TCP Area I: Individuals & Personal Financial Planning

Gross income & exclusions §61 / §101–139

The starting point for every individual return is the §61 definition: gross income means "all income from whatever source derived." This is a deliberately broad, catch-all rule. Once an item is income, it is taxable unless the Code provides a specific exclusion. On TCP you are expected to reason from this default and then identify whether an exclusion applies, rather than memorize a closed list.

Common inclusions

• Compensation: wages, salaries, bonuses, tips, taxable fringe benefits, and the bargain element of nonqualified stock at exercise.
• Interest: taxable interest on bank accounts, corporate bonds, and Treasury obligations (Treasury interest is exempt from state tax, not federal).
• Dividends: ordinary dividends are taxed at ordinary rates; qualified dividends (on stock held more than 60 days within the 121-day window around the ex-dividend date) are taxed at the preferential 0/15/20% capital-gain rates.
• Business income: net profit from a sole proprietorship (Schedule C) and the taxpayer's share of partnership/S-corporation income.
• Alimony: taxable to the recipient (and deductible by the payor) only for divorce or separation instruments executed before 2019. Post-2018 agreements are neither deductible nor includible.
• Retirement distributions: IRA and pension distributions are included to the extent they represent previously untaxed contributions and earnings; basis (after-tax contributions) is recovered tax-free.
• Social Security benefits: includible based on provisional income, ranging from 0% up to a maximum of 85% of benefits for higher-income taxpayers.
• Other: unemployment compensation, gambling winnings, jury duty pay, prizes and awards, cancellation of debt income (absent an exclusion such as insolvency or qualified principal-residence indebtedness), and recovery of an amount previously deducted (tax-benefit rule).

Key exclusions

• Gifts and inheritances (§102): excluded by the recipient. Income subsequently earned on the property is taxable.
• Life-insurance proceeds (§101): death benefits paid by reason of the insured's death are excluded; interest on deferred payouts is taxable.
• Municipal-bond interest (§103): interest on state and local government bonds is excluded from federal gross income (note: private-activity bond interest is an AMT preference).
• Qualified scholarships (§117): amounts for tuition, fees, books, and required supplies are excluded; amounts for room and board, or pay for services, are taxable.
• Gain on sale of a principal residence (§121): up to $250,000 (single) or $500,000 (married filing jointly) of gain is excluded if the ownership and use tests (2 of the last 5 years) are met.
• Certain fringe benefits (§132): no-additional-cost services, qualified employee discounts, working-condition fringes, de minimis fringes, and qualified transportation.
• Return of capital: a recovery of the taxpayer's own basis is not income; only amounts in excess of basis are gain.
• Other: employer-provided health coverage, qualified distributions from Roth accounts, gain on qualified small business stock (§1202), and compensatory (not punitive) damages for physical injury or sickness (§104).

Adjustments to income (above-the-line) §62

Adjustments, also called deductions for AGI or above-the-line deductions, are subtracted from gross income to arrive at adjusted gross income (AGI). They are available to every taxpayer regardless of whether they itemize. Because AGI is the floor or ceiling for many later phaseouts and limitations, an above-the-line deduction is generally more valuable than a below-the-line one of the same size.

Self-employment related

• One-half of self-employment tax: the employer-equivalent portion of SE tax is deductible, mirroring the employer's deductible share of payroll tax.
• Self-employed health insurance: 100% of premiums for the self-employed taxpayer, spouse, and dependents are deductible above the line, limited to net SE earnings and not allowed for months the taxpayer was eligible for an employer plan.
• Self-employed retirement contributions: contributions to a SEP-IRA or solo 401(k) on behalf of the owner are above-the-line.

Savings and other adjustments

• Health savings account (HSA): deductible contributions for taxpayers with a qualifying high-deductible health plan (limits are inflation-adjusted; family coverage exceeds self-only, with an age-55 catch-up).
• Traditional IRA: deductible subject to the active-participant phaseout. If the taxpayer (or spouse) is an active participant in an employer plan, deductibility phases out over a MAGI range that differs for single, married filing jointly, and the spousal situation (2026, inflation-adjusted). With no plan coverage, the full deduction is allowed.
• Student-loan interest: up to $2,500 of interest on qualified education loans, phased out over a MAGI range and disallowed for married filing separately (2026, inflation-adjusted).
• Educator expenses: a modest above-the-line amount for unreimbursed classroom supplies for K–12 teachers (inflation-adjusted).
• Early-withdrawal penalty: the penalty a bank charges for breaking a CD early is deductible.
• Alimony: deductible only for pre-2019 instruments (consistent with the inclusion rule above).

Itemized deductions vs standard deduction §63 / §67 / §213

From AGI, a taxpayer subtracts the greater of the standard deduction or total itemized deductions to reach taxable income. The standard deduction is a flat, inflation-adjusted amount that varies by filing status, with an additional amount for taxpayers who are age 65 or older or blind (2026, inflation-adjusted). Most taxpayers take the standard deduction; itemizing is worthwhile only when allowable itemized deductions exceed it.

Itemized deduction categories (Schedule A)

• Medical expenses (§213): unreimbursed qualified medical and dental costs are deductible only to the extent they exceed 7.5% of AGI.
• State and local taxes (SALT): the combined deduction for state and local income (or sales) taxes plus property taxes is capped (the cap is inflation-adjusted for 2026). Foreign real-property taxes are not deductible here.
• Home-mortgage interest: interest on acquisition indebtedness is deductible up to a principal limit on debt used to buy, build, or substantially improve a qualified residence. Home-equity interest is deductible only if the proceeds were used to improve the home.
• Investment interest: deductible only up to net investment income; the excess carries forward. Qualified dividends and net capital gain are excluded from net investment income unless the taxpayer elects to tax them at ordinary rates.
• Charitable contributions: subject to AGI percentage ceilings (see below), with excess carried forward up to 5 years.
• Casualty and theft losses: deductible only if attributable to a federally declared disaster, and only to the extent the loss exceeds a per-event floor plus 10% of AGI.

Appreciated long-term capital-gain property donated to a public charity is generally deducted at fair market value (no recognition of the built-in gain), making it a powerful planning tool versus selling and donating cash.

Qualified business income deduction §199A

The §199A deduction lets eligible individuals deduct up to 20% of qualified business income (QBI) from pass-through entities and sole proprietorships. QBI is the net of qualified items of income, gain, deduction, and loss from a U.S. trade or business. It excludes investment items (capital gains, dividends, interest not allocable to the business), reasonable compensation paid to an S-corporation owner, and guaranteed payments to a partner.

How the limitation tiers work

The mechanics depend on taxable income relative to the threshold (2026, inflation-adjusted; a higher amount for married filing jointly).

1. Below the threshold: the deduction is simply 20% of QBI, with no SSTB restriction and no wage/property limit. This is the cleanest tier.
2. Within the phase-in range: the SSTB limitation and the wage-and-property limitation phase in proportionally over the range above the threshold.
3. Above the upper end of the range: the limits apply fully. An SSTB receives no deduction, and a non-SSTB deduction is capped by the wage-and-property test.

The two limits

• SSTB limitation: a specified service trade or business (health, law, accounting, consulting, athletics, financial services, and any business whose principal asset is the reputation or skill of its owners) loses the deduction once income exceeds the phase-out range. Engineering and architecture are notably excluded from SSTB status.
• Wage-and-property (W-2 / UBIA) limitation: the deduction for a business cannot exceed the greater of (a) 50% of the business's W-2 wages, or (b) 25% of W-2 wages plus 2.5% of the unadjusted basis immediately after acquisition (UBIA) of qualified property.

The overall cap

After the per-business calculation, the total deduction is limited to 20% of (taxable income − net capital gain). Net capital gain here includes qualified dividends. This overall limit is applied last.

Tax credits §21–25

Credits reduce tax liability directly, dollar-for-dollar, after taxable income and the tentative tax have been computed. They fall into two families: nonrefundable credits, which can reduce tax only to zero, and refundable credits, which can generate a refund beyond the tax owed. Many credits phase out as AGI or MAGI rises.

Family credits

• Child tax credit (CTC): a per-qualifying-child credit (under age 17), partly refundable as the additional child tax credit, phased out at higher AGI. A separate, smaller credit for other dependents covers qualifying relatives and children 17 or older; it is nonrefundable.
• Child & dependent care credit: a percentage of qualifying care expenses for a child under 13 or a disabled dependent, allowing the taxpayer (and spouse) to work; the percentage declines as AGI rises and is nonrefundable.
• Earned income credit: a refundable credit for lower-income working taxpayers; the amount depends on earned income, AGI, and the number of qualifying children, and is denied above an investment-income ceiling.

Education and savings credits

• American Opportunity credit (AOTC): up to $2,500 per student for the first four years of postsecondary education; 40% is refundable. Computed as 100% of the first $2,000 plus 25% of the next $2,000 of qualified expenses, subject to a MAGI phaseout.
• Lifetime Learning credit (LLC): 20% of up to $10,000 of qualified expenses per return (max $2,000), available for any postsecondary or job-skills coursework, but entirely nonrefundable and subject to a MAGI phaseout. You cannot claim AOTC and LLC for the same student in the same year.
• Retirement savings (saver's) credit: a nonrefundable credit for lower-income taxpayers who contribute to a retirement account.

Other credits

• Foreign tax credit: relieves double taxation on foreign-source income; a deduction is the alternative but the credit is usually superior.
• Adoption credit: a nonrefundable credit for qualified adoption expenses (inflation-adjusted), with a MAGI phaseout and a 5-year carryforward.
• Premium tax credit: assists with Marketplace health-insurance premiums based on household income.

Individual AMT §55–59

The alternative minimum tax is a parallel tax system designed to ensure that taxpayers with substantial economic income cannot eliminate their liability through preferences and deductions. The taxpayer computes tax twice and pays the higher of regular tax or the tentative minimum tax.

Building AMTI

Start with regular taxable income, then add back preferences and make adjustments to arrive at alternative minimum taxable income (AMTI):

• Add back the SALT itemized deduction (state and local taxes are not deductible for AMT).
• Add back certain home-mortgage interest where the loan was not used to buy, build, or improve the residence.
• Add the bargain element on the exercise of incentive stock options (ISOs), the gap between fair market value and the exercise price at exercise.
• Adjust for depreciation differences (AMT uses a slower method for certain property).
• Add tax-exempt interest from specified private-activity bonds.
• Add back the standard deduction if it was used (since AMT does not allow it).

From AMTI to AMT

1. Subtract the AMT exemption, which is itself phased out as AMTI rises above a threshold (both the exemption and the phaseout start are inflation-adjusted for 2026).
2. Apply the AMT rate schedule (26% / 28%) to taxable excess to get the tentative minimum tax (TMT).
3. AMT owed equals the excess, if any, of TMT over the regular tax.

The AMT credit

AMT caused by timing items (such as depreciation differences or an ISO exercise where the stock is held) generates a minimum tax credit that carries forward and offsets regular tax in future years, preventing permanent double taxation. AMT caused by exclusion items (such as the SALT addback) does not generate a credit.

Passive activity, at-risk & investment surtaxes §469 / §1411

Three loss-limitation regimes and several surtaxes police investment and rental income at the individual level. Losses pass through three gates in order: basis, then at-risk, then passive activity.

Passive activity loss rules (§469)

• A passive activity is a trade or business in which the taxpayer does not materially participate, plus most rental activities by default.
• Passive losses can offset only passive income. Disallowed losses are suspended and carry forward indefinitely.
• Suspended losses are released and become fully deductible in the year the taxpayer disposes of the entire interest in the activity in a taxable transaction.

Rental real-estate exceptions

• $25,000 active-participation allowance: a taxpayer who actively participates in rental real estate may deduct up to $25,000 of rental losses against nonpassive income. This allowance phases out at 50 cents per dollar of MAGI between $100,000 and $150,000, disappearing entirely at $150,000.
• Real-estate professional exception: a taxpayer who materially participates and meets the hours tests (more than half of personal-service time and more than 750 hours in real-property trades) treats qualifying rental activity as nonpassive, escaping §469 entirely.

At-risk limitation (§465)

Separately, losses are deductible only to the extent the taxpayer is at risk, generally cash and the adjusted basis of property contributed plus recourse debt. Nonrecourse financing (except qualified real-property nonrecourse) does not increase the at-risk amount. The at-risk screen is applied before the passive-activity screen.

Investment-income surtaxes

• Net investment income tax (§1411): a 3.8% surtax on the lesser of (a) net investment income, or (b) the excess of MAGI over a threshold ($200,000 single, $250,000 married filing jointly; not inflation-adjusted). Net investment income includes interest, dividends, capital gains, rents, royalties, and passive business income.
• Additional Medicare tax: a 0.9% tax on wages and self-employment income above the same threshold amounts; it applies to earned income, complementing the 3.8% tax on investment income.
• Kiddie tax: a child's net unearned income above an annual floor is taxed at the parents' marginal rate, preventing income-shifting to children in low brackets.

Retirement, education & gift planning PFP

Personal financial planning on TCP is about applying the tax rules strategically: deferring income, managing brackets, choosing between pre-tax and after-tax savings, and transferring wealth efficiently. The technical rules below are the toolkit; the exam tests your ability to recommend the right tool for a client's situation.

Traditional vs Roth IRA

Planning angle: a Roth favors taxpayers who expect higher future rates; a traditional account favors those who expect lower rates in retirement. A Roth conversion in a low-income year (for example, early retirement before Social Security begins) fills up low brackets at a known rate and removes future RMDs.

Employer plans

• 401(k) / 403(b): elective deferrals up to an annual limit, with a catch-up for those age 50 and older (limits are inflation-adjusted).
• SIMPLE IRA: for small employers; lower deferral limit with a required employer match or contribution.
• SEP-IRA: employer-funded, useful for the self-employed; contributions are a percentage of compensation up to a cap.

Distributions

• RMDs: the required beginning age is 73; failure to take an RMD triggers an excise tax on the shortfall.
• Early-distribution penalty: a 10% additional tax applies to distributions before age 59½, with exceptions for death, disability, qualified first-home purchase (IRA, up to $10,000), higher-education expenses (IRA), substantially equal periodic payments, and medical costs above the AGI floor.

Education funding

• 529 plans: contributions are not federally deductible, but growth and qualified-education withdrawals are tax-free; high aggregate limits and gift-tax front-loading (5-year election) make them a core funding vehicle.
• Coverdell ESA: a smaller annual contribution limit with broader K–12 use, phased out at higher income.

Gift and estate basics

• Annual exclusion: a per-donee, per-year amount (inflation-adjusted) can be gifted free of gift tax and without using the lifetime exemption.
• Lifetime unified credit/exemption: a large combined gift and estate exclusion (inflation-adjusted) shelters transfers above the annual exclusion; only transfers beyond it incur tax.
• Gift-splitting: married couples may elect to treat a gift by one spouse as made one-half by each, effectively doubling the annual exclusion per donee.
• Basis rules: a lifetime gift carries over the donor's basis (carryover basis), with a special rule for loss property. Property transferred at death generally receives a step-up (or step-down) to fair market value at the date of death.