Tax Return 3 – Business Income In July of 2014 Stephen, a single taxpayer with n

Question

Tax Return 3 – Business Income


In July of 2014 Stephen, a single taxpayer with no dependents, started a proprietorship called
ECR (which stands for electric car repair). ECR uses the cash method of accounting and Stephen
has produced the following financial information for this year.
ECR collected $81,000 in cash for repairs completed during the year and an additional $3,200 in
cash for repairs that will commence after year end. Customers owe ECR $14,300 for repairs
completed this year, and while Stephen isn’t sure which bills will eventually be paid, he expects
to collect all but about $1,900 of these revenues next year.
ECR has made the following expenditures:
Interest expense $ 1,250
Shop rent ($1,500 per month) 27,000
Utilities 1,075
Contract labor 8,250
Compensation 21,100
Liability insurance premiums ($350 per month) 4,200
Term life insurance premiums ($150 per month) 1,800
The interest paid relates to interest accrued on a $54,000 loan made to Stephen in July of this
year. Stephen used half of the loan to pay for 18 months of shop rent and the remainder he
used to upgrade his personal wardrobe. In July Stephen purchased 12 months of liability
insurance to protect against liability should anyone be injured in the shop. ECR has only one
employee (the remaining workers are contract labor), and this employee thoroughly
understands how to repair an electric propulsion system. On November 1 of this year Stephen
purchased a 12month
termlife
policy that insures the life of this “key” employee. Stephen
paid Gecko Insurance Company $1,800, and in return Gecko promises to pay Stephen a $40,000
death benefit if this employee dies any time during the next 12 months.
Stephen had income from no sources other than ECR in 2014.
Complete only Form 1040, lines 1 – 61; Schedule C, lines 1 – 31; and Schedule SE, lines 1 – 6.
Caution:
This assignment isn’t completed by just filling in the information provided on the appropriate
lines of the different forms. You must first determine which information to include and which to
exclude and then determine whether the full amount should be used or only a partial amount.
Remember, Steve is a cash method taxpayer
Hints:
The rent must be capitalized and amortized over the life of the rental agreement using the
straight line method.
In general, life insurance premiums paid are not deductible. Although this may sound unfair,
remember that life insurance proceeds are not taxed.

Explanation / Answer

Economic value risk is the exposure to a change in the underlying value of an asset. As interest rates increase (or decrease), the value of fixed-rate assets decreases (or increases) because of the discounted present value of the cash flows. To the extent that the change in market value of the assets differs from the change in market value of the liabilities, the difference is realized in the market value of the equity of the FI. For example, for most depository FIs, an increase in interest rates will cause asset values to decrease more than liability values. The difference will cause the market value, or share price, of equity to decrease.

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