of-state sellers and is similar to the sales tax paid on purchases
made in California. Tax collected by the retailer in California is called sales tax,
and the retailer is responsible for reporting and paying the tax. When an outof-state or online retailer does not collect the tax for an item delivered to California, the purchaser may owe use tax, which is simply a tax on the use, storage,
or consumption of personal property in California.
While the use tax was originally put in place to protect California merchants
from unfair out-of-state competition, it also applies to certain purchases made
within the state. The use tax rate is the same as the sales tax rate in effect where
the goods will be stored, used, or consumed, usually the taxpayer’s residence
address.
Individuals may owe California use tax on taxable items if:
•The seller does not collect California sales or use tax, and
•The taxpayer uses, gives away, stores, or consumes the item in California.
Out-of-state purchases. Generally, taxpayers will owe California use tax on
purchases made from out-of-state (for example, by telephone, over the Internet, by mail, or in person). However, not all purchases require the taxpayer to
pay use tax. Items that are exempt from California sales tax are exempt from
use tax as well. For example, the taxpayer would include purchases of clothing,
but not purchases of food products or prescription medicine.
70 Chapter 3
EXAMPLE
NOTES
Billy lives in California and purchased a dining table from a company in North
Carolina. The company ships the table from North Carolina to his home for
his use and does not charge California sales or use tax. Billy owes use tax
on the purchase.
Out-of-state retailers. An out-of-state company that is engaged in business in
the state of California must register with the Board of Equalization to collect use
tax on their retail sales of tangible personal property to California customers.
Generally, an out-of-state company is engaged in business in California when
it has a sales office, warehouse, or sales representative located in California, receives rental receipts from equipment located in California, or has some other
physical presence in California.
If a company is not engaged in business in California, it will generally not
charge an individual California sales tax. However, some out-of-state companies with no physical presence voluntarily register with the Board of Equalization (BOE) and collect tax as a courtesy to their California customers.
If a company is not engaged in
business in California, it will
generally not charge an individual
California sales tax.
When does use tax apply? Use tax applies when a taxpayer buys merchandise
that will be used, stored, consumed, or given away in California, under certain
circumstances.
Use tax is based on an item’s purchase price and generally applies to:
•California consumer or retailer purchases from out-of-state vendors (including foreign merchants) who do not collect California sales tax on their sales
(see Note, below) unless the purchase is otherwise subject to an exemption or
exclusion.
•Retailer’s use of items purchased under a resale certificate, including: withdrawing items from inventory for personal or business use, using an item
before sale, or using an item in manufacturing unless it becomes a physical
part of the final product sold. Demonstrating or displaying an item is generally not a taxable use provided the item remains for sale.
•Purchases of vehicles, vessels, mobile homes, and aircraft from sellers who
do not hold seller’s permits.
Note: Special use tax rules apply to purchases by insurance companies and to
the use of heavy trucks and trailers.
Exception: Tangible personal property (excluding vehicles, vessels, and aircraft) is not considered to have been purchased for use in California when:
•A person uses the item outside of California for more than 90 days after the
purchase, exclusive of any shipping or storage time, or
•A person first uses the item outside of California, brings it back into California within 90 days of purchase, and then uses the item outside of California
for more than half the time during the next six months.
Chapter 3 71
NOTES
EXAMPLE
Hazel’s company assigned her to work in Portland, Oregon, for nine months.
When she first arrived in Portland, she purchased a personal computer and
software from a local retailer. Oregon does not have a sales or use tax and
Hazel was not charged tax. She does not owe California use tax on the purchase because the personal computer was used in Oregon for nine months
(used outside of California for more than 90 days after the purchase).
Seller’s permit. If a taxpayer files a Schedule C (Form 1040), Profit or Loss From
Business, with the federal income tax return and is in the business of selling
tangible personal property, he or she may be required to obtain a seller’s permit with the State Board of Equalization. A “retailer” is defined to mean, among
other things, every individual or firm making more than two retail sales of tangible personal property during any 12-month period (section 6019 of the Sales
and Use Tax Law). This requirement includes online auction sellers. If a taxpayer
does not sell tangible personal property, but has at least $100,000 in business
gross receipts, he or she may be required to register with the State Board of
Equalization to report use tax.
EXAMPLE
Kendall regularly sells furniture and household goods on the website eBay
throughout the year. She is considered a retailer because she makes more
than two sales during the year. She is required to hold a seller’s permit and
collect and pay sales tax on the gross receipts from such sales.
KEY FACT
Report use tax on California income tax return. While some taxpayers are
required to report business purchases subject to use tax directly to the State
Board of Equalization, they may, however, report certain personal purchases
subject to use tax on their California state income tax return instead.
A taxpayer may not report use tax for business purposes on the California
income tax return if he or she:
•Has a California seller’s permit.
•Is not required to hold a California seller’s permit, but receives at least
$100,000 in gross receipts.
•Is otherwise required to be registered with the State Board of Equalization
for sales or use tax purposes.
Individuals who hold garage sales
generally are not required to hold
seller’s permits unless they hold more
than two garage sales in a 12-month
period.
72 Chapter 3
Garage sales. Individuals who hold garage sales generally are not required to
hold seller’s permits unless they hold more than two garage sales in a 12-month
period or are required to hold a seller’s permit for being engaged in the business of selling merchandise, goods, or items (tangible personal property).
NOTES
Use Tax Registration and Reporting Requirements
Purchaser
Type
Individual or
unregistered
service
business
Registration and Reporting
Requirements
How to Report and
Pay Use Tax
Required to report use tax on all nonex- 1) Report on California income tax
empt purchases made from out-of-state
return.
retailers in which California tax was not 2) Report and pay use tax directly to
collected.
the Board of Equalization (BOE).
Seller’s permit Required to pay the use tax due on purholder
chases made from out-of-state retailers
that were not otherwise taxed and taxable merchandise withdrawn from resale
inventory for personal or business use.
Report use tax by e-filing Sales and
Use Tax Return, or on Form BOE 401A2, State, Local, and District Sales
and Use Tax Return.
Service
Business that
makes at least
$100,000 in
gross receipts
Considered a “qualified purchaser” and Report and pay use tax due by e-filrequired to register with the BOE and re- ing the annual use tax return for the
port and pay use tax due on purchases previous calendar year by April 15.
made from out-of-state retailers.
Frequent
purchaser of
out-of-state
goods
Regularly incurs use tax liabilities, but not
required to hold a seller’s permit and not
required to register for a use tax account
as a qualified purchaser. Apply for a consumer use tax account.
If taxpayer holds a consumer tax
account, must report use tax by efiling Sales and Use Tax Return or on
Form BOE 401-A2, State, Local, and
District Sales and Use Tax Return.
Purchaser
of a vehicle,
vessel,
aircraft, or
mobile home
If purchased from a seller who does not
hold a seller’s permit and is not required
to register for a use tax account as a
qualified purchaser, apply for a consumer
use tax account.
Generally, use tax on private purchases of vehicles and undocumented vessels is paid to the Department of Motor Vehicles (DMV)
at the time of registration. Taxpayers
may use electronic registration with
the BOE to report and pay use tax on
a vehicle, a vessel registered with
DMV, a documented vessel registered with the U.S. Coast Guard, an
aircraft, or a mobile home.
Purchases of vehicles, vessels, aircraft, and mobile homes are not to
be reported on the California state
income tax return.
Purchaser
of cigarette
and tobacco
products
Purchaser of untaxed cigarettes and/or
tobacco products from an out-of-state
retailer, registers with the BOE to report
unpaid excise and use taxes.
Register with the BOE to report unpaid excise and use taxes.
Purchases of cigarette and tobacco
products cannot be reported on the
California state income tax return.
Purchaser of
foreign goods
The first $800 of tangible personal property that is purchased from a retailer in a
foreign country by an individual and personal hand-carried into California from
the foreign country within any 30-day period is exempt from use tax. Required to
report use tax due on any purchases of
foreign goods not meeting the exemption.
Report and pay use tax using the
method based on purchaser type
(individual, seller’s permit holder,
etc.).
Chapter 3 73
NOTES
Use Tax Exemptions
Since enactment of the Sales and Use Tax Law, many exemptions have been
granted that remove the liability for tax for various types of property and certain individuals or organizations.
Some common sales and use tax exemptions are listed in the following Use Tax
Exemptions chart.
Use Tax Exemptions
Necessities of Life
Food Groceries, candy, snack foods, and
bottled water.
Health •Professional health services
related •Meals furnished by health facility
•Blood storage units
•Prescription medicines
•Wheelchairs, crutches, canes,
and walkers
•Vehicle modifications for
handicapped individuals
•Oxygen delivery systems
Housing Utilities – including gas, electricity,
water, steam, and heat
General Public Benefit
Museum and Art works and museum property purpublic art chased by governmental, nonprofit orexhibits ganizations, or museums.
Nonprofit,
religious, and
educational
organizations
Promotional items sold to members, vehicles loaned to university employees,
flags sold for profit from veterans’ organizations, youth organizations, school
yearbooks, nonprofit auction sales,
meals and food products furnished by
religious organizations, meals delivered
to homebound elderly and disabled,
and donations of property to nonprofit
organizations.
Exemption for items purchased in a foreign country. The first $800 of material or goods that is both purchased from a retailer in a foreign country by an
individual and personally hand–carried into California from the foreign country within any 30-day period is exempt from use tax. This exemption does not
apply to property sent or shipped to California.
EXAMPLE
Courtney traveled to Cancun and purchased a $400 wooden chair that she
brought back with her to California. She was not charged sales tax in Cancun
and will not owe California use tax because the purchase price is under $800.
Where to Report Use Tax
Taxpayers may report and pay use tax directly to the State Board of Equalization (BOE) using the electronic registration system (eReg) on the BOE website at boe.ca.gov/elecsrv/ereg/index.html. On the eReg page, click on the
“Get Started” button and select the option “Pay use tax on one-time purchase
item(s)” from the Main Menu.
If the taxpayer has not already paid all use tax due to the State Board of Equalization, he or she may report and pay the use tax due on Form 540, California
Resident Income Tax Return.
If the taxpayer requests an extension
to file his or her income tax return,
wait until he or she files the tax
return to report purchases subject
to use tax and make the use tax
payment.
74 Chapter 3
Extensions to file. If the taxpayer requests an extension to file his or her income tax return, wait until he or she files the tax return to report purchases
subject to use tax and make the use tax payment.
Penalty. Failure to timely report and pay the use tax due may result in the assessment of penalties.
Changes in use tax reported. Do not file Form 540X, Amended Individual Income Tax Return, to revise the use tax previously reported. If the taxpayer has
changes to the amount of use tax previously reported on the original return
contact the State Board of Equalization.
NOTES
Calculate Use Tax
To calculate the use tax amount due and report use tax on the income tax return, use either the Use Tax Worksheet, below, or the Use Tax Table, page 79. Individual purchases of $1,000 or more must be calculated separately using the Use
Tax Worksheet.
Use Tax Worksheet. Taxpayers must use the Use Tax Worksheet to calculate their
use tax liability, if any of the following apply:
•The taxpayer prefers to calculate the amount of use tax due based upon actual purchases subject to use tax, rather than based on an estimate.
•The taxpayer owes use tax on any item purchased for use in a trade or business not registered with the State Board of Equalization.
•The taxpayer owes use tax on purchases of individual items with a purchase
price of $1,000 or more.
Use Tax Worksheet
1)Enter purchases from out-of-state sellers made without payment of
California sales/use tax.
If the taxpayer chooses to estimate the use tax due on individual,
nonbusiness items purchased for less than $1,000 each, only
enter purchases of items with a purchase price of $1,000 or
more plus items purchased for use in a trade or business
not registered with the State Board of Equalization. . . . . . . . . . . . . . . . 1)__________
2)Enter the decimal equivalent of the applicable sales and
use tax rate. Find the applicable city or county sales and
use tax rate at boe.ca.gov/sutax/pam71.htm.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__________
3)Multiply line 1 by the tax rate on line 2, and enter the result.. . 3)__________
4)If the taxpayer chooses to estimate the use tax due on
individual, nonbusiness items purchased for less than $1,000
each, enter the use tax amount due from the Use Tax Table,
page 79. If all purchases are included in line 1, enter zero.. . . . 4)__________
5)Add line 3 and line 4. This is the total use tax.. . . . . . . . . . . . . . . . . . . . . . . . . . 5)__________
6)Enter any sales of use tax paid to another state for
purchases included on line 1............... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6)__________
7)Subtract line 6 from line 5. This is the total use tax due.
Enter the amount on line 95, Form 540. If the amount is
less than zero, enter zero. . ................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7)__________
Chapter 3 75
NOTES
Purchases Subject to Use Tax (Line 1). Report purchases of items that would
have been taxable if purchased from a California retailer unless the taxpayer’s
receipt shows that California tax was paid directly to the retailer. For example,
generally, a taxpayer would include purchases of clothing, but not purchases of
food products or prescription medicine.
•Include handling charges.
•Do not include any other state’s sales or use tax paid on the purchases.
•Enter only purchases made during the year that corresponds with the tax
return the taxpayer is filing.
• If the taxpayer traveled to a foreign country and carried items back to California, generally use tax is due on the purchase price of the goods listed on the
U.S. Customs Declaration less the $800 per-person exemption. For the hand
carried items, report the amount of purchases in excess of the $800 per person exemption. The $800 exemption does not apply to goods sent or shipped
to California by mail or other common carrier. For goods sent or shipped,
report the entire amount of the purchases.
•If filing status is Married/RDP Filing Separately, taxpayers may elect to report one-half of the use tax due or the entire amount on either California
income tax return. If the taxpayer elects to report one-half, the spouse/RDP
may report the remaining half on his or her income tax return or on the individual use tax return available from the State Board of Equalization.
Report and pay any use tax owed on the following purchases directly to the
State Board of Equalization, not on the California income tax return.
•Vehicles, vessels, and trailers that must be registered with the Department of
Motor Vehicles.
•Mobile homes or commercial coaches that must be registered annually as
required by the Health and Safety Code.
•Vessels documented with the U.S. Coast Guard.
•Aircraft.
•Leases of machinery, equipment, vehicles, and other tangible personal
property.
•Cigarettes and tobacco products when the purchaser is registered with the
State Board of Equalization as a cigarette and/or tobacco products consumer.
Sales and Use Tax Rate (Line 2). Enter the sales and use tax rate applicable to
the place in California where the property was used, stored, or otherwise consumed. If the taxpayer does not know the applicable city or county sales and
use tax rate, go to the State Board of Equalization’s website at boe.ca.gov and
click on City and County Tax Rates.
Credit for Tax Paid to Another State (Line 6). This is a credit for tax paid to other states on purchases reported on line 1. A taxpayer can claim a credit up to the
amount of tax that would have been due if the purchase had been made in California. For example, if Josie paid $8 sales tax to Idaho for a purchase, and would
have paid $6 in California, she can claim a credit of only $6 for that purchase.
76 Chapter 3
EXAMPLE #1
NOTES
Coleen lives in Los Angeles (9% sales tax rate) and purchased a television
for $2,500 from an out-of state retailer that did not collect sales tax. She must
use the Use Tax Worksheet, below, to calculate the use tax due on the price
of the television, since the price of the television is $1,000 or more. Coleen
will owe $225 use tax on her California income tax return, illustrated in the
following worksheet.
Use Tax Worksheet—Example #1
$2,500
0.0900
$225
$0
$225
$0
purchases included on line 1............... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6)__________
$225
less than zero, enter zero. . ................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7)__________
EXAMPLE #2
Assume the same facts as Example #1, except Coleen paid 7% sales tax on the
television at the time of purchase. She will owe $50 use tax on her California
income tax return, illustrated in the following worksheet.
Chapter 3 77
NOTES
Use Tax Worksheet—Example #2
$2,500
0.0900
$225
$0
$225
$0
purchases included on line 1.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6)__________
$225
less than zero, enter zero. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7)__________
EXAMPLE
Jean purchased a computer monitor for $400, a rare coin for $300, and designer clothing for $450 from an out-of-state retailer that did not collect use
tax. Although the total price of all the items is $1,150, the price of each item
is less than $1,000. Since none of these individual items are $1,000 or more,
Jean is not required to use the Use Tax Worksheet and may choose to use
the Use Tax Table instead.
Use Tax Table. Taxpayers may use the Use Tax Table to estimate and report the
use tax due on individual nonbusiness items purchased for less than $1,000
each. This option is only available if the taxpayer is permitted to report use tax
on his or her California income tax return and is not required to use the Use Tax
Worksheet to calculate the use tax owed on all purchases.
Simply include the use tax liability that corresponds to the taxpayer’s California AGI (line 17, Form 540) and enter it on line 95. The taxpayer will not be
assessed additional use tax on the individual nonbusiness items purchased for
less than $1,000 each.
Taxpayers may not use the Use Tax Table to estimate and report the use tax due
on purchases of items for use in the taxpayer’s business or on purchases of individual nonbusiness items purchased for $1,000 or more each.
78 Chapter 3
Use Tax Table
NOTES
CA Adjusted Gross Income (AGI) Range
Use Tax Liability
Less than $10,000....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 2
$10,000 to $19,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
20,000 to 29,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
30,000 to 39,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
40,000 to 49,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
50,000 to 59,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
60,000 to 69,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
70,000 to 79,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
80,000 to 89,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
90,000 to 99,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31
100,000 to 124,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
125,000 to 149,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 45
150,000 to 174,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
175,000 to 199,999....................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61
More than $199,999....................................................... . . . . . . Multiply AGI by 0.033% (.00033)
Combination of purchased items. If the taxpayer has a combination of individual items purchased for $1,000 or more, and/or items purchased for use in a
trade or business not registered with the State Board of Equalization, and individual, nonbusiness items purchased for less than $1,000, he or she may either:
• Use the Use Tax Worksheet to compute use tax due on the total of all purchases,
or
•Use the Use Tax Worksheet to compute use tax due on all individual items purchased for $1,000 or more plus items purchased for use in a trade or business,
and use the Use Tax Table to estimate the use tax due on individual, nonbusiness items purchased for less than $1,000, then add the amounts and report
the total use tax on line 95, Form 540.
EXAMPLE
In 2015, Teddy lived in San Luis Obispo, which has a sales tax rate of 8%,
and had an AGI of $60,575. The total price of the items Teddy purchased from
out-of-state retailers that did not collect use tax was $1,900, which includes
a $1,200 television, and a $700 painting.
Teddy may choose to calculate the use tax due on the total price of $1,900 using the Use Tax Worksheet, which results in him owing $152 in use tax ($1,900
× 0.080 = $152).
Alternatively, he may choose to calculate the use tax due on the $1,200 price
of the television using the Use Tax Worksheet and estimate his use tax liability
for the painting and table by using the Use Tax Table, which is illustrated in
the following worksheet.
Chapter 3 79
NOTES
Use Tax Worksheet—Combination Example
$1,200
0.0800
$96
$21
$117
$0
purchases included on line 1.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6)__________
$117
less than zero, enter zero. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7)__________
Objective 3-C.
3) Becky lives in California. Which of the following purchases is she potentially
required to pay use tax on?
a) A new king-sized mattress and bedframe from a local mattress warehouse.
b)A nightstand from an online furniture store.
c) A case of Doritos chips from online retailer Amazon.com.
d)A smart TV from a local electronics store.
80 Chapter 3
NOTES
Multiple Choice
1) In 2015, Howard and Betty file jointly with an AGI of $255,000. They want to
itemize their deductions for California and they claimed the following itemized deductions on their federal Schedule A.
•State and local taxes: $23,525
•Real estate taxes: $9,875
•Personal property taxes: $550
•Home mortgage interest: $13,540
•Mortgage insurance premiums: $1,375
•Gifts to charity: $5,300
What is Howard and Betty’s total California itemized deductions?
a)$54,165
Incorrect. Howard and Betty may not claim the entirety of the itemized
deductions claimed on their federal Schedule A for California
purposes because of the differences in California and federal
law.
b)$52,790
Incorrect. Howard and Betty’s total federal itemized deductions minus
the mortgage insurance premiums (not allowable itemized deduction for California purposes) does not take into account that
state and local taxes are not deductible for California purposes
as well.
c)$29,265
Correct. Howard and Betty must subtract the amount for state and local
taxes and mortgage insurance premiums as those deductions
are not allowable for California itemized deduction purposes.
d)$30,640
Incorrect. Howard and Betty have subtracted the state and local taxes from
their federal itemized total, but mortgage insurance premiums
also need to be subtracted for California purposes.
2) In 2015, Bob (67 years old) and Geri (55 years old) are filing jointly and have
two dependent children. How much is their total exemption credit?
a)$1,001
Correct. Married Filing Jointly ($218) plus senior ($109) plus dependent
child ($337) plus dependent child ($337) equals $1,001.
b)$892
Incorrect. The exemption total of $892 does not account for the additional
senior exemption for Bob, who is over age 65.
c)$555
Incorrect. The exemption total of $555 does not account for the additional
senior exemption for Bob, who is over age 65, and only counts
one dependent child in the exemption total, instead of two.
Chapter 3 81
NOTES
d)$1,110
Incorrect. The exemption total of $1,110 has an incorrect additional $109
exemption. Geri is not over age 65, and neither Bob nor Geri
is blind, therefore, the sum total of their exemptions credits is
$1,001.
3) Becky lives in California. Which of the following purchases is she potentially
required to pay use tax on?
a) A new king-sized mattress and bedframe from a local mattress warehouse.
Incorrect. Becky bought a mattress from a local mattress warehouse and
presumably paid local sales tax on the purchase and therefore
will not owe any use tax on the mattress.
b) A nightstand from an online furniture store.
Correct. Becky’s must pay use tax for her purchase of a nightstand from
an online furniture store if she did not pay sales tax at the time
of purchase.
c) A case of Doritos chips from online retailer Amazon.com.
Incorrect. Although Becky bought an item from an online retailer, she
would not owe use tax because food items are specifically exempt from sales and use tax in California.
d) A smart TV from a local electronics store.
Incorrect. Becky bough a TV from a local electronics store that presumably charged her sales tax at the time of purchase, therefore, she
would not owe any use tax on the TV.
82 Chapter 3
4
Tax Credits, AMT, and Other Taxes
CPE/CE
Learning Objectives
4-A Determine eligibility for the California Child and Dependent Care Credit
and calculate the credit.
4-B Determine eligibility and calculate other California tax credits for personal income tax purposes.
4-C Recognize when the Mental Health Services Tax and the California alternative minimum tax (AMT) applies to certain taxpayers.
Glossary Terms
Alternative minimum tax (AMT). The AMT applies to taxpayers who have
certain types of income that receive favorable treatment, or who qualify for certain deductions, under the tax law. These tax benefits can significantly reduce
the regular tax of some taxpayers with higher incomes. The AMT sets a limit on
the amount these benefits can be used to reduce total tax.
Nonrefundable credit. A credit that can reduce tax. However, if the total of
the credit is more than the total tax amount, the excess is not refunded to the
taxpayer.
Refundable credit. A credit that is treated as a payment of tax. If the total of
the credit is more than the total tax amount, the excess can be refunded to the
taxpayer.
Determine eligibility for the California Child and Dependent Care Credit and
calculate the credit.
Child and Dependent Care Expenses Credit
A taxpayer may qualify to claim the nonrefundable Child and Dependent Care
Expenses Credit, if he or she (and spouse/RDP) paid someone in California to
care for their child or other qualifying person while the taxpayer worked or
looked for employment. The taxpayer must have earned income to claim the
credit.
If a taxpayer qualifies for the Child and Dependent Care Credit on the federal
return, he or she may also qualify for the California credit. A taxpayer does not
have to claim the federal credit in order to claim the California credit.
If a taxpayer qualifies to claim the California credit, California Form FTB 3506,
Child and Dependent Care Expenses Credit, is used to calculate the amount of the
credit.
If a taxpayer qualifies for the Child
and Dependent Care Credit on the
federal return, he or she may also
qualify for the California credit. A
taxpayer does not have to claim the
federal credit in order to claim the
California credit.
Chapter 4 83
NOTES
Dependent care benefits. If a taxpayer received dependent care benefits but
does not qualify to claim the credit, he or she is not required to complete Form
FTB 3506. If a taxpayer received dependent care benefits and does qualify to
claim the credit, he or she must complete Part IV, Form FTB 3506.
KEY FACT
Differences in California and federal law. The California credit is similar to
the federal credit, except for the following differences.
•California allows the credit only for care provided in California.
•If a taxpayer is a nonresident, he or she must have earned wages from working in California or earned self-employment income from California business
activities.
•The California credit begins at 50% of the federal credit and phases out for
those with an AGI over $40,000 and is completely phased out with an AGI
over $100,000. The federal credit does not phase out.
•RDPs may file a joint California return and claim the credit.
Form FTB 3506
California Form FTB 3506, Child and Dependent Care Expenses Credit, is used to
calculate and claim the Child and Dependent Care Expenses Credit. Form FTB
3506 is similar to federal Form 2441, Child and Dependent Care Expenses, with
some additional information required. Taxpayers must also report the following items for California purposes.
•Nontaxable funds and unearned income received including child support,
property settlements, public assistance benefits, court awards, inheritances,
insurance proceeds, pensions and annuities, Social Security payments, workers’ compensation, unemployment compensation, interest, and dividends.
•The daycare provider’s telephone number and the physical street address
where the care was provided.
•Percentage of time the qualifying person lived in the California home of the
taxpayer.
EXAMPLE
Kylie is a single mother of two. She paid $8,000 in child care expenses to Googols of Learning in Pasadena, California. Her earned income and federal AGI
were $17,300. She is supporting a household of three people on only $17,300
of gross income, with almost half going toward day care. It is reasonable to
assume that she would not be able to do so unless she had other forms of
assistance. Kylie is required to report any nontaxable assistance received
during the year in Part I, Form FTB 3506.
84 Chapter 4
Qualifications
Taxpayers may claim the Child and Dependent Care Expenses Credit if all
eight of the following apply.
1) If the taxpayer is married or an RDP, he or she must file a joint tax return. See
also Married/RDP filing separate exception, below.
2) Care must be provided in California for one or more qualifying persons. See
Qualifying person, below.
3) The taxpayer paid for care so the taxpayer (and spouse/RDP) could work or
look for work. See Work or looking for work, page 87. However, if the taxpayer
did not find a job and has no earned income, he or she does not qualify
for the credit. If the taxpayer’s spouse/RDP was a student or disabled, see
Spouse/RDP who was a student or disabled, page 88.
4) The taxpayer (and spouse/RDP) must have earned income (wages or selfemployment income) during the year. See Earned income, page 88.
5) The taxpayer and the qualifying person(s) live in the same home for more
than half the year.
6) The person who provided care was not the taxpayer’s spouse/RDP, the parent of the taxpayer’s qualifying child, or a person for whom the taxpayer can
claim a dependent exemption. If the taxpayer’s child provided the care, the
child must have been age 19 or older by the end of 2015.
7) The taxpayer reports the required information about the care provider(s)
and information about the qualifying person(s) on Form FTB 3506, Child and
Dependent Care Expenses Credit.
8) The taxpayer’s federal adjusted gross income (AGI) is $100,000 or less.
NOTES
KEY FACT
Married/RDP filing separate exception. Generally, if a taxpayer is married or
an RDP, he or she must file a joint tax return to claim the credit. However, a taxpayer can take the credit on a separate tax return if he or she meets all of the
other qualifications, above, and the following three additional requirements.
•The taxpayer lived apart from his or her spouse/RDP at all times during the
last six months of the year.
•The qualifying person(s) lived in the taxpayer’s home more than half of the
year.
•The taxpayer provided over half the cost of keeping up his or her home.
Qualifying person. For purposes of the credit, a qualifying person is:
•Dependent qualifying child who is under age 13 when the care is provided.
A child who turned 13 during the year qualifies only for the part of the year
when he or she was 12 years old.
•Spouse/RDP who is physically or mentally incapable of self-care and who
has the same principal place of abode as the taxpayer for more than half of
the year.
•Dependent who is physically or mentally incapable of self-care, and who has
the same principal place of abode as the taxpayer for more than half of the
year. For this purpose, whether an individual is the taxpayer’s dependent is
determined without regard to the individual’s gross income, whether the individual files a joint return, or whether the taxpayer is a dependent of another taxpayer.
Chapter 4 85
NOTES
Qualifying child has the same
definition for federal and California
purposes.
Note: Qualifying child has the same definition for federal and California
purposes.
Physically or mentally incapable of self-care. An individual is physically or
mentally incapable of self-care if, as a result of a physical or mental defect, the
individual is incapable of caring for his or her hygiene or nutritional needs,
or requires the full-time attention of another person for the individual’s own
safety or the safety of others.
Tie-Breaker Rules: Qualifying Child of More Than One Person*
If an individual may be claimed as a qualifying child by two or more taxpayers for the same
taxable year, the following rules apply:
If:
Then the child will be treated as the qualifying child of the:
Only one of the persons is the
child’s parent
Parent.
Both of the persons are the
child’s parent but they do not
file a joint return
Parent with whom the child lived for the longer period of time
during the year.
If the child lived with both parents for the same about of time,
the parent who had the higher AGI for the year.
The child’s parents can claim
Person with the highest AGI of all persons claiming the child,
the child as a qualifying
but only if that person’s AGI is higher than the highest AGI of
person but neither parent does any of the child’s parents.
No parent can claim the child
as a qualifying child
Person with the highest AGI of all persons claiming the child.
* These rules assume all other qualifying child requirements are satisfied.
When parents file separate returns,
only one parent qualifies to claim a
child as a qualifying person.
86 Chapter 4
Divorced, RDP terminated, separated, or never-married parents. For divorced, RDP terminated, separated, or never-married parents, special rules apply in determining if the child meets the requirements to be a taxpayer’s qualifying person. When parents file separate returns, only one parent qualifies to
claim a child as a qualifying person. Even if both parents pay for child care for
the same child, both parents cannot qualify for the credit. Some custody agreements designate which parent is entitled to the credit. However, the designated
parent must meet all eight qualifications to claim the credit. To verify that the
taxpayer’s child meets the requirements to be his or her qualifying person, use
the table on page 87.
Rules for Divorced, RDP Terminated, Separated, or Never-Married Parents
If
ALL four of the following apply:
1) The taxpayer's child was under 13 and/
or physically or mentally incapable of
self-care when the care was provided.
Children turning 13 during the year
qualify only for the part of the year they
were 12 years old.
2) One of the following applies:
a)The taxpayer is divorced, legally
separated, or has terminated a
registered domestic partnership.
b)The taxpayer is separated under a
written separation agreement.
c)The taxpayer and the other parent
lived apart at all times during the last
six months of the year. (This includes
parents never married to each other.)
And
Then
The taxpayer was the cus- The child is the
todial parent and can claim taxpayer's qualifying
the dependent exemption
person.
credit for the child.
The taxpayer was the
The child is the
custodial parent and
taxpayer's qualifying
under the provisions of a
person.
decree of divorce, legal
separation, termination
of registered domestic
partnership, or a written
separation agreement,
the noncustodial parent
claimed the dependent
exemption credit, or signed
a statement releasing the
dependent exemption
credit to the noncustodial
parent.
3) One or both parents had custody of the
child for more than half the year.
4) One or both parents provided more than The taxpayer is not the
custodial parent.
half the child’s support for the year.
One or more of the four statements above
do not apply.
NOTES
The child is not the
taxpayer's qualifying
person.
See instructions for
Form FTB 3506.
Custodial parent and noncustodial parent. The custodial parent is the parent
with whom the child lived for the greater number of nights during the year. The
other parent is the noncustodial parent. If the child lived with each parent for
an equal number of nights during the year, the custodial parent is the parent
with the higher adjusted gross income.
The custodial parent is the parent
with whom the child lived for the
greater number of nights during the
year.
Parent works at night. If, due to a parent’s night-time work schedule, a child
lives for a greater number of days, but not nights, with the parent who works at
night, that parent is treated as the custodial parent. On a school day, the child
is treated as living at the primary residence registered with the school.
Nonresidents and part-year residents. Nonresidents must complete and
attach Schedule CA (540NR), California Adjustments—Nonresidents or Part-Year
Residents, to their California return. If Part I of Schedule CA is not fully completed, California may disallow the credit. Nonresidents must have earned income
from California sources to qualify for the credit. A nonresident servicemember’s military wages are considered earned income from a California source for
the purpose of qualifying for the credit. Part-year residents must have earned
income while a California resident or earned income from California sources
while a nonresident to qualify for the credit. See Earned income, page 88.
Work or looking for work. To be work-related, the expenses must allow a
taxpayer to work or look for work. If married (RDP), generally both the taxpayer and spouse/RDP must work or look for work. An exception applies for a
spouse/RDP who is a student or disabled.
Chapter 4 87
NOTES
An expense is not considered work-related merely because a taxpayer had it
while working. The purpose of the expense must be to allow a taxpayer/spouse/
RDP to work. Whether the expense allows a taxpayer/spouse/RDP to work or
look for work depends on the facts.
EXAMPLE
Kelly and Jim pay a babysitter to watch their two children while they go out
to eat and to a movie. The cost of a babysitter while going out to eat is not
normally a work-related expense.
EXAMPLE
Howard works during the day and his spouse works at night and sleeps during the day. They pay for care for their 5-year-old child during the hours when
Howard is working and his spouse is sleeping. Their expenses are considered
work-related.
Spouse/RDP who was a student or disabled. A taxpayer’s spouse is treated
as having earned income for any month that he or she is a full-time student or
physically or mentally disabled (and lived with the taxpayer for more than half
the year).
A taxpayer’s spouse/RDP was a
student if he or she was enrolled as a
full-time student at a school during
any five months of 2014.
Full-time student. A taxpayer’s spouse/RDP was a student if he or she was
enrolled as a full-time student at a school during any five months of the year. A
school does not include a night school or correspondence school.
Disabled. A taxpayer’s spouse/RDP was disabled if he or she was not capable
of self-care.
Earned income. Earned income that counts for calculating the Credit for Child
and Dependent Care Expenses includes the types of income listed in the following chart. Earned income does not include passive income.
Earned Income Includes:
Earned Income Does Not Include:
•Wages, salary, tips, and other taxable employee
compensation, as well as, military compensation
including compensation for service in a combat
zone.
•Net earnings from self-employment.
•Strike benefits.
•Disability payments you report as wages.
•Active duty pay received by servicemembers of
the Armed Forces is considered earned income
regardless of whether the servicemember is
domiciled in this state or elsewhere.
•Pensions or annuities.
•Social security payments.
•Workers’ compensation.
•Interest.
•Dividends.
•Capital gains.
•Unemployment compensation.
•Public assistance.
•California service income excluded under
the Military Spouses Residency Relief Act.
Earned income for student/disabled spouse/RDP. Compute the spouse’s/
RDP’s earned income on a monthly basis.
For each month a taxpayer’s spouse/RDP was a full-time student or disabled,
enter on line 5, Form FTB 3506, the larger of the following:
•The spouse’s/RDP’s actual earned income for that month.
•$250 ($500, if the taxpayer has two or more qualifying persons).
If, in the same month, both the taxpayer and spouse/RDP qualified as either
full-time students or disabled, only one of them receives treatment as having
88 Chapter 4
earned income of $250 (or $500) in that month. For any month that the spouse/
RDP was not a full-time student or disabled, use the spouse’s/RDP’s actual
earned income for that month.
NOTES
Qualified Expenses
Qualified expenses are amounts paid for the care of a taxpayer’s qualifying
person while he or she worked or looked for work.
Qualified Expenses Include:
Qualified Expenses Do Not Include:
•The cost of care for the
qualifying person’s well-being
and protection. If care was
provided by a dependent care
center, the center must meet
all applicable state and local
regulations.
•Cost of pre-school or similar
program below the kindergarten
level.
•Day camp, even if it specialized
in a particular activity, such as
soccer.
•Child support payments.
•Payments made to the parent of the taxpayer’s qualifying
child.
•Payments made to the taxpayer’s spouse/RDP.
•Payments made to the taxpayer’s child who is under
age 19 at the end of the year, even if he or she is not the
taxpayer’s dependent.
•Payments made to a dependent for whom the taxpayer (or
spouse/RDP) can claim a dependent exemption.
•Expenses paid by or reimbursed through a subsidy
program.
•Cost for education (school tuition) at the kindergarten
level and above.
•Overnight camp.
Calculating the Credit
The total qualified expenses the taxpayer incurred and paid during the current
year for the qualifying person(s) are reported on column e, line 2, Part III, Form
FTB 3506.
Use the Credit Percentage Chart, below, to determine the decimal amount to enter on line 7, Form FTB 3506. This is the same percentage amount allowable
for the federal credit. The California credit then begins at 50% of the federal
amount and phases out beginning with a federal AGI over $40,000. See California AGI Limitation and Phaseout Chart, below.
Credit Percentage Chart
If Federal AGI is Over:
$0
15,000
17,000
19,000
21,000
23,000
25,000
27,000
But Not
The Decimal
Over
Amount on Line 7 is:
$15,000
.35
17,000
.34
19,000
.33
21,000
.32
23,000
.31
25,000
.30
27,000
.29
29,000
.28
If Federal But Not
The Decimal
AGI is Over:
Over
Amount on Line 7 is:
$29,000 $31,000
.27
31,000 33,000
.26
33,000 35,000
.25
35,000 37,000
.24
37,000 39,000
.23
39,000 41,000
.22
41,000 43,000
.21
43,000 No limit
.20
California AGI Limitation and Phaseout Chart
If federal AGI is:
Decimal amount for line 9 is:
$40,000 or less. . . . . .......................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .50
Over $40,000 but not over $70,000.. ........................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .43
Over $70,000 but not over $100,000......................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .34
Over $100,000. . . . . . . . ......................................................... . . . . . . . Taxpayer does not qualify for credit.
Chapter 4 89
NOTES
EXAMPLE #1
Alexander Mooney pays preschool expenses for his child, Julie Mooney.
In 2014, he incurred and paid $5,865 in total expenses. His federal AGI for
the year is $85,000. His 2014 California Child and Dependent Care Expenses Credit is calculated on the following Form FTB 3506, illustrated below.
Note: This example reflects tax year 2014. The 2015 form was not available as
of the date of printing.
CALIFORNIA FORM
TAXABLE YEAR
3506
2014 Child and Dependent Care Expenses Credit
Attach to your California Form 540 or Long Form 540NR.
SSN or ITIN
Alexander Mooney
Part I
Example #1
xxx
Unearned Income and Other Funds Received in 2014. See instructions.
SOURCE OF INCOME/FUNDS
AMOUNT
xx
xxx1
SOURCE OF INCOME/FUNDS
AMOUNT
Part II Persons or Organizations Who Provided the Care in California – You must complete this part. See instructions.
1 Enter the following information for each person or organization that provided care in California. Only care provided in California qualifies for the credit.
If you need more space, attach a separate sheet.
Provider
Provider
a. Care provider’s name
Thomas School
b. Care provider’s address
(number, street, apt. no., city, state,
and ZIP Code)
c. Care provider’s telephone number
d. Is provider a person or organization?
e. Identification number (SSN, ITIN, or FEIN)
f. Address where care was provided
(number, street, apt. no., city, state, and
ZIP Code) PO Box not acceptable.
g. Amount paid for care provided
Did you receive dependent care benefits?
1505 Finley St
Minneapolis, MN 55419
( 652 ) 331-1652
Person X Organization
43-1234567
1505 Finley St
Minneapolis, MN 55419
$5,865
(
)
Person
Organization
No. Complete Part III below.
Yes. Complete Part IV on Side 2 before you complete Part III.
Part III Credit for Child and Dependent Care Expenses
2 Information about your qualifying person(s). See instructions.
(a)
Qualifying person’s name
First
Last
Julie
Mooney
(b)
Qualifying person’s
social security number (SSN)
(See instructions)
xxx-xx-xxx1
(c)
date of birth
(DOB – mm/dd/yyyy)
or if disabled
9/16/2008
DOB:_____________
Disabled
Yes
DOB:_____________
Disabled
Yes
(d)
Percentage of
physical custody
(See instructions)
(e)
Qualified expenses you
incurred and paid in 2013 for
the qualifying person’s
care in California
100
5,865
DOB:_____________
Disabled
Yes
3 Add the amounts in column (e) of line 2. Do not enter more than $3,000 for one qualifying person or $6,000 for two
or more qualifying persons. If you completed Side 2, Part IV, enter the amount from line 33 . . . . . . . . . . . . . . . . . . . . . .
4 Enter YOUR earned income. See instructions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3
4
3,000 00
85,000 00
5
85,000 00
Nonresidents: Enter only your earned income from California sources. If you do not have earned income from
California sources, stop, you do not qualify for the credit. Military servicemembers, see instructions.
Part-year residents: Enter the total of (1) your earned income from California sources received while you were a
nonresident and (2) all earned income received while you were a resident. Military servicemembers, see instructions.
5 If married or an RDP filing a joint return, enter YOUR SPOUSE’S/RDP’s earned income. (If your spouse/RDP was a
student or was disabled, see the instructions.) If you are not filing a joint tax return, enter the amount from line 4 . . . . .
Nonresidents: Enter only your spouse’s/RDP’s earned income from California sources. If your spouse/RDP does not have
earned income from California sources, stop, you do not qualify for the credit. Military servicemembers, see line 4 instructions.
Part-year residents: Enter the total of (1) your spouse’s/RDP’s earned income from California sources received while he or
she was a nonresident and (2) all earned income your spouse/RDP received while he or she was a resident. Military
servicemembers, see line 4 instructions.
6
7
8
9
10
11
12
Enter the smallest of line 3, line 4, or line 5. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Enter the decimal amount shown in the chart of the instructions for line 7 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Multiply line 6 by the decimal amount on line 7 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Enter the decimal amount listed in the chart of the instructions for line 9 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Multiply the amount on line 8 by the decimal amount on line 9 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Credit for prior year expenses paid in 2014. See instructions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Add line 10 and line 11. Enter the amount here and on Form 540, line 40; or Long Form 540NR, line 50 . . . . . . . . . . . . . . . . .
90 Chapter 4
7251133
6
7
8
9
10
11
12
FTB 3506 2014
3,000 00
X..20
___ ___
600 00
X..34
___ ___
204 00
00
204 00
Side 1
NOTES
EXAMPLE #2
Assume the same facts as Example #1, however, Alexander received $2,000 in
dependent
care benefits through his employer. His credit amount is calculated
CALIFORNIA FORM
TAXABLE YEAR
and
illustrated
on
the
following
Form
FTB
3506.
3506
2013 Child and Dependent Care Expenses Credit
Attach to your California Form 540 or Long Form 540NR.
Example #2
Name(s)
shown on tax
return
Part
IVasDependent
Care
Benefits
SSN or ITIN
13 Enter the total amount of dependent care benefits you received for 2014. This amount should be shown in box 10 of
your
W-2.
Do notand
include
that were in
reported
to you
as wages in box 1 of Form(s) W-2. If you were
Part
I Form(s)
Unearned
Income
Otheramounts
Funds Received
2013. See
instructions.
self-employed
or a partner, include amounts you received under
a dependent care
assistance
program from your
SOURCE
OF INCOME/FUNDS
AMOUNT
SOURCE
OF INCOME/FUNDS
AMOUNT
2,000 00
sole proprietorship or partnership . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
13
14 Enter the amount, if any, you carried over from 2013 and used in 2014 during the grace period . . . . . . . . . . . . . . . . . . .
14
00
15 Enter the amount, if any, you forfeited or carried forward to 2015. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
15 (
) 00
2,000 00
16
Combine
line 13orthrough
line 15 Who
. . . . .Provided
. . . . . . . the
. . . Care
. . . . .in. .California
. . . . . . . . –. .You
. . . must
. . . . .complete
. . . . . . . this
. . . .part.
. . . .See
. . . instructions.
..........
16
Part
II Persons
Organizations
17 Enter the total amount of qualified expenses incurred in 2013 for the
1 Enter the following information for each person or organization that provided care in California. Only care provided in California qualifies for the credit.
5,865 00
the more
qualifying
See instructions.
Ifcare
youofneed
space,person(s).
attach a separate
sheet. . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2,000 00
18 Enter the smaller of line 16 or line 17 . . . . . . . . . . . . . . . . . . . . . .Provider
. . . . . . . . . . . . . . 18
Provider
85,000 00
19
Enterprovider’s
YOUR earned
a. Care
nameincome. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
20 If married or an RDP filing a joint return, enter YOUR SPOUSE’S/RDP’s earned
b. Care provider’s address
income (if
yourapt.
spouse/RDP
was a student or was disabled, see the instructions
(number,
street,
no., city, state,
for ZIP
line Code)
5); if married or an RDP filing a separate tax return, see the instructions
and
85,000
for the
amount telephone
to enter; all
others, enter the amount
from
c. Care
provider’s
number
(
) line 19 . . . . . . . . . . . . . . 20
(
) 00
2,000
21 Enter the smallest of line 18, line 19, or line 20. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21
00
d. Is provider a person or organization?
Person
Organization
Person
Organization
22
Enter $5,000number
($2,500(SSN,
if married
RDP filing separately and you were required
e. Identification
ITIN,ororan
FEIN)
5,000 00
to enter where
your spouse’s/RDP’s
earned income on line 20) . . . . . . . . . . . . . . . . . . . . . . 22
f. Address
care was provided
23 (number,
Enter thestreet,
amount
line 13
thatand
you received from your sole proprietorship or partnership. If you did not receive
apt.from
no., city,
state,
anyCode)
amounts,
enter
...........................................................................
23
00
ZIP
PO Box
not -0acceptable.
2,000 00
24
Subtractpaid
line for
23 care
fromprovided
line 16 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
g. Amount
25
Deductible
benefits.
Enter
the
smallest
of
line
21,
line
22,
or
line
23.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
.
25
00
Did you receive dependent care benefits?
No. Complete Part III below.
2,000 00
26 Excluded benefits. Subtract line 25 from the smaller of line 21 or Yes.
line 22.
If zero orPart
less, IV
enter
..2
. . before
. . . . . . you
. . . .complete
...
26 Part III.
Complete
on -0Side
27
Taxable
benefits.
Subtract
line
26
from
line
24.
If
zero
or
less,
enter
-0- . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
27
00
Part III Credit for Child and Dependent Care Expenses
3,000 00
28
Enter $3,000
($6,000
two or more
qualifying
persons)
.................................................
28
2 Information
about
your ifqualifying
person(s).
See
instructions.
(e)
2,000 00
29 Add line 25 and line 26. .(a). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (b)
. . . . . . . . . . . . . . . . . . . . . . (c)
. . . . . . . . . . . . . . . . (d) 29
Qualifying person’s name
Percentage of
Qualified expenses you
30 Subtract the amount on line 29 from the amount on line 28. social
If zero
or less,
stop.(SSN)
You do not qualify
the credit. physical custody incurred and paid in 2013 for
security
number
date offor
birth
instructions)
the qualifying
person’s 00
1,000
Exception – If you paid 2013 expenses in 2014, see instructions (See
for line
11 . . . . . . . . . . . . .(DOB
. . . –. .mm/dd/yyyy)
. . . . . . . . . . . . (See
. . . .instructions)
30
First
Last
or if disabled
care in California
5,865 00
31 Complete Side 1, Part III, line 2. Add the amounts in column (e) and enter the total here . . . . . . . . . . . . . . . . . . . . . . . . .
31
DOB:_____________
1,000
32 Enter the amount from your federal Form 2441, Part III, line 31 . . . . . . . . . . . . . . . . . . . . . .Disabled
. . . . . . . . .Yes
.............
32
00
33 Enter the smaller of line 30, line 31, or line 32. Also, enter this amount on Side 1, Part III, line
3 and
DOB:_____________
1,000 00
complete line 4 through line 12 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .Disabled
. . . . . . . . .Yes
.............
33
DOB:_____________
Disabled
Yes
Worksheet – Credit for 2013 Expenses Paid in 2014
1. Enter your 2013 qualified expenses paid in 2013. If you did not claim the credit for these expenses on your 2013
Example #2
3 Add the amounts in column (e) of line 2. Do not enter more than $3,000 for one qualifying person or $6,000 for two
tax return, get and complete a 2013 form FTB 3506 for these expenses. You may need to amend your 2013 tax return . . . . . . . 1.____________________
1,000 00
3
or more qualifying persons. If you completed Side 2, Part IV, enter the amount from line 33 . . . . . . . . . . . . . . . . . . . . . .
2. Enter your 2013 qualified expenses paid in 2014 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2.____________________
85,000 00
4
4 Enter YOUR earned income. See instructions. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
3. Add the amounts on line 1 and line 2 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3.____________________
Nonresidents: Enter only your earned income from California sources. If you do not have earned income from
4. California
Enter $3,000
if care
was
($6,000
forservicemembers,
two or more) . .see
. . .instructions.
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.____________________
sources,
stop,
youfor
doone
not qualifying
qualify for person
the credit.
Military
Enter
total ofreceived
(1) your earned
income
from California
sources
received while you were a
5. Part-year
Enter anyresidents:
dependent
carethe
benefits
for 2013
and excluded
from your
income
nonresident
(2)form
all earned
income
received
(from yourand
2013
FTB 3506,
Part
IV, linewhile
26) .you
. . .were
. . . .a.resident.
. . . . . . .Military
. . . . . .servicemembers,
. . . . . . . . . . . . . see
. . . instructions.
. . . . . . . . . . . . . . . . . . . . . . . 5.____________________
5 IfSubtract
married amount
or an RDP
jointamount
return, enter
YOUR
6.
on filing
line 5afrom
on line
4 andSPOUSE’S/RDP’s
enter the result . earned
. . . . . .income.
. . . . . . .(If
. .your
. . . . spouse/RDP
. . . . . . . . . . was
. . . .a. . . . . . . . . . . 6.____________________
85,000 00
or your
was disabled,
the instructions.)
If you
are for
not 2013
filing and
a joint
taxthe
return,
enteramount
the amount
7. student
Compare
and your see
spouse’s/RDP’s
earned
income
enter
smaller
. . . . .from
. . . . line
. . . .4........... . . . .5. . 7.____________________
Nonresidents: Enter only your spouse’s/RDP’s earned income from California sources. If your spouse/RDP does not have
8. If filing a joint tax return, compare the amounts on line 3, line 6, and line 7 and enter the smallest amount. If not filing
earned income from California sources, stop, you do not qualify for the credit. Military servicemembers, see line 4 instructions.
a joint taxresidents:
return, enter
earned
income.
. . . . . . . . . . . .earned
. . . . . income
. . . . . . from
. . . . California
. . . . . . . . sources
. . . . . . .received
. . . . . . while
. . . . .he. .or. . . . . . . . . . 8.____________________
Part-year
Enteryour
the total
of (1)
your spouse’s/RDP’s
wasthe
a nonresident
andyour
(2) all
earned
your spouse/RDP
9. she
Enter
amount from
2013
formincome
FTB 3506,
Side 1, Part received
III, line 6while
. . . .he
. .or
. . she
. . . was
. . . .a .resident.
. . . . . . .Military
. . . . . . . . . . . . . . . . . . . . 9.____________________
servicemembers, see line 4 instructions.
10. Subtract amount on line 9 from amount on line 8 and enter the result. If zero or less, stop here. You cannot increase
1,000 00
6 Enter
smallest
line 3, line
4, or
line 5. ...................................................................................................................... . . . .6. . 10.____________________
your the
credit
by anyof
previous
year’s
expenses
7
X..20
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7251133
FTB 3506 2013
Side 1
7252133
Side 2 FTB 3506 2013
For answer, see Self-Quiz Answers, page 107.
Objective 4-A.
1) In 2015, Karen and Gene filed jointly. They have two children under the age
of 13. They both work and have combined wages of $70,000 and federal AGI
of $73,500. They paid $8,400 ($4,200 each) to care for both children at Tiny Tots
Daycare. How much is their California Child and Dependent Care Credit?
a) $6,000
b) $2,040
c) $1,200
d) $408
Chapter 4 91
NOTES
Determine eligibility and calculate other California tax credits for personal
income tax purposes.
Tax Credits
If the taxpayer is not claiming
any special credits, determine
if the taxpayer qualifies for the
nonrefundable child and dependent
care expenses credit or the
nonrefundable renter’s credit.
To figure and claim most tax credits, complete a separate form or schedule and
attach it to Form 540. See the California Credit Chart—Individual, page 93, for a
description of credits, credit name, credit code, and form or schedule name.
The total amount that can be claimed for all credits is limited by the tentative
minimum tax (TMT). See Credit Limitation Worksheet, below, to see if credits
may be limited. If the taxpayer is not claiming any special credits, determine
if the taxpayer qualifies for the nonrefundable child and dependent care expenses credit or the nonrefundable renter’s credit.
Credit Limitation Worksheet
Box A — Did the taxpayer complete federal Schedule C, D, E, or F and claim or receive any of the
following. (Note: If the business gross receipts are less than $1,000,000 from all trades or businesses, the taxpayer does not have to report AMT).
•Accelerated depreciation in excess of
•Amortization of pollution control facilities,
straight-line,
•Income/loss from tax shelter farm activities,
•Intangible drilling costs,
•Income/loss from passive activities,
•Depletion,
•Income from long-term contracts using the
•Circulation expenditures,
percentage of completion method, or
•Pass-through AMT adjustment from an estate
•Research and experimental expenditures,
or trust reported on Schedule K-1 (541).
•Mining exploration/development costs,
Yes.The taxpayer must complete Schedule P (540).
No. Go to Box B.
Box B — Did the taxpayer claim or receive any of the following.
•Investment interest expense,
•Income from incentive stock options in excess of the amount reported on the return, or
•Income from installment sales of certain property.
No. Go to Box C.
Box C — If filing status is:
Is line 17, Form 540 more than:
Single or HOH.......... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 246,451
Married/RDP Filing Jointly or QW.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . $ 328,601
Married/RDP Filing Separately.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . $ 164,299
No. Credits are not limited. Go to the instructions for line 40, Form 540.
92 Chapter 4
NOTES
California Credit Chart—Individual
Code Credit Name
Form
n/a
Description
233
California Competes
Credit
223
California Motion Picture
and Television Production
Credit
197
Child Adoption Costs
Credit
232
Child and Dependent
Care Expenses Credit
FTB 3506
Similar to the federal credit except that the California
credit amount is based on a specified percentage of the
federal credit.
235
College Access Credit
n/a
The credit, which is allocated and certified by the
California Educational Facilities Authority (CEFA), is 55%
(2015) of the amount contributed to the College Access
Tax Credit Fund.
209
Community Development
Financial Institutions
Investment Credit
n/a
20% of qualified investments made into a community
development financial institution. Obtain certification
from: California Organized Investment Network (COIN),
Department of Insurance, 300 Capitol Mall, Suite 1600,
Sacramento CA 95814. Website: insurance.ca.gov.
173
Dependent Parent Credit
205
Disabled Access for
Eligible Small Businesses
Credit
FTB 3548
Similar to the federal credit, but limited to $125 per
eligible small business, and based on 50% of qualified
expenditures that do not exceed $250.
204
Donated Agricultural
Products Transportation
Credit
FTB 3547
50% of the costs paid or incurred for the transportation
of agricultural products donated to nonprofit charitable
organizations.
224
Donated Fresh Fruits or
Vegetables Credit
FTB 3811
10% of the donation’s costs for qualified taxpayers who
donate fresh fruits or fresh vegetables to a California
food bank.
FTB 3541
The credit amount is determined separately for each
applicant and is available to businesses that want to
come to California or stay and grow in California.
The credit, which is allocated and certified by the
California Film Commission, is 20% of expenditures
attributable to a qualified motion picture and 25% of
production expenditures attributable to an independent
film or a TV series that relocates to California.
Worksheet 50% of qualified costs in the year an adoption is ordered.
Worksheet Must use Married/RDP Filing Separately status and have
a dependent parent.
Earned Income Tax Credit
AGI or earned income less than $13,870 may qualify.
Earned income specifically excludes self-employment
income.
203
Enhanced Oil Recovery
Credit
FTB 3546
1/3 of the similar federal credit but limited to qualified
enhanced oil recovery projects located within California.
218
Environmental Tax Credit
FTB 3511
Five cents ($0.05) for each gallon of ultra-low sulfur
diesel fuel produced during the taxable year by a small
refiner at any facility located in California.
170
Joint Custody Head of
Household Credit
172
Low-Income Housing
Credit
FTB 3521
Similar to the federal credit but limited to low-income
housing in California.
213
Natural Heritage
Preservation Credit
FTB 3503
55% of the fair market value of the qualified contribution
of property donated to the state, any local government,
or any nonprofit organization designated by a local
government.
New Employment Credit
Worksheet 30% of tax up to $431 for taxpayers who are single or
married/RDP filing separately, who have a child and
meet the support test.
For employers with a net increase in full-time employees
who work in a designated census tract or economic
development area.
Chapter 4 93
NOTES
California Credit Chart—Individual
Code Credit Name
None Nonrefundable Renter’s
Credit
Form
Description
Worksheet For California residents who paid rent for their principal
residence for at least six months during the year and
whose AGI does not exceed a certain limit.
187
Other State Tax Credit
Schedule S Net income tax paid to another state or a U.S.
possession on income also taxed by California.
188
Prior Year Alternative
Minimum Tax (AMT)
Credit
FTB 3510
Must have paid alternative minimum tax in a prior year
and have no alternative minimum tax liability in the
current year.
162
Prison Inmate Labor
Credit
FTB 3507
10% of wages paid to prison inmates.
183
Research Credit
FTB 3523
Similar to the federal credit but limited to costs for
research activities in California.
163
Senior Head of Household Worksheet 2% of taxable income up to $1,317 for seniors who
Credit
qualified for Head of Household in 2013 or 2014 and
whose qualifying individual died during 2013 or 2014.
Repealed/expired credits with carryover provisions: The following credits have expired or been repealed, but had carryover provisions. An individual may claim these credits only if there is a carryover
available from prior years. If an individual is not required to complete Schedule P, Alternative Minimum
Tax and Credit Limitations, use Form FTB 3540, Credit Carryover and Recapture Summary, to calculate
the credit carryover to future years.
Credit Name
Code
Agricultural Products Credit....... 175
Commercial Solar Electric
System Credit......................... 196
Commercial Solar Energy Credit... 181
Employer Childcare Contribution
Credit. . .................................... 190
Employer Childcare Program
Credit. . .................................... 189
Employer Ridesharing Credit:
Large employer...................... 191
Small employer. . ..................... 192
Transit passes........................ 193
Energy Conservation Credit........ 182
Enterprise Zone (EZ) Employee
Credit. . .................................... 169
Enterprise Zone (EZ) Hiring and
Sales or Use Tax Credit.......... 176
All credits allowed on the
California income tax return are
nonrefundable. However, several
credits do have carry over provisions
to later tax years if the credit is not
entirely used up in the current year.
Credit Name
Code
Farmworker Housing Credit –
Construction .......................... 207
Joint Strike Fighter Credit
Wages ................................... 215
Property Costs. . ...................... 216
Local Agency Military Base
Recovery Area (LAMBRA) Hiring
and Sales or Use Tax Credit... 198
Los Angeles Revitalization Zone
(LARZ) Hiring and Sales or Use
Tax Credit............................... 159
Low-Emission Vehicles Credit.... 160
Manufacturing Enhancement
Area (MEA) Hiring Credit. . ...... 211
Manufacturers’ Investment
Credit (MIC)............................ 199
New Jobs Credit......................... 220
Credit Name
Code
Orphan Drug Credit. . ................... 185
Political Contributions Credit...... 184
Recycling Equipment Credit.. ...... 174
Residential Rental and Farms
Sales Credit............................ 186
Rice Straw Credit.. ...................... 206
Ridesharing Credit (pre-1989)..... 171
Salmon and Steelhead Trout
Habitat Restoration Credit...... 200
Solar Energy Credit. . ................... 180
Solar Pump Credit. . ..................... 179
Solar or Wind Energy System
Credit. . .................................... 217
Targeted Tax Area (TTA) Hiring
and Sales or Use Tax Credit... 210
Water Conservation Credit......... 178
Young Infant Credit..................... 161
All credits allowed on the California income tax return are nonrefundable.
However, several credits do have carry over provisions to later tax years if the
credit is not entirely used up in the current year.
Credit carryover. If a taxpayer claims a credit with carryover provisions and
the amount of the credit available in the current year exceeds the taxpayer’s
tax, carry over any excess credit to future years until the credit is used (unless the carryover period is a fixed number of years). If a taxpayer claims a
credit carryover for an expired credit, use Form FTB 3540, Credit Carryover and
Recapture Summary, to calculate the amount of the credit. Otherwise, enter the
amount of the credit on Schedule P, Part III, and do not attach Form FTB 3540.
California Form 3540, Credit Carryover and Recapture Summary, is used to report
any credit carryover and calculate any recapture of the employer childcare program credit (ECPC) and farm worker housing credit (FWHC). Recapture of tax
credits may also apply to the following items.
94 Chapter 4
•FTB 3805Z, Enterprise Zone Deduction and Credit Summary.
•FTB 3807, Local Agency Military Base Recovery Area Deduction and Credit Summary.
•FTB 3808, Manufacturing Enhancement Area Credit Summary.
•FTB 3809, Targeted Tax Area Deduction and Credit Summary.
NOTES
Schedule P. Part III, Schedule P, Alternative Minimum Tax and Credit Limitations,
is completed when a taxpayer is claiming more than two credits on his or her
California tax return. Also, a taxpayer must file Schedule P, to carry forward
any credit to a future tax year that cannot be fully used in the current tax year.
Federal credit not available for California purposes. California does not
have a foreign tax credit. California does not allow a deduction for taxes paid
to a foreign country.
California does not have an Earned
Income Credit.
Nonresidents and part-year residents. Tax credits for nonresidents and partyear residents are generally allowed the same as for full-year residents. The
credit is then pro-rated by the California income percentage on Form 540NR.
See Nonresidents and part-year residents, page 87.
Repealed Tax Credits
The California legislature repealed and made changes to all of the Geographically Targeted Economic Development Area (G-TEDA) Tax Incentives. Enterprise Zones (EZ) and Local Agency Area Military Base Recovery Areas (LAMBRA) were repealed on January 1, 2014. The Targeted Tax Areas (TTA) and Manufacturing Enhancement Areas (MEA) both expired on December 31, 2012. In
addition, the EZ Employee Credit and the New Jobs Credit are also repealed
as of January 1, 2014.
Prior to January 1, 2014, all G-TEDA hiring and sales or use tax credits could be
carried over until exhausted. However, new legislation changed the credit carryover period to 10 years for any taxable year beginning on or after January 1,
2014.
Earned Income Credit
New for 2015: California passed legislation to allow a California Earned Income Credit (EIC) for taxpayers with earned income beginning for tax years
beginning in 2015. The California EIC will generally follow the eligibility requirements of the federal EIC, but will be limited to verifiable earned income
that is subject to wage withholding. Earned income includes W-2 wages, salaries, tips, and other employee compensation, but only if such amounts are subject to California withholding. Unlike the federal EIC, the California EIC will
exclude self-employment income from the definition of earned income.
Additionally, the earned income limitation for the California EIC is lower than
those for the federal EIC and is applicable for all filing statuses, as opposed to
having a different upper income limit for Married Filing Jointly filers.
California EIC Income Limitations
Number of qualifying children
None
1
2 or more
CA earned income upper limit
$6,580
$9,880
$13,870
Chapter 4 95
NOTES
California Competes Tax Credit
California allows a nonrefundable credit available to businesses that want to
come to California or stay and grow in California.
The California Competes Credit (CCC) is available for the 2014 through 2024
tax years. Taxpayers must apply to the Governor’s Office of Business and Economic Development (GO-Biz).
Credit amount. The amount of the credit is determined separately for each
applicant on a case-by-case basis by the California Competes Tax Credit Committee (CTCC).
The credit is based on the following factors:
•The number of jobs the taxpayer will create or retain in California.
•The compensation paid or proposed to be paid by the taxpayer to its
employees, including wages and fringe benefits.
•The amount of investment in California by the taxpayer.
•The extent of unemployment or poverty in the area in which the taxpayer’s
project or business is proposed or located.
•The incentives available to the taxpayer in this state, including incentives
from the state, local government, and other entities.
•The incentives available to the taxpayer in other states.
•The duration of the proposed project and the duration the taxpayer commits
to remain California.
•The overall economic impact in California of the taxpayer’s project or
business.
•The strategic importance of the taxpayer’s project or business to the state,
region, or locality.
•The opportunity for future growth and expansion in California by the
taxpayer’s business.
•The extent to which the anticipated benefit to California exceeds the
projected benefit to the taxpayer from the tax credit.
Limitations. 25% of the CCC is reserved for small businesses and not more
than 20% of the amount available may be allocated to any one taxpayer. A small
business is a trade or business with aggregate gross receipts, less returns and
allowances reportable to California, of less than $2 million during the previous
taxable year, but does not include a sexually-oriented business.
Carryover. If the available credit exceeds the current year tax liability or is limited by tentative minimum tax (individual taxpayers only), the unused credit
may be carried over for six years or until the credit is exhausted, whichever occurs first. Apply the credit carryover to the earliest taxable year(s) possible. In
no event can the credit be carried back and applied against a prior year’s tax.
Recapture. Any recapture of a credit approved by the CTCC shall be treated
as a mathematical error appearing on the taxpayer’s return and the amount
of tax resulting from the recapture shall be added to the tax otherwise due by
the taxpayer for the taxable year in which the CTCC’s recapture determination
occurred.
96 Chapter 4
New Employment Credit
The New Employment Credit (NEC) is available for each taxable year beginning on or after January 1, 2014, and before January 1, 2021. The nonrefundable
credit is available to a qualified taxpayer that hires a qualified full-time employee on or after January 1, 2014, and pays or incurs qualified wages attributable to work performed by the qualified employee in a designated census tract
or economic development area, and that receives a tentative credit reservation
for that qualified full-time employee. In order to be allowed a credit, the qualified taxpayer must have a net increase in full-time employees in California,
determined on an annual full-time equivalent basis.
NOTES
Length of credit. An employee can continue to generate a credit for 60 months
from the original date of hire.
Credit carryover. The NEC is nonrefundable and cannot reduce tax below tentative minimum tax. However, a credit carryforward may be claimed for five
taxable years subsequent to the year the credit was generated.
When to claim. The NEC can only be claimed on a timely filed (including
extensions) original tax return. The NEC cannot be claimed on an amended
return.
Credit for Joint Custody Head of Household
If a taxpayer does not qualify for Head of Household filing status because his or
her child did not live in the taxpayer’s home more than half of the taxable year,
he or she may qualify for the credit for joint custody Head of Household instead.
A taxpayer may not claim this credit if he or she used the Married/RDP Filing
Jointly, Head of Household, or Qualifying Widow(er) filing status.
A taxpayer claims the credit if:
•Unmarried and not an RDP at the end of the year (or if married/or an RDP,
and lived apart from spouse/RDP for all of the year and used the Married/
RDP Filing Separately filing status), and
•Furnished more than one-half the household expenses for his or her home
that also served as the main home of his or her child, step-child, or grandchild for at least 146 days but not more than 219 days of the taxable year.
If a taxpayer does not qualify for
Head of Household filing status
because his or her child did not live
in the taxpayer’s home more than
half of the taxable year, he or she
may qualify for the credit for joint
custody Head of Household instead.
If the child is married or an RDP, the taxpayer must be entitled to claim a dependent exemption credit for the child. Also, the custody arrangement for the
child must be part of a decree of dissolution or legal separation or part of a
written agreement between the parents where the proceedings have been initiated, but a decree of dissolution or legal separation has not yet been issued.
Use the Joint Custody Head of Household Credit Worksheet, below, to calculate the
credit for joint custody Head of Household.
Joint Custody Head of Household Credit Worksheet
1)Enter the amount from line 35, Form 540 (CA tax amount).. . . 1)__________
2)Credit percentage – 30%....................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__×.30.________.30
3)Credit amount. Multiply line 1 by line 2. Enter the result or
$431, whichever is less.......................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3)__________
Chapter 4 97
NOTES
If a taxpayer qualifies for the credit
for joint custody Head of Household
and the credit for dependent parent,
claim only one credit.
If a taxpayer qualifies for the credit for joint custody Head of Household and
the credit for dependent parent, claim only one credit. Select the credit that allows the maximum benefit.
Credit for Dependent Parent
KEY FACT
If a taxpayer does not otherwise qualify for Head of Household filing status he
or she may qualify for the credit for dependent parent instead.
A taxpayer may not claim the credit for dependent parent if he or she used
the Single, Head of Household, Qualifying Widow(er), or Married/RDP Filing
Jointly filing status.
Claim this credit only if all of the following apply:
•The taxpayer was married/or an RDP at the end of the year and used the
Married/RDP Filing Separately filing status.
•The taxpayer’s spouse/RDP was not a member of his or her household during
the last six months of the year.
•The taxpayer furnished over one-half the household expenses for his or her
dependent mother’s or father’s home, whether or not she or he lived in the
taxpayer’s home.
To figure the amount of this credit, use the Joint Custody Head of Household
Credit Worksheet, page 97. If a taxpayer qualifies for the credit for joint custody
Head of Household and the credit for dependent parent, claim only one. Select
the credit that will allow the maximum benefit.
Credit for Senior Head of Household
Taxpayers may claim this credit if he or she meets all of the following provisions.
•Age 65 or older on December 31, 2015.
•Qualified as Head of Household in 2013 and 2014 by providing a household
for a qualifying individual who died during 2013 or 2014.
•Did not have AGI over $69,902 for 2015.
Note: If a taxpayer’s 65th birthday is on January 1, 2016, he or she is considered
to be age 65 on December 31, 2015.
If a taxpayer meets all of the conditions listed, he or she does not need to qualify
to use the Head of Household filing status for 2015 in order to claim this credit.
Use the Senior Head of Household Credit Worksheet, below, to calculate the senior
Head of Household credit.
Senior Head of Household Credit Worksheet
1)Enter taxable income from line 19, Form 540/540NR.. . . . . . . . . . . . . . . 1)__________
2)Credit percentage – 2%.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__×.02.________.02
3)Credit amount. Multiply line 1 by line 2. Enter the result or
$1,317, whichever is less.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3)__________
98 Chapter 4
Nonresidents and Part-Year Residents
If a nonresident or part-year resident claimed a credit for joint custody Head
of Household, credit for dependent parent, or credit for senior Head of Household, complete the Credit Percentage and Credit Amount Worksheet, below, to compute the taxpayer’s credit percentage and the allowable prorated credit to enter
on line 55, Form 540NR.
NOTES
Credit Percentage and Credit Amount Worksheet
Note: The updated worksheet was not available as of the date of printing.
These figures represent the 2014 tax year.
Part I—Credit Percentage
1)Divide line 35 by line 19, Long Form 540NR. Enter the result
here and on line 54, Long Form 540NR. If more than 1,
enter 1.0000............................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1)__________
Part II—Credit Amount
Credit for Joint Custody Head of Household
1)Enter the amount from line 51, Long Form 540NR. . . . . . . . . . . . . . . . . . . . . 1)__________
2)Credit Percentage from line 1, Part I .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__×________
3)Multiply line 1 by line 2......................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3)__________
4)Enter the lesser of the amount from line 3 or $425.. . . . . . . . . . . . . . . . . 4)__________
Credit for Dependent Parent
6)Credit Percentage from line 1, Part I .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6)__×________
7)Multiply line 5 by line 6......................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7)__________
8)Enter the lesser of the amount on line 7 or $425.. . . . . . . . . . . . . . . . . . . . . 8)__________
Credit for Senior Head of Household
10)Credit Percentage from line 1, Part I.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10)__×________
11)Multiply line 9 by line 10........................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11)__________
12)Enter the lesser of the amount on line 11 or $1,300.. . . . . . . . . . . . . . 12)__________
Total Prorated Credits
13)Add line 4, line 8, and line 12. Enter the result here and
on line 55, Long Form 540NR............... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13)__________
Credit for Adoption Costs
For the year in which the adoption is finalized (adoption decree or an order of
adoption is entered), a taxpayer may claim a credit on his or her California tax
return for 50% of certain costs of adopting a child who is a citizen or legal resident of the United States, and in the custody of a California public agency or a
California political subdivision.
A taxpayer may treat a prior unsuccessful attempt to adopt a child (even when
the costs were incurred in a prior year) and a later successful adoption of a
different child as one effort when calculating the cost of adopting the child.
Include the following costs if directly related to the adoption process.
Chapter 4 99
NOTES
•Fees for Department of Social Services or a licensed adoption agency.
•Medical expenses not reimbursed by insurance.
•Travel expenses for the adoptive family.
California does not allow attorney fees and court costs as qualifying expenses.
Also, the California credit does not apply when a child is adopted from another
country or was not in the custody of a California public agency or California
political subdivision. These costs are, however, allowed when calculating the
federal adoption credit.
The California adoption credit is
nonrefundable and is limited to
$2,500.
The California adoption credit is nonrefundable and is limited to $2,500. The
excess amount may be carried forward to future years until the credit is totally
used. California does not require any phase out based on AGI as there is no
income limitation for the California credit for adoption costs.
Adoption Costs Worksheet
1)Enter qualifying costs for the child.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1)__________
2)Credit percentage – 50%.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)__×.50.________.50
3)Credit amount. Multiply line 1 by line 2. Do not enter
more than $2,500.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3)__________
EXAMPLE
Leslie paid a $3,900 adoption fee to a licensed California adoption agency in
2014 to adopt her son, Vito. She also paid $1,300 medical costs for Vito. In
2015, she paid her attorney $2,300 in fees and court costs of $550 to finalize
the adoption. The credit on her 2015 federal tax return is 100% of the costs she
paid, $8,050 ($3,900 + $1,300 + $2,300 + $550 = $8,050). The credit on her 2015
California tax return will only be $2,500. The qualifying California expenses are:
Adoption agency fee.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $3,900
Medical costs.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,300
Total......... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $5,200
Leslie’s 2015 California adoption credit is limited to 50% of her qualifying costs
($5,200 × .50 = $2,600), not to exceed $2,500. Leslie may carryover the remaining
$100 to future years until used up.
Nonrefundable Renter’s Credit
If a taxpayer was a resident of California and paid rent at least six months in the
current year on his or her principal residence located in California, he or she
may qualify to claim the nonrefundable renter’s credit. For purposes of California income tax, references to spouse, husband, or wife also refer to a California
registered domestic partnership, as applicable.
A member of the military who is not a legal resident of California does not
qualify for this credit. However, a military member’s spouse may claim this
credit if the spouse was a resident, did not live in military housing during the
year, and is otherwise qualified.
This nonrefundable, non-carryover credit for renters is available based on filing status and California AGI.
100 Chapter 4
NOTES
Nonrefundable Renter’s Credit
Filing Status
CA AGI Less Than
Credit Amount
Single, Married/RDP Filing Separately
$38,259
$60
Married/RDP Filing Jointly, Head of
Household, Qualifying Widow(er)
$76,518
$120
To determine credit eligibility, see the Nonrefundable Renter’s Credit Flow Chart,
below.
Nonrefundable Renter’s Credit Flow Chart
1) Was taxpayer a resident of California for the entire year in 2015?
YES. Go to question 2.
NO. Stop. The taxpayer does not qualify for this credit
2) Is the taxpayer’s California AGI (line 17, Form 540):
•$38,259 or less if Single, Married/RDP Filing Separately, or
•$76,518 or less if Married/RDP Filing Jointly, Head of Household, Qualifying Widow(er)?
NO. Stop. The taxpayer does not qualify for this credit.
3) Did the taxpayer pay rent for at least half (6 months) of 2015 on property (including a mobile
home that was owned on rented land) in California, which was his or her principal residence?
4) Can the taxpayer be claimed as a dependent by a parent, foster parent, legal guardian, or any
other person in 2015?
NO. Go to question 6.
5) For more than half the year in 2015, did the taxpayer live in the home of the person who can
claim the taxpayer as a dependent?
YES. Stop. The taxpayer does not qualify for this credit.
6) Was the property rented exempt from property tax in 2015?
The taxpayer does not qualify for this credit, if for more than half the year, he or she rented
property that was exempt from property taxes. Exempt property includes most governmentowned buildings, church-owned parsonages, college dormitories, and military barracks.
However, if the taxpayer and landlord paid possessory interest taxes for the property rented,
then the taxpayer may claim this credit.
YES. Stop. The taxpayer does not qualify for this credit.
7) Did the taxpayer claim the homeowner’s property tax exemption anytime during 2015?
The taxpayer does not qualify for this credit if the taxpayer or spouse/RDP received a homeowner’s property tax exemption at any time during the year. However, if the taxpayer lived
apart from his or her spouse/RDP for the entire year and their spouse/RDP received a homeowner’s property tax exemption for a separate residence, then the taxpayer may claim this
credit if otherwise qualified.
YES. If the taxpayer’s filing status is Single or Married/RDP Filing
Separately, stop, the taxpayer does not qualify for this credit. If the
taxpayer’s filing status is Married/RDP Filing Jointly, go to question 8.
8) Was the taxpayer Single in 2015?
9) Did the taxpayer’s spouse/RDP claim the homeowner’s property tax exemption anytime during
2015?
YES. If both the taxpayer and spouse/RDP claimed the homeowner’s
property tax exemption, stop. The taxpayer does not qualify for this
credit. Otherwise, go to question 10.
Nonrefundable Renter’s Credit Flow Chart continued
10) Did the taxpayer and spouse/RDP maintain separate residences for the entire year in 2015?
Chapter 4 101
NOTES
Nonrefundable Renter’s Credit Flow Chart continued
11) If the taxpayer is:
•Single. Enter $60 on line 46.
•Head of Household or Qualifying Widow(er). Enter $120 on line 46.
•Married/RDP Filing Separately. If the taxpayer and spouse/RDP lived in the same rental
property and both qualify for this credit, one spouse/RDP may claim the full amount of the
credit ($120), or each spouse/RDP may claim half the amount ($60 each). If the taxpayer and
spouse/RDP lived apart for the entire year and the taxpayer qualifies for this credit, he or
she may claim half the amount of the credit ($60). Enter the credit amount on line 46.
•Married/RDP Filing Jointly. Enter $120 on line 46. (Exception: If one spouse/RDP claimed the
homeowner’s tax exemption and lived apart from their spouse/RDP for the entire year, enter
$60 on line 46)
*The taxpayer should keep a record of the name, address, and telephone number of his or her
landlord(s) or the person(s) to whom the taxpayer paid rent for each residence rented in California during the year.
Other State Tax Credit
Taxpayers may qualify for a credit for income taxes paid to another state when
the same income that is taxed by the other state is also taxed by California.
Taxpayers cannot apply the credit against city, local, or foreign taxes paid. Other state income taxes which are paid to the other state do not necessarily have
to be in the same year, as long as the taxes relate to the same transaction.
Schedule S, Other State Tax Credit. Taxpayers must attach Schedule S, Other
State Tax Credit, and a copy of tax return(s) filed with the other state(s) to their
California tax return. If a taxpayer e-files, do not separately submit tax returns
filed with other states to California.
EXAMPLE
Sally is a California resident. In May, she had a role in a Broadway play in
New York and earned $35,000. The $35,000 must be included on her California
tax return and she must also submit a New York return for this amount. Since
Sally pays tax to the state of New York, by preparing a California Schedule S,
she may take a credit in California for the double-taxed income.
Credit application. Credit is allowed for net income taxes paid to another state
(not including any tax comparable to California’s alternative minimum tax) on
income that is also subject to California tax. The credit is applied against California net tax, less other credits. The credit cannot be applied against California
alternative minimum tax.
Joint return. When a joint tax return is filed in California, the entire amount
of tax paid to the other state may be used in figuring the credit, regardless of
which spouse/RDP paid the other state tax or whether a joint or separate tax
return is filed in the other state. When a joint tax return is filed in the other
state and separate California tax returns are filed, the credit is allowed in proportion to the income reported on each California tax return.
Amended return. If, after paying tax to the other state, a taxpayer gets a refund
or credit due to an amended tax return, computation error, audit, etc., he or
she must report the refund or credit immediately to the FTB. Prepare a revised
Schedule S and attach it to Form 540X, Amended Individual Income Tax Return.
102 Chapter 4
Credit amount. The credit amount is limited to the actual tax paid to the other
state or the proportion of California income taxed by both states bears to the
total income taxable by California.
NOTES
EXAMPLE
Buck is a resident of California and worked in Colorado during 2015. His
calculation of the Other State Tax Credit is as follows:
CaliforniaColorado
Total gross income. . ........................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $30,000$15,000
Gross income taxed in both states................. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $15,000$15,000
Deductions directly related to gross income taxed
in both states. . ................................................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,500$1,500
Other deductions not directly related to income taxed
in both states. . ................................................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $6,500$5,000
Taxable income.. ................................................. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $22,000$8,500
Tax paid.. . . . . ......................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $1,395$404
Buck’s double-taxed income = $15,000
Net amount of double-taxed income taxed by both states = $13,500
Limitation calculation = $13,500 × $1,395 = $856
$22,000
Credit amount = $404 (lesser of actual tax paid to Colorado versus limitation amount)
Residents. Residents of California may claim a credit only if the income taxed
by the other state has a source within the other state under California law. No
credit is allowed if the other state allows California residents a credit for net
income taxes paid to California.
•The income must have its source in the other state.
•The same income must be taxed by both states. Generally, income that is
taxed by California and the other state will be the same amounts. However,
the double-taxed income amounts may be different because of differences in
California and the other state’s tax laws or because of basis differences.
•Substantiation must be provided showing that a tax return was filed with the
other state.
•Substantiation must be provided that taxes were paid to the other state.
•California residents claim the credit on their California return if the doubletaxed income has been earned in any state except Arizona, Indiana, Oregon,
Virginia, or Guam. If the income is earned in one of these states, California
residents claim the credit on that state’s tax return.
Nonresidents. Nonresidents of California may claim a credit only for net income taxes paid to a taxpayer’s resident state on income that is also taxed by
California.
•Nonresidents of California may claim a credit only for net income taxes imposed by and paid to their states of residence and only if such states do not
allow their residents a credit for net income taxes paid to California.
•Only nonresidents of Arizona, Indiana, Oregon, Virginia, or Guam may claim
the Other State Tax Credit on their California tax return. Nonresidents who
are residents of any other state or U.S. possession not listed may not claim the
credit. The credit is not allowed on a California group nonresident tax return.
•The same income must be taxed by both states. Generally, income that is
taxed by California and the other state will be the same amounts. However,
Chapter 4 103
NOTES
the double-taxed income amounts may be different because of differences in
California and the other state’s tax laws or because of basis differences.
•Substantiation must be provided showing that a tax return was filed with the
other state.
•Substantiation must be provided that taxes were paid to the other state.
Part-year residents. Part-year residents follow the rules for residents for the
part of the year they lived in California and the rules for nonresidents for the
part of the year they were nonresidents.
Pass-through entities. Beneficiaries of estates or trusts, partners of partnerships, members of LLCs classified as partnerships, and shareholders of S corporations that paid a net income tax to another state on income that must be
reported to California may also claim the Other State Tax Credit.
Objective 4-B.
2)Andrew and Celeste finalized the adoption of a Rachel in October 2015.
Rachel had been in the custody of the Orange County Foster Care Agency
until August 2014, and she had been placed in their home for a trial period
before finalizing the adoption. Andrew and Celeste incurred the following
expenses in connection with the adoption.
•$650 fees from the Department of Social Services.
•$150 travel expenses to complete a required adoption agency interview.
•$850 to remodel their home to prepare Rachel’s room.
•$400 unreimbursed medical expenses for Rachel related to her adoption.
•$1,200 legal fees and court costs for the adoption.
What is the amount of their allowable California Adoption Credit?
a) $1,200
b) $600
c) $3,250
d) $1,625
Recognize when the Mental Health Services Tax and the California
alternative minimum tax (AMT) applies to certain taxpayers.
Mental Health Services Tax
The Mental Health Services Tax imposes a 1% income tax on personal income
in excess of $1 million. The purpose of this tax is to provide funding, personnel,
and other resources to support county mental health programs and monitor
progress toward statewide goals for children, transition age youth, adults, older
adults, and families. In particular, the tax helps by serving a broad continuum
104 Chapter 4
of prevention, early intervention, and service needs and necessary infrastructure, technology, and training elements.
NOTES
Mental Health Services Tax Worksheet
1)Taxable income from line 19, Form 540/540NR. . . . . . . . . . . . . . . . . . . . . . . . . . . 1)__________
2)Less. . . . . .......................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2)_($1,000,000)
_________
3)Subtotal.. ...................................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3)__________
4)Tax rate – 1% (0.01)................................. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4)__×.01.________.01
5)Mental Health Services Tax. Multiply line 3 by line 4.
Enter this amount here and on line 62, Form 540, or line 72,
Form 540NR...................................................................................... 5)__________
California Alternative Minimum Tax (AMT)
California tax law gives special treatment to certain items of income and allows
deductions and credits for some items of expense. Many individuals who benefit from these provisions must pay at least a minimum amount of tax and/or
limit the amount of their credits.
The certain items of income, deductions, etc., receive different tax treatment
than regular tax. Therefore, a taxpayer needs to recalculate items for AMT that
were calculated for regular tax.
The California AMT works on similar principles as the federal AMT, but with
different exemption amounts and tax rates. The California AMT rate is 7% of
the taxpayer’s AMT base. Like the calculation for federal AMT, the AMT base
is calculated by adding or subtracting from taxable income certain adjustments
and preference items and subtracting an AMT exemption amount. The California exemption amounts are higher than the federal amounts, which results in
a smaller percentage of taxpayers subject to the California AMT. Therefore, a
taxpayer may have AMT on the federal return but not on the California return.
The California AMT works on
similar principles as the federal
AMT, but with different exemption
amounts and tax rates.
AMT exemption. If a taxpayer claims certain types of deductions, exclusions,
and credits, he or she may owe AMT if total income is more than the following
AMT exemption amounts.
2015 AMT Exemption Amounts
Filing Status
AMT Exemption
Single/Head of Household. . ....................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 65,721
Married/RDP Filing Jointly/Qualifying Widow(er).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 87,627
Married/RDP Filing Separately................................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 43,812
A child under age 19, or a student under age 24, may owe AMT if taxable income plus preference items exceeds the sum of the child’s earned income plus
$7,250 (2014).
AMT income does not include income, adjustments, and items of tax preference related to any trade or business of a qualified taxpayer who has gross
receipts, less returns and allowances, during the taxable year of less than
$1,000,000 from all trades or businesses.
AMT exemption phaseout. The AMT exemption amount is phased out for
certain taxpayers with higher incomes.
Chapter 4 105
NOTES
2015 AMT Exemption Phaseout
Filing Status
AMT Phaseout Amount
Single/Head of Household. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 246,451
Married/RDP Filing Jointly/Qualifying Widow(er).. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 328,601
Married/RDP Filing Separately.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 164,299
Schedule P. Use Schedule P, Alternative Minimum Tax and Credit Limitations, to
determine if:
•The taxpayer owes AMT.
•The taxpayer’s credits must be reduced or eliminated entirely. The taxpayer’s
credits may be limited even if he or she does not owe AMT, so be sure to complete all aspects of Schedule P.
For regular tax, some deductions may result in carryovers to future taxable
years. Examples are investment interest expense, net operating loss, and capital loss. Because a taxpayer may have to refigure these items for AMT, the carryover amount may be different for AMT than for regular tax. Although the
carryovers that a taxpayer calculates for AMT does not affect the carryovers for
regular tax, he or she must keep track of the AMT carryovers in order to complete Schedule P in future years.
Objective 4-C.
3) Which of the following may be subject to paying California AMT in 2015?
a) Mary, Single, with total income of $61,000.
b)Julie and Mark, Married Filing Jointly (MFJ), with total income of $88,000.
c)Susan, Registered Domestic Partner (RDP) Filing Separately, with total
income of $43,000.
d)Kim and Christopher, Married Filing Jointly (MFJ), with total income of
$47,500.
106 Chapter 4
NOTES
Multiple Choice
1) In 2015, Karen and Gene filed jointly. They have two children under the age
of 13. They both work and have combined wages of $70,000 and federal AGI
of $73,500. They paid $8,400 ($4,200 each) to care for both children at Tiny Tots
Daycare. How much is their California Child and Dependent Care Credit?
a)$6,000
Incorrect. $6,000 is the total qualifying expenses used to calculate the
credit. Based on their AGI, their credit is 20% of $6,000, or $1,200,
which is further reduced by the California AGI Limitation and
Phaseout to $408 ($1,200 × .34).
b)$2,040
Incorrect. $2,040 represents the total $6,000 being reduced by the California AGI Limitation and Phaseout before the first Credit Percentage is even figured. The $6,000 needs to first be multiplied by
20% (based on their AGI) to calculate their potential credit. That
amount is further reduced by the AGI limitation percentage.
c)$1,200
Incorrect. California has an AGI Limitation and Phaseout Chart that limits
the credit based on the taxpayers’ AGI, and is completely phased
out for those with an AGI over $100,000. Karen and Gene are
within the phaseout range therefore, their credit is limited to
34% of $1,200 (based on their AGI).
d)$408
Correct. Their California Child and Dependent Care Credit is $408 [$6,000
(max qualifying expenses) × 20% (credit percentage based on
AGI) = $1,200 × 34% (phaseout percentage based on AGI) = $408].
2)Andrew and Celeste finalized the adoption of a Rachel in October 2015.
Rachel had been in the custody of the Orange County Foster Care Agency
until August 2014, and she had been placed in their home for a trial period
before finalizing the adoption. Andrew and Celeste incurred the following
expenses in connection with the adoption.
•$650 fees from the Department of Social Services.
•$150 travel expenses to complete a required adoption agency interview.
•$850 to remodel their home to prepare Rachel’s room.
•$400 unreimbursed medical expenses for Rachel related to her adoption.
•$1,200 legal fees and court costs for the adoption.
What is the amount of their allowable California Adoption Credit?
a)$1,200
Incorrect. $1,200 is the correct amount of allowable expenses ($650 Department of Social Services fees, plus $150 travel expenses, plus
$400 unreimbursed medical expenses = $1,200). However, California limits the Adoption Credit to 50% of qualifying costs.
Chapter 4 107
NOTES
b)$600
Correct. $600 is 50% of the total allowable expenses. ($650 Department
of Social Services fees, plus $150 travel expenses, plus $400 unreimbursed medical expenses = $1,200). California Adoption
Credit = $600 ($1,200 qualifying costs × 50% = $600).
c)$3,250
Incorrect. The $3,250 total of all adoption expenses cannot be claimed for
the California Adoption Credit. The $850 remodeling expense
and $1,200 legal/court costs are not qualifying expenses for the
California Adoption Credit.
d)$1,625
Incorrect. While $1,625 is 50% of the total adoption expenses, it is incorrect because some expenses do not qualify. The $850 remodeling
expense and $1,200 legal/court costs are not qualifying expenses
for the California Adoption Credit.
3) Which of the following may be subject to paying California AMT in 2015?
a) Mary, Single, with total income of $61,000.
Incorrect. The 2015 California AMT exemption amount for Single filing
status is $65,721. Mary’s income falls under the California exemption amount and therefore would not owe California AMT.
b) Julie and Mark, Married Filing Jointly (MFJ), with total income of $88,000.
Correct. The 2015 California AMT exemption amount for MFJ filing status is $87,627. Julie and Mark’s income exceeds the California
exemption amount therefore, they may owe California AMT.
c) Susan, Registered Domestic Partner (RDP) Filing Separately, with total income of $43,000.
Incorrect. The 2015 California AMT exemption amount for RDP Filing
Separately is $43,812. Susan’s income falls under the California exemption amount and therefore would not owe California
AMT.
d)Kim and Christopher, Married Filing Jointly (MFJ), with total income of
$47,500.
Incorrect. The 2015 California AMT exemption amount for MFJ is $87,627.
Kim and Christopher’s income falls under the California exemption amount and therefore they would not owe California AMT.
108 Chapter 4
5
Business Tax Issues
CPE/CE
Learning Objectives
5-A Determine business registration requirements and fees for partnerships,
corporations, and LLCs.
5-B Identify annual filing requirements for partnerships, corporations, and
LLCs.
5-C Calculate the California franchise tax rate for corporations.
Glossary Terms
Corporation. A corporation is a legal entity that exists separately from the
people who own, manage, control, and operate it. It can make contracts, pay
taxes, and is liable for debts.
Calendar year. A calendar year refers to an accounting period of 12 months or
less ending on the last day in December.
Fiscal year. A fiscal year refers to an accounting period of 12 months or less
ending on the last day of any month other than December.
Foreign corporation. A foreign corporation is a corporation incorporated or
formed in another state or country.
Franchise tax. The franchise tax is imposed on the privilege of exercising the
corporate franchise in California. It is imposed on all corporations that do business in California.
Limited liability company (LLC). An LLC is a legal entity formed under state
law having one or more members that combines traditional corporate and
partnership characteristics.
Partnership. A partnership is an unincorporated organization with two or
more members to carry on a trade or business and divide its profits and losses.
Qualified corporation. A qualified corporation is a foreign corporation that
has qualified through the California Secretary of State.
Determine business registration requirements and fees for partnerships,
corporations, and LLCs.
Doing Business in California
Doing business in California is defined as actively engaging in any transaction
for the purpose of financial gain or profit, or if any of the following conditions
are satisfied.
•The taxpayer is organized or commercially domiciled in California.
•The sales of the taxpayer in California, including sales by the taxpayer’s
agents and independent contractors, exceed the lesser of $536,466 (2015), or
25% of the taxpayer’s total sales.
Chapter 5 109
NOTES
•The real property and tangible personal property of the taxpayer in California exceeds the lesser of $53,644 (2015), or 25% of the taxpayer’s total real
property and tangible personal property.
•The amount paid in California by the taxpayer for compensation exceeds the
lesser of $53,644 (2015), or 25% of the total compensation paid by the taxpayer.
In determining the amount of the taxpayer’s sales, property, and payroll for
doing business purposes, include the taxpayer’s pro-rata share of amounts
from partnerships and S corporations.
The dollar amounts listed above are indexed annually for inflation.
Note: To ensure that all issues are considered and addressed appropriately,
individuals wishing to begin a new business in California should consult with
private legal counsel prior to submitting formation documents to the Secretary
of State.
Partnership
A partnership is the relationship existing between two or more persons who
join to carry on a trade or business. Each person contributes money, property,
labor or skill and expects to share in the profits and losses of the business.
A partnership is not taxed on the
income of the entity, but a conduit
where the profit or losses of the
partnership flow through to the
partners.
A partnership is not taxed on the income of the entity, but a conduit where the
profit or losses of the partnership flow through to the partners. Each partner
includes his or her share of the partnership’s income or loss on his or her tax
return.
General partnership. A general partnership is a business entity that is made
up of two or more entities to carry on a trade or business. All of the partners
share equal rights and responsibilities in managing the business. In addition,
each general partner assumes full personal liability for the debts and obligations of the partnership.
Limited partnership. A limited partnership involves two or more persons who
agree to create a business and share the profits and losses. A limited partnership has at least one general partner and at least one limited partner. The general partner is responsible for managing the business affairs, while the limited
partner typically provides only capital to the partnership.
General partnership versus limited partnership. In a general partnership,
each partner is personally liable for all business debts and lawsuits. In a limited
partnership, limited partners are not liable for the partnership’s debts beyond
the funds they contribute to the partnership. A limited partner will normally
have little knowledge or participation in the activities of the partnership.
KEY FACT
Limited liability partnership (LLP). An LLP is a form of ownership in which all
the partners receive limited liability protection. However, an LLP is similar to a
general partnership in that all the partners can take an active role in managing
the day-to-day affairs of the business. The LLP form of ownership is limited
in the state of California to persons licensed to practice in the fields of public
accountancy, law, or architecture.
110 Chapter 5
Partnership business entity registration. In California, a limited partnership
is formed by filing Form LP-1, Certificate of Limited Partnership, and a general
partnership is formed by filing Form GP-1, Statement of Partnership Authority,
with the Secretary of State. Once a partnership has filed to be a general partnership, it may file Form LLP-1, Application to Register a Limited Liability Partnership, to be a limited liability partnership.
NOTES
Registration filing fee. The filing fees for certain partnership entities are illustrated in the following chart.
Partnership Registration Filing Fees
Certificate of Limited Partnership (Form LP-1)............ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 70
Statement of Partnership Authority (Form GP-1)*....... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 70
Application to Register a Limited Liability Partnership (Form LLP-1) – after the general
partnership is established......................................... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 70
*A general partnership may record its partnership agreement at the county recorder’s office in
the county where the general partnership is located.
Annual tax return. General partnerships annually file California Form 565,
Partnership Return of Income. See Partnership Annual Filing, page 114.
LLCs classified as partnerships. LLCs classified as partnerships file Form 568,
Limited Liability Company Return of Income, rather than Form 565. LLCs may be
classified for tax purposes as a partnership, a corporation, or a disregarded entity. The LLC must file the appropriate California tax return for its classification.
LLC Form to File
LLCs classified as a:
Files:
General corporation. . ................ Form 100, California Corporation Franchise or Income Tax Return
Partnership.. . . . . . . . . . . . . ................... Form 568, Limited Liability Company Return of Income
Disregarded entity –
Single member LLC .............. Form 568, Limited Liability Company Return of Income
Corporation
A corporation is an entity formed under state civil law that is a separate legal
entity owned by shareholders. In forming a corporation, prospective shareholders transfer money, property, or both for the corporation’s capital stock.
Articles of incorporation. In order to form a corporation in California, all corporations must file Form ART-GS, Articles of Incorporation of a General Stock Corporation, with the California Secretary of State.
Statement of information. Every domestic corporation must file Form SI-200,
Statement of Information, with the California Secretary of State, within 90 days
after the filing of its initial Articles of Incorporation, and annually thereafter
anytime during the calendar month during which the initial Articles of Incorporation were filed and the immediately preceding five months. A corporation
is required to file the statement even though it may not be actively engaged in
business at the time the statement is due. The Statement of Information must be
accompanied by a $20 filing fee and $5 disclosure fee, for a total fee amount of
$25 annually.
Chapter 5 111
NOTES
Bylaws cover items such as
stockholder meetings, director
meetings, number of officers, and
their responsibilities.
Bylaws. A corporation must also create bylaws, which state how the corporation will operate. The bylaws cover items such as stockholder meetings, director meetings, number of officers, and their responsibilities. The owners have
control of the corporation, but must elect directors who in turn elect officers for
the company. The directors make the major decisions, while the officers make
the day-to-day decisions. The bylaws do not have to be filed with the Secretary
of State.
Corporation taxation. A corporation is taxed annually on its earnings and the
shareholders are taxed on these earnings when distributed as dividends. Therefore, the profit of a corporation is double-taxed to both the corporation and to
the shareholders. A corporation generally takes the same deductions as a sole
proprietorship to figure its taxable income. A corporation can also take special
deductions. However, shareholders cannot deduct any loss of the corporation.
S corporation. An S corporation is a hybrid business entity. It has a separate
legal existence and generally offers liability protection to its owners (shareholders). An S corporation is a corporation formed under state civil law or any
business entity, (such as a partnership or LLC), that elects under federal tax law
to be taxed under Subchapter S. An S corporation generally offers liability protection to its owners (shareholders) and is a conduit where the profits or losses
of the S corporation flow through to the shareholder(s)/partners/member(s).
Liability of the owners for debts and obligations of the business depends on
what type of entity the S corporation is under state civil law, e.g. corporation,
partnership, or LLC.
KEY FACT
Federal law differences. Under federal law, an S corporation is not taxed on its
income and is simply a flow-through entity and the individual shareholders are
taxed on the S corporation’s income. In California, however, an S corporation
pays California tax on its net income and is also a conduit where the profit
or loss flows through to the shareholders. That is, for California purposes, an
S corporation’s income is taxable at the corporate level and the pass-through
of its income to the shareholders is also taxable on their returns.
Election required. The corporation must elect to be treated as an S corporation. Certain requirements must be met before a small business corporation
can elect federal S corporation status. A small business corporation elects federal S corporation status by filing federal Form 2553, Election By a Small Business
Corporation, with the IRS.
When a corporation elects federal S
corporation status it automatically
becomes an S corporation for
California.
When a corporation elects federal S corporation status it automatically becomes an S corporation for California. The corporation can elect to remain a
California C corporation, by timely filing Form 3560, S Corporation Election or
Termination/Revocation.
Key features. An S corporation can have no more than 100 shareholders and
only one class of stock. Shareholders can only be individuals, estates or certain
trusts. S corporations can own subsidiaries. S corporations are corporations
under California law and must pay the annual minimum $800 franchise tax.
See California Corporation Franchise Tax, page 125.
112 Chapter 5
Corporation Registration Filing Fees
NOTES
Articles of Incorporation of a General Stock Corporation (Form ARTS-GS)
– all corporations, including S corporations*. . ....... . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $100
Statement of Information (Form SI-200) – initial/annual statement.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 25
*There are also other less-common types of corporations, (close, professional, nonprofit, and
common interest development), that have different registration forms and varying filing fees.
Limited Liability Company (LLC)
An LLC is a newer form of business entity and has certain advantages over corporations and partnerships. The LLC’s main advantage over a partnership is
that, like the owners (shareholders) of a civil law corporation, the liability of the
owners (members) of an LLC for debts and obligations of the LLC is limited to
their financial investment. However, like a general partnership, members of an
LLC have the right to participate in management of the LLC, unless the LLC’s
articles of organization and operating agreement provide that the LLC is to be
managed by managers.
Articles of organization. All domestic and foreign limited liability companies
doing business in California are required to register with the state of California. LLCs register by filing Form LLC-1, Articles of Organization, with the California Secretary of State prior to conducting business. Domestic limited liability companies that do not register with the California Secretary of State are not
considered to be limited liability companies.
Operating agreement. LLCs do not issue stock and are not required to hold
annual meetings or keep written minutes, which a corporation must do in order to preserve the liability shield for its owners. Either before or after filing
its articles of organization, the LLC members must enter into a verbal or written operating agreement that explains how profit will be split and the individuals who will make decisions for the LLC. An LLC is typically managed by
its members, unless the members agree to have a manager handle the LLC’s
business affairs. Generally, members of an LLC that are taxed as a partnership
may agree to share the profits and losses in any manner. Members of an LLC
classified as a corporation receive profits and losses in the same manner as
shareholders of a corporation.
LLC taxation. For California income tax purposes, an LLC with more than one
member will be classified as a partnership, and an LLC with a single individual
member will be treated as a sole proprietorship, unless the LLC chooses to be
classified as a corporation for income tax purposes. To be taxed as a corporation, the LLC files an election on a Form 8832, Entity Classification Election, with
the Internal Revenue Service. California treats the LLC and its owners for California income tax purposes in the same manner the LLC is treated for federal
income tax purposes. Consequently, the applicable tax forms and estimated
tax payment requirements are dependent upon whether the LLC operates as a
sole proprietorship, corporation, or a partnership.
For California income tax purposes,
an LLC with more than one member
will be classified as a partnership,
and an LLC with a single individual
member will be treated as a sole
proprietorship, unless the LLC chooses
to be classified as a corporation for
income tax purposes.
Statement of information. Every domestic and registered foreign limited liability company must file Form LLC-12, Statement of Information, with the California Secretary of State, within 90 days after the filing of its initial Articles
Chapter 5 113
NOTES
of Organization or Application for Registration, and biennially thereafter anytime during the calendar month during which the initial Articles of Organization or Application for Registration were filed and the immediately preceding
five months. A limited liability company is required to file the statement even
though it may not be actively engaged in business at the time the statement is
due. The fee for filing the initial or biennial Statement of Information is $20.
LLC Registration Filing Fees
Articles of Organization (Form LLC-1). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . $100
Statement of Information (Form LLC-12) – initial/biennial statement.. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . $ 20
Objective 5-A.
1) In 2015, Gillian and Roger form Jellyroll, LLP, a limited liability partnership
in California. In order to begin operations as an LLP, which of the following
documents must be filed to register with the California Secretary of State?
a) Form GP-1, Statement of Partnership Authority.
b) Form LLC-1, Articles of Organization.
c) Form GP-1, Statement of Partnership Authority, and Form LLP-1, Application
to Register a Limited Liability Partnership.
d) Form LP-1, Certificate of Limited Partnership.
Identify annual filing requirements for partnerships, corporations, and LLCs.
Partnership Annual Filing
The partnership itself does not pay any income tax. However, in California, a
limited partnership or limited liability partnership must pay an annual tax of
$800. The items of income, deductions, and credits “flow down” from the partnership to the individual partners through the California Schedule K-1, Partner’s Share of Income, Deductions, Credits, etc. Each partner is responsible for paying taxes on their distributive share. A partnership exists as long as the partners agree it will and as long as there are at least two partners, one of whom is
a general partner.
Filing requirements. Each partnership must file an annual return stating its
income and expenses. Every partnership (including general, limited, and limited liability partnerships) that engages in a trade or business in California,
earns income from California sources, or is registered with the California Secretary of State must file a California Form 565, Partnership Return of Income. Every limited partnership that is registered with the California Secretary of State
must file Form 565, even if it has no income from California sources. An LLC
classified as a partnership for federal purposes should generally file Form 568,
114 Chapter 5
Limited Liability Company Return of Income. See Limited Liability Company (LLC)
Annual Filing, page 120.
NOTES
Schedule K-1. The partnership provides each partner with a Schedule K-1 that
states the partner’s distributive share of the partnership’s items of income, deductions, and credits to be reported on his or her individual return.
Return due date. The return due date is the 15th day of the fourth month after
the close of the taxable year. A partnership may use a calendar year or a fiscal
year. If the due date falls on a Saturday, Sunday, or legal holiday, the filing date
becomes the next business day.
Automatic six-month extension. California grants an automatic six-month
extension beyond the return due date. A return filed after the extended due
date is treated as delinquent, with the late filing penalty computed from the
original return due date.
Annual tax requirement. A limited partnership (and limited liability partnership) must pay an annual tax of $800 if it is doing business, registered, or organized in California. The annual tax cannot be deducted as an expense by the
partnership or deducted from the partner’s distributive share.
An extension of time to file the annual return is not an extension of time to pay
the annual tax. Taxpayers use Form FTB 3538, Payment for Automatic Extension for
LPs, LLPs, and REMICs, to pay the tax owed by the due date.
An extension of time to file the
annual return is not an extension of
time to pay the annual tax.
Penalty. For limited partnerships and limited liability partnerships that must
pay the $800 annual tax, a penalty for late payment may be assessed. Any LP or
LLP that fails to pay the $800 annual tax by the original due date of the return
is assessed a penalty of 5% of the unpaid tax, plus 0.5% for each month or part
of a month (not to exceed 40 months) the tax remains unpaid. The penalty cannot exceed 25% of the unpaid tax. Interest will be due and payable on the late
payment.
Estimated tax. A partnership has no estimated tax requirements. However,
partners may have to make estimated tax payments for their own reporting
purposes.
Withholding tax. A partnership must withhold taxes if the partnership distributes California-source taxable income to a nonresident partner that exceeds
$1,500 for the calendar year. A partnership must also withhold on allocations
of California-source income to foreign partners at the maximum California tax
rate.
Doing business in California and other states. General partnerships that
do business in California and other states must apportion their income using
California Schedule R, Apportionment and Allocation of Income.
EXAMPLE
In 2015, an Illinois general partnership opens an office in California. Since the
general partnership is doing business in both Illinois and California, it must
file California Form 565, Partnership Return of Income, and use Schedule R to
apportion income between the two states.
Chapter 5 115
NOTES
Corporations taxable as a C
corporation that organize in
California, register in California,
conduct business in California, or
receive California-source income
must file California Form 100,
California Corporation Franchise or
Income Tax Return.
Corporation Annual Filing
In forming a corporation, prospective shareholders transfer money, property,
or both for the corporation’s capital stock. A corporation generally takes the
same deductions as a sole proprietorship to calculate its taxable income. A corporation can also take certain deductions. The profit of a corporation is taxed to
both the corporation and to the shareholders when the profit is distributed as
dividends. However, shareholders cannot deduct any loss of the corporation.
Filing requirements. Corporations taxable as a C corporation that organize
in California, register in California, conduct business in California, or receive
California-source income must file California Form 100, California Corporation
Franchise or Income Tax Return.
Form 100. Form 100 is California’s tax return for corporations, banks, financial
corporations, real estate mortgage investment conduits (REMICs), regulated
investment companies (RICs), real estate investment trusts (REITs), Massachusetts or business trusts, publicly traded partnerships (PTPs), exempt homeowners’ associations (HOAs), political action committees (PACs), FASITs, and
LLCs or partnerships taxed as corporations.
Return due date. The return due date is the 15th day of the third month after
the close of the taxable year. If the due date falls on a Saturday, Sunday, or legal
holiday, the filing date becomes the next business day.
Automatic seven-month extension to file. A corporation (in good standing)
that has fully paid its tax liability but cannot file its return by the due date receives an automatic seven-month extension to file the return. Since the extension is automatic, there is no extension request form to file. If the corporation
owes tax, it should submit Form FTB 3539, Payment Voucher for Automatic Extension for Corporations and Exempt Organizations, with payment by the original
return due date.
An extension to file is not an extension to pay. Tax is due on or before the original return due date regardless of an extension to file.
Returns filed after the extended due date are treated as delinquent, with penalties computed from the original return due date.
Accounting period. For California purposes, the corporation’s accounting period must be the same as the one used for federal purposes. The first accounting period cannot end more than 12 months after the date of incorporation or
qualification in California.
Short accounting periods (15 days or less). New corporations that have an
initial income year of 15 days or less and do not do business during that time
are not required to file a return or pay the minimum franchise tax for that period. To qualify for this treatment, it must file its Articles of Incorporation with
the Secretary of State on or after the following dates.
116 Chapter 5
NOTES
Corporation Initial Tax Year Registration Filing Dates
Month Incorporated and Taxable Year Ending
Day of the Month
January, March, May, July, August, October, and December (31-day month)
17th or after
April, June, September, and November (30-day month)
16th or after
February (28-day month)
14th or after
February (during Leap Year, 29-day month)
15th or after
Tax rate. A C corporation must pay tax equal to the larger of 8.84% of its California net income or an $800 minimum franchise tax. Newly incorporated or
qualified corporations are exempt from the annual minimum franchise tax for
the first year of business. However, any first-year net income is still subject to
the 8.84% tax rate. See Franchise Tax Calculation, page 126.
Tax due date. The minimum franchise tax of $800 is due the first quarter of
each accounting period and must be paid whether the corporation is active,
inactive, operates at a loss, or files a return for a short period of less than 12
months.
Foreign corporations—conventions and trade shows. Special rules apply to
foreign C corporations that participate in conventions or trade shows in California but normally do not do business in this state.
The minimum franchise tax of
$800 is due the first quarter of each
accounting period and must be paid
whether the corporation is active,
inactive, operates at a loss, or files a
return for a short period of less than
12 months.
A foreign corporation that is not qualified to do business in California is subject to the 8.84% corporation income tax, but not the minimum franchise tax, if
it meets all of the following requirements.
•It is not incorporated in California,
•Its sole activity in this state is engaging in convention and trade show activities, and during the income year,
–It was in the state for seven or fewer calendar days, and
–It did not derive more than $10,000 of gross income reportable to the state
from its activities.
LLC treated as C corporation. A limited liability corporation (LLC) that is
classified as an association taxable as a corporation for federal purposes must
file Form 100, California Corporation Franchise or Income Tax Return. California
and federal laws treat these LLCs as corporations subject to California corporation tax law.
Estimated tax. The estimated tax is payable in four installments on California
Form 100-ES, Corporation Estimated Tax. Installments are due in the following
percentages of the estimated tax liability and payable on April 15 (30%), June 15
(40%), September 15 (none required), and December 15 (30%) for calendar year
taxpayers. Shareholders may have to make estimated tax payments for their
own reporting purposes.
Penalty. Any corporation that fails to pay, pays late, or underpays an installment of estimated tax is assessed a penalty. Form 5806, Underpayment of Estimated Tax by Corporations, is used to calculate the amount of underpayment and
penalty.
Doing business in California and other states. A corporation that does business in California and other states must apportion its income using California
Schedule R, Apportionment and Allocation of Income.
A corporation that does business in
California and other states must
apportion its income using California
Schedule R, Apportionment and
Allocation of Income.
Chapter 5 117
NOTES
EXAMPLE
In 2015, Frank’s Toys, Inc., a Kansas corporation, opened an office in California.
Because the corporation is doing business in both Kansas and California, it
must file Form 100, California Corporation Franchise or Income Tax Return,
and use California Schedule R to apportion income between the two states.
S Corporation Annual Filing
When a corporation elects federal S corporation status it automatically becomes an S corporation for California. However, the corporation can elect to
remain a California C corporation by timely filing California Form 3560, S Corporation Election or Termination/Revocation.
Filing requirements. S corporations (including LLCs that make the S election)
that organize in California, register in California, conduct business in California, or receive California-source income, must file California Form 100S, California S Corporation Franchise or Income Tax Return.
Schedule K-1. The S corporation must provide each shareholder with a Schedule K-1 that states the shareholder’s pro rata share of the S corporation’s items
of income, deductions, and credits.
Return due date. The return due date is the 15th day of the third month after
the close of the taxable year. If the due date falls on a Saturday, Sunday, or legal
Automatic seven-month extension to file. An S corporation (in good standing) that has fully paid its tax liability but cannot file its return by the due date
receives an automatic seven-month extension to file the return. Since the extension is automatic, there is no extension request form to file. If the S corporation owes tax, it should submit Form FTB 3539, Payment Voucher for Automatic
Extension for Corporations and Exempt Organizations, with payment by the original return due date.
Returns filed after the extended
due date are treated as delinquent,
with penalties computed from the
original return due date.
Accounting period. For California purposes, the S corporation’s accounting
period must be the same as the one used for federal purposes. The first accounting period cannot end more than 12 months after the date of incorporation or qualification in California.
Short accounting periods (15 days or less). New S corporations that have an
initial income year of 15 days or less and do not do business during that time
are not required to file a return or pay the minimum franchise tax for that period. To qualify for this treatment, it must file its Articles of Incorporation with
the Secretary of State on or after the following dates.
118 Chapter 5
NOTES
S Corporation Initial Tax Year Registration Filing Dates
Month Incorporated and Taxable Year Ending
Day of the Month
17th or after
16th or after
14th or after
15th or after
Tax rate. California requires S corporations to pay tax. While S corporations
are not subject to income tax for federal income tax purposes, the annual California tax for S corporations is the greater of 1.5% of the S corporation’s net income or $800. Newly incorporated or qualified S corporations are exempt from
the annual minimum franchise tax for their first year of business.
Foreign corporations—conventions and trade shows. Special rules apply to
foreign S corporations that participate in conventions or trade shows in California but normally do not do business in this state.
A foreign S corporation that is not qualified to do business in California is subject to the 1.5% S corporation income tax, but not the minimum franchise tax, if
it meets all of the following requirements:
•It is not incorporated in California,
•Its sole activity in this state is engaging in convention and trade show activities, and during the income year,
–It was in the state for seven or fewer calendar days, and
–It did not derive more than $10,000 of gross income reportable to the state
from its activities.
KEY FACT
LLC treated as S corporation. A limited liability corporation (LLC) classified
as an association taxable as a corporation for federal purposes may elect S
corporation status. The LLC will also be treated as an S corporation for the
state and must file Form 100S, California S Corporation Franchise or Income
Tax Return. California and federal laws treat these LLCs as corporations subject to California corporation tax law.
Qualified subchapter S subsidiaries. California has conformed to federal law
that lets an S corporation own a subsidiary. These subsidiaries are commonly
called QSubs. The election by the parent S corporation to treat its subsidiary for
federal purposes as a QSub is in most cases binding for California. A QSub is
not treated as a separate entity, but as division of the parent S corporation. All
of the QSub’s activities are reported on the parent S corporation’s return. If a
QSub is doing business in California, then the parent S corporation is considered doing business in the state and must file Form 100S, California S Corporation Franchise or Income Tax Return.
If a QSub is doing business in
California, then the parent S
corporation is considered doing
business in the state and must file
Form 100S, California S Corporation
QSub annual tax. In addition to a parent S corporation paying the franchise or
income tax, a QSub is subject to an $800 annual tax, which is paid by the parent
S corporation. The QSub annual tax is due and payable when the S corporation’s first estimated tax payment is due. If the QSub is acquired during the
year, the QSub annual tax is due when the S corporation’s next estimated tax
Chapter 5 119
NOTES
payment is due. The QSub annual tax is subject to the estimated tax rules and
penalties.
Estimated tax. The estimated tax is payable in four installments on California
Form 100-ES, Corporation Estimated Tax. Installments are due in the following
percentages of the estimated tax liability and payable on April 15 (30%), June 15
(40%), September 15 (none required), and December 15 (30%) for calendar year
taxpayers. Shareholders may have to make estimated tax payments for their
Penalty. Any corporation that fails to pay, pays late, or underpays an installment of estimated tax is assessed a penalty. Form 5806, Underpayment of Estimated Tax by Corporations, is used to calculate the amount of underpayment and
penalty.
Doing business in California and other states. An S corporation that does
business in California and other states must apportion its income using California Schedule R, Apportionment and Allocation of Income.
EXAMPLE
In 2015, Lodestar Brewing, Inc., a Minnesota S corporation, opened an office
in California. Because the corporation is doing business in both Minnesota and
California, it must file Form 100S, California S Corporation Franchise or Income
Tax Return, and use California Schedule R to apportion income between the
two states.
Limited Liability Company (LLC) Annual Filing
A limited liability company (LLC) combines traditional corporate and partnership characteristics. Members of a limited liability company are given the same
advantage of limited liability as shareholders of a corporation, while generally
being taxable at the member level, like a partner in a partnership.
LLC classification. An LLC may be owned by any combination of individuals
or business entities. If an LLC has a single member, it will be disregarded as
an entity separate from its owner, and will be treated as a sole proprietorship,
unless it elects to be taxable as a corporation.
For California income and franchise tax purposes, LLCs are classified as shown
on the LLC Classification chart, below.
LLC Classification*
Type
California Treatment
Single-member LLC
Disregarded Entity—treated as Sole Proprietorship
LLC with more than one member
Partnership
LLC that files an election to classify as a
corporation for federal tax purposes
Corporation
*The federal classification of the LLC is binding for California and a separate state election is
not allowed.
Filing requirements. It depends on how the LLC is classified as to what its filing requirements will be for the year.
120 Chapter 5
LLC classified as disregarded. An LLC classified as a disregarded entity generally does not report its own income separately from its owner. However, California treats it as a separate entity for purposes of the annual tax, LLC fee, tax
return requirements, and credit limitations. If certain items of income or loss,
or payments attributable to a disregarded LLC’s activity exceed certain levels, the disregarded LLC must separately report its income on its tax return.
All LLCs classified as disregarded entities that organize in California, register
in California, or conduct business in California, must file California Form 568,
Limited Liability Company Return of Income. California Form 568 must be filed by
the 15th day of the fourth month after the close of the LLC’s taxable year. Disregarded single member LLCs are subject to the annual tax and fee.
NOTES
An LLC classified as a disregarded
entity generally does not report
its own income separately from its
owner. However, California treats
it as a separate entity for purposes
of the annual tax, LLC fee, tax
return requirements, and credit
limitations.
LLCs classified as partnerships. An LLC classified as a partnership generally
determines and reports its California income, deductions, and credits separately under the personal income tax law. These items pass through to its owners
for purposes of taxation. All LLCs classified as partnerships that organize in
California, register in California, or conduct business in California, must file
California Form 568, Limited Liability Company Return of Income. California Form
568 must be filed by the 15th day of the fourth month after the close of the LLC’s
taxable year.
LLC classified as corporation. An LLC classified as a corporation generally
determines its California income under the corporation tax law. All LLCs classified as corporations that organize in California, register in California, conduct
business in California, or receive California-source income, must file California Form 100 or Form 100S. An LLC can be classified as an association taxable
as either a C corporation or an S corporation. Limited liability companies classified as C corporations must file Form 100, California Corporation Franchise or
Income Tax Return. If an LLC is classified as an S corporation it must file Form
100S, California S Corporation Franchise or Income Tax Return. The LLC will be
taxed at the applicable corporate rate and will be subject to a minimum tax of
$800. See California Corporation Franchise Tax, page 125. The California Form 100
or Form 100S must be filed by the 15th day of the third month after the close of
the LLC’s taxable year.
Nonresidents. An LLC filing Form 568 which has members who are nonresidents of California must file Form FTB 3832, Limited Liability Company Nonresident Members’ Consent, with Form 568. Form FTB 3832 is signed by the nonresident individuals and foreign entity members to show their consent to California’s jurisdiction to tax their distributive share of income attributable to California sources. The LLC must pay the tax for every nonresident member who
did not sign Form FTB 3832.
Return due date. Form 568 is due by the 15th day of the 4th month after the
close of the taxable year. If the due date falls on a Saturday, Sunday, or legal
Automatic six-month extension to file. An LLC (in good standing) that has
fully paid its tax liability but cannot file its return by the due date receives an
automatic six-month extension to file the return. Since the extension is automatic, there is no extension request form. If the LLC owes tax, it should submit
Chapter 5 121
NOTES
Form FTB 3537, Payment Voucher for Automatic Extension for Limited Liability Company, with payment by the original return due date.
Accounting period. For California purposes, the LLC’s accounting period
must be the same as the one used for federal purposes. The first accounting period cannot end more than 12 months after the date of incorporation or qualification in California.
New LLCs that have an initial
income year of 15 days or less and do
no business during that time are not
required to file a return or pay the
annual tax for that period.
Short accounting periods (15 days or less). New LLCs that have an initial
income year of 15 days or less and do no business during that time are not required to file a return or pay the annual tax for that period. To qualify for this
treatment, the LLC must have registered with the California Secretary of State
on or after the following dates.
LLC Initial Tax Year Registration Filing Dates
Month of Registration and Taxable Year Ending
Day of the Month
17th or after
16th or after
14th or after
15th or after
LLC Annual Tax
LLCs classified as disregarded or as partnerships are subject to an $800 annual
tax. To be subject to the tax, the LLC must, for a least one day during the year, be:
•Doing business (actively engaged in any transaction for the purpose of financial gain or profit) in California, and/or
•Registered with the California Secretary of State.
The annual tax is not deductible.
The annual tax is not deductible. An LLC may also be subject to an LLC fee
based on total income from all sources derived from or attributable to the state
of California. See LLC Fee, below.
LLC tax due date. The LLC tax is due by the 15th day of the fourth month of
the taxable year, and is paid using California Form 3522, Limited Liability Company Tax Voucher. An LLC does not pay the annual tax with Form 568.
LLC Fee
In addition to the annual tax, California LLCs must pay a fee if total income
from all sources derived from or attributable to California is equal to or greater
than $250,000. Total income for LLC fee purposes is gross income plus the cost
of goods sold, paid, or incurred in connection with the trade or business of the
taxpayer. The LLC annual fee is considered a deductible ordinary and necessary business expense.
LLC fee due date. LLCs must estimate and pay the annual fee by the 15th day
of the sixth month of the current tax year. If the LLC’s tax year is less than six
months, the LLC must pay the fee by the due date for filing its Form 568 tax
return.
122 Chapter 5
LLC fee amount. The LLC fee amount is set and is based on the LLC’s total
income. The LLC fee schedule is shown on the following LLC Annual Fee chart,
below.
NOTES
LLC Annual Fee
If LLC total The LLC fee
income is:
amount is:
$250,000 – $499,999 $900
$500,000 – $999,999
$2,500
If LLC total The LLC fee
income is:
amount is:
$1,000,000 – $4,999,999 $6,000
$5,000,000 or more
$11,790
EXAMPLE
Poplar, LLC does business only in California during 2015. Birch, LLC has a 50%
member interest in Poplar, LLC. Poplar has $1,800,000 of total income during
2015. Birch has $1,200,000 of total income during 2015. Birch’s income includes
$900,000 from Poplar (1.8 million × 50% member interest).
The filing requirements, LLC tax, and LLC fee amounts for Poplar and Birch are
illustrated on the following chart.
Entity
2015 Form
Annual Tax
Total Income
LLC Fee
Poplar, LLC
Form 568
$800
$1,800,000
$6,000
Birch, LLC
Form 568
$800
$300,000 ($1,200,000 – $900,000)*
$900
*For tax year 2015, Birch, LLC excludes $900,000 of total income because it already
used that amount to calculate the fee of Poplar, LLC.
Estimated Fee/Tax
Estimated fee. An LLC must estimate the fee it will owe for the current year
and make an estimated fee payment by June 15 (calendar year) or the 15th day
of the sixth month of the LLC’s current taxable year (fiscal year). A penalty applies if the LLC’s estimated fee payment is less than the fee owed for the year.
See Penalty, below. If the taxable year of the LLC ends prior to the 15th day of
the 6th month of the taxable year, no estimated fee payment is due, and the
LLC fee is due on the due date of the LLC’s return. LLCs use Form FTB 3536
(LLC), Estimated Fee for LLCs, to remit the estimated fee.
Estimated tax. If an LLC is classified as a corporation and files California Form
100, its estimated tax is payable in four installments on April 15, June 15, September 15, and December 15. Installments are due in the following percentages
of the LLC’s total estimated tax liability and are payable on April 15 (30%), June
15 (40%), September 15 (none required), and December 15 (30%) for calendar
year taxpayers. Members may have to make estimated tax payments for their
Penalty. An LLC that underestimates its fee will be subject to a penalty equal
to 10% of the amount of the underpayment. However, an LLC can avoid the
10% estimated fee underpayment penalty if its estimated fee payment for the
current tax year is equal to or greater than the total fee owed by the LLC for its
preceding tax year. If the estimated fee paid by an LLC is less than the amount
of the total fee owed for the tax year, then the LLC must pay the amount of the
underpayment by the due date of the LLC’s tax return, or it will be subject to a
late payment penalty and applicable interest.
An LLC can avoid the 10%
estimated fee underpayment penalty
if its estimated fee payment for
the current tax year is equal to or
greater than the total fee owed by
the LLC for its preceding tax year.
Chapter 5 123
NOTES
Withholding tax. An LLC must withhold taxes if the LLC distributes California-source taxable income to a nonresident member when distributions exceed $1,500 for the calendar year. An LLC must also withhold on allocations of
California-source income to foreign members at the maximum California tax
rate.
Doing Business in California
California defines doing business as actively engaging in any transaction for
the purpose of financial or pecuniary gain or profit. In addition, LLCs are considered doing business in California if:
•It is a nonregistered foreign LLC that is a member of an LLC that does business in California.
•It is a general partner in a partnership or limited partnership that does business in California.
•Any of the LLC’s members, managers, or other agents conducts business in
California on behalf of the LLC.
EXAMPLE
Noel is a California resident and member of a Nevada LLC. The Nevada LLC
owns property in Nevada. The LLC hires a Nevada management company to
collect rents and provide maintenance. Noel has the right to hire and fire the
management company. She occasionally has telephone discussions with the
management company regarding the property. She is ultimately responsible
for the property and oversees the management company. Noel conducts business in California on behalf of the LLC. The LLC must file Form 568.
EXAMPLE
Aaron is a California resident and member of an Oregon LLC. The Oregon LLC
has a retail store in Oregon. Aaron uses a California address for the LLC’s tax
filings and a California accountant to prepare the LLC’s tax returns. Aaron conducts business in California on behalf of the LLC. The LLC must file Form 568.
EXAMPLE
Devin is a California resident and member of a Texas LLC. The Texas LLC
receives royalties from Texas oil wells. Devin maintains a California business
bank account and secures financing in California for the LLC’s Texas investments. Devin conducts business in California on behalf of the LLC. The LLC
must file Form 568.
Doing business in California and other states. An LLC that does business in
California and other states must apportion its income using California Schedule R, Apportionment and Allocation of Income.
EXAMPLE
In 2015, Fawn, LLC, a Wyoming LLC, opened an office in California. Because
the LLC is doing business in both Wyoming and California, it must file Form 568
and use California Schedule R to apportion income between the two states.
124 Chapter 5
NOTES
Objective 5-B.
2) In 2015, Tim Hin and George Kely form Hinkely, LLC, and register the LLC
in California. Hinkely, LLC, chooses a calendar tax year and is classified as a
partnership for tax purposes. What annual form, if any, must Hinkely file for
California?
a) No additional form to file. Tim and George just report the LLC’s net
income directly on their California individual returns.
b)Hinkely files Form 568, Limited Liability Company Return of Income.
c) Hinkely files Form 565, Partnership Return of Income.
d)Hinkely prepares a statement that both Tim and George attached to their
California return showing the LLC tax and fee paid.
Calculate the California franchise tax rate for corporations.
California Corporation Franchise Tax
A corporation is responsible for the corporation franchise tax if the corporation or limited liability company treated as a corporation is doing business in
California. Doing business in California is defined as actively engaging in any
transaction in California for the purpose of financial gain or profit. Foreign corporations that are general partners of partnerships or members of limited liability companies (treated as partnerships for tax purposes) doing business in
California are also responsible for the corporation franchise tax. The corporation franchise tax rate for general C corporations is 8.84%, while S corporations
are taxed at a rate of 1.5%.
Doing business in California is
defined as actively engaging in any
transaction in California for the
purpose of financial gain or profit.
California Corporation Income Tax
A corporation is liable for the corporation income tax if the corporation (or limited liability company treated as a corporation) receives income from sources
within California but is not doing business in California. Foreign corporations
that are limited partners of partnerships doing business in California are also
subject to the income tax. The corporation income tax is designed to be complementary to the franchise tax and applies to those corporations with income
from California sources, but not subject to the franchise tax. The corporation
income tax rate for general C corporations is 8.84%, while the S corporation
income tax rate is 1.5%. There is no minimum franchise tax for income tax filers.
The majority of corporations are subject to the franchise tax as the corporate
income tax mainly applies to foreign corporations that engage in some business activity in California but are not “doing business” in California.
Chapter 5 125
NOTES
EXAMPLE
Wilson, Inc., maintains a stock of goods in California from which deliveries are
made to fill orders taken by independent dealers. Because Wilson, Inc., only
maintains a stock in California and has no other property or agents in California, it is generally not subject to tax in California. However, if Wilson, Inc.,
receives income from sources within California, it is subject to the corporation
income tax on that income.
Franchise Tax Calculation
The California franchise tax is imposed on corporations doing business in California and is measured by the income of the current taxable year for the privilege of doing business in that taxable year.
Entities subject to the corporation minimum franchise tax include all corporations, including LLCs electing to be taxed as corporations, that meet any of the
following provisions.
•Incorporated or organized in California.
•Qualified or registered to do business in California.
•Doing business in California, whether or not incorporated, organized, qualified, or registered under California law.
Franchise tax. The franchise tax is equal to the larger of the corporation’s California net income multiplied by the appropriate tax rate or the minimum franchise tax.
Tax rates. The following tax rates apply to both the corporation franchise tax
and corporation income tax.
2015 corporation tax rate: C corporations.. . . . . . . . . . . . . . . . . . . . . 8.84%
S corporations. . . . . . . . . . . . . . . . . . . . . . . 1.50%
EXAMPLE
In 2015, Linny, Inc., a California C corporation, had California net income of
$24,000. When Linny files its 2015 return, it will owe corporation franchise tax
of $2,122 ($24,000 × 8.84% = $2,122).
EXAMPLE
In 2015, Lonnie Corporation, a California S corporation, had California net income of $130,000. When Lonnie files its 2015 return, it will owe corporation
franchise tax of $1,950 ($130,000 × 1.5% = $1,950).
The $800 minimum franchise
tax must be paid by corporations
incorporated in California or
qualified or registered under
California law whether the
corporation is active, inactive, not
doing business, or operates at a loss.
126 Chapter 5
Minimum franchise tax. California has an annual $800 minimum franchise
tax. The $800 minimum franchise tax must be paid by corporations incorporated in California or qualified or registered under California law whether the
corporation is active, inactive, not doing business, or operates at a loss.
EXAMPLE
In 2015, Pyle, Inc., a California corporation, has a net loss of $35,000. Pyle, Inc.,
must pay the minimum $800 franchise tax even though it had a loss for the year.
EXAMPLE
NOTES
Kolsch Corporation, a California corporation, has been in operation for 12
years. During 2014 and 2015, it suspended its operations due to widespread
droughts. Kolsch Corporation is required to pay the minimum $800 franchise
tax for 2014 and 2015 even though the business was inactive.
Newly incorporated business. A newly incorporated or qualified corporation
is exempt from the annual minimum franchise tax for its first year of business.
A newly incorporated business computes its tax by multiplying its net income
for the year by 8.84%. Newly incorporated or qualified corporations are subject
to the minimum franchise tax requirement on their second return.
C Corporation Examples
EXAMPLE
Hawthorne Corporation incorporated on February 25, 2015. Hawthorne selected a calendar year end. When Hawthorne files its first return for the short
income year of February 25, 2015 to December 31, 2015, it shows that the corporation operated at a $3,000 loss. Because Hawthorne is a new corporation,
it is not subject to the minimum franchise tax for its first tax return and pays
no tax because it had a loss.
EXAMPLE #1
Finley Corporation incorporated on January 15, 2015. Finley selected a calendar year end. For the year ending December 31, 2015, Finley shows $4,300 of
net income. When Finley files its return, it owes $380 ($4,300 × 8.84% = $380).
EXAMPLE #2
Finley Corporation shows a $1,200 loss on its return for the year ending December 31, 2015 (second tax year). Because the corporation operated at a loss
for the year, it owes only the $800 minimum franchise tax.
S Corporation Examples
EXAMPLE
Kiffin Corporation incorporated on March 11, 2015, and made its S election.
Kiffin selected a calendar year end. When Kiffin files its first return for the
short income year of March 11, 2015 to December 31, 2015, it shows that the
corporation operated at a $6,000 loss. Because Kiffin is a new S corporation,
it is not subject to the minimum franchise tax for its first tax return and pays
no tax because it had a loss.
EXAMPLE #1
Simmons Corporation incorporated on February 2, 2015, and made its S election. Simmons selected a calendar year end. For the year ending December 31,
2015, Simmons shows $20,000 of net income. When Simmons files its return, it
owes $300 ($20,000 × 1.5% = $300).
Chapter 5 127
NOTES
EXAMPLE #2
Simmons Corporation shows a $1,400 loss on its return for the year ending
December 31, 2015 (second tax year). Because the S corporation operated at
a loss for the year, it owes only the $800 minimum franchise tax.
Estimated tax. A corporation must make estimated tax payments if any of the
following provisions apply.
•The corporation incorporated in California.
•The corporation is qualified to do business in California.
•The corporation is doing business in California.
•The corporation is inactive.
•The corporation is deriving income in California.
Minimum franchise tax. Corporations subject to the franchise tax must pay at
least the minimum franchise tax by the first installment due date, unless it is
the corporation’s first tax year.
Newly incorporated corporations. Newly incorporated or qualified corporations must pay estimated tax. The estimated tax payments are based on the corporation’s estimated tax liability after credits for its first tax year. In the corporation’s second tax year, the corporation pays at least the minimum franchise
tax by the first estimated tax installment due.
EXAMPLE
Vickrum Corporation incorporates in California on February 5, 2014, and selects
a calendar tax year. Vickrum did not make any estimated tax payment on April
15, 2014 (first installment due date). On March 15, 2015, Vickrum files its 2014
tax return showing a net loss of $12,000, and no tax liability. Because Vickrum
had no tax liability, it is not assessed an estimated tax penalty.
Second tax year. Vickrum makes an $800 estimated tax payment on April 15,
2015 (first installment due date). On March 15, 2016, it files its 2015 tax return
showing a net loss of $6,500, and tax of $800 (minimum franchise tax). Because
it made an $800 estimated tax payment on April 15, 2015, it is not assessed an
estimated tax penalty.
EXAMPLE
Ryland, Inc., incorporates in California on January 15, 2014, and selects a
calendar tax year. Ryland did not make an estimated tax payment on April 15,
2014 (first installment due date). On March 15, 2015, Ryland files its 2014 tax
return showing net income of $8,200, and tax of $725 ($8,200 × 8.84% = $725).
Ryland pays the $725 tax when it files its tax return. Because it did not make
any estimated tax payments, an estimated tax penalty is due, based on the
tax of $725.
Second tax year. Ryland makes an $800 estimated tax payment on April 15,
2015 (first installment due date). On March 15, 2016, Ryland files its 2015 tax
return showing a net loss of $14,000, and a tax of $800 (minimum franchise
tax). Because Ryland made an $800 estimated tax payment on April 15, 2015,
it is not assessed an estimated tax penalty.
128 Chapter 5
NOTES
Objective 5-C.
3)On July 6, 2014, Everett, Inc., incorporates in California. Everett had California net income of $1,500 in 2014, and net income of $8,500 in 2015. When
Everett files its 2015 return, how much corporation franchise tax will it owe?
a) $128
b) $133
c) $751
d) $800
Chapter 5 129
NOTES
Multiple Choice
1) In 2015, Gillian and Roger form Jellyroll, LLP, a limited liability partnership
in California. In order to begin operations as an LLP, which of the following
documents must be filed to register with the California Secretary of State?
a) Form GP-1, Statement of Partnership Authority.
Incorrect. Jellyroll is a limited liability partnership, therefore an additional
form needs to be filed after the general partnership is established by filing Form GP-1.
b) Form LLC-1, Articles of Organization.
Incorrect. Form LLC-1 is used to register a limited liability company (LLC),
not a partnership.
c) Form GP-1, Statement of Partnership Authority, and Form LLP-1, Application
to Register a Limited Liability Partnership.
Correct. Jellyroll will file Form GP-1 to establish a general partnership
and then file Form LLP-1 to register the partnership as a limited
liability partnership.
d) Form LP-1, Certificate of Limited Partnership.
Incorrect. Jellyroll is a limited liability partnership, and filing Form LP-1
would incorrectly register it as a limited partnership.
2) In 2015, Tim Hin and George Kely form Hinkely, LLC, and register the LLC
in California. Hinkely, LLC, chooses a calendar tax year and is classified as a
partnership for tax purposes. What annual form, if any, must Hinkely file for
California?
a)No additional form to file. Tim and George just report the LLC’s net income directly on their California individual returns.
Incorrect. Hinkely, LLC, is classified as a partnership for California tax purposes. In California, LLCs classified as partnerships file Form
568, Limited Liability Company Return of Income.
b) Hinkely files Form 568, Limited Liability Company Return of Income.
Correct. For California tax purposes, LLCs classified as partnerships or
disregarded entities file Form 568. Only LLCs classified as corporations file a different form, Form 100, California Corporation
c) Hinkely files Form 565, Partnership Return of Income.
Incorrect. Hinkely is classified as a partnership for California tax purposes,
but must file Form 568 instead of Form 565 because California
requires LLCs classified as partnerships to file Form 568.
d)Hinkely prepares a statement that both Tim and George attached to their
California return showing the LLC tax and fee paid.
Incorrect. Hinkely is registered as an LLC with the state and therefore has
annual filing requirements separate from the individual income
tax returns by its members. California requires Hinkely LLC to
file Form 568 annually.
130 Chapter 5
3)On July 6, 2014, Everett, Inc., incorporates in California. Everett had California net income of $1,500 in 2014, and net income of $8,500 in 2015. When
Everett files its 2015 return, how much corporation franchise tax will it owe?
a)$128
Incorrect. $128 is 1.5% (S corporation tax rate) of $8,500. Everett did not
make an S election, therefore it is considered a C corporation
and is taxed at the C corporation tax rate of 8.84%.
NOTES
b)$133
Incorrect. For Everett’s 2014 return, it paid tax of $133 ($1,500 × 8.84% =
$133). Everett was not subject to the $800 minimum franchise tax
because 2014 was its first tax year.
c)$751
Incorrect. $751 is 8.84% (C corporation tax rate) of $8,500. However, 2015 is
Everett’s second tax year and it is subject to the $800 minimum
franchise tax.
d)$800
Correct. Everett’s computed tax amount for 2015 is $751 ($8,500 × 8.84% =
$751). Because 2015 is the second tax year for Everett, it is subject
to the $800 minimum franchise tax. For 2015, Everett will owe
$800 for California corporation franchise tax.
Chapter 5 131
132 Chapter 5
6
Circular 230 Revisions
CPE/CE
Learning Objectives
6-A Identify recent changes in the IRS manner of ensuring competence of tax
practitioners under Circular 230.
6-B List the responsibilities of individuals with principal authority for overseeing a tax firm’s practice to ensure the members, associates, and employees comply with Circular 230.
6-C Identify the special treatment granted to California Registered Tax Preparers (CRTPs) under revised regulations set forth in Circular 230.
Glossary Terms
Annual Filing Season Program (AFSP). A new voluntary program implemented by the IRS that allows unenrolled individuals to obtain a Record of Completion and to be listed on a public IRS database at www.irs.gov.
Annual Federal Tax Refresher course (AFTR). A tax refresher course that
is required to be completed by non-credentialed tax preparers in order to be
eligible for an AFSP Record of Completion. The AFTR is commonly referred to as
the “After Course.”
Record of Completion. A Record of Completion is a credential that gives tax
preparers limited representation rights and responsibilities under the AFSP.
Credentialed preparers. Enrolled preparers such as CPAs, attorneys, and enrolled agents, along with preparers credentialed by a state, are not required
to take the AFTR course in order to obtain an AFSP Record of Completion. All
individuals are required to complete a specified number of continuing education hours in order to qualify.
A Record of Completion is a
credential that gives tax preparers
limited representation rights and
responsibilities under the AFSP.
Exemption for CRTPs. California Registered Tax Preparers (CRTPs) are exempt from the requirement to take the AFTR course and test in order to obtain
a Record of Completion.
Identify recent changes in the IRS manner of ensuring competence of tax
practitioners under Circular 230.
Demise of the Federal RTRP Program
In 2011, the IRS began regulating hundreds of thousands of unlicensed tax
return preparers under the Registered Tax Return Preparer (RTRP) program.
Regulations set forth in Circular 230 required each preparer to pass a qualifying exam, pay an annual application fee, and take 15 hours of continuing education courses each year. The IRS cited as authority an 1884 statute as authorizing them to regulate all tax return preparers.
Chapter 6 133
NOTES
As the IRS is a bureau of the Treasury Department, this statute covers practice
before the IRS as well. Using this statutory authority, the IRS issued regulations with a long list of duties and restrictions relating to practice before the
IRS, which have historically applied to only to attorneys, CPAs, Enrolled Agents
(EAs), and other specified tax professionals.
The 2011 revision to Circular 230 brought all tax return preparers under its
coverage. The IRS estimated that the new rule would bring 600,000 to 700,000
new tax return preparers who were previously unregulated at the federal level.
Among other things, these new rules defined “practice” as a tax return preparer as including the preparing and signing of tax returns and claims for refund
and other documents for submission to the IRS.
Lawsuit. Three paid tax return preparers who were not previously regulated
by the IRS brought a lawsuit against the IRS. Sabina Loving worked on the
South Side of Chicago, serving low-income clients. Elmer Kilian had for decades prepared tax returns in his house. Giovanni Gambino was a financial
planner who prepared tax returns for his clients.
Loving declared that she would have to increase her prices if forced to comply
with the rule, likely losing customers. Kilian and Gambino declared that they
would likely close their tax businesses if forced to comply.
Seeking injunctive and declaratory relief, these plaintiffs sued the IRS, the
Commissioner of Internal Revenue, and the U.S. government under the Administrative Procedure Act and the Declaratory Judgment Act.
Judge’s opinion. On January 18, 2013, The District Court for the District of
Columbia ruled against the IRS. The judge said the following:
•The text of Title 31 of the U.S. Code, Section 330, defines the practice of
representatives in a way that does not cover tax return preparers.
•The IRS’ interpretation would displace an existing statutory scheme that
comprehensively regulates penalties on tax return preparers.
•Under the IRS’ interpretation, a federal statute that remedies abusive
practice by tax return preparers would be relegated to oblivion.
According to the judge, Section 330
cannot apply to the preparation of
tax returns.
Practice of representatives. The IRS argued that Title 31 of the U.S. Code, Section 330, is ambiguous because it does not define representative or practice,
and both terms can have broad meanings. The judge said although these terms
are not defined, the statute does state what representatives do and what their
practice is. The statute states that representatives advise and assist persons in
presenting their cases. Filing a tax return would never, in normal usage, be described as presenting a case because at the time of filing, the taxpayer has no
dispute with the IRS. There is no case to present. Thus, according to the judge,
Section 330 cannot apply to the preparation of tax returns.
Conflicts with other statutes. Title 31 of the U.S. Code, Section 330, allows the
IRS to penalize and disbar practicing representatives for misconduct. However,
there are also numerous statutes in Title 26 of the U.S. Code (also known as the
Internal Revenue Code), that impose penalties for misdeeds by tax return preparers. The judge said if the IRS had open ended discretion under Section 330
to impose a range of monetary penalties on tax return preparers for almost any
134 Chapter 6
conduct the IRS chooses to regulate, those Title 26 statutes would be eclipsed.
Thus, the federal statutes under Title 26 would lose all relevance.
NOTES
Invalid regulations. The judge ruled the regulations invalid with regards to
the three plaintiffs. The judge also ruled the public interest would be served by
a permanent injunction against the IRS implementing these regulations.
IRS Statement on Court Ruling Related to Return Preparers
“As of Friday, January 18, 2013, the United States District Court for the District of
Columbia has enjoined the Internal Revenue Service from enforcing the regulatory requirements for registered tax return preparers. In accordance with this order, tax return
preparers covered by this program are not currently required to register with the IRS,
to complete competency testing, or secure continuing education. The ruling does not affect the regulatory practice requirements for CPAs, attorneys, enrolled agents, enrolled
retirement plan agents or enrolled actuaries.
The Internal Revenue Service, working with the Department of Justice, continues to
have confidence in the scope of its authority to administer this program. It is considering how best to address the court’s order and will take further action shortly.”
Appeals Court Upholds Ban on RTRPs
On February 11, 2014, The U.S. Court of Appeals for the District of Columbia
listed six reasons why the IRS’ interpretation of the statute was wrong.
1)The IRS asserted that paid tax return preparers are representatives of persons. However, the term “representative” is traditionally and commonly defined as an agent with authority to bind others. In contrast, tax return preparers do not possess legal authority to act on the taxpayer’s behalf. They
cannot legally bind the taxpayer by acting on the taxpayer’s behalf unless
they obtain from the taxpayer a power of attorney. In addition, because tax
return preparers are not representatives, the taxpayer must still sign and
submit the return in his or her own name. The court noted that tax return
preparers assist taxpayers, but they do not represent the taxpayer. Thus, the
statute’s use of the term representative excludes tax return preparers.
2)The IRS has long regulated service professionals such as attorneys and accountants who appear as representatives of taxpayers in adversarial tax proceedings before the IRS. The new regulations attempted to expand this act of
“practice” to cover the simple act of preparing and signing tax returns. Although preparing and signing tax returns could be considered a practice of
sorts, the statute addresses practice before the Department of the Treasury.
Even when the IRS disagrees with a taxpayer’s determination of taxes due,
the tax return preparer is not invited to present any arguments or advocacy
in support of the taxpayer’s position. The tax return preparer is not designated as a representative to act on the taxpayer’s behalf until the taxpayer
designates the return preparer during an audit or appeal.
3)Section 330 was originally enacted in 1884 as part of a War Department appropriation for horses and other property lost in the military service. The
original language in the statute does not encompass tax return preparers
(as there was no such industry at the time). In 1982, Congress recodified
the statute and changed phrases from “agents, attorneys, or other persons
Tax return preparers do not possess
legal authority to act on the
taxpayer’s behalf.
Chapter 6 135
NOTES
The court concluded by saying it
might be that allowing the IRS
to regulate tax return preparers
more stringently would be wise as a
policy matter. But that is a decision
for Congress and the President to
make if they wish by enacting new
legislation.
representing claimants” to “representatives of persons.” The title of this
amending legislation said the 1982 Act was designed “to revise, codify, and
enact” the amended provisions “without substantive change.”This indicates
Congress intended no change in the meaning of the statute, other than to
simplify the phrases used.
4)Over the years, Congress has enacted a number of targeted provisions specific to tax return preparers, covering precise conduct ranging from a tax
return preparer’s failing to sign returns to knowingly understating a taxpayer’s liability. Each statutory provision comes with a corresponding penalty. If
the IRS already had the statutory authority to regulate tax return preparers
under Section 330, then all of Congress’ statutory amendments would have
been unnecessary. The fact that multiple Congresses continue to enact specific statutes directed at tax return preparers indicates that Congress acts as
though Section 330 does not apply to tax return preparers.
5)The Supreme Court has stated that courts should not lightly presume Congressional intent to implicitly delegate decisions of major economic or political significance to federal agencies. If the court were to accept the IRS’
interpretation of Section 330, the IRS would be empowered for the first time
to regulate hundreds of thousands of individuals in the multi-billion dollar
tax preparation industry.
6)Until 2011, the IRS never interpreted the statute to give it authority to regulate tax return preparers. Nor did the IRS ever suggest that it possessed this
authority, but simply chose in its discretion not to exercise it. In fact, in 2005,
the head of the IRS’ Criminal Investigation Division testified to Congress
that “tax return preparers are not deemed as individuals who represent individuals before the IRS.” At the same hearing, the National Taxpayer Advocate said, “The IRS currently has no authority to license preparers or require
basic knowledge about how to prepare returns.” In 2009, IRS Pub. 947, Practice Before the IRS and Power of Attorney, stated, “Just preparing a tax return
or furnishing information at the request of the IRS is not practice before
the IRS. These acts can be performed by anyone.” The court said the IRS is
surely free to change its interpretation of a statute it administers. However,
given the circumstances of this case, it is telling that the IRS had never before
maintained that it possessed this authority.
The court concluded by saying it might be that allowing the IRS to regulate tax
return preparers more stringently would be wise as a policy matter. But that
is a decision for Congress and the President to make if they wish by enacting
new legislation. The role of the court is to apply the statute as it is written. The
Appeals Court affirmed the judgment of the District Court.
IRS Implements Voluntary Annual Filing Season Program (AFSP)
In its efforts to enhance competence of tax practitioners, the IRS has implemented a voluntary Annual Filing Season Program (AFSP) designed to encourage education and filing season readiness for paid tax return preparers. The
AFSP is a voluntary program geared towards non-credentialed return preparers that gives them a way to stay up-to-date on new tax law and changes.
Tax return preparers who choose to participate in the program will complete
a specified number of continuing education credits from an IRS-approved
136 Chapter 6
provider allowing them to obtain an AFSP Record of Completion, which will
include listing in a public directory on the IRS website that indicates the preparer’s qualification. The program will be in place beginning in 2015.
NOTES
Who does it affect? Credentialed tax preparers such as CPAs, Enrolled Agents,
Attorneys, Enrolled Retirement Plan Agents, and Enrolled Actuaries are not
required to participate in the AFSP program. If credentialed preparers have a
valid PTIN, they will be included in the public directory on www.irs.gov with
their recognized credentials. However, if they do wish to receive an AFSP Record of Completion, they need only complete the exempt continuing education
requirements.
Non-credentialed preparers who wish to participate in the AFSP program
must complete continuing education requirements that include a six-hour Annual Federal Tax Refresher course (AFTR), commonly referred to as the “After
Course.”
Exempt preparers. Tax Preparers who passed the RTRP exam between November 2011 and January 2013 and others who have successfully completed
recognized national or state tests are considered exempt, and have continuing
education requirements, but are not required to take the six-hour AFTR course
and test in order to receive their AFSP Record of Completion. All others tax preparers need to complete the AFTR course and test in addition to the other nonexempt continuing education requirements if they choose to participate in the
Annual Filing Season Program.
California Registered Tax Preparers (CRTPs) are exempt preparers and are not
required to complete the AFTR course as part of their continuing education
requirements. See Learning Objective 6-C, page 141.
Annual filing season program (AFSP) requirements. Non-Exempt tax return preparers wishing to obtain the AFSP—Record of Completion will need to
complete 18 hours of continuing education annually from an IRS-approved
continuing education provider. The hours must include:
•6 hour Annual Federal Tax Refresher (AFTR) course.
•10 hours of federal tax law topics.
•2 hours of ethics.
Non-Exempt tax return preparers
wishing to obtain the AFSP—Record
of Completion will need to complete
18 hours of continuing education
annually from an IRS-approved
continuing education provider.
Qualifying courses must be completed by December 31 of the previous year to
receive the AFSP Record of Completion for that year.
Consent to Circular 230 restrictions. As a prerequisite to receiving an AFSP
Record of Completion, an individual will be required to consent to the duties and
restrictions relating to practice before the IRS in Circular 230.
Benefits of AFSP Record of Completion. Tax preparers who chose to complete the AFSP requirements will be included in a database on www.irs.gov
available to taxpayers.
Modification to limited practice permissions. The pending guidance will
also include that effective for tax returns and claims for refunds prepared or
signed after December 31, 2015, only unenrolled tax return preparers who have
an AFSP Record of Completion for the calendar year of preparation and the calendar year of representation will be permitted to represent taxpayers before
the IRS during an examination of a return they signed or prepared. Attorneys,
Chapter 6 137
NOTES
CPAs, and Enrolled Agents will continue to have unlimited representation and
can represent clients before any office of the IRS.
Objective 6-A.
1) Beginning in 2016, what credential must a tax preparer who is not a CPA, attorney, or enrolled agent hold in order to represent a client before the IRS?
a) Registered Tax Return Preparer (RTRP).
b)Record of Completion under the Annual Filing Season Program (AFSP).
c) Any tax preparer can represent a taxpayer regarding a return he or she
prepared regardless of credentials.
d)A tax preparer must have full representation rights such as CPAs, attorneys, or enrolled agents in order to represent any taxpayer before the IRS.
List the responsibilities of individuals with principal authority for overseeing a tax firm’s practice to ensure the members, associates, and employees
comply with Circular 230.
Procedures to Ensure Compliance
If the firm has not specifically
identified a person or persons to have
principal authority for compliance,
the IRS may identify one or more
individuals to be responsible for
compliance.
An individual who is subject to Circular 230 who has or shares principal authority and responsibility for overseeing a firm’s practice must take reasonable steps to ensure compliance by all members, associates, and employees
of the firm. Compliance under Circular 230 applies to advice about federal tax
matters, preparation of tax returns, claims for refund, or preparation of other
documents for submission to the IRS. If the firm has not specifically identified
a person or persons to have principal authority for compliance, the IRS may
identify one or more individuals to be responsible for compliance.
An individual who has principal authority for compliance will be subject to
discipline for failing to comply with the requirements if the individual through
willfulness, recklessness, or gross incompetence does not take reasonable
steps to ensure that the firm has adequate procedures to comply with regulations, as applicable, and one or more individuals who are members, associates,
or employees have, engaged in a pattern or practice that fails to comply with
regulations. An individual does not take reasonable steps to ensure that firm
procedures are properly followed if one or more members, associates, or employees of the firm have engaged in a pattern or practice of failing to comply
with regulations.
How the Disciplinary Process Works
The Office of Professional Responsibility (OPR) authority and case determinations are independent of the enforcement functions performed by the general
138 Chapter 6
IRS population. Referrals to OPR alleging violations of Circular 230 are received
from a variety of sources both internal and external. Only rarely does OPR initiate its own projects to identify specific issues for investigation. When a referral
is received, OPR independently determines, based on all available facts and circumstances, if a violation has occurred, whether the violation is one which calls
into question a practitioner’s fitness to continue to practice, and if so, what an
appropriate sanction for the conduct is.
NOTES
Following a preliminary investigation, OPR renders an independent determination as to the likelihood that a violation of Circular 230 has occurred. If a violation is identified, OPR communicates with the practitioner. This is done using
a “Pre-Allegation Notice.”The notice consists of correspondence providing the
practitioner with information regarding the conduct alleged, and the fact that
OPR has initiated a disciplinary investigation. The notice gives the practitioner
an opportunity to provide any evidence or documentation s/he believes is relevant to OPR’s determination. After a thorough investigation of the facts and an
analysis and consideration of aggravating and mitigating circumstances, OPR
determines the lowest level of discipline warranted for the violation(s).
Due process protections are incorporated throughout the disciplinary process. If OPR fails to reach agreement with the practitioner as to an appropriate
sanction, a complaint is drafted and the case is referred to the Office of Chief
Counsel, General Legal Services (GLS). GLS sends a letter to the practitioner
offering a final opportunity to resolve the matter without hearing. If settlement
is not reached, GLS files the complaint to commence a proceeding before an
Administrative Law Judge (ALJ). The ALJ proceeding is a civil hearing during
which the government and respondent present their evidence. The case may be
settled by concurrence of both parties at any time prior to the hearing.
If a hearing is conducted, and after post-hearing briefs are submitted, the ALJ
issues an Initial Decision and Order as to the alleged misconduct and the appropriateness of OPR’s proposed sanction. The ALJ may accept OPR’s recommendations as to the fact of violation and as to the proposed sanction; may
accept the fact of violation but increase or reduce the recommended sanction;
or, may reject OPR’s recommendations both as to facts and sanctions, and thus
dismiss the case.
Following the ALJ’s Decision and Order, either party may appeal the case to
the Treasury Appellate Authority who will, after receiving briefs from both parties, render the Final Agency Decision. For OPR, a decision by the Appellate
Authority is a final determination in the case. In addition, if neither party appeals within 30 days, the ALJ’s Initial Decision and Order becomes the Final
Agency Decision. Since September 2007, the text of each Final Agency Decision
is made public and is available at www.irs.gov.
A practitioner who wishes may file a complaint in U.S. District Court to contest
the Final Agency Decision when rendered by the Treasury Appellate Authority.
This proceeding is also conducted according to the Administrative Procedures
Act during which the federal district judge will review findings of facts based
only on the administrative record and will set aside agency action only if arbitrary or capricious, contrary to law, or an abuse of discretion.
A practitioner who wishes may file
a complaint in U.S. District Court
to contest the Final Agency Decision
when rendered by the Treasury
Appellate Authority.
Chapter 6 139
NOTES
Requirements for Written Advice
In 2014, the IRS updated Circular 230 (TD 9668). One of the major changes included the elimination of the complex rules governing covered opinions in section 10.35 and to expand the requirements for written advice under section 10.37.
Many tax preparers currently use a Circular 230 disclaimer at the conclusion
of every email or other writing to remove the communication from the covered
opinion rules in former section 10.35. The removal of this section eliminates
the detailed provisions concerning covered opinions and disclosures in written
opinions. Because the amendments do not include the disclosure provisions in
the previous covered opinion rules, the director of the Office of Professional
Responsibility has stated, “If a practitioner continues to use a disclaimer that
includes language such as, ‘The IRS requires’ or ‘I am required under Circular
230,’ he or she will receive a cease and desist letter from the IRS.” This does not,
however, prohibit the use of an appropriate statement describing any reasonable and accurate limitations of the advice rendered to the client.
A practitioner may give written advice concerning one or more federal tax matters as long as:
•The written advice is based on reasonable factual and legal assumptions
(including assumptions as to future events).
•The practitioner has reasonably considered all relevant facts and
circumstances that he or she knows or reasonably should know.
•Reasonable efforts are used to identify and ascertain the facts relevant to
the written advice.
•The practitioner does not rely upon representations, statements, findings, or
agreements (including projections, financial forecasts, or appraisals) of the
taxpayer or any other person if reliance on them would be unreasonable.
•The written advice relates applicable law and authorities to fact.
•The practitioner does not take into account the possibility that a tax return
will or will not be audited or that a matter will not be raised on audit.
Objective 6-B.
2) Jacob owns and manages a tax office. He has a Record of Completion under
the Annual Filing Season Program (AFSP). Jacob is responsible for which
individuals with regard to compliance with Circular 230.
a)Jacob is responsible only for his own compliance with Circular 230. His
employees are responsible for their own compliance.
b)Jacob is responsible for compliance with Circular 230 only for returns he
signs as the paid preparer.
c) Jacob is responsible for taking steps to ensure compliance by all members
of his firm.
d)Unless Jacob is a CPA, attorney, or enrolled agent, he is not subject to
compliance rules relating to Circular 230.
140 Chapter 6
NOTES
Identify the special treatment granted to California Registered Tax Preparers
(CRTPs) under revised regulations set forth in Circular 230.
California Registered Tax Preparers (CRTPs)
Individuals who prepare tax returns in California who are not CPAs, attorneys,
or enrolled agents must meet the education and registration requirements of
the California Tax Education Council, also known as CTEC. An applicant must
take a designated 60-hour course and pass an exam to become a California
Registered Tax Preparer (CRTP). Once an individual has attained CRTP status,
he or she must meet a 20-hour continuing education requirement annually for
renewal. The 20 hours of continuing education must include 10 hours of federal
tax law, three hours of federal tax law updates, two hours of ethics, and five
hours of California-specific continuing education credits.
Individuals who prepare tax returns
in California who are not CPAs,
attorneys, or enrolled agents must
meet the education and registration
requirements of the California Tax
Education Council, also known as
CTEC. An applicant must take a
designated 60-hour course and pass
an exam to become a California
Registered Tax Preparer (CRTP).
To renew, CRTPS must also have:
•A valid PTIN from the IRS.
•A current $5,000 tax preparer surety bond.
•Visa or Mastercard to pay the $33 registration fee.
Approved CTEC education providers can be found at www.ctect.org.
CRTPs must complete the renewal process online by midnight, October 31.
Late registration is allowed until January 15, but an increased registration fee
of $55 will apply. CRTPs who do not renew January 15 will be required to start
over, retake the 60 hours of qualifying education, pass a final exam from a
CTEC-approved education provider, and re-register as a new CRTP.
CRTPs Get Special Treatment under the New IRS Filing Season
Program
The IRS recently implemented an Annual Filing Season Program (AFSP) allowing a non-credentialed individual to obtain a “Record of Completion” by
taking a six-credit-hour Annual Filing Season Refresher (AFTR) course and
passing a 100-question three-hour timed exam. Additional requirements for
continuing education include 10 credit hours of federal tax subjects, and two
hours of ethics.
Exemption for CRTPs. Because CRTPs have already passed the 60-hour qualifying education course and compled continuing education requirements for
California, the IRS has exempted them from the requirement to take the AFTR
course and passing the 100-question exam in order to obtain a Record of Completion. Since approved CTEC education courses meet IRS standards, a CTRP
in good standing has already met all of the IRS requirements of the AFSP. A
CRTP has an easier path to obtaining a Record of Completion.
CRTPs take the following steps to obtain a Record of Completion.
•The IRS has access to the CTEC database of registered preparers. The IRS
will run checks on the database after the October 31 registration date, and
will continue the checks for late registrations through December 31. A CRTP
must be registered by December 31 to qualify.
Chapter 6 141
NOTES
CRTPs that obtain a Record of
Completion will be listed on an
IRS database designed to help
taxpayers determine return preparer
qualifications.
•A comparison between the CTEC list and the IRS PTIN list is then made.
The preparers who are on both lists are marked as exempt from having to
complete the Annual Federal Tax Refresher course. PTIN renewals will be
permitted after December 31.
•Providers of continuing education for CRTPs will upload verification in the
PTIN database.
•When the IRS has marked the CRTP’s PTIN account as exempt, verified continuing education requirements are met, and verified the PTIN has been renewed, the IRS will send the CRTP a notice to visit their PTIN account.
•When the CRTP visits their PTIN account, the CRTP must sign a statement
that he or she will comply with Treasury Circular 230, Subpart B, Duties and
Restrictions Relating to Practice Before the Internal Revenue Service. At that time
the CRTP can go to the secure mailbox and print the Record of Completion.
CRTPs that obtain a Record of Completion will be listed on an IRS database
designed to help taxpayers determine return preparer qualifications.
KEY FACT
The CRTP must obtain the Record of Completion to qualify for the advantages
provided by the IRS. Beginning in 2016, tax preparers who are not CPAs, attorneys, or enrolled agents must have a valid Record of Completion for the
calendar year of preparation and the calendar year of representation to be
permitted to represent taxpayers before the IRS for a tax return the individual
prepared.
Objective 6-C.
3) A California Registered Tax Preparer (CRTP) is exempt from which requirement under the Annual Filing Season Program (AFSP)?
a) The requirement to take the Annual Federal Tax Refresher course.
b)The requirement to renew his or her PTIN.
c) The requirement that the preparer comply with regulations set forth in
Treasury Circular 230.
d)A CRTP is exempt from continuing education requirements.
142 Chapter 6
NOTES
Multiple Choice
1) Beginning in 2016, what credential must a tax preparer who is not a CPA, attorney, or enrolled agent hold in order to represent a client before the IRS?
a) Registered Tax Return Preparer (RTRP).
Incorrect. Courts found that the law did not allow the IRS to regulate tax
preparers under the RTRP program.
b) Record of Completion under the Annual Filing Season Program (AFSP).
Correct.After the RTRP program was discontinued, the IRS instituted
the voluntary AFSP program. Beginning in 2016, tax preparers who do not have at least a Record of Completion under the
AFSP will not be allowed to represent taxpayers before the IRS
even for returns they prepared.
c)Any tax preparer can represent a taxpayer regarding a return he or she
prepared regardless of credentials.
Incorrect. This was the rule through 2015, but beginning in 2016, and individual must have at least a Record of Completion under the
AFSP in order to represent a taxpayer before the IRS even if he
or she prepared the return.
d)A tax preparer must have full representation rights such as CPAs, attorneys, or enrolled agents in order to represent any taxpayer before the IRS.
Incorrect. A person with a Record of Completion under the AFSP program
has limited representation rights beginning in 2016 for a return
he or she prepared.
2) Jacob owns and manages a tax office. He has a Record of Completion under
the Annual Filing Season Program (AFSP). Jacob is responsible for which
individuals with regard to compliance with Circular 230.
a)Jacob is responsible only for his own compliance with Circular 230. His
employees are responsible for their own compliance.
Incorrect. An individual who has principal authority of overseeing a firm’s
practice must take steps to ensure compliance by all members
and employees of the firm.
b)Jacob is responsible for compliance with Circular 230 only for returns he
signs as the paid preparer.
Incorrect. Jacob must take steps to ensure all members and employees of
the firm comply with Circular 230.
c) Jacob is responsible for taking steps to ensure compliance by all members
of his firm.
Correct. If one or more members of the firm fail to comply with regulations, Jacob can be sanctioned for failure to comply with Circular
230.
Chapter 6 143
NOTES
d) Unless Jacob is a CPA, attorney, or enrolled agent, he is not subject to compliance rules relating to Circular 230.
Incorrect. An individual with a Record of Completion under the AFSP who
has principal authority for overseeing a firm’s practice is subject
to compliance rules under Circular 230 and must take steps to
ensure all members of the firm comply.
3) A California Registered Tax Preparer (CRTP) is exempt from which requirement under the Annual Filing Season Program (AFSP)?
a) The requirement to take the Annual Federal Tax Refresher course.
Correct. A CRTP is still required to complete continuing education and
have a valid PTIN, but is not required to take the AFTR course.
b) The requirement to renew his or her PTIN.
Incorrect. All tax preparers must have a valid PTIN to qualify under the
AFSP.
c)The requirement that the preparer comply with regulations set forth in
Treasury Circular 230.
Incorrect. In order to obtain a Record of Completion under the AFSP, all
preparers must agree to comply with Treasury Circular 230.
d) A CRTP is exempt from continuing education requirements.
Incorrect. Although a CRTP will have enough credit hours of continuing
education to renew their CRTP status, the individual is not exempt from continuing education requirements.
144 Chapter 6
7
Miscellaneous Federal Updates
CPE/CE
Learning Objectives
7-A List filing requirements for individuals with interests in foreign financial
bank accounts.
7-B Identify rules set forth in the Affordable Care Act (ACA).
7-C Recognize rules for loan modifications for home owners under the Home
Affordable Modification Program (HAMP).
Glossary Terms
FBAR. An FBAR is a foreign bank account report required if an individual has
signature authority over a foreign financial account that exceeds $10,000 at any
time during the year.
Premium Tax Credit. Individuals who purchase health insurance through a
state exchange may be eligible for a Premium Tax Credit if their income meets
certain guidelines.
Shared responsibility payment. If an individual fails to maintain minimum
essential health coverage during the year the person may be subject to a penalty which is paid on the tax return.
Home Affordable Modification Program (HAMP). If a person’s financial situation changes and they have difficulty making their mortgage payments, they
may be eligible for assistance from the HAMP program administered by the
Departments of the Treasury and Housing and Urban Development.
List filing requirements for individuals with interests in foreign financial bank
accounts.
FinCEN Form 114, Report of Foreign Bank and Financial Accounts
(FBAR)
FinCen Form 114 is used by individuals to report a financial interest in or signature authority over a foreign financial account. The FBAR must be received
by the Department of the Treasury on or before June 30 of the year immediately
following the calendar year being reported. The June 30 filing date may not be
extended.
The FBAR must be received by
the Department of the Treasury
on or before June 30 of the year
immediately following the calendar
year being reported.
FinCen Form 114 is also referred to as an “FBAR,” (foreign bank account report).
Who Must File an FBAR. A United States person who has a financial interest
in or signature authority over a financial account located outside the United
States must file an FBAR if the aggregate value of the foreign financial accounts
exceeds $10,000 at any time during the calendar year.
Chapter 7 145
NOTES
United States person. A United States person includes U.S. citizens (including
minor children), U.S. residents, entities such as corporations, partnerships, or
LLCs, and trusts or estates formed under U.S. law.
Child’s FBAR. If a child cannot file his or her own FBAR for any reason, the
child’s parent, guardian, or other legally responsible person must file it for the
child.
When and where to file. The FBAR is an annual report and must be electronically filed on or before June 30 of the year following the calendar year being
reported. The FBAR must be filed through FinCEN’s BSA E-Filing System. The
application to file electronically is available at http://bsaefiling.fincen.treas.gov.
No extension of time to file. There is no extension of time available for filing
an FBAR. Extensions of time to file federal tax returns do NOT extend the time
for filing an FBAR.
Recordkeeping requirements. Persons required to file an FBAR must retain
records that contain the name in which each account is maintained, the number or other designation of the account, the name and address of the foreign
financial institution that maintains the account, the type of account, and the
maximum account value of each account during the reporting period. The records must be retained for a period of five years from June 30 of the year following the calendar year reported and must be available for inspection as provided by law. Retaining a copy of the filed FBAR can help to satisfy the record
keeping requirements.
KEY FACT
Accounts jointly owned by spouses. The spouse of an individual who files an
FBAR is not required to file a separate FBAR if all of the following conditions
are met.
1)All the financial accounts that the non-filing spouse is required to report
are jointly owned with the filing spouse,
2) The filing spouse reports the jointly owned accounts on a timely filed FBAR
electronically signed, and
3) The filers have completed and signed Form 114a, “Record of Authorization
to Electronically File FBAR’s” (maintained with the filers’ records.
If the conditions above are not met, both spouses are required to file separate
FBARs, and each spouse must report the entire value of the jointly owned
accounts.
An owner or beneficiary of an IRA
is not required to report a foreign
financial account held in the IRA.
IRA owners and beneficiaries. An owner or beneficiary of an IRA is not required to report a foreign financial account held in the IRA.
Qualified retirement plans. A participant or beneficiary of a retirement plan
described in IRC sections 401(a), 403(a), or 403(b) is not required to report a
foreign financial account held by or on behalf of the retirement plan.
KEY FACT
Online gambling accounts. Gambling accounts with casinos located in foreign
countries are subject to FBAR reporting. Hom (DC CA 06/04/2014)
146 Chapter 7
NOTES
Objective 7-A.
1) The due date for FinCEN Form 114 (FBAR) is:
a) April 15 of the year following the year being reported.
b)June 30 of the year following the year being reported.
c) October 15 of the year following the year being reported.
d)December 31 of the year being reported.
Identify rules set forth in the Affordable Care Act (ACA).
Premium Tax Credit
The Premium Tax Credit (PTC) is a refundable credit for certain people who
enroll, or whose family member enrolls, in a qualified plan offered through a
Health Insurance Marketplace (also known as an Exchange). The credit provides financial assistance to pay the premiums by reducing the amount of tax
owed, or increasing the refund amount.
Advance premium tax credit (APTC). The APTC is a payment made for coverage during the year to the taxpayer’s insurance provider that pays for part
or all of the premiums for the coverage of the taxpayer or an individual in the
taxpayer’s tax family. The APTC eligibility is based on the Marketplace’s estimate of the PTC for which the taxpayer will be eligible. If APTC was paid for an
individual in the taxpayers’ tax family, Form 8962, Premium Tax Credit, must be
filed to reconcile the APTC with the taxpayer’s PTC.
Note: The Marketplace determines eligibility for the current year APTC using
projections of income and number of personal exemptions when the taxpayer
enrolled in a qualified health plan. If this information changes during the year
and is not promptly reported to the Marketplace, the amount of APTC paid
may be different from the amount of PTC the taxpayer can claim on his or her
tax return.
Form 8962, Premium Tax Credit (PTC). Form 8962 must be filed to compute
and take the PTC on the taxpayer’s tax return. Form 8962 must be filed if any of
the following apply.
•The PTC is being claimed.
• The APTC was paid to the taxpayer or another individual in the taxpayer’s tax
family.
•The APTC was paid to an individual for whom the taxpayer told the Marketplace that he or she would claim a personal exemption, if no one else claims
the exemption for that individual.
Form 1095-A. The Marketplace is required to issue Form 1095-A, Health Insurance Marketplace Statement, to the tax filer(s) identified in the enrollment application no later than January 31. Under certain circumstances, the Marketplace
The Marketplace is required to issue
Form 1095-A, Health Insurance
Marketplace Statement, to the tax
filer(s) identified in the enrollment
application no later than January 31.
Chapter 7 147
NOTES
will provide Form 1095-A to one taxpayer, but another taxpayer will also need
the information to complete Form 8962. The recipient of the Form 1095-A should
provide a copy to other taxpayers as needed.
Who can claim the PTC. A taxpayer can take the PTC if all of the following
requirements are met.
•At some time during the year, one or more individuals in the taxpayer’s tax
family:
–Were enrolled in one or more qualified health plans offered through the
Marketplace, and
–For the same months, were not eligible for minimum essential health
coverage (other than coverage in the individual market).
•The taxpayer is an applicable taxpayer defined as follows:
–Household income is at least 100% but not more than 400% of the federal
poverty line (FPL) for the taxpayer’s family size,
–No one can claim the taxpayer as a dependent for the year, and
–If the taxpayer is married at the end of the year, files a joint tax return with
his or her spouse.
Exception: A married taxpayer will satisfy the joint filing requirement for purposes of the PTC if the taxpayer is filing as MFS and:
•Is living apart from the spouse at the time the tax return is filed,
•Is unable to file a joint tax return because the taxpayer is a victim of domestic
abuse or spousal abandonment, and
•Certifies on his or her tax return that the taxpayer meets the criteria under
the above two points.
The federal poverty lines are online at http://aspe.hhs.gov/poverty-guidelines.
Reconciliation/Repayment of Advance Payments
Each year the amount of APTC must
be reconciled with the allowable
PTC for the year of coverage.
Reconciliation. Any advance payment of the premium tax credit (APTC) to the
health plan provider will be reported on Form 1095-A. Each year the amount
of APTC must be reconciled with the allowable PTC for the year of coverage.
If APTC…
Then…
Exceeds the PTC the taxpayer is entitled to…
The excess is treated as an increase in tax.
Is less than the PTC the taxpayer is entitled to… The shortfall is treated as a refundable credit.
Repayment. Any increase in tax due to the reconciliation is limited to the
amounts in the following table.
Repayment Limitation
If household income is:
The repayment limitation is:
For a filing status of —
Single
For any other filing
status…
Less than 200% FPL
$ 300
$ 600
At least 200% but less than 300% FPL
$ 750
$ 1,500
At least 300% but less than 400% FPL
$1,250
$2,500
400% FPL and above
none
none
The above amounts are indexed for inflation after 2014. See Form 8962 Instructions for more
information
148 Chapter 7
Failure to Maintain Health Coverage
Shared responsibility payment. Nonexempt U.S. citizens and legal residents
are required to maintain minimum essential health care coverage, have an exemption, or make a shared responsibility payment (penalty) with their tax return. Minimum essential coverage is coverage under a government-sponsored
program, coverage from an employer, a plan purchased from an exchange, or
other coverage as recognized by the Secretary of Health and Human Services
(HHS). An individual is considered to have coverage for a month if the individual is covered for at least one day during that month.
NOTES
An individual is considered to
have coverage for a month if the
individual is covered for at least one
day during that month.
The shared responsibility payment is computed on a month-by month basis.
Use the worksheet in the Instructions for Form 8965, Health Coverage Exemptions, to compute the penalty.
For 2015, the payment amount is:
•The greater of:
–2% of household income that is above the tax return filing threshold based
on filing status, or
–The tax household’s flat dollar amount, which is $325 per adult and $162.50
per child under age 18, limited to a family maximum of $975, capped at
the cost of the national average premium for a bronze level health plan
available through an exchange ($207 per month for individuals – $1,035 per
month for family with five or more members for 2015).
Household income. For purposes of Form 8965, Health Coverage Exemptions,
household income is modified AGI (AGI plus tax-exempt interest from line 8b,
Form 1040, and foreign housing exclusion from lines 45 and 50, Form 2555) of
each individual in the tax household who the taxpayer can claim as a dependent and who is required to file his or her own tax return.
Penalty increase. The penalty will increase in 2016.
Penalty Chart Summary
The penalty is Or the following percent of excess household
Year
the greater of:
income over the threshold amount:
2015. . . . . . . . . . . . . . . . . . . . ................ $ 325................................. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2.0%
2016 and after.. . . . . . . . . ............... $ 695*................................ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2.5%
*Indexed for inflation after 2016
Form 8965, Health Coverage Exemptions. The following exemptions from
the requirement to maintain minimum essential coverage can be obtained.
Note that an exemption obtained from an exchange must report an exemption
certificate number.
•Unaffordable coverage. Coverage is considered unaffordable if the minimum premium is more than 8% of household income.
•Short coverage gap. An exemption applies for an individual who went without coverage for less than three consecutive months during the year.
•Citizens living abroad and certain noncitizens. This exemption applies to a
U.S. citizen or resident who spent at least 330 full days outside the U.S. during a 12-month period, a U.S. citizen who is a bona fide resident of a foreign
country or U.S. territory, or a person who is neither a U.S. citizen or U.S. national nor an alien lawfully present in the U.S.
Chapter 7 149
NOTES
•Household income below minimum threshold for filing a tax return. For
this purpose, the tax household generally includes the taxpayer, spouse, and
any individual the taxpayer can claim as a dependent, unless the dependent
is claimed by another taxpayer.
•Members of a health care sharing ministry.
•Members of federally-recognized Indian tribes.
•Incarcerated individuals.
•Members of certain recognized religious sects.
•Individuals enrolled in limited benefit Medicaid and TRICARE programs.
•Fiscal-year employer plan. This exemption applies if the individual was
eligible, but did not purchase, coverage under an employer plan with a plan
year that started in 2014 and ended in 2015.
•Hardships. The following hardships will qualify for exemption from the requirement to maintain minimum essential coverage.
–Two or more family members’ aggregate cost of self-only employer-sponsored coverage is more than 8% of household income, as is the cost of any
available employer-sponsored coverage for the entire family.
– The individual purchased insurance through an exchange during the initial
enrollment period but has a coverage gap at the beginning of 2014.
–The individual was accepted for CHIP coverage during the initial open enrollment period but has a coverage gap at the beginning of 2014.
– The individual is an American Indian, Alaska native, or a spouse or descendant of either who is eligible for services through an Indian health care
provider.
–Gross income is below the filing threshold.
Some additional exemptions may apply. See the instructions for Form 8965,
Health Coverage Exemptions, for more information about exemptions.
Net Investment Income Tax
The Net Investment Income
Tax applies to the lesser of net
investment income or the excess of
modified AGI over the threshold
amount.
Individuals owe an additional 3.8% Medicare tax if they have net investment
income and their modified AGI is over the threshold amount of $250,000 for
MFJ, $125,000 for MFS, and $200,000 for any other filing status. The Net Investment Income Tax applies to the lesser of net investment income or the excess of
modified AGI over the threshold amount. (IRC §1411)
Net investment income:*
•Interest.
•Dividends.
•Capital gains from sale of stock, bonds, mutual funds, investment real estate.
•Capital gain distributions from mutual funds.
•Rental and royalty income.
•Nonqualified annuities.
•Business income from passive activities.
Income not net investment income:
•Wages.
•Unemployment compensation.
150 Chapter 7
•Operating income from a nonpassive business.
•Social Security benefits.
•Alimony.
•Tax-exempt interest.
•Self-employment income.
•Alaska Permanent Fund Dividends.
•Distributions from qualified plans.
NOTES
*To arrive at net investment income, gross investment income is reduced by
any allocable investment deductions.
EXAMPLE
Bob, single, has $180,000 of wages and received $90,000 from a passive partnership interest. Bob’s MAGI is $270,000, which exceeds the threshold of $200,000
for single taxpayers. The Net Investment Income Tax is based on the lesser of
$70,000 (the amount that Bob’s MAGI exceeds the threshold) or $90,000 (Bob’s
net investment income). Bob’s additional tax is $2,660 ($70,000 × 3.8%).
Form 8960, Net Investment Income Tax. Individuals, estates, and trusts subject to the Net Investment Income Tax calculate the tax on Form 8960. For individuals, the tax will be reported on, and paid with, Form 1040. For estates and
trusts, the tax will be reported on, and paid with, Form 1041, U.S. Income Tax
Return for Estates and Trusts.
Additional Medicare Tax
A 0.9% additional Medicare tax applies to a taxpayer’s combined Medicare
wages, other compensation, self-employment income, and RRTA (Railroad Retirement Tax Act) compensation above certain threshold amounts based on filing status.
Medicare wages and self-employment income are combined to determine if
the taxpayer’s income exceeds the threshold. However, a self-employment loss
does not reduce W-2 wages and the tax must be figured separately for each
type of income. RRTA compensation should be separately compared to the
threshold.
Additional Medicare Tax Threshold Amounts
Filing Status. . . . . . . . . . ......... Single, HOH, QW. . ........ . . . . MFJ.. . . . . . . . . . . . . . . . . . . MFS
Threshold Amount.. ............... $200,000.................... $250,000.. . . . . . . . . . . $125,000
Form 8959, Additional Medicare Tax. All taxpayers who are above the threshold amounts must use Form 8959 to calculate:
•The additional Medicare tax amount owed, reported on line 62, Form 1040, and
•The total additional Medicare tax withholding amount to include with federal tax withholding on line 64, Form 1040.
Employee. An employer must withhold the additional Medicare tax on Medicare wages or RRTA compensation it pays to an individual in excess of $200,000
in a calendar year, without regard to the individual’s filing status or wages paid
by another employer. The amount in box 6, Form W-2, includes the additional
Medicare tax withheld, if applicable, in addition to the regular Medicare tax
withheld.
An employer must withhold
the additional Medicare tax
on Medicare wages or RRTA
compensation it pays to an
individual in excess of $200,000 in a
calendar year, without regard to the
individual’s filing status or wages
paid by another employer.
Chapter 7 151
NOTES
Self-employed. For self-employed individuals, the additional Medicare tax is
calculated based on self-employment income from line 4, Section A, or line 6,
Section B, of Schedule SE, Self-Employment Tax.
Form 8941, Credit for Small Employer Health Insurance Premiums
This credit is designed to encourage small employers to offer health insurance
coverage or to maintain the coverage they already have.
The following provisions apply:
•The maximum credit is 50% of premiums paid (35% for small tax-exempt
organizations).
• The employer must pay premiums on behalf of employees enrolled in a qualified health plan offered through a Small Business Health Options Program
(SHOP) Marketplace.
•The credit is available to eligible employers for two consecutive tax years beginning with the first taxable year in which the employer offers one or more
qualified health plans to its employees through a SHOP Marketplace.
Small business employers that do not
owe tax can carry the credit back or
forward to other tax years.
Credit features. Small business employers that do not owe tax can carry the
credit back or forward to other tax years. Employers can claim a business expense deduction for the premiums in excess of the credit. The credit is refundable for small tax-exempt employers to the extent it does not exceed income tax
withholding and Medicare tax liability.
Credit reduction. The credit may be reduced by limitations based on the employer’s full-time equivalent employees, average annual wages, state average
premiums, and state premium subsidies and tax credits.
Eligible small business employer. An eligible small business employer is any
employer who:
•Employed fewer than 25 full-time equivalent employees (FTEs) for the tax
year,
•Paid annual wages averaging $52,000 (for 2015) or less per FTE, and
•Paid health insurance premiums purchased through the SHOP Marketplace.
Tax-exempt organizations can qualify as eligible small business employers under the same rules.
Full-time equivalent employees (FTEs). The number of an employer’s FTEs
is determined by dividing the total hours of service for which the employer
pays wages to employees during the year (but not more than 2,080 hours for
any employee) by 2,080. The result, if not a whole number, is then rounded to
the next lowest whole number. For example, 10.99 is rounded down to 10.
152 Chapter 7
NOTES
Objective 7-B.
2) The tax rate for the Net Investment Income Tax is:
a) 0% for taxpayers in the 10% or 15% brackets, or 15% for taxpayers above
the 15% bracket.
b) 3.8%
c) 0.9%
d) 25%
Recognize rules for loan modifications for home owners under the Home
Affordable Modification Program (HAMP).
Home Affordable Modification Program (HAMP)
The U.S. Departments of the Treasury and Housing and Urban Development
administer the HAMP program for individuals who are having difficulty making mortgage payments. Hamp is designed to provide savings for homeowners
who have experienced increases in expenses or reductions in income.
Eligibility. An individual may be eligible for the HAMP program if the following criteria are met.
•Because of financial hardship, the individual is struggling to make mortgage
payments.
•The individual is delinquent or in danger of falling behind on mortgage
payments.
•The mortgage was obtained on or before January 1, 2009.
•The property has not been condemned.
•The individual owes up to $729,750 on a primary residence or one-to-four
unit rental property (loan limits are higher for two-to-four unit properties.
•The individual has not been convicted of a crime in connection with a mortgage or real estate transaction within the last 10 years.
Request for assistance. To request assistance under the HAMP program, the
borrower must complete Form RMA, Request for Mortgage Assistance. The form
asks for information about whether the individual intends to keep the property, a description of the hardship, and financial information. The request for
assistance also includes filing Form 4506-T, Request for Transcript of Tax Return.
The request is made through the financial institution that is servicing the individual’s mortgage.
Beware of scams. Assistance provided under HAMP is free. Beware of foreclosure rescue scams.
•There is never a fee to obtain assistance or information about the HAMP
program from the lender or HUD-approved housing counselor.
Assistance provided under HAMP
is free.
Chapter 7 153
NOTES
•Beware of any person who asks for a fee in exchange for housing counseling
services or modification of a delinquent loan.
•Beware of anyone who says they can “save” the home if the homeowner signs
over the deed. Do not sign over the deed unless working directly with the
mortgage company to forgive the debt.
•Never make mortgage payments to anyone other than the mortgage
company without their approval.
Qualified Principal Residence Debt
Taxpayers may exclude income from
cancellation of qualified principal
residence indebtedness for discharges
of debt occurring after 2006 and
before 2015 on their federal return.
Taxpayers may exclude income from cancellation of qualified principal residence indebtedness for discharges of debt occurring after 2006 and before 2015
on their federal return.
•The exclusion is limited to $2 million of acquisition debt.
•Acquisition debt has the same meaning as acquisition debt for purposes of
the mortgage interest deduction rules except that the $1 million debt limit is
increased to $2 million for purposes of the exclusion rule.
•Any amount excluded reduces the taxpayer’s basis in the residence.
•The exclusion does not apply to debt discharged on account of services performed for the lender or any other factor not directly related to a decline in
the value of the residence or the financial condition of the taxpayer.
•The exclusion for discharge of debt on a qualified principal residence is used
before the insolvency exclusion, unless the taxpayer elects to apply the insolvency exclusion instead.
•If a portion of a loan that is discharged is not qualified principal residence
indebtedness, the exclusion is limited to the amount discharged that exceeds
the amount of the loan that is not qualified principal residence indebtedness.
Qualified principal residence. For purposes of exclusion from income of qualified principal residence indebtedness, a qualified principal residence has the
same definition as is used for the exclusion of gain on the sale of a principal
residence. For California qualifications and limitations, see Mortgage Forgiveness Debt Relief, page 30.
Objective 7-C.
3) Which of the following is one criteria that must be met to qualify for assistance under the Home Affordable Modification Program (HAMP).
a) The fee for assistance from a HUD-approved housing counselor must be
less than $200.
b)The homeowner must agree to sign over the deed to the home to the
lending institution.
c) The property has not been condemned.
d)The individual must be current on mortgage payments.
154 Chapter 7
NOTES
Multiple Choice
1) The due date for FinCEN Form 114 (FBAR) is:
a) April 15 of the year following the year being reported.
Incorrect. April 15 is the due date for individual returns. The due date for
FinCEN Form 114 is June 30 of the year following the year being
reported.
b) June 30 of the year following the year being reported.
Correct. The June 30 due date cannot be extended.
c) October 15 of the year following the year being reported.
Incorrect. The extended due date for Form 1040 is October 15. The due
date for FinCEN Form 114 is June 30 of the year following the
year being reported.
d) December 31 of the year being reported.
Incorrect. The due date for FinCEN Form 114 is June 30 of the year following the year being reported.
2) The tax rate for the Net Investment Income Tax is:
a)0% for taxpayers in the 10% or 15% brackets, or 15% for taxpayers above
the 15% bracket.
Incorrect. These are the rates for long-term capital gains. The rate for the
Net Investment Income Tax is 3.8%.
b)3.8%
Correct. The tax rate for the Net Investment Income Tax is 3.8% of income
above the threshold amounts.
c)0.9%
Incorrect.0.9% is the tax rate for additional Medicare tax on earned income. The tax rate for the Net Investment Income Tax is 3.8% of
income above the threshold amounts.
d)25%
Incorrect. 25% is the maximum tax rate for unrecaptured section 1250 gain.
The tax rate for the Net Investment Income Tax is 3.8% of income
above the threshold amounts.
Chapter 7 155
NOTES
3) Which of the following is one criteria that must be met to qualify for assistance under the Home Affordable Modification Program (HAMP).
a)The fee for assistance from a HUD-approved housing counselor must be
less than $200.
Incorrect. There is never a fee for assistance from a HUD-approved housing counselor with regard to HAMP.
b) The homeowner must agree to sign over the deed to the home to the lending institution.
Incorrect. The deed should not be signed over unless the homeowner is
working directly with the mortgage company to forgive the debt.
c) The property has not been condemned.
Correct. If a property has been condemned it does not qualify for assistance under the HAMP program.
d) The individual must be current on mortgage payments.
Incorrect. If an individual is delinquent or in danger of becoming delinquent on mortgage payments HAMP assistance may be available.
156 Chapter 7
8
Mandatory California Subjects
CPE/CE
Learning Objectives
8-A Compare the regular method for computing expenses for business use
of the home with the optional simplified method.
8-B Choose the correct filing status for same-sex married couples.
8-C Apply rules for miscellaneous subjects as noted in the CTEC Education
Standards and Provider Policy Updates materials.
Glossary Terms
Simplified option for home office deduction. Instead of computing actual expenses for the business use of the home deduction, a flat rate of $5 per
square foot of space may be used, up to a maximum of 300 feet if the business
use otherwise qualifies.
Registered domestic partnerships and civil unions. Although same-sex
marriage is now recognized for federal tax purposes, registered domestic partnerships and civil unions that are not considered marriage under state law do
not qualify.
Ad valorem. Ad valorem taxes are based on value of the underlying property.
Compare the regular method for computing expenses for business use of the
home with the optional simplified method.
Business Use of Home Tax Advantages
If business use of a home meets certain tests, a portion of otherwise nondeductible utility, insurance, home repairs, and depreciation are converted into
legitimate business deductions.
Qualification Rules—Business Use of Home
Generally, a taxpayer cannot deduct items related to his or her home, such as
mortgage interest and real estate taxes, as business expenses. A taxpayer may
be able to deduct expenses related to the business part of the home if specific
requirements are met.
Requirements to qualify for a deduction. To take a business deduction, a taxpayer must use part of his or her home under one of the following situations.
•An area in the home is exclusively and regularly used as the principal place
of business,
•An area in the home is exclusively and regularly used as a place where the
taxpayer meets or deals with patients, clients, or customers in the normal
course of a trade or business,
Chapter 8 157
NOTES
•A separate structure which is not attached to the home is used in connection
with a trade or business,
•An area in the home is used on a regular basis for storage of inventory or
product samples,
•The home is used for a rental activity, or
•The home is used as a day care facility.
Additional tests for employees. In addition to meeting one of the tests, above,
an employee must meet both of the following.
• The business use of a home must be for the convenience of the employer, and
•The employee cannot rent any part of the home to the employer and use the
rented portion to perform services as an employee for that employer.
Exclusive Use Test
The area can be a room or other
separately identifiable space. The
space does not need to be marked off
by a permanent partition.
The exclusive use test is met if an area of the home is used only for business.
The area can be a room or other separately identifiable space. The space does
not need to be marked off by a permanent partition. This test is not met if the
taxpayer uses the area both for business and for personal purposes, such as a
den used for business during the day and TV viewing during the evening.
The exclusive use test is not required for:
•An area used on a regular basis for storage of inventory or product samples.
•A home used as a day care facility.
Storage of inventory or product samples—exception to exclusive use test.
A taxpayer using part of a home for business to store inventory or product
samples is not required to meet the exclusive use test. However, the taxpayer
must meet all the following tests.
•The taxpayer is in the business of selling products at wholesale or retail.
• The inventory or product samples are kept in the home for use in the business.
•The taxpayer’s home is the only fixed location of the business.
•The storage space is used on a regular basis.
•The storage space is a separately identifiable space suitable for storage.
EXAMPLE
Peter is in the business of selling office supplies at wholesale to retail office
supply stores. His home is the only fixed location for his business. He regularly
uses storage shelves in his garage and basement for storage of inventory and
product samples. The garage is also used to park the family cars, and the
basement is also used as a recreation area for the family. The portions of the
home used for storage space qualify for the business use of home deduction,
even though these areas are not exclusively used for business.
Day care facilities—exception to exclusive use test. The exclusive use test is
not required if the home is used in a day care business.
To qualify, both the following requirements must be met.
•The taxpayer must be in the trade or business of providing day care for children, persons age 65 or older, or persons who are physically or mentally unable to care for themselves.
158 Chapter 8
•The taxpayer must have, or be exempt from having, a license or other approval as a day care center under state law. If the application was rejected, or
the license or other authorization was revoked, the taxpayer does not meet
this test.
NOTES
Regular Use Test
The regular use test means a taxpayer must use a specific area of the home for
business on a regular basis. Incidental or occasional business use is not regular
use. All facts and circumstances are considered in determining whether the
business use is regular.
Incidental or occasional business use
is not regular use.
COURT CASE
A taxpayer was in the floor covering business and spent one hour in his
home office each morning contacting customers, builders, and suppliers. In
the evening, he spent a few more hours in his home office preparing various
paperwork and returning calls. The court was satisfied that one hour in the
morning and a few hours in the evening met the regular use test. (Cole, T.C.
Memo 1999-207)
Trade or Business Use Test
To satisfy the trade or business use test, the portion of the home used for business must be used in connection with a trade or business. If the business use
is for a profit-seeking activity that is not a trade or business, the deduction is
not allowed.
EXAMPLE
Kathy uses her den exclusively and regularly to read financial periodicals and
reports, clip bond coupons, and to carry out similar activities related to her
investments. She does not invest as a broker or dealer. Her activities are not
part of a trade or business and, therefore, she cannot claim a deduction for
the business use of her home.
COURT CASE
A taxpayer was a hospital employee. He also owned six rental units held for
the production of income. The IRS denied the office-in-home deduction for
the rental activity as it was not a trade or business. The court allowed the
deduction and noted the personal efforts of the taxpayer to manage six units
in seeking new tenants, supplying furnishings, cleaning, and otherwise preparing the units for new tenants. These activities were sufficiently systematic
and continuous to place the taxpayer in the business of real estate rental.
(Curphey, 73 T.C. No. 766)
Principal Place of Business Test
A trade or business can have more than one location. To qualify for a business use of home deduction, the home must be the principal place of business for that trade or business. To make this determination, the following are
considered.
Chapter 8 159
NOTES
•The relative importance of the activities performed at each place where business is conducted, and
•The amount of time spent at each place where business is conducted.
A home office qualifies under this test if:
•The home office is used exclusively and regularly for administrative or management activities of the trade or business.
•There is no other fixed location where substantial administrative or management activities are conducted.
Administrative or management activities. Examples include billing customers, clients, or patients, keeping books and records, ordering supplies, setting
up appointments, and forwarding orders or writing reports.
Administrative or management activities performed at other locations.
The following will not disqualify a home office from being a principal place of
business.
•Someone other than the taxpayer does administrative or management activities at locations other than the taxpayer’s home office. (For example, another
company does the taxpayer’s bookkeeping from its place of business.)
• Administrative or management activities are conducted at places that are not
fixed locations, such as a car or hotel room.
•The taxpayer occasionally conducts minimal administrative or management
activities at a fixed location outside the home office.
•The taxpayer conducts substantial non-administrative or non-management
business activities at a fixed location outside the home office. (For example,
the taxpayer meets with or provides services to customers, clients, or patients
at a fixed location outside the home.)
•The taxpayer has suitable space to conduct administrative or management
activities outside the home, but instead, chooses to use his or her home office
for those activities.
EXAMPLE
Mark is a self-employed plumber. Most of his working hours are spent at
customers’ homes and offices installing and repairing plumbing. He uses an
office in his home regularly and exclusively for administrative activities, such
as calling customers, ordering supplies, and customer billings. He writes up
estimates for customers on their premises. He does not perform any substantial management activities at any other fixed location. He hires Susan as an
independent contractor to perform bookkeeping and tax preparation services
at her place of business. Mark’s home office qualifies as his principal place of
business for deducting expenses for the business use of his home.
Beginning in 2013, taxpayers
can use a simplified option when
figuring the deduction for business
use of the home.
160 Chapter 8
Simplified Option for Home Office Deduction
Beginning in 2013, taxpayers can use a simplified option when figuring the deduction for business use of the home.
•A standard deduction of $5 per square foot of home used for business, limited
to 300 square feet.
•Allowable home-related itemized deductions, such as mortgage interest and
real estate taxes, are claimed in full on Schedule A.
•No home depreciation deduction or later recapture of depreciation is required for the years the simplified option is used.
NOTES
Taxpayers may use the simplified or regular method for any tax year. The method is chosen by using that method on a timely filed tax return. Once a method
is chosen for a tax year, it cannot be changed.
Note: The simplified option simplifies recordkeeping but does not change the
criteria for who may claim a home office deduction.
Objective 8-A.
1) Which of the following is one of the tests that must be met for a taxpayer to
qualify for business use of the home deductions.
a) Investment activities test.
b)Occasional business use test.
c) More that one business location test.
d)Regular use test.
Choose the correct filing status for same-sex married couples.
Windsor, U.S. Supreme Court (2013)
In 2013, the U.S. Supreme Court ruled that key parts of the Defense of Marriage
Act (DOMA) are unconstitutional as a deprivation of equal liberty of persons
that is protected by the Fifth Amendment to the U.S. Constitution. Windsor, 133
S.Ct. 2884 (2013)
The U.S. Department of the Treasury and the Internal Revenue Service ruled
that same-sex married couples legally married in jurisdictions that recognize
their marriage will be treated as married for federal tax purposes.
Rev. Rul. 2013-17—Same-Sex Marriage
Following the Windsor decision, the IRS released Revenue Ruling 2013-17,
which provides guidance on how the decision applies for federal tax purposes.
The U.S. Department of the Treasury
and the Internal Revenue Service
ruled that same-sex married couples
legally married in jurisdictions that
recognize their marriage will be
treated as married for federal tax
purposes.
For federal tax purposes, a legally married taxpayer with a spouse of the same
sex must file as either Married Filing Jointly or Married Filing Separately, unless he or she otherwise qualifies to file as Head of Household. A legally married taxpayer in a same-sex marriage may not use the Single filing status.
Recognition of same-sex marriages. For federal tax purposes, the terms “husband,”“wife,”“spouse,” and “marriage” apply to all individuals legally married
under state law (or other jurisdiction), including legal marriages between individuals of the same sex.
Chapter 8 161
NOTES
Marital status based on state law where marriage initially established. For
federal tax purposes, individuals of the same sex are considered married if
they were legally married in a state (or other jurisdiction) whose laws authorize
the marriage of two individuals of the same sex, even if the state in which the
married couple is currently domiciled does not recognize the validity of samesex marriage.
Registered domestic partnerships and civil unions. For federal tax purposes, individuals who have entered into a registered domestic partnership, civil
union, or other similar relationship that is not considered a marriage under
state law, are not considered married for federal tax purposes.
Amended returns. Taxpayers may amend prior year returns within the statute
of limitations to change their filing status to married filing jointly, if applicable,
and must adjust items on the return to be consistent with MFJ filing status.
Same-Sex Married Couples in California
Beginning with the 2008 taxable year, same-sex married couples were required
to file their California income tax return using either the Married Filing Jointly or Married Filing Separately filing status. For federal purposes they were
required to file their federal income tax return using the Single or Head of
Household filing status.
Beginning in 2013, legally married same-sex couples generally must file their
federal income tax return using either the Married Filing Jointly or Married
Filing Separately filing status.
Because same-sex married couples
must file both federal and California
income tax returns using the same
filing status, no federal/California
filing status differences exist for
same-sex married couples.
California taxpayers are generally required to use the same filing status that
they used for federal tax purposes. Because same-sex married couples must
file both federal and California income tax returns using the same filing status, no federal/California filing status differences exist for same-sex married
couples.
Objective 8-B.
2) Following the Windsor Supreme Court decision, same-sex couples are considered married under the following circumstances.
a) If they were legally married in a state that authorizes same-sex marriages.
b) The Windsor decision upheld the Defense of Marriage Act and confirmed
that same-sex couples are not considered married under federal tax law.
c) Civil unions are considered marriages for federal tax purposes.
d)Registered domestic partnerships are considered marriages for federal
tax purposes.
162 Chapter 8
NOTES
Apply rules for miscellaneous subjects as noted in the CTEC Education
Standards and Provider Policy Updates materials.
Inherited IRAs Are Not Exempt in Bankruptcy
In Clark vs. Rameker, Supreme Court, November 26, 2013, individuals filed for
Chapter 7 bankruptcy, seeking to exclude roughly $300,000 of inherited individual retirement account (IRA) funds from the bankruptcy estate using the
“retirement funds” exemption. The Bankruptcy Court concluded that an inherited IRA does not share the same characteristics as a traditional IRA and disallowed the exemption. The District Court reversed, explaining that the exemption covers any account in which the funds were originally accumulated for
retirement purposes. The Seventh Circuit disagreed and reversed the District
Court.
The Supreme Court found that funds held in inherited IRAs are not “retirement funds” for purposes of exemption from bankruptcy.
Child Tax Credit Requirement for ITINs
Schedule 8812, Child Tax Credit. In general, to be a qualifying child for purposes of the child tax credit and additional child tax credit, the child must be
a citizen, national, or resident of the United States. Use Part I of Schedule 8812
to document that any child for whom an IRS Individual Taxpayer Identification Number (ITIN) was entered on Form 1040, Form 1040A, or Form 1040NR,
if the child meets the substantial presence test and is not otherwise treated as
a nonresident alien.
Note: A child who is a lawful permanent resident of the United States is eligible to obtain a social security number (SSN). Use an SSN to identify the child
even if an ITIN was obtained for the child before the child became a lawful
permanent resident.
A child who is a lawful permanent
resident of the United States is
eligible to obtain a social security
number (SSN).
CA Fire Prevention Fee is Not Deductible as Property Tax
In Chief Counsel Advice 20130029, the IRS held the position that California’s
new fire prevention fee is not deductible as a real property tax under IRC section 164.
The conclusion stated that California residents may not deduct the Fire Prevention Fee as a real property tax deduction because the fee is not a tax under
California or federal law, the fee is not levied at a like rate, the fee is not imposed throughout the taxing authority’s jurisdiction, and the fee is assessed
only against specific property to provide a local benefit.
Real Property Tax Need Not be Ad Valorem
In Chief Counsel Advice 2012-18 the IRS stated that despite what is shown in
some IRS publications, real property tax does not need to be ad valorem (based
on value). The advice stated, “There is no statutory or regulatory requirement
that a real property tax be an ad valorem tax to be deductible for federal income tax purposes. Assessments on real property owners, based other than on
Chapter 8 163
NOTES
the assessed value of the property, may be deductible if they are levied for the
general public welfare by a proper taxing authority as a like rate on owners of
all properties in the taxing authority’s jurisdiction, and if the assessments are
not for local benefits (unless for maintenance or interest charges).”
Objective 8-C.
3) If a child has an ITIN, then obtains a Social Security number, which number
should be used to identify the child for federal tax purposes.
a) The Social Security number and the ITIN will be the same number.
b)The Social Security number.
c) The ITIN.
d)Both numbers should be used.
164 Chapter 8
NOTES
Multiple Choice
1) Which of the following is one of the tests that must be met for a taxpayer to
qualify for business use of the home deductions.
a) Investment activities test.
Incorrect. To qualify for a business use of the home deduction, the usage
must be business use. Investment use does not qualify.
b) Occasional business use test.
Incorrect. Occasional business use will not meet the “regular use test.”
c) More that one business location test.
Incorrect. Having more than one location does not necessarily disqualify
a business use of the home deduction, but having more than
one location is not a requirement for a business use of the home
deduction.
d) Regular use test.
Correct.To qualify for a business use of the home deduction, the business use area must be used on a regular basis.
2) Following the Windsor Supreme Court decision, same-sex couples are considered married under the following circumstances.
a) If they were legally married in a state that authorizes same-sex marriages.
Correct. Regardless of their state of residence, if a same-sex couple was
married in a state that authorizes same-sex marriage, they are
considered married for federal tax purposes.
b)The Windsor decision upheld the Defense of Marriage Act and confirmed
that same-sex couples are not considered married under federal tax law.
Incorrect. The Windsor decision ruled the relevant parts of DOMA were
in violation of the U.S. Constitution, and same-sex marriages
should be recognized for federal tax purposes.
c) Civil unions are considered marriages for federal tax purposes.
Incorrect. Civil unions are not considered marriages for federal tax purposes.
d) Registered domestic partnerships are considered marriages for federal
tax purposes.
Incorrect. Registered domestic partnerships are not considered marriages
for federal tax purposes.
Chapter 8 165
NOTES
3) If a child has an ITIN, then obtains a Social Security number, which number
should be used to identify the child for federal tax purposes.
a) The Social Security number and the ITIN will be the same number.
Incorrect.The Social Security number will be different, and should be
used even if the child had an ITIN previously.
b) The Social Security number.
Correct. The Social Security number should be used even if the child had
an ITIN previously.
c) The ITIN.
Incorrect. If a child has an ITIN and obtains a Social Security number, the
child should be identified by the Social Security number.
d) Both numbers should be used.
Incorrect. If a child has an ITIN and obtains a Social Security number, the
child should be identified by the Social Security number.
166 Chapter 8
Final Exam
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“Take CPE/CE Final Exams” to take the Final Exam. Do not mail.
CPE/CE
Multiple Choice
Circle the correct answer.
3) Poppy resides in New York. She travels several times to various states during the
year for business purposes. In 2015, she had total wages of $120,000, of which
$30,000 was Oregon source income, $40,000 was Nevada source income, $20,000
was California-source income, and $30,000 was New York source income. What
is Poppy’s residency status and how much of her income is she taxed on for
California purposes?
a)Poppy files as a California resident and is taxed on her total $120,000 of
income.
b) Poppy files as a California nonresident and is taxed on her $20,000 of
California-source income.
c)Poppy files as a California nonresident and is taxed on her total $120,000 of
income.
d)Poppy is not required to file a California state return for 2015.
Go to www.thetaxbook.com and click on “Take CPE/CE Final Exams” to take the Final Exam.
2) Dena and Miguel are married residents of California. They lived together all
year. They wish to file separate tax returns. Miguel had $60,000 in wages and
Dena had $40,000 in wages. Dena also had $2,000 in interest that she received
from an account she inherited and kept as a separate account. How much does
Dena and Miguel report on each of their returns?
a)Dena reports $42,000 and Miguel reports $60,000.
b)Dena reports $50,000 and Miguel reports $50,000.
c) Dena reports $52,000 and Miguel reports $50,000.
d)Dena reports $70,000 and Miguel reports $30,000.
DO NOT M A IL
1) In 2015, Joel, a California resident, worked 9 months in California and 3 months
in Italy. He earned $60,000 in California and $20,000 in Italy. How much must he
report on his California tax return?
a)$20,000
b)$60,000
c)$70,000
d) $80,000
Final Exam 167
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168 Final Exam
4) Lily resides in California. She travels several times to various states during the
year for business purposes. In 2015, she had total wages of $200,000, of which
none of it was earned in California. She worked in Wyoming, Illinois, Iowa,
Pennsylvania, and New Jersey during 2015. What is Lily’s residency status and
how much of her income is she taxed on for California purposes?
a)Lily is not required to file a California state return for 2015.
b) Lily files as a California resident and is taxed on her total $200,000 of
income.
c)Lily files as a California nonresident and is taxed on her total $200,000 of
income.
d)Lily files as a California resident, but is not taxed on any of her income for
2015.
5) Iris lived and worked in Illinois. She retired in Illinois and received her first
$2,000 monthly pension check on January 1, 2015. On June 30, 2015, she permanently moved to California. For 2015, her pension income totaled $24,000. How
much of her pension is taxable by California?
a)Iris is a nonresident, and none of her pension income is taxable by
California.
b)Iris is a resident of California, and all $24,000 of her pension income is
taxable by California.
c) Iris is a resident of California for half the year, and $12,000 of her pension
income is taxable by California.
d)Iris is a resident of California, but none of her pension income is taxable by
California because she earned it while a nonresident.
6) Watson received $1,000 in municipal bond interest. 60% was for California investments and 40% was for Arizona investments. How much should be reported on his California tax return?
a) $400
b)$600
c)$800
d)$1,000
7) Aster itemizes her deductions. She won $800 at a Las Vegas casino, $1,000 at a
California casino, and $2,000 from the California lottery. She lost $1,000 at the
Las Vegas casino, $900 at the California casino, and $500 on lottery tickets. How
much gambling winnings and losses may she claim on her California return?
a) She will claim $1,800 in gambling winnings and $1,800 in gambling losses.
b)She will claim $3,800 in gambling winnings and $2,400 in gambling losses.
c)She will claim $3,800 in gambling winnings and $1,900 in gambling losses.
d)She will claim $1,800 in gambling winnings and $1,900 in gambling losses.
8) Compute the California AGI for Calla Stern:
California municipal bond interest......... . . . . . . . . . . . . . . . . . . . . . . . . . $1,000
Gift from parent.................................................. . . . . . . . . . . . . . . . . . . . . . . . . $3,000
Traditional IRA contribution........................ . . . . . . . . . . . . . . . . . . . . . . . . $4,000
Tuition and fees deduction........................... . . . . . . . . . . . . . . . . . . . . . . . . . $2,000
Federal AGI. .......................................................... . . . . . . . . . . . . . . . . . . . . . . $50,000
10)Daisy is in the military, domiciled in California, and stationed in Kansas during all of 2015. In 2015, she received $25,000 rental income from her home in
California and military wages of $60,000. What amount of income is taxable for
California purposes?
a)$60,000
b) $25,000
c)$85,000
d)$55,000
11)Sage bought a new vehicle in 2015 and claimed $2,800 for sales tax on his federal itemized deductions. How much of the sales tax he paid may he claim on
his California itemized deductions?
a)$2,800
b)$1,400
c)$5,600
d) None.
12)Juniper had the following itemized deductions on her federal Form 1040. What
is her total California itemized deductions?
California income taxes.. ................................ . . . . . . . . . . . . . . . . . . . . . . . . . $9,000
California State Disability Insurance (CASDI).. . . . . . . . . $1,000
Real estate taxes................................................. . . . . . . . . . . . . . . . . . . . . . . . . . $4,000
Mortgage interest paid.................................... . . . . . . . . . . . . . . . . . . . . . $20,000
Private mortgage insurance (PMI)............ . . . . . . . . . . . . . . . . . . . . . . . . $3,000
California lottery losses................................. . . . . . . . . . . . . . . . . . . . . . . . . . $1,000
Gifts to charity...................................................... . . . . . . . . . . . . . . . . . . . . . . . . $2,000
Total federal itemized deductions............ . . . . . . . . . . . . . . . . . . . . . . $40,000
9) The California statute of limitations provides that generally, a notice of deficiency must be mailed to a taxpayer within ___ year(s) after the return was filed.
a)One.
b)Two.
c)Three.
d) Four.
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a) California AGI = $52,000
b)California AGI = $50,000
c)California AGI = $60,000
d)California AGI = $48,000
a)$40,000
b) $26,000
c)$30,000
d)$38,000
Final Exam 169
DO NOT M A IL
13)Briar is a dependent. In 2015, he had $2,500 in earned income from his
newspaper delivery job. What is his standard deduction for 2015?
a)$4,044
b) $2,500
c)$1,500
d)$1,050
170 Final Exam
14)In 2015, Camilla files as Head of Household and claims two dependent
children. What is her total exemption credit amount for 2015?
a)$109
b)$337
c)$446
d) $783
15)Hazel traveled to Italy and purchased a $700 violin that she brought back with
her to California. She was not charged any sales tax on the purchase. How much
California use tax will she owe?
a)$35
b)$50
c)$70
d) None.
16)Sorrell is a California resident and lives in Santa Cruz. The Santa Cruz sales tax
rate is 8.75%. In 2015, Sorrell purchased the following items online and did not
pay any sales tax. Which one of the following items is exempt from sales/use
tax?
•5 boxes of protein bars.
•2 tailored suits.
•2 pairs of tennis shoes.
•1 guitar.
•1 box of printer paper.
•15 CDs.
•10 DVDs.
•1 smart TV.
a) 5 boxes of protein bars.
b)2 pairs of tennis shoes.
c)2 tailored suits.
d)15 CDs and 10 DVDs.
17)In 2015, Violet and Scott filed as Married Filing Jointly and claimed two dependent children, Saffron, 10, and Rosemary, 8. They both work and have combined
wages of $80,000, and a federal AGI of $85,000. They paid $10,000 to care for both
children, $5,000 each. How much is their California Child and Dependent Care
Credit if their federal credit amount is $1,200 ($6,000 x 20% = $1,200).
a) $408
b)$258
c)$300
d)$600
18)Laurel paid the following expenses for her 8-year-old son, Hardy. Which one of
the following expenses does not qualify for computing the California Child and
Dependent Care Credit?
•$2,000 paid to the local YMCA for after-school care.
•$800 paid for summer football day camp.
•$500 paid for dance day camp during winter break.
•$600 paid to Hardy’s father for picking him up from school.
20)Bruce and Kris reside in Calabasas, California. In 2015, their California taxable
income was $2,300,000. What amount do they owe for the California Mental
Health Services Tax?
a) $23,000
b)$11,500
c)$10,000
d)$13,000
21)The California alternative minimum tax rate is:
a)3.25%
b)5.35%
c) 7.00%
d)9.25%
22)Flora and Fauna want to form a general partnership in California. What is the
form they need to file and registration cost in order to start their business?
a) Form GP-1, Statement of Partnership Authority, and $70 filing fee.
b)Form GP-1, Statement of Partnership Authority, and $100 filing fee.
c)Form LLP-1, Application to Register a Limited Liability Partnership, and $100
filing fee.
d)Form LP-1, Certificate of Limited Partnership, and $70 filing fee.
19)Lyndon finalized the adoption of his son, Michael, on July 15, 2015. Lyndon paid
a $4,000 adoption fee to a licensed adoption agency and $800 in medical costs.
What is the California adoption credit amount Lyndon may claim?
a)$2,500
b) $2,400
c)$4,000
d)$4,800
DO NOT M A IL
a)$2,000 paid to YMCA.
b)$800 paid for football camp.
c)$500 paid for dance camp.
d) $600 paid to Hardy’s father.
Final Exam 171
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23)Holly and Ivy own Giggles, LLC, an LLC registered with the California Secretary of State. In 2015, Giggles had net income of $300,000. What is the total
amount the LLC owes to California for 2015?
a)$800
b)$900
c) $1,700
d)$26,520
172 Final Exam
24)In 2015, Jacinda forms and registers Haladay, LLC in California. What annual
for, if any, must Jacinda file for California?
a)Form 100, California Corporation Franchise or Income Tax Return.
b) Form 568, Limited Liability Company Return of Income.
c)Form 565, Partnership Return of Income.
d)No additional form to file. Jacinda just reports the LLC’s net income directly
on her California tax return.
25)Ginger, Inc., incorporated in California in 2015, and manufactures red dye for
various food products. In 2015, Ginger had a net income of $20,000. What is
Ginger’s amount of California corporation franchise tax for 2015?
a)$300
b)$800
c) $1,768
d)$2,000
26)To obtain a Certificate of Completion under the Annual Filing Season Program,
an unenrolled individual must consent to duties and restrictions relating to
practice under the following document.
a) Publication 1, Your Rights as a Taxpayer.
b)Internal Revenue Code.
c) Treasury Circular 230.
d) U.S. Constitution.
27)The following IRS office investigates violations by practitioners.
a)Office of the Treasury.
b) Office of Professional Responsibility (OPR).
c)Office of Chief Counsel.
d)Return Preparer Office.
28)In order to meet initial qualifications as a California Registered Tax Preparer
(CRTP), an individual must take courses containing at least the following number of credit hours.
a)16 credit hours.
b)20 credit hours.
c)32 credit hours.
d) 60 credit hours.
29)Once an individual has attained CRTP status, he or she must meet continuing
education requirements of the following number of credit hours per year.
a)16 credit hours.
b) 20 credit hours.
c)32 credit hours.
d)60 credit hours.
32)A Premium Tax Credit may be available to an individual who obtains health
insurance in the following manner.
a)Through his or her employer.
b)Directly through a private insurance company.
c) Through a Health Insurance Marketplace (state exchange).
d)Through any insurance company offering minimum essential coverage.
33)If health coverages costs more than the following percentage of household
income, the coverage is not considered affordable.
a) 1%
b) 4%
c) 8%
d) 10%
34)The following type of income is subject to the Net Investment Income Tax.
a) Rental income.
b) Unemployment compensation.
c) Tax-exempt income.
d)Alaska Permanent Funds Dividends.
35)For purposes of assistance under the federal Home Affordable Modification
Program (HAMP), the exclusion for cancellation of debt income is limited to
the following amount of acquisition debt.
a) $500,000
b) $1,000,000
c) $2,000,000
d)There is no maximum limit for purposes of HAMP assistance.
31)How often must FinCEN Form 114 (FBAR) be filed if criteria are met?
a) Once only.
b) Once annually.
c)Once every two years.
d)Once every three years.
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30)CRTPs are allowed a special exemption from the following requirement to
obtain a Certificate of Completion under the Annual Filing Season Program.
a) Annual Filing Season Refresher (AFTR) course and 100-question test.
b)Obtaining a PTIN.
c)Completing continuing education.
d) Registration requirements.
Final Exam 173
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36)Under the simplified method for computing the deduction for business use of
the home, a qualified taxpayer can take a deduction in the following amount
per square foot of business use.
a) $4
b) $5
c) $6
d) $7
174 Final Exam
37)If an individual is considered married in a state that recognizes same-sex marriages, that individual may qualify for any of the following filing statuses except:
a)Married filing joint.
b)Married filing separate.
c)Head of household.
d) Single.
38)In Clark vs. Rameker, The Supreme Court allowed an exemption from bankruptcy
of the following amount of an inherited IRA.
a) $100,000
b) $200,000
c) $300,000
d) The court did not allow any of the inherited IRA to be excluded from
bankruptcy.
39)The term “ad valorem” means the following with regard to taxes assessed on
property.
a) Based on value.
b) Imposed annually.
c)Assessed for services.
d)Paid through escrow.
40)When using the simplified method for computing the deduction for business
use of the home, the following is the maximum number of square feet that can
be used on the computation.
a) 200
b) 300
c) 400
d) 500
INSTRUCTIONS
Final Examination Instructions
Expiration Date Reminder: The Final Exam must be completed online within one year from your date
of purchase or shipment. CPE/CE credits are not available more than one year after your date of
purchase or shipment.
All Final Exams are administered online at www.thetaxbook.com. It is recommended that you review
the Final Exam at the end of the course before taking it online. Final Exams mailed in will not be graded.
DO NOT M A IL
1) Go to www.thetaxbook.com.
2) Click on “Take CPE/CE Final Exams,” where you will find a location to log in to the Final Exam.
3) Enter your User Name in the self-study CPE/CE login location. The email address associated with
your account at Tax Materials, Inc. is your User Name. If you do not have an email address, or
have not provided one, please call our toll-free number at 1-866-919-5277 to be assigned a User
Name.
4) Enter your Password. The zip code associated with your account is your password. If you are
having difficulty logging onto the Final Exam, please call our toll-free number at 1-866-919-5277.
5) Select the California Tax for CRTPs Exam and click the “Take Exam” button.
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• First confirm your First Name and Last Name are correct. This is how your name will appear
on your Certificate of Completion should you achieve a score of 70% or higher.
• Take the Final Exam. Read the questions carefully and answer them to the best of your ability. At
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have passed the test. If you failed, you are able to retake the test. If you passed, the Certificate
of Completion will be available for you to print.
Final Exam 175
176 Final Exam
CPE/CE
Index
A
Basic filing requirements, 1
Beverage container recycling income, 47
Business expenses of reservists, performing
artists, and fee-basis government
officials, 48
Business income or loss, 15, 38
Business use of home, 157
Chapter 5 – business tax issues, 109
Chapter 6 – Circular 230 revisions, 133
Chapter 7 – miscellaneous federal updates, 145
Chapter 8 – mandatory California subjects, 157
Child and dependent care expenses credit, 83
Child and dependent care expenses credit –
calculating the credit, 89
Child and dependent care expenses credit
qualifications, 85
Child and dependent care expenses credit
qualified expenses, 89
Child’s FBAR, 146
Child tax credit requirement for ITINs, 163
Circular 230, 138
Circular 230 disclaimer, 140
Civil unions, 157, 162
Clark vs. Rameker, 163
Community property, 1, 20
Compensation, 1
Compensation for false imprisonment, 48
Conformity, 27
Corporation, 109, 111
Corporation annual filing, 116
Course completion instructions, ii
Course overview, i
Court case – Loving, 134
Covered opinions, 140
CPE/CE credit hours, i
Credentialed preparers, 133
Credit for small employer health insurance
premiums, 152
C
D
Additional Medicare tax, 151
Adjusted gross income, 27
Adjustments to basis, 39
Adjustments to business deductions, 39
Adjustments to income, 48
Administrative Law Judge (ALJ), 139
Adoption costs credit, 99
Ad valorem, 157
Advance payment, 148
Advance premium tax credit, 147
After Course, 137
Aircraft carriers, 36
Airline employees, 8
Alimony paid, 49
Alimony received, 38
Alternative minimum tax, 83
Amortization, 40
Annual Federal Tax Refresher (AFTR), 133
Annual Filing Season Program (AFSP), 133, 136
Annual Filing Season Refresher (AFTR), 141
Annuities, 43
B
CA fire prevention fee, 163
Calculate use tax, 75
Calendar year, 109
California adjustments to federal income
chart, 33
California alternative minimum tax, 105
California conformity date, 27
California corporation franchise tax, 125
California corporation income tax, 125
California itemized deductions, 60
California lottery winnings, 44
California qualified stock options, 35
California Registered Tax Preparers (CRTPs),
141
California standard deduction, 60
California use tax, 70
Capital gains and losses, 42
Career appointees in the U.S. foreign
service, 8
C corporation examples, 127
Chapter 1 – residency and filing
requirements, 1
Chapter 2 – conformity to federal tax law, 27
Chapter 3 – deductions, exemption credits,
and use tax, 59
Chapter 4 – tax credits, AMT, and other
taxes, 83
Day care facilities, 158
Death benefits, 48
Deductions, 59
Defense of Marriage Act (DOMA), 161
Deficiency assessments or refunds, 28
Dependent, 59
Dependent exemptions, 29
Dependent parent credit, 98
Depreciation, 40
Determining residency, 5
Differential wage payments, 29
Disaster loss carryover, 46
Dividends, 14
Division of income, 20
Division of income—residents of California, 21
Domestic production activities deduction, 51
Domicile, 1, 4
E
Educator expenses, 48
Examination instructions, ii
Exclusive use test, 158
Exempt interest dividends (mutual funds), 37
Exemption credit amount, 66
Exemption credits, 65
Exemption for CRTPs, 133, 141
Exemptions from health coverage, 149
Exempt preparers, 137
Expensing, 40
Expiration date, i
F
Failure to maintain health coverage, 149
Farm income or loss, 44
Federal/California NOL/carryover, 46
Federal foreign income or housing
exclusion, 47
Federal subsidies for prescription drug
plans, 48
Filing status, 28
Final Agency Decision, 139
Final exam, 167
Final examination instructions, ii, 175
FinCEN Form 114, 145
Fiscal year, 109
Foreign bank account (FBAR), 145
Foreign corporation, 109
Foreign earned income exclusion, 10
Foreign income, 35
Foreign income of nonresident aliens, 47
Foreign tax credit, 10
Form 1095-A, 147
Form 8941, Credit for Small Employer Health
Insurance Premiums, 152
Form 8959, Additional Medicare Tax, 151
Form FTB 3506, 84
Franchise tax, 109
Franchise tax calculation, 126
Full-time equivalent employees (FTEs), 152
G
Grants paid to low-income individuals, 48
H
Health coverage exemptions, 149
Health Insurance Marketplace Statement, 147
Health savings account, 36
Health savings account distributions, 48
Health savings account interest, 37
Heroes Earnings Assistance and Relief Tax
Act, 29
Home Affordable Modification Program
(HAMP), 145, 153
HSA deduction, 48
I
Income taxable by California, 13
Income tax clearance, 10
Inherited IRAs, 163
In-home supportive services, 36
Installment sales, 19
Intangible income, 1
Interest, 14
Interstate rail employees, 9
IRA deduction, 49
IRA distribution, 16, 43
Itemized deductions, 27, 51, 59
TheTaxReview™ California Tax for CRTPsIndex 177
INDEX
J
Joint custody head of household credit, 97
K
Keogh distributions, 16
Keoghs, 15
Kiddie tax, 27
Kiddie tax dividends, 38
Kiddie tax interest, 37
L
Lawsuit – Loving, 134
Learning objectives, iii, iv
Limited liability company, 109, 113
Limited liability company annual filing, 120
Limited practice, 137
LLC annual tax, 122
LLC fee, 122
Local water agency, energy agency, or energy
supplier rebates/vouchers, 47
Long Form 540NR, 14
Lump-sum distributions, 16
M
Mental health services tax, 104
Merchant seamen, 9, 36
Military, 8
Military conformity, 29
Military conformity – early distributions not
subject to additional tax, 30
Military conformity – individual retirement
plan contributions, 29
Military conformity – sale of principal
residence, 30
Military pay, 29
Military pay – domiciled in California, 34
Military pay – not domiciled in California, 34
Military Spouses Residency Relief Act, 8, 29
Mortgage forgiveness debt relief, 48
Motor carriers, 9, 36
Moving expenses, 49
Moving expenses reimbursement, 19
N
NASBA, i
National Association of State Boards of
Accountancy, i
Net investment income tax, 150
Net operating loss, 45
Noncash patronage dividends, 38
Non-credentialed preparers, 137
Nonrefundable credit, 83
Nonrefundable renter’s credit, 100
Nonrefundable renter’s credit flow chart,
101, 102
Nonresident, 2
Nonresident military, 50
Nonresidents and part-year residents, 99
178 Index
O
Office of Professional Responsibility (OPR),
138
Online gambling accounts, 146
Ordinary dividends, 37
Original issue discount, 47
Other income or loss, 44
Other NOL, 47
Other states/local bonds, 37
Ottoman Turkish Empire, 37
Ottoman Turkish Empire payments, 48
Overview, i
P
Parents’ election to report child’s interest and
dividends, 47
Partnership, 43, 109, 110
Partnership annual filing, 114
Part-year resident, 3
Passing grade, i
Penalty on early withdrawal of savings, 49
Pensions, 15, 43
Personal exemption phaseout, 29
Premium tax credit, 145, 147
Prerequisites, i
Presumption of residency, 6
Principal place of business test, 159
Principal residence, 154
Principal residence debt, 154
Program content, i
Publication date, i
Q
Qualified corporation, 109
R
Rail carriers, 36
Recommended participants, i
Reconciliation/repayment of advance
payments, 148
Record of Completion, 133, 137
Refundable credit, 83
Registered domestic partner, 1
Registered domestic partners, 54
Registered domestic partnerships, 157, 162
Registered tax return preparer, 133
Regular use test, 159
Rental real estate, 43
Report of Foreign Bank and Financial
Accounts, 145
Residency status, 1
Resident, 2
Residents of or individuals in foreign
countries, 9
Rev. Rul. 2013-17, 161
Reward from a crime hotline, 47
Ridesharing fringe benefits, 35
Royalties, 43
RTRP program, 133
S
Salaries, 14, 34
Sale of real estate, 17
Sale of stocks and bonds, 18
Same-sex marriage, 161
Schedule CA, 32
S corporation, 43
S corporation annual filing, 118
S corporation examples, 127
Self-employed health insurance deduction, 49
Self-employed SEP, 49
Senior head of household credit, 98
Separate property, 1
SEP distributions, 16
Shared responsibility payment, 145, 149
Short Form 540NR, 14
Sick pay, 35
SIMPLE, 49
Simplified option for home office, 157
Simplified option for home office deduction, 160
Small business employer, 152
Social security benefits, 44
Standard deduction, 27, 59
Statute of limitations, 27
Storage of inventory – exclusive use test, 158
Student loan interest deduction, 50
T
Taxable interest, 36
Taxable refunds, credits, or offsets, 38
Tax credits, 92
Tax rates, 28
Tax treaty, 9
Temporary or transitory purposes, 5
Tips, 34
Trade or business use test, 159
Trusts, 43
Tuition and fees deduction, 50
U
Unemployment compensation, 44
Use tax, 59
Use tax exemptions, 74
Use tax registration and reporting
requirements chart, 73
U.S. savings bonds, 36
W
Wages, 14, 34
Where to report use tax, 74
Windsor U.S. Supreme Court, 161
Withholding services and compliance, 17
Written advice, 140
Course Evaluation
2015 California Tax for CRTPs Self-Study CPE/CE
CPE/CE
Please comment on all the following evaluation points for this program and assign a number grade, using a 1 – 5 scale,
with 5 as the highest.
Grade
(1 – 5)
1)Were the stated learning objectives met?
Comments:
2)Were the prerequisite requirements appropriate?
Comments:
3)Were program materials accurate?
Comments:
4)Were program materials relevant?
Comments:
5)Did the program materials contribute to the achievement of the learning objectives?
Comments:
6)Was the time allotted to the learning activity appropriate?
Comments:
7)Was the use of the online test-taking satisfactory?
Comments:
8)Did the online grading system work well?
Comments:
9)Was the study guide appropriate and complete with regard to assisting with learning the material?
Comments:
10)Did the layout and overall visual presentation make the study guide easy to read and understand?
Comments:
Other feedback or suggestions:
Please mail to: Tax Materials, Inc.
15105 Minnetonka Ind. Rd., Ste 221, Minnetonka, MN 55345
Thank you for helping us improve our CPE/CE course offerings!
Course Evaluation 179

California Tax Education Council (CTEC)

Transcription

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