Lecture 01: Deductions from Gross Income. [Income Taxation]

Summary

In this accounting lecture, the focus is on deductions allowed by tax codes to calculate taxable income. Deductions are only permissible with legislative authorization and are crucial for individuals and corporations in trade or business. The lecture distinguishes between substantiated deductions and those disallowed, emphasizing the importance of legislative grace. It also explores the differences between exclusions, which are income-based, and deductions, which are expense-based. The discussion further delves into the classification of expenditures as either capital or revenue, with capital expenditures benefiting multiple accounting periods and revenue expenditures impacting a single period.

Takeaways

• 📚 Deductions are amounts allowed by the tax code to reduce gross income to taxable income for tax liability calculation.
• 🏢 Deductions are only available to individuals and corporations engaged in trade or business, and individuals exercising a profession.
• 🚫 Not all expenses are deductible; deductions are a matter of legislative grace and must be authorized by law.
• ❌ Wrong deductions are not allowed, emphasizing the importance of substantiation and verification of expenses.
• 🔍 Deductions are categorized and can vary based on the taxpayer's residence, citizenship, and source of income.
• 💡 Deductions are distinct from exclusions, which are not outflows of economic resources but rather adjustments to income.
• 🏭 Capital expenditures are large, non-recurring costs that benefit more than one accounting period and are not immediately expensed.
• 💼 Revenue expenditures are costs that benefit only one accounting period and are recorded as expenses in the period they are incurred.
• 📊 The taxation formula differentiates between exclusions, which reduce taxable income, and deductions, which are reductions from gross income.
• ⏳ The timing of deductions and exclusions can impact the taxpayer's overall tax liability, with some being more favorable depending on the situation.

Q & A

What are the conditions for a taxpayer to claim deductions under the tax code?

A taxpayer can claim deductions if there is a law authorizing such deductions, as per section 24, 25(a), 26(a), 26(c), and 28(a) of the tax code.

Who are typically allowed to claim deductions for trade or business activities?

Individuals and corporations engaged in trade or business, and individuals exercising their professions are typically allowed to claim deductions.

What is the significance of the term 'legislative grace' in the context of tax deductions?

The term 'legislative grace' signifies that a taxpayer can only deduct an item or amount from gross income if there is a specific law that allows it, and without such law, no deduction can be claimed regardless of the expense's nature.

What are the two classic deductions that are not allowed according to the script?

The two classic deductions that are not allowed are those that are not substantiated and those that depend on the taxpayer's residence, citizenship, and source of income.

What does it mean for a deduction to be 'substantiated'?

A deduction is 'substantiated' when there is verifiable evidence that the expense actually occurred, allowing it to be claimed as a deduction.

How does the script differentiate between exclusions and deductions?

Exclusions are considered part of the income taxation formula and are inherently income, while deductions are outflows of economic resources.

What is the difference between capital expenditures and revenue expenditures as per the script?

Capital expenditures are non-recurring and large monetary amounts that typically benefit more than one accounting period, whereas revenue expenditures are recorded and typically benefit just one accounting period.

Why are capital expenditures not considered as expenses for tax purposes?

Capital expenditures are not considered as expenses for tax purposes because they are meant to benefit more than one accounting period, unlike revenue expenditures which are for one period.

What is the script's stance on the necessity of having a law to authorize deductions?

The script emphasizes that deductions can only be claimed if there is a law authorizing them, highlighting the importance of legislative grace in tax deduction allowances.

How does the script suggest comparing exclusions and deductions for tax purposes?

The script suggests comparing exclusions and deductions by understanding that exclusions are part of the income taxation formula and inherently relate to income, while deductions are expenses that reduce taxable income.