4 Tax Accounting & Depreciation

Question 1

Constructive Receipt

4.164

Answer 1

Defines cash method of accounting.
Test to determine whether expenses or income are recognized.
When funds are available without restriction.
If there are Substantial Limitations, then it isn’t income:
1. Funds in escrow
2. Shares unavailable until a certain date
3. Retirement funds in a “Rabbi Trust”

Question 2

When do you have to use Accrual Accounting?

(instead of Cash Accounting)

4.164

Answer 2

1. Inventory - When inventory is necessary to account for income (then must use accrual method for purchases & sales.. could do hybrid approach and use cash for the rest of the businesses)
2. Corporation (excl. S-Corp) with Avg Gross Receipts for last 3 yrs ≥ $30M/yr

also desirable if cash flows are erratic

Question 3

Hybrid method of accounting

4.168

Answer 3

• Accrual method for inventory (sales & purchases)
• Cash method for other parts of business

Question 4

How does FIFO vs LIFO accounting affect profit & inventory value in contexts of rising vs falling prices?

4.168

Answer 4

Question 5

Depreciation
- When does it start/stop
- Reqs

4.172

Answer 5

• Starts when property placed in “useful service”
• Stops when “cost recovered” or “retired from service”
• Must be used in an income-producing activity with a determinable “useful life” > 1 year

Question 6

Four Depreciation Methods

Answer 6

1. Straight-Line: (Adj Basis or Purchase Price – Salvage Value) ÷ Useful Life = Annual Deprec.
2. MACRS (Modified Accelerated Cost Recovery System): More, then less
3. Section 179: Deprec. all in one year (up to net profit), excess carries to next year as 179 or switches to another method
4. Bonus Depreciation: e.g., 60% in 2024, apply immediately (and then eg use MACRS for the rest)

Question 7

When are different depreciation conventions used? (Annual etc.)

Answer 7

• Half-year / mid-year: most common
• Mid-quarter: If more than 40% of total depreciable assets (excl. RE) were placed in service in the last qtr of the tax year
• Mid-month: For real property

Question 8

Section 179
- Applies to
- Limits

nice to know, not need to know

Answer 8

Applies to…
- property that is used in a trade or business, NOT for property that is held to produce income
- does not apply to realty, anything outside US, used to furnish lodging, gift / inheritance / purchased from related parties)

Limits…
- Up to $1,220,000 (2024) of the acquisition cost
- Phases out as firm exceeds $3,050,000 in capital spend
- Up to net profit (if expensed all of it in year 1, rest can be 179’d next year; or expense only part and switch to a different deprec. method including in same year so profit is negative in 1st year)

nice to know, not need to know

Question 9

how to handle section 179 election if expense > profit

4.178

Answer 9

Option 1: Expense all of it, then excess (over profit) carries forward to next year as another 179 expense

Option 2: Expense up to net profit, plus first year of another deprec. method (eg MACRS), so profit is now negative

Sole propr. can aggregate 179 with unrelated wages

Question 10

Specific Identification Method of Inventory Accounting

Answer 10

• Inventory valuation and COGS are accurate