Tax research Memo

Taxresearch Memo

MEMO

Date:12thJuly 2014

Preparer:Kenneth

Reviewer:Jennifer Blixen

Facts:On 8thJuly 2014, a new client came to the office to prepare his 2013 taxreturns. After interviewing him, I escorted him to his car, where Idiscovered that he had won the car from a television game show he hadparticipated. The problem is that he had omitted the prize whenfilling for the tax returns. After mentioning to him that he shouldhave included the prize in his tax returns, he does not understandhow a gift he has received from a game show should be taxable, butfrom my understanding of the taxation law, the item is taxable.However, I did some research on taxation law to back up my argumentand below are the results of that research.

Issue:Is Michael’s car prize taxable

Authorities:TaxationAdministration Act 1953, Income Tax Assessment Act 1936

Conclusion:

Michael’scar prize is taxable because it is part of his income

Analysis

Accordingto IncomeTax Assessment Act 1936,ifa person participates in a contest, a lottery or a game show andreceives a prize, this is considered as taxable income. The amountthat is included as income is its fair market value at the time ofreceipt. All prizes are taxed as any other ordinary income. Thismeans that a person is supposed to add the value of their prize tothe total income received from their job or business and othersources during the financial year. At times the sponsor of a contestincludes cash awards on top of the prize to help in covering thetaxes, but this money is also taxable. The value of the prizeincreases the gross income of a person, which is likely to have animpact on the net taxable income after deductions and exemptions.This means that a prize won from a context can push someone into ahigher tax bracket. However I found that there are prizes that areexempt from taxation. These prizes include those that are given inrecognition of someone’s achievement in a field such as science,literature, civic affairs or educational achievement. Furthermore, ifthe prize won in a contest is donated to a charity, the prize cannotbe taxed because it has ceased being an income.

Ifthe prize won is not monetary, such as a car or a trip, the tax iscalculated using the fair market value. However, there is no uniformmethod that is used to determine the fair market value because theU.S tax court and the U.S tax code rulings have not specified therecommended way of determining the fair market value of non-monetaryprizes (Hellerstein, 2005). Due to lack of precedence and directionfrom legal authorities, it would be hard to determine the marketvalue of the client’s car because one can either use the suggestedretail price by the manufacturer or the discounted prize the sponsorof the contest paid for the car.

Iam seeking your advice on the way forward. It is clear that theclient’s car is taxable, but has not been included in the taxreturns. Should I go ahead and advise him to include the car as partof hi income? Secondly, when determining the fair market value of thecar, should I use the manufacturer’s retail prize or the discountedprize the sponsor of the contest paid from the car?

KindRegards

Kenneth

Reference

Hellerstein,W. (2005). &nbspStateand Local Taxation: Cases and Materials.NY: Cengage Learning