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 What Is Tax Law?

Tax law addresses the rules, regulations, and policies that govern the tax process. The tax process includes the imposition of tax by the government on:

There are many different types of tax law, including income tax law and corporate tax law, which are further discussed below.

Federal tax law is based on the Internal Revenue Code (“IRC”), in Title 26 of the U.S. Code. Federal income tax law provides the rules and regulations associated with the federal income tax, which is a charge on almost all Americans or businesses that have earned an income. Federal income tax applies to everyone, including those who are not U.S. citizens, as long as they have earned income from sources within the U.S. Income tax is intended to increase revenue needed to operate the government and offer social services.

Most taxpayers pay their taxes by having them withheld from their paychecks, such as having employers withhold part of their wages and send that amount to the IRS. The amount of tax withheld may be insufficient to cover the entire federal income tax liability; in this case, the taxpayer must send a payment to the IRS by April 15th.

Corporate tax law refers to taxed incorporated entities, including businesses and not-for-profit charities. These laws are different from those involving the taxation of individuals, but they can have an impact on individual taxation. An example of this would be the pass-through taxation of S corporations. While the corporation is not required to pay taxes, its shareholders must take on that responsibility instead.

The corporate tax law also includes the taxation of various corporations, such as not-for-profit companies and partnerships. An example would be how a not-for-profit corporation involved in charitable or religious activities could be eligible for 501(c)3 tax-exempt status.

Partnerships are treated by the IRS as pass-through entities, meaning that all of the partnership’s profits and losses “pass-through” to the partners. They are taxed on their share of the profits. If the partnership realizes a loss, the partners deduct their portion of the loss by stating it on their individual tax returns.

What Is A Business Deduction?

A business deduction is a deduction that is an ordinary and necessary expense paid or incurred by conducting business. This generally means that a person may deduct any reasonable and helpful business expense which they have incurred within the last tax year.

However, the following are some examples of what would not be business deductions:

  • Personal expenses include the gas you put in your car to get to work and even the car you use to get to work. The exception would be if it is also used for business reasons. However, traveling from work to a meeting for business purposes is a business expense and would be deductible;
  • Lavish and extravagant expenses incurred in businesses are not deductible. An example of this would be how deductions for entertainment expenses are capped at 50% of the expenses; and
  • Capital improvements are not deductible, meaning that investments or anything that could expand profits are generally not deductible.

Courts apply the “business deduction” terminology as broadly as possible. Some of the most common examples of business deductions that most business taxpayers take would be the following:

  • Reasonable salary deduction;
  • Travel away from home deduction;
  • Necessary rent deduction; and
  • Expenses for education deduction.

What Is A Business Bad Debt, And How Is It Treated?

When you loan someone money, and that person cannot pay you back, the result is called “bad debt.” Tax law provides some relief by allowing taxpayers to take certain deductions for these bad debts, in order to offset against income.

The two types of bad debts are business bad debts and non-business bad debts. The treatment of business bad debts is considerably more favorable than non-business bad debts.

A business bad debt, as the name implies, is a bad debt resulting from the taxpayer’s trade or business. An example of this would be if a computer retailer sells computers on credit and the buyer defaults on the loan.

Business bad debts are deductible by the taxpayer at any time when they become completely worthless, meaning they cannot be recovered. They may also be deductible when they become partially worthless.

Generally speaking, a business bad debt deduction is a business expense deduction and may be used to offset other ordinary business income without any limitations. A taxpayer is not required to take a deduction for a business bad debt when it is only partially worthless, and as such, they may wait until the bad debt is entirely worthless to take the deduction.

What Is A Non-business Bad Debt, And How Is It Treated?

A non-business bad debt is a debt that is personal and is not related to a trade or business. An example would be if you loan your friend some money, and they cannot pay you back.

Non-business bad debts are only tax deductible when they become completely worthless. Because they are treated as short-term capital loss to the taxpayer, they can only be used to offset capital gains and up to $3,000 of noncapital income for individuals.

Generally, when the person you lent money firmly notifies you that they cannot pay you back, your debt is probably worthless. However, when no such clear response is made, determining whether your debt has turned “bad” becomes an issue of facts and circumstances. If good signs lead you to believe you will never get your money back, you can treat that as a bad debt.

What Else Should I Know About Taxes In General?

Tax evasion occurs when a corporation, individual, or trust deliberately underpays its taxes. The crime involves taxpayers misrepresenting their financial status to reduce their tax liability. Such tax reporting could include declaring lower amounts of income, profits, or gains than those earned or overstating deductions. It is important to note that tax evasion differs from tax avoidance, which is the lawful use of tax laws to lessen your tax liability.

When determining your tax liability, the government has specific filing requirements, largely based on your filing status and income. The income from estates and trusts is subject to tax based on the income bracket of the estate or trust. An example of this would be if your estate or trust has taxable income that is more than $1,500 but not more than $3,500, and the amount of the tax is $225, plus 28% of the amount that exceeds $1,500.

Tax law is constantly changing. In addition to the federal tax laws that are part of Title 26 of the U.S. Code, there are:

  • Other federal tax laws in Title 26 of the Code of Federal Regulations;
  • Rules recommended by the Internal Revenue Service (“IRS”);
  • Revenue rulings set forth by the IRS;
  • Private letter rulings given out by the IRS;
  • Releases issued by the IRS; and
  • Decisions rendered by the federal tax court.

When disputes arise between taxpayers and the IRS regarding underpayments of tax, the U.S. Tax Court presides over trials. Once the Tax Court renders a decision, the Federal District Court of Appeals can hear any appeals, and the U.S. Supreme Court has final review over the case.

Do I Need A Lawyer For Help With Bad Debt Deduction?

You should consult with a tax attorney if you have any questions regarding your tax liability or bad debt deductions. A business lawyer will be best informed of your state’s specific tax laws, and how those laws may affect your rights and legal options. Additionally, an attorney will also be able to represent you in court, as needed.

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