[Anonymous]

On December 1 of the prior year, Michaels, a self-employed cash basis taxpayer, borrowed $100,000 to use in her business. The loan was to be repaid on November 30 of the current year. Michaels paid the entire interest of $12,000 on December 1 of the prior year. What amount of interest was deductible on Michaels’ current year income tax return?

a. $0

b. $11,000

c. $1,000

d. $12,000

Choice “b” is correct.

I understand how the 11,000 is calculated. However, shouldn’t the answer be 0 because this would be subtracted on schedule C therefor it is not a deduction?

[Megatron]

I am totally with you on that one. These are the types of confusing questions I get too. My thought, being a guess, since they paid the entire 12,000 in the prior year that's when it flowed throughout Schedule C, in the prior year. Then being the current year, they got to treat it as a deduction on their 1040. I am reaching for straws I feel. I could be totally off basis here. Maybe someone else might know better.

AUD - 89
BEC - 77
FAR - 77
REG - 85

-Megatron

FAR - 77
BEC - 77
AUD - 89
REG - 85

[Megatron]

I am totally with you on that one. These are the types of confusing questions I get too. My thought, being a guess, since they paid the entire 12,000 in the prior year that's when it flowed throughout Schedule C, in the prior year. Then being the current year, they got to treat it as a deduction on their 1040. I am reaching for straws I feel. I could be totally off basis here. Maybe someone else might know better.

AUD - 89
BEC - 77
FAR - 77
REG - 85

-Megatron

FAR - 77
BEC - 77
AUD - 89
REG - 85

[PurpleK]

Interest expense can only be deducted (1) when it is paid and (2) when it economically accrues. In other words, even if interest expense is prepaid, it must be capitalized and expensed over the period in which it applies. Since 11 months of the interest expense is allocable to the current year, that portion can only be deducted currently and not in the prior year, despite being on cash basis.

[PurpleK]

Interest expense can only be deducted (1) when it is paid and (2) when it economically accrues. In other words, even if interest expense is prepaid, it must be capitalized and expensed over the period in which it applies. Since 11 months of the interest expense is allocable to the current year, that portion can only be deducted currently and not in the prior year, despite being on cash basis.

[Anonymous]

@PurpleK – I get that but isn't the 11,000 a business expense since it is for self employment business interest. I thought the 11,000 would net against the business gross income and not be considered a deduction.

[Anonymous]

@PurpleK – I get that but isn't the 11,000 a business expense since it is for self employment business interest. I thought the 11,000 would net against the business gross income and not be considered a deduction.

[PurpleK]

@Broval88 I think you are thinking about it too hard.

Netting interest expense with gross receipts is still considered a deduction. Anything that reduces taxable income whether or not on Schedule C or on the face of the 1040 is a “deduction.”

[PurpleK]

@Broval88 I think you are thinking about it too hard.

Netting interest expense with gross receipts is still considered a deduction. Anything that reduces taxable income whether or not on Schedule C or on the face of the 1040 is a “deduction.”

[Anonymous]

Exactly, it's a deduction regardless of what schedule it's on.

[Anonymous]

Exactly, it's a deduction regardless of what schedule it's on.

[Anonymous]

Ah. That makes sense. Thanks

[Anonymous]

Ah. That makes sense. Thanks

[Author]

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