CHAPTER 12 ALTERNATIVE MINIMUM TAX SOLUTIONS TO PROBLEM MATERIALS. 1 AMT purpose Unchanged 1 2 AMTI: direct versus indirect calculation

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1 Date: 13th April 2006 Time: 08:59 User ID: CHAPTER 12 ALTERNATIVE MINIMUM TAX SOLUTIONS TO PROBLEM MATERIALS Question/ Problem Topic Status: Present Edition Q/P in Prior Edition 1 AMT purpose Unchanged 1 2 AMTI: direct versus indirect calculation Unchanged 2 approach 3 AMT adjustments versus tax preferences Unchanged 3 4 Tax preferences Unchanged 4 5 Tax preferences Unchanged 5 6 AMT formula Unchanged 6 7 Regular income tax liability versus AMT Unchanged 7 8 AMT exemption amount Unchanged 8 9 AMT rates Unchanged 9 10 AMT and nonrefundable tax credits New 11 AMT adjustment for cost recovery on personalty Unchanged AMT adjustment for mining exploration and Unchanged 12 development costs 13 AMT adjustment for mining exploration and Unchanged 13 development costs 14 Long-term contract income adjustment Unchanged Incentive stock options adjustment New 16 Regular income tax adjusted basis versus Modified 16 AMT adjusted basis 17 Regular income tax adjusted basis versus Unchanged 17 AMT adjusted basis 18 Passive activity losses AMT adjustment Unchanged ATNOLD Unchanged AMT and itemized deductions Unchanged AMT and itemized deductions Unchanged AMT cutback adjustment Unchanged AMT and interest Unchanged AMT and personal and dependency exemptions and standard deduction Unchanged Percentage depletion preference Unchanged Private activity bond and interest as preference Unchanged

2 Individual Volume/Solutions Manual Question/ Problem Topic Status: Present Edition Q/P in Prior Edition 27 Purpose of AMT credit Unchanged Corporate AMT Unchanged ACE adjustment New 30 AMT planning on recognition of income New * 31 AMT base Modified 31 * 32 AMT calculation Modified 32 * 33 AMT calculation Unchanged 33 * 34 AMT exemption amount Unchanged 34 * 35 AMT and nonrefundable credits Unchanged AMT adjustments: circulation expenditures Modified 36 * 37 Adjustments for circulation expenditures Unchanged 37 * 38 Cost recovery adjustment for AMT: realty New 39 Cost recovery adjustment for AMT: personalty Unchanged Mining and exploration costs adjustment Unchanged 40 * 41 AMT adjustment for long-term contract Unchanged 41 * 42 Incentive stock option adjustment Unchanged 42 * 43 Adjustments for incentive stock options Unchanged 43 * 44 AMT adjustments: adjusted gain or loss Modified Computing AMT passive loss Unchanged Itemized deductions adjustment for AMT and Unchanged 46 medical expenses * 47 AMT adjustments for itemized deductions Modified 47 * 48 Mortgage interest adjustment for AMT Unchanged Adjustment for investment interest and private Unchanged 49 activity bond preference * 50 Itemized deductions adjustment for AMT Unchanged AMT standard deduction and personal Modified 51 exemption adjustments 52 AMT percentage depletion preference Unchanged 52 * 53 AMT IDC preference Unchanged Tax preference items and AMT adjustments Unchanged 54 including private activity bonds * 55 Comprehensive AMT calculation Unchanged 55 * 56 AMT calculation Modified 56 * 57 Computation of taxable income and AMT Unchanged 57 * 58 Computation of taxable income and AMT New * 59 AMT tax credit carryover Unchanged 59 * 60 Exemption from corporate AMT for small Modified 60 corporations * 61 ACE adjustment Unchanged 61 * 62 Corporate AMT Unchanged 62 * 63 Corporate AMT Unchanged 63 * 64 Cumulative Modified 65 * 65 Cumulative Unchanged 64

3 Alternative Minimum Tax 12-3 Research Problem Topic Status: Present Edition Q/P in Prior Edition 1 Cooperative housing corporation and real Unchanged 1 estate taxes 2 AMT and itemized deductions versus the New standard deduction 3 AMT and Form 6251 Unchanged 3 4 AMT and tax benefit rule Unchanged 4 5 Internet activity Unchanged 5 6 Internet activity Unchanged 6 *The solution to this problem is available on a transparency master.

4 Individual Volume/Solutions Manual CHECK FIGURES 31. $244, a. $32, b. $67, Case 1: MFJ $36,999; single $30,389. Case 2: MFJ $17,999; single $11, Case 1: Single $28,375; MFJ $55,500; MFS $7,750. Case 2: Single $5,875; MFJ $33,000; MFS $0. Case 3: Single $0; MFJ $0; MFS $0. 35.a. $0. 35.b. $78, Expensing saves $37,172; amortizing saves $42, positive $100,000; 2007 positive $10, a. $8,520 positive adjustment. 38.b. $0 adjustment. 39.a. $15,000 positive. 39.b. Elect 150% DB method. 40.a. $540,000 positive adjustment for b. Amortize expenditures over 10 years. 41. $120,000 positive adjustment for 2006; $120,000 negative adjustment for a. No reporting required in b. No reporting required in c. Positive adjustment of $30,000 for AMT in d. Regular income tax recognized gain of $80,000; AMT recognized gain of $50, a. Regular income tax recognized gain of $11,000; AMT recognized gain of $11, b. AMT positive adjustment of $3,500 in 2006; AMT negative adjustment of $3,500 in a. Regular income tax recognized gain of $314,000 on the building. 44.b. AMT recognized gain of $270,000 on the building. 44.c. Negative AMT adjustment of $44, No deduction; $11,750 suspended regular tax; $3,000 suspended AMT. 46.a. $14, b. $9, c. $5,000 positive. 47.a. $13, b. $6,400 positive. 48. $4,500 positive. 49. Regular income tax $10,000; AMT $11, a. 50.b. $17,450 positive. $17,450 positive and $1,100 tax preference. 51. $229, $9,000 tax preference. 53. $24, $52, $76,400 taxable income; $24,180 tentative AMT. 56.a. AMTI $364, b. Tentative AMT $97, a. $126, b. $35, Regular income tax is $12,031 and AMT is $6, $64, a. Exempt initially from AMT as a small corporation in b. No $750 positive; 2006 $750 positive; 2007 $1,500 negative. 62. Quincy $22,000; Redland $24,500; Tanzen $64, a. $884, b. AMTI $4,690,000; tentative AMT $938, c. AMT $54, $36,955 regular tax liability plus $8,037 AMT. 65. $1,063 regular tax liability plus $18,255 AMT.

5 Alternative Minimum Tax 12-5 DISCUSSION QUESTIONS 1. Through the use of exclusions, deductions, and credits, the regular income tax liability can be reduced or eliminated. Congress felt that some taxpayers with substantial economic incomes were taking undue advantage of these tax reduction opportunities and thereby were concerned about the inequality that resulted. Therefore, the AMT was enacted. p Starting with taxable income in calculating the AMT is the indirect approach. This is the approach normally used and the one followed in Form However, the AMT also can be calculated using the direct approach. Gross income computed by applying the AMT rules Minus: Deductions computed by applying the AMT rules Equals: AMTI before tax preferences Plus: Tax preferences Equals: AMT income Minus: Exemption Equals: AMT base Times: Rates Equals: Tentative AMT before foreign tax credit Minus: AMT foreign tax credit Equals: Tentative AMT Minus: Regular income tax liability before credits other than the foreign tax credit Equals: AMT Note that both approaches produce the same amount of AMT. pp. 12-3, 12-4, and Figure Tax preferences are always positive. Through the use of tax preferences, the AMT is designed to take back part or all of the tax benefits of certain exclusions or deductions allowed to taxpayers for regular income tax purposes. AMT adjustments can be both positive and negative. Most, although not all, AMT adjustments are timing differences in the treatment for regular income tax purposes and AMT purposes. As such, the adjustments will reverse and eventually net to zero. pp and a., d., and e. are tax preferences for the AMT. p d. and e. are tax preferences for the AMT. a. and b. are neither an AMT adjustment nor a tax preference. c. is an AMT adjustment. Concept Summary The AMT tax formula is as follows: Regular taxable income Plus or minus: Adjustments Equals: Taxable income after AMT adjustments Plus: Tax preferences Equals: Alternative minimum taxable income Minus: AMT exemption Equals: Alternative minimum tax base Times: 26% or 28% rate Equals: Tentative AMT before foreign tax credit Minus: Alternative minimum tax foreign tax credit Equals: Tentative minimum tax

6 Individual Volume/Solutions Manual Minus: Equals: Regular tax liability* Alternative minimum tax (if amount is positive) *Regular tax liability for the year reduced by any allowable foreign tax credit. Figure The statement is correct. There is an AMT liability only if the tentative AMT exceeds the regular income tax liability. The amount of the excess is the AMT. The total tax liability is the summation of the regular income tax liability and the AMT. pp. 12-7, 12-8, and Figure a. The AMT exemption can be thought of as a materiality amount. It relieves taxpayers who do not have substantial adjustments and preferences from the burden of the AMT. b. The initial amount (prior to the phaseout) of the exemption is as follows: l $40,250 for a single taxpayer or a head of household. l $58,000 for married taxpayers filing jointly. l $29,000 for married taxpayers filing separately. c. The phaseout of the exemption amount is an application of the wherewithal to pay concept. As the ability to pay increases as measured by the taxpayer s AMTI, the justification for relieving the taxpayer of the burden of the AMT decreases. d. l $273,500 for a single taxpayer or a head of household. l $382,000 for married taxpayers filing jointly. l $191,000 for married taxpayers filing separately. pp and There are two AMT rates for the individual taxpayer. The rates are multiplied by the AMT base to produce the tentative AMT (before foreign tax credit). The 26% rate applies to the first $175,000 ($87,500 for married filing separately) of the AMT base, and the 28% rate applies to the excess over $175,000. If the individual taxpayer has net capital gain, the alternative tax rate that is used in the regular tax liability calculation is also available for AMT purposes. p Historically only the foreign tax credit was allowed as a reduction of the tentative minimum tax. However, for tax years , all nonrefundable personal credits can offset both the regular income tax (less foreign tax credit) and AMT. For years after 2005, only certain nonrefundable personal tax credits (i.e., child tax credit, adoption expenses credit, and credit for elective deferrals and IRA contributions) can offset both the regular income tax (less any foreign tax credit) and the AMT in full after all other nonrefundable personal tax credits have been utilized. pp and Since Tad placed the machinery in service prior to January 1, 1999 (and assuming it was depreciated under MACRS rather than ADS), a positive AMT adjustment for depreciation is required in 1998 and a negative AMT adjustment in For most personal property placed in service after 1986 (MACRS property), the MACRS deduction for regular income tax purposes is based on the 200% declining-balance method with a switch to straight-line when that method produces a larger depreciation deduction. For AMT purposes, the taxpayer must use ADS for such property placed in service before January 1, ADS is based on the 150% declining-balance method with a similar switch to straight-line. Thus, the MACRS deduction for personal property is larger than the ADS deduction in the early

7 Alternative Minimum Tax 12-7 years of an asset s life (e.g., 1998). Conversely, the ADS deduction is larger than the MACRS deduction in the later years (e.g., 2006). p For regular income tax purposes, mining exploration and development costs may be expensed in the year incurred. For AMT purposes, such costs must be amortized over 10 years. The AMT adjustment for mining exploration and development costs is equal to the amount expensed minus the amount that would have been allowed if the costs had been capitalized and amortized ratably over a 10-year period. The AMT adjustment can be avoided if the taxpayer elects to write off the costs over a 10-year period for regular income tax purposes. p Rick may be misinformed regarding the AMT. Merely because the AMT exemption amount is zero and there are adjustments or tax preferences present does not automatically mean an AMT will result. What Rick needs to do is to determine if an AMT (and the amount) would result if he expenses the mining exploration and development costs for regular income tax purposes. p For a long-term contract, taxpayers are required to use the percentage of completion method for AMT purposes. If a taxpayer uses the completed contract method for regular income tax purposes, this will give rise to an AMT adjustment equal to the difference between income reported under the percentage of completion method and the amount reported using the completed contract method. The adjustment can be either positive or negative depending on the amount of income recognized under the different methods. pp and For regular income tax purposes, the spread between the fair market value of the stock and the option price in the year of exercise is not recognized. For AMT purposes, however, the spread is recognized and is treated as a positive adjustment. In the year the stock is sold, there will be an equivalent negative adjustment. This negative adjustment occurs because the regular income tax basis is less than the AMT basis by the amount of the spread. However, if the exercise of the ISO and the sale of the stock occur in the same year, the potential positive adjustment and negative adjustment offset each other. If the exercise of the ISO and the sale occur in different years, there will be a positive AMT adjustment in the exercise year and a negative AMT adjustment in the sale year. p The regular income tax adjusted basis for the building is determined by subtracting the regular income tax depreciation deductions. The AMT adjusted basis for the building is determined by subtracting the AMT depreciation deductions. Since the regular income tax and the AMT depreciation deducion are not the same for a building placed in service before January 1, 1999, the adjusted basis for regular income tax and AMT purposes will differ. Consequently, the recognized gain or loss for regular income tax and AMT purposes will also differ. pp to The relevant issues are the tax consequences of each of the two proposed transactions for both regular income tax purposes and for AMT purposes. The AMT analysis is relevant only if the AMT applies since the adjustment would be negative. For regular income tax purposes, the sale to Abby in 2007 would result in deferring the reporting of the gain of $85,000 until This deferral treatment also would apply for AMT purposes (i.e., the realized loss of $10,000 cannot be recognized). If the sale occurred in 2006 to Ed, for regular income tax purposes, the $85,000 realized gain is recognized. However, for AMT purposes, there would be a $95,000 negative adjustment for the difference between the $85,000 gain for regular income tax purposes and the $10,000 loss for AMT purposes.

8 Individual Volume/Solutions Manual Note also that for regular income tax purposes, any portion of the $85,000 recognized gain that is classified as ordinary income will be subject to a lower tax rate in 2006 (25%) than in 2007 (28%). pp to Income or loss from passive activities is computed differently for regular income tax purposes and for AMT purposes. For example, the depreciation and depletion rules differ for regular income tax and AMT purposes. The resulting difference in net income (loss) could require an AMT adjustment. Example Positive adjustments and tax preferences are added to the regular income tax NOL in calculating the ATNOLD (i.e., making the ATNOLD a smaller amount). Negative adjustments are subtracted from the regular income tax NOL in calculating the ATNOLD. p The medical expense may cause an adjustment since the expense is subject to a floor of 7.5% of AGI for regular income tax purposes and 10% of AGI for AMT purposes. All of the taxes will be an adjustment since taxes are not deductible for AMT purposes. The home mortgage interest is an adjustment if the loan was not used to buy, build, or improve a principal residence or qualified dwelling. The investment interest may result in an adjustment. The unreimbursed employee business expenses will result in an adjustment if they exceed 2% of AGI. No adjustment is required for charitable contributions or casualty and theft losses. Furthermore, gambling losses are deductible to the extent of gambling winnings for both regular income tax and AMT purposes; therefore, no adjustment is required. pp to The obvious issue is whether Matt should follow the friend s advice in order to increase his itemized deductions. On the surface, this appears to be sound tax advice. Factoring in the effect of indexing on the standard deduction, it appears that Matt may have to use it in the future. Incurring the mortgage on the beach house would enable him to continue to itemize deductions. However, another issue that needs to be addressed is whether Matt will be subject to the AMT. The mortgage interest on the beach house will be deductible for AMT purposes, since it is qualified housing interest. In addition, determination needs to be made of whether the tax-exempt bonds in which Matt is investing are private activity bonds, since the interest on such bonds is a tax preference. pp and The 3% cutback adjustment does not apply in calculating AMTI. Thus, to negate its effect, Warren has a negative adjustment of $4,000 ($25,000 $21,000) in calculating AMTI. p The interest deduction for regular income tax purposes includes qualified residence interest, investment interest to the extent of net investment income reported in computing taxable income, and qualified interest on student loans (i.e., a deduction for AGI). The alternative minimum tax itemized deduction for interest includes qualified housing interest, plus other interest to the extent of qualified net investment income that is included in the AMT base, and qualified interest on student loans. Qualified housing interest could be less than qualified residence interest. pp to A taxpayer who does not itemize is required to make an adjustment (positive) for the standard deduction. The adjustment is required because the standard deduction is not allowed for AMT purposes and the starting point for AMT is taxable income. Similarly, a positive adjustment is required for personal and dependency exemptions in calculating AMTI. p A tax preference is created for AMT purposes once the adjusted basis of the mineral deposit is reduced to $0 and percentage depletion continues to be deducted. p

9 Alternative Minimum Tax In comparing the two alternative investments, contrast the after-tax cash flow from each investment. Thus, Ian s marginal tax rate is relevant in determining the after-tax cash flow from the taxable bonds. In addition, if the tax-exempt bonds are private activity bonds, this could result in Ian being subject to the AMT and could affect his calculation of the investment interest deduction under the regular income tax. pp and The purpose of the AMT credit is to provide equity for the taxpayer when timing differences that give rise to AMT adjustments reverse. The credit arises when positive adjustments are included in the AMT base. It is used to reduce the regular income tax liability for prior years AMT liability attributable to timing differences. To determine the amount of the AMT credit, it is necessary to compute the AMT with timing adjustments and AMT exclusions (non-timing adjustments and preferences) included in the AMT base. The AMT credit carryover is the difference between the amount so computed and the AMT that would result without including timing adjustments in the AMT base. The AMT credit may be carried over indefinitely. Examples 29 to 31 and related discussion 28. To be exempt from the AMT, a corporation must be a small corporation. A corporation is classified as a small corporation if it had average annual gross receipts of less than $5 million for the three-year period beginning after December 31, A corporation will continue to be classified as a small corporation if its average annual gross receipts for the three-year period preceding the current tax year and any intervening three-year periods do not exceed $7.5 million. However, if a corporation ever fails the gross receipts test, it is ineligible for small corporation classification in future tax years. Note that a corporation will automatically be classified as a small corporation in the first year of existence. pp and The ACE adjustment applies only to the corporate taxpayer. It can be either a positive or a negative amount. AMTI is increased by 75% of the excess of adjusted current earnings (ACE) over unadjusted AMTI. Conversely, AMTI is reduced by 75% of the excess of unadjusted AMTI over ACE. However, the negative adjustment is limited to the aggregate of the positive adjustments under ACE for prior years, reduced by the previously claimed negative adjustments. pp and Since Rose s regular income tax liability is $114,000, it is in the 39% tax bracket. The corporate AMT rate is 20%. Therefore, if Rose will be in the 39% bracket next year and the AMT will not apply, it would be beneficial for Rose to accelerate the $20,000 of income into the current tax year. p PROBLEMS 31. Reba s taxable income Plus: Positive AMT adjustments $210,000 72,000 Less: Tax preferences Negative AMT adjustments 30,000 (62,000) Equals: AMTI $250,000 Less: Exemption [$40,250 25%($250,000 $112,500)] (5,875) Equals: AMT base $244,125 Figure 12-2

10 Individual Volume/Solutions Manual 32. a. Calculation of regular income tax liability: Tax on $145,000: On $74,200 $ 15,108 On $70,800 28% 19,824 $ 34,932 Calculation of AMT: Taxable income $145,000 Adjustments 62,000 Tax preferences 50,000 AMTI $257,000 Exemption [$40,250 25%($257,000 $112,500)] (4,125) AMT base $252,875 Rate: 26% $175,000 28% $77,875 $45,500 21,805 Tentative AMT Regular income tax liability $ 67,305 (34,932) AMT $ 32,373 b. Arthur s total tax liability is $67,305, the summation of the regular tax liability of $34,932 and the AMT of $32,373. c. Hoffman, Smith, and Willis, CPAs 5191 Natorp Boulevard Mason, OH February 6, 2007 Mr. Arthur East 100 Colonel s Way Conway, SC Dear Mr. East: As you requested, we have calculated your Federal tax liability for The total amount is $67,305. This consists of the regular income tax liability of $34,932 and the alternative minimum tax (AMT) liability of $32,373. The calculation of the regular income tax liability appears on Form Since this is the first year that you have been subject to the AMT, I thought that I should comment on this additional tax. The calculation of the AMT appears on Form The AMT is a parallel income tax system. Its purpose is to provide assurance that no taxpayer with substantial economic income can avoid significant tax liability by using exclusions, deductions, and credits. As indicated on Form 6251, some of the exclusions and deductions on your Form 1040 are disallowed on your Form Such items are treated as positive adjustments and preferences on Form 6251.

11 Alternative Minimum Tax Figure 12-2 I would like to work with you to minimize your AMT in the future. Since this is our first year to do tax compliance work for you, we think we can use tax planning techniques to reduce your Federal tax liability. Please call me so we can schedule a meeting at a time convenient to you. Sincerely, Steve Ash, CPA Partner 33. Case 1 Married filing jointly Single Tentative AMT $194,000 $194,000 Regular tax liability (157,001)** (163,611)* = AMT $ 36,999 $ 30,389 Case 2 Married filing jointly Single Tentative AMT Regular tax liability $175,000 (157,001)** $175,000 (163,611)* = AMT $ 17,999 $ 11,389 Figure 12-2 *$97,653 + $65,958 = $163,611. **$91,043 + $65,958 = $157, Single taxpayer: Case 1 $40,250 25%($160,000 $112,500) = $28,375 Case 2 $40,250 25%($250,000 $112,500) = $ 5,875 Case 3 $40,250 25%($450,000 $112,500) = $ 0 Married filing jointly: Case 1 Case 2 $58,000 25%($160,000 $150,000) = $58,000 25%($250,000 $150,000) = $55,500 $33,000 Case 3 $58,000 25%($450,000 $150,000) = $ 0 Married filing separately: Case 1 $29,000 25%($160,000 $75,000) = $ 7,750 Case 2 $29,000 25%($250,000 $75,000) = $ 0 Case 3 $29,000 25%($450,000 $75,000) = $ 0 pp and 12-8

12 Individual Volume/Solutions Manual 35. a. Leona s AMT is $0. Tentative AMT $ 78,000 Regular income tax liability (135,000) Excess of tentative AMT over regular tax liability ($ 57,000) Since the result is negative, Leona has no AMT. b. The nonrefundable credits cannot reduce the regular income tax liability below the amount of the tentative AMT. Therefore, Leona can use only $57,000 of the $65,000 nonrefundable credits to reduce her regular income tax liability to $78,000 ($135,000 $57,000). The remaining $8,000 ($65,000 $57,000) of nonrefundable credits will be lost unless they are the type of credits which qualify for carryback and/or carryforward. pp. 12-8, 12-9, and Figure Angela has two options available for the $153,000 of circulation expenditures. First, she could deduct the entire $153,000 in If she does this, she will have a positive AMT adjustment of $102,000 ($153,000 $51,000) in 2006 and negative AMT adjustments of $51,000 ($0 $51,000) in 2007 and Under the second option, Angela could elect to capitalize the circulation expenses and deduct them over a 3-year period (i.e., $51,000 per year). If this election is made, there is no AMT adjustment, since the deduction will be the same for regular income tax purposes and AMT purposes. The 28% bracket for single taxpayers begins at $74,200 and ends at $154,800 in The first $7,550 is taxed at 10%, the next $23,100 is taxed at 15%, and the next $43,550 is taxed at 25%. If Angela deducts the entire $153,000 in 2006, she will have zero taxable income. As a result, she will have used $7,550 of the $153,000 deduction to offset income that would be taxed at 10%, $23,100 of the $153,000 deduction to offset income that would be taxed at a 15% rate, $43,550 to offset income that would be taxed at the 25% rate, and $78,800 to offset income that would be taxed at 28%. Her maximum potential savings from this strategy will be $15,108 (the tax on $74,200) plus 28% on the remainder of $78,800 ($153,000 $74,200). Thus, the tax effect of the $153,000 deduction would be $37,172 [$15, ($78,800)]. The 28% bracket spans more than $51,000 in 2006 ($154,800 $74,200 = $80,600), and the 28% bracket is likely to span a similar range in 2007 and If Angela writes off the circulation expenditures over three years at the rate of $51,000 per year, the entire $153,000 deduction will offset income that would be taxed at 28% (i.e., 28% in 2006 and 28% in 2007 and 2008). Therefore, Angela should be advised that she can achieve substantial tax savings by amortizing the circulation expenditures over a three-year period. Her tax savings from a $153,000 deduction spread over 3 years at 28% in 2006 and 28% in 2007 and 2008 would be $42,840 [($51,000 28%) + ($51,000 28%) + ($51,000 28%)]. In summary, Angela could save $37,172 in income tax if she expenses the circulation expenditures in the year incurred, but could save $42,840 if she amortizes them over 3 years.

13 Alternative Minimum Tax Note: The time value of money should be considered in computing the final tax savings achieved by the three-year amortization strategy. p Computation of adjustment for circulation expenditures: 2006 regular income tax deduction $150, AMT deduction ($150,000/3) (50,000) Positive AMT adjustment in 2006 $100, regular income tax deduction 2007 AMT deduction: [($150,000/3) + ($90,000/3)] $ 90,000 (80,000) Positive AMT adjustment in 2007 $ 10,000 p and Example a. If the apartment building is acquired and placed in service in 1998, there is an AMT positive adjustment for 2006 because the regular income tax cost recovery period is 27.5 years and the AMT cost recovery period is 40 years. Regular income tax cost recovery for 2006 (Table 8-6): $750,000 3:636% ¼ $27,270 AMT cost recovery for 2006 (Table 8-7): $750,000 2:500% ¼ $18,750 Thus, the amount of the AMT adjustment is $8,520 ($27,270 $18,750). b. If the apartment building is acquired and placed in service in 2006, there is no AMT adjustment for cost recovery for 2006 because the regular income tax cost recovery period of 27.5 years also is used for AMT purposes. pp and Regular income tax cost recovery for 2006 (Table 8-6): $750,000 2:879% ¼ $21,593 AMT cost recovery for 2006 (Table 8-7): $750,000 2:879% ¼ $21,593

14 Individual Volume/Solutions Manual 39. a. In order to produce the largest depreciation deduction for regular income tax purposes, Helen will use Table 8-1 (200% DB method). For AMT purposes, she must use Table 8-4 (150% DB method). Regular income tax depreciation ($300,000 20%) $60,000 AMT depreciation ($300,000 15%) (45,000) Positive adjustment $15,000 b. Helen could elect to depreciate the equipment using Table 8-4 (150% DB method) for regular income tax purposes rather than under the regular MACRS method (200% DB method). The election reduces the depreciation percentage factor from 20% to 15%. Therefore, the depreciation deduction for both AMT purposes and regular income tax purposes would be $45,000. Making the election reduces the AMT adjustment to $0. Such an election may be beneficial if Helen is going to be subject to the AMT. The election would not be beneficial if Helen s regular income tax liability is going to exceed her tentative AMT anyway. c. Hoffman, Smith, and Willis, CPAs 5191 Natorp Boulevard Mason, OH August 9, 2006 Ms. Helen Carlon 500 Monticello Avenue Glendale, AZ Dear Ms. Carlon: In response to your inquiry regarding the appropriate depreciation method for the $300,000 of used equipment placed in service during March 2006, two options are available. The first will produce a larger depreciation deduction, but may result in the AMT being paid. The second option will produce a smaller depreciation deduction, but will have no effect on the AMT. Note that as we discussed, you decided not to elect 179 limited expensing treatment. Under the first option, depreciation is calculated using the 200% declining balance method with a 5-year recovery period. The amount of the depreciation deduction under this method is $60,000 ($300,000 20%). However, for AMT purposes, the depreciation is calculated using the 150% declining balance method with a 5-year recovery period. The amount of the depreciation deduction for AMT purposes is $45,000 ($300,000 15%). Therefore, for AMT purposes, there will be a positive adjustment of $15,000 ($60,000 $45,000). Under the second option, depreciation for regular income tax purposes and AMT purposes is calculated using the depreciation method and recovery period required for AMT purposes. Thus, in both cases, the amount of the depreciation deduction is $45,000. The benefit of electing to calculate the regular income tax depreciation this way is that the aforementioned positive adjustment for AMT purposes is avoided. Whether the election that produces a smaller depreciation deduction for regular income tax purposes but avoids a positive AMT adjustment is beneficial depends

15 Alternative Minimum Tax on your AMT status absent the effect of the depreciation deduction. In order to advise you regarding this election, I need to meet with you to obtain additional tax information. Please provide me with a date and time that is convenient to you. Sincerely, James Singer, CPA Partner pp and a. Mining exploration and development costs can be expensed in the year incurred for regular income tax purposes. These expenditures must be amortized over a 10-year period for AMT purposes. Gary s regular income tax deduction would be $600,000 in 2006 and his AMT deduction would be $60,000 ($600,000/10). Therefore, Gary would have a positive adjustment of $540,000 in 2006 ($600,000 regular income tax deduction $60,000 AMT deduction). His negative adjustment for each of the next nine years will be $60,000 ($0 regular income tax deduction $60,000 AMT deduction). b. Gary can avoid having an adjustment by electing to amortize the mining exploration and development costs over a ten-year period for regular income tax purposes. c. Gary should consider the present value of the cash flows, different tax brackets between regular income tax and AMT, and the possible effect this adjustment will have on future AMT calculations. Example 9 and related discussion 41. For 2006, there is a positive AMT adjustment of $120,000. AMT: Revenues ($500,000 60%) $300,000 Expenses (180,000) $ 120,000 Regular income tax: Revenues $ 0 Expenses ( 0 ) ( 0 ) AMT adjustment $ 120,000 For 2007, there is a negative AMT adjustment of $120,000. AMT: Revenues ($500,000 $300,000) $200,000 Expenses ($295,000 $180,000) (115,000) $ 85,000 Regular income tax: Revenues Expenses $500,000 (295,000) (205,000) AMT adjustment ($ 120,000) p

16 Individual Volume/Solutions Manual 42. a. For regular income tax purposes and for AMT purposes, there are no tax results which need to be reported in 2006, the year of grant. b. For regular income tax purposes and for AMT purposes, there are no tax results which need to be reported in 2010, the year of exercise. c. For regular income tax purposes, the spread of $30,000 ($100,000 fair market value $70,000 option price) is not recognized in 2011, the year when rights in the stock become freely transferable and are not subject to a substantial risk of forfeiture. For AMT purposes, however, the spread of $30,000 is a positive AMT adjustment in d. The regular income tax basis of $70,000 is different from the AMT basis of $100,000 ($70,000 + $30,000). Thus, there is a negative AMT adjustment in 2014, the year of sale, of $30,000 ($80,000 $50,000). p Regular Income Tax AMT Amount realized Amount basis $150,000 (70,000) $150,000 (100,000) Recognized gain $ 80,000 $ 50, a. No AMT adjustment is required on the exercise of the ISO because the stock is sold in the same tax year as its exercise. Also, no adjustment is required for the stock sale because the recognized gain for regular income tax and AMT purposes is the same. Regular Income Tax AMT Amount realized Basis $32,000 (21,000) $32,000 (21,000) Realized gain $11,000 $11,000 Recognized gain $11,000 $11,000 b. If Lori had sold the stock in 2007 (rather than in 2006), her recognized gain for regular income tax and for AMT purposes would have been as follows: p Regular Income Tax AMT Amount realized $32,000 $32,000 Basis (17,500) (21,000) Realized gain $14,500 $11,000 Recognized gain $14,500 $11,000 The result is a positive AMT adjustment of $3,500 ($3,500 $0) in 2006 and a negative AMT adjustment of $3,500 ($11,000 $14,500) in 2007.

17 Alternative Minimum Tax a. Amount realized $720,000 Less: Adjusted basis (406,000) Realized and recognized gain $314,000 b. Amount realized Less: Adjusted basis $720,000 (450,000) Realized and recognized gain $270,000 c. Gain for regular income tax purposes Less: Gain for AMT purposes $314,000 (270,000) Negative AMT adjustment $ 44,000 pp to The 2006 loss will not be deductible either for regular income tax or AMT purposes, since no passive income is present. The suspended passive loss for regular income tax purposes is $11,750 ($160,000 gross income $122,000 operating expenses $49,750 regular income tax depreciation). The suspended passive loss for AMT purposes is $3,000 ($160,000 gross income $122,000 operating expenses $41,000 ADS depreciation). Examples 15 and 16 and related discussion 46. a. All of the medical expenses are eligible for the medical expense deduction. Therefore, for regular income tax purposes, Wally s and Gloria s medical expense deduction is $14,500 [$29, %($200,000)]. b. For AMT purposes, only the medical expenses in excess of 10% of AGI can be deducted. Therefore, the medical expense deduction is $9,500 [$29,500 10% ($200,000)]. c. The AMT adjustment for medical expenses is a positive adjustment of $5,000 ($14,500 $9,500). Example a. Wolfgang s itemized deductions for AMT purposes are calculated as follows: Medical expenses [$12,000 (10% $140,000)] Charitable contributions $ 0 5,000 Qualified housing interest Casualty loss 6,500 1,800 Total $13,300 Neither the state income taxes of $4,200 nor the miscellaneous itemized deductions of $700 are deductible for AMT purposes. An additional 2.5% of AGI ($3,500) is disallowed in calculating medical expenses. Thus, none of the medical expenses are deductible.

18 Individual Volume/Solutions Manual b. The AMT adjustment is calculated as follows: Itemized deductions for regular income tax $19,700 Less: Itemized deductions for AMT purposes (13,300) Positive AMT adjustment $ 6,400 pp to For regular income tax purposes, the following amounts are deductible as qualified residence interest: Interest on personal residence $12,000 Interest on cabin 6,000 Interest on home equity loan 4,500 Total qualified residence interest deduction $22,500 For AMT purposes, however, the deduction is limited to qualified housing interest, which includes the following: Interest on personal residence $12,000 Interest on cabin 6,000 Total qualified housing interest deduction $18,000 Interest on the home equity loan of $4,500 is not deductible for AMT purposes because the proceeds were not used to substantially improve a qualified residence. Therefore, an AMT adjustment is required: Total qualified residence interest deduction $22,500 Total qualified housing interest deduction (18,000) Positive AMT adjustment $ 4,500 pp and For regular income tax and AMT purposes, investment interest expense is limited to net investment income. Therefore, Yoon s regular income tax deduction for investment interest expense is limited to $10,000 (the amount of dividends received). For regular income tax purposes, the private activity bond interest of $5,000 is excludible from gross income and the related $3,500 interest expense is not deductible. The $5,000 interest income on the private activity bonds is offset by the $3,500 interest expense, so Yoon reports a $1,500 tax preference for AMT purposes. In addition, the net investment income of $1,500 ($5,000 $3,500) from the private activity bonds is treated as part of net investment income for AMT purposes. Net investment income is $11,500 ($10,000 + $1,500). Therefore, for AMT purposes, $11,500 of the $13,000 investment interest expense can be deducted. pp and 12-19

19 Alternative Minimum Tax a. Walter and Edith s itemized deductions are calculated as follows: Regular Income Tax AMT Adjustment Medical expenses (see Note 1) State income taxes $ 1,250 2,800 $ 0 0 $ 1,250 2,800 Personal property tax Real estate tax 9, ,100 Interest on residence 8,600 8,600 0 Interest (home equity) 1, ,800 Investment interest 2,600 2,600 0 Charitable contribution 4,200 4,200 0 Employee expenses (Note 2) 1, ,600 Totals $32,850 $15,400 $17,450 Notes (1) Medical expenses: For regular income tax [$9,500 (7.5% $110,000)] $1,250 For AMT [$9,500 (10% $110,000)] ( 0 ) Positive adjustment $1,250 (2) Unreimbursed employee expenses: Expenses $3,800 2% of AGI ($110,000) (2,200) Deduction for regular income tax $1,600 b. Walter and Edith would have a positive adjustment of $17,450, as computed above. In addition, they would have a tax preference of $1,100 ($5,000 interest on private activity bonds $3,900 related interest expense). pp to There are positive AMT adjustments of $5,150 for the standard deduction and $3,300 for the personal exemption. Alternative minimum taxable income is $229,450 ($112,000 taxable income + $109,000 preferences + $5,150 standard deduction + $3,300 exemption). Examples 24 and 25 and related discussion 52. Emily s percentage depletion deduction for regular income tax purposes is $21,000 ($140,000 income 15% depletion rate). This results in a tax preference of $9,000 ($21,000 percentage depletion $12,000 basis at beginning of year). Example Amos s preference item for IDC is computed as shown below: IDC expensed in the year Less: IDC if amortized over 10 years $70,000 (7,000) Excess IDC Less: 65% of $60,000 net income from oil and gas $63,000 (39,000) IDC preference $24,000 pp and 12-22

20 Individual Volume/Solutions Manual 54. $9,000 interest on private activity bonds + $35,000 bargain element on incentive stock options + $5,150 standard deduction + $3,300 personal exemption = $52,450. pp , 12-19, and Pat s tentative AMT for 2006 is computed as shown below: Taxable income computation Salary $ 90,000 Interest income 1,000 Dividend income 5,000 Gambling income 4,000 Adjusted gross income $100,000 Itemized deductions: Medical expenses ($12,000 $7,500) $4,500 State income taxes 4,100 Real estate taxes 2,800 Mortgage interest on residence 3,100 Investment interest expense 1,800 Gambling losses (limited to gambling income) 4,000 Total itemized deductions (20,300) Personal exemption (3,300) Taxable income $ 76,400 Tentative minimum tax computation Taxable income $ 76,400 Plus adjustments: Medical expenses 2,500 Regular income tax [$12,000 (7.5% $100,000) = $4,500] AMT [$12,000 (10% $100,000) = $2,000] State income taxes 4,100 Real estate taxes Personal exemption 2,800 3,300 Subtotal $ 89,100 Plus: Preference (interest on private activity bonds) 40,000 Alternative minimum taxable income (AMTI) Exemption [$40,250 25%($129,100 $112,500)] $129,100 (36,100) AMT base AMT rate $ 93, Tentative AMT $ 24,180 pp to a. Taxable income $273,000 Plus: Positive AMT adjustments 38,000 Less: Negative AMT adjustments Plus: Tax preference items (14,000) 67,500 AMTI $364,500

21 Alternative Minimum Tax b. AMTI $364,500 Less: AMT exemption [$58,000.25($364,500 $150,000)] (4,375) AMT base $360,125 Example 28 Tentative AMT: $175,000 26% $ 45,500 ($360,125 $175,000) 28% 51,835 $ 97, a. Computation of Tara s items of AMT adjustments and preferences for 2006: Incentive stock option adjustment $ 45,000 Excess depreciation on building adjustment ($49,000 $26,000) 23,000 Percentage depletion in excess of property s adjusted basis preference 50,000 Standard deduction adjustment 5,150 Personal exemption adjustment 3,300 Total adjustments and preferences $ 126,450 b. Calculation of alternative minimum tax: Taxable income Adjustments and preferences $121, ,450 Alternative minimum taxable income (AMTI) Less: Exemption amount (Note 1) $247,450 (6,512) Alternative minimum tax base $240,938 Tentative minimum tax (Note 2) Less: Regular income tax on $121,000 $ 63,963 (28,212) Alternative minimum tax $ 35,751 Regular income tax calculation Tax on $121,000: On $74,200 $ 15,108 On ($121,000 $74,200) at 28% 13,104 Total tax $ 28,212 Notes (1) Exemption phase-out: ($247,450 $112,500) 25% = $33,738; then $40,250 $33,738 = $6,512 exemption amount. pp and 12-9

22 Individual Volume/Solutions Manual (2) AMT tax calculations: $175,000 26% ($240,938 $175,000) 28% $45,500 18,463 Tentative minimum tax $63,963 Concept Summary 12-1 and Examples 24 and Taxable income is computed as follows: Salary Taxable interest on corporate bonds $ 33,000 1,800 Dividend income Business income 1,900 64,000 Adjusted gross income $100,700 Less: Itemized deductions Medical expenses [$12,000 (7.5% $100,700)] $4,448 State income taxes 6,000 Real estate taxes 8,500 Qualified residence interest 9,200 Investment interest ($5,500, but limited to investment income) 3,700 Cash contributions to various charities 2,900 Total itemized deductions Less: Personal exemption (34,748) (3,300) Taxable income $ 62,652 Income tax on $62,652: On $30,650 $4,220 On ($60,752 $30,650) at 25% 7,526 $ 11,746 On $1,900 at 15% 285 $ 12,031 The AMT is computed as follows: Taxable income Plus positive adjustments and tax preferences: $ 62,652 Medical expenses (Note 1) $ 2,518 State income taxes 6,000 Real estate taxes 8,500 Depreciation on business property ($3,175 $2,500) 675 Interest on private activity bonds (preference)(note 2) 30,000 Personal exemption 3,300 50,993 Less negative adjustment: Investment interest (Note 2) (1,800) Alternative minimum taxable income (AMTI) Less: AMT exemption [$40,250.25($111,845 $112,500)] $111,845 (40,250) AMT base AMT rate $ 71, Tentative AMT $ 18,615 Less: Regular income tax (12,031) Alternative minimum tax $ 6,584

23 Alternative Minimum Tax Note 1: $12,000 ($100,700 10%) = $1,930 medical expense for AMT. Then, $4,448 $1,930 = $2,518 adjustment. Note 2: Investment income for income tax purposes was only $3,700 ($1,800 + $1,900); so the regular income tax deduction for investment interest expense was limited to that amount. For AMT purposes, the net interest on the private activity bonds of $30,000 is included in calculating net investment income. Therefore, all of the investment interest of $5,500 is deducted for AMT purposes. This produces a negative adjustment of $1,800 ($5,500 $3,700). For AMT purposes, interest on private activity bonds is treated as a tax preference. Therefore, Lynn will have a tax preference of $30,000. pp to AMT computation Taxable income $ 0 Plus: Timing adjustments 200,000 Plus: AMT exclusion items 100,000 AMTI Minus: Exemption [$40,250.25($300,000 $112,500)] $300,000 ( 0 ) AMT base $300,000 Tentative AMT [.26($175,000) +.28($300,000 $175,000)] Minus: Regular income tax liability $ 80,500 ( 0 ) AMT $ 80,500 AMT without timing adjustments Taxable income $ 0 Plus: AMT exclusion items 100,000 AMTI Minus: Exemption [$40,250.25($100,000 $112,500)] $100,000 (40,250) AMT base $ 59,750 Tentative AMT (.26 $59,750) Minus: Regular income tax liability $ 15,535 ( 0 ) AMT $ 15,535 Credit carryover computation AMT Less: AMT without timing adjustments $ 80,500 (15,535) AMT credit carryover $ 64,965 Examples 29 to a. Aqua is first exempt from the AMT for 1998 (the first year for which the exemption is available) as a small corporation. Aqua is classified as a small corporation if (1) it had average annual gross receipts of $5 million or less for the three-year period beginning after December 31, 1993 and (2) it had average annual gross receipts for each subsequent three-year period of $7.5 million or less (i.e., 1995, 1996, and 1997 if the tax year is 1998; 1996, 1997, and 1998 if the tax year is 1999; 1997, 1998, and 1999 if the tax year is 2000; 1998, 1999, and 2000 if the tax year is 2001;

24 Individual Volume/Solutions Manual 1999, 2000, and 2001 if the tax year is 2002; 2000, 2001, and 2002 if the tax year is 2003; 2001, 2002, and 2003 if the tax year is 2004; 2002, 2003, and 2004 if the tax year is 2005; 2003, 2004, and 2005 if the tax year is 2006). For the three-year period which includes 1994, 1995, and 1996, Aqua had average annual gross receipts of: $4,800,000 þ $5,300,000 þ $4,600,000 3 years ¼ $4,900,000 Thus, Aqua passes the $5 million test for this period. For the three-year period which includes 1995, 1996, and 1997, Aqua had average annual gross receipts of: $5,300,000 þ $4,600,000 þ $8,200,000 3 years ¼ $6,033,333 Thus, Aqua passes the $7.5 million test for this period. Aqua is a small corporation for Thus, it is exempt from the AMT for b. Aqua remains exempt from the AMT in In order to do so, Aqua s average annual gross receipts for the three-year period consisting of 1996, 1997, and 1998 do not exceed $7.5 million. $4,600,000 þ $8,200,000 þ $8,500;000 3 years ¼ $7,100,000 Likewise, Aqua s average annual gross receipts for the three-year period consisting of 1997, 1998, and 1999 do not exceed $7.5 million. $8,200,000 þ $8,500,000 þ $5,200,000 3 years ¼ $7,300,000 Likewise, Aqua s average annual gross receipts for the three-year period consisting of 1998, 1999, and 2000 do not exceed $7.5 million. $8,500,000 þ $5,200,000 þ $8,000,000 3 years ¼ $7,233,333 Likewise, Aqua s average annual gross receipts for the three-year period consisting of 1999, 2000, and 2001 do not exceed $7.5 million. $5,200,000 þ $8,000,000 þ $6,000,000 3 years ¼ $6,400,000 Likewise, Aqua s average annual gross receipts for the three-year period consisting of 2000, 2001, and 2002 do not exceed $7.5 million. $8,000,000 þ $6,000,000 þ $6,200,000 3 years ¼ $6,733,333 Likewise, Aqua s average annual gross receipts for the three-year period consisting of 2001, 2002, and 2003 do not exceed $7.5 million. $6,000,000 þ $6,200,000 þ $6,100,000 3 years ¼ $6,100,000

25 Alternative Minimum Tax Likewise, Aqua s average annual gross receipts for the three-year period consisting of 2002, 2003, and 2004 do not exceed $7.5 million. $6,200,000 þ $6,100,000 þ $8,000,000 3 years ¼ $6,766,666 Finally, Aqua s average annual gross receipts for the three-year period consisting of 2003, 2004, and 2005 do not exceed $7.5 million. pp and $6,100,000 þ $8,000,000 þ $7,000,000 3 years ¼ $7,033, ACE Less: Unadjusted AMTI $4,000 (3,000) $3,000 (2,000) $2,000 (5,000) Difference Rate $1, $1, ($3,000).75 Adjustment $ 750 $ 750 ($1,500)* *$2,250 ($3,000.75) but limited to $750 + $750, or $1,500. Further, the unusable negative adjustment of $750 ($2,250 $1,500) is lost forever. Concept Summary 12-2, Example 32, and related discussion 62. Quincy Corporation: AMTI $150,000 Less: Exemption amount (40,000) AMT base Rate $110, Tentative AMT $ 22,000 Note: In this case, there is no reduction in the exemption amount because AMTI does not exceed $150,000. Redland Corporation: Step 1 AMTI $160,000 Less: Threshold amount for exemption (150,000) Amount by which AMTI exceeds $150,000 Reduction rate $ 10, Applicable reduction in exemption amount $ 2,500 Step 2 Exemption amount $ 40,000 Less: Reduction in exemption amount from Step 1 (2,500) Applicable exemption amount $ 37,500

26 Individual Volume/Solutions Manual Step 3 AMTI Less: Applicable exemption amount from Step 2 $160,000 (37,500) AMT base $122,500 Rate.20 Tentative AMT $ 24,500 Tanzen Corporation: Step 1 AMTI $320,000 Less: Threshold amount for exemption (150,000) Amount by which AMTI exceeds $150,000 Reduction rate $170, Applicable reduction in exemption amount $ 42,500 Step 2 Exemption amount $ 40,000 Less: Reduction in exemption amount from Step 1 (42,500) Applicable exemption amount $ 0 Step 3 AMTI $320,000 Less: Applicable exemption amount from Step 2 ( 0 ) AMT base Rate $320, Tentative AMT $ 64,000 Note: In this case, the exemption amount is phased out entirely because AMTI exceeds $310,000. pp to a. Tax on taxable income of $2,600,000: $2,600,000 34% ¼ $884,000 b. Taxable income $2,600,000 Adjustments and tax preferences: Depreciation for regular income tax on realty in excess of ADS straight-line $ 550,000 Excess amortization of certified pollution control facilities 450,000 Tax-exempt interest on private activity bonds 1,030,000 Percentage depletion in excess of the property s adjusted basis 60,000 2,090,000 AMTI $4,690,000 Less: Exemption (AMTI exceeds $310,000) ( 0 ) Alternative minimum tax base AMT tax rate $4,690, Tentative AMT (no foreign tax credit) $ 938,000

27 Alternative Minimum Tax c. Tentative AMT $ 938,000 Less: Regular income tax liability (884,000) AMT $ 54,000 pp to CUMULATIVE PROBLEMS 64. Robert and Jane have taxable income for 2005 as follows: Salary for Robert (Indiana Foundry, Inc.) Salary for Jane (Carmel Computer Associates) $ 91, ,000 Interest income (Carmel National Bank) (Note 1) 3,100 Dividend income (Able Computer Corporation) 4,000 Gambling income (Note 3) 4,200 Award income (Note 4) Capital gain (Note 5) 6,000 8,000 Adjusted gross income $220,300 Deductions from AGI Itemized deductions: Medical expenses [$16,800 (7.5% $220,300 AGI)] State income tax ($3,970 + $4,710)(Note 2) $ 277 8,680 Real property tax on personal residence 4,900 Mortgage interest on personal residence 6,400 Investment interest expense 2,300 Contributions ($6,500 + $2,500) 9,000 Gambling losses (Note 3) 4,200 Subtotal Minus: reduction under 3% cutback adjustment (Note 6) $35,757 (2,230) Total itemized deductions Exemptions (Note 7) (33,527) (12,544) Taxable income $174,229 Alternative minimum tax for Robert and Jane is computed as shown below. Taxable income plus exemptions ($174,229 + $12,544) $186,773 Reduction caused by 3% cutback adjustment for itemized deductions (Note 6) (2,230) Subtotal $184,543 Adjustments: Medical expenses [$277 for regular income tax $0 for AMT (Note 8)] $ 277 Taxes ($8,680 state income tax + $4,900 real property tax) 13,580 Total adjustment for itemized deductions 13,857 Preference: Interest on private activity bonds 20,500 Alternative minimum taxable income (AMTI) Less: Exemption (Note 9) $218,900 (40,775) Alternative minimum tax base $178,125

28 Individual Volume/Solutions Manual Less: Amount eligible for alternative tax on net capital gain (Note 10) $ (12,000) AMT base subject to ordinary tax rates $166,125 Tentative AMT liability on $166,125 (Note 15) $ 43,192 Tentative AMT liability on $12,000 (Note 16) 1,800 Tentative AMT Less: Regular income tax liability (Note 11) $ 44,992 (36,955) AMT $ 8,037 Note 1 excludible interest income The Carmel Sanitation District Bonds interest income of $20,500 is excluded from gross income. Note 2 state income tax versus sales tax The state income tax of $8,680 clearly exceeds any sales tax table amount. Note 3 gambling income and losses Since their gambling losses of $4,800 exceed the gambling income of $4,200, the excess loss of $600 is disallowed. The $4,200 of gambling income is included in gross income and the allowed $4,200 of gambling losses are classified as an itemized deduction. Note 4 award received The $6,000 that Jane received for the Citizen of the Year is included in her gross income. Note 5 sale of land Robert s adjusted basis for the land he purchased is $77,000. So his recognized gain on the sale of the land is $8,000 ($85,000 amount realized $77,000 adjusted basis). Robert s holding period is long term. The gain is classified as long-term capital gain and is eligible for the alternative tax rate. Note 6 reduction for 3% cutback adjustment for itemized deductions This computation determines the reduction in itemized deductions from application of the 3% cutback adjustment. The computation follows the format provided by the IRS in the instructions for Schedule A. Medical expenses [$16,800 (7.5% $220,300 AGI)] State income tax $ 277 8,680 Real property tax on personal residence 4,900 Mortgage interest on personal residence 6,400 Investment interest expense 2,300 Contributions Gambling losses 9,000 4,200 Total itemized deductions $35,757

29 Alternative Minimum Tax Medical expenses [$16,800 (7.5% $220,300 AGI)] $ 277 Investment interest expense Gambling losses 2,300 4,200 Total of itemized deductions not subject to reduction (6,777) Itemized deductions subject to reduction $28,980 80% of $28,980 = maximum cutback adjustment $23,184 AGI Less: Threshold for married, joint return $ 220,300 (145,950) Excess AGI $ 74,350 3% of $74,350 excess AGI $ 2,230 Reduction (smaller of $23,184 or $2,230) $ 2,230 Note 7 dependency deductions and phaseout Robert and Jane qualify for four personal and dependency exemptions. The two dependency deductions are for the twins, Ellen and Sean. They do not qualify for a dependency deduction for Robert s daughter, Amy, even though Robert provides over 50% of her support. Margaret, Robert s former wife, is the custodial parent, and she does not furnish Robert with a signed Form $3,200 4 = $12,800 However, because Robert and Jane s AGI exceeds the threshold amount, the personal and dependency exemptions are subject to the phaseout provision. AGI $ 220,300 Less: Threshold amount (218,950) Excess Divided by $2,500 = $ 1, Round to 2% = Phaseout percentage 1% 2% Amount of phaseout ($12,800 2%) $ 256 Personal and dependency exemptions Less: Phaseout $ 12,800 (256) Deductible personal and dependency exemptions $ 12,544 Note 8 AMT medical deduction $220,300 10% = $22,030 $16,800 $22,030 = $0 medical deduction for AMT. Note 9 alternative minimum tax exemption The AMT exemption phase-out for a married couple filing jointly applies if alternative minimum taxable income (AMTI) exceeds $150,000. The Armstrong s have AMTI of $218,900, so the $58,000 exemption is reduced as follows:

30 Individual Volume/Solutions Manual Note 10 AMTI $218,900 Less: Threshold (150,000) Excess 25% $ 68,900 25% Amount of phaseout $ 17,225 Exemption amount Less: Amount of phaseout $ 58,000 (17,225) Deductible exemption amount $ 40,775 Amounts eligible for the beneficial 15% rate include the following: Net capital gain from stock sale $ 8,000 Dividend income 4,000 $12,000 Note 11 regular income tax liability Taxable income $174,229 Tax on $119,950 $ 23,317 28% ($174,229 $119,950) 15,198 $ 38,515 However, since the $8,000 long-term capital gain on the sale of the land and the dividend income of $4,000 are eligible for the beneficial rates for the alternative tax on net capital gain, Robert and Jane s regular income tax liability is $36,955 rather than the $38,515 calculated above. Tax on $162,229 ($174,229 $12,000): Tax on $119,950 $23,317 28% ($162,229 $119,950) 11,838 $35,155 Plus: Tax on $12,000 at beneficial rate: $12,000 15% 1,800 Regular income tax liability $36,955 Note 12 holding period for the land Robert s holding period begins on May 15, Note 13 Jane s inheritance The $600,000 that Jane inherited from her grandfather is excluded from Jane s gross income. Note 14 gift from Uncle Raymond The $5,000 gift received from Uncle Raymond by Robert is excluded from Robert s gross income.

31 Alternative Minimum Tax Note 15 tentative AMT liability on AMT base subject to ordinary tax rates $166,125 26% = $43,192 Note 16 tentative AMT liability on AMT base eligible for alternative tax on net capital gain The $12,000 amount that qualifies for the alternative tax treatment for regular income tax purposes also qualifies for alternative tax treatment for AMT purposes. $12,000 15% = $1,800 Note 17 child tax credit The twins, Ellen and Sean, satisfy the statutory requirements for the child tax credit. However, Robert and Jane s AGI of $220,300 results in a full phaseout of the credit (i.e., the phaseout commences at an AGI of $110,000). See the tax return solution beginning on page of the Solutions Manual. 64. Hoffman, Smith, and Willis, CPAs 5191 Natorp Boulevard Mason, OH April 3, 2006 Mr. and Mrs. Robert Armstrong 1802 College Avenue Carmel, IN Dear Bob and Jane: Your 2005 income tax return is enclosed and indicates that you have a refund of $3,758 ($44,992 tax liability $48,750 withholdings). Because the Carmel Sanitation District bonds are private activity bonds subject to the alternative minimum tax, $8,037 of the total tax owed is due to the alternative minimum tax. In order to avoid this tax in the future, you might consider changing the investment to tax-free bonds which are not private activity bonds and, therefore, not subject to the alternative minimum tax. If you have any questions, please call me. Sincerely, John Jones, CPA Partner 65. Regular income tax computation: Free housing (Note 1) $ 0 Grocery allowance (Note 2) 10,400 Short-term capital gain 44,000 Interest income (Note 3) 12,000 Lottery winnings 9,000 Incentive stock option exercise (Note 4) 0 Life insurance proceeds (Note 5) 0 AGI before rental loss and alimony $75,400

32 Individual Volume/Solutions Manual Real estate rental loss (Note 6) $(25,000) Alimony Traditional IRA contribution (Note 7) (18,000) (3,000) Adjusted gross income $ 29,400 Itemized deductions: Charitable contribution (Note 8) Consumer interest (Note 9) $ 2,600 0 State and local income taxes 3,600 Medical expenses [$4,500 (7.5% $29,400 AGI)](Note 10) 2,295 Gambling losses (Note 11) 8,000 Miscellaneous itemized deductions (Note 12) 0 (16,495) Personal exemption (Note 13) (3,300) Taxable income $ 9,605 Income tax on $9,605 (Note 14) $ 1,063 AMT computation: Taxable income $ 9,605 Adjustments and preferences: Incentive stock option adjustment $48,000 State and local income taxes 3,600 Medical expenses (Note 15) 735 Personal exemption 3,200 Interest on private activity bonds 49,000 Total adjustments and preferences 104,535 Alternative minimum taxable income Less: AMT exemption [$40,250 25%($114,140 $112,500)] $114,140 (39,840) AMT base AMT rate $ 74, Tentative AMT Less: Regular income tax $ 19,318 (1,063) AMT $ 18, Tax Liability Regular income tax liability $ 1,063 Alternative minimum tax 18,255 Total tax liability $ 19,318 Note 1 Because Ron is a minister of the gospel, he can exclude the fair rental value of the parsonage of $2,000 per month. Note 2 The grocery allowance of $200 per week does not qualify for the 119 meal exclusion. Note 3 The $49,000 of interest on private activity bonds is excludible from gross income.

33 Alternative Minimum Tax Note 4 The spread on the ISO of $48,000 ($68,000 $20,000) is not recognized in Note 5 The life insurance proceeds of $750,000 are excludible from Ron s gross income. Note 6 Loss on rental property: Because Ron is an active participant, he may deduct part of the $55,000 loss ($190,000 $245,000) under the rental real estate exception. Because his AGI is less than $100,000, the loss allowed under the rental real estate exception is $25,000. The balance of the loss of $30,000 is suspended. p Note 7 The $3,000 contribution to the traditional IRA is a deduction for AGI. If Ron had chosen, he could have contributed an additional $1,000. Note 8 Because the holding period of the stock is long-term and the stock is an intangible asset, the full fair market value of $1,600 qualifies for the charitable contribution deduction. The $1,000 he gave to the church from the lottery also qualifies. Note 9 The $3,500 of consumer interest cannot be deducted. Note 10 The $8,500 of medical expenses paid by Ron for the hospital expenses of Kate s deceased husband are not deductible by Ron because he was not Ron s dependent. Note 11 Gambling losses can be deducted only to the extent of gambling income. Thus, all of the $8,000 of gambling losses from the lottery can be deducted since the gambling winnings are $9,000. Note 12 Miscellaneous itemized deductions are deductible only to the extent they exceed 2% of AGI ($29,400 2% = $588). The $200 for the safe deposit box rental is classified as a miscellaneous itemized deduction. Since the $200 is less than the $588, none of it can be deducted. Note 13 Ron receives a personal exemption for himself. He is not eligible for a dependency deduction for Kate s baby.

34 Individual Volume/Solutions Manual Note 14 Tax on $7,550 $ % ($9,605 $7,550) 308 $ 1,063 Note 15 Regular income tax medical deduction $ 2,295 AMT medical deduction (1,560)* Medical deduction positive adjustment $ 735 *$4,500 (10% $29,400) = $1,560 medical deduction. The answers to the Research Problems are incorporated into the 2007 Individual Volume of the Instructor s Guide with Lecture Notes to Accompany WEST FEDERAL TAXATION: INDIVIDUAL INCOME TAXES.

35 Alternative Minimum Tax Filing Status 1 Single 4 Head of household (with qualifying person). (See 2 X Married filing jointly (even if only one had income) instructions.) If the qualifying person is a child but not your dependent, enter this child s Check only 3 Married filing separately. Enter spouse s SSN above & full name here one box. name here 5 Qualifying widow(er) with dependent child (see instructions) Exemptions 6a X Boxes checked Yourself. If someone can claim you as a dependent, do not check box 6a on 6a and 6b b X Spouse c Dependents: (2) Dependent s social security number (3) Dependent s relationship to you If more than four dependents, see instructions. Department of the Treasury Internal Revenue Service Form 1040 U.S. Individual Income Tax Return 2005 (99) IRS Use Only Do not write or staple in this space. Label (See instructions.) Use the IRS label. Otherwise, please print or type. Presidential Election Campaign Adjusted Gross For the year Jan 1 - Dec 31, 2005, or other tax year beginning, 2005, ending, 20 OMB No Your first name MI Last name Your social security number ROBERT M ARMSTRONG If a joint return, spouse s first name MI Last name Spouse s social security number JANE R ARMSTRONG Home address (number and street). If you have a P.O. box, see instructions. Apartment no. You must enter your social security 1802 COLLEGE AVENUE number(s) above. City, town or post office. If you have a foreign address, see instructions. State ZIP code CARMEL IN Checking a box below will not change your tax or refund. Check here if you, or your spouse if filing jointly, want $3 to go to this fund? (see instructions) You Spouse (1) First name Last name ELLEN J ARMSTRONG SEAN M ARMSTRONG (4) if qualifying child for child tax credit (see instrs) d Total number of exemptions claimed Income 7 Wages, salaries, tips, etc. Attach Form(s) W a Taxable interest. Attach Schedule B if required 8a b Tax-exempt interest. Do not include on line 8a 8b 20,500. Attach Form(s) 9aOrdinary dividends. Attach Schedule B if required 9a W-2 here. Also b Qualfd divs (see instrs) 9b 4,000. attach Forms 10 Taxable refunds, credits, or offsets of state and local income taxes (see instructions) 10 W-2G and 1099-R if tax was withheld. 11 Alimony received Business income or (loss). Attach Schedule C or C-EZ 12 If you did not get a W-2, 13 Capital gain or (loss). Att Sch D if reqd. If not reqd, ck here 13 see instructions. 14 Other gains or (losses). Attach Form a IRA distributions 15a b Taxable amount (see instrs) 15b 16a Pensions and annuities 16a b Taxable amount (see instrs) 16b 17 Rental real estate, royalties, partnerships, S corporations, trusts, etc. Attach Schedule E Add the amounts in the far right column for lines 7 through 21. This is your total income Educator expenses (see instructions) Certain business expenses of reservists, performing artists, and fee-basis government officials. Attach Form 2106 or 2106-EZ 24 Income 25 Health savings account deduction. Attach Form Moving expenses. Attach Form One-half of self-employment tax. Attach Schedule SE Self-employed SEP, SIMPLE, and qualified plans 28 Daughter Son No. of children on 6c who: lived with you did not live with you due to divorce or separation (see instrs) Dependents on 6c not entered above Add numbers on lines above Enclose, but do 18 Farm income or (loss). Attach Schedule F 18 not attach, any 19 Unemployment compensation 19 payment. Also, please use 20a Social security benefits 20a b Taxable amount (see instrs) 20b Form 1040-V. 21 Other income Gambling winnings-4,200; Award-6, , Self-employed health insurance deduction (see instructions) Penalty on early withdrawal of savings a Alimony paid b Recipient s SSN 31 a 32 IRA deduction (see instructions) Student loan interest deduction (see instructions) Tuition and fees deduction (see instructions) Domestic production activities deduction. Attach Form Add lines 23-31a and Subtract line 36 from line 22. This is your adjusted gross income ,300. BAA For Disclosure, Privacy Act, and Paperwork Reduction Act Notice, see instructions. FDIA /07/05 Form 1040 (2005) X X ,000. 3,100. 4,000. 8, ,300.

36 Individual Volume/Solutions Manual 64. continued Form 1040 (2005) ROBERT M & JANE R ARMSTRONG Page 2 38 Amount from line 37 (adjusted gross income) 38 Tax and 220,300. Credits 39a Check You were born before January 2, 1941, Blind. Total boxes if: Spouse was born before January 2, 1941, Blind. checked 39a Standard b If your spouse itemizes on a separate return, or you were a dual-status Deduction alien, see instructions and check here 39 b for People who 40 Itemized deductions (from Schedule A) or your standard deduction (see left margin) 40 33,526. checked any box 41 Subtract line 40 from line ,774. on line 39a or 39b or who can 42 If line 38 is over $109,475, or you provided housing to a person displaced by Hurricane Katrina, see be claimed as a 12,544. dependent, see instructions. All others: Single or Married filing separately, $5,000 Married filing jointly or Qualifying widow(er), $10,000 Head of household, $7,300 instructions. Otherwise, multiply $3,200 by the total number of exemptions claimed on line 6d Taxable income. Subtract line 42 from line 41. If line 42 is more than line 41, enter Tax (see instrs). Check if any tax is from: a Form(s) 8814 b Form Alternative minimum tax (see instructions). Attach Form Add lines 44 and ,993. Payments 64 Federal income tax withheld from Forms W-2 and , estimated tax payments and amount applied from 2004 return 65 If you have a qualifying 66a Earned income credit (EIC) 66a child, attach b Nontaxable combat pay election 66 b Schedule EIC. 67 Excess social security and tier 1 RRTA tax withheld (see instructions) Additional child tax credit. Attach Form Amount paid with request for extension to file (see instructions) Payments from: a Form 2439 b Form 4136 c Form Add lines 64, 65, 66a, and 67 through 70. These are your total payments 71 48,750. Refund 72 If line 71 is more than line 63, subtract line 63 from line 71. This is the amount you overpaid 72 3,757. Direct deposit? 73 a Amount of line 72 you want refunded to you 73 a 3,757. See instructions b Routing number XXXXXXXXX c Type: Checking Savings and fill in 73b, 73c, and 73d. d Account number XXXXXXXXXXXXXXXXX 74 Amount of line 72 you want applied to your 2006 estimated tax 74 Amount 75 Amount you owe. Subtract line 71 from line 63. For details on how to pay, see instructions 75 You Owe 76 Estimated tax penalty (see instructions) 76 Third Party Do you want to allow another person to discuss this return with the IRS (see instructions)? Yes. Complete the following. X No Designee s Phone Personal identification Designee name no. number (PIN) Under penalties of perjury, I declare that I have examined this return and accompanying schedules and statements, and to the best of my knowledge and Sign belief, they are true, correct, and complete. Declaration of preparer (other than taxpayer) is based on all information of which preparer has any knowledge. Here Your signature Date Your occupation Daytime phone number Joint return? See instructions. Keep a copy for your records. Paid Preparer s Use Only 47 Foreign tax credit. Attach Form 1116 if required Credit for child and dependent care expenses. Attach Form Credit for the elderly or the disabled. Attach Schedule R Education credits. Attach Form Retirement savings contributions credit. Attach Form Child tax credit (see instructions). Attach Form 8901 if required Adoption credit. Attach Form Credits from: a Form 8396 b Form Other credits. Check applicable box(es): a Form 3800 b Form c Form Add lines 47 through 55. These are your total credits Subtract line 56 from line 46. If line 56 is more than line 46, enter Self-employment tax. Attach Schedule SE Social security and Medicare tax on tip income not reported to employer. Attach Form Other Taxes 60 Additional tax on IRAs, other qualified retirement plans, etc. Attach Form 5329 if required Advance earned income credit payments from Form(s) W Household employment taxes. Attach Schedule H Add lines This is your total tax 63 Spouse s signature. If a joint return, both must sign. Date Spouse s occupation Preparer s signature Firm s name (or yours if self-employed), address, and ZIP code Self-Prepared Date FDIA /07/05 FACTORY FOREMAN SYSTEMS ANALYST Check if self-employed EIN Phone no. Preparer s SSN or PTIN 174, ,956. 8, , ,993. Form 1040 (2005)

37 Alternative Minimum Tax continued SCHEDULE A Itemized Deductions OMB No (Form 1040) Department of the Treasury Internal Revenue Service (99) Name(s) shown on Form 1040 Attach to Form See Instructions for Schedule A (Form 1040). Interest 10 Home mtg interest and points reported to you on Form You Paid 11 Home mortgage interest not reported to you on Form If paid to the person from whom you bought the home, see instructions and show that person s name, identifying number, and address (See instructions.) 2005 Attachment Sequence No. 07 Your social security number ROBERT M & JANE R ARMSTRONG Medical Caution. Do not include expenses reimbursed or paid by others. and 1 Medical and dental expenses (see instructions) 1 16,800. Dental Expenses 2 Enter amount from Form 1040, line , Multiply line 2 by 7.5% (.075) 3 16, Subtract line 3 from line 1. If line 3 is more than line 1, enter State and local (check only one box): a X Income taxes, or 5 8,680. Taxes You b General sales taxes (see instructions) Paid 6 Real estate taxes (see instructions) 6 4,900. (See 7 Personal property taxes 7 instructions.) 8 Other taxes. List type and amount 8 9 Add lines 5 through 8 9 6, ,580. Note. 11 Personal 12 Points not reported to you on Form See instrs for spcl rules 12 interest is not 13 Investment interest. Attach Form 4952 if required. deductible. (See instrs.) 13 2, Add lines 10 through Gifts to Charity If you made a gift and got a benefit for it, see instructions. Casualty and Theft Losses 19 Casualty or theft loss(es). Attach Form (See instructions.) 19 Job Expenses and Certain Miscellaneous Deductions 15 a Total gifts by cash or check. If you made any gift of $250 or more, see instrs 15 a 2,500. b Gifts by cash or check after August 27, 2005, that you elect to treat as qualified contributions (see instructions) 15 b 16 Other than by cash or check. If any gift of $250 or more, see instructions. You must attach Form 8283 if over $ , Carryover from prior year Add lines 15a, 16, & Unreimbursed employee expenses job travel, union dues, job education, etc. Attach Form 2106 or 2106-EZ if required. (See instructions.) 8,700. 9,000. (See instructions.) Other Miscellaneous Deductions Total Itemized Deductions Tax preparation fees Other expenses investment, safe deposit box, etc. List type and amount Add lines 20 through Enter amount from Form 1040, line Multiply line 24 by 2% (.02) Subtract line 25 from line 23. If line 25 is more than line 23, enter Other from list in the instructions. List type and amount See stmt/gambling loss, , Is Form 1040, line 38, over $145,950 (over $72,975 if MFS)? No. Your deduction is not limited. Add the amounts in the far right column for lines 4 through 27. Also, enter this amount on Form 1040, line X Yes. Your deduction may be limited. See instructions for the amount to enter. 29 If you elect to itemize deductions even though they are less than your standard deduction, check here Itemized Deductions Limited per IRC Sec , ,526. BAA For Paperwork Reduction Act Notice, see Form 1040 instructions. FDIA /18/05 Schedule A (Form 1040) 2005

38 Individual Volume/Solutions Manual 64. continued Schedule B (Form 1040) 2005 OMB No Page 2 Name(s) shown on Form Part I Interest (See instructions for Form 1040, line 8a.) Schedule B Interest and Ordinary Dividends 1 List name of payer. If any interest is from a seller-financed mortgage and the buyer used the property as a personal residence, see the instructions and list this interest first. Also, show that buyer s social security number and address CARMEL SANITATION DISTRICT BONDS CARMEL NATIONAL BANK Your social security number ROBERT M & JANE R ARMSTRONG Attachment Sequence No. 08 Amount 20, , Note. If you received a Form 1099-INT, Form 1099-OID, or substitute statement from a brokerage firm, list the firm s name as the payer and enter the total interest shown on that form. 1 Part II Ordinary Dividends Subtotal 23, Tax-Exempt Interest -20, Add the amounts on line 1 2 3, Excludable interest on series EE and I U.S. savings bonds issued after Attach Form Subtract line 3 from line 2. Enter the result here and on Form 1040, line 8a 4 3, Note. If line 4 is over $1,500, you must complete Part III. Amount 5 List name of payer ABLE COMPUTER CORPORATION 4, (See instructions for Form 1040, line 9a.) Note. If you received a Form 1099-DIV or substitute statement from a brokerage firm, list the firm s name as the payer and enter the ordinary dividends shown on that form. 5 Part III Foreign Accounts and Trusts (See instructions.) 6 Add the amounts on line 5. Enter the total here and on Form 1040, line 9a 6 4, Note. If line 6 is over $1,500, you must complete Part III. You must complete this part if you (a) had over $1,500 of taxable interest or ordinary dividends; or (b) had a foreign account; or (c) received a distribution from, or were a grantor of, or a transferor to, a foreign trust. Yes No 7a At any time during 2005, did you have an interest in or a signature or other authority over a financial account in a foreign country, such as a bank account, securities account, or other financial account? See instructions for exceptions and filing requirements for Form TD F b If Yes, enter the name of the foreign country 8 During 2005, did you receive a distribution from, or were you the grantor of, or transferor to, a foreign trust? If Yes, you may have to file Form See instructions X BAA For Paperwork Reduction Act Notice, see Form 1040 instructions. FDIA /29/05 Schedule B (Form 1040) 2005 X

39 Alternative Minimum Tax continued SCHEDULE D OMB No (Form 1040) Capital Gains and Losses Attach to Form See Instructions for Schedule D (Form 1040) Department of the Treasury Attachment Internal Revenue Service (99) Use Schedule D-1 to list additional transactions for lines 1 and 8. Name(s) shown on Form 1040 Part I Short-Term Capital Gains and Losses Assets Held One Year or Less Sequence No. 12 Your social security number ROBERT M & JANE R ARMSTRONG (a) Description of property (Example: 100 shares XYZ Co) (b) Date acquired (Mo, day, yr) (c) Date sold (Mo, day, yr) (d) Sales price (see instructions) (e) Cost or other basis (see instructions) (f) Gain or (loss) Subtract (e) from (d) 1 2 Enter your short-term totals, if any, from Schedule D-1, line Total short-term sales price amounts. Add lines 1 and 2 in column (d) 3 4 Short-term gain from Form 6252 and short-term gain or (loss) from Forms 4684, 6781, and Net short-term gain or (loss) from partnerships, S corporations, estates, and trusts from Schedule(s) K Short-term capital loss carryover. Enter the amount, if any, from line 8 of your Capital Loss Carryover Worksheet in the instructions 6 7 Net short-term capital gain or (loss). Combine lines 1 through 6 in column (f) 7 Part II Long-Term Capital Gains and Losses Assets Held More Than One Year 8 (a) Description of property (Example: 100 shares XYZ Co) 5 Acres Land (b) Date acquired (Mo, day, yr) (c) Date sold (Mo, day, yr) (d) Sales price (see instructions) (e) Cost or other basis (see instructions) (f) Gain or (loss) Subtract (e) from (d) 05/15/01 10/12/05 85, , , Enter your long-term totals, if any, from Schedule D-1, line Total long-term sales price amounts. Add lines 8 and 9 in column (d) 10 85, Gain from Form 4797, Part I; long-term gain from Forms 2439 and 6252; and long-term gain or (loss) from Forms 4684, 6781, and Net long-term gain or (loss) from partnerships, S corporations, estates, and trusts from Schedule(s) K Capital gain distributions. See instrs Long-term capital loss carryover. Enter the amount, if any, from line 13 of your Capital Loss Carryover Worksheet in the instructions Net long-term capital gain or (loss). Combine lines 8 through 14 in column (f). Then go to Part III on page ,000. BAA For Paperwork Reduction Act Notice, see Form 1040 instructions. Schedule D (Form 1040) 2005 FDIA /18/05

40 Individual Volume/Solutions Manual 64. continued Schedule D (Form 1040) 2005 ROBERT M & JANE R ARMSTRONG Page 2 Part III Summary 16 Combine lines 7 and 15 and enter the result. If line 16 is a loss, skip lines 17 through 20, and go to line 21. If a gain, enter the gain on Form 1040, line 13, and then go to line 17 below 16 8, Are lines 15 and 16 both gains? X Yes. Go to line 18. No. Skip lines 18 through 21, and go to line Enter the amount, if any, from line 7 of the 28% Rate Gain Worksheet in the instructions Enter the amount, if any, from line 18 of the Unrecaptured Section 1250 Gain Worksheet in the instructions Are lines 18 and 19 both zero or blank? X Yes. Complete Form 1040 through line 43, and then complete the Qualified Dividends and Capital Gain Tax Worksheet in the Instructions for Form Do not complete lines 21 and 22 below. No. Complete Form 1040 through line 43, and then complete the Schedule D Tax Worksheet in the instructions. Do not complete lines 21 and 22 below. 21 If line 16 is a loss, enter here and on Form 1040, line 13, the smaller of: The loss on line 16 or 21 ($3,000), or if married filing separately, ($1,500) Note. When figuring which amount is smaller, treat both amounts as positive numbers. 22 Do you have qualified dividends on Form 1040, line 9b? Yes. Complete Form 1040 through line 43, and then complete the Qualified Dividends and Capital Gain Tax Worksheet in the Instructions for Form No. Complete the rest of Form Schedule D (Form 1040) 2005 FDIA /18/05

41 Alternative Minimum Tax continued Form6251 Department of the Treasury Internal Revenue Service (99) Name(s) shown on Form 1040 Alternative Minimum Tax Individuals ROBERT M & JANE R ARMSTRONG Part I Alternative Minimum Taxable Income (See instructions for how to complete each line.) 1 If filing Schedule A (Form 1040), enter the amount from Form 1040, line 41 (minus any amount on Form 8914, line 2), and go to line 2. Otherwise, enter the amount from Form 1040, line 38 (minus any amount on Form 8914, line 2), and go to line 7. (If less than zero, enter as a negative amount.) 1 2 Medical and dental. Enter the smaller of Schedule A (Form 1040), line 4 or 2-1/2% of Form 1040, line Taxes from Schedule A (Form 1040), line Enter the home mortgage interest adjustment, if any, from line 6 of the worksheet in the instructions 4 5 Miscellaneous deductions from Schedule A (Form 1040), line If Form 1040, line 38, is over $145,950 (over $72,975 if married filing separately), enter the amount from line 9 of the Itemized Deductions Worksheet in the Instructions for Schedules A and B (Form 1040) 6 7 Tax refund from Form 1040, line 10 or line Investment interest expense (difference between regular tax and AMT) 8 9 Depletion (difference between regular tax and AMT) 9 10 Net operating loss deduction from Form 1040, line 21. Enter as a positive amount Interest from specified private activity bonds exempt from the regular tax Qualified small business stock (7% of gain excluded under section 1202) Exercise of incentive stock options (excess of AMT income over regular tax income) Estates and trusts (amount from Schedule K-1 (Form 1041), box 12, Code A) Electing large partnerships (amount from Schedule K-1 (Form 1065-B), box 6) Disposition of property (difference between AMT and regular tax gain or loss) Depreciation on assets placed in service after 1986 (difference between regular tax and AMT) Passive activities (difference between AMT and regular tax income or loss) Loss limitations (difference between AMT and regular tax income or loss) Circulation costs (difference between regular tax and AMT) 20 Part II Alternative Minimum Tax 29 Exemption. (If this form is for a child under age 14, see instructions.) IF your filing status is... AND line 28 is not over... THEN enter on line Single or head of household $112,500 $40,250 Married filing jointly or qualifying widow(er) 150,000 58, Married filing separately 75,000 29,000 If line 28 is over the amount shown above for your filing status, see instructions. 30 Subtract line 29 from line 28. If zero or less, enter -0- here and on lines 33 and 35 and stop here If you reported capital gain distributions directly on Form 1040, line 13; you reported qualified dividends on Form 1040, line 9b; or you had a gain on both lines 15 and 16 of Schedule D (Form 1040) (as refigured for the AMT, if necessary), complete Part III on page 2 and enter the amount from line 55 here. 31 All others: If line 30 is $175,000 or less ($87,500 or less if married filing separately), multiply line 30 by 26% (.26). Otherwise, multiply line 30 by 28% (.28) and subtract $3,500 ($1,750 if married filing separately) from the result. 32 Alternative minimum tax foreign tax credit (see instructions) Tentative minimum tax. Subtract line 32 from line OMB No (Rev January 2006) See separate instructions Attach to Form 1040 or Form 1040NR. 21 Long-term contracts (difference between AMT and regular tax income) Mining costs (difference between regular tax and AMT) Research and experimental costs (difference between regular tax and AMT) Income from certain installment sales before January 1, Intangible drilling costs preference Other adjustments, including income-based related adjustments Alternative tax net operating loss deduction Alternative minimum taxable income. Combine lines 1 through 27. (If married filing separately and line 28 is more than $191,000, see instructions.) 28 Attachment Sequence No. 32 Your social security number 186, , , Tax from Form 1040, line 44 (minus any tax from Form 4972 and any foreign tax credit from Form 1040, line 47). If you used Schedule J to figure your tax, the amount for line 44 of Form 1040 must be refigured without using Schedule J (see instructions) 34 36, Alternative minimum tax. Subtract line 34 from line 33. If zero or less, enter -0-. Enter here and on Form 1040, line ,037. BAA For Paperwork Reduction Act Notice, see separate instructions. FDIA /13/06 Form 6251 (2005) (Rev ) 0. 20, , , , , ,993.

42 Individual Volume/Solutions Manual 64. continued Form 6251 (2005) (Rev ) ROBERT M & JANE R ARMSTRONG Page 2 Part III Tax Computation Using Maximum Capital Gains Rates 36 Enter the amount from Form 6251, line , Enter the amount from line 6 of the Qualified Dividends and Capital Gain Tax Worksheet in the instructions for Form 1040, line 44, or the amount from line 13 of the Schedule D Tax Worksheet in the instructions for Schedule D (Form 1040), whichever applies (as refigured for the AMT, if necessary) (see instructions) 37 12, Enter the amount from Schedule D (Form 1040), line 19 (as refigured for the AMT, if necessary) (see instructions) If you did not complete a Schedule D Tax Worksheet for the regular tax or the AMT, enter the amount from line 37. Otherwise, add lines 37 and 38, and enter the smaller of that result or the amount from line 10 of the Schedule D Tax Worksheet (as refigured for the AMT, if necessary) 39 12, Enter the smaller of line 36 or line Subtract line 40 from line If line 41 is $175,000 or less ($87,500 or less if married filing separately), multiply line 41 by 26% (.26). Otherwise, multiply line 41 by 28% (.28) and subtract $3,500 ($1,750 if married filing separately) from the result 42 12, , , Enter: $59,400 if married filing jointly or qualifying widow(er), $29,700 if single or married filing separately, or 43 $39,800 if head of household. 59, Enter the amount from line 7 of the Qualified Dividends and Capital Gain Tax Worksheet in the instructions for Form 1040, line 44, or the amount from line 14 of the Schedule D Tax Worksheet in the instructions for Schedule D (Form 1040), whichever applies (as figured for the regular tax). If you did not complete either worksheet for the regular tax, enter Subtract line 44 from line 43. If zero or less, enter Enter the smaller of line 36 or line Enter the smaller of line 45 or line , , Multiply line 47 by 5% (.05) Subtract line 47 from line , Multiply line 49 by 15% (.15) 50 If line 38 is zero or blank, skip lines 51 and 52 and go to line 53. Otherwise, go to line 51. 1, Subtract line 46 from line Multiply line 51 by 25% (.25) Add lines 42, 48, 50, and If line 36 is $175,000 or less ($87,500 or less if married filing separately), multiply line 36 by 26% (.26). Otherwise, multiply line 36 by 28% (.28) and subtract $3,500 ($1,750 if married filing separately) from the result 54 44, , Enter the smaller of line 53 or line 54 here and on line ,993. Form 6251 (2005) (Rev ) FDIA /13/06

43 Alternative Minimum Tax continued Form 8283 (Rev December 2005) Department of the Treasury Internal Revenue Service Name(s) shown on your income tax return Noncash Charitable Contributions Attach to your tax return if you claimed a total deduction of over $500 for all contributed property. See separate instructions. OMB No Attachment Sequence No. 155 Identifying number ROBERT M & JANE R ARMSTRONG Note: Figure the amount of your contribution deduction before completing this form. See your tax return instructions. Section A. Donated Property of $5,000 or Less and Certain Publicly Traded Securities List in this section only items (or groups of similar items) for which you claimed a deduction of $5,000 or less. Also, list certain publicly traded securities even if the deduction is more than $5,000 (see instructions). Part I Information on Donated Property If you need more space, attach a statement. 1 (a) Name and address of the donee organization (b) Description of donated property (For a donated vehicle, enter the year, make, model, condition, and mileage) SALVATION ARMY ACE stock A Carmel, IN B C D E Note: If the amount you claimed as a deduction for an item is $500 or less, you do not have to complete columns (d), (e), and (f). (c) Date of the (d) Date (e) How acquired (f) Donor s cost or (g) Fair market (h) Method used to determine the fair contribution acquired by by donor adjusted basis value market value donor (mo., yr) (see instructions) A B C D E 03/01/ /1994 Purchase 5,200. 6,500. Average stock price Part II Partial Interests and Restricted Use Property Complete lines 2a through 2e if you gave less than an entire interest in a property listed in Part I. Complete lines 3a through 3c if conditions were placed on a contribution listed in Part I; also attach the required statement (see instructions). 2a Enter the letter from Part I that identifies the property for which you gave less than an entire interest. If Part II applies to more than one property, attach a separate statement. b Total amount claimed as a deduction for the property listed in Part I: (1) For this tax year. (2) For any prior tax years. c Name and address of each organization to which any such contribution was made in a prior year (complete only if different from the donee organization above): Name of charitable organization (donee) Address (number, street, and room or suite no.) City or town State ZIP code d For tangible property, enter the place where the property is located or kept e Name of any person, other than donee organization, having actual possession of the property Yes No 3a Is there a restriction, either temporary or permanent, on the donee s right to use or dispose of the donated property? b Did you give to anyone (other than the donee organization or another organization participating with the donee organization in cooperative fundraising) the right to the income from the donated property or to the possession of the property, including the right to vote donated securities, to acquire the property by purchase or otherwise, or to designate the person having such income, possession, or right to acquire? c Is there a restriction limiting the donated property for a particular use? BAA For Paperwork Reduction Act Notice, see separate instructions. FDIZ /22/05 Form 8283 (Rev )

44 Individual Volume/Solutions Manual 64. continued Form 1040 Qualified Dividends and Capital Gain Tax 2005 Line 44 Worksheet - Line 44 Keep for your records Name(s) Shown on Return Social Security Number ROBERT M & JANE R ARMSTRONG Before you begin: See the instructions for line 44 to see if you can use this worksheet to figure your tax. If you do not have to file Schedule D and you received capital gain distributions, be sure you checked the box on line 13 of Form Enter the amount from Form 1040, line , Enter the amount from Form 1040, line 9b 2 4, Are you filing Schedule D? X Yes. Enter the smaller of line 15 or 16 of Schedule D, but do not enter less ,000. No. Enter the amount from Form 1040, line Add lines 2 and , If you are claiming investment interest expense on Form 4952, enter the amount from line 4g. Otherwise enter Subtract line 5 from line 4. If zero or less, enter , Subtract line 6 from line 1. If zero or less, enter , Enter the smaller of: The amount on line 1 or $29,700 if single or married filing sep, $59,400 if married filing jointly or 8 59,400. qualifying widow(er), or $39,800 if head of household. 9 Is the amount on line 7 equal to or more than the amount on line 8? X Yes. Skip lines 9 through 11; go to line 12. No. Enter the amount from line Subract line 9 from line Multiply line 10 by 5% (.05) Are the amounts on lines 6 and 10 the same? Yes. Skip lines 12 through 15; go to line 16 X No. Enter the smaller of line 1 or line , Enter the amt from line 10 (if line 10 is blank, enter 0) Subtract line 13 from line , Multiply line 14 by 15% (.15) Figure the tax on the amount on line 7. Use the Tax Table or Tax Computation Worksheet, whichever applies Add lines 11, 15, and Figure the tax on the amount on line 1. Use the Tax Table or Tax Computation Worksheet, whichever applies Tax on all taxable income. Enter the smaller of line 17 or line 18 here and on Form 1040, line , , , , ,956.