Taxation of Business Entities
Chapter Exam Questions
Course Introduction
This course provides a comprehensive overview of the federal income tax principles affecting various business entities, including corporations, partnerships, and limited liability companies (LLCs). Students will explore tax rules governing the formation, operation, distribution, and liquidation of these entities, with an emphasis on the comparison between entity-level and pass-through taxation. The course also addresses the tax implications for owners and investors, compliance requirements, and recent legislative developments. Real-world examples and problem-solving exercises are used to develop a practical understanding of business tax planning and reporting.
Recommended Textbook Principles of Taxation for Business and Investment Planning 20th Edition by Sally Jones
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Chapter 1: Taxes and Taxing Jurisdictions
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Q1) Which of the following is not characteristic of an excise tax?
A) An excise tax is levied on the retail sale of specific goods.
B) Excise tax rates typically are higher than general sales tax rates.
C) Purchasers of luxury items are responsible for paying any excise tax directly to the government.
D) All of the above are characteristics of an excise tax.
Answer: C
Q2) Government Q imposes a net income tax on businesses operating within its jurisdiction. The tax equals 3% of income up to $500,000 and 5% of income in excess of $500,000. Company K generated $782,000 net income this year. Compute the income tax that Company K owes to Q.
A) $29,100
B) $14,100
C) $39,100
D) None of the above
Answer: A
Q3) A tax on net income is an example of a transaction-based tax.
A)True
B)False
Answer: False
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Chapter 2: Policy Standards for a Good Tax
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Q1) A dynamic forecast of the incremental revenue from a tax rate increase presumes that:
A) Taxpayers will not change their behavior because of the rate increase.
B) The tax base will increase by the same proportion as the rate increase.
C) The tax base will decrease by the same proportion as the rate increase.
D) The tax rate and the tax base are correlated.
Answer: D
Q2) Congress plans to amend the federal income tax to provide a deduction for the first $2,400 of residential rent paid by families with incomes below the federal poverty level.
Which of the following statements is true?
A) The amendment is intended to improve the efficiency of the tax.
B) The amendment is intended to improve the equity of the tax.
C) The amendment is intended to improve the simplicity of the tax.
D) The amendment is intended to improve the convenience of the tax.
Answer: B
Q3) The Internal Revenue Service's cost of collecting $100 of tax revenue is about $3.
A)True
B)False
Answer: False
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Page 4
Chapter 3: Taxes As Transaction Costs
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Q1) Ms. Lenz has $100,000 in an investment paying 9% annual interest. Her marginal tax rate is 25%. Which of the following statements is false?
A) Ms. Lenz's annual before-tax cash flow from this investment is $9,000.
B) If the interest is tax-exempt, Ms. Lenz's annual after-tax cash flow is $9,000.
C) If the interest is taxable, Ms. Lenz's annual after-tax cash flow is $6,750.
D) None of the above is false.
Answer: D
Q2) If a taxpayer decides to take advantage of an ambiguous tax issue to reduce future tax costs, the decision increases:
A) Financial risk
B) Audit risk
C) Tax law uncertainty
D) Marginal tax rate uncertainty
Answer: B
Q3) Private market transactions create an opportunity for bilateral tax planning.
A)True
B)False
Answer: True
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Chapter 4: Maxims of Income Tax Planning
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Q1) Mr. Fox has $200,000 to invest. He could buy corporate bonds with a 10% before-tax yield or tax-exempt bonds with an 8% before-tax yield. Which of the following statements is false?
A) If Mr. Fox invests in the tax-exempt bonds, he will pay $4,000 implicit tax every year.
B) If Mr. Fox's marginal tax rate is 15%, he should invest in the corporate bonds.
C) If Mr. Fox's marginal tax rate is 40%, he should invest in the tax-exempt bonds.
D) None of the above is false.
Q2) Which of the following entities is not a taxable entity for federal income tax purposes?
A) Mr. Bob Clark, a U.S. citizen and resident of West Virginia
B) PTS Limited, an Arizona partnership
C) Confad Inc., an Oklahoma corporation listed on Nasdaq
D) All of the above are taxable entities.
Q3) The rate at which an item of income is taxed depends on the tax character of the income.
A)True
B)False
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Page 6
Chapter 5: Tax Research
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Q1) Which of the following is not a proper citation to a Treasury regulation?
A) Reg. Sec. 1.61-1(a)
B) Reg. 1.61-1(a)
C) Reg. §1.61-1(a)
D) Treasury Regulation 61-1(a)
Q2) Editorial explanations found within a tax service are a type of primary authority.
A)True
B)False
Q3) Which of the following primary authorities is least likely to provide a detailed description of facts to which a researcher can compare his or her client's fact pattern?
A) Internal Revenue Code section
B) Treasury regulation
C) Revenue ruling
D) Tax Court decision
Q4) The topical index of a commercial tax service is considered primary authority. A)True
B)False
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Chapter 6: Taxable Income From Business Operations
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Q1) Porter Inc. incurred a $20,000 expense only $13,400 of which was deductible. Which of the following is true?
A) This transaction resulted in a $6,600 unfavorable difference between book income and taxable income.
B) This transaction resulted in a $6,600 favorable difference between book income and taxable income.
C) If this transaction resulted in a temporary book/tax difference, it had no effect on Porter's deferred tax accounts.
D) If this transaction resulted in a permanent book/tax difference, it had no effect on the computation of Porter's tax expense per books.
Q2) Taxpayers may adopt the cash receipts and disbursements method, the accrual method, or a hybrid method of accounting for tax purposes.
A)True B)False
Q3) Taxable income is defined as gross income minus allowable deductions and credits. A)True B)False
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Chapter 7: Property Acquisitions and Cost Recovery
Deductions
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Q1) The MACRS calculation ignores any salvage or residual value of an asset.
A)True
B)False
Q2) Mann Inc. paid $7,250 to a leasing agent to negotiate Mann's 36-month lease for 18,000 square feet of space in a new commercial building. For tax purposes, Mann must:
A) Capitalize the $7,250 cost as a nonamortizable intangible asset.
B) Capitalize the $7,250 cost and amortize it over 36 months.
C) Capitalize the $7,250 cost and depreciate it as 5-year recovery property.
D) Deduct the $7,250 cost in the year of payment.
Q3) Kaskar Company, a calendar year taxpayer, paid $3,350,000 for a residential apartment complex and allocated $350,000 of the cost to the land and $3,000,000 of the cost to the building. Kaskar place the realty in service on September 29. Refer to the appropriate MACRS Table in Chapter 7 to compute Kaskar's first-year depreciation on the realty.
A) $31,830
B) $35,544
C) $22,470
D) None of the above
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Chapter 8: Property Dispositions
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Q1) Which of the following is a capital asset?
A) Supplies used in a business
B) Business inventory
C) Land used in a business
D) None of the above
Q2) Verno Inc. purchased business equipment in March and sold it in November. Verno's gain or loss recognized on the sale is ordinary.
A)True
B)False
Q3) This year, Izard Company sold equipment purchased several years ago at a cost of $48,500. Accumulated depreciation through date of sale was $18,900. Which of the following statements is false?
A) If the sale price was $25,000, Izard recognized $4,600 Section 1231 loss.
B) If the sale price was $42,500, Izard recognized $18,900 Section 1231 gain.
C) If the sale price was $50,000, Izard recognized $18,900 ordinary gain and $1,500 Section 1231 gain.
D) None of the above is false.
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Chapter 9: Nontaxable Exchanges
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Q1) Oxono Company realized a $74,900 gain on the exchange of one asset for another asset (no cash was included in the exchange). The assets were like-kind properties. Oxono reported the gain as revenue on its financial statements. Which of the following is true?
A) The exchange resulted in a favorable temporary book/tax difference.
B) The exchange resulted in a favorable permanent book/tax difference.
C) The exchange resulted in an unfavorable temporary book/tax difference.
D) The exchange resulted in an unfavorable permanent book/tax difference.
Q2) LiO Company transferred an old asset with a $13,600 adjusted tax basis in exchange for a new asset worth $11,000 and $1,500 cash. Which of the following statements is false?
A) If the exchange is taxable, LiO recognizes an $1,100 loss.
B) If the exchange is nontaxable, LiO recognizes no loss.
C) If the exchange is nontaxable, LiO's tax basis in the new asset is $12,100.
D) None of the statements is false.
Q3) Muro Inc. exchanged an old inventory item for a new asset. If the new asset is also an inventory item, the exchange is nontaxable.
A)True
B)False
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11
Chapter
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Q1) Loretta is the sole shareholder of Country Collectibles, a calendar year S corporation. Although Loretta spends at least 40 hours per week supervising Country Collectible's employees, she has never drawn a salary from the business. Country Collectibles has been in existence for five years and has earned a profit every year. Loretta withdraws $100,000 cash from the S corporation each year. Which of the following statements accurately describes the tax consequences of these withdrawals?
A) The withdrawals are nontaxable, with no risk that they could be recharacterized as taxable salary or dividend payments.
B) The withdrawals are considered taxable dividends to Loretta.
C) There is significant risk that the IRS could recharacterize the payments to Loretta as salary. Such treatment would increase taxable income for both Loretta and the S corporation.
D) There is significant risk that the IRS could recharacterize the payments to Loretta as salary. Such treatment would not change taxable income for Loretta and reduce taxable income of the S corporation.
Q2) Corporations cannot be shareholders in an S corporation.
A)True B)False
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Chapter 11: The Corporate Taxpayer
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Q1) The Schedule M-3 reconciliation requires less detailed information than the M-1 reconciliation.
A)True
B)False
Q2) Westside, Inc. owns 15% of Innsbrook's common stock. This year, Westside generated $50,000 operating income and received $20,000 dividends from Innsbrook. Westside's taxable income is:
A) $56,000
B) $66,000
C) $50,000
D) $54,000
Q3) The federal tax law considers the member corporations of an affiliated group to be a single entity for federal tax purposes. An example of this treatment is the requirement to share the 15% tax bracket.
A)True
B)False
Q4) A corporate taxpayer would prefer a $50,000 deduction to a $50,000 credit.
A)True
B)False
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Chapter 12: The Choice of Business Entity
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Q1) A business generates profit of $100,000. The owner has a 39.6% marginal tax rate. What amount of corporate and individual income tax will be paid on this profit if the business is an S corporation and no income is distributed?
A) Corporate tax, $22,250; individual tax, $39,600
B) Corporate tax, $22,250; individual tax, $0
C) Corporate tax, $0; individual tax, $39,600
D) Corporate tax, $22,250; individual tax, $15,550
Q2) Loretta plans to start a small business, operated through a corporation. In year 0, she expects the corporation to generate a loss of $100,000. Subsequently, she expects the corporation to be profitable, and projects profit of $150,000 in year 1, and $250,000 in year 2. Loretta's personal marginal tax rate on ordinary income is 39.6%. Using a 10% discount rate, calculate the present value of expected tax savings and costs on the business earnings for the first 3 years of operations if the business does not make an S corporation election.
A) $73,518 total tax cost
B) $88,250 total tax cost
C) $115,406 total tax cost
D) $118,800 total tax cost
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Chapter 13: Jurisdictional Issues in Business Taxation
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Q1) The payroll factor in the UDITPA state income tax apportionment formula always includes executive compensation.
A)True
B)False
Q2) The federal income tax deduction allowed for state income taxes paid decreases the cost of the state taxes.
A)True
B)False
Q3) A bilateral agreement between the governments of England and France defining and limiting each party's respective tax jurisdiction is an example of a tax treaty.
A)True
B)False
Q4) Section 482 of the Internal Revenue Code gives the IRS the authority to apportion or allocate gross income, deductions, or credits between/among related parties to correct any distortion resulting from unrealistic prices charged by members of the group to each other for goods or services.
A)True
B)False
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Chapter 14: The Individual Tax Formula
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Q1) Mr. and Mrs. Toliver's AGI on their jointly filed return is $339,000. Regardless of the number of their children, the Tolivers are not eligible for a child credit.
A)True
B)False
Q2) The tax rates for individuals who qualify as a head-of-household are lower than the tax rates for single individuals.
A)True
B)False
Q3) Melissa, age 16, is claimed as a dependent on her parents' tax return. This year, Melissa earned $2,000 from babysitting and $1,280 interest income from a savings account. Compute Melissa's standard deduction.
A) $2,000
B) $2,350
C) $0
D) $1,050
Q4) Adjusted gross income equals total income less itemized deductions.
A)True
B)False
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Chapter 15: Compensation and Retirement Planning
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Q1) The 10% penalty imposed on premature withdrawals from qualified retirement plans is intended to discourage participants from withdrawing funds before retirement.
A)True
B)False
Q2) Both traditional IRAs and Roth IRAs are tax-exempt accounts.
A)True
B)False
Q3) Employers typically use nonqualified deferred compensation plans to provide additional retirement savings for rank-and-file employees.
A)True
B)False
Q4) Keogh plans allow self-employed individuals to save for retirement on a tax-deferred basis.
A)True
B)False
Q5) An independent contractor is not entitled to the same fringe benefits as an employee.
A)True
B)False
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Chapter 16: Investment and Personal Financial Planning
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Q1) Ms. Watts owns stock in two S corporations, MKP Corporation and Reynolds Inc. This year, Ms. Watts had the following income and loss items. \[\begin{array} { | l | c | }
\hline \text { Salary } & \$ 113,700 \\
\hline \text { Business income from MKP } & \$ 42,000 \\
\hline \text { Business loss from Reynolds } & \$ ( 28,000 ) \\
\hline
\end{array}\] If Ms. Watts materially participates in the business of both corporations, compute her AGI.
A) $85,700
B) $113,700
C) $127,700
D) $155,700
Q2) Mr. Johnson borrowed money to buy Chicago municipal bonds. This year, he paid $2,000 of interest on his loan and earned $3,500 of interest income from the bonds. None of the interest expense is deductible.
A)True
B)False
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Chapter 17: Tax Consequences of Personal Activities
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Q1) Over the course of the year, Mr. Soo won $8,200 and lost $5,900 gambling in the local casino. Mr. Soo does not itemize deductions on his federal tax return. What is the net effect of his gambling on Mr. Soo's taxable income?
A) No effect on taxable income.
B) $8,200 increase in taxable income.
C) $2,300 increase in taxable income.
D) None of the above.
Q2) Mr. Jain paid the following taxes this year. \[\begin{array} { l c }
\text { Federal incometax } & \$ 32,450 \\
\text { Federal self-employment tax } & \$ 7,921 \\
\text { State ard local incorne tax } & \$ 3,450 \\
\text { State ard local sales tax } & \$ 4,060 \\
\text { Local property tax on principal residence } & \$ 4,320 \\
\text { Local property tax on investrnent land } & \$ 1,880 \\
\text { Local property tax on two autornobiles } & \$ 750 \end{array}\]
Q3) Losses realized on the sale of personal use assets are deductible.
A)True
B)False
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Chapter 18: The Tax Compliance Process
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Q1) Linney Corporation, which uses a June 30 fiscal year end for tax purposes, requested an automatic six-month extension of time to file its return for FYE June 30, 2016. It filed the return on February 18, 2017. The revenue agent that examined the return suspects that Linney may have substantially underreported income for the year. Which of the following is false?
A) If the underreporting of income constitutes fraud, there is no statute of limitations, and the IRS can assess additional tax at any time.
B) If the amount of unreported income exceeds 25% of the gross income reported on the return, the IRS has until February 18, 2023, to assess additional tax.
C) If the amount of unreported income is less than 25% of the gross income reported on the return and the return is not fraudulent, the IRS has until September 15, 2020, to assess additional tax.
D) None of the above is false.
Q2) Only attorneys and CPAs may prepare tax returns for compensation.
A)True
B)False
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