Reg 6 - Other Entity Taxation, Professional Responsibilities, and Federal Tax Procedures

Question 1

What is the difference between a simple vs complex trust?

Answer 1

A simple trust only makes distributions out of current income (cannot distribute principal); required to distribute all of its income currently; and cannot take a deduction for charitable contribution

A complex trust may accumulate current income, may distribute PRINCIPAL, may deduct charitable contributions

Question 2

What are exclusions to the gift tax?

Answer 2

1. Payments made DIRECTLY to an educational institution (for tuition)
2. Payments made DIRECTLY to a health care provided for medical care

Question 3

In order to apply the annual exclusion for a gift, the gift must be the following:

Answer 3

1. A present interest
2. Complete

3 Under $16/$32K (2022) per donee (unless paid directly to education/medical/charity)

Question 4

What is considered unrelated business income?

Answer 4

It is income that is derived by:

1. an activity that constitutes a trade or business
2. is regularly carried on
3. is not substantially related to the organization’s tax exempt purpose

*UBI does not include any activity where all the work is performed for the organization by unpaid volunteers

Question 5

Which of the following cannot qualify for the 501(c)(3) exemption?

1. A foundation
2. A partnership
3. A fund
4. A corporation

Answer 5

only the partnership cannot qualify for 501(c)(3)

Question 6

How much in estimated payments does a taxpayer need to make for the year?

Answer 6

It must be the lesser of:

a. 90% of the current year’s tax; or,
b. 100% of the prior year’s tax (110% is AGI is more than $150K)

Question 7

When can a tax preparer charge a contingent fee?

Answer 7

Only in the following situations:

1. IRS examination of, or challenge to, an original tax return (or amended return/refund claim in limited situations)
2. claim solely for refund of interest and/or penalties; or,
3. judicial proceeding arising under the IRC

Question 8

If an agreement cannot be reached after an IRS audit, what are the steps taken by the IRS?

Answer 8

The taxpayer will receive a copy of the revenue agent’s report and a 30 day letter (prelim notice) notifying the taxpayer of the right to appeal. The taxpayer has 30 days to request an administrative appeal (appeals conference) with an appeals officer from the Office of Appeals (not appeals court)

Once an appeal is made, the goal is to resolve tax issues without litigation. If an agreement is reach with the Appeals division, then taxpayer signs Form 870-AD.

If an appeals conference is not requested after receipt of 30 day letter or if the taxpayer and IRS still do not agree on the proposed adjustment, a 90 day letter is issued. The taxpayer has 90 days to pay the deficiency or file a petition with the US tax court.

**if the taxpayer would like to litigate the case but prefers the case to be heard in the US District Court, or the US Court of Federal claims, the tax payer must first pay the tax deficiency, then sure the IRS for a refund.

Question 9

To make a case for common law fraud, 5 elements must be proved:

Answer 9

1. misrepresentation of material fact
2. scienter (intent to deceive)
3. actual and justifiable reliance
4. intent to induce reliance; and,
5. damages

Question 10

A CPA who departs from the standard of due care during an audit, will be liable to third parties who are unknown to the CPA based on..

Answer 10

gross negligence (aka constructive fraud)

Question 11

What are the four elements a plaintiff must show to make a case of negligence against a CPA?

Answer 11

1. defendant owed a DUTY OF CARE to the plaintiff
2. the defendant BREACHED that duty by failing to act with due care
3. the breach caused the plaintiff’s INJURY; and,
4. DAMAGES

Question 12

What is the ultramares rule?

Answer 12

Ultramares limits the accountant’s liability for negligence to:

1. parties in privity; and,
2. intended third party beneficiaries

**parties who are merely “foreseen” cannot recover

Question 13

When can a CPA disclose its working papers without client’s consent?

Answer 13

1. Lawful subpoena
2. Prospective purchasers, as long as prospective purchases do not disclose the confidential info
3. quality control panel
4. AICPA/State Trial Board
5. Court proceedings
6. When GAAP requires disclosure of such info in the FS

Question 14

What penalty is usually imposed on a CPA breaches duties owed to a client?

Answer 14

compensatory money damages

Question 15

Identify the item below that does not describe information a preparer must maintain about every return prepared.

A. The date the return or claim for refund was prepared.

B. The taxable year of the taxpayer (or nontaxable entity) for whom the return was prepared.

C. The type of return or claim for refund prepared.

D. The taxpayer’s name and taxpayer identification number.

Answer 15

A. The date the return or claim for refund was prepared.

Question 16

Joe is the trustee of a trust set up for his father. Under the Internal Revenue Code, when Joe prepares the annual trust tax return, Form 1041, is he considered a tax preparer?

Answer 16

Joe is not considered a tax return preparer because he is a fiduciary who prepares the return for the trust.

Question 17

Who would handle an ethics complaint filed against a CPA?

Answer 17

In most cases it can be handled by either the AICPA or State CPA society

Question 18

A CPA can be held liable for negligence when the plaintiff can establish the following elements:

Answer 18

1. The accountant owed the client a duty
2. The accountant breached this duty
3. The accountant caused injury to the client
4. the accountant caused damages to the client

Question 19

Under the traditional doctrine rule, to which of the following parties will a CPA be liable for common law negligence?

1. Parties in Privity
2. Foreseen Parties

Answer 19

Parties in Privity

The traditional rule was that a CPA was liable for negligence only to a plaintiff that was in privity of contract with the CPA or a primary beneficiary of the engagement. This was the holding of a case decided in 1931. Typically, a third party is considered to be a primary beneficiary if (1) the CPA is retained principally to benefit the third party, (2) the third party is identified, and (3) the benefit pertains to a specific transaction.

Question 20

If a taxpayer wishes to reverse the US tax court’s ruling, what court(s) would they appeal to?

Answer 20

US Circuit Court of Appeals.

Cases from the US Tax Court and US District Court are appealed to the appropriate US Circuit Court of Appeals.

Question 21

If a taxpayer wishes to reverse the US Court of Federal Claims, what court(s) would they appeal to?

Answer 21

Cases from the U.S. Court of Federal Claims are appealed to the U.S. Court of Appeals for the Federal Circuit

Question 22

How long does a taxpayer have to file an amended return for a refund?

Answer 22

A claim for refund generally must be filed within 3 years from the time the return was due (April 15, plus the filing extension time) or 2 years from the time the tax was paid, whichever is later.

**A 7-year period of limitation for filing a refund claim is allowed if the overpayment of tax is due to losses from worthless securities, where the fact of worthlessness is discovered after filing the original return

Question 23

what is the statute of limitations for the IRS’s assessment of deficiency?

Answer 23

if less than 25%, 3 years
more than 25%, 6 years
fraud has no limit

Question 24

To be classified as a qualifying relative, what is the max gross income of the dependent?

Answer 24

$4300 for 2021

Question 25

At the beginning of the year, Paul created a $200,000 trust and named his wife Angie as the sole income beneficiary. In addition, principal of $10,000 must be distributed annually to her. What type of trust was created?

Answer 25

A grantor trust is any trust to the extent the grantor is the effective beneficiary. By creating a trust and naming his spouse as the beneficiary, Paul is treated as the effective beneficiary of the trust.

Question 26

Can a partnership qualify as a tax-exempt organization?

Answer 26

no it cannot

Question 27

What is an accountant’s liability for negligence to a CLIENT?

Answer 27

1. Accountant must owe a DUTY OF CARE to the client
2. The accountant BREACHED that duty of care
3. The client suffered DAMAGES
4. The damages are caused by the accountant’s NEGLIGENCE

Question 28

What is an accountant’s liability for negligence to a THIRD PARTY?

Answer 28

the accountant is typically not liable to a third party due to the privity defense. Privity is only for negligence and NOT FRAUD

There is an exception, the accountant can be held liable to third parties if the accountant had reason to KNOW a third party would be relying on his work. This is known as the “third party beneficiary” rule

Question 29

What is the Ultramare’s Rule.

Answer 29

It is a minority view that the accountant would be liable to third parties for negligence only when there is a privity of contract OR the accountant knew the EXACT name of the third party who would be relying on their work.

Question 30

What element is different between fraud and constructive fraud (gross negligence)?

Answer 30

Fraud contains the following elements (MAIDS):

1. Material misrepresentation of fact.
2. Actual reliance
3. Intent to deceive
4. Damages
5. Scienter

Constructive Fraud (gross negligence) - do not need to prove scienter but need to prove reckless disregard for truth

Question 31

What are the penalties for disclosing taxpayer information without taxpayer consent?

Answer 31

The penalties incurred by a preparer for disclosure of taxpayer information without the taxpayer’s consent include a $250 fine per disclosure up to a maximum of $10,000 per year.

If the preparer is convicted of knowingly or recklessly disclosing information, the preparer is guilty of a misdemeanor. The penalties include up to 1 year in prison and up to a $1,000 fine.

Question 32

what does a tax preparer must maintain for every return prepared?

Answer 32

1. a completed copy of each return or claim prepared OR a list of the names and taxpayer identification numbers of the taxpayers for whom such returns, or claims were prepared.

** The list must include the taxable year of the taxpayer and the type of return or claim for refund prepared.

Question 33

Is someone who prepares a return or claim for refund for his or her employer considered a tax preparer?

Answer 33

no they would not be considered a tax preparer

Question 34

if a CPA is negligent in performing their duties could the client be awarded punitive damages?

Answer 34

no punitive damages are not awarded for negligence.

they are only awarded when circumstances are extreme or aggravated

Question 35

Under the common law, which of the following statements is generally true regarding the liability of a CPA who negligently prepares a client’s tax return?

Answer 35

Currently, most courts extend a CPA’s liability to anyone in a class of foreseen (but not necessarily individually identified) third parties who the CPA knows will use the information.

Ultramares used to be followed by most states but it has since changed with most states

Question 36

If an ethics complaint is filed against a CPA, who handles the matter?

Answer 36

Under the Joint Ethics Enforcement Program (JEEP), the AICPA and most state societies have agreements that permit referral of an ethics complaint either to the AICPA or to a state society. However, the AICPA handles matters of national concern, those involving two or more states, and those in litigation.

Question 37

Does a client suing a CPA for negligent preparation of a tax return in a state court must prove reliance?

Answer 37

no they do not. just need to prove:

(1) The accountant owed the client a duty,
(2) the accountant breached this duty,
(3) the accountant’s breach actually and proximately caused the client’s injury, and
(4) the client suffered damages.

Reasonable reliance on a misrepresentation is an element of fraud or of negligent misrepresentation.

Question 38

What is the primary and highest level of authority for US tax law?

Answer 38

IRC Code

Question 39

Sam Johnson, a calendar-year taxpayer, applied for and received an extension for filing his Year 1 tax return. Mr. Johnson filed his tax return on June 2 of Year 2 and paid the balance due. The return reflected a tax liability of $50,000 and estimated tax payments made timely of $45,000. Based on these facts, Mr. Johnson owes:

Failure to file penalty?

Failure to pay penalty?

Answer 39

Payment of tax is due by the due date for filing a tax return. The tax return is due April 15th for a calendar-year taxpayer. Since Mr. Johnson received an extension to file his tax return and filed it before the end of the extension period, there is no failure to file penalty.

The penalty for failure to pay tax is 0.5% of the amount due for each month (or fraction thereof) during which such tax remains unpaid. The maximum penalty under this provision is 25% (Sec. 6651). Mr. Johnson’s failure to pay penalty is computed as follows:

Additional tax due on return
$5,000 
Penalty rate per month × .005 
Penalty for 1 month $25
Number of months past due × 2
Failure to pay penalty $50

The failure to pay penalty is computed only on the amount of tax due. There is no penalty for failure to pay estimated taxes because 90% of the total tax shown on the current-year return was paid as estimated payments during the year.

Question 40

What is the tax preparer penalty for:

1. Understatement due to unreasonable tax position?
2. Willful or Reckless Conduct?

Answer 40

1. Understatement due to unreasonable tax position - greater of $1000 or 50% of the income the preparer received for the tax service
2. Will or Reckless Conduct - greater of $5000 or 75% of the income the preparer received for the tax service

Question 41

What is the tax preparer penalty for:

1. negotiation of IRS refund check
2. failure to be diligent in determining a client’s eligibility for the earned income credit?

Answer 41

$560 each

Question 42

What is the tax preparer penalty for aiding and abetting understatement of tax liability?

Answer 42

$1000 for individuals and $10,000 for corporations

Question 43

What is the penalty for wrongful disclosure and or use of tax return information?

Answer 43

civil penalty of $250 for each disclosure up to $10,000, guilty of a misdemeanor, fined not more than $1000, and/or be imprisoned for not more than 1 yr

Question 44

If a taxpayer or tax preparer is found guilty of making a fraudulent or false statement in connection with a tax return, what can the IRS impose on that person?

Answer 44

They can impose civil and criminal penalties:

1. Civil - prohibit a CPA from practicing before the IRS and may impose fines for various infractions
2. Criminal - if found guilty, may be imprisoned for not more than 3 years and or fined not more than $100K ($500K for corporation)

Question 45

What penalties can the SEC impose?

Answer 45

It may suspend, censure, permanently revoke an accountant’s right to practice before the IRS, fines of $100K ($500K for corp), and can issue cease and desist orders.

Question 46

Which of the following, as stated, will cause an exempt educational organization to lose its exempt status?

A. Expending more than elected limit for lobbying activities.

B. Compensating officers of the organization for services performed.

C. Indirect participation in a political campaign.

D. A substantial part of activities are an attempt to influence legislation.

Answer 46

D. A substantial part of activities are an attempt to influence legislation.

*expending more than the elected limit for lobbying with result in an excise tax

Question 47

Each of the following may qualify as a tax-exempt organization, except

A. A domestic fraternal society.
B. A community savings and loan association.
C. An amateur sports association.
D. A country club.

Answer 47

B. A community savings and loan association.

*a country club is considered a social club, so exempt from taxes

Question 48

Accuracy related penalties apply to:

1. negliglence or disregard of the tax rule regulations?
2. any substantial understatement of tax?

Answer 48

Both.