Principles of Taxation Exam Bank
Course Introduction
Principles of Taxation introduces students to the fundamental concepts and objectives of taxation, focusing on its role within both the public and private sectors. The course explores various types of taxes such as income, corporate, sales, and property taxes while examining the legal and regulatory frameworks that govern their administration. Students develop an understanding of key principles including equity, efficiency, and simplicity in tax systems, and learn to analyze the economic, social, and ethical implications of taxation policies. Emphasis is placed on the basic structure of tax laws, compliance requirements, and the impact of taxation on decision-making by individuals, businesses, and government entities.
Recommended Textbook
South Western Federal Taxation 2013 Comprehensive Edition by William H. Hoffman
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Chapter 1: An Introduction to Taxation and Understanding
the Federal Tax Law
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Q1) Currently, the Federal income tax is more progressive than it ever has been in the past.
A)True
B)False
Answer: False
Q2) The states that impose a general sales tax also have a use tax.
A)True
B)False
Answer: True
Q3) In terms of probability, which of the following taxpayers would be least likely to be audited by the IRS?
A)Taxpayer owns and operates a check-cashing service.
B)Taxpayer is an employed electrician.
C)Taxpayer just received a $3 million personal injury award as a result of a lawsuit.
D)Taxpayer just won a $1 million slot machine jackpot at a Las Vegas casino.
E)Taxpayer has been audited several times before.
Answer: B
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Page 3
Chapter 2: Working With the Tax Law
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Q1) What is the role of the Joint Conference Committee in the legislative process?
Answer: When the Senate version of a bill differs from that passed by the House, the Joint Conference Committee, which includes members of both the House Ways and Means Committee and the Senate Finance Committee, is called upon to resolve the differences.The deliberations of the Joint Conference Committee usually produce a compromise between the two versions, which is then voted on by both the House and the Senate.If both bodies accept the bill, it is referred to the President for approval or veto.
Q2) Determination letters usually involve proposed transactions.
A)True
B)False
Answer: False
Q3) Tax bills are handled by which committee in the U.S.House of Representatives?
A)Taxation Committee.
B)Ways and Means Committee.
C)Finance Committee.
D)Budget Committee.
E)None of the above.
Answer: B
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Page 4
Chapter 3: Computing the Tax
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Q1) Darren, age 20 and not disabled, earns $4,000 during 2012.Darren's parents cannot claim him as a dependent unless he is a full-time student.
A)True
B)False
Answer: True
Q2) The Martins have a teenage son who has become an accomplished bagpiper.With proper promotion and scheduling, the son has good income potential by charging for his services at special events (particularly funerals).However, the Martins are fearful that the income could generate a kiddie tax and cause them the loss of a dependency exemption deduction.Are the Martins' concerns justified? Explain. Answer: The income received by the son would be earned income.Therefore, the kiddie tax is not a problem since it applies only to unearned income.As long as the son is under age 19 (or a full-time student under age 24), he is a dependent as a qualifying child.Under these rules, the amount of the son's income does not matter (unless he becomes self-supporting).If the son is age 19 (or older) and not a student, any dependency exemption must satisfy the qualifying relative rules.Here, not meeting the gross income test would cause the dependency exemption to be lost.
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Page 5
Chapter 4: Gross Income: Concepts and Inclusions
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Q1) Under the terms of a divorce agreement, Kim was to pay her husband Tom $3,000 per month in alimony and $2,000 per month in child support.For a twelve-month period, Kim can deduct from gross income (and Tom must include in gross income):
A)$60,000.
B)$36,000.
C)$24,000.
D)$0.
E)None of the above.
Q2) The realization requirement gives an incentive to own assets that have increased in value and to sell assets whose value has decreased.
A)True
B)False
Q3) The fact that the accounting method the taxpayer uses to measure income is consistent with GAAP does not assure that the method will be acceptable for tax purposes.
A)True
B)False
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Chapter 5: Gross Income: Exclusions
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Q1) If an employer pays for the employee's long-term care insurance premiums, the employee can exclude from gross income the premiums but all of the benefits collected must be included in gross income.
A)True
B)False
Q2) The taxpayer incorrectly took a $5,000 deduction (e.g., incorrectly calculated depreciation) in 2012 and as a result his taxable income was reduced by $5,000. The taxpayer discovered his error in 2013. The taxpayer must add $5,000 to his 2013 gross income in accordance with the tax benefit rule to correct for the 2012 error.
A)True
B)False
Q3) Ed died while employed by Violet Company.His wife collected $40,000 on a group term life insurance policy that Violet provided its employees, and $6,000 of accrued salary Ed had earned prior to his death. All of the premiums on the group term life insurance policy were excluded from the Ed's gross income.Ed's wife is required to recognize as gross income the $46,000 she received.
A)True
B)False
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Chapter 6: Deductions and Losses: in General
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Q1) Graham, a CPA, has submitted a proposal to do the annual audit for a municipality.Owen, the city treasurer, tells Graham that for a $1,000 fee, he will use his influence to have the audit awarded to Graham.What factors are relevant in determining if Graham can deduct the $1,000 payment assuming he pays the fee to Owen?
Q2) Which of the following statements is correct in connection with the investigation of a business?
A)If the taxpayer is not already engaged in the trade or business, the expenses incurred are deductible if the project is abandoned.
B)If the business is acquired, the expenses may be deducted immediately by a taxpayer engaged in a similar trade or business.
C)That business must be related to the taxpayer's present business for any expense ever to be deductible.
D)Regardless of whether the taxpayer is already engaged in the trade or business, the expenses must be capitalized and amortized.
E)None of the above.
Q3) For a vacation home to be classified in the personal/rental use category, what attributes must be present?
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Page 8
Chapter 7: Deductions and Losses: Certain Business
Expenses and Losses
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Q1) Susan has the following items for 2012:
· Loss on rental property caused by termites-$150,000. Insurance covered 80% of the loss.
· Loss on personal use automobile-$10,000. The insurance policy does not cover the first $3,000 of loss. Susan decided not to file a claim for the loss.
· Loss on a painting stolen from Susan's house. Susan purchased the painting three years ago as an investment. She paid $40,000 for the painting and it was worth $45,000 at the time of the theft. The painting was insured for the fair market value.
· Salary-$40,000.
Q2) A personal casualty loss deduction may be allowed for losses resulting from termites.
A)True
B)False
Q3) If an account receivable written off during the current year is subsequently collected during the current year, the write-off entry is reversed.
A)True
B)False
Q4) Why was the domestic production activities deduction (DPAD) enacted by Congress?
Page 9
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Chapter 8: Depreciation, Cost Recovery, Amortization, and Depletion
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Q1) On April 15, 2012, Sam placed in service a storage facility (a single-purpose agricultural structure) costing $80,000. Sam also purchased and planted fruit trees costing $40,000. Sam does not elect to expense any of the acquisitions under § 179. Sam elected not to take additional first-year depreciation. Determine Sam's cost recovery from these two items for 2012.
Q2) On May 2, 2012, Karen placed in service a new sports utility vehicle that cost $60,000 and has a gross vehicle weight of 6,300 lbs. The vehicle is used 60% for business and 40% for personal use. Determine the cost recovery for 2012.Karen wants to maximize her deductions.
A)$2,200.
B)$3,060.
C)$25,000.
D)$27,200.
E)None of the above.
Q3) If a new car that is used predominantly in business is placed in service in 2012, the statutory dollar cost recovery limit under § 280F will depend on whether the taxpayer takes MACRS or straight-line depreciation.
A)True
B)False
Page 10
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Chapter 9: Deductions: Employee and Self-Employed
Related Expenses
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Q1) In November 2012, Katie incurs unreimbursed moving expenses to accept a new job. Katie cannot deduct any of these expenses when she timely files her 2012 income tax return since she has not yet satisfied the 39-week time test.
A)True
B)False
Q2) Contributions to a Roth IRA can be made up to the due date (excluding extensions) of the taxpayer's income tax return.
A)True
B)False
Q3) Marvin lives with his family in Alabama. He has two jobs: one in Alabama and one in North Carolina. Marvin's tax home is where he lives (Alabama).
A)True
B)False
Q4) As Christmas presents, Lily sends gift certificates (each valued at $25) to Caden (a key client) and to each of his two minor children.Lily can deduct $75 (3 ´ $25) as to these gifts.
A)True B)False
Page 11
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Chapter 10: Deductions and Losses: Certain Itemized
Deductions
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Q1) Gambling losses may be deducted to the extent of the taxpayer's gambling winnings.Such losses are subject to the 2% floor for miscellaneous itemized deductions.
A)True
B)False
Q2) Antonio sold his personal residence to Mina on July 1, 2012. He had paid real property taxes on March 1, 2012, the due date for property taxes for 2012. How will Antonio's payment affect his deduction for property taxes in 2012? Will Antonio's payment of the taxes have any effect on Mina's itemized deductions for 2012? What other tax or financial effects will Antonio's payment of the taxes have on either party?
Q3) Which of the following items would be an itemized deduction on Schedule A of Form 1040 subject to the 2%-of-AGI floor?
A)Professional dues to membership organizations.
B)Work uniforms that cannot be used for normal wear.
C)Job-hunting costs.
D)Hobby losses up to the amount of hobby income.
E)All of the above.
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Page 12
Chapter 11: Investor Losses
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Q1) Sarah, who owns a 50% interest in a grocery store, was a material participant in the activity for the last 25 years.She retired from the grocery store at the end of last year and will not participate in the activity in the future.However, she continues to be a material participant in an office supply store in which she is a 50% partner.The operations of the grocery store resulted in a loss for the current year and Sarah's share of the loss is $40,000.Sarah's share of the income from the office supply store is $75,000.She does not own interests in any other activities.
A)Sarah cannot deduct the $40,000 loss from the grocery store because she is not a material participant.
B)Sarah will not be able to deduct any losses from the grocery store until future years.
C)Sarah can offset the $40,000 loss from the grocery store against the $75,000 of income from the office supply store.
D)Sarah will not be able to deduct any losses from the grocery store until she has been retired for at least four years.
E)None of the above.
Q2) When a taxpayer disposes of a passive activity by death, what happens to any unused passive losses?
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Chapter 12: Tax Credits and Payments
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Q1) The tax benefit received from a tax credit is affected by the tax rate of the taxpayer.
A)True
B)False
Q2) Expenses that are reimbursed by a taxpayer's employer under a dependent care assistance program canalso qualify for the credit for child and dependent care expenses.
A)True
B)False
Q3) Certain high-income individuals are subject to three additional Medicare taxes beginning in 2013-on wages, unearned income, and tax credits claimed.
A)True
B)False
Q4) If the cost of a building constructed and placed into service by an eligible small business in the current year includes the cost of a wheelchair ramp, the cost of the ramp qualifies for the disabled access credit.
A)True
B)False
Q5) Discuss the treatment of unused general business credits.
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Chapter 13: Property Transactions: Determination of Gain or
Loss, Basis Considerations, and Nontaxable
Exchanges-Part 2
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Q1) Discuss the effect of a liability assumption on the seller's amount realized and the buyer's adjusted basis.
Q2) Nigel purchased a blending machine for $125,000 for use in his business.As to the machine, he has deducted MACRS cost recovery of $31,024, maintenance costs of $5,200, and repair costs of $4,000.Calculate Nigel's adjusted basis for the machine.
Q3) Peggy uses a delivery van in her business.The adjusted basis is $39,000, and the fair market value is $34,000.The delivery van is stolen and Peggy receives insurance proceeds of $34,000.Determine Peggy's realized and recognized gain or loss.
Q4) Janet, age 68, sells her principal residence for $500,000.She purchased it twenty-two years ago for $150,000.Selling expenses are $30,000 and repair expenses to get the house in a marketable condition to sell are $15,000.Janet's objective is to minimize the taxes she must pay associated with the sale.Calculate her recognized gain.
Q5) What is the general formula for calculating the adjusted basis of property?
Q6) When a property transaction occurs, what four questions should be considered with respect to the sale or other disposition?
Q7) Discuss the treatment of losses from involuntary conversions.
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Chapter 13: A: Property Transactions: Determination of Gain
or Loss, Basis Considerations, and Nontaxable Exchanges-Part 1
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Q1) Iva owns Mauve, Inc.stock (adjusted basis of $40,000) which she sells to Joshua, her brother, for its fair market value of $32,000.Fifteen months later, he sells it to Faye, a friend, for its fair market value of $39,000.Determine Iva's recognized loss, Joshua's recognized gain or loss, and Faye's adjusted basis for the stock. Iva's recognized loss Joshua's recognized gain or loss Faye's basis
A) $ -0- $ -0- $39,000
B) $ -0- $7,000 $32,000
C) $ -0- $7,000 $39,000
D) $8,000 $7,000 $39,000
E)None of the above.
Q2) The holding period of nontaxable stock rights includes the holding period of the stock on which the rights were distributed.
A)True
B)False
Q3) The holding period for property acquired by gift is automatically long term.
A)True
B)False
Page 16
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Chapter 14: Property Transactions: Capital Gains and Losses,
1231, Recapture Provisions
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Q1) Robin Corporation has ordinary income from operations of $30,000, net long-term capital gain of $10,000, and net short-term capital loss of $15,000.What is the taxable income for 2012?
A)$25,000.
B)$27,000.
C)$28,500.
D)$30,000.
E)None of the above.
Q2) "Collectibles" held long-term and sold at a gain are subject to maximum tax rate of 28%.An individual taxpayer recently sold a baseball card for $400.The card had been held for several years and $40 was originally paid for it.The card depicts a famous baseball player (who hit 73 home runs in a recent season) when he was a rookie in the major leagues.Explain why the baseball card is or is not a collectible.
Q3) If there is a net § 1231 loss, it is treated as a long-term capital loss.
A)True
B)False
Q4) Depreciation recapture under § 1245 and § 1250 is reported on Form 4797.
A)True
B)False
Page 17
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Chapter 15: Alternative Minimum Tax
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Q1) Kay had percentage depletion of $119,000 for the current year for regular income tax purposes.Cost depletion was $60,000.Her basis in the property was $90,000 at the beginning of the current year.Kay must treat the percentage depletion deducted in excess of cost depletion, or $59,000, as a tax preference in computing AMTI.
A)True
B)False
Q2) Business tax credits reduce the AMT and the regular income tax in the same way.
A)True
B)False
Q3) The recognized gain for regular income tax purposes and the recognized gain for AMT purposes on the sale of stock acquired under an incentive stock option (ISO) program are always the same because the adjusted basis is the same.
A)True
B)False
Q4) Identify an AMT adjustment that applies for the individual taxpayer that does not apply for the corporate taxpayer and identify an AMT adjustment that applies for the corporate taxpayer that does not apply for the individual taxpayer.
Q5) Will all AMT adjustments reverse? That is, do they relate to timing differences?
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Chapter 16: Accounting Periods and Methods
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Q1) Hal sold land held as an investment with a fair market value of $100,000 for $36,000 cash and a note for $64,000 that was due in two years.The note bore interest of 11% when the applicable Federal rate was 7%.Hal's cost of the land was $40,000.Because of the buyer's good credit record and the high interest rate on the note, Hal thought the fair market value of the note was at least $74,000.
A)Hal can elect to treat the $36,000 as a recovery of capital.
B)Hal must recognize $60,000 gain in the year of sale.
C)Hal must recognize $36,000 gain in the year of sale.
D)Unless Hal elects not to use the installment method, Hal must recognize $21,600 gain in the year of sale.
E)None of the above.
Q2) The accrual method generally is required to report income for which of the following types of businesses:
A)From long-term construction contracts.
B)Earned by an incorporated public accounting firm with gross receipts in excess of $5 million.
C)Earned by a partnership that has a partner that is an S corporation.
D)A grocery store with average annual gross receipts of $800,000.
E)None of the above.
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Page 19
Chapter 17: Corporations: Introduction and Operating Rules
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Q1) Which of the following statements is incorrect about LLCs and the check-the-box Regulations?
A)If a limited liability company with more than one owner does not make an election, the entity is taxed as a corporation.
B)All 50 states have passed laws that allow LLCs.
C)An entity with more than one owner and formed as a corporation cannot elect to be taxed as a partnership.
D)If a limited liability company with one owner does not make an election, the entity is taxed as a sole proprietorship.
E)A limited liability company with one owner can elect to be taxed as a corporation.
Q2) Azure Corporation, a C corporation, had a long-term capital gain of $50,000 in the current year. The maximum amount of tax applicable to the capital gain is $7,500 ($50,000 ´ 15%).
A)True
B)False
Q3) Briefly describe the charitable contribution deduction rules applicable to C corporations.
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Chapter 18: Corporations: Organization and Capital Structure
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Q1) When a taxpayer transfers property subject to a mortgage to a controlled corporation in an exchange qualifying under § 351, the transferor shareholder's basis in stock received in the transferee corporation is increased by the amount of the mortgage on the property.
A)True
B)False
Q2) Adam transfers cash of $300,000 and land worth $200,000 to Camel Corporation for 100% of the stock in Camel.In the first year of operation, Camel has net taxable income of $70,000.If Camel distributes $50,000 to Adam:
A)Adam has taxable income of $50,000.
B)Camel Corporation has a tax deduction of $50,000.
C)Adam has no taxable income from the distribution.
D)Camel Corporation reduces its basis in the land to $150,000.
E)None of the above.
Q3) If a shareholder owns stock received as a gift from her mother, it cannot be § 1244 stock.
A)True
B)False
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Chapter 19: Corporations: Distributions Not in Complete Liquidation
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Q1) Finch Corporation distributes property (basis of $225,000, fair market value of $300,000) to a shareholder in a distribution that is a qualifying stock redemption.The property is subject to a liability of $160,000, which the shareholder assumes.The basis of the property to the shareholder is:
A)$0.
B)$140,000.
C)$225,000.
D)$300,000.
E)None of the above.
Q2) Purple Corporation has accumulated E & P of $100,000 on January 1, 2012.In 2012, Purple has current E & P of $130,000 (before any distribution).On December 31, 2012, the corporation distributes $250,000 to its sole shareholder, Cindy (an individual).Purple Corporation's E & P as of January 1, 2013 is:
A)$0.
B)($20,000).
C)$100,000.
D)$130,000.
E)None of the above.
Q3) Explain the stock attribution rules that apply in the case of stock redemptions.
Page 22
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Chapter 20: Corporations: Distributions in Complete
Liquidation and an Overview of Reorganizations
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Q1) Pursuant to a liquidation, Coral Corporation distributes to Lucinda, a shareholder, land (basis of $90,000, fair market value of $200,000). The land is subject to a $75,000 liability. Lucinda will have a basis of $125,000 in the land.
A)True
B)False
Q2) In the current year, Dove Corporation (E & P of $1 million) distributes all of its property in a complete liquidation. Alexandra, a shareholder, receives land having a fair market value of $100,000. Dove Corporation had purchased the land as an investment three years ago for $75,000, and the land was distributed subject to a $70,000 liability. Alexandra took the land subject to the $70,000 liability. What is Alexandra's basis in the land?
A)$100,000.
B)$75,000.
C)$30,000.
D)$5,000.
E)None of the above.
Q3) The text discusses four different limitations on loss recognition by liquidating corporations. Provide a brief description of each of these loss limitations.
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Chapter 21: Partnerships
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Q1) The primary purpose of the partnership agreement is to document the various tax elections made by the partners regarding depreciation methods, treatment of research and experimental costs, calculation of the § 199 deduction, and the § 754 election.
A)True
B)False
Q2) Debt of a limited liability company is allocated among LLC members using the nonrecourse debt allocation rules unless an LLC member has personally guaranteed the debt.
A)True
B)False
Q3) Morgan and Kristen formed an equal partnership on August 1 of the current year.Morgan contributed $60,000 cash and land with a basis of $18,000 and a fair market value of $40,000.Kristen contributed equipment with a basis of $42,000 and a value of $100,000.Kristen and Morgan each have a basis of $100,000 in their partnership interests.
A)True
B)False
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24
Chapter 22: S: Corporations
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Q1) List some of the separately stated items listed on Schedule K of the Form 1120S.
Q2) Consent to an S election must be in ____________________, and it must be generally filed by the election ____________________. or
Q3) During 2012, Rasic, the sole shareholder of a calendar year S corporation, received a distribution of $16,000. On December 31, 2011, Rasic's stock basis was $4,000. The corporation earned $11,000 ordinary income during the year. Calculate the amount and type of income that Rasic recognizes in 2012, assuming that there is no C corporation AEP.
Q4) As a general rule, S corporation treatment is not advantageous when the individual tax rate far exceeds the applicable corporate tax rate.
A)True
B)False
Q5) Pass-through S corporation losses can reduce the basis in the shareholder's loan to the entity, but distributions do not.
A)True
B)False
Q6) Tax-exempt income is listed on Schedule ____________________ of Form 1120S.
Page 25
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Chapter 23: Exempt Entities
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Q1) The activity of exchanging with or renting to other exempt organizations the exempt organization's donor or membership list is not an unrelated trade or business.
A)True
B)False
Q2) Which of the following exempt organizations are required to file Form 990 (Return of Organization Exempt from Income Tax)?
A)Federal agencies.
B)Churches.
C)Exempt organizations whose annual gross receipts do not exceed $50,000.
D)Private foundations.
E)None of these entities must file Form 990.
Q3) Revenue generated by an exempt organization from the distribution of low-cost items is not income from an unrelated trade or business.
A)True
B)False
Q4) Define average acquisition indebtedness with respect to debt-financed property.
Q5) Are organizations that qualify for exempt organization status completely exempt from Federal income taxation?
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Chapter 24: Multistate Corporate Taxation
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Q1) The property factor includes business assets that the taxpayer owns, but also those merely used under a lease agreement.
A)True
B)False
Q2) In the broadest application of the unitary theory, the U.S.unitary business files a combined tax return using factors and income amounts for all affiliates:
A)Organized in the U.S.
B)Organized in NAFTA countries.
C)Organized anywhere in the world.
D)As dictated by the tax treaties between the U.S.and the other countries.
Q3) A state sales tax usually falls upon:
A)Sales of groceries.
B)Sales of widgets made to out-of-state customers.
C)Sales of widgets made to the ultimate consumer of the product or service.
D)Sales of real estate.
Q4) All of the U.S.states have adopted a tax based on net taxable income.
A)True
B)False
Q5) An ad valorem property tax is based on the asset's current
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Chapter 25: Taxation of International Transactions
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Q1) Which of the following statements regarding the sourcing of gross income is true?
A)Foreign persons not engaged in a U.S.trade or business are indifferent as to whether any of their income is U.S.source.
B)All income earned by foreign persons not engaged in a U.S.trade or business is treated as foreign source.
C)U.S.-source income is not subject to withholding so long as such income is not treated as effectively connected with a U.S.trade or business.
D)Certain U.S.-source investment income earned by foreign persons not engaged in a U.S.trade or business may be subject to a U.S.withholding tax.
Q2) Dividends received from Leprechaun, Ltd., an Irish corporation that earns 40% of its income from U.S.business activities, are 40% U.S.-source income.
A)True
B)False
Q3) The United States has in force income tax treaties with about 70 countries.
A)True
B)False
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Chapter 26: Tax Practice and Ethics
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Q1) If the taxpayer refuses to pay an assessed tax, the IRS can seize taxpayer property under the ____________________ process.
Q2) In the context of civil tax fraud, the burden of proof is on the IRS to show by a "preponderance of the evidence" that the taxpayer had a specific intent to evade a tax. A)True B)False
Q3) Recently, the overall Federal income tax audit rate for the Form 1040 has been about 1%.
A)True B)False
Q4) Marco, a cash basis, calendar year taxpayer, filed his income tax return 50 days after the due date.Marco never extended his return, and with the return he paid the taxes that were due.What penalties will Marco incur, and how much is the penalty if his additional tax is $5,000? Disregard any additional interest he must pay.
Q5) Does the tax preparer enjoy an "attorney-client privilege" of confidentiality with his or her clients?
Q6) The IRS is a subsidiary agency of the Department of the
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Chapter 28: Income Taxation of Trusts and Estates
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Q1) The Leonardo Estate operates a business and generates cost recovery deductions. Which taxpayer(s), if any, can deduct these items, e.g., the deceased, the estate, the income or remainder beneficiaries?
Q2) Explain how the Federal income tax law applies to a fiduciary entity like a trust. Is the tax structure similar to that of an individual? A partnership?
Q3) The Ulrich Trust has distributable net income for the year of $100,000 and no income from tax-exempt sources.Under the terms of the trust instrument, the trustee must distribute $60,000 to Roger and $60,000 to Sally.After paying these amounts, the trustee is empowered to make additional distributions at its discretion.Exercising this authority, the Ulrich trustee distributes an additional $20,000 to Roger and $20,000 to Sally.How much gross income from the trust must Sally recognize?
A)$80,000.
B)$60,000.
C)$50,000.
D)$20,000.
Q4) A gift to charity from its 2012 income is deductible on an estate's Form 1041 if it is made by the end of the ____________________ tax year.
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