Question 1

Britney is beneficiary of a $150,000 insurance policy on her father's life. Upon his death, she may elect to receive the proceeds in five yearly installments of $32,000 or may take the $150,000 lump sum. She elects to take the lump sum payment. What are the tax consequences in year one?

Accepted Answer

The lump sum payment of the insurance policy is not taxable under federal income tax laws. Therefore, there is no taxable income in the first year.

Question 2

Brad suffers from congestive heart failure and has been admitted to a nursing home where he is expected to spend the remainder of his life. His doctor has certified him as chronically ill. Brad receives $320 per day from his life insurance policy for 100 days ($32,000)as accelerated death benefits. Brad's nursing home care costs $300 per day ($30,000 for the 100 days of care). Brad will be allowed to exclude

Accepted Answer

The answer of Brad suffers from congestive heart failure and...

Question 3

Hope receives an $18,500 scholarship from State University. The university specifies that $8,500 is for tuition, books, supplies, and equipment, while $10,000 is for room and board. In addition, Hope works part-time at the campus library and earns $5,000. Hope's gross income is

Accepted Answer

The answer of Hope receives an $18,500 scholarship from State...

Question 4

Which of the following statements regarding qualified tuition programs is incorrect?

Accepted Answer

B)Distributions of income from a qualified tuition program are taxed to the beneficiary if not used for higher education expenses.

Question 5

Cameron is the owner and beneficiary of a $300,000 policy on the life of his mother. Cameron sells the policy to his brother, Parker, for $100,000. Parker subsequently pays premiums of $55,000. Upon his mother's death, how much of the insurance proceeds must Parker include in income?

Accepted Answer

Parker must include the full $300,000 of insurance proceeds in his income because he purchased the policy for less than the death benefit, thus creating a taxable event. However, he can reduce the taxable amount by the cost basis in the policy, which includes the premiums he paid ($55,000) and the purchase price ($100,000), for a total cost basis of $155,000. Therefore, the taxable amount would be $300,000 - $155,000 = $145,000.

Question 6

Elisa sued her former employer for discrimination. She was awarded $200,000 for lost wages, $30,000 for medical expenses related to emotional distress resulting from the discrimination, and $300,000 in punitive damages. The amount taxable is

Accepted Answer

The answer of Elisa sued her former employer for discrimination....

Question 7

Bret carries a $200,000 insurance policy on his life and has paid premiums of $10,000 over the years. Dividends on the policy have totaled $8,500. Each year Bret has left the dividends with the insurance company. In the current year, the insurance company credited $800 of interest on the accumulated dividends to Bret's account. In addition, $600 of dividends was added by the insurance company. In the current year, Bret must report income of

Accepted Answer

Life insurance policy dividends are generally not taxable unless they exceed the total amount of premiums paid. In this case, Bret paid $10,000 in premiums but received $8,500 in dividends, so he has not exceeded the premium limit and therefore does not need to report any income from the dividends.

However, in the current year, Bret received $800 in interest on his accumulated dividends and an additional $600 of dividends. The interest is taxable income, but the $600 of dividends is not since it is still within the premium limit. Therefore, Bret must report income of $800 in the current year.

Question 8

John is injured and receives $16,000 of income from a disability policy. John's employer paid 75% of the disability policy premiums and John paid the remainder. In addition, John's employer has paid all the $3,000 of premiums on a health policy that paid John's doctor bills of $10,000. How much of the benefits must John include in income?

Accepted Answer

John must include $12,000 in income. First, we must determine the portion of the disability policy that John paid for. If the employer paid 75%, then John paid 25%. Therefore, $16,000 x 0.25 = $4,000 must be included in John's income. Additionally, the health policy premiums paid by the employer are not taxable, but the benefits received are. Therefore, John must include the full $10,000 of health policy benefits in his income. Together, $4,000 + $10,000 = $12,000 must be included in John's income.

Question 9

Liza's employer purchased a disability income policy from an insurance company on behalf of all of its employees. The employer paid for two-thirds of the premiums, and the employees paid for the other one-third. Subsequently, Liza received $3,000 per month for 6 months she was unable to work. Liza will be taxed on

Accepted Answer

The answer of Liza's employer purchased a disability income policy...

Question 10

Greg is the owner and beneficiary of a $100,000 policy on the life of his mother. Greg gives the policy to his brother, Don. Don subsequently pays premiums of $40,000. Upon his mother's death, how much of the insurance proceeds must Don include in income?

Accepted Answer

Since Greg gave the policy to Don, it is considered a gift and therefore does not count as income for Don. Additionally, the premiums paid by Don are not deductible as expenses, but the insurance payout is also not included in income since Don was a beneficiary and not the original owner of the policy. Therefore, Don does not need to include any of the insurance proceeds in income.

Question 11

Sarah receives a $15,000 scholarship from City University. The university specifies that $8,000 is for tuition, books, supplies, and equipment for classes. The other $7,000 is for room and board. Sarah works ten hours per week as a grader, for which she is paid $7,500 for the year. Of the total amount received, Sarah must include the following amount in gross income

Accepted Answer

Sarah must include the $7,500 she earned from working as a grader in her gross income. However, the $15,000 scholarship is not taxable as long as it meets the following requirements:
1. It is used for qualified education expenses (which includes tuition, fees, books, and supplies required for enrollment or attendance at City University).
2. It is not used for room and board expenses.
Since $8,000 of the scholarship is for qualified education expenses, it is not taxable. The remaining $7,000 for room and board is not a qualified education expense and is therefore taxable. Therefore, Sarah must include the $7,000 for room and board in her gross income, making the total $14,500 that she must include.

Question 12

Julia suffered a severe stroke and has been admitted to a private hospital where she is expected to remain for the rest of her life. She is certified by a licensed health care practitioner as being a "chronically ill individual." Her hospital expenses amount to $280 per day. She will receive $270 per day from a $500,000 life insurance policy as an accelerated death benefit. In 2014, she was in the hospital for 10 days and received $2,700. How much of this amount is taxable?

Accepted Answer

The answer of Julia suffered a severe stroke and has...

Question 13

Over the years Rianna paid $65,000 in premiums on a life insurance policy with a face value of $100,000. Upon reaching 65, while still in good health, Rianna surrendered the policy and collected $95,000. In the year of collection, Rianna will report

Accepted Answer

Rianna paid $65,000 in premiums, which is not deductible, so there is no tax loss. When Rianna surrendered the policy and collected $95,000, she received $30,000 more than the premiums paid ($95,000 – $65,000 = $30,000). This excess amount is considered taxable income and should be reported on Rianna's tax return. Therefore, Rianna will report $30,000 of taxable income in the year of collection.

Question 14

Derrick was in an automobile accident while he was going to work. The doctor advised him to stay home for eight months due to his physical injuries. The resulting lawsuit was settled and Derrick received the following amounts:  How much of the settlement must Derrick include in ordinary income on his tax return?

Accepted Answer

Generally, damages received on account of personal physical injuries or physical sickness are excluded from gross income. Therefore, Option A ($0) and Option B ($80,000) are incorrect. However, if a portion of the settlement is allocated to punitive damages or interest, that portion is not excludable from income. Therefore, Option D ($175,000) is incorrect. Option C ($95,000) is the correct answer as it represents the amount paid for physical injuries/sickness and is excludable from income.

Question 15

Rebecca is the beneficiary of a $500,000 insurance policy on her husband's life. She elects to receive $52,000 per year for 10 years rather than receive the entire amount in a lump sum. Of the amount received each year

Accepted Answer

The answer of Rebecca is the beneficiary of a $500,000...

Question 16

David has been diagnosed with cancer and is expected to live less than 18 months. David is covered by a life insurance policy with a $400,000 face amount. David cashes in the policy early under a special option and receives 80% of the face amount or $320,000. In the year of collection, David will report

Accepted Answer

The answer of David has been diagnosed with cancer and...

Question 17

Which of the following statements regarding the qualified tuition plans (QTP)is incorrect?

Accepted Answer

The answer of Which of the following statements regarding the...

Question 18

Amanda, who lost her modeling job, sued her employer for age discrimination. She was awarded $75,000 in lost wages, $25,000 for emotional distress, and $150,000 punitive damages. The amount taxable is

Accepted Answer

The answer of Amanda, who lost her modeling job, sued...

Question 19

Linda was injured in an automobile accident caused by another driver. Her son, Matthew, was in the automobile but not physically injured. The other driver's insurance company was required by a court to pay Linda $75,000 to cover medical bills relating to her injuries, $30,000 to compensate her for emotional distress attributable to the injuries and $40,000 of punitive damages. Matthew was paid $15,000 to compensate him for emotional distress attributable to his witnessing his mother's injuries. What is the amount taxable to Linda?

Accepted Answer

The answer of Linda was injured in an automobile accident...

Question 20

Mae Li is beneficiary of a $70,000 insurance policy on her father's life. Upon his death, she elects to receive the proceeds in installments from the insurance company that carries the policy. She will receive $16,000 per year for five years. What are the tax consequences each year?

Accepted Answer

When a beneficiary receives life insurance proceeds in installments, the tax consequences are determined by the "exclusion ratio." This ratio takes into account the amount of the payment that represents a tax-free return of the beneficiary's investment in the policy (i.e. the premiums paid by the insured). The remainder of the payment is considered taxable income.

To calculate the exclusion ratio, divide the investment in the policy by the expected return. The investment in the policy is equal to the total premiums paid by the insured, and the expected return is the total amount expected to be received by the beneficiary under the terms of the policy. In this case, Mae Li is expected to receive $80,000 ($16,000 x 5) in total, so the expected return is $80,000.

To determine the investment in the policy, we need to know what portion of the premiums were paid by Mae Li's father and what portion were paid by Mae Li herself. If Mae Li paid any of the premiums, she would have already paid taxes on that money, so it would not count towards the exclusion ratio.

Assuming that Mae Li's father paid all of the premiums, the investment in the policy would be $70,000 (the face value of the policy).

So the exclusion ratio is 70,000/80,000 = 0.875. This means that 87.5% of each payment is considered a tax-free return of Mae Li's father's investment in the policy, and the remaining 12.5% is taxable income.

Therefore, each year Mae Li will have $2,000 ($16,000 x 0.125) of taxable income.

Quiz 4: Gross Income: Exclusions