Here is a glossary of tax terms (a work in progress) with simplified definitions:
2% of AGI Rule: For miscellaneous itemized deductions, those deductions can only be taken if the total amount of deductions exceeds 2% of the taxpayer’s Adjusted Gross Income.
2-out-of-5 Rule: Another term for the Section 121 exclusion. (Also see Section 121 Exclusion)
401(k) Plan: A type of qualified retirement plan maintained by a business for its employees. Employees deposit money into a retirement account. Those deposits are considered pre-tax, so they reduce the taxpayer’s wages. (Also see Pre-tax, Qualified Plan)
529 Plan: A savings plan that lets a taxpayer save for their children’s college expenses. Money put into a 529 plan does NOT result in a federal tax deduction, but withdrawals (including earnings) are tax-free if used for college expenses. Many states, such as Iowa, allow for a deduction on the state tax return for money put into a 529 plan. (Also see College Savings Iowa)
1099: A reporting for issued to the IRS and to taxpayers that reports certain payments made to the taxpayer. There are more than a dozen types of 1099.
Accrual: An accounting method where income is reported when it is earned rather than when the customer pays, and expenses are recorded when they are incurred rather than when the business pays the expense. (Also see Cash-basis)
Additional Child Tax Credit: The Child Tax Credit is generally non-refundable. However, part or all of it may be fully refundable, depending on a taxpayer’s earned income for the year. This refundable portion is called the Additional Child Tax Credit. (Also see Child Tax Credit)
Affordable Care Act Surtaxes: Refers to two different surtaxes created as part of the Affordable Care Act: a 3.8% surtax on investment income for taxpayers whose income is above $200,000 (if single) or $250,000 (if married) and a 0.9% surtax on earned income for taxpayers whose earned income is above $200,000 (if single) or $250,000 (if married).
After-tax: After-tax means a deduction from an employee’s wages that does not reduce the employee’s taxable income. (Also see Pre-tax)
After-tax Basis: When a taxpayer makes non-deductible contributions to an IRA, the non-deductible contributions give the taxpayer after-tax basis in the IRA. When the taxpayer withdraws money from the IRA, the after-tax portion is not taxable. (Also see IRA)
AGI: Stands for Adjusted Gross Income. AGI is a key number on an individual’s tax return, as many calculations refer back to AGI. AGI is the number on the bottom line of page 1 of the Form 1040. The calculation of AGI can be complicated but the basic formula is: Income minus certain “front-side” deductions such as student loan interest and IRA contributions. (Also see Front-side Deductions)
American Opportunity Credit: A tax credit available for college expenses of students completing their first 4 years of college education. Part of the credit is non-refundable and part of the credit is fully refundable. (Also see Lifetime Learning Credit, Non-refundable Credits, Refundable Credits)
Amortization: A tax deduction for certain assets that are considered intangible assets (computer software, and other types of assets that you can’t physically touch). The deduction is similar in concept to depreciation. (Also see: Assets, Depreciation)
AMT: Stands for “alternative minimum tax.” AMT is an alternative tax calculation that affects higher-income individuals. The AMT calculation takes away personal exemptions and many itemized deductions in arriving at taxable income for AMT purposes.
Annual Filing Season Program: An IRS program launched in 2014 for unlicensed tax preparers. Preparers can voluntarily take an annual tax update quiz and be a part of the program. The IRS will list the preparer in a directory along with EAs, CPAs and attorneys. (Also see Enrolled Agent, RTRP)
Asset: For businesses, an asset is something the business purchases that has a useful life of one year or more (equipment, for example). For individuals, things such as houses, stocks and other such items are considered assets.
Audit (Of Financial Statements): In financial accounting, an audit refers to a CPA firm reviewing a company’s financials and internal controls, and reviewing documentation to verify the amounts shown on the financials. The firm then issues an audit report saying (hopefully) that the financials fairly present the financial position of the company and that the financials are kept in accordance with generally accepted accounting principles. (Also see Review [Of Financial Statements])
Audit Technique Guide: IRS guidance for its auditors for various industries and situations. Audit technique guides are public documents and can be found here.
Balance Sheet: A financial statement that summarizes a business’s assets, liabilities and equity. The reason it’s called a balance sheet is because assets must equal liabilities plus equities.
Basis: Refers to the taxpayer’s stake in an asset or business, usually what the taxpayer originally paid for the asset or business. Basis is used to determine capital gain or capital loss. (Also see Asset, Capital Gain/Capital Loss)
Bonus Depreciation: A special, accelerated depreciation deduction available for purchases of brand-new assets. Bonus depreciation allows immediate expensing of a certain portion of the purchase price of the asset, with the remaining cost being depreciated. The bonus depreciation amount is set by Congress and varies from 100% (in other words, immediate expensing in full) to some lesser percentage (oftentimes 50%). (Also see Asset, Depreciation, Section 179)
Cafeteria Plan: See Flexible Spending Account
Capital Gain/Capital Loss: Gain or loss from the sale of an asset. Long-term capital gains may be subject to special, preferential tax rates. Capital losses are limited to $3,000/year. (Also see Asset)
Capital Loss Limit: Tax law places a limit on how much a taxpayer can deduct in capital losses each year. That limit is $3,000/year. Unused losses in one year can be carried forward to be used in future years. (Also see Capital Gain/Capital Loss)
Cash-basis: A method of accounting where a business reports income when the customer pays, and expenses are recorded when the business pays the expense. Contrast with Accrual-basis.
Casualty and Theft Loss: A deduction allowed for destruction or theft of property. For individuals, the allowable deduction is based on the taxpayer’s basis, the change in the market value of the property after the casualty event, and the taxpayer’s AGI. Individuals take a casualty loss as an itemized deduction. (Also see AGI, Basis, AGI, Itemized Deductions)
C-Corporation: By default, any incorporated business entity is taxed as a C-Corporation. A corporation can elect to be taxed as an S-Corporation. A C-Corporation is a separate taxpaying entity. The results of C-Corporation operations stay within the corporation, and the corporation itself pays taxes on corporate net income.
Child Tax Credit: A $1,000 per child tax credit available for parents who have kids under the age of 17. The credit is non-refundable. However, part of the credit may be refundable depending on the amount of earned income the taxpayer has. (Also see Additional Child Tax Credit, Non-refundable Credits, Refundable Credits)
Circular 230: An IRS publication that provides regulations governing Enrolled Agents, CPAs, attorneys, enrolled actuaries, enrolled retirement plan agents, and appraisers. (Also see Circular 230 Practitioner)
Circular 230 Practitioner: A practitioner covered under the rules of Circular 230 (Also see Circular 230)
College Savings Iowa: A type of 529 Plan for people in the state of Iowa. For more information, visit the College Savings Iowa website. (Also see 529 Plan)
Community Property: Most states follow “common law,” but 9 states in the United States follow “community property” laws. When married couples in community property states file separate tax returns, they must employ community property rules. Those rules require splitting most of items of income 50/50 between both spouses. The 9 states that follow community property laws are Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington and Wisconsin.
Compilation: A financial statement report issued by a public accountant. A compilation report only states that the financials are presented under Generally Accepted Accounting Principles. As opposed to audits or reviews, a compilation report does NOT give any assurances about the financials other than that they were prepared based on a particular basis of accounting, such as GAAP or OCBOA. (Also see Audit [of Financial Statements], GAAP, OCBOA, Review [of Financial Statements])
Cost of Goods Sold: A deduction from gross receipts that accounts for the cost of the items a business sells. Doing this leaves gross income. For example, if Company X sells widgets for $20 each, and it costs the company $10 to make or acquire the widget, Company A’s tax return will show $20 as gross revenue, minus $10 for cost of goods sold, leaving $10 gross income. (Also see Gross Income, Gross Receipts)
Coupling/De-coupling: In tax terminology, this refers to whether or not a state will follow federal tax law on state tax returns. For example, some states “de-couple” from federal bonus depreciation rules, requiring a recalculation of depreciation deductions on the state return. (Also see Bonus Depreciation)
Coverdell Education Savings Accounts: A type of tax-advantaged savings account for saving for college expenses. Taxpayers whose income is below a certain limit can put up to $2,000 per beneficiary into a Coverdell account. The beneficiary of the account must be under age 18 in order to put money into the account. Amounts put into the account are not tax deductible, but withdrawals (including withdrawals of earnings) are tax-free if used to pay for education expenses.
CPA: Stands for Certified Public Accountant. CPAs are licensed by and regulated by states. Only CPAs are allowed to perform audits of financial statements. In the tax world, CPAs have unlimited practice rights, same as Enrolled Agents and attorneys. (Also see Enrolled Agent, LPA)
Custodial Parent: When referring to divorced or separated parents, a custodial parent is the parent with whom a child spends more than half the nights out of the year. (Also see Non-Custodial Parent)
Death Master File: A file published by the federal government that lists the name, Social Security Number and date of birth of people who have died. For years, the file was available as a public document, which made it a gold mine for identity thieves. In 2013, Congress passed legislation that limits who has access to the file.
Defense of Marriage Act (often abbreviated as DOMA): A federal law passed in 1996 that said, for all federal purposes, that marriage is defined as “one man, one woman.” Because of DOMA, the federal government did not recognize any same-sex marriage, civil unions or domestic partnerships. The U.S. Supreme Court ruled the law unconstitutional on June 26, 2013.
Dependent: Refers to a taxpayer’s child (if the taxpayer claims the child on the tax return) or others that the taxpayer supports. A dependency exemption and certain other tax benefits are available for claiming dependents on a tax return. (Also see Personal Exemptions)
Depreciation (for financial statements): Under Generally Accepted Accounting Principles, an asset is depreciated over its estimated useful life. For example, if a business determines that it will use a computer for 3 years and then replace it, the computer is depreciated over 3 years. (Also see Asset, Depreciation [for taxes])
Depreciation (for taxes): For tax purposes, depreciation is a deduction taken by businesses on the purchase of assets. Rather than taking a deduction in full in the year of purchase, the deduction is spread over time. The IRS determines the length of time. For example, a computer is depreciated over 5 years because that’s the length of time for depreciating computers set out by the IRS. (Also see Amortization, Asset, Depreciation [for financial statements], MACRS)
Depreciation Recapture: When an asset is sold for a gain, the gain is generally a capital gain. However, if depreciation has been claimed on the asset, some or all of the gain may instead be treated as ordinary income. This is referred to as depreciation recapture. (Also see Depreciation [for taxes])
Draws: Withdrawals from a sole proprietorship or partnership by the proprietor. In a sole proprietorship, Draws are not deductible. In a partnership, draws are also not deductible but must be tracked because draws reduce the partner’s basis in the partnership. (Also see Partnership, Sole Proprietorship)
Earned Income Credit (EIC) – A tax credit available to taxpayers between the ages of 25 and 65 whose income is below certain levels. The income level varies depending on filing status and how many children the taxpayer has. The credit is fully refundable. (Also see Filing Status, Refundable Credits)
Educator Expenses: public-school teachers in grades K-12 can deduct up to $250 of unreimbursed expenses that they paid for classroom supplies. The deduction is taken as a front-side deduction that reduces Adjusted Gross Income. Any expenses above $250 are claimed as miscellaneous itemized deductions. (Also see Adjusted Gross Income, Miscellaneous Itemized Deductions)
EFTPS: Stands for “Electronic Federal Tax Payment System.” EFTPS is the way the IRS prefers for businesses and individuals to submit tax payments, in particular for payroll taxes and corporate taxes. For more information, visit www.eftps.gov.
Employer Identification Number (EIN) – A 9-digit number assigned by the IRS to businesses. All business entities other than sole proprietors must have EINs. Sole proprietors may need an EIN in certain circumstances.
Enrolled Agent: Federally licensed tax practitioners. In the tax world, Enrolled Agents have equal rights and privileges as attorneys and CPAs. Read more about Enrolled Agents here.
Estimated Tax Payments: Quarterly tax payments that self-employed taxpayers and other taxpayers who have income without tax withholdings are encouraged to make to the IRS. Similar in concept to withholding from paychecks. (Also see Withholding)
FICA – Stands for “Federal Insurance Contributions Act.” FICA taxes fund Medicare and Social Security and are generally paid for through withholdings from paychecks (if an employee) or through paying self-employment tax (for people who are self-employed). (Also see Self-Employment Tax)
Filing Status – There are 5 filing statuses one can choose from when filing a federal income tax return: single, head of household, married filing jointly, married filing separately, and qualified widow(er). Each status comes with its own standard deduction, tax bracket, and (s0metimes) special rules or restrictions on certain deductions and credits.
Fiscal Year: Refers to the last day of a taxpayer or business’s tax year. Individuals have a fiscal year of December 31. C-corporations can choose to end their fiscal year on the last day of any month the corporation chooses. Most partnerships and S-corporations are required to have a fiscal year of December 31, though they can choose other months if they meet certain requirements.
Flexible Spending Account: Also known as a cafeteria plan. FSAs provide a tax-advantaged way of paying for medical and daycare expenses. The employee puts money into the FSA pre-tax. Withdrawals from the FSA are tax-free as long as the money is used to pay qualifying expenses.
Form 8332: A form signed by a custodial parent that releases their claim to a dependency exemption and gives the exemption to the non-custodial parent. (Also see Dependent)
Form K-1: A reporting form issued by partnerships, S-Corporations, estates and trusts. Form K-1 reports an individual shareholder’s or beneficiary’s share of the entity’s income and deductions for the year.
Form W-2: A reporting form issued by employers to employees. Form W-2 reports wages paid to the employee and taxes withheld on the employee’s behalf during the calendar year. (Also see Withholding)
Form 126: An Iowa income tax form used by non-residents and by part-year residents of Iowa to allocate income between Iowa sources and other states.
Form 130: An Iowa income tax form used by people who lived in Iowa all year but who had to file a tax return in another state. This form helps determine how much of a tax credit the taxpayer receives in Iowa for taxes paid to the other state.
Form 1099-A: A reporting form issued by lenders that reports when property has been repossessed.
Form 1099-B: A reporting form used to report the sale of stocks, and also certain bartering transactions.
Form 1099-C: A reporting form issued by lenders to report cancellation of debt.
Form 1099-DIV: A reporting form used to report stock dividends.
Form 1099-G: A reporting form used to report various government payments. Examples include unemployment benefits, state income tax refunds, and various USDA payments such as counter-cyclical payments.
Form 1099-INT: A reporting form used to report interest payments, such as interest earned on a savings account.
Form 1099-K: A reporting form used to report income to a business from credit card and debit card transactions.
Form 1099-MISC: A reporting form that has various uses. The most-common usage is by businesses reporting payments to independent contractors. (Also see Independent Contractor)
Form 1099-R: A reporting form issued to taxpayers who withdraw money from a retirement account such as an IRA or 401(k).
Form 1099-S: A reporting form issued to report certain sales and other property sales.
Form 1099-SA: A reporting form issued to report withdrawals from medical savings accounts such as HSAs.
Form W-4: A form employees fill out to determine how much income tax is withheld from their wages. (Also see Withholding)
Form W-9: A form used by companies that employ independent contractors. The form is provides the company with the contractor’s name and EIN or Social Security Number, and is useful for the company in preparing the Form 1099 that may need to be issued to the contractor.
Front-side Deductions: Refers to tax deductions for individuals that are taken on the first page of Form 1040. These deductions reduce AGI and are not itemized deductions. Examples include deductions for student loan interest and deductions for amounts contributed to an IRA. (Also see AGI, Itemized Deductions, IRA)
FSA: Stands for “flexible spending account,” sometimes called a “cafeteria plan.” FSA’s allow a taxpayer to set money aside to pay for things such as medical expenses or daycare. Money put into an FSA is tax-deductible, and withdrawals are tax-free if used for qualified expenses.
Generally Accepted Accounting Principles (GAAP): A set of accounting policies and procedures used in the formal compilation of financial statements. Some part of GAAP come from formal accounting standards from various boards and agencies, and some come from industry standards.
Gift Tax: A federal tax assessed against the givers of gifts above a certain amount. For 2013, that amount is $14,000. If a person gives gifts to any one person that total more than $14,000 for the year, that person may need to file a gift tax return and potentially pay gift tax.
Gross Income or Gross Profit (business): Refers to business income after cost of goods sold is accounted for (gross receipts minus cost of goods sold), but before any other deductions are taken. (Also see Cost of Goods Sold, Gross Receipts (Business))
Gross Receipts (Business): When used in connection with a business, gross receipts refers to the business’s income before any deductions are taken.
Head of Household: A filing status on a tax return that provides a tax bracket that is halfway between that of a single person and that of a married person. A person can qualify for head of household if they are single and have a qualifying dependent living with them. (Also sees Filing Status)
Health Reimbursement Arrangement: Abbreviated “HRA” and sometimes called a “Section 105 Plan.” This is an arrangement where an employer agrees to reimburse employees for medical expenses. These are especially useful for sole proprietors who are in a position to hire their spouse as an employee.
Hobby Loss Rules: When a taxpayer has a business that is not operated with a profit motive, the IRS may say the “hobby loss rules” apply. This means all income from the operation is considered ordinary income, but expenses can only be claimed as miscellaneous itemized deductions, and expenses are limited to the amount of income generated by the activity. (Also see Miscellaneous Itemized Deductions)
Household Employment Taxes: Taxes owed by an individual who hires home assistants, generally nannies. Sometimes called the “nanny tax.” The taxpayer generally pays all withholdings and other payroll taxes at once when the taxpayer files their tax return. (Also see Schedule H, Withholding)
HSA: Stands for “health savings account.” An HSA allows you to save money, tax-advantaged, for medical expenses. Contributions to an HSA reduce your taxable income, and withdrawals from an HSA are tax-free if used for medical expenses. To qualify, you must meet certain requirements, such as being enrolled in a high-deductible health care plan. See IRS Publication 969 for more information.
Income Statement: A financial statement that shows an entity’s revenue and expenses for a period of time. Sometimes referred to as a “P & L” statement, with the P and L standing for “profit and loss.”
Independent Contractor: A worker who performs services for a business but who is not an employee of the business. (Also see Form 1099-MISC)
Individual Retirement Account (IRA): a retirement account that is not part of an employer-provided retirement plan. Anyone can set up and make deposits into an IRA. Those deposits may or may not be deductible, depending on the taxpayer’s income.
Intangible Asset: A type of asset that cannot be physically touched. Most intangible assets must be amortized, which is a similar concept to depreciation. (Also see: Amortization, Asset, Depreciation)
Iowa Tuition and Textbook Credit: A tax credit available on Iowa tax returns for the purchase of school supplies, school fees, etc. paid by parents of kids in grades K-12.
IPERS: Stands for Iowa Public Employees Retirement System, a retirement plan for employees of the State of Iowa.
Itemized Deductions: Taxpayers can choose to take either the standard deduction or itemized deductions on their tax return. Itemized deductions are for things such as mortgage interest, property taxes, charitable contributions, and medical expenses. (Also see Schedule A, Standard Deduction)
Lifetime Learning Credit: A tax credit available for college tuition expenses. Similar to the American Opportunity Credit except the Lifetime Learning Credit is less restrictive (anyone taking college classes, even part-time, can take the credit) but the credit amount is smaller than the American Opportunity Credit. Also the Lifetime Learning Credit is non-refundable. (Also see American Opportunity Credit, Non-Refundable Credit)
Listed Property: For tax purposes, “listed property” means depreciable property that has elements of personal use. Examples include vehicles and computers. The IRS generally requires stricter documentation of usage of property that is considered “listed” property. (Also see Depreciation)
LLC: Stands for “Limited Liability Company.” LLCs are entities formed under state law. As with corporations, LLCs give liability protection but LLCs are usually simpler to form and administer. One-person LLCs are taxed as sole proprietorships by default and multi-member LLCs are taxed as partnerships by default, but an LLC can elect to be taxed as an S-Corporation or a C-Corporation. (Also see Sole Proprietorship, S-Corporation, C-Corporation)
Long-term Capital Gain/Loss: A capital gain resulting from the sale of an asset held for more than 1 year. Taxpayers can often receive preferential tax rates on gains from the sale of long-term assets. (Also see Capital Gain/Loss, Short-term Capital Gain/Loss)
LPA: Stands for Licensed Public Accountant. The LPA license is awarded in 3 states: Iowa, Delaware and Minnesota. LPAs are public accountants and can do the same things a CPA can do except for audits and reviews of financial statements. In the tax world, the LPA is not recognized. (Also see CPA)
MACRS: Stands for “Modified Accelerated Cost Recovery System.” MACRS is the default method of depreciation for tax purposes. (Also see Depreciation [for taxes])
Marriage Penalty: An informal term referring to the fact that married couples will sometimes pay more in taxes as a married couple than they did as two single people. The marriage penalty is not a literal penalty. Historically, about 50% of married couples experience the marriage penalty.
Married Filing Jointly: a filing status on tax returns for taxpayers who are married at the end of the year. (Also see Filing Status, Married Filing Separately)
Married Filing Separately: A filing status on tax returns for married taxpayers who choose to file separate tax returns. (Also see Filing Status, Married Filing Jointly)
Married Filing Separately on a Combined Return: A filing status on Iowa income tax returns. Taxpayers using this status calculate taxable income separately and then combine the tax liability into one lump sum at the end of the return.
Medical Dependent: A person can be a dependent for purposes of medical expenses and health insurance coverage, without the taxpayer actually claiming the person as a dependent on a tax return. The test for someone to be a medical dependent is: did they live with the taxpayer all year and did the taxpayer provide more than half of their support? If so, they might be the taxpayer’s medical dependent.
Miscellaneous Itemized Deductions: Deductions for things such as unreimbursed employee expenses, expenses relating to investments, and fees for safe-deposit boxes at banks, among many other possibilities. The total of a taxpayer’s miscellaneous itemized deductions must exceed 2% of their AGI in order to be deductible. (Also see 2% of AGI Rule)
Nanny Taxes: See Household Employment Taxes
Net Income or Net Loss: For businesses, net income or net loss refers to what’s left after expenses are accounted for. The formula is gross income minus expenses. (Also see Gross Income)
Net Operating Loss: When business losses exceed business income, a net operating loss may exist. The loss can be carried back to prior years and/or forward to future years to offset income in those years. The exact rules vary depending on the taxpayer’s circumstances.
Non-custodial Parent: In tax terms, when referring to divorced or separated parents, a non-custodial parent is the parent with whom a child spends less than half the nights out of the year. (Also see Custodial Parent)
Non-deductible Contributions: Refers to deposits into a traditional IRA that are not deductible because of income restrictions. The deposit can still be made, but is not deductible on the taxpayer’s tax return. Non-deductible contributions give the taxpayer after-tax basis in their IRA. (Also see IRA, After-Tax Basis)
Non-refundable Credit: A tax credit that reduces taxable income to $0 but cannot generate a refund in and of itself.
Not-for-Profit: A legal term referring to how an entity is organized under state law. “Not-for-profit” is often used interchangeably with “tax exempt” but the two terms mean different things. It is possible for an entity to be a not-for-profit and not be tax exempt.
OCBOA: Stands for “other comprehensive basis of accounting.” This is an alternative to GAAP-basis accounting. An example of OCBOA is cash-basis accounting. (Also see Cash-basis)
Ordinary Income: Income that is reported on a taxpayer’s tax return that is subject to income tax but not to self-employment tax or capital gain treatment. (Also see Self-employment Tax, Capital Gain/Capital Loss)
Partnership: A business entity involving two or more people who are conducting business together but who are not incorporated.
Passive Activity Losses: A passive activity is an investment activity in which a taxpayer doesn’t “actively participate.” In overly simplified terms, this means the taxpayer doesn’t work in the business day-to-day. There are limits on the amount of losses a taxpayer can deduct from passive activities.
Pass-through Entity: Sometimes called “flow-through” entities. This term refers to business entities that do not pay income taxes themselves. Instead, results of business operations “pass through” to the owners, who report their share of the operations on their personal tax return. Examples include partnerships and S-corporations.
Patient Centered Outcomes Research Fee: A fee created as part of the Affordable Care Act. The fee is imposed on businesses or insurance companies at a rate of $2.18 per participant in a health plan.
Payroll Taxes: For employees, this refers to FICA taxes withheld from the employee’s wages. For employers, this refers to the employer half of FICA taxes, and unemployment taxes. (Also see FICA)
Personal Exemptions: A deduction for exemptions claimed on a tax return. Exemptions refers to the taxpayer, the taxpayer’s spouse, and people listed as a dependent on the tax return.
Power of Attorney: In tax terms, a power of attorney is a form (Form 2848) that taxpayers sign to allow a third party to act on their behalf in front of the IRS.
Preparation (Of Financial Statements): A preparation is a type of financial statement printed by a public accountant but it does not include a compilation report. A preparation includes a footnote at the bottom of the financial statements stating that the financials were not subject to a compilation, review or audit engagement. (Also see Compilation; Review [of financial statements]; Audit [of financial statements])
Pre-tax: Pre-tax means a deduction from an employee’s wages that reduces the employee’s taxable income. (Also see After-tax)
Private Letter Rulings: An IRS ruling addressed to one taxpayer, answering a question specific to that taxpayer’s situation. Private letter rulings are binding only on that taxpayer’s situation, meaning others cannot use the ruling as precedent. However, private letter rulings are useful for helping understand how the IRS interprets the law.
Qualified Plan: Generally refers to a 401(k) retirement plan offered by an employer. If a plan is “qualified,” deposits into the plan by employees reduce the employees’ taxable income, and deposits into the plan by employers reduce the employers’ taxable income.
Qualifying Child: A qualifying child is a dependent under the age of 19 (or under age 23 if in college) who is the taxpayer’s child, foster child, step-child or grandchild. Certain other requirements must be met as well. A qualifying child can qualify a taxpayer for certain tax benefits such as head of household filing status, and credits such as the child tax credit and earned income credit.
Qualifying Relative: A qualifying relative is a dependent who does not meet the tests to be a qualifying child. The tests for qualifying relative include: the taxpayer must provide more than 1/2 of the person’s support, and the person must live with the taxpayer all year (in most cases). A taxpayer will qualify for a dependency exemption for a qualifying relative, but other tax benefits are generally not available for this type of dependent.
Qualifying Widow(er): A filing status on a tax return for a person whose spouse has died and the surviving spouse is still raising kids. In the year of the spouse’s death, the couple will file as married filing jointly. The surviving spouse can use Qualifying Widow(er) as a filing status for the next two tax years after that. This filing status provides the same tax brackets and standard deduction as married filing jointly. (Also see Filing Status)
Railroad Retirement Benefits (RRB): Refers to retirement benefits for employees of railroad companies. Taxation of these benefits depends on whether the benefits are Tier I or Tier II benefits. (Also see Tier I/Tier II Railroad Retirement Benefits)
Refundable Child Tax Credit: The Child Tax Credit is generally non-refundable. However, part or all of it may be fully refundable, depending on a taxpayer’s earned income for the year.
Refundable Credits: Tax credits that are fully refundable on a tax return even if the taxpayer’s tax liability is $0.
Residential Energy Credit: A non-refundable credit available to homeowners who make certain energy efficiency upgrades to their homes, such as installing new windows and doors.
Retirement Savers Credit: A non-refundable tax credit available to certain taxpayers who contribute to a retirement plan. The credit is 10% of the amount contributed, with a maximum credit of $200. Income restrictions apply and the credit is unavailable to taxpayers above certain income levels.
Revenue Procedure: Official IRS guidance on procedures for a taxpayer to follow in complying with tax law and regulations.
Revenue Ruling: Official IRS guidance that interprets the law and regulations in regards to a specific set of facts and circumstances.
Review (Of Financials): Refers to a report issued by a CPA firm that is a step down from an audit. In a review, the firm examines a company’s financials to verify that they are free of deficiencies, but the firm does not review internal controls or fraud risks as in an audit. (Also see Audit [Of Financials])
RMD: Stands for Required Minimum Distribution. When a taxpayer has money in tax-deferred retirement accounts such as an IRA or a 401(k), they generally must start taking yearly withdrawals from those accounts when they turn age 70 1/2. The required withdrawal amount varies from year-to-year based on IRS tables.
ROBS Transaction: Stands for Rollover for Business Startup. In a ROBS transaction, a new corporation is formed, and a retirement plan is formed inside the corporation. The owner rolls over money from a different retirement account into the new plan inside the corporation. Once the money is in the new plan, the owner purchases stock in the new company. This can be a tax-free way to tap existing retirement funds to start a new business, but there are many pitfalls. ROBS transactions are on an IRS watch list as a potentially abusive tax transaction.
Rollover: A tax term that means a transfer from one retirement account to another retirement account. For example, a transfer from an IRA to a 401(k) account or vice-versa.
Roth Conversion: Refers to converting a traditional IRA into a Roth IRA. The taxpayer claims the value of the traditional IRA as income in the year of the conversion. (Also see Individial Retirement Account, Roth IRA)
Roth IRA: A type of individual retirement account in which contributions into the account are not tax deductible, but qualified withdrawals from the account are tax-free.
Roth Recharacterization: Refers to a reversal of a Roth conversion. A recharacterization restores the IRA back to a traditional IRA and the conversion is treated as though it never happened, thus saving the taxpayer from claiming the conversion as income. The recharacterization must generally be done by October 15th of the year following the date of conversion. (Also see Roth Conversion, Traditional IRA, Roth IRA)
RTRP: Stands for “registered tax return preparer.” The IRS tried to make the RTRP program mandatory but it was struck down in the courts. The program would have required unlicensed preparers to pass an open-book test before they could prepare tax returns.
Sales Tax: A tax, levied by states, collected by businesses on the sale of certain goods and services. Sales tax is not an expense of the business. Rather, it is a tax collected from the customer by the business. The business than sends its sales tax collections to the state periodically.
Schedule A: The form on which an individual claims itemized deductions. (Also see Itemized Deductions)
Schedule C Business: Another term for a sole proprietorship. (Also see Sole Proprietorship)
Schedule H: The form used by individuals to report household employment taxes. (Also see Household Employment Taxes)
S-Corporation: A corporation that elects to be taxed under subchapter S of the Internal Revenue Code. S-Corporations are required to file an informational tax return on Form 1120-S, but generally do not pay taxes themselves. Instead, as with a partnership, S-Corporations are “flow-through” entities, meaning the results of the corporate operations flow through to the individual shareholders, who are taxed on the corporation’s operations on their personal tax returns.
Section 121 Exclusion: Refers to the ability of most homeowners to avoid taxation on gains from the sale of their home. A homeowner who has lived in their home for at least 2 out of the 5 years prior to the sale of the home can exclude up to $250,000 of gain from the sale if single, or $500,000 of gain if married.
Section 179: A deduction, similar to depreciation, that allows a business to expense 100% of the cost of an asset in the year of purchase. A business can take the Section 179 deduction on any assets it purchases, whether new or used. The deduction is limited to the business’s net income for the year.
Section 1231/1245: Both terms refer to business assets. Section 1245 refers to depreciation taken on assets. When those assets are sold at a gain, the depreciation that has been taken over the life of the asset may need to be claimed as ordinary income in the year of the sale. Any remaining gain after depreciation recapture is treated as a Section 1231 gain, which means losses are deductible in full, while gains are treated as capital gains.
Self-employment Tax: the self-employed person’s version of FICA taxes (see also). Self-employment tax is equal to 15.3% x self-employment earnings. The full formula is: (self employment earnings x .9235) x .153.
Short-term Capital Gain/Loss: A capital gain resulting from the sale of an asset held for less than 1 year. Income from the sale of a short-term asset is usually treated as ordinary income and is not subject to special tax treatment, as opposed to income from long-term capital gains. (Also see Capital Gain/Loss, Long-term Capital Gain/Loss)
Single: In tax terminology, “single” is a filing status for taxpayers who are unmarried. (Also see Filing Status)
Social Security Wage Base: The maximum amount of wages or self-employment income subject to Social Security tax (which is part of the FICA tax/self-employment tax calculation).
Sole Proprietorship: A business entity that involves one person and that is not incorporated. Results of sole proprietorship operations are reported on Schedule C, which is attached to the business owner’s personal Form 1040.
Special Enrollment Exam: Often abbreviated “SEE.” This is the 3-part test a person must pass in order to become an Enrolled Agent. (Also see Enrolled Agent)
Standard Deduction: A deduction all taxpayers are entitled to, as a reduction of taxable income, on their tax return. The amount of the standard deduction depends on the taxpayers’ filing status. Taxpayers can choose between taking the standard deduction or taking itemized deductions. (Also see Itemized Deductions)
Tangible Asset: An asset that can be touched or felt. Contrast with intangible asset. (Also see Asset, Intangible Asset)
Tax Exempt: A tax term relating to not-for-profit entities. An entity is tax exempt if it qualifies for exemption from income tax under one of more than 25 exclusions under Section 501 of the Internal Revenue Code. While the terms “tax exempt” and “not-for-profit” are often used interchangeably, the terms mean different things. (Also see Not-for-Profit)
Tier I/Tier II Railroad Retirement Benefits: Tier I RRB benefits are considered the equivalent of Social Security benefits and are taxed in the same manner as Social Security. Tier II RRB benefits are considered the equivalent of pension distributions and are taxed in the same manner as any other withdrawal from an IRA or pension. (Also see Railroad Retirement Benefits)
Treasury Regulations: Regulations are written by the U.S. Treasury Department and serve to interpret and expand on the tax code as passed by Congress.
Varnum Ruling: A 2009 ruling by the Iowa Supreme Court that legalized same-sex marriage in Iowa.
Withholding: Refers to income taxes and FICA taxes withheld from income before the income is paid to the recipient. For example, employers withhold taxes from wages paid to employees. The pay the employees receive is reduced by the taxes withheld from the pay. (Also see FICA)
Work Opportunity Credit: A tax credit available to businesses that employ certain individuals such as veterans or people recently released from prison.
W-2: (See Form W-2)