Chapter 3 – ADJUSTMENTS TO INCOME (SCH 1- Part 2)
Above the line Deductions
Adjustments to adjusted gross income on Form 1040 include:-
Educator expenses - Up to $250 of qualified expenses ($500 if both spouses are
educators)
Certain business expenses of reservists, performing artists, and fee-basis government
officials (Form 2106 or 2106-EZ must be attached.)
Health savings account deduction (Form 8869 must be attached.)
Moving expenses for military personnel (Form 3903 must be attached.)
One-half of self-employment tax (Schedule SE must be attached.)
Penalty on early withdrawal of savings
Alimony paid. The decree must be final by December 31, 2018.
IRA deduction
Student loan interest deduction.
Sole proprietors and partners deduct contributions for their SEP, SIMPLE, or qualified
retirement plans on Form 1040 as an adjustment to gross income.
#1 EDUCATOR EXPENSES: (Line 11)
If the TP / SP is an Educator (Primary/Secondary) for 2021 (primary & Secondary)
incurs expenses towards: - Books,
Supplies, then up to $250 each is the
Equipments, Deduction
Materials, etc.,
For MFJ the maximum deduction is $500, but neither spouse can deduct more than
$250.
An Educator must put in at least 900 hours of teaching in a Tax/Calendar year.
The Deduction was made permanent by the PATH Act of 2015 eligible for increase
annually by inflation in increments of $50.
Qualified expenses do not include costs for
Home schooling or
Nonathletic supplies for courses in health or physical education.
#2 HEALTH SAVINGS ACCOUNT (HSA): Line 13
It is a trust or custodial account set up primarily for paying the medical expenses for
TP/SP/QC/QR.
Contributions to HSA are deductable and computed on FORM 8889.
HSA contributions depends on:
Their age
Their current health coverage
The type of HDHP (High Deductable Health Plan)
SEC 3 ADJUSTMENTS TO INCOMES Page 1
Chapter 3 – ADJUSTMENTS TO INCOME (SCH 1- Part 2)
Above the line Deductions
HSA contributions are NOT ALLOWED:
For Taxpayers aged 65 or OLDER
For Taxpayers enrolled in MEDICARE
If TP is claimed as dependent on Another taxpayers return
HSA contributions can be made up to April 15th :
For Self-coverage – up to $3,600
For Family-coverage – up to $7200
Catch up contribution is $1,000 if TP is aged 55 to 64.
If HSA distributions are used for Non-Medical Expenses, then regular Tax+20%
additional Tax will be applicable.
Form 5498-SA is used to report all amounts of employee contributions to a Medical
Savings Account (MSA) or to a Health Savings Account (HSA).
If a taxpayer has an Archer MSA, he can generally roll it over into an HSA tax free.
HSA cannot be joint accounts. Each spouse must open a separate account.
HSA funding distribution cannot be made from an ongoing SEP or SIMPLE IRA.
#Q) Can Insurance premiums be treated as qualified medical expenses for HSA Purposes?
# Insurance premiums cannot be treated as qualified medical expenses for HSA purposes unless
the premiums are for any of the following:
1. Long-term care insurance (subject to limits based on age)
2. Health care continuation coverage (such as coverage under COBRA)
3. Health care coverage while receiving unemployment compensation under federal or state law.
4. Medicare and other health care coverage if you were 65 or older (other than premiums for a
Medicare supplemental policy, such as Medigap)
Note:- Cannot treat insurance premiums for an HDHP as qualified medical expenses for HSA
purposes.
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Chapter 3 – ADJUSTMENTS TO INCOME (SCH 1- Part 2)
Above the line Deductions
#3 Self employed retirement Plan: Line 16
Description SEP (Keogh) SIMPLE
Contribution Least of Up to $13,500
$58,000 or Catchup Contributions of
25% of SE Earnings $3000 if aged 50 or more.
Abbreviation Simplified Employee Pension Savings Incentive Match Plan
for Employees
#4. Self-employment Tax Deduction: Line 15
SE taxes include SST, MCT, Rail Road Retirement Taxes.
A Deduction is allowed equal to deduct 50% of SE Taxes.
This deduction represents the business deduction for the employer side of the sole
proprietor.
A Self employed person pays for both employer and employee taxes.
Refer SE, SCH2, SCH1 & FORM 1040.
# Earnings subject to SE include:-
Fees of a professional fiduciary
Dealers in options and commodities must treat as net earnings from self-employment the
gains and losses from dealing or trading in Section 1256 contracts, or property related
to those contracts, such as stock used to hedge options
Self-employment income of a resident alien is generally subject to the same SE Tax
rules as U.S. citizens
However, NONRESIDENT aliens generally do not pay self-employment tax.
The total of self-employment income includes Schedule C, Schedule F, and all "pass-
through" self-employment income (i.e., K-1 income and deductions) from a partnership,
limited liability company, and S-Corporation.
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Chapter 3 – ADJUSTMENTS TO INCOME (SCH 1- Part 2)
Above the line Deductions
# Who Must Pay Self-Employment Tax?
Your net earnings from self-employment (excluding church employee income) were $400
or more.
The taxpayer performed services for a church as an employee and received income of
$108.28 or more.
# If TaxPayer Has More than one business ?
If a taxpayer has more than one business, he must file separate Schedule Cs, but
combine the income on one Schedule SE for purposes of calculating the amount of self-
employment taxes for the tax year.
#[Link]-Employed Health Insurance Deduction: Line 17
Any Health Insurance paid by the Self-Employed Taxpayer for TP/SP/QC/QR is
Deductable
The deduction is LIMITED to earned income from business.
A taxpayer cannot deduct payments for medical insurance for any month in which he was
eligible to participate in a health plan subsidized / sponsored by his employer, his
spouse's employer, or an employer of his dependent or child under age 27 at the end of
the year.
#6. PENALTY ON EARLY WITHDRAWAL OF SAVINGS: Line 18
This is a Penalty levied for early withdrawal from fixed deposits/Time deposits/
certificate of deposits.
It is usually reported in FORM 1099 –INT (BOX 2)
#7 IRA deductions: Line 20
See Sec 2 Chapter 7 IRA Notes.
#8 STUDENT LOAN INTEREST DEDUCTION: Line 21
The expense or education must be for TP/SP/QC/QR.
The deduction is up to $2,500
The education must be in USA.
The deduction will phase out in case of higher incomes.
This Interest is reported on FORM 1098-E
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Chapter 3 – ADJUSTMENTS TO INCOME (SCH 1- Part 2)
Above the line Deductions
Generally Student loan interest deduction begins to phase out for taxpayers with MAGI
in excess of $70,000 ($140,000 for joint returns) and is completely phased out for
taxpayers with MAGI of $85,000 or more ($170,000 or more for joint returns).
# Taxpayers cannot claim the student loan deduction if they:
Obtained the loan from a relative
Do not file jointly with their spouse, or
Can be claimed as a dependent.
# Conditions For student loan interest for qualified higher education expenses include:-
Generally, student loan interest is paid during the year on a loan for qualified higher education
expenses. The loan must meet all three of the following conditions:
It was for the taxpayer, the taxpayer's spouse, or a person who was the taxpayer's
dependent when the loan was obtained.
It was paid within a reasonable period of time before or after obtaining the loan.
It was for an eligible student.
#[Link] and fees Deductions:(Eliminated)
The Consolidated Appropriations Act, 2021 repealed (eliminated) the deduction for
qualified tuition and fees and increased the phaseout limits for the lifetime learning
credit, effective for taxable years beginning after December 31, 2020, as a transition
from the tuition and fees deduction to an increased income limitation on the lifetime
learning credit.
#10 ALIMONY: Line 19
For any divorce or separate maintenance instrument executed after December 31,
2018, (or executed on or before December 31, 2018 and modified after that date if the
modification expressly provides that the amendments made by the Tax Cuts and Jobs
Act, Section 11051, apply to such modification), alimony and separate maintenance
payments are no longer deductible by the payor spouse.
Additionally, alimony and separate maintenance payments are no longer included in
income by the recipient of the payments
SEC 3 ADJUSTMENTS TO INCOMES Page 5
Chapter 3 – ADJUSTMENTS TO INCOME (SCH 1- Part 2)
Above the line Deductions
Agreements Executed in 2018 or Earlier:-
Under prior rules, alimony was deductible by the payor and includible in the recipient's
income for a divorce or separation instrument executed on or before December 31,
2018, even when payments are made after 2018.
If a prior year agreement is modified after December 31, 2018, the tax treatment
will follow the old rules unless the modification expressly states the repeal of the
deduction for alimony payments applies to the modification or if the agreement is
changed to expressly provide that alimony received is not included in income, then the
tax treatment will follow the new rules.
If following the old rules, alimony is deductible by the payor and includible in the
recipient's income.
If following the new rules, alimony is not deductible by the payor and not includible in
the recipient's income
Qualified Alimony Payment:-
Made in cash or cash equivalents
Made to spouse/ on behalf of the Spouse.
Made to third party on behalf of Spouse
Eg: Mortgage payments, Medical expenses, Education, Rent, etc.
The Payor Spouse is NOT LIABLE for any payments after the death of Payee SP.
Payments that are NOT alimony include:-([Link])
Child support;
Noncash property settlements;
Payments that are a spouse's part of community income;
Payments to keep up the payer's property, or
Use of the payer's property
Jointly Owned Home:-
If TP and SP JOINTLY OWNED a home, then all mortgage payments
(PRINCIPAL & INTEREST) will be treated as Alimony
In this case, taxpayer can deduct 50% of total payments.
SEC 3 ADJUSTMENTS TO INCOMES Page 6
Chapter 3 – ADJUSTMENTS TO INCOME (SCH 1- Part 2)
Above the line Deductions
Child Support Payments:-
Child support payments are NOT DEDUCTABLE
Only payments in EXCESS of child support payments are treated as ALIMONY
and they are DEDUCTABLE.
Child Support Payments Include:
o Child contingency
o Child education
o Payments up to attainment of certain age, etc. are treated as child
support payments
Alimony Recapture:-
Recapture occurs if alimony payments DECREASE in 2ND or 3RD YEAR after the
divorce
Recapture is NOT REQUIRED if payments decrease due to DEATH of either
SP (anyone one of them).
Computation of Recapture Amount
Step 1: Compute the recapture alimony for 2nd year.
2A – (15k + 3A)
1A- Alimony received in year 1
2A: Alimony received in year 2
3A: Alimony received in year 3
2R: Alimony recaptured in year 2 (Step 1)
Step 2: Computation of recapture alimony for 1st year:
1A – 15k – 2A – 2R + 3A
2
Step 3: Computation of TAXABLE or DEDUCTABLE ALIMONY in year 3.
STEP 1 + STEP 2
Example:
In 2019: $60,000
In 2020: $40,000
In 2021: $10,000
Calculate the taxable or deductable alimony for year 3.
SEC 3 ADJUSTMENTS TO INCOMES Page 7
Chapter 3 – ADJUSTMENTS TO INCOME (SCH 1- Part 2)
Above the line Deductions
Answer:
Step 1: 2A – (15k + 3A)
40,000 – (15,000 + 10,000) = 15,000
Step 2: 1A – 15k – 2A – 2R + 3A
2
60,000 – 15000 – 40,000 – 15,000 + 10,000 = 27,500
2
Step3: Step 1+step2
= 15000+27500
s= 42,500
SEC 3 ADJUSTMENTS TO INCOMES Page 8