INCOME TAX COMPREHENSIVE PROBLEM

portrait artist. 1. When he retired at age 65 in 2008, Bob was chief of offshore operations at Pelican Exploration Corporation. While employed, Bob participated in
Pelican’s contributory qualified pension plan, to which he had contributed $250,000 (in after-tax dollars). Under one of the plan options, he chose a life-annuity
payout of $60,000 per year over his life. Due to Bob’s expertise in Gulf of Mexico offshore operations, Pelican continues to use his services on a consulting basis
(see item 3). 2. Sally, an accomplished artist, is well known regionally for her oil portraits. She paints in the Photorealism style, providing her clients with
portraits that are often mistaken for photographs. Painting in this style is very time-consuming. Consequently, her output averages one portrait per month. Her fee
of $3,200 per portrait, set several years ago, never varies. As this amount is quite reasonable for a Photorealistic oil portrait, she has a long waiting list of
clients who have not yet been scheduled for sittings. She does all of her work in the studio the Groves maintain in their personal residence (see item 6). 3.
During 2011, Bob made seven trips on behalf of Pelican. On a typical trip, Bob flies by commercial airline to New Orleans, Houston, or Corpus Christi and then
takes a company helicopter to the offshore platform. If necessary, he rents a room at a local motel. Sometimes off-site consultations can solve the problem, and a
trip to the rig is not necessary. His expenses for these trips are as follows: Airfare $5,100 Lodging 3,100 Meals 2,200 Ground transportation (taxis, limos, and
rental cars) 750 After each trip, Bob recovers his expenses when he is paid by Pelican for the services rendered. Pelican does not require an accounting for the
expenses and reimburses Bob based on his verbal report of how much he spent. 4. During 2011, Sally completed 14 portraits, 11 of which were delivered when payment
was received. Two portraits were delivered but were not paid for until 2012. One portrait was commissioned by the CEO of a company that has since entered
bankruptcy. Because the CEO has been indicted for securities fraud, Sally feels certain that she will not be paid for the work. In December, she accepted $3,200 as
payment for a portrait to be done in 2012. Although she did not like the arrangement, the customer said that the prepayment was motivated by anticipated cash-flow
considerations. In early January 2011, Sally was paid for three portraits she painted and delivered in 2010. 5. Sally keeps all of her receipts for expenses, but
she does not classify them by category. Her total costs for painting supplies in 2011 were $3,010 (e.g., for canvases, brushes, oil paints, smocks, palettes, and
other art supplies). The framing of the finished portrait is left to the customer because the most appropriate frame is a matter of personal taste, which depends
on where the painting will be exhibited. 6. For convenience and security reasons, Sally prefers to work at home. The Groves had this in mind when they constructed
their present residence. One-fourth of the 4,000 square-foot living area is devoted to Sally’s studio. The home was built at a cost of $350,000 on a lot previously
acquired for $100,000, and they moved in on June 15, 2008. As to business use, depreciation has been based on MACRS (using the midmonth convention) applicable to
39-year nonresidential realty. Besides home mortgage interest and property taxes (see item 19), residence expenses for 2011 are summarized below. Utilities $4,200
Molly Maid cleaning service 2,800 Service fee for home security system 1,600 Removal of stains from studio flooring 1,100 Homeowner’s insurance 970 Repairs to
studio skylight 340 7. While on a business trip to South Texas in 1999 to acquire some oil leases, Bob attended a mortgage foreclosure auction. At the auction
(held on February 4, 1999), he acquired an abandoned sugarcane farm near Pearland, known as Broussard Place. Bob financed most of the $30,000 purchase through a
local farm credit union. In view of the expansion trend in nearby Houston, he regarded the purchase as a good investment. Early in 2011, Bob was contacted by a
Houston real estate developer who offered $250,000 for Broussard Place. Horrified at the prospect of a $220,000 taxable gain, Bob ultimately arranged for an
exchange transaction by written notice on May 10. In exchange for several vacant lots on Padre Island, Texas, worth $240,000 and cash of $10,000, Bob transferred
Broussard Place to the developer. The exchange took place at an attorney’s office in Houston on June 20, 2011. 8. On another business trip to South Texas, Bob
purchased unimproved land near Nederland, Texas, for $18,200 at an estate sale held on April 17, 1986. Described as Block 46, the property was adjacent to a modest
prison rice farm owned by the Texas Department of Corrections (TDC). Bob bought the property based on a hunch that the TDC might someday want to expand its
Nederland prison facility. In late 2010, the TDC contacted Bob and offered him $140,000 for Block 46. After repeated threats of a condemnation proceeding, Bob
transferred the property to the TDC on June 28, 2011, for $180,000. On December 17, 2011, Bob reinvested $175,000 in vacant land located near Texas State
University in San Marcos. Bob does not plan to reinvest any more of the amount received from the TDC. 9. The Groves had always thought that taking extended road
trips in an RV would be fun. Therefore, in June 2011, they bought a new Winnebago Deluxe Coach RVfor $106,250 [$100,000 (discounted list price) + $6,250 (state
sales tax)]. Two weeks on the road was enough, however, and the road trip was over. In July 2011, they sold the RV to a neighbor for $90,000. The neighbor made a
$20,000 cash down payment and paid the balance of $70,000 in early December 2011. No interest is provided for. 10. On May 9, 1997, Bob’s father gave him 400 shares
of Carmine Corporation common stock as a birthday present. The stock had cost his father $16,000 ($40 a share) and was worth $20,000 on the date of the gift. In
2007, when the stock was worth $140 per share, Carmine declared a 2-for-1 stock split. On July 27, 2011, Bob sold 400 shares for $20,000 ($50 a share). For
sentimental reasons (they were a gift from his father), Bob wanted to keep 400 shares. 11. On December 21, 2011, the Groves sold 500 shares of Flamingo Power
common stock for $40,000 ($80 a share); the stock was purchased on February 1, 2011, for $50,000 ($100 a share). They wanted to generate a loss to offset some of
the capital gain recognized during the year. Because the Groves considered the stock to be a good investment, they repurchased 500 shares of Flamingo on February
19, 2012, for $45,000 ($90 a share). 12. On March 2, 2009, Sally was contacted by Laura Turner, a former college roommate. Over lunch, Laura asked Sally for a loan
of $6,000 to help finance a new venture. Because the venture, a summer art camp in Santa Fe, New Mexico, sounded interesting, Sally made the loan. Laura signed a
note due in two years at 10% interest. In late 2011, Sally learned that Laura had disappeared after being charged with grand theft by New Mexico authorities. Even
worse, Laura is wanted in Arkansas for parole violation from a prior felony conviction. Laura has never paid any interest on the note she gave Sally. 13. The
Groves have a long-term capital loss carryover of $7,000 from 2010. 14. On May 9, 2007, Bob’s favorite uncle, Cornelius Grove, gave him the family antique gun
collection. Based on family records and educated estimates, the collection had an adjusted basis to Cornelius of $4,200 and was worth $13,000 on the date of the
gift. Because Sally abhors guns, Bob has been under heavy pressure to get rid of the collection. After Cornelius died in early 2011, Bob donated the collection to
the Alamo Siege Museum (a qualified charity). The transfer was made on December 5, 2011; at that time, several qualified appraisers valued the collection at
$16,000. The museum plans to add the collection to the other firearms it exhibits to visitors. 15. While walking the dog in late December 2010, Sally was hit by an
out-of-control delivery truck. The mishap sent Sally to the hospital for several days of observation and medical evaluation. Aside from severe bruises, she
suffered no permanent injury. Once apprehended, the driver of the truck was ticketed for DUI. The owner of the truck, a local distributor for a national brewery,
was concerned about the adverse publicity that would result if Sally filed a lawsuit. Consequently, it paid all of her medical expenses and offered her a
settlement if she would sign a release. Under the settlement, Sally would receive $134,000″$8,000 for loss of income and $126,000 for personal injury. On January
31, 2011, Sally signed the release and was immediately paid $134,000. 16. In August 2010, Bob was rear-ended while stopped for a red light. Because the driver who
caused the accident left the scene, Bob was forced to use his insurance to repair the damage to his car. As a result, Bob was subject to the $1,000 deductible
provision in the policy. In 2011, the insurance company (Falcon Casualty) located the driver at fault and recovered the amount paid for repairs. Consequently, in
April 2011, Bob received a check from Falcon refunding the $1,000 deductible he had paid. The Groves did not claim any deduction as to the accident on their 2010
income tax return. 17. After an acrimonious divorce, the Groves’s only daughter (Pamela Jansen) moved back home in January 2011. She brought her twins (Saley and
Samantha) with her. Pamela has no income for the year except the $4,200 she received for two months of child support. Under the divorce decree, Pamela was given
custody of the children and was awarded child support of $2,100 a month. The decree does not indicate who is entitled to the dependency exemptions for the
children. Pamela plans to initiate legal proceedings against her ex-husband for delinquent child support. 18. Besides the items already mentioned, the Groves have
the following receipts for 2011: Social Security benefits (Bob, $12,000; Sally, $6,000) $18,000 Consulting income paid by Pelican (including expense reimbursement
of $11,150″see item 3) 35,000 Life insurance proceeds (see below) 50,000 Qualified dividend income” Carmine Corporation 1,200 Flamingo Power 400 Interest income”
IBM bonds 600 CD at First National Bank of Denton 400 Wells Fargo money market fund 300 City of Beaumont (TX) general purpose bonds 9,000 The life insurance
proceeds concerned a policy owned by Cornelius Grove (see item 14), which named Bob as the beneficiary. The receipt of the proceeds came as a complete surprise to
Bob as he never knew the policy existed. 19. Expenditures for 2011 not already mentioned are as follows: Payment of Pamela’s legal fees and court costs incident to
her divorce $9,000 Medical” Medicare B insurance premiums 2,244 Dental implants for Sally 8,000 Taxes on personal residence 3,600 Interest on home mortgage 2,200
Church pledge 1,200 Professional journals” Oil- and gas-related (Bob) 160 Art-related (Sally) 120 Dues to professional organizations (Bob) 140 State professional
license fee (Bob) 250 Tax return preparation fee (50%, equally divided between Bob and Sally relating to the tax reporting for each business and 50% relating to
Bob and Sally’s personal income tax return) 900 Texas does not impose an income tax, so the Groves choose the state and local sales tax option. In addition to the
state general sales tax, the local sales tax rate is 2% (1.5% city; 0.5% county). The Groves do not keep track of sales tax expenditures for routine purchases
(e.g., clothes and prepared foods), but they can verify the sales tax on exceptional items (i.e., big-ticket purchases). 20. Relevant information for 2011 is
provided below: 2010 tax refund applied toward 2011 income tax $ 800 Amount withheld by trustee of Bob’s retirement plan 6,500 Quarterly payments made to the IRS
($2,500 each payment) 10,000 Name Social Security Number Birth Date Robert S. Grove 123’45’6785 09/15/1943 Sally K. Grove 123’45’6786 12/03/1944 Pamela Jansen
123’45’6784 10/19/1983 Saley Jansen 123’45’6787 06/25/2008 Samantha Jansen 123’45’6788 06/25/2008 The business activity code for Bob is 541330, and for Sally, it
is 711510. Requirements Prepare an income tax return (with appropriate schedules) for the Groves for 2011. In doing this, utilize the following guidelines: Make
necessary assumptions for information not given in the problem but needed to complete the return. The taxpayers have the necessary substantiation (e.g., records
and receipts) to support the transaction involved. If any refund is due, the Groves want it applied to next year’s tax liability.
 

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