Part 2 - Businesses - Unit 2 - Questions Flashcards

Question

In 2022, Rex, a sole proprietor of Bay View Wrecking, had gross income of $200,000, a business bad debt deduction of $6,000, and other expenses of $156,000. Bay View Wrecking employed the accrual method of accounting and used the specific charge-off method for bad debts. In 2023, Bay View Wrecking recovered $4,500 of the $6,000 previously deducted in 2022. What is the correct way for Rex to report this recovery? A. Report $4,500 as “Other Income” on Schedule C in 2023. B. Report $4,500 as “Other Income” on return Form 1040, Schedule 1, line 8z, in 2023. C. Report $4,500 as “Other Income” on an amended 2022 Form 1040X return. D. Report $4,500 as a reduction of “Bad Debt” on Schedule C in 2023.

Answer 1

A. Report $4,500 as “Other Income” on Schedule C in 2023. - Publication 334, page 20, states that a taxpayer generally must report all income received from the business unless it is excluded by law. In most cases, business income will be in the form of cash, checks, and credit card charges, but it also can be in other forms, such as property or services. - Publication 334, page 24, further states, in part, that if a taxpayer recovers a bad debt or any other item deducted in a previous year, the recovery amount is included in income on Schedule C. If all or part of the deduction in earlier years did not reduce the taxpayer's tax, the taxpayer can exclude the part that did not reduce the tax. Likewise, if the taxpayer excluded part of the recovery from income, he or she must include a computation showing how the exclusion amount was figured. - Since Rex is reporting income on the accrual basis, he would have reduced his income by $6,000 in year 2022. Hence, Rex must include in income the $4,500 recovery amount in 2023, when he receives it.

Answer 2

D. Net capital loss carryovers may be carried forward to 7 succeeding tax years from the year of the loss. - A corporation can deduct capital losses only up to the amount of its capital gains. In other words, if a corporation has an excess capital loss, it cannot deduct the loss in the current tax year. Instead, it carries the loss to other tax years and deducts it from any net capital gains that occur in those years. - A capital loss is carried to other years in the following order: - 3 years prior to the loss year, - 2 years prior to the loss year, - 1 year prior to the loss year, and then - Any loss remaining is carried forward for 5 years. - More importantly, when a net capital loss is carried to another year, it is treated as a short-term loss. It does not retain its original identity. - Therefore, the only statement in the above question that is not true regarding corporate capital losses is that net capital loss carryovers may be carried forward to 7 succeeding tax years from the year of the loss.

Answer 3

D. All of the responses are acceptable. - The federal income tax system is a pay-as-you-go tax. Publication 542, page 6, provides that a corporation generally is required to make installment payments if it expects its estimated tax for the year will be $500 or more. - Additionally, corporations must use electronic funds transfers to make all federal tax deposits (such as deposits of employment, excise, and corporate income tax). This includes installment payments of estimated taxes. Generally, electronic funds transfers are made using the Electronic Federal Tax Payment System (EFTPS). However, if the corporation does not want to use EFTPS, it can arrange for its tax professional, financial institution, payroll service, or other trusted third party to make deposits on its behalf. - For deposits made by EFTPS to be on time, the corporation must initiate the deposit by 8 p.m. Eastern Time the day before the date the deposit is due. If the corporation uses a third party to make deposits on its behalf, they may have different cutoff times.

Answer 4

C. Unlike property you receive up to its cost on the date of the exchange. - Page 23 of Publication 544 provides, in part, that a partially nontaxable exchange is an exchange in which unlike property or money is received in addition to like property. - Page 23 of Publication 544 states the basis of the property received is the same as the basis of the property given up, with the following adjustments: - Decrease the basis by any money received and any loss recognized by the taxpayer on the exchange, and - Increase the basis by any additional costs incurred and any gain recognized by the taxpayer on the exchange. - If the other party to the exchange assumes the taxpayer's liabilities, treat the debt assumption as money received by the taxpayer in the exchange. - As a result, the unlike property given up by a taxpayer in a partially nontaxable exchange is not an adjustment to the basis.

Answer 5

B. Cash payments from a self-employed business account to charitable organizations may be deductible as business expenses if the payments are not charitable contributions. - Cash payments to an organization, charitable or otherwise, may be deductible as business expenses if the payments are not charitable contributions or gifts. If the payments are charitable contributions or gifts, you cannot deduct them as business expenses. - For example, a taxpayer pays $15 to a local church for a half-page ad in a program for a concert it is sponsoring. The purpose of the ad is to encourage readers to buy the taxpayer's products. The taxpayer's payment is not a charitable contribution, but it can be deducted as an advertising expense. - Corporations (other than S corporations), on the other hand, can deduct charitable contributions on their income tax returns.

Answer 6

B. The cruise ship company provides a statement that it has adequate facilities to accommodate the needs of the convention, seminar, or meetings. - Publication 463, pages 9 to 10, provides that a taxpayer can deduct up to $2,000 per year of his or her expenses of attending conventions, seminars, or similar meetings held on cruise ships. All ships that sail are considered cruise ships. - However, a taxpayer can deduct these expenses only if all five of the following requirements are met: - The convention, seminar, or meeting is directly related to his or her trade or business, - The cruise ship is a vessel registered in the United States, - All of the cruise ship's ports of call are in the United States or in possessions of the United States, - The taxpayer attaches to the tax return a written statement signed by the taxpayer that includes information about the total days of the trip (not including the days of transportation to and from the cruise ship port), the number of hours each day that the taxpayer devoted to scheduled business activities, and a program of the scheduled business activities of the meeting, and The taxpayer attaches to the taxpayer's return a written statement signed by an officer of the organization or group sponsoring the meeting that includes a schedule of the business activities of each day of the meeting, and the number of hours the taxpayer attended the scheduled business activities. - The cruise ship company providing a statement that it has adequate facilities to accommodate the needs of the convention, seminar, or meetings is NOT a requirement for deducting expenses associated with attending conventions, seminars, or similar meetings that are held on a cruise ship.

Answer 7

A. $0. - Publication 334, pages 34 and 35, provides that interest that is deductible relates to a trade or business if the taxpayer uses the proceeds of the loan for a trade or business expenses. - If, however, a taxpayer uses the cash method of accounting, the taxpayer cannot deduct interest that is paid with funds borrowed from the original lender through a second loan, an advance, or any other arrangement similar to a loan. Rather, the taxpayer must wait to deduct the interest expense once he or she starts making payments on the new loan (Publication 334, page 35). - As a result of the above rules, Sally cannot deduct any interest in the current year because she did not make any interest payments.

Answer 8

A. John will reflect his loss of inventory by properly reporting both his beginning and ending inventory in his cost of goods sold. - The treatment of inventory losses is covered on page 17 of Publication 538. More specific to this question, a taxpayer can claim a casualty or theft loss of inventory, including items held for sale to customers, through the increase in the cost of goods sold by properly reporting opening and closing inventories. Be aware, the loss cannot be claimed again as a casualty or theft loss. Any insurance or other reimbursement received by the taxpayer for the loss is taxable. - Be careful here, as a taxpayer can choose to claim the loss separately as a casualty or theft loss. However, if this method is elected, then the opening inventory or purchases must be adjusted to eliminate the loss items and avoid double-counting. As a result, the response that John can deduct the loss as a casualty or theft loss is not totally correct. - Therefore, it is true to say that John will reflect his loss of inventory by properly reporting both his beginning and ending inventory in his cost of goods sold.

Answer 9

D. $60,000. - Publication 551, page 4, states, in part, that if a taxpayer buys multiple assets for a lump sum, allocate the amount that the taxpayer pays among the assets received. The taxpayer must make this allocation to figure the basis for depreciation and gain or loss on a later disposition of any of these assets. - In this problem, the total FMV of the multiple assets on the purchase date is $150,000. The intangible asset in this package of assets is the franchise (see Publication 551, page 4, for a list of intangible assets), which had an FMV of $90,000 on the purchase date or 60% ($90,000 ÷ $150,000) of the purchased assets. As a result, Joe Crisco must allocate $60,000 to the purchased franchise, which is 60% of the FMV ($100,000) of the purchased assets.

Answer 10

C. $7,000. - Publication 550, page 82, provides that if someone owes a taxpayer money and the taxpayer is not going to be able to collect, the taxpayer has a bad debt. There are two kinds of bad debts—business and nonbusiness. - Loans made to a client, supplier, employee, or distributor for a business reason become worthless and are treated as a business bad debt. - Publication 550, pages 82 and 83, provides that a business bad debt is deductible as a business bad debt on the business tax return. Nonbusiness bad debts, however, are deductible only as short-term capital losses on Form 8949, Sales and Other Dispositions of Capital Assets, which is attached to Schedule D (Form 1040). - Since the loan that Jennifer made to her cousin John is not a business loan, she is only able to deduct $7,000 as a business bad debt, which is the total amount lent to her two clients for $5,000 and $2,000, respectively.

Answer 11

B. Health club and spas - Form 8995-A Instructions, pages 1–2, provides that a specified service trade or business (SSTB) is any trade or business providing services in specific fields, such as: - Health, including physicians, nurses, dentists, veterinarians, physical therapists, psychologists, and other similar healthcare professionals However, it excludes services not directly related to a medical services field, such as the operation of health clubs or spas; payment processing; or the research, testing, manufacture, and sale of pharmaceuticals or medical devices; - Law, including lawyers, paralegals, legal arbitrators, mediators, and similar professionals; - Accounting, including accountants, enrolled agents, return preparers, financial auditors, and similar professionals; - Actuarial science, including actuaries, and similar professions; - Consulting, including providing advice and counsel with the intention of influencing decisions made by a government or governmental agency and all attempts to influence legislators and other government officials on behalf of a client by lobbyists, and other similar professionals. - A more complete list of SSTBs are provided on page 2 of Form 8995 Instructions. - Hence, individuals drawing income from health clubs and spas are receiving QBI because their profession is excluded from the specified service trade or business classification.

Answer 12

B. 08/01/2022–07/31/2023. - Pages 2 and 3 of Publication 538 discuss the various tax periods. A fiscal year is 12 consecutive months ending on the last day of any month except December. A 52-53–week tax year is a fiscal year that varies from 52 to 53 weeks but may not end on the last day of a month. Under this election, the 52-53–week tax year must always end on the same day of the week. That is, the 52-53–week tax year must always end on: - Whatever date this same day of the week last occurs in a calendar month or - Whatever date this same day of the week falls that is nearest to the last day of the calendar month. - Be careful: The 01/01/2023–12/31/2023 answer choice is a good accounting period, but it is a calendar year and not a fiscal year. - Given the above information, a fiscal tax year in this problem would be the period of August 1, 2022, to July 31, 2023 (8/1/2022–7/31/2023).

Answer 13

A. $200. - Publication 334, page 20, provides that the credit for small employer pension plan start-up costs applies to pension plan start-up costs of a new qualified defined benefit or defined contribution plan (including a 401(k) plan), SIMPLE plan, or simplified employee pension, and is filed on Form 8881. The tax credit for small employer pension plan start-up costs is for expenses paid or incurred in connection with the establishing or administering of an eligible employer plan or the retirement-related education of employees about the plan. - The Further Consolidated Appropriations Act of 2020 increased the credit limit for the credit for small employer pension plan startup costs and introduced a new credit for small employer automatic enrollment with an auto-enrollment option for retirement savings (Form 8881 Instructions, page 1). - For an eligible employer, the credit is 50% of the qualified startup costs paid or incurred during the tax year. The credit is limited to the greater of $500 or the lesser of $250 for each employee that is eligible to participate in the plan and not highly compensated (as defined in section 414(q)) or $5,000 for the first tax year and each of the following 2 tax years. No credit is allowed for any other tax year. - Colleen would be able to claim a tax credit of $200, which is 50% of $400.

Answer 14

B. $6,000. - Publication 550, page 82, provides that if someone owes a taxpayer money and the taxpayer is not going to be able to collect, the taxpayer has a bad debt. There are two kinds of bad debts—business and nonbusiness. - Loans made to a client, supplier, employee, or distributor for a business reason become worthless and are treated as a business bad debt. - Publication 550, pages 82 to 84, provides that a business bad debt is deductible as a business bad debt on the business tax return. Nonbusiness bad debts, however, are deductible only as short-term capital losses on Form 8949, Sales and Other Dispositions of Capital Assets, which is attached to Schedule D (Form 1040). - Since the loan that Mary made to her cousin Sarah is not a business loan, she is only able to deduct $6,000 as a business bad debt, which is the total amount lent to Buttons & Bows ($5,000) and Thread Bare ($1,000).

Answer 15

C. Number of employees. - The QBI deduction is subject to multiple limitations, depending on the taxpayer’s taxable income, and may include the type of trade or business, the amount of W-2 wages paid by the trade or business, and the unadjusted basis immediately after acquisition (UBIA) of qualified property held by the trade or business. - The number of employees is not one of the possible limitations to the QBI deduction.

Answer 16

A. Memberships in municipal athletic facilities for employees, their spouses and their dependent children. - Publication 525, page 5, provides that if a taxpayer's employer provides free or low-cost use of an employer-operated gym or other athletic club on your employer's premises, the value is not included in your compensation. The gym must be used primarily by employees, their spouses, and their dependent children. - If, however, the employer pays for a fitness program provided to the employee at an off-site resort hotel or athletic club, the value of the program is included in the employee's compensation. - Similarly, if a taxpayer's employer gives a turkey, ham, or other item of nominal value at Christmas or other holidays, the value of the gift is not included in income. But if the employer gives cash or a gift certificate, the value is included in income. (Publication 525, page 5) - Publication 525, page 8, provides that if an employer provides a qualified transportation fringe benefit, the amount can be excluded from the employee's income, up to certain limits. For 20232, the exclusion for commuter vehicle transportation cannot be more than $300 a month. A qualified transportation fringe benefit is transportation in a commuter highway vehicle (such as a van) between your home and workplace, a transit pass, or qualified parking. It should be noted that the exclusion for qualified parking fringe benefit also is $300 a month. - Finally, Publication 525, pages 5–6, provides that if an employer sells property or services at a discount, the employee may be able to exclude the amount of the discount from the employee's income. The exclusion applies to discounts on property or services offered to customers in the ordinary course of the line of business in which the employee works.

Answer 17

A. They are deductible on Schedule C (Form 1040) and are not subject to a reduction of 2% of adjusted gross income (AGI). - Publication 334, page 3, states that statutory employees use Schedule C to report their wages and expenses. - In addition, Publication 334, page 6, provides that the net profit or net loss from a business as reported on Schedule C is added to or deducted from gross income on Schedule 1 (Form 1040). - For tax years beginning after 2017, the deduction for job-related or other miscellaneous itemized deductions subject to the 2%-of-adjusted-gross-income floor is suspended. Hence, the business expenses for statutory employees are not subject to the miscellaneous deduction limitation (2% floor adjustment) that previously appeared on a taxpayer's itemized deduction form.

Answer 18

B. Exchange of property used for personal purposes. - The nonrecognition rules for like-kind exchanges apply only to exchanges of real property held for investment or for productive use in a taxpayer’s trade or business and not held primarily for sale. In a like-kind exchange, both the real property you give up and the real property you receive must be held by you for investment or for productive use in your trade or business. Buildings, land, and rental property are examples of property that may qualify. - In general, the rules for like-kind exchanges do not apply to exchanges of the following property: - Real property used for personal purposes, such as a taxpayer’s home, - Real property held primarily for sale, or - Generally, any personal or intangible property. - Given the above listed exceptions, it is clear that an exchange of property used for personal purposes would not qualify as a like-kind exchange.

Answer 19

C. A survey of potential markets. - When a company opens for business, the company can elect to amortize certain costs for the set-up (start-up costs) and organization of the business over an amortization period of 60 months or more. - Start-up costs include costs for the following items: - An analysis or survey of potential markets, products, labor supply, transportation facilities, etc. - Advertisements for the opening of the business - Salaries and wages for employees who are being trained, and their instructors - Travel and other necessary costs for securing prospective distributors, suppliers, or customers - Salaries and fees for executives and consultants, or for similar professional services. - Additionally, start-up costs DO NOT include deductible interest, taxes, or research and experimental costs. - Therefore, in line with the above, the only qualifying start-up cost would be a survey of potential markets.

Answer 20

D. 50%. - The computation of recapture amounts under sections 179 and 280F(b)(2) or listed property is required when its use decreases to 50% or less.

Answer 21

D. 39 years for the building and 7 years for the used office furnishings. - Depreciation is a means by which costs are recovered by deducting a portion of those costs on a person's tax return each year. Each item of property that can be depreciated is assigned to a property class. The recovery period of the property depends on the class the property is in and the method used. - Under the general depreciation system (GDS) as given on page 31 of Publication 946, property is depreciated over one of the following recovery periods: 3-year property 3 years 5-year property 5 years 7-year property 7 years 10-year property 10 years 15-year property 15 years 20-year property 20 years 25-year property 25 years Residential rental property 27.5 years Nonresidential real property 39 years - Publication 946, page 28, provides, in part, that 7-year property includes office furniture and fixtures (such as desks, files, and safes). In addition, nonresidential real property includes Section 1250 property, such as an office building, store, or warehouse that is neither residential rental property nor property with a class life of less than 27.5 years. - As a result, Mrs. Black would use 39 years for the building and 7 years for the office furniture.

Answer 22

D. $5,000. - Form 8882, pages 1 and 2, provides the general rules for the credit for employer-provided childcare facilities and services. This credit applies to the qualified expenses the taxpayer paid for employee childcare and qualified expenses paid for childcare resource and referral services. - The credit is 25% of qualified expenses paid by the taxpayer for employee childcare facility expenditures and 10% of qualified expenses paid by the taxpayer for childcare resource and referral expenditures. This credit is limited to $150,000 each year. Excess expenses (i.e., beyond the credit limit) are depreciable. - As provided in the instructions of Form 8882, qualified childcare expenditures are amounts paid or incurred: - To acquire, construct, rehabilitate, or expand property that: - Is to be used as part of a qualified childcare facility of the taxpayer, - Is depreciable (or amortizable) property, and - Is not part of the principal residence of the taxpayer or any employee of the taxpayer; - For the operating expenses of a qualified childcare facility of the taxpayer, including expenses for training of employees, scholarship programs, and providing increased compensation to employees with higher levels of childcare training; or - Under a contract with a qualified childcare facility to provide childcare services to employees of the taxpayer. - In this problem, Ryan can claim a tax credit of $5,000, which is 25% of qualified expenses ($20,000), which is less than the credit limit of $150,000 for the year.

Answer 23

C. Generally when a partnership has more than 100 partners. - Publication 541, page 4, and Form 1065 Instructions, page 4, provide that certain partnerships with more than 100 partners are required to file Form 1065, Schedules K-1, and related forms and schedules electronically (e-file). - Other partnerships generally have the option to file electronically. Thus, the correct statement is a partnership is required to electronically file when a partnership has more than 100 partners.

Answer 24

A. Tangible property depreciated under MACRS with a recovery period of 25 years or less. - A taxpayer can take a special depreciation (also known as bonus depreciation) allowance to recover part of the cost of qualified property placed in service in 2023. The allowance applies only for the first year the property is placed in service. For qualified property placed in service in 2023, the taxpayer can take an additional 80% special allowance. (Instructions for Form 4562, page 5) - The allowance is an additional deduction a taxpayer can take after any Section 179 deduction and before figuring regular depreciation under MACRS for the year it is placed in service (Instructions for Form 4562, page 5). - Instructions for Form 4562, page 5, provides that certain property acquired after September 27, 2017, can qualify for bonus depreciation if the property meets certain conditions. The following is an abbreviated list of the conditions: - A recovery period of 20 years or less (not 25 years, as given in one of the answer choices) - Water utility property - Certain computer software - Qualified film, television, and live theatrical productions - The CARES Act, signed into law on March 27, 2020, expanded bonus depreciations to include qualified improvement by assigning QIP a 15-year recovery period thus fixing the legal "glitch" of TCJA (39-year recovery).

Answer 25

B. 2. - Page 11 of Publication 15 states, in part, that a worker who performs services for a taxpayer is the taxpayer's employee if the taxpayer can control what will be done and how it will be done. - People in business for themselves generally are not employees. For example, doctors, lawyers, veterinarians, and others in an independent trade in which they offer their services to the public are usually not employees. If, however, the business is incorporated, corporate officers who work in the business are employees. - If an employer-employee relationship exists, it does not matter what it is called. The employee may be called an agent or independent contractor; that does not mean that they are one. - In this problem, Susan (secretary) and Bob (loader) would be employees, but Max (accountant) is self-employed and thus is not an employee of Loaden. Hence, there are two employees in this problem.

Answer 26

C. Occupational tax and wagering tax. - Form 11-C, page 3, and Form 730, page 2, cover the two taxes imposed on wagering activities: 1. The first tax is the occupational tax (Form 11-C), which is paid if the taxpayer accepts taxable wagers for themselves or another person. There are two amounts of occupational tax ($50 or $500). One or the other applies depending on whether the wagers the taxpayer accepts are authorized by the laws of the state in which they accept the wager. 2. The second tax is the wagering tax (Form 730), which is paid if the taxpayer is in the business of accepting taxable wagers or running a wagering pool or lottery. In addition, the taxpayer must pay the tax on wagering if the taxpayer has not properly registered the name and address of his or her principal on Form 11-C.

Answer 27

D. $35,000. - A corporation will arrive at current earnings and profits by adding and subtracting applicable amounts against its taxable income. (See the instructions in Form 5452, pages 2 through 4, and Schedule M-1 in Form 1120 for further details.) - Therefore, the accumulated earnings and profits for Hampshire, Inc., is $35,000, calculated as follows: Beginning Earnings and Profits $20,000 Shareholder Distribution (30,000) Subtotal: (10,000) Taxable Income: 50,000 Less: Federal Income Taxes Paid (7,500) Plus: Tax-Exempt Income 2,500 Current Earnings and Profits $35,000

Answer 28

D. $1,080,000. - Publication 946, pages 17 to 18, provides the basic rule for the dollar limits available under Section 179. That is, the total amount a taxpayer can elect to deduct under Section 179 for most property in 2022 generally cannot be more than $1,080,000. If the taxpayer acquires and places in service more than one item of qualifying property during the year, the taxpayer can allocate the Section 179 deduction among the items in any way, as long as the total deduction is not more than $1,080,000. - The amount that a taxpayer can elect to claim is not affected if the property is placed in service in a short year or if the property is placed in service for only part of a 12-month year. - Under certain circumstances, the general dollar limits on the Section 179 deduction may be reduced. For example, if the cost of a taxpayer's Section 179 property placed in service exceeds $2,700,000, the amount is reduced one dollar for every excess dollar spent (but not below zero). (Rev. Proc. 2020-37) - In addition, a taxpayer cannot elect to expense more than $27,000 of the cost of any sport utility vehicle (SUV) and certain other vehicles placed in service during the year (Form 4562, page 1).

Answer 29

B. Legal fees paid to acquire a new office building are ordinary and necessary expenses directly related to operating your business and are deductible as business expenses. - The basic rule for a deductible business expense as given in Publication 535, page 3, is that a business expense must be both ordinary and necessary. An ordinary expense is one that is common and accepted in your trade or business. A necessary expense is one that is helpful and appropriate for your trade or business. An expense does not have to be indispensable to be considered necessary. - Publication 334, page 35, elaborates on the deductibility of legal and professional fees. More specifically, legal and professional fees, such as fees charged by accountants, are ordinary and necessary expenses directly related to operating a taxpayer's business are deductible as business expenses. However, a taxpayer usually cannot deduct legal fees paid to acquire business assets. These fees are added to the basis of the property. - Finally, reimbursements made to job candidates that are interviewing for possible employment are not wages. Rather, they are deductible business expenses. - Thus, legal fees to acquire a new office building are capitalized (not deducted) business expenses.

Answer 30

D. The taxpayer cannot deduct any of the premiums paid in the year 2023 for health insurance established under the taxpayer's business for the taxpayer or the taxpayer's spouse. - Publication 334, page 33, provides the basic rules for deducting 100% of the amount paid for medical and dental insurance and qualified long-term care insurance for you, your spouse, and your dependents. To qualify, the taxpayer must be one of the following: 1. A self-employed individual with a net profit reported on Schedule C or F, 2. A partner with net earnings from self-employment reported on Schedule K-1 (Form 1065), box 14, code A, 3. Used one of the optional methods to figure net earnings from self-employment on Schedule SE, or 4. A shareholder owning more than 2% of the outstanding stock of an S corporation with wages from the corporation reported on Form W-2. - If, however, the taxpayer has other coverage, the taxpayer cannot take the deduction for any month he was eligible to participate in any employer (including his spouse's) subsidized health plan at any time during that month. This rule is applied separately to plans that provide long-term care insurance and plans that do not provide long-term care insurance. (Publication 535, page 24) - In this case, therefore, the taxpayer would not be able to deduct the insurance premiums under his business because he is eligible to participate in a health plan that is subsidized by his spouse's employer. - However, any medical insurance payments not deductible on Schedule 1 (Form 1040 or 1040-SR), line 16 can be included as medical expenses on Schedule A (Form 1040 or 1040-SR) if the taxpayer itemizes deductions. But this amount would be generally subject to the 7.5% floor for medical expenses.

Answer 31

D. All of the answer choices are correct statements. - Publication 542, page 9, states, in part, that business expenses and interest owed to a related person who uses the cash method of accounting are not deductible until the taxpayer makes the payment and the corresponding amount is includible in the related person's gross income. Now, the relationship for this rule is determined as of the end of the tax year for which the expense or interest would otherwise be deductible. - For purposes of the related persons rule, a listing of relationships is provided in Publication 542, pages 9 and 10. One of the relationships defined is a corporation and a partnership if the same persons own more than 50% in value of the outstanding stock of the corporation and more than 50% of the capital or profits interest in the partnership. - In this case, Able and Baker own 51% of Galaxy Corporation and as such they satisfy the related person rule.

Answer 32

C. An exchange of land improved with an apartment house for land improved with a store building. - The nonrecognition rules for like-kind exchanges apply only to exchanges of real property held for investment or for productive use in a taxpayer’s trade or business and not held primarily for sale. In a like-kind exchange, both the real property given up and the real property received must be held for investment or for productive use in the trade or business by the taxpayer. - To qualify for the non-recognition rules, there must be an exchange of like-kind property. Like-kind properties are properties of the same nature or character, even if they differ in grade or quality. The exchange of real estate for real estate is an exchange of like-kind property. An exchange of personal property for real property does not qualify as a like-kind exchange. An exchange of city property for farm property, or improved property for unimproved property, is a like-kind exchange. The exchange of real estate that the taxpayer owns for a real estate lease that runs 30 year or longer is a like-kind exchange. - Real property located in the United States and real property located outside the United States are not considered like-kind property under the like-kind exchange rules. (Publication 544, page 18). - As a result, an exchange of land improved with an apartment house for land improved with a store building qualifies as a like-kind exchange.

Answer 33

D. None of the answer choices are correct. - Publication 334, page 36, provides that a taxpayer can deduct various federal, state, local, and foreign taxes directly attributable to the taxpayer's trade or business as business expenses. - With respect to sales taxes, a taxpayer treats any sales tax that is paid on a service or on the purchase or use of property as part of the cost of the service or property. If the service or the cost or use of the property is a deductible business expense, then the taxpayer can deduct the tax as part of that service or cost. If the property is merchandise bought for resale, the sales tax is part of the cost of the merchandise. If the property is depreciable, add the sales tax to the basis for depreciation. (Publication 334, page 36).

Answer 34

A. If Brandon makes permanent improvements to the leased property, he can take depreciation for the improvements only. - Publication 946, page 4, states, in part, that a taxpayer can depreciate leased property only if the taxpayer retains the incidents of ownership in the property. This means that the taxpayer bears the burden of exhaustion of the capital investment in the property. Therefore, if the taxpayer leases property from someone to use in his or her trade or business or for the production of income, the taxpayer generally cannot depreciate its cost because the taxpayer does not retain the incidents of ownership. The taxpayer can, however, depreciate any capital improvements made to the property by the taxpayer.

Answer 35

B. $5,120. - Pages 9 and 10 of Publication 583 provides the general rules for start-up costs paid by a taxpayer. In particular, start-up costs are costs for creating an active trade or business or investigating the creation or acquisition of an active trade or business. Start-up costs include any amounts paid or incurred in connection with any activity engaged in for profit and for the production of income in anticipation of the activity becoming an active trade or business. - Business start-up and organizational costs are generally capital expenditures. A taxpayer can elect to deduct up to $5,000 of business start-up costs and $5,000 of organizational costs as a current business expense. The $5,000 deduction is reduced by the amount the total start-up or organizational costs exceed $50,000. Any remaining costs must be amortized ratably over a 180-month period. (Publication 583, pages 9 and 10) - The amortization period starts with the month that the taxpayer's active trade or business begins. - Start-up costs include costs for the following items: - An analysis or survey of potential markets, products, labor supply, transportation facilities, etc. - Advertisements for the opening of the business - Salaries and wages for employees who are being trained and their instructors - Travel and other necessary costs for securing prospective distributors, suppliers, or customers - Salaries and fees for executives and consultants, or for similar professional services - Start-up costs do not include deductible interest, taxes, or research and experimental costs. - The total amortized cost Jeanne may deduct in 2023 is $120. Advertising $1,200 Market analysis survey 2,500 Employee training 6,000 Travel for securing prospective distributions 2,500 Total start-up costs $12,200 - Since the total start-up costs of $12,200 are less than $50,000, Jeanne can deduct the $5,000 business start-up costs, and also amortize the remaining costs of $7,200 ($12,200 − $5,000) over 180 months (($7,200 ÷ 180 months) × 3 months, or $120). Hence, the maximum deduction is $5,120. NOTE: Be advised that this type of question appears often on the exam in one form or another.

Answer 36

D. $3,000. - Publication 536, page 2, provides that a net operating loss (NOL) is one where the deductions for the year are more than the income for the year. In such a case, there are rules that limit what a taxpayer can deduct when calculating an NOL. In general, the following items are not allowed when computing an NOL: - Capital losses in excess of capital gains - The IRC Section 1202 exclusion of the gain from the sale or exchange of qualified small business stock - Nonbusiness deductions in excess of nonbusiness income - Net operating loss deduction - Qualified business income deduction - Domestic production activities deduction - The permitted NOL is computed as follows for this problem. INCOME Wages from part-time job $2,000 Interest on savings 450 Add net long-term capital gain on sale of business property 3,000 Stephanie's total income $5,450 ======= DEDUCTIONS Net loss from business $7,000 Net capital loss on sale of business equipment 1,000 Standard deduction 13,850 Stephanie's total deductions $21,850 ======= - Stephanie's deductions exceed her income by $16,400 ($21,850 − $5,450). To figure whether she has an NOL, certain deductions are not allowed. The following items are not allowed on Form 1045 (Schedule A). Nonbusiness net short-term capital loss: $0 Nonbusiness deductions (standard deduction): $13,850 Minus nonbusiness income (interest): $450 Total adjustments to net loss: $13,400 - Therefore, Stephanie's NOL for 2023 is figured as follows: Stephanie's total 2023 income: $5,450 Less: Stephanie's original 2023 total deductions: $21,850 Reduced by the disallowed items: $(13,400) $21,850 - $13,400 = $8,450 Stephanie's NOL for 2023: $(3,000)

Answer 37

A. $2,880. - Publication 544, page 26, provides that IRC Section 1231 gains and losses are taxable gains and losses from Section 1231 transactions but does not include any of the gain that is ordinary income as a result of any recapture provisions. In the case of a sale or exchange of real property that is used in a trade or business and held longer than 1 year, the sale or exchange is a Section 1231 transaction. - In addition, all real property that is subject to an allowance for depreciation and that is not and never has been IRC Section 1245 property (see Publication 544, pages 27 and 28, for Section 1245 property definition) is known as IRC Section 1250 property, and the gain on its disposition is treated as ordinary income to the extent of additional depreciation allowed or allowable on the property (Publication 544, page 29). - The additional depreciation for Section 1250 property that is held longer than 1 year is the actual depreciation adjustments that are more than the depreciation figured using the straight-line method. (Publication 544, pages 29) - In this problem, the taxpayer's Section 1250 gain is the difference between the MACRS and straight-line depreciation, which is $2,880 ($67,840 − $64,960).

Answer 38

C. $35,000. - Publication 544, page 9, provides that an involuntary conversion occurs when a taxpayer's property is destroyed, stolen, condemned, or disposed of under the threat of condemnation, and the taxpayer receives other property or money in payment, such as insurance or a condemnation award. - However, the taxpayer does not report the gain if the taxpayer receives property that is similar or related in service or use to the converted property. The taxpayer's basis for the new property is the same as the basis for the converted property. This means that the gain is deferred until a taxable sale or exchange occurs. - If the taxpayer's net condemnation award is more than the adjusted basis of the condemned property, the taxpayer has a gain. In this case, the taxpayer can postpone reporting gain from a condemnation if the taxpayer buys replacement property, within a specified period (Publication 544, page 9). - To postpone reporting all of the gain, the taxpayer must buy replacement property costing at least as much as the amount realized for the condemned property. If the cost of the replacement property is less than the amount realized, the taxpayer must report the gain up to the unspent part of the amount realized (Publication 544, page 10–12). - Since Sally's proceeds from the condemnation were $220,000 and the adjusted basis in the property was $20,000, Sally has a gain of $200,000. However, she purchases replacement property for $185,000, which triggers a recognizable gain of $35,000 ($220,000 − $185,000).

Answer 39

C. No more than $29 million in gross receipts and less than 10% of SSTB activity. - Regulation Section 1.199A-5(c)(1) provides a de minimis rule for those businesses that are involved in only a relatively small amount of SSTB (specified service trade or business) type of activities. The threshold for qualifying under the de minimis rule is: - For those businesses in which annual gross receipts do not exceed $29 million, the business is not considered an SSTB if less than 10% of its gross receipts are related to the types of services associated with an SSTB. - For those businesses in which annual gross receipts are above the $29 million threshold, the business is not considered an SSTB if less than 5% (rather than 10%) of its gross receipts are related to the types of services associated with an SSTB. - The rule also provides that activities that are done incidentally to performing the services is part of performing the services for this test. More importantly, this threshold level of gross receipts is, in effect, a cliff because if it is exceeded, the entire business is an SSTB. That is, there is no phase-in range.

Answer 40

D. $20,200. - Publication 946, pages 59 through 61, provides that deduction limits and other special rules apply to certain listed property. Passenger automobiles are included as listed property. - The depreciation is $20,200 for an automobile that is acquired and placed in service in 2023 and is a passenger automobile (including trucks and vans) (or $12,200 if special depreciation is not elected or if property is not qualified to elect) (Publication 946, page 60). - With respect to other vehicles purchased in 2023, the depreciation limit for an electric vehicle, trucks and vans is $20,200 (the same as for a passenger automobile). (Publication 946, pages 60–61).

Answer 41

C. $(2,000). - Publication 334, page 39, provides the general rules for situations where a taxpayer is not carrying his or her business or investment activity to make a profit. In this case, a taxpayer is operating a hobby and, as such, cannot use a loss from the activity to offset other income. - Activities a taxpayer does as a hobby, or mainly for sport or recreation, are often not entered into for profit. An activity is presumed carried on for profit if it produced a profit in at least 3 of the last 5 tax years, including the current year. - In this case, Richard appears to be operating a not-for-profit business and therefore he can only deduct the real estate taxes of $500 and mortgage interest of $1,500 for a total of $2,000.

Answer 42

C. $5,050. - When a company opens for business, the company can elect to amortize certain costs for the set-up and organization of the business. The amortization period starts with the month the company's active trade or business begins. For costs paid or incurred after September 8, 2008, a taxpayer can elect to deduct a limited amount of start-up and organization costs. The costs that are not deducted currently can be amortized ratably over a 180-month period. - A taxpayer can elect to deduct up to $5,000 of business start-up costs and $5,000 of organizational costs as a current business expense in the current tax year. The $5,000 deduction is reduced by the amount the total start-up or organizational costs exceed $50,000. Any remaining costs must be amortized ratably over a 180-month period. (Publication 583, pages 9 and 10) - Publication 583, page 9, provides that the costs of organizing a corporation are the direct costs of creating the corporation. Organization costs can be amortized only if they meet all of the following tests: - They are for the creation of the corporation, - They are chargeable to a capital account, - They could be amortized over the life of the corporation if the corporation had a fixed life, and - They are incurred before the end of the first tax year in which the corporation is in business. - Since the Jones Corporation made the timely election, $5,050 may be amortized in the corporation's first tax year if it adopts a calendar year and the accrual basis of accounting for tax purposes, computed as follows: Incurred and paid in December 2023: $10,000 Incurred in December 2023 but paid in January 2024: $4,000 Total qualifying organizational costs: $14,000 Organizational expenditure deducted (Amounts incurred in 2023 are limited to $5,000.): 5,000 Balance of qualifying organizational costs: $9,000 Divided by amortization period of 180 months: 180 Amortization per month: $50 Multiplied by months of operation in 2023: 1 2023 yearly amortization expense: $50 ====================================== Organizational expenditure deducted: $5,000 2023 yearly amortization expense: $50 ====================================== Total 2023 deductible expense: $5,050

Answer 43

A. $78,000. - Publication 544, page 26, provides that IRC Section 1231 gains and losses are taxable gains and losses from Section 1231 transactions but does not include any of the gain that is ordinary income as a result of any recapture provisions. In the case of a sale or exchange of real property that is used in a trade or business and held longer than 1 year, the sale or exchange is a Section 1231 transaction. - All real property that is subject to an allowance for depreciation and that is not and never has been IRC Section 1245 property (see Publication 544, pages 27 and 28, for Section 1245 property definition) is known as IRC Section 1250 property and the gain on its disposition is treated as ordinary income to the extent of additional depreciation allowed or allowable on the property (Publication 544, page 29). - The additional depreciation for Section 1250 property that is held longer than 1 year is the actual depreciation adjustments that are more than the depreciation figured using the straight-line method (Publication 544, page 29). In this problem, Arthur did not elect MACRS depreciation; hence, he does not have any additional depreciation. - In this problem, Arthur's commercial building qualifies as Section 1250 property. - The adjusted basis for the property is $102,000, which is the original basis of $120,000 ($20,000 + $100,000) less the straight-line depreciation of $18,000. - Hence, the Section 1231 gain is $78,000, which is the sales price of $180,000 less the adjusted basis of $102,000. NOTE: The term "recapture" refers to the excess amount of accelerated depreciation taken on real property over straight-line depreciation if it had been taken. This amount is subject to ordinary tax rates instead of Section 1231 gain tax rates.

Answer 44

A. $1,075. - Publication 463, pages 7 and 8, provides that for meals and entertainment expenses paid or incurred after December 2017, the tax law has changed. Traditionally, meals and entertainment expenses have followed the same set of rules. For expenses after December 2017, meals are now treated differently from entertainment expenses. Entertainment includes any activity generally considered to provide entertainment, amusement, or recreation. Generally, entertainment expenses are nondeductible after December 2017. However, the taxpayer’s kind of business may determine if a particular activity is considered entertainment. For example, if a taxpayer is a dress designer and has a fashion show to introduce new designs to buyers, the show is not considered entertainment. But if an appliance distributor holds a fashion show for the spouses of retailers, the show generally is considered entertainment. - As discussed above, entertainment expenses are generally nondeductible. However, a taxpayer may continue to deduct 50% of the cost of business meals if the taxpayer or an employee is present, and the food and beverages are not considered lavish or extravagant and provided by a restaurant. The meals may be provided to a current or potential business customer, client, consultant, or similar business contact. - One limitation to a deductible meal expense results when a group of business acquaintances takes turns picking up each other's meal checks primarily for personal reasons, without regard to whether any business purposes are served. In this case, no member of the group can deduct any part of the expense (Publication 463, page 11). - Mr. Robbers, in this problem, is able to deduct $1,075, which is 100% of the room rental of $1,000 to show his business products that should not be considered an entertainment expense and 50% of the breakfast meal with the business discussion of $150.

Answer 45

D. Meals furnished to a customer during a business discussion. - Publication 463, page 10, states that, in general, a taxpayer can no longer take a deduction for any expense related to activities generally considered entertainment, amusement, or recreation. A taxpayer, however, can continue to deduct 50% of the cost of business meals if the taxpayer (or their employee) is present and the food or beverages aren't considered lavish or extravagant. For more information, see pages 10 and 11 of Pub. 463. - The 50% limit does not apply to an expense for food or beverage that is excluded from the gross income of an employee because it is a de minimis fringe benefit. - Publication 15-B, page 17, provides the following examples: - Coffee, doughnuts, or soft drinks - Occasional meals or meal money provided to enable an employee to work overtime (However, the exclusion does not apply to meal money figured on the basis of hours worked.) - Occasional parties or picnics for employees and their guests - The cost of food and beverages a taxpayer provides primarily to the employees on the taxpayer's business premises is deductible. This includes the cost of maintaining the facilities for providing the food and beverages. These expenses are subject to the 50% limit unless they qualify as a de minimis fringe benefit. Publication 15-B, page 18, provides that a taxpayer can exclude the value of meals the taxpayer furnishes to an employee from the employee's wages if they meet the following tests: - They are furnished on the taxpayer's business premises. - They are furnished for the taxpayer's convenience. - This exclusion does not apply if the taxpayer allows the employee to choose to receive additional pay instead of meals. - Generally, for this exclusion, the employee's place of work is the taxpayer's business premises. Furthermore, if more than half of the taxpayer's employees who are furnished meals on the taxpayer's business premises are furnished the meals for the taxpayer's convenience, the taxpayer can treat all meals furnished to employees on the business premises as furnished for the taxpayer's convenience. - This exclusion also applies to any meal or meal money the taxpayer provides to an employee if it has so little value (taking into account how frequently the taxpayer provides meals to his or her employees) that accounting for it would be unreasonable or administratively impracticable. - As a result of the above information, meals furnished to a customer during a business discussion are subject to the 50% deduction limit.

Answer 46

D. If there is an exchange of like-kind property in which you also give cash and the exchange results in a loss to you, you cannot deduct a loss. - Publication 544, pages 16 and 17, provides that if, a taxpayer exchanges real property used in their business or held for investment solely for other business or investment real property of a like-kind, they do not recognize the gain or loss from the exchange. However, if the taxpayer receives non-like property or money as part of the exchange, the taxpayer does recognize gain to the extent of the value of the other property or money received in the exchange. - In addition, the taxpayer doesn’t recognize any loss from the exchange. The basis of the property received in a like kind exchange is generally the basis of the property given up, increased by the money paid. - Publication 544, page 20, further provides that if, in addition to like-kind property, a taxpayer receives money or unlike property in an exchange on which the taxpayer realizes a gain, the taxpayer has a partially nontaxable exchange. In this case, the taxpayer is taxed on the gain that he or she realizes, but only to the extent of the money and the fair market value of the unlike property the taxpayer received. - Moreover, a loss is not deductible in a nontaxable exchange in which a taxpayer receives unlike property or cash. - In this problem, the only correct response is the one stating that if there is an exchange of like-kind property in which the taxpayer also gives cash and a loss results, the taxpayer cannot deduct the loss.

Answer 47

B. Deduct only 50% of the reimbursement on his/her tax return. - Publication 463, page 7, provides that under an accountable plan, an employer can generally deduct only 50% of any otherwise deductible business-related meal and entertainment expenses reimbursed to the employees. The deduction limit applies even if the employer reimburses the employees for 100% of the expenses. - Thus, the employer in this problem can deduct 50% of the reimbursement on his or her tax return.

Answer 48

B. The person has not attained age 35 on the hiring date. - The work opportunity tax credit (WOTC) is available on an elective basis to an employer for a percentage of first-year wages paid or incurred by the employer to or for individuals who belong to one of several eligible “targeted groups.” In the case of a qualified supplemental nutritional assistance program (SNAP) recipient, the person must be certified by the designated local agency as: 1. Having attained age 18 but not age 40 (not age 35) on the hiring date, and 2. Being a member of a family receiving assistance under a food stamp program for a 6-month period ending on the hiring date, or 3. Receiving such assistance for at least 3 months of the 5-month period ending on the hiring date. - Caution: Sometimes the term “food stamps” is used interchangeably with the term “supplemental nutrition assistance program (SNAP).”

Answer 49

C. You will be able to deduct the expense when the payment is made, and the corresponding amount is includible in the related person's gross income. - Publication 542, pages 9–10, provides that business expenses and interest owed to a related person who uses the cash method of accounting are not deductible UNTIL the taxpayer makes the payment and the corresponding amount is includible in the related person's gross income. - Determine the relationship for this rule as of the end of the tax year for which the expense or interest would otherwise be deductible. If a deduction is denied, the rule will continue to apply even if the corporation's relationship with the person ends before the expense or interest is includible in the gross income of that person. These rules also deny the deduction of losses on the sale or exchange of property between related persons. For a list of persons related to a corporation, see pages 9–10 of Publication 542. - Hence, the correct response in this case is: You will be able to deduct the expense when the payment is made, and the corresponding amount is includible in the related person's gross income.

Answer 50

D. A depreciable capital expenditure. - In general, a taxpayer cannot deduct taxes charged for local benefits and improvements that tend to increase the value of the taxpayer's property. These include assessments for streets, sidewalks, water mains, sewer lines, and public parking facilities. Instead of deducting the cost, the taxpayer should increase the basis of the property by the amount of the assessment and then depreciate it as a capital expenditure. - A taxpayer can deduct taxes for these local benefits only if the taxes are for maintenance, repairs, or interest charges related to those benefits. If part of the tax is for maintenance, repairs, or interest, the taxpayer must be able to show how much of the tax is for these expenses to claim a deduction for that part of the tax. - The correct response for this problem is to treat the assessed construction costs as a depreciable capital expenditure.

Answer 51

B. Phyllis has a basis in the stock of $5,000 if she sells the stock at a gain. - The gain or loss on a sale or trade of property is found by comparing the amount realized with the adjusted basis of the property. Once the amount of the gain or loss is determined, the taxpayer must determine whether it is long term or short term. If the investment property is held for more than 1 year, any capital gain or loss is a long-term capital gain or loss. If the property is held for 1 year or less, any capital gain or loss is a short-term capital gain or loss. (Publication 544, pages 3 and 35) - When investment property is received from a related person in a purchase or exchange and the received property from a related person had a loss, it is not a recognized loss. Rather, the taxpayer that receives the property recognizes the gain only to the extent it is more than the loss previously disallowed to the related person. This rule applies only to the original transferee. (Publication 544, page 22)

Answer 52

D. None of the listed expenses are deductible. - Generally, a taxpayer cannot deduct any expense for the use of an entertainment facility. This includes expenses for depreciation and operating costs such as rent, utilities, maintenance, and protection. - An entertainment facility is any property the taxpayer owns, rents, or uses for entertainment. Examples include a yacht, hunting lodge, fishing camp, swimming pool, tennis court, bowling alley, car, airplane, apartment, hotel suite, or home in a vacation resort. - Thus, none of the items listed are deductible expenses.

Answer 53

C. $6,750. - Publication 946, page 5, provides that when property is used for business or investment purposes and for personal purposes, the taxpayer can deduct depreciation based only on the business or investment use. - Publication 946, page 16 and 17, further states if property is used for business and nonbusiness purposes, the taxpayer can elect the Section 179 deduction only if the property is used more than 50% for business in the year that the taxpayer places it in service. If the taxpayer uses the property more than 50% for business, multiply the cost of the property by the percentage of business use. Use the resulting business cost to figure your Section 179 deduction. - Because Gail uses the new computer 90% for business, she is able to use $6,750 for figuring her Section 179 immediate expensing amount. The $6,750 is 90% of the total cost ($7,500) of the computer.

Answer 54

B. $1,000. - Publication 463, page 17, provides a general set of rules for gift giving. Specifically, if a taxpayer gives gifts in the course of his or her trade or business, the taxpayer can deduct all or part of the cost. The limit for deducting the cost of gifts is $25 for business gifts that the person gives directly or indirectly to any one person during the taxpayer's tax year. A gift to a company that is intended for the eventual personal use or benefit of a particular person or a limited class of people will be considered an indirect gift to that particular person or to the individuals within that class of people who receive the gift. - The following items are not considered gifts for purposes of the $25 limit: - An item that costs $4 or less and (a) has your name clearly and permanently imprinted on the gift and (b) is one of a number of identical items you widely distribute (e.g., pens, desk sets, and plastic bags and cases) - Signs, display racks, or other promotional material to be used on the business premises of the recipient - In addition, incidental costs, such as engraving on jewelry, or packaging, insuring, and mailing, are generally not included in determining the cost of a gift for purposes of the $25 limit. - As a result, Frank can deduct $1,000 for business gifts during the tax year, which is the sum of the 25 bottles of wine at $25 (not $30) apiece ($625) and the 15 floral arrangements ($375).

Answer 55

C. $205,000. - There are several steps in calculating a corporation's taxable income. Income items that are required to be included for tax purposes must be separated from income that is tax-exempt. Additionally, expenses that are deductible for tax purposes must be separated from those expenses that are not tax-deductible. - Accordingly, ABC Corporation's taxable income is $205,000, computed as follows (see Form 1120, page 6 Schedule M-1): Net income per books: $148,000 Plus: Federal income tax per book add-back: $55,000 Excess of capital losses over gains: $0 Expenses deducted on books but not on return: Life insurance premiums: $17,000 Less income recorded on books but not on return: Tax-exempt interest: $(15,000) Taxable income: $205,000

Answer 56

B. Sales taxes collected by a business using the cash accounting method. - Publication 334, page 14, provides that under an accrual method, a taxpayer generally included an amount in gross income for the tax year in which all events that fix the taxpayer’s right to receive the income have occurred and they can determine the amount with reasonable accuracy. For a taxpayer with an applicable financial statement or other financial statement as the Secretary may specify, the all-events test for an item of gross income is considered met no later than when taken into account in an applicable financial statement or such other financial statement. - In addition, Publication 334, page 25, provides that State and local sales taxes imposed on the buyer, which you were required to collect and pay over to state or local governments, are not income. - Thus, all of the items listed are income, except for the collected sales taxes.

Answer 57

D. If the taxpayer takes the loss separately, the loss is reduced only by any reimbursements received. The treatment of inventory losses is covered on pages 16 and 17 of Publication 538. More specifically, a taxpayer can claim a casualty or theft loss of inventory, including items held for sale to customers, through the increase in the cost of goods sold by properly reporting opening and closing inventories. - However, the taxpayer cannot claim the loss again as a casualty or theft loss. Any insurance or other reimbursement received for the loss is taxable. - The taxpayer can choose to take the loss separately as a casualty or theft loss. If the decision by the taxpayer is to take the loss separately, adjust opening inventory or purchases to eliminate the loss items and avoid counting the loss twice. - If the taxpayer takes the loss separately, reduce the loss by the reimbursement received or expected to receive. If the taxpayer does not receive the reimbursement by the end of the year, the taxpayer cannot claim a loss for any amounts that the taxpayer reasonably expects to recover. - In this case, the incorrect response is if the taxpayer takes the loss separately, the loss is reduced by any reimbursements received or expected to be received.

Answer 58

B. $55,400 Section 1231 gain. - Publication 551, pages 2 and 3, provides that a taxpayer can include in the basis of property purchased by the taxpayer the settlement fees and closing costs for buying the property. However, the taxpayer cannot include fees and costs for getting a loan on the property. (A fee for buying property is a cost that must be paid even if you bought the property for cash.) - In this problem, land is not depreciable and, as such, the taxpayer has only $55,400 of Section 1231 gains. This amount is the difference between the selling price of $125,000 and the adjusted basis of the property, which is $69,600 ($65,000 + $4,600).

Answer 59

A. Distributions of stock and stock rights are never treated as property. - Distributions by a corporation of its own stock are commonly known as stock dividends. Stock rights (also known as “stock options”) are distributions by a corporation of rights to acquire its stock. Distributions of stock dividends and stock rights are generally tax-free to shareholders. However, stock and stock rights are treated as property under certain circumstances, such as: 1. If any shareholder has the choice to receive cash or other property instead of stock or stock rights; 2. The distribution gives cash or other property to some shareholders and an increase in the percentage interest in the corporation’s assets or earnings and profits to other shareholders; 3. The distribution is in convertible preferred stock and has the same result as item 2 above; 4. The distribution gives preferred stock to some common shareholders and common stock to other common shareholders; or 5. The distribution is on preferred stock. - Also, the expenses associated with issuing a stock dividend must be capitalized, not expensed, by the issuing corporation. - Consequently, in the above question, all statements are correct in regard to distributions of stock except that distributions of stock and stock rights are never treated as property.

Answer 60

B. A length-of-service award to an employee during his 5th year for 5 years of service. - Publication 15-A, page 22, provides that a taxpayer can generally deduct amounts paid to employees as awards, whether paid in cash or property. There are exceptions to the general rule. For example, an award will not qualify as a length-of-service award if either of the following applies: - The employee receives the award during his or her first 5 years of employment, or - The employee received another length-of-service award (other than one of very small value) during the same year or in any of the prior 4 years. - In this case, the 5-year award would not qualify since it was awarded during the first 5 years of service.

Answer 61

C. The smaller of the taxpayer’s qualified production activities income or the taxpayer’s adjusted gross income figured without the DPAD. - The instructions for Form 8903 provide the domestic production activities deduction of taxpayers for specified agricultural or horticultural cooperatives a deduction under IRS Section 199A(g) is generally 9% of the smaller of: 1. The taxpayer’s qualified production activities income (QPAI) or 2. The taxpayer’s adjusted gross income figured without the domestic production activities deduction (DPAD). - However, the DPAD generally cannot be more than 50% of the Form W-2 wages paid to the taxpayer’s employees (including Form W-2 wages allocated to the taxpayer on a Schedule K-1). - In addition, for taxpayers with oil-related qualified production activities income, the DPAD is reduced by 3% of the least of the following: Oil-related QPAI; QPAI; or the adjusted gross income for an individual, estate, or trust (taxable income for all other taxpayers) figured without DPAD.

Answer 62

D. None of the answer choices are correct. - Publication 463, page 17, provides, in part, the rules for deducting business gifts. In general, a taxpayer can deduct no more than $25 for business gifts that are given directly or indirectly to any one person during the taxpayer's tax year. A gift to a company that is intended for the eventual personal use or benefit of a particular person or a limited class of people will be considered an indirect gift to that particular person or to the individuals within that class of people who receive the gift. - If a taxpayer and the taxpayer's spouse both give gifts, both spouses are treated as one taxpayer. It does not matter whether they have separate businesses, are separately employed, or whether each of them has an independent connection with the recipient. If a partnership gives gifts, the partnership and the partners are treated as one taxpayer. - As a result, none of the responses given in this problem are correct statements with respect to deductible gifts.

Answer 63

A. February 12, 2017. - Publication 544, page 44, provides information concerning the holding period of a nontaxable exchange. If a taxpayer acquires an asset in exchange for another asset and the taxpayer's basis for the new asset is figured, in whole or in part, by using the basis in the old property, the holding period of the new property includes the holding period of the old property. That is, it begins on the same day as the taxpayer's holding period for the old property. - Therefore, Jamie's date of acquisition for the newly acquired property is the same as the date of acquisition for the old property, which is February 12, 2017.

Answer 64

C. The interest should be deducted as a current expense, and the sales tax should be included in the basis of the machine. - Publication 551, page 2, states that a taxpayer should treat any sales tax paid on a service or on the purchase or use of property as part of the cost of the service or property. If the service or the cost or use of the property is a deductible business expense, the taxpayer can deduct the tax as part of that service or cost. If the property is merchandise bought for resale, the sales tax is part of the cost of the merchandise. If the property is depreciable, the taxpayer should add the sales tax to the basis for depreciation. - Publication 334, pages 34 and 35, states that a taxpayer can generally deduct as a business expense all interest paid or accrued during the tax year on debts related to the trade or business. Interest relates to the taxpayer's trade or business if the taxpayer uses the proceeds of the loan for a trade or business expense. - IRC Section 263A(f) provides that under the uniform capitalization rules, the taxpayer generally must capitalize interest paid or incurred on debt during the production period to produce real property or certain tangible personal property with a useful life exceeding 2 years. The property must be produced by the taxpayer for use in the taxpayer's trade or business or for sale to customers. The taxpayer, however, cannot capitalize interest related to property that the taxpayer acquires in any other manner. Hence, it is not capitalized on debt associated with the purchase of business machinery. - As a result, the interest should be deducted as a current expense, and the sales tax should be included in the basis of the machine in this problem.

Answer 65

A. Life insurance premiums. - Publication 15-B, pages 3 and 4, provides, in part, that a cafeteria plan, including a flexible spending arrangement, is a written plan that allows employees to choose between receiving cash or taxable benefits instead of certain qualified benefits for which the law provides an exclusion from wages. - Qualified benefits include the following benefits: - Accident and health benefits (but not medical savings accounts or long-term care insurance) - Adoption assistance - Dependent care assistance - Group-term life insurance coverage (including costs that cannot be excluded from wages) - Health savings accounts - A cafeteria plan cannot include the following benefits: - Archer medical savings account (MSA) - Athletic facilities - De minimis (minimal) benefits - Educational assistance - Employee discounts - Employer-provided cell phones - Lodging on your business premises - Meals - No-additional-cost services - Transportation (commuting) benefits - Tuition reduction - Working condition benefits - In addition, a cafeteria plan cannot include scholarships or fellowships.

Answer 66

A. A person’s QBI Component plus their qualified REIT/PTP Component. - In general, the amount of a person’s QBI deduction equals their QBI Component plus their qualified REIT/PTP Component.

Answer 67

C. Stephen controls the result of the work but not how it will be done. - Publication 15-A, pages 6 and 7, provides that in order to determine whether an individual is an employee or an independent contractor under the common-law, the relationship of the worker and the business must be examined. Facts that provide evidence of the degree of control and independence fall into 3 categories: behavioral control, financial control, and the type of relationship of the parties. Under behavioral control, an employee is generally subject to the business’ instructions about when, where, and how to work. - Stephen does not control how the work will be done, but only the result, Stephen is more of an employee rather than an independent contractor. - A business is required to report the amount paid to an independent contractor by issuing a Form 1099-NEC and a Form W-2 for wages and other compensation paid to an employee.

Answer 68

B. $59,585. - Publication 334, page 27, provides a table for computing a taxpayer's cost of goods sold. In general, the calculation is as follows: Inventory at beginning of year + Purchases less cost of items withdrawn for personal use + Cost of labor (Do not include any amounts paid to taxpayer.) + Materials and supplies + Other costs - Inventory at end of year = Cost of goods sold - For the FX Partnership, the cost of goods sold equals $59,585, which is $0 (beginning inventory), plus $35,000 (purchases), plus $1,585 (raw material shipping costs), plus $27,000 (direct labor), plus $6,000 (factory overhead), less $10,000 (ending inventory).

Answer 69

D. None of the answer choices are deductible as entertainment expenses. - Publication 463, page 10, stipulates that entertainment expenses are nondeductible for expenses paid after December 2017. Facilities used in connection with entertainment and related membership dues (such as country club dues) are also nondeductible. Meal expenses are limited to 50% unless an exception applies. - Entertainment includes any activity generally considered to provide entertainment, amusement, or recreation. Examples include entertaining guests at nightclubs; at social, athletic, and sporting clubs; at theaters; at sporting events; on yachts; or on hunting, fishing, vacation, and similar trips. Entertainment also may include meeting personal, living, or family needs of individuals, such as providing meals, a hotel suite, or a car to customers or their families. - In addition, a taxpayer cannot deduct dues (including initiation fees) for membership in any club organized for business, pleasure, recreation, or other social purposes. - EXAMPLE: If a taxpayer is a dress designer and has a fashion show to introduce new designs to store buyers, the show generally is not considered entertainment. This is because fashion shows are a typical part of a taxpayer's business. However, if the taxpayer is an appliance distributor and holds a fashion show for the spouses of the retailers, the show generally is considered entertainment. The point here is that for the dress designer, the fashion show costs are not considered entertainment but are still deductible without the limitations placed on entertainment expenses. This would be the same as when meals sold in the normal course of business, such as at a restaurant, are not considered entertainment expenses. - In addition, the cost of dues (including initiation fees) for membership in clubs organized for business are not deductible at all, including the dues paid to country clubs, golf and athletic clubs, or airline clubs. - As a result, none of the items listed in this problem are deductible as entertainment expenses.

Answer 70

B. The capital gains on the sale of the fund acquired after December 31, 2018 and held for more than 10 years may be excluded. - Publication 544, page 28, provides that the capital gains on the sale of a Qualified Opportunity Fund acquired after December 31, 2018 and held for more than 10 years may be excluded.

Answer 71

C. Business interest income. - Form 8995-A Instructions, pages 2 and 3, provides that QBI doesn’t include any losses or deductions disallowed under the basis, at-risk, passive loss, or section 461(l) limitations, as they aren’t included or allowed in determining your taxable income for the year. Instead, these losses and deductions are considered in the tax year they are included in determining your taxable income. Loss and deduction items that were generated prior to 2018, that are included in income during the year, are not included in QBI. - Items that aren’t properly includible in income, - Invest items such as capital gains or losses, or dividends, - Interest income, other than interest income properly allocable to a trade or business (interest income attributable to an investment of working capital, reserves, or similar accounts is not properly allocable to a trade or business), - W-2 income, - Income that isn’t effectively connected with the conduct of business within the United States, - Commodities transaction or foreign currency gains or losses described in section 954(c)(1)(C) or (D), - Income, loss, or deductions from notional principal contracts under section 954(c)(1)(F), - Annuities unless received in connection with the trade or business, - Amounts received as reasonable compensation from an S corporation, - Amounts received as guaranteed payment, and - Qualified REIT dividends or PTP income. - As a result, business interest income would be included in the calculation of QBI.

Answer 72

A. October 15, 2022. - Publication 544, page 44, provides that if a taxpayer acquires an asset in exchange for another asset and the taxpayer's basis for the new asset is figured, in whole or in part, by using the taxpayer's basis in the old property, the holding period of the new property includes the holding period of the old property. That is, it begins on the same day as the taxpayer's holding period for the old property. EXAMPLE: A taxpayer bought machinery on December 4, 2022. On June 4, 2023, the taxpayer traded this machinery for other machinery in a nontaxable exchange. On December 5, 2022, the taxpayer sold the machinery received in the exchange. The taxpayer's holding period for this machinery began on December 5, 2022. Therefore, the taxpayer held it longer than 1 year. - Therefore, Alayna uses October 15, 2022, as the purchase date on the newly acquired property. In other words, Alayna's holding period of the unimproved property includes the holding period of the improved property.

Answer 73

B. You cannot deduct expenses for attending a convention, seminar, or similar meeting held outside of the U.S. area unless the meeting is directly related to your trade or business. - Travel expenses are deductible if they are ordinary and necessary expenses when traveling away from home on business. The type of expense that is deductible depends on the facts and circumstances of the travel (Publication 463, page 4). - First, a taxpayer can deduct travel expenses when attending a convention if the taxpayer can show that attendance benefits the taxpayer's trade or business. The taxpayer, however, may not deduct the travel expenses for any family members. Second, a taxpayer can deduct up to $2,000 per year of expenses of attending conventions, seminars, or similar meetings held on cruise ships. All ships that sail are considered cruise ships. Third, deductible travel expenses are reduced by all reimbursements received by the taxpayer (Publication 463, pages 9–10). - Publication 463, page 9, further provides that a taxpayer cannot deduct expenses for attending a convention, seminar, or similar meeting held outside the North American area unless: - The meeting is directly related to the taxpayer's trade or business and - It is as reasonable to hold the meeting outside the North American area as in it. - Given the above rules, the incorrect statement in this problem is simply the one permitting the deductibility of travel expenses outside the U.S. since it is unclear whether it is reasonable to hold the meeting at that location.

Answer 74

B. A taxpayer has 3 years to amend a prior year's return to include the election. - A taxpayer that has farming loses, an exception to the general no carryback rule, qualifies for a 2-year carryback period but may elect not to carry back the NOL. Publication 536, pages 4 to 5, states in general:  - If a taxpayer with a farming loss makes this choice, then the taxpayer can use the NOL indefinitely until it is fully absorbed.  - The taxpayer with a farming loss makes this choice by attaching a statement to the original return filed by the due date (including extensions) for the NOL year. This statement must show that the taxpayer is choosing to waive the carryback period under Section 172(b) of the Internal Revenue Code.  - If the taxpayer with the farming loss filed his or her return timely but did not file the statement with it, the taxpayer must file the statement with an amended return for the NOL year within 6 months (not 3 years) of the due date of the taxpayer's original return (excluding extensions).  - Once the taxpayer with the farming loss elects to waive the carryback period, it is irrevocable. 

Answer 75

D. 0%. - Publication 587 addresses the issues associated with a person that uses his or her home for business. An employee can no longer claim any miscellaneous itemized deductions subject to the 2% floor on Schedule A, including expenses for using one’s home as an employee. - Since Esther is an employee, she cannot claim any percentage of business usage when computing her yearly depreciation for the computer. Publication 17, page 101, does include exceptions of categories of employees who can claim unreimbursed expenses on Form 2106. These are: - Armed Forces reservists - Qualified performing artists - Fee-basis state or local government officials - Employees with impairment-related work expenses

Answer 76

B. A business owner that receives two payments of $6,000 in cash on a related transaction in the course of that trade or business must file Form 8300. - As provided in the instructions for Form 8300, each person engaged in a trade or business that, in the course of that trade or business, receives more than $10,000 in cash in one transaction or in two or more related transactions, must file Form 8300. Any transactions conducted between a payer (or its agent) and the recipient in a 24-hour period are related transactions. - Transactions are considered related even if they occur over a period of more than 24 hours if the recipient knows, or has reason to know, that each transaction is one of a series of connected transactions. - Hence, the only correct response for this question is a business owner that receives two payments of $6,000 in cash on a related transaction in the course of that trade or business must file Form 8300.

Answer 77

D. An ambulance. - Publication 946, pages 51–53, provides, in part, that listed property is any of the following: - Passenger automobiles weighing 6,000 pounds or less - Any other property used for transportation, unless it is an excepted vehicle - Property generally used for entertainment, recreation, or amusement (including photographic, phonographic, communication, and video-recording equipment) - The following vehicles are NOT considered passenger automobiles and, as such, do not qualify as listed property (Publication 946, page 53): - An ambulance, hearse, or combination ambulance-hearse used directly in a trade or business - A vehicle used directly in the trade or business of transporting persons or property for pay or hire - A truck or van that is a qualified nonpersonal-use vehicle - Given the items included in this problem, an ambulance is the only one that is not listed property.

Answer 78

A. Closely held corporations. - Publication 925, page 2, states that the passive activity rules apply to individuals, estates, trusts (other than grantor trusts), personal service corporations, and closely held corporations. - Even though the rules do not apply to grantor trusts, partnerships, and S corporations directly, they do apply to the owners of these entities. For information about personal service corporations and closely held corporations, including definitions and how the passive activity rules apply to these corporations, see Form 8810 and its instructions.

Answer 79

A. $3,030. - Publication 544, pages 39 and 40, provides that IRC Section 1231 gains and losses are taxable gains and losses from Section 1231 transactions but does not include any of the gain that is ordinary income as a result of any recapture provisions. - In the case of a disposition (including casualty or theft) of IRC Section 1245 property that is used in a trade or business and held longer than 1 year, the sale or exchange is a Section 1231 transaction, and the gain is treated as ordinary income to the extent of depreciation allowed or allowable on the property. Any gain recognized that is more than the part that is ordinary income from depreciation is a Section 1231 gain. - In this problem, Fran sustains a loss of $5,780 ($30,000 − $5,220 − $19,000). Since Fran's car is used 75% for business, it is only the business portion that qualifies for Section 1231 treatment, which is calculated as follows: - The adjusted basis for the business portion of the property is $17,280, which is the original basis of $22,500 (75% of $30,000) less the depreciation expense of $5,220. - Hence, the business portion of the loss is $3,030, which is the adjusted basis of $17,280 less the business portion of the insurance of $14,250 (75% of $19,000).

Answer 80

C. Cash discounts are a reduction in the invoice price for paying one's bill in a timely manner. - Publication 538, page 15, discusses a trade discount as a discount allowed regardless of when the payment is made on purchased inventory. Generally, it is for volume or quantity purchases. When a taxpayer receives a trade discount, the taxpayer must reduce the cost of inventory by a trade (or quantity) discount. - A cash discount is a reduction in the invoice or purchase price for paying within a prescribed time. The taxpayer can choose either to deduct cash discounts or include them in income, but the taxpayer must treat them consistently from year to year.

Answer 81

C. The work opportunity credit is claimed on Form 5884. - The work opportunity credit provides businesses with an incentive to hire individuals from targeted groups that have a particularly high unemployment rate or other special employment needs. Form 5884 is used to claim the work opportunity credit for qualified first- and/or second-year wages a taxpayer paid to or incurred for targeted group employees during the tax year. The taxpayer’s business does not have to be located in an empowerment zone or rural renewal county to qualify for this credit. - The business can claim or elect not to claim the work opportunity credit any time within 3 years from the due date of the owner’s tax return on either the original return or an amended return.