Tax Case for Couple

Lucy and Ricky Ricardo are married and live in the Upper East Side of New YorkRicky, 53, is
a singer/bandleader and Lucy is an aspiring singer/actress (basically she wants to do anything
that involves performing)They both live at home fulltime. You will be preparing their income
tax return for 2022They will file married filing jointly and have one dependent (Little Ricky).
Their household income in 2022 is expected to be $90,000; they expect it to be the same next
yearLucy has not worked in 2022 and does not plan twork for the remainder of the year, such
that Ricky’s selfemployment (Schedule C) earnings represent the entire household incomeIn
October of 2022, you called Lucy and Ricky to find out if they have questions about yearend tax
planning. The following independent scenarios pertain to transactions they engaged in for tax
year (2022) for which you will be performing researchunless otherwise indicated:

Despite constantly getting into trouble with her friend, Ethel, Lucy is a well-known
author. Her tell-all book, “Being Married to a Famous Orchestra Leader” has become a
best seller. She does guest appearances (book readings) and book signings across the
country, with most sold out well in advance of her appearances.
Desilu Editors, Inc. (“Desilu”), a calendar-year S-corporation owned by Lucy and Ricky,
recently sold tickets ($100,000) for Lucy’s scheduled appearances for the current year
and next tax year. For financial statement purposes, Desilu, will recognize the income
from the ticket sales when the readings / signings take place. For tax purposes, the
business uses the accrual method and would prefer to defer the income from the ticket
sales until Lucy actually makes her appearances. This is the first time that Desilu has sold
tickets one or two years in advance. May the income be deferred (for tax purposes) until
the scheduled appearances actually take place?

Ricky is relatively well-known in the world of show business and has connections to
many famous musicians. He and Lucy are regularly invited to music award shows and
even attended the Grammys this year. Attendees of these award shows are often given
gift bags with expensive items. This year, at the Grammys Ricky received a new Rolex
watch and Lucy received a pair of diamond earrings. The items were free as long as
Ricky and Lucy agreed to use them while being photographed. They want to know if
these gifts (estimated value of $11,000) are considered taxable income.

Ricky has a 450 square foot “home office” in their New York apartment where he takes
calls and meetings, schedules performances, does the accounting for his business, and
plans performances for his band. He knows his office qualifies for the deductions related
to a home office and has taken home office expenses in previous years. In fact, last year
his total home office expenses were limited by his gross income, so he was able to deduct
some of them and the remainder will carry forward into this year’s tax return.
However, he recently heard about a “safe harbor” method that he is interested in learning
more about. Specifically, he wants to know if he qualifies for this method and whether he
can switch this year from the old method (of calculating actual expenses) to the new safe
harbor method. In addition, he wants to know if he needs IRS permission to switch.

He wants you to explain how this method is different from deducting actual expenses and
if you have an opinion on which method might be better for him. He wants to know
whether he can continue to depreciate the home office for tax purposes if he uses the
“safe harbor” method. Most importantly, he is curious about whether this simpler method
should have been used in preparing his return for previous years.

Ricky spent $6,000 this year on suits, shirts and shoes to wear while meeting with
potential clients, scheduling venues for performances, and holding auditions for his band.
Ricky also spent an additional $800 on a bright purple, sparkly, sequin-covered jacket
that he wears only for performances. Under what circumstances may Ricky deduct the
cost of these work clothes? If you find conflicting authority, discuss it.

Ethel Mertz (Fred’s widow) and Lucy have always been as close as sisters although they
are not related in any way by blood. To be honest, Ricky feels that she spends far too
much time in their home since Fred died. Against his better judgement, Ricky has agreed
to let Ethel (who is in her late 60s and does not work) move in with them permanently.
His hope is that keeping busy with Ethel will keep Lucy out of trouble.
He also thinks that Ethel is going to cost him a small fortune since Ethel eats a lot… at
least, that’s what Fred always told him. Once Ethel moves in, may the Ricardos claim her
as a dependent on their joint return? If so, when? What are the requirements for claiming
someone, such as Ethel, as a dependent? How, if at all, will Ethel’s move in affect the
Ricardo’s tax return filing status and/or income tax liability? Ricky figures that since he
is going to support Ethel, he ought to get a tax break.
Reminder: Please remember to consider Little Ricky in your determination of filing
status, dependency, and credits.

Ricky, like many clients, “knows a guy” who suggested that he adopt the corporate form
in order to lower his income tax liability. Currently, he is operating a Schedule C sole
proprietorship (unincorporated flow-through on 1040). He mentioned to Ricky a
reduction to the corporate tax rate to a flat 21%.
For this question only – Assume that the net income of his business has historically
been $250,000; including the remaining income from other sources brings their taxable
income to $300,000, putting them in the 24% marginal tax rate. Ricky would like a
“rough idea” regarding which way to proceed. Detailed computations are not required but
be able to articulate the “big picture” to the client. In other words, show some thought as
to what such a transition may cost. Limit your research to “regular” C corporations as
compared to his current Schedule C structure; do not consider partnership or S
corporation structures.
Hint: You are generally aware that the provisions for regular corporations (including a
flat tax rate) are among the permanent provisions of the TCJA 2017 while the individual
provisions (e.g., QBI) are scheduled to “sunset” at the end of 2025.

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