Tax Terms

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Tax Terms

By Mark Castro, CPA

Tax Terms and Definitions

401(k) plan

A qualified employer sponsored retirement plan that includes a feature that allows employees to elect to have the employer contribute a portion of the employee’s wages to an individual account under the plan. The underlying plan can be a profit-sharing, stock bonus, pre-ERISA money purchase pension, or a rural cooperative plan.

See the 401(k) Plan Resource Guide page on the IRS website for more information.
A

Accelerated depreciation

Any depreciation method used for accounting or income tax purposes that allows a business or individual to take greater depreciation expenses in the early years of the life of an asset.

A common accelerated depreciation method is the Modified Accelerated Cost Recovery System (MACRS).

See the following on the IRS website for more information:

Instructions for Form 4562 (Depreciation and Amortization)
Publication 946 (How to Depreciate Property)

Acquisition indebtedness

A loan that is used to acquire, build, or improve property such as the taxpayer’s principal residence, a rental property, or any other real property.

Active participation

For tax purposes, active participation usually means that an individual has regular, continuous, and substantial involvement in a business activity.

An individual may still be considered actively participating in an activity without regular, continuous, and substantial involvement in the activity as long as they participated in making management decisions or arranged for others to provide services in a significant and bona fide sense.

See IRS Publication 925 Passive Activity and At-Risk Rules for more information.

Additional child tax credit

This credit is the refundable portion of the Child Tax Credit. It is for certain individuals who cannot claim the full child tax credit because their tax liability is lower than the full child tax credit that they may claim on their federal tax return.

See Schedule 8812 (Credits for Qualifying Children and Other Dependents) instructions for more information.

Adjusted basis

This is the cost of an asset when it was purchased plus the costs incurred for improving the asset less depreciation and other tax credits, or other items that decrease the cost of the asset.

The adjusted basis usually needs to be determined when an asset is sold in order to determine the gain or loss on the sale.

See IRS Publication 551 (Basis of Assets) for a more detailed explanation.

Adjusted Gross Income (AGI)

Adjusted Gross Income is gross income minus adjustments to income.

Gross income includes all income reported on Form 1040, lines 1 – 8. Adjustments to income include all items reported on Form 1040, Schedule 1, Part II.

Adjustments to income

Deductions that are allowed to be taken that reduce the taxpayer’s total income. The result of taking these deductions from total income is the taxpayer’s adjusted gross income.

Examples of adjustments to income are Educator expenses, IRA deduction, deduction for self-employment tax, and student loan interest deduction. A full list of what make up adjustments to income can be found on Form 1040, Schedule 1, Part II.

Adoption credit

This is a federal tax credit for individuals that have qualified expenses when adopting an eligible child. This credit is nonrefundable however any credit that is in excess of an individual’s tax liability may be carried forward for up to 5 years.

An individual can claim this credit by completing Form 8839 (Qualified Adoption Expenses).

See the following on the IRS website for more information:

Advanced earned income tax credit

This was a program that ran from 1978 through 2010. It allowed taxpayers to elect to receive their Earned Income Tax Credit throughout the year rather than waiting to receive in one lump-sum when they filed their tax return.

This program was discontinued in 2010. The main reason it was discontinued was because it was used by less than 3% of eligible taxpayers and more than 80% of individuals who received the advance credit did not meet all of the qualifications to receive it.

Advocate

For tax purposes, an advocate is someone who assists taxpayers who are seeking help to resolve tax problems that they are unable to resolve through normal channels.

The IRS provides the Taxpayer Advocate Service which is an independent organization within the IRS that is committed to assisting taxpayers and championing their rights.

Alimony

Alimony are court ordered payments awarded to a spouse or former spouse within a separation or divorce agreement. Alimony is meant to provide financial support to the spouse who has lower or no income at all.

See IRS Topic No. 452 Alimony and Separate Maintenance for more information on the tax treatment of alimony.

Alternative Minimum Tax (AMT)

The alternative minimum tax applies to higher income taxpayers. It reduces certain exclusions and deductions that the taxpayer may use against their taxable income. The AMT ensures that higher income taxpayers pay at least a minimum amount of tax.

The alternative minimum tax is separate tax that requires certain taxpayers to calculate their tax liability twice – once using ordinary income tax rules and once under AMT. The tax owed is whichever amount is the highest.

This tax is calculated for individuals on Form 6251 (Alternative Minimum Tax – Individuals)

See IRS Topic No. 556 Alternative Minimum Tax or Form 6251 instructions for more details on how it is calculated and who is subject to the Alternative Minimum Tax.

Amended Return

An amended return is used to correct mistakes that were made on a taxpayer’s originally filed federal return. This includes items such as changing the filing status or correcting income, deductions, or credits that were reported on the original return.

A taxpayer would file Form 1040-X (Amended U.S. Individual Income Tax Return) to make any needed corrections to their originally filed Form 1040.

See IRS Tax Tip 2019-150: Some taxpayers may need to amend a tax return…here’s what they should know and/or the Form 1040-X instructions for more details on how to file an amended federal return.

Audit

For tax purposes, an IRS audit is a review/examination of a business’ or individual’s accounts and financial information to ensure information is reported correctly on their income tax return according to the tax laws and to verify the reported amount of tax is correct.

See IRS Audits on the IRS website for more details and FAQs on IRS audits.

Automobile, business use

An individual who uses their car for business purposes may deduct its entire cost of ownership and operation (subject to limits). If the car is used for both business and personal purposes, an individual may only deduct the costs related to its business use.

The individual may choose to deduct their business use of their car by using either the standard mileage rate method or the actual expense method.

See IRS Topic No. 510 Business Use of Car for a more detailed explanation of the two methods for deducting the expenses related to the business use of a car and how to report them on the individual’s federal tax return.

Automobile, donating to charity

The rules for donating a vehicle to a charity for tax purposes are explained on IRS Guidance Explains Rules for Vehicle Donations on the IRS website.

An individual may claim a deduction for the vehicle’s fair market value under the following circumstances:

The charity makes a significant intervening use of the vehicle, such as using it to deliver meals on wheels.
The charity makes a material improvement to the vehicle.
The charity donates or sells the vehicle to a needy individual at a significantly below-market price, if the transfer furthers the charitable purpose of helping a poor person in need of a means of transportation.

Automobile, driving for charity

Individuals that use their car for charitable purposes may take an itemized deduction on their federal tax return. The deduction is calculated using the standard mileage rate of 14 cents per mile for all miles driven in the service of a charitable organization.
B

Bank Product (BP)

A bank product (usually referred to as a refund transfer or RT) is a service provided by a tax preparer that allows the taxpayer to pay their tax preparation fees by way of their tax refund.

As part of their preparation of their tax return, an individual will agree to pay their tax preparation fee and other authorized fees by way of their refund on their tax return. When the return is filed with the IRS, temporary bank account information is included with the return.

When the refund is issued by the IRS, the refund is deposited into the taxpayer’s temporary bank account. Then, the tax preparation fee and other authorized fees are deducted from the tax refund amount and the remaining balance is disbursed to the taxpayer via the disbursement method that they have chosen.

Bargain sale to charity

This is a sale of a good or service to a charitable organization for an amount less than the fair market value of the good or service. A bargain sale is partly a charitable contribution and partly a sale or exchange.

A common bargain sale is a transfer of real estate to a charity. The property transferred is exchanged for other similar property of lesser value of which the difference is considered a gift.

See IRS Publication 526 in the Bargain Sales section for more information on how to figure the amount that is considered a charitable contribution and the part that is considered a sale or exchange.

Basis

Basis is generally the amount of an individual’s capital investment in property for tax purposes. The basis is used to figure depreciation, amortization, depletion, casualty losses, and any gain or loss on the sale, exchange, or other disposition of the property.

In most cases, the basis is what the cost to acquire the property was. The cost is the amount that the individual paid for it in cash, debt obligations, and other property or services.

See IRS Topic No. 703 Basis of Assets and/or IRS Publication 551 (Basis of Assets) for more information.

Below-market-rate loans

A loan that has an interest rate that is below the current applicable federal rate.

An individual may incur imputed interest income on a below-market-rate loan. If this occurs, the imputed interest income is reportable on the individual’s income tax return.

Blind

Unable to see because of injury, disease, or a congenital condition.

Bond premium

A bond premium is the amount the purchase price of a bond exceeds its face value. This occurs when a bond’s stated interest rate is higher than the current market interest rate.

Bonus Depreciation

Bonus depreciation is another name for the additional first year depreciation deduction provided for under the IRS Code.

This is also referred to by the IRS as the special depreciation allowance.

See the IRS Additional First Year Depreciation Deduction (Bonus) – FAQs for more information.

Burden of proof

Burden of proof requires an individual or party to prove an assertion or claim they have made is valid.
C

Cancelled debt

When a debt is forgiven or discharged for less than the full amount the taxpayer owes. The amount of cancelled debt is the amount the taxpayer does not have to pay.

In general, if a taxpayer has a debt cancelled, the amount of cancelled debt is considered income and must be reported on the individual’s tax return in the year it was cancelled.

See IRS Topic No. 431 Cancelled Debt – Is it Taxable or Not? For more information on the taxability of cancelled debt and how to report it.

Capital expenditure

Capital expenditures are funds used by a company or individual to acquire, upgrade, and maintain physical assets such as land, buildings, or equipment.

Capital gain

A capital gain is the profit that an individual has from the sale of property or an investment.

For tax purposes, the sale of property or stock is reported on Schedule D and if the taxpayer realizes a gain on the sale, it is either short-term (property held less than one year) or long-term (property held for longer than one year). A short-term capital gain is taxed as ordinary income and a long-term gain is taxed at the capital gains rate of 0%, 15% or 20% depending on the taxpayer’s taxable income.

See IRS Topic No. 409 Capital Gains and Losses for more information.

Capital loss

A capital loss is the loss an individual has from the sale of property or an investment. A loss occurs if the property or investment was sold at lower price than it was originally purchased for.

For tax purposes, the sale of property or stock is reported on Schedule D (Capital Gains and Losses) and if the taxpayer realizes a loss on the sale, it can be used to offset any capital gains the taxpayer may have.

A taxpayer can only take a maximum net capital loss in any tax year. Any amount over $3,000 may be rolled over to future years.

See IRS Topic No. 409 Capital Gains and Losses for more information.

Capital loss carryover

If the taxpayer has a net capital loss on their tax return, the IRS limits the net loss that may be used to offset other income to $3,000. Any amount over the $3,000 is referred to as a capital loss carryover and may be rolled over to future years.

See the Schedule D instructions under the Capital Losses section for more information.

Casualty loss

A casualty loss occurs when property is damaged or destroyed due to a sudden, unexpected, or unusual event such as a flood, hurricane, tornado, earthquake, fire, or volcanic eruption.

For federal income tax purposes, an individual may only deduct a casualty loss if it was caused by a federally declared disaster or a significant fire.

See Form 4684 (Casualties and Thefts) instructions for more information.

Charitable contribution

A gift of cash or property to a qualified charitable organization.

Charitable contributions are reported on Schedule A (Itemized Deductions). Taxpayers who do not qualify to itemize their deductions may deduct up to $300 ($600 for MFJ) of cash donations that they make during the year as an addition to their standard deduction on Form 1040.

In general, charitable contributions may be deducted up to 50% of an individual’s adjusted gross income. Charitable contributions to certain private foundations, veteran organizations, fraternal societies, and cemetery organizations are limited to 30% of adjusted gross income.

See Charitable Contribution Deductions and Schedule A instructions on the IRS website for information.

Charitable carryovers

Any charitable contribution that exceeds the limit of 50% or 30% of an individual’s adjusted gross income may claim it as an itemized deduction in future years.

Charitable mileage

An individual can deduct, as an itemized deduction, the use of their car for charitable purposes. This includes driving their car to and from any volunteer work. The deduction is 14 cents per mile.

Child and dependent care credit

Taxpayers that paid someone to care for their child or other qualifying person so that they can work or look for work may be able to take a credit for child and dependent care expenses. To claim this credit, they must complete Form 2441 (Child and Dependent Care Expenses).

See IRS Form 2441 instructions and/or IRS Topic No. 602 Child and Dependent Care Credit for more details on the amount of credit available and other details of this credit.

Child support

Court ordered monthly payments, typically made by a noncustodial divorced parent, to support one’s minor child or children. They are intended to cover the child’s (or children’s) living expenses.

Child tax credit

This credit is for individuals who claim a child as a dependent and the child meets additional conditions.

The maximum amount of the credit is $2,000 for each qualifying child with $1,400 of credit potentially being refundable.

A qualifying child must be:

The taxpayer’s son, daughter, stepchild, eligible foster child, brother, sister, stepbrother, stepsister, half-brother, half-sister, or a descendant of any of them
Must be under age 17 at the end of the year
Did not provide more than half of their support
Lived with the taxpayer for more than half the year
Claimed as dependent on the taxpayer’s return
Does not file a joint return for the year
Is a U.S. citizen, U.S. national, or U.S. resident alien

See the 2020 IRS Publication 972 (Child Tax Credit and Credit for Other Dependents) and the Schedule 8812 instructions for more information.

College tax credits

There are two education credits that allow taxpayers with children in college to claim a credit for qualified education expenses paid during the year to an eligible postsecondary educational institution. In order to claim the two credits below, a taxpayer must complete Form 8863 (Education Credits) and include it with their federal tax return.

American Opportunity Credit

The maximum credit is $2,500 of which 40% may be refundable.

The credit is for qualified expenses which include tuition, required enrollment fees, and course materials.

Lifetime Learning Credit

The maximum credit is $2,000 and is fully nonrefundable.

The credit is for qualified expenses which include tuition, required enrollment fees, and course related materials.

See Form 8863 instructions and IRS Education Credits: Questions and Answers on the IRS website for more details on eligibility requirements, AGI limit and other information on these two education credits.

College expense deduction

It was repealed by the Consolidated Appropriations Act of 2021 and is no longer available beginning in 2021.

Combat pay

Combat pay is a tax-exempt monthly stipend paid to all active members of the U.S. armed services who are serving in designated hazardous zones. It is paid in addition to a person’s base pay.

Compensation

Monetary payment given to an individual in exchange for their service. It includes salary, wages, and commission payments made by a business to their employees.

Conservation easements

A conservation easement is a voluntary, legal agreement that permanently limits the use of land in order to protect its conservation values.

It is a legally binding agreement between a landowner and a land trust or government agency where the landowner retains many property rights.

Constructive receipt

For tax purposes, constructive receipt is when a taxpayer is assumed to have received income even if the income has not yet been physically received. Income received by means of constructive receipt must be reported as income on an individual’s income tax return.

Consumer interest

Interest that is charged on consumer credit accounts such as personal loans, auto loans, and credit card debt.

Consumer interest is not deductible as an itemized deduction on an individual’s federal income tax return.

Coverdell education savings account

A Coverdell education savings account (Coverdell ESA) is a trust or custodial account that is set up in the United States solely for the purpose of paying qualified education expenses for the designated beneficiary of the account.

The beneficiary of the account can receive tax-free distributions from the Coverdell ESA to pay for qualified education expenses. The distributions are tax-free to the extent the amount of the distribution does not exceed the beneficiary’s qualified education expenses.

Contributions to a Coverdell ESA must be made in cash and they are not deductible. The maximum contribution that can be made in one year is $2,000.

See IRS Topic No. 310 Coverdell Education Savings Accounts and IRS Publication 970 (Tax Benefits for Education) Chapter 6 for more detailed information.

Coverdell ESA

Another name for Coverdell Education Savings Account.

Credits

For tax purposes, credits are amounts that can be used to reduce the total tax that a taxpayer owes.

See the IRS Credits and Deductions page for examples of credits that are available to individuals.

Credit for qualified retirement savings contributions

An individual may be able to take a tax credit for making eligible contributions to an IRA or employer sponsored retirement plan if their adjusted gross income is less than $34,000.

To claim this credit, an eligible individual must complete Form 8880 (Credit for Qualified Retirement) and attach it to their federal tax return.

See Retirement Savings Contribution Credit (Saver’s Credit) and Form 8880 instructions on the IRS website for more information.
D

Damages

Payments made to an individual in settlement of lawsuit or other legal remedies for personal injury or loss of income.

Types of damages awarded may be for:

Actual damages resulting from a physical injury
Emotional distress damages arising from actual physical or non-physical injury
Punitive damages

Deductions

For tax purposes, a deduction is an item that can be subtracted from an individual’s taxable income. Tax deductions lower the individual’s total taxable income, thereby lowering the amount of tax they will owe.

See Credits and Deductions for Individuals page on the IRS website for examples of deductions that are available to individuals.

Dependent

A dependent is a person who relies on someone else for financial support. A dependent of the taxpayer includes children and other relatives as long as they meet the eligibility tests to be dependent for tax purposes.

A taxpayer who has a dependent can entitle the taxpayer to qualify for certain credits on their income tax return.

See Form 1040 instructions under Who Qualifies as Your Dependent for more details on who qualifies as a dependent for federal tax purposes.

Depreciation

Depreciation is the annual deduction that allows a taxpayer to recover the cost or other basis of their business or investment property over a certain number of years. It starts when the taxpayer first uses the property in their business or for the production of income. It ends when the taxpayer either takes the property out of service, deducts all of their depreciable cost of basis, or no longer uses the property in their business or for the production of income.

See Form 4562 (Depreciation and Amortization) instructions and/or IRS publication 946 for more detailed information.

Direct transfer

For tax purposes, a direct transfer is a transfer of assets from one type of retirement plan to another. It is also referred to as a direct rollover.
E

Earned income

For tax purposes, earned income includes all taxable income and wages an individual receives from working for someone else, themselves, or from a business or farm that they own.

See Earned Income and Earned Income Tax Credit Tables page on the IRS website for examples of income that is considered and not considered earned income by the IRS.

Earned income credit

The earned income tax credit is a tax credit for certain individuals who work and have earned income under a certain amount ($57,414 for 2021). To claim the earned income tax credit, an individual must meet certain rules involving income, must have a valid social security number, be a U.S. citizen or resident alien, and if they have children the children must meet certain qualification rules.

See IRS Publication 596 (Earned Income Credit) for a more detailed explanation of the qualification rules for this credit and how the credit is calculated.

Education interest

For tax purposes, education interest refers to student loan interest. Student loan interest is interest that an individual pays during the year on a qualified student loan. An individual may deduct up to $2,500 as an adjustment to income on their federal tax return they pay each year.

See IRS Topic No. 456 Student Loan Interest Deduction for more details on who can claim this deduction and what the definition of a qualified student loan is.

Education savings account

This is another name for a Coverdell Education Savings Account (Coverdell ESA).

See definition of Coverdell Education Savings Account for more information.

Educator expenses

Eligible educators can deduct up to $250 of qualified expenses that they paid for that are helpful and appropriate for their profession as an educator. It is taken as an adjustment to income on Form 1040, Schedule 1.

An eligible educator is a Kindergarten through grade 12 teacher, instructor, counselor, principal, or aide who worked in a school for at least 900 hours during the school year.

See the Form 1040 instructions under Schedule 1, Adjustments to Income, Educator Expenses for more details on what expenses qualify for this deduction.

Elderly or disabled credit

Federal credit for individuals who are U.S. citizens or a resident alien and they are 65 or older at the end of the year, or the individual was under age 65 at the end of the year and they were retired on permanent and total disability, they received disability income during the year and they had not reached mandatory retirement age at the beginning of the year.

In order to claim this credit, the qualifying individual’s AGI cannot be greater than $17,500 ($25,000 for MFJ) or their total nontaxable social security or other nontaxable pension, annuity, or disability income cannot be greater than $5,000 ($7,500 for MFJ).

An eligible taxpayer may claim this credit by completing Schedule R (Credit for Elderly or the Disabled).

See IRS Publication 524 (Credit for the Elderly or the Disabled) for more details on who qualifies for the credit and how it is calculated.

eFile

Electronic filing is the process of submitting tax returns to the IRS or a State agency through the internet or a direct connection. eFile allows taxpayers and tax preparers to file federal and state tax returns electronically through software programs or online.

To eFile, tax preparers or taxpayers enter tax information into a tax software program. The software checks for completeness and math errors then transmits the return electronically to the IRS or state agency via modem, broadband, or an internet connection.

Employment expenses

Employee business expenses can only be deducted as an adjustment to an individual’s income for specific employment categories such as Armed Forces reservists, qualified performing artists, fee-basis state and local government officials, or employees with impairment-related work expenses. No other type of employee is eligible for claiming a deduction for unreimbursed employee expenses.

Qualifying individuals may claim this deduction by completing Form 2106 (Employee Business Expenses) and attaching it to their federal tax return.

Before 2018, any individual could take a miscellaneous itemized deduction for unreimbursed employee expenses. The Tax Cuts and Jobs Act that became law in 2018 repealed this deduction which means that it was no longer applicable for tax years beginning in 2018.

See Here’s who qualifies for the employee business expense deduction on the IRS website for more information.

Energy credits

A way of allowing a person or organization to pay less tax because they have changed to a system that uses less energy, or to renewable energy.

An example for individuals are the Residential energy credits. See Form 5695 (Residential Energy Credits) instructions for more details.

Enrolled agent

A person who has earned the privilege of representing taxpayers before the IRS by either passing a three-part comprehensive IRS test covering individual and business tax returns, or through experience as a former IRS employee. Individuals who become enrolled agents must adhere to ethical standards and complete 72 hours of continuing education courses every 3 years.

See the IRS Enrolled Agent Information page for more details.

Estate tax

A tax levied on the net value of the estate of a deceased person before distribution to the heirs. The estate tax is a tax on the individual’s right to transfer property at their death. It consists of accounting for everything they own or have interests in at the date of death.

See the Estate Tax page on the IRS website for more information.

Estimated tax

Individuals and businesses must pay taxes as they earn or receive income, either through withholding or estimated tax payments. Estimated tax payments are used to pay the tax an individual may owe based on estimating what their income will be and estimating what the tax will be for the year. Estimated payments are four payments usually made on or by April 15, June 15, September 15 and January 15 for individuals.

See the Estimated Taxes page on the IRS website for more information on who must pay estimated taxes, the consequences of not paying, and how to figure and make estimated payments.

Excess Social Security tax withheld

An individual who works for an employer will have Social Security Tax withheld from their wages. There is a limit as to the amount of earnings that are subject to Social Security Tax. Excess Social Security tax withholding usually occurs when an individual had more than one job during the year and their total wages exceed the Social Security earnings limit. In this case, they will have had too much Social Security tax withheld from their wages. When this occurs, an individual may claim a refund for the amount withheld that exceeded the maximum amount. An individual may do this by including the excess on Form 1040, Schedule 3, Part II (Other Payments and Refundable Credits), line 11.

See IRS Topic No. 608 Excess Social Security Tax and RRTA Tax Withheld for more details.

Exemption

An exemption is a dollar amount that can be deducted from an individual’s total income which will also reduce their taxable income.

The Tax Cuts and Jobs Act suspended for tax years 2018 – 2025 the ability for an individual to claim an exemption for themselves or their qualifying dependents.

Expensing

For tax purposes, expensing refers to full expensing which allows businesses to deduct the most or all of the cost of certain investments in improved technology, equipment, and buildings in the year they are acquired. Examples are bonus depreciation and the Section 179 deduction.
F

Fellowships

For tax purposes, fellowships are amounts paid for the benefit of an individual in the pursuit of study or research. Fellowship payments are generally not taxable income to the individual that receives it as long as it is received by a qualified person and is used for qualified expenses as defined by the IRS.

See IRS Topic No. 421 Scholarships, Fellowship Grants and Other Grants for more information on when fellowship payments are not taxable and when they are taxable.

FICA

The Federal Insurance Contributions Act (FICA) is a U.S. law that mandates a payroll tax on the wages of employees, as well as contributions from employers, to fund the Social Security and Medicare programs.

Filing status

Filing status is defined as a category that determines an individual’s filing requirement, standard deduction, eligibility for certain credits, and amount of tax. It is closely tied to their marital status. For federal tax purposes, a taxpayer falls under one of five filing status’: single, married filing jointly, married filing separately, head of household, and qualifying widow(er) with dependent children.

See IRS Publication 501 (Dependents Standard Deduction, and Filing Information) or the Form 1040 instructions for more information.

First-time homebuyer credit

The first-time homebuyer credit was a credit that was available to taxpayers in tax years 2008 – 2010. The credit was up to $7,500 in 2008 and $8,000 for 2009 and 2010. The first-time homebuyer credit expired for any purchases after September 30, 2010.

Flexible spending account

A health Flexible Spending Arrangement (FSA) allows employees to be reimbursed for medical expenses. FSAs are usually funded through voluntary salary reduction agreements with an individual’s employer. No employment or federal income taxes are deducted from their contribution. The employer may also contribute. The amount of salary reduction contributions to a health FSA is limited each year to $2,750 (or any lower amount set by the plan). The maximum amount is indexed for inflation and may change from year to year.

See IRS Publication 969 (Health Savings Accounts and Other Tax-Favored Health Plans), Flexible Spending Arrangements (FSAs) section for more details on what the benefits of FSAs are and other information on FSAs.

Forgiven debt

A debt is forgiven when a lender forgives either all or some of a borrower’s outstanding balance on their loan or credit account.

Foster child

For tax purposes, a foster child is someone who is placed with the taxpayer by judgement, court order, or an authorized placement agency (state or local government organization).
G

Gift tax

The federal gift tax applies to lifetime transfers of property from one person (donor) to another person (donee). A gift is made if tangible or intangible property (including money), the use of property, or the right to receive income from property is given without expecting to receive something of at least equal value in return. There is an exclusion of $15,000 that applies to each person to whom a gift is made. The exclusion is subject to a cost-of-living increase each year.

If an individual is subject to gift tax, they must complete Form 709 (United States Gift Tax Return) and file the return no earlier than January 1, but not later than April 15, of the year the gift was made.

See IRS Frequently Asked Questions on Gift Taxes for more information.

Gross income

For tax purposes, gross income is defined as all income from whatever source it is derived. It includes an individual’s wages, dividends, capital gains, business income, rental income, retirement distributions, as well as other income.

For a list of other income items included in gross income see the Form 1040 instructions.
H

Head of household

Head of Household is one of the five available filing status’s that an individual may use when filing their federal income tax return. An individual may use the head of household filing status if they meet all of the following:

The taxpayer is unmarried or considered unmarried on the last day of the year.
The taxpayer paid more than half the cost of keeping a home for the year.
A qualified person (usually a dependent child) lived with the taxpayer for more than half the year. If the qualifying person is a dependent parent; they do not have to live with the taxpayer.

See the Form 1040 instructions and/or IRS Publication 501 (Dependents, Standard Deduction, and Filing Status Information) for more details.

Health Savings Account (HSA)

A type of saving account that allows an individual to set aside money on a pre-tax basis to pay for qualified medical expenses. To be eligible to set up a health savings account, an individual must be:

Covered under a high deductible health plan on the first day of the month
Have no other health coverage except what is permitted under the IRS HSA rules
Are not enrolled in Medicare
Cannot be claimed as a dependent on someone’s tax return for the tax year

See IRS Publication 969 (Health Savings Accounts and Other Tax-Favored Health Plans) for more details.

Highly-paid individuals

For retirement plan purposes, a highly-paid (compensated) employee is an individual who:

Owned more than 5% of the interest in a business at any time during the year or the preceding year, regardless of how much compensation that person earned or received;Or
For the preceding year, received compensation from the business of more than $130,000 and if the employer so chooses, was in the top 20% of employees when ranked by compensation.

Hobby loss rule

A hobby loss refers to a loss that results from a business deemed to be a recreational activity or a hobby by the IRS. The IRS defines a hobby as any activity undertaken for pleasure rather than for a profit. Under the hobby loss rule, losses are not allowed for expenses in excess of income. A profit must be demonstrated in three out of five years for any activity that the IRS may consider to likely not be engaged in for profit.

Holding period

The amount of time between when an asset is purchased and when it is sold. The holding period determines whether the gain or loss on an asset is considered a short-term or long-term capital gain or loss.

Homebuyer credit

Another name for the first-time homebuyer credit. The first-time homebuyer credit was a credit that was available to taxpayers in tax years 2008 – 2010. The credit was up to $7,500 in 2008 and $8,000 for 2009 and 2010. The first-time homebuyer credit expired for any purchases after September 30, 2010.

Home equity loans

A home equity loan, also known as a second mortgage, is a type of consumer debt that allows a homeowner to borrow against the equity in their home.

Home office expenses

For tax purposes, the home office deduction allows an individual to deduct the portion of their home that is used regularly and exclusively for business purposes. There are two methods that may be used:

Simplified calculation – Allows taxpayer to deduct $5 per square foot that is used for business up to a maximum of $1,500.
Regular method – Allows taxpayer to deduct actual expenses, including depreciation for the portion of home used for business purposes.

See the Schedule C instructions under Business Use of Your Home section for more details.

Home sale profit

If the taxpayer has a capital gain from selling their main home, they may be able to qualify to exclude up to $250,000 ($500,000 for MFJ) of that gain from their taxable income. To qualify for the exclusion, the taxpayer must have owned and used the home as their main home for a period aggregating at least two years out of the last five years prior to the sale. The sale of the home must be reported on Schedule D even if the taxpayer can exclude all of the gain on the sale of their home.

See IRS Topic No. 701 Sale of Your Home and Publication 523 (Selling Your Home) for how to report the sale of the taxpayer’s home, take the exclusion, and other information.

Hope credit

The hope scholarship credit is now called the American Opportunity credit. This credit can be claimed for the first 4 years of college (postsecondary) for an eligible student. The student must be pursuing a program leading to a degree and must be enrolled at least half-time for at least one academic period during the year. The maximum credit is $2,500 of which 40% may be refundable.

The credit is for qualified expenses which include tuition, required enrollment fees, and course materials. An eligible taxpayer must complete Form 8863 (Education Credits) and attach it to their federal return to claim this credit.

See the American Opportunity Tax Credit page and the Form 8863 instructions for more information on this credit.

Household employees

An individual who is paid to provide a service within their employer’s residence. An individual has a household employee if they hired someone to do household work and that worker is their employee.

See IRS Publication 926 (Household Employer’s Tax Guide) for more information on the tax consequences of having a household employee.
I

Imputed interest

For tax purposes, imputed interest is used by the IRS to collect taxes on loans and securities that pay little or no interest. Imputed interest applies to family loans and other personal and business loans at no interest rate or an interest rate the IRS considers too low.

Imputed interest is interest that a lender is assumed to have received and must report as income on their federal return regardless of whether they received it.

Incentive stock option

An incentive stock option (ISO) is a corporate benefit that gives the employee the right to buy shares of company stock at a discounted price at a future date. Any profit on qualified ISOs is usually taxed at the capital gains rate. Non-qualified stock options are taxed as ordinary income.

Indexing

For tax purposes, indexing is a method of tying taxes, wages, or other rates to an index to preserve the public’s purchasing power during periods of inflation. The most common indexing for tax purposes is inflation indexing which refers to the automatic cost-of-living adjustments that are built into tax provisions, such as for the standard deduction.

Individual 401(k) plan

Individual Retirement Account (IRA)

An individual retirement account (IRA) is a tax-deferred savings account that helps an individual save for retirement. There are annual income limitations for deducting contributions to traditional IRAs and for contributing to Roth IRAs. There are also maximum amounts that can be contributed each year. The types of IRAs are traditional IRAs, Roth IRAs, SEP IRAs and SIMPLE IRAs. Money that is held in an IRA usually cannot be withdrawn before age 59 ½ without incurring a penalty of 10% of the amount withdrawn.

See the Individual Retirement Arrangements (IRAs) page on the IRS website for more information.

Individual retirement arrangement

Another name for an Individual Retirement account.

IRA payouts for first-time homebuyers

Up to $10,000 of any early distribution (before age 59 ½) from an IRA is not subject to the 10% penalty if the distribution is used to buy, build, or rebuild a first home for the taxpayer, spouse, a parent, grandparent, or the taxpayer or spouse’s child or grandchild.

See IRS Publication 590-B (Distributions from Individual Retirement Arrangements) for more information.

IRA withdrawals for education

If an early distribution (before age 59 ½) from an IRA is used to pay for higher education expenses, it may not be subject to the 10% penalty for an early distribution. The amount of an early distribution for higher educational purposes that is not subject to the 10% penalty if the distribution is used to pay for qualified higher education expenses such as tuition, fees, books, supplies, and equipment required for the enrollment or attendance of a student at an eligible educational institution.

See IRS Publication 590-B (Distributions from Individual Retirement Arrangements) for more information.

Innocent-spouse rules

By requesting innocent spouse relief, an individual can be relieved of responsibility for paying tax, interest, and penalties if their spouse (or former spouse) improperly reported items or omitted items on their joint tax return.

See the Innocent Spouse Relief page on the IRS website for more details.

Installment sale

An installment sale is a sale of property where the taxpayer will receive at least one payment after the tax year in which the sale occurs. Individuals are required to report any gain on an installment sale using the installment method unless the individual “elects out” on or before the due date of filing their income tax return for the year of the sale.

See IRS Topic No. 705 Installment Sales and IRS Publication 537 (Installment Sales) for more information.

Internal Revenue Service

The Internal Revenue Service is the U.S. government’s agency that is responsible for the collection of taxes and the enforcement of the tax laws. It was established in 1862 and it operates under the authority of the U.S. Department of Treasury.

See The Agency, its Mission and Statutory Authority on the IRS website for more information.

Investment interest

For tax purposes, a taxpayer’s investment interest expense is any amount of interest that is paid on a loan where the proceeds were used to purchase investments or securities. An individual may deduct investment interest expense as an itemized deduction. The total deduction is limited to their net investment income. Any amount of interest expense that is disallowed may be carried forward to the next tax year.

To claim this deduction, an individual must complete Form 4952 (Investment Interest Expense Deduction).

See the Form 4952 instructions for more details.

Itemized deductions

For tax purposes, itemized deductions are expenses that an individual may deduct to reduce their taxable income. Itemized deductions include medical expenses, taxes, mortgage interest, charitable contributions, and other expenses that are listed in the Schedule A instructions. Taxpayers may use itemized deductions if their total allowable itemized deductions are greater than their standard deduction.
J

Job-hunting costs

These are costs that an individual incurred when they were looking for a job. These include qualified travel expenses for interviewing, unreimbursed job agency placement fees, resume preparation, and postage. These costs are no longer allowed as a 2% miscellaneous itemized deduction. The Tax Cuts and Jobs Act disallowed this deduction for the years 2018 – 2025.

Job-related education

Also known as work-related education. It is education that maintains or improves skills required by an employee in his or her current job or is required by an employer or by law for the employee to keep his or her current job. A taxpayer may be able to deduct the cost of work-related education expenses that they pay if they are a:

Self-employed individual
Qualified performing artist
Fee-based state or local government official
Disabled individual with impairment-related education expenses

See IRS Topic No. 513 Work-Related Education Expenses for more information.

Job-related move

Costs related to a job-related move are only deductible as an adjustment to income on Form 1040 if the taxpayer is a member of the Armed Services on active duty and, due to a military order, they move because of a permanent change of station. Eligible military members must complete Form 3903 (Moving Expenses) and attach it to their federal tax return to claim this deduction.

Jury duty pay repaid to employer

An employer may require an employee who does jury duty to turn over any jury duty pay they receive from the court. For tax purposes, an individual would show any jury duty they received as income on Form 1040, Schedule 1, line 8g and show the repayment of the jury duty to the employer as adjustment to income on Form 1040, Schedule 1, line 24a.

See the Form 1040 instructions for more information.
K

Keogh plan

Retirement plans for self-employed individuals were referred to as “Keogh plans” after the law that first allowed unincorporated businesses to sponsor plans. Since the law no longer distinguishes between corporate and other plan sponsors, this term is seldom used any longer.

Kiddie tax

The kiddie tax is a type of tax that was created to prevent parents from avoiding taxes by shifting investments to their children. The kiddie tax applies to most unearned income that a child receives. This unearned income over a threshold amount is taxed at the parent’s marginal income tax rate instead of the child’s lower tax rate. It applies to all children under the age of 18 years of age or dependent full-time students between the ages of 19 and 24.

See IRS Topic No. 533 Tax on Child’s Investment income and Other Unearned Income (Kiddie Tax) for more details on this special tax.
L

Lifetime learning credit

The lifetime learning credit is one of the two education credits available to taxpayers. This credit can be claimed for a student for any years of postsecondary education and for someone taking courses to acquire or improve their job skills. Credit is available for students who take one or more courses. The maximum credit is $2,000 and is fully nonrefundable. The credit is for qualified expenses which include tuition, required enrollment fees, and course related materials.

See Form 8863 instructions and IRS Education Credits: Questions and Answers on the IRS website for more details on eligibility requirements, AGI limit, and other information on the Lifetime Learning Credit.

Like-kind exchange

When an individual exchanges real property used for business or held as an investment solely for another business or investment property that is of the same type (like-kind). Generally, if an individual makes a like-kind exchange, they are not required to recognize a gain or loss under Internal Revenue Code Section 1031. If, as part of the exchange, an individual also receives other (not like-kind) property or money, they must recognize gain to the extent of the other property and money received. An individual cannot recognize a loss on a like-kind exchange.

Under the Tax Cuts and Jobs Act, like-kind exchange rules only apply to exchanges of real property. They do not apply to exchanges of personal or intangible property. An exchange of real property that is held primarily for sale does not qualify for a like-kind exchange.

Individuals report like-exchanges on Form 8824 (Like-Kind Exchanges).

See Like-Kind Exchanges – Real Estate Tax Tips on the IRS website for more information.

Limited partnerships

A limited partnership is a form of partnership in which some of the partners contribute only financially. The partnership is made up of at least one general partner and at least one limited partner. Limited partners have little or no involvement in the management of the partnership. They also have limited liability, which means they are not liable for business debts that exceed their initial investment.

Listed property

Listed property is any depreciable asset a business uses that can be used for business or personal uses. In order to be considered listed property, it must be used for business purposes more than 50% of the time. Examples of listed property are computers, vehicles and recording equipment.

See Form 4562 instructions and IRS Publication 946 (How to Depreciate Property) for more information.

Long-term care insurance premium

Long-term care insurance is an insurance policy that serve people with chronic medical conditions or disabilities who need assistance with daily life activities. The annual premium for long-term care insurance varies by gender, marital status, health condition, and the carrier and policy that an individual chooses.

The premiums paid for tax-qualified long-term care insurance policies may be deducted as a medical itemized deduction on Schedule A of the individual’s federal tax return. The amount of qualified long-term care premiums that can be included as medical expenses is limited based on the age of the taxpayer.

See IRS Publication 502 (Medical and Dental Expenses) for more information on what the limits are and the definition of tax-qualified long-term care insurance is.

Long-term gain or loss

A long-term gain or loss occurs when an asset is sold after it has been owned for 1 year or longer. A long-term capital loss is taxed at capital gains rates.
See IRS Topic No. 409 Capital Gains and Losses for more information.

Lump-Sum distribution

For tax purposes, a lump-sum distribution is the payment to the taxpayer of the entire balance of their balance in their employer’s qualified plan (usually a retirement plan). A taxpayer has five options when receiving a lump-sum distribution from their employer’s qualified plan, which range from rolling it over into an IRA to having it taxed using different methods.

See IRS Topic No. 412 Lump-Sum Distributions for more information.

Luxury car rules

For tax purposes, a luxury vehicle is four-wheeled used mostly on public roads, and has an unloaded gross weight of no more than 6,000 pounds. There is a limit on the amount of depreciation that can be taken each year on a luxury car that is used for business purposes. The limits that are in place for December 31, 2017 and December 31, 2026 (with adjustments for inflation as needed) are:

$10,000 for the first year ($10,200 for 2021)
$16,000 for the second year ($16,400 for 2021)
$9,600 for the third year ($9,800 for 2021)
$5,760 for each subsequent year ($5,860 for 2021)

If bonus depreciation is elected, then the first-year limit is $18,000 ($18,200 for 2021).
M

Margin interest

Interest that is due on loans made between an individual and their broker concerning the individual’s portfolio’s assets. This type of interest occurs when an individual trades stock on margin. Which means that the individual borrows money from the broker to buy a stock by paying only a percentage of the stock’s value with the remaining amount of the cost being borrowed.

Marginal tax rate

The rate of tax an individual pays on each additional dollar of income. Marginal tax rates are separated by income levels. Under the U.S. tax system, the present marginal tax rates for individuals are 10%, 12%, 22%, 24%, 32%, 35% and 37%.

Marital deduction

For estate tax purposes, the marital deduction is a provision that allows an individual to transfer an unrestricted amount of assets to their spouse at any time, including at the death of the transferor, without penalty or tax.

Market discount

A market discount is the difference between an asset’s stated redemption price and its lower price in the secondary market. Market discounts are most often applied to bonds that trade below par value. Market discounts can occur due to changes in interest rates or other factors that influence the perception of its risk.

Married filing jointly

Filing status that may be used to file an income tax return when an individual is married. If filing jointly, all income, deductions, and credits for both the taxpayer and spouse is reported on the income tax return.

See IRS Publication 501 (Dependents Standard Deduction, and Filing Information) or the Form 1040 instructions for more information.

Married filing separately

Filing status that may be used to file an income tax return when married couples choose to include their income, deductions, and credits on separate returns.

See IRS Publication 501 (Dependents Standard Deduction, and Filing Information) or the Form 1040 instructions for more information.

Master limited partnerships (MLP)

A master limited partnership is a business that is organized as a publicly traded partnership. This type of partnership trades on national exchanges. Master limited partnerships are limited to the natural resources and real estate sectors.

Material participation

For tax purposes, material participation means that an individual materially participates in a trade or business activity. An individual materially participates in a trade or business if they meet any of the following tests for a tax year:

Participated in the activity for more than 500 hours
The individual’s participation was substantially all the participation in the activity of all the individuals for the tax year
Participated in the activity for more than 100 hours and the individual participated as much as any other individual
The activity is a significant participation activity and the individual participated in all significant activities for more than 500 hours
Materially participated in the activity for any 5 or the immediately preceding 10 years.
The activity is a personal service activity in which the individual materially participated for any 3 preceding years
Based on all the facts and circumstances, the individual participated in the activity on a regular, continuous, and substantial basis during the year

See IRS Publication 925 (Passive Activity and At-Risk Rules) for more information.

Medicare tax

Medicare taxes fund hospital, hospice, and nursing home expenses for elderly and disabled individuals. Medicare taxes are withheld from an employee’s paycheck or paid as self-employment tax. Medicare taxes pay for Part A of the Medicare program, which includes hospital insurance for individuals age 65 or older and people who have certain disabilities or medical conditions.

Mid-month convention

For fixed assets, the mid-month convention is depreciation convention that assumes that they have been purchased in the middle of the month for depreciation purposes.

Mid-quarter convention

For depreciation of fixed assets, federal tax law allows a business to elect to use the mid-quarter convention. This assumes that fixed assets are acquired at the mid-point of the quarter in which they were acquired.

Mileage rate

For tax purposes, the mileage rate refers to the standard mileage rate which is the default cost per mile set by the IRS. Taxpayers can use the standard mileage rate to deduct the cost of using their personal vehicle for business, charitable, or medical purposes.

Modified adjusted gross income

An individual’s modified adjusted income is their adjusted gross income after adding back certain deductions. Modified adjusted gross income is used to determine whether an individual is eligible for certain deductions, credits, or for making contributions to such things as an IRA.

Mortgage interest

Generally, mortgage interest is any interest an individual pays on a loan secured by their main home or second home. The loan may be a mortgage to buy a home, or a second mortgage.

Moving expenses

Moving expenses are any expenses related to moving from one place to another. For tax purposes, moving expenses refers to the costs related to a job-related move. Moving expenses are only deductible as an adjustment to income on Form 1040 if the taxpayer is a member of the Armed Services on active duty and, due to a military order, they move because of a permanent change of station.

Eligible military members must complete Form 3903 (Moving Expenses) and attach it to their federal return to claim this deduction.

Multiple-support agreement

A multiple support agreement is a document which is signed by two or more taxpayers who provide the financial support for a single dependent. This agreement allows several persons who jointly support a dependent to take turns claiming this person as a dependent on their tax returns.
N

Nanny tax

The nanny tax is the tax paid by individuals who hire household help and pay them above a certain threshold set by the IRS. Individuals who have a household employee must withhold and pay social security and Medicare taxes if they paid cash wages of $2,300 or more during the year to any one household employee. They also must pay the Federal Unemployment Tax.

An individual must complete Schedule H (Household Employment Taxes) if they paid a household employee more than $2,300 during the year and pay any taxes due either by filing Schedule H by itself or with their federal tax return.

See the Schedule H instructions for information on who needs to file this form, the definition of a household employee and other requirements if an individual has a household employee.

Net Unrealized Appreciation (NUA)

Net unrealized appreciation (NUA) is the difference between the average cost basis of shares of employer stock and the current market value of the shares. For tax purposes, the IRS allows the NUA to be taxed at the capital gains rate when the stock is distributed to an employee. The employee must make an election for the NUA to be taxed at the capital gains rate.

The NUA election is only available when an individual receives a lump-sum distribution from their retirement account that includes appreciated employer securities. The taxpayer will be taxed at ordinary income tax rates on the plan’s cost basis of the securities in the year of distribution or they may make the NUA election to pay the tax on NUA at the long-term capital gains rate when they sell the securities.

The NUA election is only available when the stock is placed into a tax deferred account such as a 401(K) or traditional IRA and is only applicable to the stock of the company for which the individual is employed or was employed.

Nonbusiness bad debt

A nonbusiness bad debt is any loss from the worthlessness of a debt that was not created or acquired in a trade or business or was not closely related to an individual’s trade of business when it became worthless. A nonbusiness bad debt must be totally worthless to be deductible as a short-term capital loss on an individual’s federal income tax return.

See IRS Topic No. 453 Bad Debt Deduction for more information.

Noncash contributions

A noncash contribution is any contribution to a charitable organization that is not made in cash. It is usually a gift of property such as clothes, books, household items, cars, or art to a charitable organization.

Nonqualified stock options

Stock options that do not receive favorable tax treatment when they are exercised. Gains from non-qualified stock options are taxed as ordinary income. A non-qualified stock option is a type of employee stock option in which an individual will pay ordinary income tax on the difference between the grant price and the price at which the individual exercises the option.

Nontaxable income

Nontaxable income is income that is not subject to income tax.

See IRS Publication 525 (Taxable and Nontaxable Income) for examples of what types of income are considered nontaxable.
O

Out-of-pocket charitable contributions

Expenses that an individual incurs when volunteering their services to a charitable organization. Any qualified charitable out-of-pocket expenses may be deducted as a charitable contribution on an individual’s federal tax return as an itemized deduction.

See IRS Publication 526 (Charitable Contributions) for more information on which out-of-pocket expenses may qualify as a charitable contribution.

Original Issue Discount (OID)

The discount in the price from a bond’s face value at the time a bond or other debt instrument is first issued. The original issue discount is the difference between the original face value and the price paid for the bond.

See IRS Publication 1212 (Guide to Original Issue Discount (OID) Instruments) for the tax implications of original issue discounts.
P

Passive-loss rules

Generally, losses from passive activities that exceed income from passive activities are disallowed for the current year. Individuals can carry disallowed passive losses forward to the next tax year. Passive activities are defined as trade or business activities in which an individual does not materially participate in. They also include rental activities, including real estate rental activities, even if the individual materially participates in them.

See IRS Topic No. 425 Passive Activities – Losses and Credits and IRS Publication 925 (Passive Activity and At-Risk Rules) for more information.

Permanent and total disability

A disability in which an injured individual is incapable of engaging in any substantial gainful activity by reason of any medically determinable physical or mental impairment which can be expected to lead to death or which has lasted, or can be expected to last, for a continuous period of not less than one year. For work purposes, permanent and total disability is a condition in which an individual is no longer able to work due to injury.

Personal exemption

A personal exemption is an amount that an individual can deduct for themselves and each of their dependents from their tax return.

The Tax Cuts and Jobs Act suspended for tax years 2018 – 2025 the ability for an individual to claim an exemption for themselves or their qualifying dependents.

Personal interest

For tax purposes, personal interest refers to interest paid on personal loans. Examples are loans for a car and credit card interest. Interest paid on personal loans is not deductible as an itemized deduction on an individual’s federal tax return.

Points

The term points is used to describe certain charges paid to obtain a home mortgage. Points may also be called loan origination fees, maximum loan charges, loan discount or discount points. Points are prepaid interest and may be deductible as home mortgage interest if an individual can itemize on their federal tax return.

See IRS Topic No. 504 Home Mortgage Points for more details.

Preference items

A tax preference item is a type of income that is normally received tax-free, that may trigger the alternative minimum tax for taxpayers. A tax preference item also includes items that would normally be tax-deductible but is not for purposes of the alternative minimum tax. The total amount of tax preference items are added back to taxable income when calculating the alternative minimum tax.

See Form 6251 (Alternative Minimum Tax – Individuals) for examples of preference items and how the alternative minimum tax is calculated.

Prizes and awards

Prizes and awards are products, money, gift certificates, etc. that are awarded to an individual for any reason. Prizes and awards are considered taxable income and must be reported on an individual’s tax return. The value of nonmonetary prizes or awards that must be reported as income is their fair market value at the time they are given to the individual.

Premature distribution

For tax purposes, a premature distribution (also known as an early withdrawal) is any distribution from and individual retirement account, 401(k) investment account, a tax deferred annuity or another qualified retirement-savings plan that is paid to an individual who is younger than 59 ½ years old. Individuals must pay an additional 10% early withdrawal tax (penalty) on premature distributions unless an exception applies.

See IRS Retirement Topics – Exceptions to Tax on Early Distributions for more details on what exceptions are available.

Property taxes

Tax paid on property owned by an individual or other legal entity. Property taxes are usually based on the value of the owned property, including land. Property taxes are calculated by the local government where the property is located. Property taxes are deductible as an itemized deduction on an individual’s tax return.

See the Schedule A instructions for more information on the deductibility of property taxes as an itemized deduction on an individual’s federal tax return.

Proprietorship

For tax purposes, a proprietorship usually refers to a sole proprietor who is someone who owns an unincorporated business by themselves. Sole proprietors must complete a Schedule C (Profit or Loss from Business (Sole Proprietorship)) and include all items of income and expense related to their business in order to determine their income or loss each year.
Q

Qualified plan

A qualified plan is a qualified retirement plan that meets the requirements of Internal Revenue Code Section 401(a) and offers certain tax benefits. Examples of qualified retirement plans include 401(k), 403(b) and profit-sharing plans.

See IRS Guide to Common Qualified Plan Requirements for more information.

Qualifying widow(er)

A filing status that allows a surviving spouse to use the married filing joint tax rates on their individual tax return. The Qualifying widow(er) filing status may be used for the two years following the death of a spouse. To qualify a taxpayer must:

Be entitled to file a joint return for the year the spouse died
Have had a spouse that died in either of the two prior years
Have a child, stepchild, or adopted child who qualifies as the taxpayer’s dependent for the year or would qualify as the taxpayer’s dependent except they do not meet the gross income test, or does not meet the joint return test, or except that the taxpayer may be claimed as a dependent of another taxpayer
Live with this child in taxpayer’s home all year
Have paid more than half the cost of keeping up the home for the year

See IRS Publication 501 (Dependents Standard Deduction, and Filing Information) or the Form 1040 instructions for more information.
R

Real estate taxes

A tax that is based on the value of buildings and land. It is paid on property owned by an individual or entity that owns the building and land. Real estate taxes are also referred to as property taxes. Real estate taxes are calculated by the local government where the property is located. Real estate taxes are deductible as an itemized deduction on an individual’s tax return.

See the Schedule A instructions for more information on the deductibility of real estate taxes as an itemized deduction on an individual’s federal tax return.

Recapture of depreciation

Depreciation recapture is the portion of the gain when a depreciable asset is sold that is taxed at ordinary income tax rates. Since the depreciation expense taken on an asset lowers the ordinary income of a company or individual, when the asset is sold for a gain, the ordinary income tax rates are applied to the amount of depreciation expense previously taken on the asset rather than the more favorable capital gains tax rate.

See IRS Publication 544 (Sales and Other Dispositions of Assets) under Depreciation Recapture for more information.

Reimbursement account

For tax purposes, a reimbursement account refers to a health reimbursement arrangement (plan). A health reimbursement account is an IRS approved, tax advantaged, health benefit plan that reimburses an employee for certain medical expenses that they have to pay themselves.

A health reimbursement arrangement is a plan set up by an employer to cover medical expenses of its employees. The employer decides how much it will put into the plan and employee requests reimbursement for actual medical cost that they incur up to the amount in their account.

Retirement saver’s credit

The retirement savings contribution credit is a tax credit for mid and low-income taxpayers who make contributions to a retirement account. The tax recredit is worth up to $1,000 ($2,000 for MFJ) per year. Individuals who are eligible for the credit must be 19 or older, not be a student or claimed as dependent on another person’s return. The amount of credit depends on the individuals adjusted gross income.

See IRS Retirement Savings Contributions Credit (Saver’s Credit) and Form 8880 (Credit for Qualified Retirement Savings Contributions) for more information.

Rollover

For tax purposes, a rollover occurs when an individual withdraws cash or other assets from one eligible retirement plan and contributes all or part of it, within 60 days, to another eligible retirement plan. A rollover transaction is not taxable but is reportable on the individual’s income tax return.

See IRS Topic No. 413 Rollovers from Retirement Plans for further information on rollovers.

Roth 401(k)

A Roth 401(k) is an employer-sponsored retirement savings account that is funded using after tax dollars. Contributions to a Roth 401(k) are taxed immediately, however, the earnings on the account over the years and withdrawals made after retirement are tax free.

Roth IRA

A Roth IRA is an IRA in which the contributions to it are not deductible as an adjustment to income on an individual’s tax return. When the individual begins to make withdrawals when they retire, they will not be taxed since the contributions were taxed when they were made.

A Roth IRA is subject to the same rules as a traditional IRA except:

Individual cannot deduct contributions on their tax return
Qualified distributions are tax-free
An individual can make contributions to a Roth IRA after they reach age 70 ½
An individual can leave the balance in their Roth IRA for as long as they live

The same contribution limit applies to a Roth IRA as for a traditional IRA.

See IRS Roth IRAs for more information.

RT

An RT refers to a refund transfer. A refund transfer (RT) is a non-loan bank product that a taxpayer can elect to use in order to pay their tax preparation fee and other amounts by deducting it from their tax refund amount.
As part of their preparation of their tax return, an individual will agree to pay their tax preparation fee and other authorized fees by way of their refund on their tax return. When the return is filed with the IRS, temporary bank account information is included with the return.

When the refund is issued by the IRS, the refund is deposited into the taxpayer’s temporary account. Then, the tax preparation fee and other authorized fees are deducted from the tax refund amount and the remaining balance is disbursed to the taxpayer via the disbursement method that they have chosen.
S

S corporation

A corporation that elects to pass corporate income, losses, deductions, and credits through to their shareholders for federal income tax purposes. Shareholders of S Corporations report the flow-through on income and losses on their personal income tax returns and are taxed on this income at their individual income tax rate.

See the S Corporations page on the IRS website for more information.

Sales taxes

A tax imposed by the government on the sale of goods and services. A conventional sales tax is imposed at the point of sale and is collected by the retailer and passed on to the government. A sales tax is usually calculated as a percentage of the purchase price.

Saver’s credit

The saver’s credit is another name for the retirement savings contribution credit. The retirement savings contribution credit is a tax credit for mid and low-income taxpayers who make contributions to a retirement account. The tax recredit is worth up to $1,000 ($2,000 for MFJ) per year. Individuals who are eligible for the credit must be 19 or older, not be a student or claimed as dependent on another person’s return. The amount of credit depends on the individuals adjusted gross income.

See IRS Retirement Savings Contributions Credit (Saver’s Credit) and Form 8880 (Credit for Qualified Retirement Savings Contributions) for more information.

Salary reduction plan

A pension plan that allows employees to draw from their salaries to make contributions to their retirement accounts. A salary reduction contribution to a retirement plan is generally made as a percentage of an employee’s compensation. The contributions are pre-tax which means that they reduce the individual’s taxable income upfront with distributions taxed when they are withdrawn when the employee retires.

Schedules

For tax purposes, a schedule is a form the IRS requires a taxpayer to complete in addition to the main Form 1040 of their tax return when they have certain types of income, deductions, or credits. A schedule is used to report additional calculations or supporting details for amounts reported on an individual’s tax return.

Scholarships and fellowships

A scholarship is generally an amount paid or allowed to a student at an educational institution for purpose of study. A fellowship grant is generally an amount paid or allowed to an individual for the purpose of study or research. Scholarships and fellowship grants received by an individual are generally tax-free as long as they are used to pay for tuition and fees required for attendance at the educational institution or for fees, books, supplies and equipment required for courses at the educational institution. The individual must also be a candidate for a degree at an educational institution.

See IRS Topic No. 421 Scholarships, Fellowship Grants and Other Grants for more information.

Section 179 deduction

The Section 179 deduction allows taxpayers to deduct the cost of certain property as an expense in the year it is placed in service. The Section 179 deduction applies to tangible personal property such as machinery and equipment purchased for use in a trade or business and if the taxpayer elects, qualified real property. Qualified real property is defined as qualified improvement property and some improvements on nonresidential real property such as roofs, heating ventilation and air conditioning property, fire protection, and alarm systems and security systems.

See the Form 4562 instructions for information.

SECA

SECA stands for the Self-Employed Contributions Act. SECA requires self-employed individuals to pay into the Social Security and Medicare funds.

Self-employed

A self-employed person is a sole proprietor or an independent contractor who works for themselves in a trade or business. An individual is self-employed if they do one of the following:

Someone who carries on a trade or business as a sole proprietor or an independent contractor
A member of a partnership that carries on a trade or business
Someone who is otherwise in business for themselves

See the IRS Self-Employed Individuals Tax Center for more information.

Self-employed health insurance premiums

Self-employed health insurance premiums are health insurance premiums paid by a self-employed individual for themselves and their family. Self-employed individuals who qualify are allowed to deduct 100% of their health insurance premiums as an adjustment to income on Form 1040, if they have business income and have no other health insurance coverage.

SEP

A SEP stands for Simplified Employee Pension Plan. A SEP plan allows employers to contribute to traditional IRAs (SEP-IRAs) set up for employees. A business of any size, even self-employed, can establish a SEP.

See the Simplified Employee Pension Plan (SEP) page on the IRS website for more information.

Short sale

There are different types of short sales. For stock sales, a short sale involves the sale of a stock that an individual does not own (or that they will borrow for delivery). Short sellers believe that the price of a stock will fall, or are seeking to hedge against potential price volatility in securities that they own. If the price of the stock falls, short sellers buy the stock at the lower price and make a profit. If the stock price rises, short sellers incur a loss.

In real estate, a short sale takes place when a house is sold for a price that is less than the amount still owed on the mortgage. The difference between the sale price and the mortgage amount may be forgiven by the lender, but not always. The mortgage lender must approve a short sale.

Short-term gains and losses

A short-term gain or loss occurs when personal or investment property is sold when it is held for one year or less. Short-term gains are taxed at ordinary income tax rates.

See IRS Topic No. 409 Capital Gains and Losses for more information.

SIMPLE

SIMPLE stands for a SIMPLE IRA plan (Savings Incentive Match Plan for Employees). It allows employees and employers to contribute to traditional IRAs set up for employees. It is ideally suited as a start-up retirement savings plan for small employers not currently sponsoring a retirement plan.

See the SIMPLE IRA Plan page and IRS SIMPLE Plan FAQs on the IRS website for more information.

Social Security Tax

Social Security Tax is a tax that is required to be paid by the employee and employer. It is composed of the old age, survivors, and disability insurance taxes that was set up under the Federal Insurance Contributions Act (FICA).

The current rate for social security is 6.2% for the employer and employee, or 12.4% total.

See IRS Topic No. 751 Social Security and Medicare Withholding Rates for more information.

Social Security Tax, excess withheld

An individual who works for an employer will have Social Security Tax withheld from their wages. There is a limit as to amount of earnings that are subject to Social Security Tax. Excess Social Security tax withholding usually occurs when an individual had more than one job during the year and their total wages exceed the Social Security earnings limit. In this case, they will have had too much Social Security tax withheld from their wages. When this occurs, an individual may claim a refund for the amount withheld that exceeded the maximum amount.

An individual may do this by including the excess on Form 1040, Schedule 3, Part II (Other Payments and Refundable Credits), line 11.

See IRS Topic No. 608 Excess Social Security Tax and RRTA Tax Withheld for more details.

Spousal IRA

A spousal IRA is an IRA that allows for a spouse who works to contribute to an IRA for a non-working spouse. Spousal IRAs are the same as Roth or traditional IRAs but are designed for married couples. The married couple must file a joint return in order to contribute to a spousal IRA.

Standard deduction

The standard deduction is a specific dollar amount that reduces the amount of income on which an individual is taxed. The standard deduction consists of the basic standard deduction and any additional standard deduction for age and/or blindness. The standard deduction is a deduction for those taxpayers who do not itemize their deductions on their federal income tax return.

The standard deduction amount depends on the individual’s filing status, whether they are 65 and older, or blind and whether another taxpayer can claim the individual as a dependent.

See IRS Publication 501 (Dependents, Standard Deduction, and Filing Information) for more information.

Standard deduction for a dependent

There is not a standard deduction for a dependent. An individual may not take a standard deduction for themselves on their return if they can be claimed as dependent on another taxpayer’s return.

Standard mileage rate

The standard mileage rate is a default cost per mile set by the IRS for taxpayers who wish to deduct the expense of using their personal vehicle for business, charitable, or medical purposes. The taxpayer has the option of calculating the amount of the deduction for use of their personal auto using the standard mileage rate or based on actual expenses. The standard mileage rate is revised by the IRS each year.

Stepped-up basis

The term step-up in basis refers to the readjustment of the value of an appreciated asset for tax purposes upon inheritance. Step-up in basis occurs when the cost basis of an asset is adjusted to the fair market value of the asset at date the asset is transferred at inheritance.

See IRS Publication 551 (Basis of Assets) under Inherited Property for more information.

Student loan interest deduction

For tax purposes, student loan interest is interest that an individual pays during the year on a qualified student loan. An individual may deduct up to $2,500 as an adjustment to income on their federal tax return they pay each year.

See IRS Topic No. 456 Student Loan Interest Deduction for more details on who can claim this deduction and what the definition of a qualified student loan is.
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Taxable income

An individual can receive income in the form of money, property, or services. Generally, an amount included in an individual’s income is taxable unless it is specifically exempted by law. All income that is taxable is required to be reported on the individual’s tax return and is subject to tax.

See What is Taxable and Nontaxble Income? on the IRS website for more detailed information on what income is taxable and what is not.

Tax bracket

A tax bracket refers to a range or incomes subject to a certain income tax rate. There are presently seven federal tax brackets, ranging from 10% to 37%. The dollar ranges for each bracket varies for each filing status.

Tax Credits

Credits can reduce the amount of tax a taxpayer owes or increase their refund. Some credits (refundable credits) may give the taxpayer a refund even if they do not owe any tax.

See the Credits and Deductions for Individuals page on the IRS website for what types of credits are available to individuals.

Tax Deductible

Tax deductible is another name for tax deductions. Deductions can reduce the amount of an individual’s income before the tax is calculated.

See the Credits and Deductions for Individuals page on the IRS website for types of deductions that are available to individuals.

Tax-exempt interest

Tax-exempt interest is interest income that is not subject to federal income tax. The most common sources of tax-exempt interest are from municipal bonds.

Tax-free income

Tax-free (nontaxable) income is income that is not subject to income tax.

See IRS Publication 525 (Taxable and Nontaxable Income) for examples of what types of income are considered nontaxable.

Taxpayer advocate

A taxpayer advocate is someone who assists taxpayers who are seeking help to resolve tax problems that they are unable to resolve through normal channels. The IRS provides the Taxpayer Advocate Service which is an independent organization within the IRS that is committed to assisting taxpayers and championing their rights.

Tax preference item

A tax preference item is a type of income that is normally received tax-free, that may trigger the alternative minimum tax for taxpayers. A tax preference item also includes items that would normally be tax-deductible but is not for purposes of the alternative minimum tax. The amount of tax preference items are added back to taxable income when calculating the alternative minimum tax.

See Form 6251 (Alternative Minimum Tax – Individuals) for examples of preference items and how the alternative minimum tax is calculated.

Tax rebate

There are different meanings for the term tax rebate. A tax rebate can be:

A refund of taxes after a retroactive tax decrease
Another name for a tax refund
A payment made by a government agency to stimulate the economy or make certain types of purchases

Ten-year averaging

Ten-year averaging allows a taxpayer that was born before January 2, 1936 that receives a lump-sum distribution from a qualified retirement annuity to elect different options for figuring the tax on the distribution. These options can only be elected once after 1986 for any eligible plan participant. One of these options is the 10-year averaging option which allows the taxpayer to pay the tax in the year of distribution as if you received it in equal amounts for 10 years. A qualifying individual must complete Form 4972, Part III in order to elect to use the 10-year tax option.

Ten-year forward averaging

This is another name for ten-year averaging for lump-sum distributions from a retirement plan for certain individuals.

Traditional IRA

A traditional IRA is a type of an individual retirement account (IRA) that is a tax-deferred savings account that helps an individual save for retirement. There are annual income limitations for deducting contributions to traditional IRAs. There are also maximum amounts that can be contributed each year. Money that is held in a traditional IRA usually cannot be withdrawn before age 59 ½ without incurring a penalty of 10% of the amount withdrawn.

See the Individual Retirement Arrangements (IRAs) page on the IRS website for more information.

Tuition credit

Tuition credit is another name for IRS Education credits. There are two education credits that allow taxpayers with children in college to claim a credit for qualified education expenses paid during the year to an eligible postsecondary educational institution. In order to claim the two credits below, a taxpayer must complete Form 8863 (Education Credits) and include it with their federal tax return.

American Opportunity Credit

This credit can be claimed for the first 4 years of college (postsecondary) for an eligible student. The student must be pursuing a program leading to a degree and must be enrolled at least half-time for at least one academic period during the year. The maximum credit is $2,500 of which 40% may be refundable. The credit is for qualified expenses which include tuition, required enrollment fees, and course materials.

Lifetime Learning Credit

This credit can be claimed for a student for any years of postsecondary education and for someone taking courses to acquire or improve their job skills. Credit is available for students who take one or more courses. The maximum credit is $2,000 and it fully nonrefundable. The credit is for qualified expenses which include tuition, required enrollment fees, and course related materials.

Tuition deduction

The tuition and fees deduction was a deduction that taxpayers could claim from 2002 – 2020. It allowed eligible taxpayers to deduct up to $4,000 of eligible higher education costs as an adjustment to income on Form 1040. It was repealed by the Consolidated Appropriations Act of 2021 and is no longer available beginning in 2021.
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Unearned income

Unearned income is income not acquired through work or business activities. Unearned income includes investment type income such as interest, ordinary dividends, and capital gain distributions. It also includes unemployment compensation, taxable social security benefits, pensions, annuities, cancellation of debt, and distributions or unearned income from a trust.

Underpayment penalty

If an individual does not pay enough tax throughout the year, either through withholding or by making estimated payments, they may have to pay a penalty for underpayment of estimated tax. Generally, most taxpayers can avoid this penalty if they either owe less than $1,000 in tax or if they paid withholding and estimated tax of at least 90% of the tax for the current year or 100% of the tax shown on their prior year’s return, whichever is smaller.

See IRS Topic No. 306 Penalty for Underpayment of Estimated Tax for more details.
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Vacation home

For tax purposes, a vacation home is a secondary dwelling and is used primarily for recreational purposes including vacations and holidays. If an individual rents a residence, limitations may apply to the rental expenses that an individual may deduct. An individual is considered to use a dwelling as a residence if they use it for personal purposes during the tax year for a number of days that’s more than the greater of:

14 days; or
10% of the total days that it was rented to others at a fair rental price.

There is a special rule that if a dwelling used as a residence is rented for fewer than 15 days, the individual does not need to report the rental income and does not deduct any expenses as rental expenses.

See IRS Topic No. 415 Renting Residential and Vacation Property for more information.

Vested benefits

Vesting in a retirement plan means ownership. This means that each employee will own (vest) a certain percentage of their account in the plan each year. An employee that is 100% vested in their account balance owns 100% of it and the employer cannot forfeit, or take it back, for any reason.

See IRS Retirement Topics – Vesting page for more information.

Voluntary compliance

Voluntary compliance is the principle under which the U.S. tax system operates. It assumes that taxpayers will report all of their income and tax deductions as accurately as possible.

Voluntary withholding

When income tax withholding is not required, an individual may elect to have a portion of the income that they receive withheld and paid to the IRS or State taxing authority in their name.
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Wage base

For tax purposes, the taxable wage base is the maximum amount of earned income that employees must pay Social Security taxes on.

Wash sale

A wash sale occurs when an individual sells a security (such as a stock) at a loss and then purchases another one that is substantially the same within 30 days before or after the sale. Wash sale rules apply to stocks, bonds, mutual funds, exchange traded funds, and options sold in a taxable account. For tax purposes, the IRS will not allow an individual to use any realized losses on a wash sale to offset capital gains. Instead, any disallowed loss is added to the individual’s cost or basis of the new security.

Withholding

For tax purposes, withholding refers to when the employer withholds income tax from an individual’s paycheck and pays it to the IRS in their name. Taxes may also be withheld on pension income, unemployment compensation, and other forms of income where it is required by the federal or state agency.

Worksheet

For tax purposes, a worksheet is a guide to assist the taxpayer in calculations of an entry on the tax return. They are included in the tax forms instructions for particular lines on that form.

Worthless security

Worthless securities are investment securities that have no market value. If a security becomes totally worthless, an individual will have a capital loss for a bad debt. An individual will report a worthless security on Form 8949 (Sales and Other Dispositions of Capital Assets) and indicate a worthless security deduction by writing Worthless in the applicable column of Form 8949.

See IRS Frequently Asked Questions – Capital Gains, Losses, and Sale of Home page for more information.