Our $2,001 tax quiz

And the winner is...

Mary C. Nadratowski, a Nutley, NJ, internist, takes home the $2,001 prize in this year's tax-quiz contest, which appeared in the Feb. 5 issue and on our Web site, www.memag.com.

Nadratowski freely admits that she doesn't know much about taxes. She aced the quiz by carefully reading the tax articles containing the answers, found in the same issue of the magazine. "The cash will come in handy for my honeymoon in May," says the doctor, who works as a clinical trials consultant.

Nadratowski was among several hundred contest entrants. We drew her name at random from the 70 correct entries received.

The quiz concerned a fictitious family: pediatrician Andrew Royce, his nurse-practitioner wife, Anna, and their teenage son, Joseph. The questions and answers follow.

1Andrew Royce opened a money-market account for his son last February, under the title "Andrew Royce as custodian for Joseph Royce." But the 1099 form that reports the account's earnings lists Andrew's name only. Does that mean Andrew must pay the taxes on the earnings?

A) Yes. Even if they contain errors, 1099 forms are never reissued.

B) Yes. There was no error. Custodians must pay the taxes on such accounts.

C) No. It was an error, and Andrew can request a corrected 1099.

Answer: C. If there's no time to get a corrected 1099 for this year's filing, Andrew must list the taxable interest on his Schedule B but indicate the 1099 was sent to him as notice of a "nominee distribution." Then he must subtract the distribution amount from his 1099 income. He should include Joseph's Social Security number so the IRS can trace what happened. He must also annotate his son's return. Andrew also needs to issue his own form 1099-DIV showing a distribution to his son's account, and file Form 1096 with the IRS.

2Ten years ago, at a cousin's suggestion, the Royces bought stock worth $5,000 in a new company. The company went bankrupt in 1996, but the Royces didn't realize they could deduct a capital loss on their tax return for that year. They figure they can take the deduction on their 2000 return. Correct?

A) No. The deadline for such claims is three years.

B) No. To claim the loss, they'll have to file an amended return for 1996.

C) Yes. They can declare the worthless securities on their current return, even though the bankruptcy happened several years ago.

Answer: B. You may claim a capital loss for worthless securities only for the year the stock became worthless. The normal deadline to file an amended return to obtain a refund is three years from the due date of your original return. However, you have seven years in which to file an amended return for worthless securities.

3The doctor provides health insurance for his entire staff, which includes his wife, Anna. On Form 1040 he deducts 60 percent of the cost for insuring his family. Is there any way he can deduct 100 percent?

A) Probably not. He could deduct the balance on Schedule A, but only if the family's total out-of-pocket health care expenses exceed 7.5 percent of adjusted gross income.

B) Yes. If the family policy were listed in his wife's name, the entire amount of the premium could be deducted as a business expense on Schedule C.

C) No. The most he can deduct is 60 percent.

Answer: B. Because his wife works in the practice, he and his children can be covered on her policy. That would allow him to deduct the entire health insurance cost as a business expense on Schedule C.

4 Last June, the Royces sold—at a $25,000 profit—the home they had purchased a year earlier, and moved to a larger one so that Anna's aging parents could live with them. They intend to apply the tax exclusion to the $25,000 gain, so they can put the money into their son's college fund. Can they do that?

A) No. The sellers must be older than 55 to qualify for the exclusion. The Royces aren't.

B) Yes. The IRS permits the exclusion if the proceeds of the home sale will be used for education.

C) No. They lived in the house only for one year.

Answer: C. A seller must have lived in the home for two of the previous five years to get the tax exclusion on the gain.

5 As a birthday gift, Andrew and Anna want to open a Roth IRA account for Joseph, who doesn't have a job yet. They'll deposit $2,000 in the account. Good move or bad?

A) Good. A Roth IRA produces tax-free income at retirement. Or, when Joseph grows up, he could withdraw up to $10,000 to put toward the purchase of a first home.

B) Bad. Roth IRAs are available only for those with earned income.

C) Bad. Roth IRAs aren't available to anyone under 18.

Answer: B. Nondeductible contributions up to $2,000 may be made annually to a Roth IRA for a minor, if the minor has taxable earned income of at least the amount contributed.

6Andrew contributed $400 to his favorite baseball player's charity and received some baseball memorabilia worth maybe $50. Is he right in assuming that he can deduct the entire $400?

A) No. He must reduce the donation deduction by the value of the items.

B) Yes, as long as the value of the items didn't exceed 25 percent of his contribution.

C) Yes. Only the value of meals and performances must be subtracted from the donated amount.

Answer: A. This rule generally applies if the value of the benefits you got in return exceeded the lesser of 2 percent of your contribution ($8 in this case) or $74. Because the Royces donated more than $75, the charity is required to give you a written estimate of the benefits' worth.

7 Anna inherited a ski condo in Colorado from an uncle. The Royces rent it out and never use it themselves. However, they travel to Colorado twice a year, to check on the property and its managers. They can deduct the cost of those trips, correct?

A) Yes, as a business expense.

B) Possibly, as a miscellaneous itemized deduction.

C) No. Uncle Sam views trips like this as vacations at his expense, and doesn't allow such deductions.

Answer: B. You can include such costs with your other miscellaneous expenses and deduct any part of the total that exceeds 2 percent of your adjusted gross income. The trips, however, must be primarily to check on your investments, not for vacation or any other personal purpose.

8 A doctor friend suggests that Andrew employ his son to do filing and other clerical work after school or during the summer. Joseph could earn up to $4,400, tax-free. Andrew, meanwhile, could take a practice expense deduction for those wages, and wouldn't have to pay FICA (Social Security and Medicare) tax. If he follows his friend's advice, will Andrew run afoul of the IRS?

A) No, this is a great idea.

B) Yes. The IRS is onto the fact that parents try to reduce their own income tax by hiring their kids. So wages paid to a minor are not deductible as a business expense.

C) Yes. All kids who work have to pay FICA taxes.

Answer: A. A single dependent under 65 may earn up to $4,400 without paying taxes; wages are a legitimate business expense; and wages paid to a child working in your sole-proprietor business are exempt from FICA.

9 The same friend (who brags that he's never been audited) suggests that the Royces take out a $70,000 home equity loan to pay off their two car loans and invest what's left over in stocks. His selling point: They'd be able to deduct all the interest. Correct?

A) No. You can deduct interest on a home equity loan only when you use the money for home improvements.

B) Yes. Interest on a home equity loan of up to $100,000 is a legitimate deduction for a single taxpayer or a couple filing jointly.

C) No. You can deduct interest only on a home equity loan of $50,000 or less.

Answer: B. Interest can be deducted unless the loan proceeds are used to purchase tax-exempt investments.

10 Andrew Royce sold stock for $100 per share last year. He neglected to specify whether he was selling the shares he'd purchased at $50 last June or those he'd bought a few years earlier at $15 and $30 per share. How much tax per share does he owe, assuming he's in the 40 percent bracket?

A) $13.67. The tax is based on the average of the stock prices.

B) $20. The IRS uses a "last-in, first-out" formula.

C) $17. Andrew uses the "first-in, first-out" formula and benefits from the long-term capital gains tax rate.

Answer: C. Unless you specify which shares you're selling, the IRS assumes they're those purchased first; in Royce's case, they cost $15 per share. His gain per share was $85. Because he held the shares for longer than a year, he qualifies for the 20 percent capital gains tax. So he owes $17 per share.

 

Doreen Mangan. Our $2,001 tax quiz: And the winner is.... Medical Economics 2001;6:81.