Sample Exam 1 Flashcards
Smith and Jones formed a partnership. Smith contributed a building with an original cost of $80,000, a fair market value of $100,000, and an adjusted basis of $40,000. Jones contributed $100,000 in cash. Each partner is a material participant in the partnership business. How much can Smith currently deduct if his share of the partnership’s first-year operating loss is $45,000?
A. $5,000 B. $20,000 C. $40,000 D. $45,000
The answer is (C). The distributive share of a partnership’s operating loss that is deductible by an individual partner is limited to the adjusted basis of his or her partnership interest. Hence Smith’s adjusted basis in his partnership interest is $40,000, determined by his adjusted basis for the property he has contributed.
Which of the following statements concerning the taxation of capital gains and losses of individual taxpayers is correct?
A.
The maximum tax rate on long-term capital gains is generally 15 percent under current law.
B.
Up to $3,000 of net capital losses ($1,500 if married filing separately) may be used to offset ordinary income in any given year.
C.
Collectibles gain is taxed at regular ordinary income tax rates.
D.
The portion of long-term gain attributable to unrecaptured depreciation is not taxable when real estate is sold.
The answer is (B). (A) is incorrect because the maximum rate is generally 20 percent. (C) is incorrect because collectibles gain is subject to a 28 percent maximum rate. (D) is incorrect because such unrecaptured depreciation is subject to a 25 percent maximum rate.
Michael and Mary, a married couple filing jointly, sell their home this year for $650,000. Their basis in the home, including cost and improvements, is $200,000. Mary purchased the home in her name many years ago and the couple has lived together there since that time. What amount of gain must Michael and Mary recognize from the sale? A. $0 B. $200,000 C. $450,000 D. $650,000
The answer is (A). The couple is eligible for the full $500,000 exclusion under the rules for married couples. Their realized gain is $450,000 ($650,000 – $200,000). Therefore no gain is taxable.
Which of the following statements concerning the conventions used for calculating depreciation in the year an asset is placed in service is correct?
A.
Assets in the 5-year property class are subject to a midmonth convention.
B.
The convention for the year the property is placed in service does not apply in the year in which the property is disposed of.
C.
A midquarter convention applies if more than 40 percent of all property placed in service by a taxpayer during the year and otherwise qualifying for the half-year convention is placed in service during the last 3 months of the taxable year.
D.
Real estate is subject to a half-year convention.
The answer is (C). (A) is incorrect because 5-year property is subject to a half-year convention. (B) is incorrect because the convention does apply in the year in which the property is disposed of. (D) is incorrect because real estate is generally subject to a midmonth convention.
Johnson makes a $500,000 building available five nights a week at no charge to the local Boy Scout Council. Which of the following statements correctly describes how the use of Johnson’s property will be treated for purposes of the charitable contribution deduction?
A.
Johnson has a charitable deduction equal to the fair market value of the property.
B.
Johnson has no deduction for the rent-free occupancy.
C.
Johnson has a charitable deduction equal to the value of the rent-free occupancy but limited to 30 percent of his adjusted gross income.
D.
Johnson has a charitable deduction equal to the value of the rent-free occupancy but limited to 50 percent of his adjusted gross income.
The answer is (B). Allowing a charitable, religious, educational, or similar organization to use property on a rent-free basis does not give rise to a charitable deduction.
Five years ago John purchased a portfolio of public-purpose municipal bonds for $85,000. During the current year he received $8,000 interest on these bonds. At the end of the current year he sold these bonds for $95,000. How much taxable income must John report for the current year as a consequence of owning and disposing of these bonds? A. $0 B. $4,800 C. $10,000 D. $18,000
The answer is (C). Any gain from the sale of tax-exempt securities is subject to federal income taxation. Since the bonds are public-purpose bonds, the interest is tax exempt.
Which of the following statements concerning elements of personal income taxation is correct?
A.
Personal and dependency exemptions are still available for the 2018 and 2019 tax years.
B.
The kiddie tax applies to the earned income of children under a specified age.
C.
Single taxpayers receive the highest standard deduction amount.
D.
The range of taxable income over which specific tax brackets will be applied depends on the filing status of the particular taxpayer(s).
The answer is (D). (A) is incorrect because the the TCJA eliminated personal and dependent exemptions for the years 2018-2025. (B) is incorrect because the kiddie tax is applicable to the net unearned income of children under a specified age. (C) is incorrect because married taxpayers filing jointly receive the highest standard deduction amount.
Which of the following is an ordinary and necessary deductible business expense for Bob, a life insurance agent?
A.
the tuition fee for the two CLU courses he is taking toward his CLU designation
B.
the entire amount of his home telephone bill, since he often sets up appointments from home
C.
premiums for his homeowners’ insurance
D.
the cost of commuting to his office
The answer is (A). The tuition for CLU courses is paid for the purpose of maintaining or improving skills necessary to the agent’s current employment. (B) is incorrect because his primary office is not at home, and the basic cost of his first line is nondeductible. (C) is incorrect because personal insurance premiums are generally nondeductible. (D) is incorrect because commuting expenses are nondeductible.
Which of the following statements concerning a taxpayer who wishes to contest a statutory notice of deficiency assessed against him is correct?
A.
He may petition for a jury trial in the U.S. Court of Federal Claims without prepaying the deficiency.
B.
He may petition the U.S. Tax Court to hear his case without prepaying the deficiency but is not entitled to a jury trial.
C.
He may file a petition to have his case heard before a jury in the U.S. District Court without prepaying the deficiency.
D.
He may petition for a jury trial in the U.S. Tax Court without prepaying the deficiency.
The answer is (B). The Tax Court is the only court that will hear a tax case without prior payment of the assessed deficiency. (A) is incorrect because there are no jury trials in the Court of Federal Claims. (C) is incorrect because prepayment of the assessed deficiency is required in the District Court. (D) is incorrect because the Tax Court does not have jury trials.
An employer maintains a group term life insurance plan for its employees. A nonkey employee, aged 60, is provided with $100,000 worth of coverage. Using the Uniform Premium Table I, the cost of $1,000 of protection per month in his age bracket is $.66. If the employee contributes $200 annually toward the cost of the coverage, what amount will be included in the employee’s gross income?
A. $0 B. $196 C. $396 D. $792
The answer is (B). Premiums for the first $50,000 of coverage are tax free to the employee. The Table I cost for the excess coverage ($50,000) is taxable to the extent that it exceeds the employee’s contribution. Here, this Table I cost is $396 per year (.66 × 12 × 50). Therefore $196 is taxable to the employee ($396 – $200).
Faith Forrester has the following selected information concerning her interest expenses and investment income for this year:
Interest income from corporate bonds = $5,000
Dividend income not eligible for the lower maximum tax rates on qualifying dividends = $10,000
Interest paid to acquire common stock portfolio = $18,000
Interest income from public-purpose municipal bonds = $4,000
Interest paid to acquire the municipal bonds = $2,000
Qualified residence interest paid on principal residence = $10,000
Based on the above information, the total amount of all of Faith’s interest deductions for this year is
A.
$15,000
B.
$25,000
C.
$28,000
D.
$29,000
The answer is (B). Faith can deduct investment interest up to the limit of her net investment income. However, municipal bond interest income or the interest paid to acquire municipal bonds does not qualify as investment income or interest. Thus the only investment interest that qualifies is the $18,000 paid to acquire the common stocks. Since Faith has only $15,000 of net investment income, she is limited to a $15,000 investment interest deduction. The $10,000 mortgage interest on the home is fully deductible. Faith has total interest deductions this year of $25,000.
The Magic Missile Corporation has two shareholders. Past earnings and profits totaled $100,000. This year the corporation had earnings and profits of $200,000 and distributed $175,000 to each shareholder. How much of the distribution is taxable as a dividend to each shareholder? A. $0 B. $100,000 C. $150,000 D. $175,000
The answer is (C). The distribution to each shareholder is taxed as a dividend to the extent of the pro rata earnings and profits of the corporation, both accumulated and current. The combined earnings and profits in this case totaled $300,000. Therefore $150,000 of the distribution to each of the two shareholders is a dividend.
Sally Snow is the beneficiary of her husband's $120,000 life insurance policy. Sally's husband died in September 2000. She elected to receive $7,800 annually under a life income option. Her life expectancy was 20 years when the life income option was chosen. How much of each annual annuity payment is included in her gross income? A. $1,800 B. $3,800 C. $6,000 D. $7,800
The answer is (A). Under the settlement option chosen, Sally receives $7,800 annually; $6,000 represents the death benefit that is nontaxable to her. The remaining portion, $1,800, represents payment of interest, which is taxable as ordinary income.
Which of the following statements concerning the deductibility of bad debts is correct?
A.
If a father guarantees his daughter’s bank loan and she defaults, the father is entitled to a business bad-debt deduction.
B.
Under certain circumstances a bad-debt deduction may be available even if a legal debt does not exist.
C.
No deduction for partial worthlessness of a debt is allowed.
D.
A nonbusiness bad debt can be deductible only as a short-term capital loss.
The answer is (D). (A) is incorrect because in a family situation the guarantor of a loan is not acting in the course of his or her trade or business. (B) is incorrect because a legal (enforceable) debt is a prerequisite to the deduction. (C) is incorrect because a taxpayer may take a deduction for partial worthlessness if the debt is a business bad debt and the circumstances warrant it.
In order to be treated as a qualifying child of the taxpayer, an individual must generally meet which of the following tests?
A.
The individual’s gross income for the year must be less than the amount of the personal exemption.
B.
The individual must have the same principal place of abode as the taxpayer for more than half of the taxable year.
C.
The individual must be under the age of 17.
D.
The taxpayer must provide 100 percent of the individual’s support for the year.
The answer is (B). (A) is incorrect because the gross income test applies for purposes of determining whether an individual is a qualifying relative, not a qualifying child. (C) is incorrect because a qualifying child must generally be below the age of 19, not 17. (Different rules apply for full-time students and individuals with disabilities.) (D) is incorrect because the support test for a qualifying child requires only that the individual not provide more than half of his or her own support.
Which of the following educational expenses would be deductible as a business expense by an individual taxpayer?
A.
A practicing attorney pays for medical school because she wants to run for the office of city coroner.
B.
A filing clerk pays for a night course in computer-based filing because his supervisor suggested he learn the more modern system since the office will be converting to it soon.
C.
A carpenter pays for courses leading to a master’s degree in literature to further broaden his horizons.
D.
A salesman pays for courses in an MBA program to be qualified to apply for a job as vice president of finance.
The answer is (B). Educational expenses are deductible as business expenses if the education is to improve skills in the taxpayer’s current job or is required by the taxpayer’s employer. However, education leading to a career change does not give rise to a business expense deduction, even though a different tax deduction or credit might be available for the expense.
Which of the following statements concerning the rules for taxation of capital gains for individual taxpayers is correct?
A.
The current required holding period for long-term capital gains is more than 24 months.
B.
Gain from the sale of collectibles is taxed at a maximum rate of 20 percent.
C.
There must generally be a sale or exchange of a capital asset in order for the capital gain or loss rules to apply.
D.
Short-term capital gains are taxed at a maximum rate of 28 percent.
The answer is (C). In the case of capital assets, realization of gain or loss generally occurs through a sale or taxable exchange of the asset.
This year Joe Carlton gave rental real estate worth $50,000 to his daughter Susan as a wedding present. Joe's adjusted basis in the property was $10,000. After Susan received the property, it generated $5,000 in income this year. Which of the following amounts will Susan have to include as income this year? A. $0 B. $5,000 C. $10,000 D. $55,000
The answer is (B). Only the $5,000 of income generated by the gifted property is includible in Susan’s gross income.
How many personal exemptions is a blind, unmarried taxpayer, aged 65 or older, who is not subject to the exemption phaseout rules, entitled to?
A.
The taxpayer is not entitled to any personal exemptions.
B.
The taxpayer is entitled to one personal exemption.
C.
The taxpayer is entitled to two personal exemptions.
D.
The taxpayer is entitled to three personal exemptions.
The answer is (A). Older or blind taxpayers receive an additional amount in the determination of their standard deduction. However, they do not receive additional personal exemptions under TCJA as of 2018.
An executive bought 100 shares of his employer's stock for $2,000 on July 1 of this year. These shares are nontransferable and he must return them if he leaves the corporation. However, for each year he remains, 20 shares do not have to be returned. If the fair market value is $40 per share on July 1 of next year, the executive will have ordinary income next year of A. $400 B. $800 C. $2,000 D. $4,000
The answer is (A). The executive has a basis of $20 per share ($2,000 ÷ 100). Their value when the restriction lapses is $40 per share. Therefore the executive has income of $20 per share ($40 – $20), for a total of $400 ($20 × 20 shares).
For the current year an individual taxpayer age 70 will have the following income and medical expenses: Adjusted gross income = $100,000
Medical expense insurance = $3,000
Unreimbursed hospital and doctor bills = $2,000
Unreimbursed prescription drug expenses = $1,000
The individual taxpayer will have a medical expense deduction for the current year of A. $0 B. $1,000 C. $3,000 D. $6,000
The answer is (A). The total medical expenses ($6,000) are less than the applicable floor of adjusted gross income ($10,000 for taxpayers, 10% in 2019).
A C corporation in the manufacturing business having $50,000 of taxable income for the year will pay federal income taxes in the amount of A. $10,500 B. $12,500 C. $17,000 D. $19,500
The answer is (A). Under the TCJA in 2018, the tax rate for C Corporations is 21 percent, or $10,500 in this case.
Robert and Susan were just divorced on 2/15/2019. In accordance with the decree, he is paying her $1,000 per month as alimony and $600 per month for support of their twins, aged 5. How much of each $1,600 monthly payment is allowed as an above the line deduction for Robert in 2019? A. $0 B. $600 C. $1,000 D. $1,600
The answer is (A). Alimony is no longer deductible according to the TCJA for the tax years 2019-2025.
An independent sales representative purchased a business car 3 years ago for $12,000. This year he exchanged the old business car now worth $6,000 with an adjusted basis of $5,000 plus $5,000 cash for a new business car with a selling price of $11,000. As a result of this exchange the sales representative recognized A. no gain or loss B. a $1,000 gain C. a $6,000 loss D. a $5,000 gain
The answer is (A). The taxpayer has realized no taxable gain on the exchange, so there is no recognized gain. The exchange would appear to qualify as a like-kind exchange even if gain were realized. Also, the taxpayer paid cash boot in the exchange, but did not receive boot that would cause the recognition of gain.
In which of the following courts may a taxpayer petition for redetermination of an assessed income tax deficiency and receive a jury trial? A. U.S. District Court B. Court of Appeals for the Federal Circuit C. U.S. Court of Federal Claims D. U.S. Tax Court
The answer is (A). The U.S. District Court is the only court in which a taxpayer can have a jury trial in a civil tax case.
Which of the following types of income would increase the exposure of an individual taxpayer to the 3.8 percent tax on net investment income?
A.
interest income from an asset held in a trade or business
B.
undistributed dividend income held by a qualified charitable remainder annuity trust or unitrust
C.
capital gains from an asset not held in a trade or business
D.
tax-exempt income
The answer is (C). Capital gains from an asset not held in a trade or business is specifically included within the meaning of net investment income. The income described in (A), (B), and (D) is exempted from the meaning of net investment income.
An individual taxpayer received an inheritance of $20,000 in cash, which he donated to a public charity. His adjusted gross income for the year is $30,000. The maximum charitable deduction that the taxpayer will be allowed for the current year is A. $3,000 B. $9,000 C. $18,000 D. $20,000
The answer is (C). The current deduction is limited to 60% of adjusted gross income, or $18,000 in this case for cash donations.
In determining his individual income tax, each partner reports his distributive share of the partnership income. Subject to certain restrictions, a partner’s distributive share is generally determined by
A.
the current value of the capital account of each partner
B.
the partnership agreement
C.
the amount of salary payments made to a partner for services rendered
D.
reference to the basis of each individual partner’s interest
The answer is (B). Salary, capital accounts, and basis are not necessarily related to the partner’s distributive share, which is determined under the partnership agreement.
This year an individual taxpayer (other than a married individual filing a separate return) has $30,000 of investment interest expense and $1,000 of net investment income. The maximum amount of investment interest expense this taxpayer may deduct this year is A. $0 B. $1,000 C. $10,000 D. $30,000
The answer is (B). The deduction is limited to the taxpayer’s net investment income for the year, or $1,000.
Which of the following statements correctly describes the option available to an annuitant if, in a given year, the annual payment from a variable annuity is $400 less than the annuitant’s annual excludible amount?
A.
The annuitant may use the $400 difference to offset other taxable income for the year in which the above annuity payment was received.
B.
The annuitant may use the $400 difference to reduce his investment in the contract in the year following the one in which the above annuity payment was received.
C.
The annuitant may recalculate his exclusion ratio for tax purposes for the year in which the above annuity payment was received.
D.
The annuitant may recalculate his excludible amount beginning with payments to be received in the year following the one in which the above annuity payment was received.
The answer is (D). In the case of a variable annuity, the annuitant may recalculate the exclusion ratio with respect to future payments if he or she receives a payment that is less than the currently excludible amount.
A woman purchased a $100,000 whole life insurance policy on her life and designated her husband as beneficiary. Several years later the woman surrendered the policy for its cash value of $50,000. At the time of surrender, the woman had paid gross premiums of $45,000 and had received policy dividends of $10,000. What were the income tax consequences to the woman upon receipt of the cash surrender value?
A.
She received the entire $50,000 tax free.
B.
She received $45,000 tax free and $5,000 as ordinary income.
C.
She received $35,000 tax free and $15,000 as ordinary income.
D.
She received $15,000 tax free and $35,000 as ordinary income.
The answer is (C). The woman’s basis in the policy is $35,000 ($45,000 premiums – $10,000 dividends received). Therefore the taxable amount is $15,000 ($50,000 received – $35,000 basis).
Which of the following statements concerning the exclusion of gain on the sale of a principal residence is correct?
A.
The taxpayer must have occupied the residence for an aggregate of 4 out of the previous 5 years to be eligible for the exclusion.
B.
The maximum exclusion for married couples filing jointly is $1 million.
C.
There is no requirement that the taxpayer purchase a replacement residence to be eligible for the exclusion.
D.
The maximum exclusion for single taxpayers is $500,000.
The answer is (C). (A) is incorrect because the occupancy requirement is 2 out of 5 years. (B) is incorrect because the maximum exclusion is $500,000. (D) is incorrect because the maximum exclusion for single taxpayers is $250,000.
A corporation purchased a $50,000 whole life insurance policy on a man who was a key employee. Several years later the man terminated employment and his wife purchased the policy from the corporation with her own funds for $10,000. The wife designated herself as beneficiary and started paying the premiums. If the man were to die after his wife had paid net premiums amounting to $5,000, what would be the income tax consequences to the wife upon receipt of the policy death proceeds?
A.
She would receive the entire $50,000 tax free.
CorrectShe would receive $15,000 tax free and $35,000 as ordinary income.
C.
She would receive $10,000 tax free and $40,000 as ordinary income.
D.
She would receive the entire $50,000 as ordinary income.
The answer is (B). This is a transfer-for-value situation. The wife paid $10,000 for the policy and $5,000 in subsequent premiums, a total basis of $15,000. She must pay tax on the proceeds in excess of $15,000.
The alternative minimum tax (AMT) is imposed on alternative minimum taxable income (AMTI) in excess of any applicable exemption amount. What is the lowest possible tax rate to be applied to the tentative minimum taxable income of an individual taxpayer? A. 15 percent B. 20 percent C. 26 percent D. 28 percent
The answer is (C). The individual AMT rate is 26 percent on the first $191,500 of ATMI. The excess over this amount is taxed at 28 percent.
Ben and John formed a corporation. John transferred $60,000 in cash to the corporation. Ben transferred property with a basis of $30,000 and a fair market value of $80,000. The corporation paid him $20,000 in cash. They each received back 50 percent of the stock of the corporation. How much gain will Ben recognize? A. $20,000 B. $30,000 C. $60,000 D. $80,000
The answer is (A). When property is transferred in a tax-free incorporation, there is no recognition of gain or loss to the transferor if only stock is received in exchange. However, gain will be recognized to Ben to the extent of money or other property received ($20,000).
Which of the following statements concerning the deductibility of business expenses is (are) correct?
I. Entertainment expenses are fully deductible if recorded by the taxpayer when incurred.
II. Fines for the violation of a state law are deductible if they are incurred in the ordinary course of business. A. I only B. II only C. Both I and II D. Neither I nor II
The answer is (D). I is incorrect because entertainment expenses are no longer deductible under the TCJA. II is incorrect because fines for violation of law are not deductible, even if they are incurred in the ordinary course of business.
Which of the following statements concerning dividends from a corporation to its shareholders is (are) correct?
I. Cash dividends are generally taxed at a maximum capital gains rate of 20 percent under current law, ignoring the 3.8% Net Investment Tax.
II. Dividends of property other than money are considered capital transactions for income tax purposes. A. I only B. II only C. Both I and II D. Neither I nor II
The answer is (A). II is incorrect because a distribution of any type of property in the form of a dividend can be taxed as a dividend and not as a capital transaction.
Under which of the following circumstances will a corporation’s payment of premiums on a life insurance policy be taxable to an insured employee?
I. The corporation purchases group term life insurance of $10,000 payable to the insured employeeÍs personal beneficiary under a nondiscriminatory plan.
II. The insured employee is the owner of an individual policy and the proceeds are payable to the employee's personal beneficiary. A. I only CorrectB. II only C. Both I and II D. Neither I nor II
The answer is (B). The insured employee is taxed on the coverage because the employee is the owner of the policy. I is incorrect because the insurance premiums would not be taxable. These premiums will qualify for the exclusion under IRC Sec. 79.
Which of the following statements concerning the tax implications of a divorce, assuming the divorce decree is finalized after January 1, 2019, is (are) correct?
I. Excess alimony payments are fully taxable to the recipient.
II. Cash payments for child support provided in the divorce decree are tax deductible. A. I only B. II only C. Both I and II D. Neither I nor II
The answer is (D). I is incorrect because alimony is no longer deductible whether excess payments are made or not for tax years 2019-2025. II is incorrect because child support payments are never deductible.
Which of the following statements correctly describe(s) a function of the federal income tax system?
I. It can be used to reduce inflationary trends.
II. It can be used to encourage economic activity at the taxpayer level. A. I only B. II only C. Both I and II D. Neither I nor II
The answer is (C). Both I and II are correct.
