Research Problem 3. John and Janet Baker are husband and wife and maintain a household in which the following persons live: Calvin and Florence Carter and Darin, Andrea, and Morgan Baker.
• Calvin and Florence are Janet's parents, who are retired. During the year, they receive $19,000 in nontaxable funds (e.g., disability income, interest on municipal bonds, and Social Security benefits). Of this amount, $8,000 is spent equally between them for clothing, transportation, and recreation (e.g., vacation) and the balance of $11,000 is invested in tax-exempt securities. Janet paid $1,000 for her mother's dental work and paid the $1,200 premium on an insurance policy her father owned on his own life. Calvin also had medical expenses, but he insisted on paying for them with his own funds.
• Darin is the Bakers' 18-year-old son who is not a student but operates a pool-cleaning service on a part-time basis. During the year, he earns $14,000 from the business, which he places in a savings account for later college expenses.
• Andrea is the Bakers' 19-year-old daughter who does not work or go to school. Tired of the inconvenience of borrowing and sharing the family car, during the year, she purchased a Camaro for $21,000. Andrea used funds from a savings account she had established several years ago with an inheritance from her paternal grandfather.
• Morgan is the Bakers' 23-year-old daughter. To attend graduate school at a local university, she applied for and obtained a student loan of $20,000. She uses the full amount to pay her college tuition.
The Bakers' fair rental value of their residence, including utilities, is $14,000, while their total food expense for the household is $10,500.
1. How many dependency exemptions will the Bakers be entitled to claim for the year? Explain your answer.
2. From a planning standpoint, how might the Bakers have improved the tax result?