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Pa 1040ez

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Pa 1040ez

Pa 1040ez 2. Pa 1040ez   Entertainment Table of Contents Directly-Related Test Associated TestMeetings at conventions. Pa 1040ez 50% LimitExceptions to the 50% Limit What Entertainment Expenses Are Deductible?A meal as a form of entertainment. Pa 1040ez Deduction may depend on your type of business. Pa 1040ez Exception for events that benefit charitable organizations. Pa 1040ez Food and beverages in skybox seats. Pa 1040ez What Entertainment Expenses Are Not Deductible?Out-of-pocket expenses. Pa 1040ez You may be able to deduct business-related entertainment expenses you have for entertaining a client, customer, or employee. Pa 1040ez The rules and definitions are summarized in Table 2-1 . Pa 1040ez You can deduct entertainment expenses only if they are both ordinary and necessary and meet one of the following tests. Pa 1040ez Directly-related test. Pa 1040ez Associated test. Pa 1040ez Both of these tests are explained later. Pa 1040ez An ordinary expense is one that is common and accepted in your trade or business. Pa 1040ez A necessary expense is one that is helpful and appropriate for your business. Pa 1040ez An expense does not have to be required to be considered necessary. Pa 1040ez The amount you can deduct for entertainment expenses may be limited. Pa 1040ez Generally, you can deduct only 50% of your unreimbursed entertainment expenses. Pa 1040ez This limit is discussed later under 50% Limit. Pa 1040ez Directly-Related Test To meet the directly-related test for entertainment expenses (including entertainment-related meals), you must show that: The main purpose of the combined business and entertainment was the active conduct of business, You did engage in business with the person during the entertainment period, and You had more than a general expectation of getting income or some other specific business benefit at some future time. Pa 1040ez Business is generally not considered to be the main purpose when business and entertainment are combined on hunting or fishing trips, or on yachts or other pleasure boats. Pa 1040ez Even if you show that business was the main purpose, you generally cannot deduct the expenses for the use of an entertainment facility. Pa 1040ez See Entertainment facilities under What Entertainment Expenses Are Not Deductible? later in this chapter. Pa 1040ez You must consider all the facts, including the nature of the business transacted and the reasons for conducting business during the entertainment. Pa 1040ez It is not necessary to devote more time to business than to entertainment. Pa 1040ez However, if the business discussion is only incidental to the entertainment, the entertainment expenses do not meet the directly-related test. Pa 1040ez Table 2-1. Pa 1040ez When Are Entertainment Expenses Deductible? General rule You can deduct ordinary and necessary expenses to entertain a client, customer, or employee if the expenses meet the directly-related test or the associated test. Pa 1040ez Definitions Entertainment includes any activity generally considered to provide entertainment, amusement, or recreation, and includes meals provided to a customer or client. Pa 1040ez An ordinary expense is one that is common and accepted in your trade or business. Pa 1040ez A necessary expense is one that is helpful and appropriate. Pa 1040ez Tests to be met Directly-related test Entertainment took place in a clear business setting, or Main purpose of entertainment was the active conduct of business, and You did engage in business with the person during the entertainment period, and You had more than a general expectation of getting income or some other specific business benefit. Pa 1040ez   Associated test Entertainment is associated with your trade or business, and Entertainment is directly before or after a substantial business discussion. Pa 1040ez Other rules You cannot deduct the cost of your meal as an entertainment expense if you are claiming the meal as a travel expense. Pa 1040ez You cannot deduct expenses that are lavish or extravagant under the circumstances. Pa 1040ez You generally can deduct only 50% of your unreimbursed entertainment expenses (see 50% Limit ). Pa 1040ez You do not have to show that business income or other business benefit actually resulted from each entertainment expense. Pa 1040ez Clear business setting. Pa 1040ez   If the entertainment takes place in a clear business setting and is for your business or work, the expenses are considered directly related to your business or work. Pa 1040ez The following situations are examples of entertainment in a clear business setting. Pa 1040ez Entertainment in a hospitality room at a convention where business goodwill is created through the display or discussion of business products. Pa 1040ez Entertainment that is mainly a price rebate on the sale of your products (such as a restaurant owner providing an occasional free meal to a loyal customer). Pa 1040ez Entertainment of a clear business nature occurring under circumstances where there is no meaningful personal or social relationship between you and the persons entertained. Pa 1040ez An example is entertainment of business and civic leaders at the opening of a new hotel or play when the purpose is to get business publicity rather than to create or maintain the goodwill of the persons entertained. Pa 1040ez Expenses not considered directly related. Pa 1040ez   Entertainment expenses generally are not considered directly related if you are not there or in situations where there are substantial distractions that generally prevent you from actively conducting business. Pa 1040ez The following are examples of situations where there are substantial distractions. Pa 1040ez A meeting or discussion at a nightclub, theater, or sporting event. Pa 1040ez A meeting or discussion during what is essentially a social gathering, such as a cocktail party. Pa 1040ez A meeting with a group that includes persons who are not business associates at places such as cocktail lounges, country clubs, golf clubs, athletic clubs, or vacation resorts. Pa 1040ez Associated Test Even if your expenses do not meet the directly-related test, they may meet the associated test. Pa 1040ez To meet the associated test for entertainment expenses (including entertainment-related meals), you must show that the entertainment is: Associated with the active conduct of your trade or business, and Directly before or after a substantial business discussion (defined later). Pa 1040ez Associated with trade or business. Pa 1040ez   Generally, an expense is associated with the active conduct of your trade or business if you can show that you had a clear business purpose for having the expense. Pa 1040ez The purpose may be to get new business or to encourage the continuation of an existing business relationship. Pa 1040ez Substantial business discussion. Pa 1040ez   Whether a business discussion is substantial depends on the facts of each case. Pa 1040ez A business discussion will not be considered substantial unless you can show that you actively engaged in the discussion, meeting, negotiation, or other business transaction to get income or some other specific business benefit. Pa 1040ez   The meeting does not have to be for any specified length of time, but you must show that the business discussion was substantial in relation to the meal or entertainment. Pa 1040ez It is not necessary that you devote more time to business than to entertainment. Pa 1040ez You do not have to discuss business during the meal or entertainment. Pa 1040ez Meetings at conventions. Pa 1040ez   You are considered to have a substantial business discussion if you attend meetings at a convention or similar event, or at a trade or business meeting sponsored and conducted by a business or professional organization. Pa 1040ez However, your reason for attending the convention or meeting must be to further your trade or business. Pa 1040ez The organization that sponsors the convention or meeting must schedule a program of business activities that is the main activity of the convention or meeting. Pa 1040ez Directly before or after business discussion. Pa 1040ez   If the entertainment is held on the same day as the business discussion, it is considered to be held directly before or after the business discussion. Pa 1040ez   If the entertainment and the business discussion are not held on the same day, you must consider the facts of each case to see if the associated test is met. Pa 1040ez Among the facts to consider are the place, date, and duration of the business discussion. Pa 1040ez If you or your business associates are from out of town, you must also consider the dates of arrival and departure, and the reasons the entertainment and the discussion did not take place on the same day. Pa 1040ez Example. Pa 1040ez A group of business associates comes from out of town to your place of business to hold a substantial business discussion. Pa 1040ez If you entertain those business guests on the evening before the business discussion, or on the evening of the day following the business discussion, the entertainment generally is considered to be held directly before or after the discussion. Pa 1040ez The expense meets the associated test. Pa 1040ez 50% Limit In general, you can deduct only 50% of your business-related meal and entertainment expenses. Pa 1040ez (If you are subject to the Department of Transportation's “hours of service” limits, you can deduct 80% of your business-related meal and entertainment expenses. Pa 1040ez See Individuals subject to “hours of service” limits , later. Pa 1040ez ) The 50% limit applies to employees or their employers, and to self-employed persons (including independent contractors) or their clients, depending on whether the expenses are reimbursed. Pa 1040ez Figure A summarizes the general rules explained in this section. Pa 1040ez The 50% limit applies to business meals or entertainment expenses you have while: Traveling away from home (whether eating alone or with others) on business, Entertaining customers at your place of business, a restaurant, or other location, or Attending a business convention or reception, business meeting, or business luncheon at a club. Pa 1040ez Included expenses. Pa 1040ez   Expenses subject to the 50% limit include: Taxes and tips relating to a business meal or entertainment activity, Cover charges for admission to a nightclub, Rent paid for a room in which you hold a dinner or cocktail party, and Amounts paid for parking at a sports arena. Pa 1040ez However, the cost of transportation to and from a business meal or a business-related entertainment activity is not subject to the 50% limit. Pa 1040ez Figure A. Pa 1040ez Does the 50% Limit Apply to Your Expenses? There are exceptions to these rules. Pa 1040ez See Exceptions to the 50% Limit . Pa 1040ez Please click here for the text description of the image. Pa 1040ez Figure A. Pa 1040ez Does the 50% limit apply to Your Expenses?TAs for Figure A are: Notice 87-23; Form 2106 instructions Application of 50% limit. Pa 1040ez   The 50% limit on meal and entertainment expenses applies if the expense is otherwise deductible and is not covered by one of the exceptions discussed later. Pa 1040ez   The 50% limit also applies to certain meal and entertainment expenses that are not business related. Pa 1040ez It applies to meal and entertainment expenses you have for the production of income, including rental or royalty income. Pa 1040ez It also applies to the cost of meals included in deductible educational expenses. Pa 1040ez When to apply the 50% limit. Pa 1040ez   You apply the 50% limit after determining the amount that would otherwise qualify for a deduction. Pa 1040ez You first have to determine the amount of meal and entertainment expenses that would be deductible under the other rules discussed in this publication. Pa 1040ez Example 1. Pa 1040ez You spend $200 for a business-related meal. Pa 1040ez If $110 of that amount is not allowable because it is lavish and extravagant, the remaining $90 is subject to the 50% limit. Pa 1040ez Your deduction cannot be more than $45 (50% × $90). Pa 1040ez Example 2. Pa 1040ez You purchase two tickets to a concert and give them to a client. Pa 1040ez You purchased the tickets through a ticket agent. Pa 1040ez You paid $200 for the two tickets, which had a face value of $80 each ($160 total). Pa 1040ez Your deduction cannot be more than $80 (50% × $160). Pa 1040ez Exceptions to the 50% Limit Generally, business-related meal and entertainment expenses are subject to the 50% limit. Pa 1040ez Figure A can help you determine if the 50% limit applies to you. Pa 1040ez Expenses not subject to 50% limit. Pa 1040ez   Your meal or entertainment expense is not subject to the 50% limit if the expense meets one of the following exceptions. Pa 1040ez 1 - Employee's reimbursed expenses. Pa 1040ez   If you are an employee, you are not subject to the 50% limit on expenses for which your employer reimburses you under an accountable plan. Pa 1040ez Accountable plans are discussed in chapter 6. Pa 1040ez 2 - Self-employed. Pa 1040ez   If you are self-employed, your deductible meal and entertainment expenses are not subject to the 50% limit if all of the following requirements are met. Pa 1040ez You have these expenses as an independent contractor. Pa 1040ez Your customer or client reimburses you or gives you an allowance for these expenses in connection with services you perform. Pa 1040ez You provide adequate records of these expenses to your customer or client. Pa 1040ez (See chapter 5 . Pa 1040ez )   In this case, your client or customer is subject to the 50% limit on the expenses. Pa 1040ez Example. Pa 1040ez You are a self-employed attorney who adequately accounts for meal and entertainment expenses to a client who reimburses you for these expenses. Pa 1040ez You are not subject to the directly-related or associated test, nor are you subject to the 50% limit. Pa 1040ez If the client can deduct the expenses, the client is subject to the 50% limit. Pa 1040ez If you (as an independent contractor) have expenses for meals and entertainment related to providing services for a client but do not adequately account for and seek reimbursement from the client for those expenses, you are subject to the directly-related or associated test and to the 50% limit. Pa 1040ez 3 - Advertising expenses. Pa 1040ez   You are not subject to the 50% limit if you provide meals, entertainment, or recreational facilities to the general public as a means of advertising or promoting goodwill in the community. Pa 1040ez For example, neither the expense of sponsoring a television or radio show nor the expense of distributing free food and beverages to the general public is subject to the 50% limit. Pa 1040ez 4 - Sale of meals or entertainment. Pa 1040ez   You are not subject to the 50% limit if you actually sell meals, entertainment, goods and services, or use of facilities to the public. Pa 1040ez For example, if you run a nightclub, your expense for the entertainment you furnish to your customers, such as a floor show, is not subject to the 50% limit. Pa 1040ez 5 - Charitable sports event. Pa 1040ez   You are not subject to the 50% limit if you pay for a package deal that includes a ticket to a qualified charitable sports event. Pa 1040ez For the conditions the sports event must meet, see Exception for events that benefit charitable organizations under What Entertainment Expenses Are Deductible?, later. Pa 1040ez Individuals subject to “hours of service” limits. Pa 1040ez   You can deduct a higher percentage of your meal expenses while traveling away from your tax home if the meals take place during or incident to any period subject to the Department of Transportation's “hours of service” limits. Pa 1040ez The percentage is 80%. Pa 1040ez   Individuals subject to the Department of Transportation's “hours of service” limits include the following persons. Pa 1040ez Certain air transportation workers (such as pilots, crew, dispatchers, mechanics, and control tower operators) who are under Federal Aviation Administration regulations. Pa 1040ez Interstate truck operators and bus drivers who are under Department of Transportation regulations. Pa 1040ez Certain railroad employees (such as engineers, conductors, train crews, dispatchers, and control operations personnel) who are under Federal Railroad Administration regulations. Pa 1040ez Certain merchant mariners who are under Coast Guard regulations. Pa 1040ez What Entertainment Expenses Are Deductible? This section explains different types of entertainment expenses you may be able to deduct. Pa 1040ez Entertainment. Pa 1040ez   Entertainment includes any activity generally considered to provide entertainment, amusement, or recreation. Pa 1040ez Examples include entertaining guests at nightclubs; at social, athletic, and sporting clubs; at theaters; at sporting events; on yachts; or on hunting, fishing, vacation, and similar trips. Pa 1040ez   Entertainment also may include meeting personal, living, or family needs of individuals, such as providing meals, a hotel suite, or a car to customers or their families. Pa 1040ez A meal as a form of entertainment. Pa 1040ez   Entertainment includes the cost of a meal you provide to a customer or client, whether the meal is a part of other entertainment or by itself. Pa 1040ez A meal expense includes the cost of food, beverages, taxes, and tips for the meal. Pa 1040ez To deduct an entertainment-related meal, you or your employee must be present when the food or beverages are provided. Pa 1040ez    You cannot claim the cost of your meal both as an entertainment expense and as a travel expense. Pa 1040ez    Meals sold in the normal course of your business are not considered entertainment. Pa 1040ez Deduction may depend on your type of business. Pa 1040ez   Your kind of business may determine if a particular activity is considered entertainment. Pa 1040ez For example, if you are a dress designer and have a fashion show to introduce your new designs to store buyers, the show generally is not considered entertainment. Pa 1040ez This is because fashion shows are typical in your business. Pa 1040ez But, if you are an appliance distributor and hold a fashion show for the spouses of your retailers, the show generally is considered entertainment. Pa 1040ez Separating costs. Pa 1040ez   If you have one expense that includes the costs of entertainment and other services (such as lodging or transportation), you must allocate that expense between the cost of entertainment and the cost of other services. Pa 1040ez You must have a reasonable basis for making this allocation. Pa 1040ez For example, you must allocate your expenses if a hotel includes entertainment in its lounge on the same bill with your room charge. Pa 1040ez Taking turns paying for meals or entertainment. Pa 1040ez   If a group of business acquaintances takes turns picking up each others' meal or entertainment checks primarily for personal reasons, without regard to whether any business purposes are served, no member of the group can deduct any part of the expense. Pa 1040ez Lavish or extravagant expenses. Pa 1040ez   You cannot deduct expenses for entertainment that are lavish or extravagant. Pa 1040ez An expense is not considered lavish or extravagant if it is reasonable considering the facts and circumstances. Pa 1040ez Expenses will not be disallowed just because they are more than a fixed dollar amount or take place at deluxe restaurants, hotels, nightclubs, or resorts. Pa 1040ez Allocating between business and nonbusiness. Pa 1040ez   If you entertain business and nonbusiness individuals at the same event, you must divide your entertainment expenses between business and nonbusiness. Pa 1040ez You can deduct only the business part. Pa 1040ez If you cannot establish the part of the expense for each person participating, allocate the expense to each participant on a pro rata basis. Pa 1040ez Example. Pa 1040ez You entertain a group of individuals that includes yourself, three business prospects, and seven social guests. Pa 1040ez Only 4/11 of the expense qualifies as a business entertainment expense. Pa 1040ez You cannot deduct the expenses for the seven social guests because those costs are nonbusiness expenses. Pa 1040ez Trade association meetings. Pa 1040ez   You can deduct entertainment expenses that are directly related to and necessary for attending business meetings or conventions of certain exempt organizations if the expenses of your attendance are related to your active trade or business. Pa 1040ez These organizations include business leagues, chambers of commerce, real estate boards, trade associations, and professional associations. Pa 1040ez Entertainment tickets. Pa 1040ez   Generally, you cannot deduct more than the face value of an entertainment ticket, even if you paid a higher price. Pa 1040ez For example, you cannot deduct service fees you pay to ticket agencies or brokers or any amount over the face value of the tickets you pay to scalpers. Pa 1040ez Exception for events that benefit charitable organizations. Pa 1040ez   Different rules apply when the cost of a ticket to a sports event benefits a charitable organization. Pa 1040ez You can take into account the full cost you pay for the ticket, even if it is more than the face value, if all of the following conditions apply. Pa 1040ez The event's main purpose is to benefit a qualified charitable organization. Pa 1040ez The entire net proceeds go to the charity. Pa 1040ez The event uses volunteers to perform substantially all the event's work. Pa 1040ez    The 50% limit on entertainment does not apply to any expense for a package deal that includes a ticket to such a charitable sports event. Pa 1040ez Example 1. Pa 1040ez You purchase tickets to a golf tournament organized by the local volunteer fire company. Pa 1040ez All net proceeds will be used to buy new fire equipment. Pa 1040ez The volunteers will run the tournament. Pa 1040ez You can deduct the entire cost of the tickets as a business expense if they otherwise qualify as an entertainment expense. Pa 1040ez Example 2. Pa 1040ez You purchase tickets to a college football game through a ticket broker. Pa 1040ez After having a business discussion, you take a client to the game. Pa 1040ez Net proceeds from the game go to colleges that qualify as charitable organizations. Pa 1040ez However, since the colleges also pay individuals to perform services, such as coaching and recruiting, you can only use the face value of the tickets in determining your business deduction. Pa 1040ez Skyboxes and other private luxury boxes. Pa 1040ez   If you rent a skybox or other private luxury box for more than one event at the same sports arena, you generally cannot deduct more than the price of a nonluxury box seat ticket. Pa 1040ez   To determine whether a skybox has been rented for more than one event, count each game or other performance as one event. Pa 1040ez For example, renting a skybox for a series of playoff games is considered renting it for more than one event. Pa 1040ez All skyboxes you rent in the same arena, along with any rentals by related parties, are considered in making this determination. Pa 1040ez   Related parties include: Family members (spouses, ancestors, and lineal descendants), Parties who have made a reciprocal arrangement involving the sharing of skyboxes, Related corporations, A partnership and its principal partners, and A corporation and a partnership with common ownership. Pa 1040ez Example. Pa 1040ez You pay $3,000 to rent a 10-seat skybox at Team Stadium for three baseball games. Pa 1040ez The cost of regular nonluxury box seats at each event is $30 a seat. Pa 1040ez You can deduct (subject to the 50% limit) $900 ((10 seats × $30 each) × 3 events). Pa 1040ez Food and beverages in skybox seats. Pa 1040ez   If expenses for food and beverages are separately stated, you can deduct these expenses in addition to the amounts allowable for the skybox, subject to the requirements and limits that apply. Pa 1040ez The amounts separately stated for food and beverages must be reasonable. Pa 1040ez You cannot inflate the charges for food and beverages to avoid the limited deduction for skybox rentals. Pa 1040ez What Entertainment Expenses Are Not Deductible? This section explains different types of entertainment expenses you generally may not be able to deduct. Pa 1040ez Club dues and membership fees. Pa 1040ez   You cannot deduct dues (including initiation fees) for membership in any club organized for: Business, Pleasure, Recreation, or Other social purpose. Pa 1040ez This rule applies to any membership organization if one of its principal purposes is either: To conduct entertainment activities for members or their guests, or To provide members or their guests with access to entertainment facilities, discussed later. Pa 1040ez   The purposes and activities of a club, not its name, will determine whether or not you can deduct the dues. Pa 1040ez You cannot deduct dues paid to: Country clubs, Golf and athletic clubs, Airline clubs, Hotel clubs, and Clubs operated to provide meals under circumstances generally considered to be conducive to business discussions. Pa 1040ez Entertainment facilities. Pa 1040ez   Generally, you cannot deduct any expense for the use of an entertainment facility. Pa 1040ez This includes expenses for depreciation and operating costs such as rent, utilities, maintenance, and protection. Pa 1040ez   An entertainment facility is any property you own, rent, or use for entertainment. Pa 1040ez Examples include a yacht, hunting lodge, fishing camp, swimming pool, tennis court, bowling alley, car, airplane, apartment, hotel suite, or home in a vacation resort. Pa 1040ez Out-of-pocket expenses. Pa 1040ez   You can deduct out-of-pocket expenses, such as for food and beverages, catering, gas, and fishing bait, that you provided during entertainment at a facility. Pa 1040ez These are not expenses for the use of an entertainment facility. Pa 1040ez However, these expenses are subject to the directly-related and associated tests and to the 50% limit , all discussed earlier. Pa 1040ez Expenses for spouses. Pa 1040ez   You generally cannot deduct the cost of entertainment for your spouse or for the spouse of a customer. Pa 1040ez However, you can deduct these costs if you can show you had a clear business purpose, rather than a personal or social purpose, for providing the entertainment. Pa 1040ez Example. Pa 1040ez You entertain a customer. Pa 1040ez The cost is an ordinary and necessary business expense and is allowed under the entertainment rules. Pa 1040ez The customer's spouse joins you because it is impractical to entertain the customer without the spouse. Pa 1040ez You can deduct the cost of entertaining the customer's spouse. Pa 1040ez If your spouse joins the party because the customer's spouse is present, the cost of the entertainment for your spouse is also deductible. Pa 1040ez Gift or entertainment. Pa 1040ez   Any item that might be considered either a gift or entertainment generally will be considered entertainment. Pa 1040ez However, if you give a customer packaged food or beverages that you intend the customer to use at a later date, treat it as a gift. Pa 1040ez   If you give a customer tickets to a theater performance or sporting event and you do not go with the customer to the performance or event, you have a choice. Pa 1040ez You can treat the tickets as either a gift or entertainment, whichever is to your advantage. Pa 1040ez   You can change your treatment of the tickets at a later date by filing an amended return. Pa 1040ez Generally, an amended return must be filed within 3 years from the date the original return was filed or within 2 years from the time the tax was paid, whichever is later. Pa 1040ez   If you go with the customer to the event, you must treat the cost of the tickets as an entertainment expense. Pa 1040ez You cannot choose, in this case, to treat the tickets as a gift. Pa 1040ez Prev  Up  Next   Home   More Online Publications
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The Pa 1040ez

Pa 1040ez 2. Pa 1040ez   Possession Source Income Table of Contents Types of IncomeCompensation for Labor or Personal Services Investment Income Sales or Other Dispositions of Property Scholarships, Fellowships, Grants, Prizes, and Awards Effectively Connected Income In order to determine where to file your return and which form(s) you need to complete, you must determine the source of each item of income you received during the tax year. Pa 1040ez Income you received from sources within, or that was effectively connected with the conduct of a trade or business within, the relevant possession must be identified separately from U. Pa 1040ez S. Pa 1040ez or foreign source income. Pa 1040ez This chapter discusses the rules for determining if the source of your income is from: American Samoa, The Commonwealth of the Northern Mariana Islands (CNMI), The Commonwealth of Puerto Rico (Puerto Rico), Guam, or The U. Pa 1040ez S. Pa 1040ez Virgin Islands (USVI). Pa 1040ez Generally, the same rules that apply for determining U. Pa 1040ez S. Pa 1040ez source income also apply for determining possession source income. Pa 1040ez However, there are some important exceptions to these rules. Pa 1040ez Both the general rules and the exceptions are discussed in this chapter. Pa 1040ez U. Pa 1040ez S. Pa 1040ez income rule. Pa 1040ez   This rule states that income is not possession source income if, under the rules of Internal Revenue Code sections 861–865, it is treated as income: From sources within the United States, or Effectively connected with the conduct of a trade or business within the United States. Pa 1040ez Table 2-1 shows the general rules for determining whether income is from sources within the United States. Pa 1040ez Table 2-1. Pa 1040ez General Rules for Determining U. Pa 1040ez S. Pa 1040ez Source of Income Item of Income Factor Determining Source Salaries, wages, and other compensation for labor or personal services Where labor or services performed Pensions Contributions: Where services were performed that earned the pension Investment earnings: Where pension trust is located Interest Residence of payer Dividends Where corporation created or organized Rents Location of property Royalties:   Natural resources Location of property Patents, copyrights, etc. Pa 1040ez Where property is used Sale of business inventory—purchased Where sold Sale of business inventory—produced Allocation if produced and sold in different locations Sale of real property Location of property Sale of personal property Seller's tax home (but see Special Rules for Gains From Dispositions of Certain Property , later, for exceptions) Sale of natural resources Allocation based on fair market value of product at export terminal. Pa 1040ez For more information, see Regulations section 1. Pa 1040ez 863-1(b). Pa 1040ez Types of Income This section looks at the most common types of income received by individuals, and the rules for determining the source of the income. Pa 1040ez Generally, the same rules shown in Table 2-1 are used to determine if you have possession source income. Pa 1040ez Compensation for Labor or Personal Services Income from labor or personal services includes wages, salaries, commissions, fees, per diem allowances, employee allowances and bonuses, and fringe benefits. Pa 1040ez It also includes income earned by sole proprietors and general partners from providing personal services in the course of their trade or business. Pa 1040ez Services performed wholly within a relevant possession. Pa 1040ez   Generally, all pay you receive for services performed in a relevant possession is considered to be from sources within that possession. Pa 1040ez However, there is an exception for income earned as a member of the U. Pa 1040ez S. Pa 1040ez Armed Forces or a civilian spouse. Pa 1040ez U. Pa 1040ez S. Pa 1040ez Armed Forces. Pa 1040ez   If you are a bona fide resident of a relevant possession, your military service pay will be sourced in that possession even if you perform the services in the United States or another possession. Pa 1040ez However, if you are not a bona fide resident of a possession, your military service pay will be income from the  United States even if you perform services in a possession. Pa 1040ez Civilian spouse of active duty member of the U. Pa 1040ez S. Pa 1040ez Armed Forces. Pa 1040ez   If you are a bona fide resident of a U. Pa 1040ez S. Pa 1040ez possession and choose to keep that possession as your tax residence under MSRRA when relocating with your servicemember spouse under military orders, the source of income for your labor or personal services is considered to be that possession. Pa 1040ez Likewise, if your tax residence is in one of the 50 states or the District of Columbia before relocating and you choose to keep it as your tax residence, the source of income for services performed in any of the U. Pa 1040ez S. Pa 1040ez possessions is considered to be the United States and, specifically, your state of residence or the District of Columbia. Pa 1040ez Services performed partly inside and partly outside a relevant possession. Pa 1040ez   If you are an employee and receive compensation for labor or personal services performed both inside and outside the relevant possession, special rules apply in determining the source of the compensation. Pa 1040ez Compensation (other than certain fringe benefits) is sourced on a time basis. Pa 1040ez Certain fringe benefits (such as housing and education) are sourced on a geographical basis. Pa 1040ez   Or, you may be permitted to use an alternative basis to determine the source of compensation. Pa 1040ez See Alternative basis , later. Pa 1040ez   If you are self-employed, determine the source of your income for labor or personal services from self-employment on the basis that most correctly reflects the proper source of that income under the facts and circumstances of your particular case. Pa 1040ez In many cases, the facts and circumstances will call for an apportionment on a time basis as explained next. Pa 1040ez Time basis. Pa 1040ez   Use a time basis to figure your compensation for labor or personal services from the relevant possession (other than the fringe benefits discussed later). Pa 1040ez Do this by multiplying your total compensation (other than the fringe benefits discussed later) by the following fraction:   Number of days you performed  services in the relevant  possession during the year     Total number of days you  performed services during the year           You can use a unit of time less than a day in the above fraction, if appropriate. Pa 1040ez The time period for which the income is made does not have to be a year. Pa 1040ez Instead, you can use another distinct, separate, and continuous time period if you can establish to the satisfaction of the IRS that this other period is more appropriate. Pa 1040ez Example. Pa 1040ez In 2013, you worked in your employer's office in the United States for 60 days and in the Puerto Rico office for 180 days, earning a total of $80,000 for the year. Pa 1040ez Your Puerto Rico source income is $60,000, figured as follows. Pa 1040ez       180 days 240 days × $80,000 = $60,000                 Multi-year compensation. Pa 1040ez   The source of multi-year compensation is generally determined on a time basis over the period to which the compensation is attributable. Pa 1040ez Multi-year compensation is compensation that is included in your income in 1 tax year but is attributable to a period that includes 2 or more tax years. Pa 1040ez You determine the period to which the income is attributable based on the facts and circumstances of your case. Pa 1040ez For more information on multi-year compensation, see Treasury Decision (T. Pa 1040ez D. Pa 1040ez ) 9212 and Regulations section 1. Pa 1040ez 861-4, 2005-35 I. Pa 1040ez R. Pa 1040ez B. Pa 1040ez 429, available at www. Pa 1040ez irs. Pa 1040ez gov/irb/2005-35_IRB/ar14. Pa 1040ez html. Pa 1040ez Certain fringe benefits sourced on a geographical basis. Pa 1040ez   If you received any of the following fringe benefits as compensation for labor or services performed as an employee partly inside and partly outside a relevant possession, you must source that income on a geographical basis. Pa 1040ez Housing. Pa 1040ez Education. Pa 1040ez Local transportation. Pa 1040ez Tax reimbursement. Pa 1040ez Hazardous or hardship duty pay. Pa 1040ez Moving expense reimbursement. Pa 1040ez For information on determining the source of the fringe benefits listed above, see Regulations section 1. Pa 1040ez 861-4. Pa 1040ez Alternative basis. Pa 1040ez   You can determine the source of your compensation under an alternative basis if you establish to the satisfaction of the IRS that, under the facts and circumstances of your case, the alternative basis more properly determines the source of your income than the time or geographical basis. Pa 1040ez If you use an alternative basis, you must keep (and have available for inspection) records to document why the alternative basis more properly determines the source of your income. Pa 1040ez De minimis exception. Pa 1040ez   There is an exception to the rule for determining the source of income earned in a possession. Pa 1040ez Generally, you will not have income from a possession if during a tax year you: Are a U. Pa 1040ez S. Pa 1040ez citizen or resident, Are not a bona fide resident of that possession, Are not employed by or under contract with an individual, partnership, or corporation that is engaged in a trade or business in that possession, Temporarily perform services in that possession for 90 days or less, and Earned $3,000 or less from such services. Pa 1040ez This exception began with income earned during your 2008 tax year. Pa 1040ez Pensions. Pa 1040ez   Generally, pension income has two components: contributions to the pension plan and the earnings accrued from investing those contributions. Pa 1040ez The contribution portion is sourced according to where services were performed that earned the pension. Pa 1040ez The investment earnings portion is sourced according to the location of the pension trust. Pa 1040ez Example. Pa 1040ez You are a U. Pa 1040ez S. Pa 1040ez citizen who worked in Puerto Rico for a U. Pa 1040ez S. Pa 1040ez company. Pa 1040ez All services were performed in Puerto Rico. Pa 1040ez Upon retirement you remained in Puerto Rico and began receiving your pension from the U. Pa 1040ez S. Pa 1040ez pension trust of your employer. Pa 1040ez Distributions from the U. Pa 1040ez S. Pa 1040ez pension trust must be allocated between (1) contributions, which are Puerto Rico source income, and (2) investment earnings, which are U. Pa 1040ez S. Pa 1040ez source income. Pa 1040ez Investment Income This category includes such income as interest, dividends, rents, and royalties. Pa 1040ez Interest income. Pa 1040ez   The source of interest income is generally determined by the residence of the payer. Pa 1040ez Interest paid by corporations created or organized in a relevant possession (possession corporation) or by individuals who are bona fide residents of a relevant possession is considered income from sources within that possession. Pa 1040ez   However, there is an exception to this rule if you are a bona fide resident of a relevant possession, receive interest from a corporation created or organized in that possession, and are a shareholder of that corporation who owns, directly or indirectly, at least 10% of the total voting stock of the corporation. Pa 1040ez See Regulations section 1. Pa 1040ez 937-2(i) for more information. Pa 1040ez Dividends. Pa 1040ez   Generally, dividends paid by a corporation created or organized in a relevant possession will be considered income from sources within that possession. Pa 1040ez There are additional rules for bona fide residents of a relevant possession who receive dividend income from possession corporations, and who own, directly or indirectly, at least 10% of the voting stock of the corporation. Pa 1040ez For more information, see Regulations section 1. Pa 1040ez 937-2(g). Pa 1040ez Rental income. Pa 1040ez   Rents from property located in a relevant possession are treated as income from sources within that possession. Pa 1040ez Royalties. Pa 1040ez   Royalties from natural resources located in a relevant possession are considered income from sources within that possession. Pa 1040ez   Also considered possession source income are royalties received for the use of, or for the privilege of using, in a relevant possession, patents, copyrights, secret processes and formulas, goodwill, trademarks, trade brands, franchises, and other like property. Pa 1040ez Sales or Other Dispositions of Property The source rules for sales or other dispositions of property are varied. Pa 1040ez The most common situations are discussed below. Pa 1040ez Real property. Pa 1040ez   Real property includes land and buildings, and generally anything built on, growing on, or attached to land. Pa 1040ez The location of the property generally determines the source of income from the sale. Pa 1040ez For example, if you are a bona fide resident of Guam and sell your home that is located in Guam, the gain on the sale is sourced in Guam. Pa 1040ez If, however, the home you sold was located in the United States, the gain is U. Pa 1040ez S. Pa 1040ez source income. Pa 1040ez Personal property. Pa 1040ez   The term “personal property” refers to property (such as machinery, equipment, or furniture) that is not real property. Pa 1040ez Generally, gain (or loss) from the sale or other disposition is sourced according to the seller's tax home. Pa 1040ez If personal property is sold by a bona fide resident of a relevant possession, the gain (or loss) from the sale is treated as sourced within that possession. Pa 1040ez   This rule does not apply to the sale of inventory, intangible property, depreciable personal property, or property sold through a foreign office or fixed place of business. Pa 1040ez The rules applying to sales of inventory are discussed below. Pa 1040ez For information on sales of the other types of property mentioned, see Internal Revenue Code section 865. Pa 1040ez Inventory. Pa 1040ez   Your inventory is personal property that is stock in trade or that is held primarily for sale to customers in the ordinary course of your trade or business. Pa 1040ez The source of income from the sale of inventory depends on whether the inventory was purchased or produced. Pa 1040ez Purchased. Pa 1040ez   Income from the sale of inventory that you purchased is sourced where you sell the property. Pa 1040ez Generally, this is where title to the property passes to the buyer. Pa 1040ez Produced. Pa 1040ez   Income from the sale of inventory that you produced in a relevant possession and sold outside that possession (or vice versa) is sourced based on an allocation. Pa 1040ez For information on making the allocation, see Regulations section 1. Pa 1040ez 863-3(f). Pa 1040ez Special Rules for Gains From Dispositions of Certain Property There are special rules for gains from dispositions of certain investment property (for example, stocks, bonds, debt instruments, diamonds, and gold) owned by a U. Pa 1040ez S. Pa 1040ez citizen or resident alien prior to becoming a bona fide resident of a possession. Pa 1040ez You are subject to these special rules if you meet both of the following conditions. Pa 1040ez For the tax year for which the source of the gain must be determined, you are a bona fide resident of the relevant possession. Pa 1040ez For any of the 10 years preceding that year, you were a citizen or resident alien of the United States (other than a bona fide resident of the relevant possession). Pa 1040ez If you meet these conditions, gains from the disposition of this property will not be treated as income from sources within the relevant possession for purposes of the Internal Revenue Code. Pa 1040ez Accordingly, bona fide residents of American Samoa and Puerto Rico, for example, may not exclude the gain on their U. Pa 1040ez S. Pa 1040ez tax return. Pa 1040ez (See chapter 3 for additional filing information. Pa 1040ez ) With respect to the CNMI, Guam, and the USVI, the gain from the disposition of this property will not meet the requirements for certain tax rules that may allow bona fide residents of those possessions to reduce or obtain a rebate of taxes on income from sources within the relevant possessions. Pa 1040ez These rules apply to dispositions after April 11, 2005. Pa 1040ez For details, see Regulations section 1. Pa 1040ez 937-2(f)(1) and Examples 1 and 2 of section 1. Pa 1040ez 937-2(k). Pa 1040ez Example 1. Pa 1040ez In 2007, Cheryl Jones, a U. Pa 1040ez S. Pa 1040ez citizen, lived in the United States and paid $1,000 for 100 shares of stock in the Rose Corporation, a U. Pa 1040ez S. Pa 1040ez corporation listed on the New York Stock Exchange. Pa 1040ez On March 1, 2010, she moved to Puerto Rico and changed her tax home to Puerto Rico on the same date. Pa 1040ez Cheryl satisfied the presence test in 2010 and, under the year-of-move exception, she was considered a bona fide resident of Puerto Rico for the rest of 2010. Pa 1040ez On March 1, 2010, the closing value of Cheryl's stock in the Rose Corporation was $2,000. Pa 1040ez On January 5, 2013, while still a bona fide resident of Puerto Rico, Cheryl sold all her Rose Corporation stock for $7,000. Pa 1040ez Under the earlier rules, none of Cheryl's $6,000 gain will be treated as income from sources within Puerto Rico. Pa 1040ez The source rules discussed in the preceding paragraphs supplement, and may apply in conjunction with, an existing special rule. Pa 1040ez This existing special rule applies if you are a U. Pa 1040ez S. Pa 1040ez citizen or resident alien who becomes a bona fide resident of American Samoa, the CNMI, or Guam, and who has gain from the disposition of certain U. Pa 1040ez S. Pa 1040ez assets during the 10-year period beginning when you became a bona fide resident. Pa 1040ez The gain is U. Pa 1040ez S. Pa 1040ez source income that generally is subject to U. Pa 1040ez S. Pa 1040ez tax if the property is either (1) located in the United States; (2) stock issued by a U. Pa 1040ez S. Pa 1040ez corporation or a debt obligation of a U. Pa 1040ez S. Pa 1040ez person or of the United States, a state (or political subdivision), or the District of Columbia; or (3) property that has a basis in whole or in part by reference to property described in (1) or (2). Pa 1040ez See chapter 3 for filing information. Pa 1040ez Special election. Pa 1040ez   For dispositions after April 11, 2005, you can choose to treat the part of gain (or loss) attributable to the time you held the property while a bona fide resident of the relevant possession (the possession holding period) as gain (or loss) from sources within that possession. Pa 1040ez Make the election by reporting the gain attributable to the possession holding period on your income tax return for the year of disposition. Pa 1040ez This election overrides both of the special rules discussed earlier. Pa 1040ez   There are two methods for figuring the gain for the possession holding period, one for marketable securities and another for other types of investment property. Pa 1040ez Marketable securities. Pa 1040ez   Marketable securities are those actively traded on an established financial market, such as stock in a publicly held corporation. Pa 1040ez Under the special election, allocate the gain (or loss) by figuring the appreciation separately for your possession and U. Pa 1040ez S. Pa 1040ez holding periods. Pa 1040ez   Your possession holding period begins on the first day you do not have a tax home outside the relevant possession. Pa 1040ez The gain (or loss) attributable to the possession holding period is the difference in fair market value of the security at the close of the market on the first and last days of this holding period. Pa 1040ez This is your gain (or loss) that is treated as being from sources within the relevant possession. Pa 1040ez If you were a bona fide resident of the relevant possession for more than one continuous period, combine the gains (or losses) from each possession holding period. Pa 1040ez Example 2. Pa 1040ez Assume the same facts as in Example 1, except that Cheryl makes the special election to allocate the gain between her U. Pa 1040ez S. Pa 1040ez and possession holding periods. Pa 1040ez Cheryl's possession holding period began March 1, 2010, the date her tax home changed to Puerto Rico. Pa 1040ez Therefore, the portion of gain attributable to her possession holding period is $5,000 ($7,000 sale price – $2,000 closing value on first day of the possession holding period). Pa 1040ez By reporting $5,000 of her $6,000 gain as Puerto Rico source income on her 2013 Puerto Rico tax return (and the remainder as non-Puerto Rico source income), Cheryl elects to treat that amount as Puerto Rico source income. Pa 1040ez Other personal property. Pa 1040ez   For personal property other than marketable securities, use a time-based allocation. Pa 1040ez Figure the gain (or loss) attributable to the possession holding period by multiplying your total gain (or loss) by the following fraction. Pa 1040ez      Number of days in the  possession holding period     Total number of days  in your holding period         The result is your gain (or loss) that is treated as being from sources within the relevant possession. Pa 1040ez Example 3. Pa 1040ez In addition to the stock in Rose Corporation, Cheryl acquired a 5% interest in the Alder Partnership on January 1, 2009. Pa 1040ez On March 1, 2010, when she established bona fide residency in Puerto Rico, her partnership interest was not considered a marketable security. Pa 1040ez On September 16, 2013, while still a bona fide resident of Puerto Rico, Cheryl sold her interest in Alder Partnership for a $100,000 gain. Pa 1040ez She had owned the interest for a total of 1,720 days. Pa 1040ez Cheryl's possession holding period (from March 1, 2010, through September 16, 2013) is 1,296 days. Pa 1040ez The portion of her gain attributable to Puerto Rico is $75,349 ($100,000 x (1,296 Puerto Rico days ÷ 1,720 total days)). Pa 1040ez By reporting $75,349 of her $100,000 gain as Puerto Rico source income on her 2013 Puerto Rico tax return (and the remainder as non-Puerto Rico source income), Cheryl elects to treat that amount as Puerto Rico source income. Pa 1040ez Scholarships, Fellowships, Grants, Prizes, and Awards The source of these types of income is generally the residence of the payer, regardless of who actually disburses the funds. Pa 1040ez Therefore, in order to be possession source income, the payer must be a resident of the relevant possession, such as an individual who is a bona fide resident or a corporation created or organized in that possession. Pa 1040ez These rules do not apply to amounts paid as salary or other compensation for services. Pa 1040ez See Compensation for Labor or Personal Services, earlier in this chapter, for the source rules that apply. Pa 1040ez Effectively Connected Income In limited circumstances, some kinds of income from sources outside the relevant possession must be treated as effectively connected with a trade or business in that possession. Pa 1040ez These circumstances are listed below. Pa 1040ez You have an office or other fixed place of business in the relevant possession to which the income can be attributed. Pa 1040ez That office or place of business is a material factor in producing the income. Pa 1040ez The income is produced in the ordinary course of the trade or business carried on through that office or other fixed place of business. Pa 1040ez An office or other fixed place of business is a material factor if it significantly contributes to, and is an essential economic element in, the earning of the income. Pa 1040ez The three kinds of income from sources outside the relevant possession to which these rules apply are the following. Pa 1040ez Rents and royalties for the use of, or for the privilege of using, intangible personal property located outside the relevant possession or from any interest in such property. Pa 1040ez Included are rents or royalties for the use of, or for the privilege of using, outside the relevant possession, patents, copyrights, secret processes and formulas, goodwill, trademarks, trade brands, franchises, and similar properties if the rents or royalties are from the active conduct of a trade or business in the relevant possession. Pa 1040ez Dividends or interest from the active conduct of a banking, financing, or similar business in the relevant possession. Pa 1040ez Income, gain, or loss from the sale or exchange outside the relevant possession, through the office or other fixed place of business in the relevant possession, of: Stock in trade, Property that would be included in inventory if on hand at the end of the tax year, or Property held primarily for sale to customers in the ordinary course of business. Pa 1040ez Item (3) will not apply if you sold the property for use, consumption, or disposition outside the relevant possession and an office or other fixed place of business in a foreign country was a material factor in the sale. Pa 1040ez Example. Pa 1040ez Marcy Jackson is a bona fide resident of American Samoa. Pa 1040ez Her business, which she conducts from an office in American Samoa, is developing and selling specialized computer software. Pa 1040ez A software purchaser will frequently pay Marcy an additional amount to install the software on the purchaser's operating system and to ensure that the software is functioning properly. Pa 1040ez Marcy installs the software at the purchaser's place of business, which may be in American Samoa, in the United States, or in another country. Pa 1040ez The income from selling the software is effectively connected with the conduct of Marcy's business in American Samoa, even though the product's destination may be outside the possession. Pa 1040ez However, the compensation she receives for installing the software (personal services) outside of American Samoa is not effectively connected with the conduct of her business in the possession—the income is sourced where she performs the services. Pa 1040ez Prev  Up  Next   Home   More Online Publications