Accounting Method for Gross Income

Question 1

Which accounting method must be used if taxpayer carries inventory?

Answer 1

Accrual Method

Question 2

How are income/expenses recorded in the Cash Method of accounting?

Answer 2

Generally, when income is received or expenses are paid for

Question 3

Cash Method: What is the purpose for the Constructive-Receipt Doctrine?

Answer 3

To prevent taxpayers form knowingly and willingly refusing to receive income in order to defer taxes

Question 4

Cash Method:

What is the Constructive Receipt Doctrine ?

Answer 4

1. TP receives income during the year when it is:
   - tendered
   - credited
   - set apart
   - made available
2. If a taxpayer could reach out and take the income at any time then it is considered constructively received

Question 5

Cash Method:

What is the Cash Equivalent Doctrine?

Answer 5

If the TP receives property other than money then the FMV on the date of receipt is reported as income in the year of receipt.

Question 6

Cash Method:
In year 1: a corporation announces dividends that are payable on demand.
In year 2: The taxpayer demands the payment of the dividend
Under the cash accounting method when would income be declared on the tax return?

Answer 6

Year 1 - because it was constructively received by the taxpayer. The taxpayer could have reached out and taken the income at anytime.

Question 7

Cash Method:

Does constructive receipt apply if a customer has not paid the taxpayer?

Answer 7

Yes - if all the taxpayer has to do to take possession is to give notice or make demand

Question 8

Cash Method: 
A TP negotiates a contract to recieve: 
Year 1: $10,000
Year 2: $10,000
Year 3: $10,000
Payment is made according to the contract. When will the taxpayer be required to report the income?

Answer 8

Year 1 : taxpayer reports $10,000
Year 2: taxpayer reports $10,000
Year 3: taxpayer reports $10,000

Question 9

Cash Method:
Year 1: TP wins a car on 12/31/2019
Year 2: The car is a dealership that is closed until 1/3/2020
The taxpayer is given the keys and title on 1/3/2020
When is the income reported?

Answer 9

The FMV of the car is reported in year 2 because there was a substantial limit/restriction that kept her from accepting the income in year 1

Question 10

Cash Method:

When does the constructive receipt rule NOT apply?

Answer 10

If there are substantial restrictions or limits on the taxpayers control of receiving the income

Question 11

Cash Method:
How does the IRS handle the accounting for a taxpayer that has negotiated a contract that defers payment to a later year?

Answer 11

Generally, the IRS will honor the contractual timing of the payment:

• even if the taxpayer could have negotiated for an earlier payment
• even if the taxpayer negotiated in order to postpone income

Question 12

Cash Method:

When are DEDUCTIONS for expenses taken?

Answer 12

In the year the expenses are paid

Question 13

Cash Method:
Year 1: taxpayer borrows $10,000 to pay employees
Year 2: taxpayer pays employees $10,000
Year 3: taxpayer pays bank $10,000 for loan
When does the expense go on the tax return?

Answer 13

Year 2

Question 14

Cash Method:

When are expenses considered PAID?

Answer 14

• CASH when transferred
• CHECK when delivered (mailed)- not when cashed
• CREDIT CARD when charges occur
• MONEY BORROWED when expenses are paid
• PROMISSORY NOTE when note is paid (IOU)

Question 15

Cash Method:
Year 1: TP gets a $10,000 bank loan to pay employees
Year 2: TP gives employees $10,000 promissory note
Year 3: TP pays $10,000 promissory note
When does taxpayer record the expense?

Answer 15

Year 3 - paid the expense

Question 16

Accrual Accounting Method:

When is income reported?

Answer 16

When it is “earned”(you catered an event, you shipped the bikes you sold).
1 . All events have occurred and fixed the right to receive income
2.The amount can be determined relatively accurately

Question 17

Accrual Accounting Method:

All Events Test for Income - what are the two requirements?

Answer 17

1. Each event necessary to fix the taxpayers right to receive income has occurred
2. It is possible to determine the income amount with reasonable accuracy

Question 18

Accrual Accounting Method:

“Each event necessary to fix taxpayers right to receive income has occurred” - How is this test met?

Answer 18

EARLIEST of :

1. necessary performance takes place
2. payment becomes due
3. payment is made

Question 19

Accrual Accounting Method:
Year 1: Taxpayer performs the service
Year 2 Taxpayer bills $1000 on 1/20
Year 2: Customer pays $1000 on 2/20
When should the TP report the income?

Answer 19

Year 1. 
Report income on the earliest of: 
1. necessary performance takes place
2. payment is due
3. payment is made

Question 20

Accrual Accounting Method:

How is bad debt handled?

Answer 20

1. Uncertainty about being paid exists WHEN the All-events test is satisfied then the TP does NOT need to report income
2. Uncertainty exists AFTER the All-Events test is satisfied then the income must be reported and a deduction for bad debt may be possible

Question 21

Accrual Accounting Method:

When do you report payment in one year for fixed determined times in following years?

Answer 21

Defer reporting income until service is performed.

Question 22

Accrual Accounting Method:
When do you report payment made in one year for services that are provided on demand by the customer?
(Example: a roadside assistance service)

Answer 22

Report the entire amount in year income is recieved

Question 23

Accrual Accounting Method:
A baseball team sells season tickets for $1000 each.
Each ticket entitles the buyer 10 games on specific dates and at specific times.
Year 1: 2 games for $200
Year 2: 3 games for $300
Year 3: 5 games for $500
How will the income be reported?

Answer 23

In year the service what performed.
Year 1: report $200
Year 2: report $300
Year 3: report $500

Question 24

Accrual Accounting Method:

What are the All-Events Test for Deductions? (3)

Answer 24

1. each event that established the liability for expense has transpired
2. the liability amount is determinable in a reasonable, accurate way
3. Economic performance on the liability has occurred

Question 25

Accrual Accounting Method:

Requirements for “Establishing taxpayer’s liability for expenses has transpired” (2)

Answer 25

1. events needed to establish liability have occurred
   AND
2. payment comes due

Question 26

Accrual Accounting Method:
“Establishing taxpayer liability for expenses transpired” test - If the taxpayer contests liability has this test been met?

Answer 26

NO

Question 27

Accrual Accounting Method:

“Economic Performance has occurred” - when has this test been met? (2)

Answer 27

1.Taxpayer receives the services, property or use of property for which she incurred the liability
OR
2. Taxpayer incurs costs for services or property the taxpayer must provide

Question 28

Accrual Accounting Method:

What is the Claim-of-Right doctrine?

Answer 28

Earned AND received income: amount of income received must be included in tax year even if it is under dispute
Earned but NOT received income because of dispute does not have to reported. Income should be reported when dispute is resolved.

Question 29

Accrual Accounting Method:

According to the Claim-of-Right doctrine how should income under dispute that has earned and received be handled?

Answer 29

Report the income in that tax year

Question 30

Accrual Accounting Method:

According to the Claim-of-Right doctrine how should income under dispute that is earned but NOT received be handled?

Answer 30

Do not report the income until the dispute is settled.

Question 31

How does an employer allocate tips for a food service employee?

Answer 31

Amount Allocated by the employer to each server = [(food/drink sales *8%) - All employee’s reported tips]

Question 32

Accrual Method:

When are prepayments for merchandise inventory considered income?

Answer 32

Not until shipped

Question 33

How are bartered goods/services included in income?

Answer 33

at FMV

Question 34

What is the Assignment of Income Doctrine?

Answer 34

Gross income attributable to a taxpayer, even though the income is received by another person, is included in the taxpayers income.

Question 35

Who does the Assignment of Income Doctrine impose the tax on? (4)

Answer 35

1. the person who earned income
2. the person who produced the rights to receive the income
3. the person who enjoyed the benefits of it when the income was paid
4. the person who controls property that was the incomes source

Question 36

If your daughter rents a room in the house you own and keeps the rent to pay expenses, who should declare the income?

Answer 36

The owners of the asset declare the income according to the Assignment of Income Doctrine

Question 37

Can the owner of a business direct some of his income to his child so he will have a lower tax liability?

Answer 37

No.

Exception: the child works for the business as an employee. The child must “work” and the pay must be reasonable.

Question 38

A taxpayer gifts interest earned on securities to her 20 year old daughter who attends college. Who should include the interest in Gross Income?

Answer 38

The taxpayer because the property that generated the income is in his name - according to the Assignment of Income Doctrine.

Question 39

A taxpayer gives her daughter a bond in 2017. The bond has earned interest in tax year 2019. Who declares the interest as income?

Answer 39

The daughter because she owns the bond. Assignment of Income Doctrine

Question 40

What are the three requirements for property to be considered re-assigned under the Assignment of Income Doctrine?

Answer 40

1. transfer of property must be complete and bona fide
2. no control is retained over either the property or the income it produces
3. the transfer takes place before the income is earned

Question 41

How is Virtual Currency handled for Gross Income purposes?

Answer 41

1. virtual currency is treated as US property
2. wages paid with vc - are income to the employee
3. vc paid to contractors - income on Sched C
4. VC as an asset -depends
5. payments made to a taxpayer with VC are treated like currency-tp must include FMV of vc (measured in US dollars) on date received

Question 42

Accrual Method:
TP sells a car to a buyer on 12/15/2019. The property and rights to the car are transferred on the same day.
The buyer pays the taxpayer on 1/10/2020
When is the income reported?

Answer 42

2019- the taxpayer earned the right to the income in 2019 regardless of when the taxpayer was paid.

Question 43

Cash Method:
TP sells a car in Year 1 and transfers title
Customer writes the check in Year 1
TP cashes the check in Year 2

When does taxpayer report income?

Answer 43

Year 1 - because the income was constructively received

Question 44

Cash Method:
Year 1 : taxpayer sells car
Year 1: customer writes check but check bounces
Year 2: customer writes check and it clears
When does the taxpayer record the income?

Answer 44

Report in year 2

In year 1 a substantial restriction existed that prevented the taxpayer from cashing the check