Income Tax Flashcards
(22 cards)
Question 2
If a court disallowed a loss on the sale of an asset because the sale was not bona fide and was made for the sole purpose of realizing a loss, the court is applying which of the following doctrines?
A. Sham transaction
B. Tax Benefit rule
C. Step transaction
D. Assignment of income
A. A Sham transaction is intended for tax avoidance.
Which of the following businesses or entities is not permitted to use the cash method of accounting?
I. A CPA firm operating as a partnership
II. A trust
III. A large department store chain
IV. A C corporation with $80 million of annual gross receipts for more than 3 years
A. All of the above
B. 1, 11
C. II, IN
D. ١١١, ١٧
E. II, III
Question 5: D
The limit on C corporations is $31 million ($25 million indexed). A large department store chain uses the accrual method because it maintains inventory.
Question 8
Under which of the following situations can proceeds from the sale of property be recognized under the installment method?
A.
The property is sold at a loss.
B.
The property is sold to a son, who in turn sells the property to an unrelated third party within one year of the original purchase date.
The property sold is undeveloped land.
D. The property sold is publicly traded securities.
Question 8: C
The best answer is Answer C. The other situations do not permit the installment method for recognizing gain.
Question 9
Which type of business entity cannot adjust future years’ income due to prior years) NOL?
A. Regular corporations
B. S corporations
C. Estates
D. Trusts
Question 9: B
S corporations cannot utilize NOLs because they already pass-through annual losses.
Question 8
Which of the following is treated as an item of taxable income?
I. Sick pay
II. Workers’ Compensation disability income III. Tickets to Major League baseball games
IV. A gift of $30,000
V. Compensatory damages related to a personal injury litigation
A. 1, II1, IV
B. 1, I11
C. I١,١٧
D. ١V,٧
Question 8: B
Even if you do not know that sick pay is taxable, that value of the baseball tickets is taxable because they are not occasional. A gift is subject to gift tax but not income tax. Workers’ compensation and compensatory damages are tax-free.
On Form 1040, which of the following operates as a deduction from AGI?
A. Business loss
B. Capital loss
C. Alimony paid
D. Standard deduction
E. IRA distribution
Question 4: D
Total allowable itemized deductions or the standard deduction are deductions from AGI.
(dividends from their margin account treated as ordinary income), $30,000 (short-term gains) and $40,000 (long- term gains). They have been margining their portfolio and have incurred $50,000 of investment interest
expenses.
. What amount of investment interest can they deduct?
A.
$45,000
B. $50,000
C. $55,000
D. $60,000
Question 18: B
The Pell’s dividends are ordinary income. They are qualified dividends. Therefore, they count as investment income. They only have $50,000 of investment interest expense-not $60,000.
Which of the following forms of business organization can pass losses through to the owners)?
I. S corporation
II. C corporation
IlI. Sole proprietorship
IV. General partnership
V. Limited partnership
A. All of the above
B. 1, III, IV, V
C. II, IV, V
D. 1, III, V
E. I, IV
Question 3: B
C corporations may not pass losses through to their shareholders.
On what forms would the owner-employee of a regular corporation receive notice of distributed taxable income?
1. Schedule K-1 of the 1120
Il. W-2
III. 1099
IV. Schedule C
A. 1,11
B. 1, IV
C. 11, III
D. I
III, IV
Question 10: C
A regular corporation would report earned income to its employees on Form W-2 and dividends to shareholders on Form 1099. If the W-2 is true, the only answer is Answer C.
Pete operates his landscaping business as a sole proprietorship. The business produces annual net earnings of $400,000. Pete read an article in the Sunday paper about incorporating to limit a business owner’s personal liability. He comes to you for advice. Which of the following statements would be proper advice for a CFpo professional to tell Pete?
1. Pete should not incorporate his business because the top corporate income tax bracket is 21%.
II. A limited partnership would also protect him from liability.
III. An S corporation would save accounting costs because it does not have to file income tax returns.
IV. Pete can reduce his current income tax liability by splitting his income between himself and a C
corporation.
V. If he gives them stock, an S corporation could allow Pete to shift income to his children.
A. II, III
B.
C. II, V
D. IV, V
E. III, IV
D. corporate tax rate is 21%. As an active participant (general partner) the limited partnership would not limit Pete’s personal liability relative to the business. If Pete took a salary of $400,000, his marginal tax bracket is 35%. This way Pete could reduce his income tax liability. An S corporation could shift income.
Sara Jane established a revocable living trust. She transferred all her income producing assets into the trust.
How will the trust income be treated for tax purposes?
A. As Sara Jane’s personal income
B. Accumulated in the trust
C. Taxed at compressed trust income tax rates
D. Deferred until distribution to the ultimate (remainder) beneficiaries
Question 2: A
A revocable trust is tax-neutral (conduit).
Which of the following strategies should be considered to avoid or reduce exposure to the AMT tax?
A. Exercise of ISOs in one year
B. If you are the owner of a small corporation, pay yourself a large bonus
C. Defer paying property taxes until next year
D. Buy private activity municipal bonds rather than public purpose municipal bonds
Question 4: B
Increasing 1040 income tax decreases AMT exposure. Answer D should read: Buy public purpose municipal bonds (because the interest is not a preference item rather than private purpose bonds (because the interest is a preference item).
John Matthews, a married taxpayer filing a joint return, sells Section 1244 stock during the current year. Which of the following correctly identify the tax treatment of the sale?
1. Up to $50,000 of loss is treated as an ordinary loss.
II. Up to $100,000 of loss is treated as an ordinary loss.
III. Any loss in excess of the maximum annual ordinary loss is treated as a capital loss.
IV. A gain on the sale is considered ordinary income.
A. . I, III
B. HI, III
c.
II, IV
D.
1, III, IV
E.
I!, I١I I٧
Question 5: B
Statements Il and Ill are accurate. A gain on a sale of a small business stock is a capital gain. The $50,000 ordinary loss would apply to taxpayers other than married filing jointly. (See Income Tax Chapter 4)
Harry owns and operates a business as a sole proprietor. He purchased antique office furniture a few years ago at a cost of $8,000 to use in his business. Harry claimed $5,858 of cost-recovery deductions. This year he sold the office furniture for $11,500. What are the amount and nature (character) of the gain or loss resulting from this disposition?
A. $2,142 of 1245 gain and $3,500 of 1231 gain
B. $2,142 of 1245 gain and $5,858 of 1231 gain
C. $3,500 of 1245 gain and $5,858 of 1231 gain
D. $5,858 of 1245 gain and $3,500 of 1231 gain
Question 14: D
Original cost
-CRD
Basis
$8,000
-$5,858
$2,142
Sells
-Basis
Gain
$11,500
-$2,142
$9,358
recapture
1245 $5,858(01) number from -CRD above
excess (if any) 1231 $3,500(CG)
Question 8
Which of the following investments would produce phantom income for income tax purposes?
A. Series I bonds
B. STRIPS
C. GNMAS
D. Private activity municipal bonds
E. T-Bills
Question 8: B
As zero-coupon bonds, STRIPS produce taxable income that is not received until the bond matures. The inflation and fixed portions of | bond interest are tax-deferred until redemption or maturity (whichever comes first); it is not phantom income. Interest from private activity municipal bonds may create an AMT tax liability, but the income is not phantom because it is distributed in the current tax year. The question does not say the municipal
Question 9
When he files his Form 1040, Thomas will report the following income and losses for the year:
$5,000 loss from ownership (1%) in a limited partnership
$10,000 loss from active participation in a strip shopping center (100% ownership)
$8,000 loss from a 10% interest in an S-corporation in which he is a manager
$75,000 of salary as the manager of the S-corporation
What is Thomas’ adjusted gross income for the current tax year?
A.
$52,000
B.
$57,000
C. $65,000
D. $70,000
E. $75,000
Question 9: B
Salary ($75,000) - Active participation (-10,000) + S-Corp loss (-8,000)] = AGI ($57,000). The exception to the
passive rules is active participation in real estate. The S-Corp income is active. He manages the business.
Dr. Jeffrey is retired but bored. He is considering purchasing an antique refurbishing business. The business experienced marginal profits in the past. He has a knowledge of antiques and plans to upgrade the equipment and building. He feels that after losing money (due to upgrades), the business will be profitable. Dr. Jeffrey plans to put up all the capital. Which of the following business forms is the most appropriate?
A. Sole proprietorship
B. Limited partnership
C. Personal Service Corp.
D. S corporation
E. C corporation
Question 10: D
Dr. Jeffrey needs the limited liability associated with the corporate form. With an S corporation, he can take losses up to his investment (basis.
Lou is considering starting a manufacturing facility to make a laser wrinkle remover. Lou anticipates contributing a limited amount of capital to start the business. He anticipates incurring losses for several years due to substantial MACRS deductions generated by manufacturing equipment purchases. He is lending money to the business to purchase the manufacturing equipment. He can purchase a one-million-dollar business owner’s policy with a one-million-dollar umbrella. Which of the following business forms would be most appropriate for Lou to use at this time?
A. Sole proprietorship
B. Limited partnership
C. S corporation
D. C corporation
Question 11: C
Basis for an S corporation is limited to capital contribution and direct loans. It appears from the question that Lou would be able to take the losses (Basis equals cash plus direct loans). He would like the limited liability of the S corporation. $1 million limits on liability insurance won’t go far when one face job doesn’t work out.
Question 13
Mr. A owns a house that he rents to tenants. Mr. B owns a personal residence. Mr. A and Mr. B want to exchange properties. Under IRC Section 1031 rules, which of the following statements is true?
A.
The properties do not qualify for like-kind exchange.
B.
Mr. A can make a like-kind exchange if he uses the transferred property as rental property.
C. Mr. B can make a like-kind exchange if he uses the transferred property as rental property.
D.
Both Mr. A’s and Mr. B’s houses must meet the requirements for qualifying property.
B. If Mr. A uses B’s property as rental property, the property will qualify as a like-kind exchange for A. Mr. B owns a personal residence, not rental property (Chapter 7).
Question 15
Sally Franklin will report an AGI of $250,000. In addition, she currently has passive income of $30,000 and passive losses of $48,000, $30,000 of which she uses to offset the passive income and $18,000 of which is subject to disallowance. Which of the following activities offers the greatest potential for reducing Sally’s income tax liability?
A. Investing in active participation rental real estate that is producing a loss.
B. Investing in an equipment leasing limited partnership producing passive losses.
C. Investing in a newly created limited partnership involved in low-income housing that is producing passive losses and tax credits.
D. Investing in an oil and gas limited partnership that is generating losses. (PALs)
C. The “active participation” deduction is eliminated at $150,000 of AGI. The oil and gas limited partnership and the equipment leasing limited partnership would produce more passive losses that are nondeductible.
Equipment leasing partnerships are only effective for C corporations.
Question 17
For this year, R.J. received the following K-1s in the mail:
Arizona LP
$5,000 loss
Deep Hole Oil and Gas (GP)
$30,000 loss
What amount of loss can be deducted against his other income?
A. $3,000 maximum
B. $5,000
C. $30,000
D. $35,000
E. $0 These are passive losses
Question 17: C
Because the oil and gas is a general partnership (GP), the loss is deductible in full. The Arizona LP loss is a passive loss.
This year, Abby’s earned income will be $200,000 (AGI $225,000). She is looking for an investment that will allow her to take losses to offset her income. Which of the following investments will allow her to take the losses?
A. Her brother develops duplexes and will sell her a 25% limited partnership interest in some of the duplexes. Losses will total $25,000 or less in the first year.
B. She can buy into a historic rehabilitation program and claim a $25,000 credit.
C. She could purchase one or two duplexes and take losses up to $25,000 against her other income.
D. Abby can buy and manage a rental property outright and realize any losses the property would develop.
E. She can buy into XYZ Wildcat Oil and Gas Drilling Program as a general partner.
Question 14: E
Passive losses will not offset Abby’s earned income. As a limited partner, losses from her brother’s duplex program would be passive. With $225,000 in earned income, Abby is completely phased out for the active participation loss deduction. The rehab credit is a deduction- equivalent tax credit (Answer B). She cannot qualify for material participation.
