Question 1

Ben was diagnosed with a terminal illness. His physician estimated that Ben would live no more than 18 months. After he received the doctor's diagnosis, Ben cashed in his life insurance policy and used the proceeds to take a trip to see relatives and friends before he died. Ben had paid $12,000 in premiums on the policy, and he collected $50,000, the cash surrender value of the policy. Henry enjoys excellent health, but he cashed in his life insurance policy to purchase a new home. He had paid premiums of $12,000 and collected $50,000 from the insurance company.

Accepted Answer

Under U.S. tax law, the proceeds from cashing in a life insurance policy are generally taxable to the extent they exceed the premiums paid. However, there is an exception for terminally or chronically ill individuals who sell their life insurance policy under a viatical settlement. In Ben's case, because he is terminally ill, he would not recognize any gross income from cashing in his life insurance policy. Henry, being in excellent health and cashing in his policy for personal reasons, must recognize the $38,000 as gross income.

Question 2

During the current year, Khalid was in an automobile accident and suffered physical injuries. The accident was caused by Rashad's negligence. Khalid threatened to file a lawsuit against Amber Trucking Company, Rashad's employer, claiming $50,000 for pain and suffering, $90,000 for loss of income, and $70,000 in punitive damages. Amber's insurance company will not pay punitive damages; therefore, Amber has offered to settle the case for $100,000 for pain and suffering, $90,000 for loss of income, and nothing for punitive damages. Khalid is in the 35% marginal tax bracket. What is the after-tax difference to Khalid between Khalid's original claim and Amber's offer?

Accepted Answer

The answer of During the current year, Khalid was in...

Question 3

Theresa sued her former employer for age, race, and gender discrimination. She claimed $200,000 in damages for loss of income, $300,000 for emotional harm, and $500,000 in punitive damages. She settled the claim for $700,000. As a result of the settlement, Theresa must include in gross income:

Accepted Answer

The answer of Theresa sued her former employer for age,...

Question 4

Jena is a full-time undergraduate student at State University and qualifies as a dependent of her parents. Her only source of income is a $10,000 athletic scholarship $1,000 for books, $5,500 tuition, $500 student activity fee, and $3,000 room and board). Jena's gross income for the year is:

Accepted Answer

Jena's gross income would be the total amount of her scholarship, which is $10,000. However, since $6,000 of that is allocated towards tuition, books, and student fees, her taxable income is only $4,000. Since she is a dependent, she cannot claim any personal exemptions or standard deductions, which would bring her gross income down to $3,000.

Question 5

All employees of United Company are covered by a group hospitalization insurance plan, but the employees must pay the premiums $8,000 for each employee). None of the employees has sufficient medical expenses to deduct the premiums. Instead of giving raises next year, United is considering paying the employee's hospitalization insurance premiums. If the change is made, the employee's after-tax and insurance pay will:

Accepted Answer

If United Company pays the employee's hospitalization insurance premiums, the employees will no longer have to pay the $8,000 premiums themselves. However, the premiums paid by United Company will be considered taxable income to the employees. Therefore, higher income employees in the 35% marginal tax bracket will have to pay more in taxes on the extra income compared to lower paid employees in the 10% and 12% marginal tax brackets. As a result, the increase in after-tax pay will be greater for the higher income employees, making option C the correct answer.

Question 6

Early in the year, Marion was in an automobile accident during the course of his employment. As a result of the physical injuries he sustained, he received the following payments during the year: Reimbursement of medical expenses Marion paid by a medical 
$\begin{array} { lr } 
\text { insurance policy he purchased } &\$ 10,000 \
\text { Damage settlement to replace his lost salary } &15,000
\end{array}$
 What is the amount that Marion must include in gross income for the current year?

Accepted Answer

The medical expenses reimbursement is not taxable because it is a reimbursement of expenses that Marion already paid. The damage settlement is not taxable because it is a payment for lost salary, which is not considered income.

Question 7

Swan Finance Company, an accrual method taxpayer, requires all of its customers to carry credit life insurance. If a customer dies, the company receives from the insurance company the balance due on the customer's loan. Ali, a customer, died owing Swan $1,500. The balance due included $200 accrued interest that Swan has included in income. When Swan collects $1,500 from the insurance company, Swan:

Accepted Answer

The answer of Swan Finance Company, an accrual method taxpayer,...

Question 8

Christie sued her former employer for a back injury she suffered on the job in 2018. As a result of the injury, she was partially disabled. In 2019, she received $240,000 for her loss of future income, $160,000 in punitive damages because of the employer's flagrant disregard for the employee's safety, and $15,000 for medical expenses. The medical expenses were deducted on her 2018 return, reducing her taxable income by $12,000. Christie's 2019 gross income from the above is:

Accepted Answer

The answer of Christie sued her former employer for a...

Question 9

Olaf was injured in an automobile accident and received $25,000 for his physical injury, $50,000 for his loss of income, and $10,000 punitive damages. As a result of the award, the amount Olaf must include in gross income is:

Accepted Answer

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

Question 10

Matilda works for a company with 1,000 employees. The company has a hospitalization insurance plan that covers all employees. However, the employee must pay the first $3,000 of his or her medical expenses each year. Each year, the employer contributes $1,500 to each employee's health savings account HSA). Matilda's employer made the contributions in 2017 and 2018, and the account earned $100 interest in 2018. At the end of 2018, Matilda withdrew $3,100 from the account to pay the deductible portion of her medical expenses for the year and other medical expenses not covered by the hospitalization insurance policy. As a result, Matilda must include in her 2018 gross income:

Accepted Answer

The answer of Matilda works for a company with 1,000...

Question 11

Jack received a court award in a civil libel and slander suit against National Gossip. He received $120,000 for damages to his professional reputation, $100,000 for damages to his personal reputation, and $50,000 in punitive damages. Jack must include in his gross income as a damage award:

Accepted Answer

All three components of the court award must be included in Jack's gross income. This includes the $120,000 for damages to his professional reputation, the $100,000 for damages to his personal reputation, and the $50,000 in punitive damages. Thus, the total amount Jack must include in his gross income as a damage award is $270,000.

Question 12

Turquoise Company purchased a life insurance policy on the company's chief executive officer, Joe. After the company had paid $400,000 in premiums, Joe died and the company collected the $1.5 million face amount of the policy. The company also purchased group term life insurance on all its employees. Joe had included $16,000 in gross income for the group term life insurance premiums. Joe's widow, Rebecca, received the $100,000 proceeds from the group term life insurance policy.

Accepted Answer

The answer of Turquoise Company purchased a life insurance policy...

Question 13

A scholarship recipient at State University may exclude from gross income the scholarship proceeds used to pay for:

Accepted Answer

According to IRS regulations, scholarship proceeds used to pay for tuition, fees, and required course materials (e.g. books, supplies) are not considered taxable income. However, any scholarship money that is used for non-qualified expenses such as room and board, travel, or personal expenses must be reported as taxable income. Therefore, choice B is correct, while choices A,C,D, and E are incorrect.

Question 14

The taxpayer is a Ph.D. student in accounting at City University. The student is paid $1,500 per month for teaching two classes. The total amount received for the year is $13,500.

Accepted Answer

The $13,500 received by the Ph.D. student is compensation for teaching and is therefore taxable. It is not considered a scholarship or excludable as long as it is not used for qualified education expenses. The fact that the amount is less than the standard deduction and personal exemption does not make it automatically excludable.

Question 15

Barney is a full-time graduate student at State University. He serves as a teaching assistant for which he is paid $700 per month for 9 months and his $5,000 tuition is waived. The university waives tuition for all of its employees. In addition, he receives a $1,500 research grant to pursue his own research and studies. Barney's gross income from the above is:

Accepted Answer

The answer of Barney is a full-time graduate student at...

Question 16

Iris collected $150,000 on her deceased husband's life insurance policy. The policy was purchased by the husband's employer under a group policy. Iris's husband had included $5,000 in gross income from the group term life insurance premiums during the years he worked for the employer. She elected to collect the policy in 10 equal annual payments of $18,000 each.

Accepted Answer

The exclusion ratio for the life insurance policy is $150,000/$180,000 = 0.8333. This means that $15,000 of each $18,000 payment is a nontaxable return of principal. The remaining $3,000 ($18,000 - $15,000) must be included in her gross income each year. Thus, choice D is the correct answer.

Question 17

The exclusion for health insurance premiums paid by the employer applies to:

Accepted Answer

The exclusion for health insurance premiums paid by the employer applies to current employees, retired former employees, and their spouses and dependents.

Question 18

As an executive of Cherry, Inc., Ollie receives a fringe benefit in the form of annual tuition scholarships of $10,000 to each of his three children. The scholarships are paid by the company on behalf of the children of key employees directly to each child's educational institution and are payable only if the student maintains a B average.

Accepted Answer

The answer of As an executive of Cherry, Inc., Ollie...

Question 19

Julie was suffering from a viral infection that caused her to miss work for 90 days. During the first 30 days of her absence, she received her regular salary of $8,000 from her employer. For the next 60 days, she received $12,000 under an accident and health insurance policy purchased by her employer. The premiums on the health insurance policy were excluded from her gross income. During the last 30 days, Julie received $6,000 on an income replacement policy she had purchased. Of the $26,000 she received, Julie must include in gross income:

Accepted Answer

The answer of Julie was suffering from a viral infection...

Question 20

Albert had a terminal illness which required almost constant nursing care for the remaining two years of his estimated life, according to his doctor. Albert had a life insurance policy with a face amount of $100,000. Albert had paid $25,000 of premiums on the policy. The insurance company has offered to pay him $80,000 to cancel the policy, although its cash surrender value was only $55,000. Albert accepted the $80,000. Albert used $15,000 to pay his medical expenses. Albert made a miraculous recovery and lived another 20 years. As a result of cashing in the policy:

Accepted Answer

The answer of Albert had a terminal illness which required...

Quiz 5: Gross Income: Exclusions