The objectives of this exercise are:

1. to illustrate how federal income taxes and self-employment tax are computed.
2. to show how selling decisions at the end of the year can affect taxes and interest costs.

Complete the lines below from Internal Revenue Service (IRS) forms 1040, Schedule SE and Schedule F. Assume the return is for a married couple filing jointly, with two children.

Notecurrent values and rates may differ from those shown in the exercise.

Schedule FProfit or Loss from Farming

1. Record sales of cattle. $ 96,731
2. Record the original purchase cost of the cattle. $ 41,619

1. Subtract to find the taxable gain on cattle. $____________
2. Record sales of corn, soybeans and hogs. Do not include $141,622

sales of culled breeding stockthey are taxed as capital gains.

Do not include loans receivedthey are not considered income.

1. Record any crop insurance payments received. $14,300
2. Gross income (sum lines 3, 4, 5) $____________
3. Record all operating expenses, except purchases of feeder

livestock and depreciable assets. $142,698

1. Find Net Farm Profit (line 6 line 7). $____________

Schedule SESelf-employment Tax

Medicare tax: 2.9% of Net Farm Profit $____________

Social Security tax: 12.4% of Net Farm Profit, paid on a $____________

maximum of $118,500

Total self-employment tax $____________

Form 1040. U.S. Individual Income Tax

Complete all the blanks below. Notevalues may differ from those is effect in any given year.

1. Net Farm Profit (from Schedule F). $_____________

1. One-half of self employment tax (from Schedule SE). $_____________

1. Adjusted gross income (line 1 line 2). $_____________

1. You get to subtract the standard deduction of $25,000 for a

married couple filing jointly. $_____________

1. Federal taxable income (line 3 line 4) $_____________

6. Calculate the federal income tax on ordinary income.

a. 10% of your first $20,000 $_____________

b. 15% of everything from $20,000 up to $75,000 $_____________

c. 25% of everything from $75,000 up to $150,000 $_____________

d. Total federal income tax on ordinary income $_____________

1. Tax credit for four persons ($1,000 per person) $_____________

1. Enter self-employment tax . $_____________

1. What is your total federal and self-employment tax due? $_____________

(line 6 total line 7 + line 8)

Marginal Tax Rate

The marginal tax rate (MTR) is the total amount of additional tax due on one additional dollar of taxable income. What was the MTR in this example?

Medicare _______%

Social Security _______% (if income is under the maximum)

Federal _______% (tax rate on the last dollar of ordinary income)

Total _______%

Note: Many states also impose a tax on income, which would increase the marginal tax rate.

Tax Savings

Postponing reporting taxable income results in postponement of taxes, and having the use of the money that would have been paid in taxes for an extra year.

1. How much added tax would you have to pay if you had sold all your corn that you had at the end of the year for $20,000 additional revenue?

$___________

1. How much additional interest cost would be incurred by having less cash available due to paying taxes a year earlier? Multiply line 1 by an assumed interest rate of 6 %.

$____________

3. How much interest cost would be saved by having cash available from selling corn sooner? Assume the sale value would not change from your calculation in line 1, and that income would be received 4 months sooner. Multiply line 1 by 6%, for 4 months.

$____________

4. Would the interest savings have exceeded the extra interest cost from paying taxes a year sooner?

______________