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How do I answer this question for the NC State Return for NC ADDITIONS TO INCOME?

FTUSA_Community_12

Under the topic "NC additions to income" I don't know what are they asking? What are some examples of Expenses Allocable to Income Exempt or Excluded from Gross Income? Why would I include expenses that are exempt from NC income tax like it says below? Would this include 401K contributions?

Expenses Allocable to Income Exempt or Excluded From Gross Income

Enter the amount of expenses resulting from any income that was either excluded from federal gross income or exempt from NC income tax:

Only include expenses that are excluded from your federal adjusted gross income.

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FTUSA_Community_12

I would like to stress this question:

Why would I enter the amount of expenses which are exempt from NC income tax when these are suppose to be "NC additions to income" and would therefore result in exempt income being taxed?

I believe the confusion comes directly from incorrect instructions for line 12 of NC Form D-400 Schedule S.

NC DOR Line 12 instructions are confusing in it's entirety but especially the last sentence makes no sense:

"On Line 12, enter the amount of expenses allocable to income not subject to North Carolina income tax."

kiarab

Hello,

Good question. The key part here is the term “expenses”. Basically, if you had expenses for certain sources of income that wasn’t taxed by the federal return or the NC return, you need to add that here.

The best example I can think of is when you sell your home, and you qualify for the exemption so you do not need to pay any taxes on the sale of your home and you include your selling expenses to further reduce your taxable gains, you would then need to report those selling expenses that you allocated to your non-taxable income from the sale of your home. So you had income not taxable by the federal government, but there were expenses associated with that income (selling expenses) that you now should include here.

So your 401(k) contributions wouldn’t count, because those are not expenses.

FTUSA_Community_12

@kiarab Great explanation thank you.

Another example I learned from a tax expert:

An example that North Carolina gives here are expenses connected with Interest Income from United States Obligations -

Under G.S. 105-130.5(b)(1), interest income from obligations of the United States or its possessions is excludable from North Carolina taxable income to the extent such income is included in federal taxable income. Expenses incurred in producing the exempt income must be determined and subtracted from the gross amount earned during a taxable period before the deduction is made in computing the state taxable income.