Taxation of Business Entities
Test Questions
Course Introduction
This course provides an in-depth examination of the federal income taxation of business entities, including corporations, partnerships, and limited liability companies. Students will explore the principles governing the taxation of entity formation, operation, distributions, liquidations, and reorganizations. Emphasis is placed on understanding the tax implications and planning opportunities related to entity choice, ownership structures, and business transactions. The course integrates relevant provisions from the Internal Revenue Code, Treasury regulations, and judicial interpretations, equipping students with the foundational knowledge necessary for effective tax compliance and strategy in business settings.
Recommended Textbook Principles of Taxation for Business and Investment Planning 2018 21st Edition by Sally Jones
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Chapter 1: Taxes and Taxing Jurisdictions
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Q1) What is the major difference between a sales tax and an excise tax?
A)Sales taxes are levied by state governments,while excise taxes are levied only by the federal government.
B)Sales taxes are imposed on the purchase of a wide variety of items,while excise taxes are imposed on the purchase of a few specific items.
C)Sales taxes must be collected by the seller,while excise taxes must be paid directly by the purchaser.
D)Sales taxes are imposed on the purchase of tangible goods,while excise taxes are imposed on the purchase of services.
Answer: B
Q2) The federal government imposed the first income tax to raise money to fight the War of 1812.
A)True
B)False
Answer: False
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Chapter 2: Policy Standards for a Good Tax
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Q1) The theory of distributional justice is a rationale for a progressive income tax system.
A)True
B)False
Answer: True
Q2) Congress plans to amend the federal individual income tax to eliminate the deductions for medical care,educational savings,charitable contributions,and home mortgage interest.Which of the following statements is true?
A)The amendment will reduce the complexity of the tax.
B)The amendment will increase the horizontal equity of the tax.
C)The amendment will increase the neutrality of the tax.
D)Both the amendment will reduce the complexity of the tax and will increase the neutrality of the tax.
Answer: D
Q3) According to supply-side economic theory,a decrease in tax rates for high-income individuals could actually cause an increase in tax revenue.
A)True
B)False
Answer: True
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4
Chapter 3: Taxes As Transaction Costs
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Q1) Wilson Company has $100,000 in an investment paying 6% per annum.Each year Wilson incurs $1,200 of expenses related to this investment.Compute Wilson's annual net cash flow from this investment assuming the following.
A.Wilson's marginal tax rate is 10% and the annual expense is not deductible.
B.Wilson's marginal tax rate is 35% and the annual expense is deductible.
C.Wilson's marginal tax rate is 25% and one-half of the annual expense is deductible.
Answer: A.After-tax cash flow is $4,200 = $6,000 $1,200 10% × $6,000.B.After-tax cash flow is $3,120 = $6,000 $1,200 35% × ($6,000 $1,200).C.After-tax cash flow is $3,450 = $6,000 $1,200 25% × ($6,000 50% × $1,200).
Q2) The tax law prohibits related party transactions.
A)True
B)False
Answer: False
Q3) The tax cost of a transaction represents a cash inflow.
A)True
B)False
Answer: False
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Page 5
Chapter 4: Maxims of Income Tax Planning
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Q1) Understal Company has $750,000 to invest and two competing investment opportunities.Investment 1 would pay 9% per year ($67,500 annual before-tax cash flow).Investment 2 would pay 7% per year ($52,500 annual before-tax cash flow).The return on Investment 1 is taxable at Understal's 35% rate on ordinary income,while the return on Investment 2 is taxable at a 20% preferential rate.
A.Compute the explicit and implicit tax that Understal would pay with respect to each investment.
B.Which investment results in the greater after-tax cash flow?
Q2) Mr.Bearne paid $50,000 to a local spiritual healer and deducted the payment as a business expense of his sole proprietorship.The healer provided personal counseling to Mr.and Mrs.Bearne.Upon audit of the sole proprietorship's accounting records,the IRS agent disallowed the deduction by applying the:
A)Business purpose doctrine
B)Assignment of income doctrine
C)Economic substance doctrine
D)Constructive payment doctrine
Q3) Deduction-shifting transactions usually occur between unrelated taxpayers.
A)True
B)False
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Page 6
Chapter 5: Tax Research
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Q1) Which of the following statements regarding administrative authorities is false?
A)Private letter rulings are considered authoritative only for the taxpayer to whom they were issued.
B)A technical advice memorandum is requested by a revenue agent or appeals officer during the examination or appeal of a taxpayer's return.
C)Revenue procedures are considered secondary authority.
D)Private letter rulings can only be obtained for a fee from the IRS.
Q2) Which of the following statements regarding secondary authorities is true?
A)Most secondary authorities are published by the federal government.
B)Secondary authorities should never be cited as the authority for final research conclusions.
C)Secondary authorities should always cite primary authority to support conclusions about the application of the tax law.
D)None of the above statements is true
Q3) Which of the following is not a secondary authority?
A)Tax textbook
B)Commercial tax service
C)Tax professional journal
D)Revenue procedure
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Page 7
Chapter 6: Taxable Income From Business Operations
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Sample Questions
Q1) The after-tax cost of a dollar of meal and entertainment expense is 80 cents for a taxpayer with a 40% marginal tax rate.
A)True
B)False
Q2) Rydel Inc.was incorporated on August 9 and elected to use a calendar year for tax purposes.Rydel must annualize the income reported on its first tax return for the short period from August 9 to December 31.
A)True
B)False
Q3) Hitz Company,a calendar year,accrual basis taxpayer,recorded $1,735 accrued interest expense and $1,735 accrued interest payable when it closed its books on December 31.The interest relates to a loan from First State Bank and accrued over the last two months of the year.Which of the following statements is true?
A)Hitz can't deduct the accrued interest expense until the year of payment.
B)Hitz can deduct the accrued interest expense this year only if it pays the interest within eight and one-half months after the close of the year.
C)Hitz can deduct the accrued interest expense this year.
D)Hitz can never deduct the interest expense.
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Chapter 7: Property Acquisitions and Cost Recovery
Deductions
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Sample Questions
Q1) W&F Company,a calendar year taxpayer,purchased a total of $2,034,700 tangible personalty in 2017.How much of this cost can W&F elect to expense under Section 179?
A)-0-
B)$4,700
C)$505,300
D)$510,000
Q2) Szabi Inc.,a calendar year taxpayer,purchased two assets during 2017: a machine costing $380,000 and computer equipment costing $403,500.The machine is 7-year recovery property and the computer equipment is 5-year recovery property.Which of the following statements is true?
A)Szabi should elect to expense the $380,000 cost of the machine and $130,000 of the cost of the computer equipment.
B)Szabi should elect to expense the $403,500 cost of the computer equipment machine and $106,500 of the cost of the machine.
C)Szabi must elect to expense $255,000 of the cost of the machine and $255,000 of the cost of the computer equipment.
D)Szabi is indifferent as to which costs to expense.
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Chapter 8: Property Dispositions
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Sample Questions
Q1) The characterization of income as ordinary or capital gain has no relevance for financial reporting purposes.
A)True
B)False
Q2) In 2016,TPC Inc.sold investment land with a $474,000 book and tax basis for $775,000.The purchaser paid $100,000 in cash and gave TPC a note for the $675,000 balance of the price.In 2017,TPC received a $105,500 payment on the note ($67,500 principal + $38,000 interest).Assuming that TPC is using the installment sale method,compute its gain recognized in 2017.
A)$26,216
B)$40,976
C)$67,500
D)None of the above
Q3) Abada Inc.has a $925,000 basis in 100% of the stock of AbWest Inc.,which derives all its income from a manufacturing activity.If Abada determines that the AbWest stock is worthless,it can recognize a $925,000 ordinary loss.
A)True
B)False
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Chapter 9: Nontaxable Exchanges
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Q1) IPM Inc.and Zeta Company formed IPeta Inc.by transferring business assets in exchange for 1,000 shares of IPeta common stock.IPM transferred assets with a $675,000 FMV and a $283,000 adjusted tax basis and received 600 shares.Zeta transferred assets with a $450,000 FMV and a $98,000 adjusted tax basis and received 400 shares.Which of the following statements is false?
A)IPM's 600 shares of stock are worth $675,000.
B)Zeta's gain realized on the exchange is $392,000.
C)The exchange of stock for assets is nontaxable to IPeta.
D)None of the above is false.
Q2) Mrs.Cooley exchanged 400 shares of stock for corporate bonds.If the stock and bonds were issued by the same corporation,they are like-kind properties,and the exchange is nontaxable.
A)True
B)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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Chapter 10: Sole Proprietorships, Partnerships, llcs, and S
Corporations
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Q1) A major advantage of an S corporation is the ability to specially allocate losses to specific members of the company.
A)True
B)False
Q2) Alan is a general partner in ADK Partnership.His partnership Schedule K-1 reports $50,000 ordinary business income,$22,000 guaranteed payment,$5,000 long-term capital gain,and $400 dividend income.Which of these items are subject to self-employment tax?
A)$50,000 ordinary income
B)$50,000 ordinary business income and $22,000 guaranteed payment
C)$50,000 ordinary business income,$22,000 guaranteed payment,and $5,000 long-term capital gain
D)All income reported on a general partner's Schedule K-1 are subject to self-employment tax
Q3) If a partner's share of partnership losses exceeds basis,the excess is not deductible in the current year and cannot be carried forward for deduction in the future.
A)True
B)False
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Chapter 11: The Corporate Taxpayer
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Q1) Torquay Inc.'s 2016 taxable income was $9,782,200,and its tax liability was $3,325,948.Torquay's director of tax estimates that the corporation's 2017 taxable income will be $13,350,000.Use the corporate tax rate schedule to compute Torquay's 2017 estimated tax payment due on April 15,2017.
A)$1,134,750
B)$1,028,813
C)$831,487
D)$1,143,125
Q2) Which of the following is a primary legal characteristic of the corporate form of business?
A)The management of the business is centered in a Board of Directors elected by the shareholders.
B)A shareholder must seek permission to sell his stock.
C)The life of the corporation will terminate when a majority of the shareholders die or cease to exist.
D)A shareholder is personally liable for the debts of the corporation.
Q3) The domestic production activities deduction is a permanent book/tax difference.
A)True
B)False
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Page 13
Chapter 12: The Choice of Business Entity
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Q1) If a business is operated as a passthrough entity,the startup losses of the business may be deducted against the current taxable income of the owner.
A)True
B)False
Q2) Gwen and Travis organized a new business as an LLC in which they own equal interests.The new business generated a $10,000 operating loss its first year.Travis has no other taxable income for the current year,but had sufficient taxable income in prior years to pay tax in the 28% tax bracket.Which of the following statements regarding Travis' tax savings from the current LLC loss is true?
A)Travis can carry his share of LLC loss back two years as a net operating loss,and request an immediate tax refund of $1,400.
B)Travis can only carry his share of LLC loss forward,and will get tax savings only when the LLC generates future income.
C)Travis can only use his share of the LLC loss in the current year,and will receive no tax savings.
D)The LLC will reallocate Travis share of the loss to Gwen,who can claim $1,750 of additional tax savings.
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Page 14
Chapter 13: Jurisdictional Issues in Business Taxation
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Q1) The foreign tax credit is available for income taxes paid to a foreign country.
A)True
B)False
Q2) This year,Plateau,Inc.'s before-tax income was $4,765,000.Plateau paid $310,000 income tax to state A and $130,000 income tax to state B. a.Compute Plateau's federal taxable income and tax liability. b.What is Plateau's overall income tax rate?
Q3) Luttrix Inc.does business in Nebraska (6% tax rate)and Colorado (3% tax rate).All other factors being equal,Luttrix will reduce state taxes if it constructs a new manufacturing plant in Colorado.
A)True
B)False
Q4) A U.S.taxpayer can make an annual election to take a credit or a deduction for foreign income taxes paid.
A)True B)False
Q5) The foreign tax credit can reduce a corporation's alternative minimum tax.
A)True B)False
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Chapter 14: The Individual Tax Formula
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Q1) Which of the following statements concerning the exemption phaseout is true?
A)The phaseout applies only to taxpayers with a 39.6% marginal income tax rate.
B)The phaseout can reduce a taxpayer's exemption amount to zero.
C)The phaseout doesn't apply to taxpayers who use the standard deduction instead of electing to itemize deductions.
D)Statements A.,B.,and C.are false.
Q2) Kent,an unmarried individual,invited his widowed father,Martin,to move into his home in January of this year.Martin's only income item was a $14,000 taxable pension from his former employer.Kent provides about 75% of his father's financial support.What is Kent's filing status and number of exemptions for the year?
A)Single and one exemption
B)Single and two exemptions
C)Head of household and one exemption
D)Head of household and two exemptions
Q3) The standard deduction for single individuals equals one-half of the standard deduction for married individuals filing jointly.
A)True
B)False
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Chapter 15: Compensation and Retirement Planning
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Q1) Eight years ago,Acnex Inc.granted Ms.Cardena a nonqualified option to purchase 1,000 shares of Acnex stock at $44 per share.On date of grant,the market price was $42 per share.This year,Ms.Cardena exercised the option when the market price was $75 per share.Which of the following statements is true?
A)Ms.Cardena recognizes $31,000 ordinary income,and Acnex is allowed a $31,000 deduction this year.
B)Ms.Cardena recognizes $31,000 ordinary income,and Acnex is allowed a $44,000 deduction this year.
C)Ms.Cardena recognizes $33,000 ordinary income,and Acnex is allowed a $33,000 deduction this year.
D)Ms.Cardena recognizes $33,000 ordinary income,and Acnex is allowed a $44,000 deduction this year.
Q2) Julie,a single individual,is employed by Dashell Inc.but doesn't participate in any employer-sponsored retirement plan.Julie's annual contribution to her traditional IRA is deductible.
A)True B)False
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Chapter 16: Investment and Personal Financial Planning
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Q1) Twenty years ago,Mrs.Cole purchased an insurance policy on her own life.Mrs.Cole died this year,and the policy paid the $300,000 death benefit to her son Jeffrey.During her life,Mrs.Cole paid total premiums of $71,200 on the policy.Which of the following statements is true?
A)Jeffrey must recognize the $300,000 payment as ordinary income.
B)Jeffrey must recognize $228,800 of the $300,000 payment as capital gain.
C)Jeffrey can exclude the $300,000 payment from gross income.
D)Jeffrey must recognize $228,800 of the $300,000 payment as ordinary income.
Q2) Ten years ago,Elaine paid $10 per share for 2,000 shares of Lazlo common stock.This year,Elaine learned that Lazlo is in bankruptcy and can pay only 40% of its outstanding debt.What are the tax consequences to Elaine of Lazlo's bankruptcy?
A)$20,000 long-term capital loss
B)$12,000 long-term capital loss
C)$20,000 ordinary loss
D)No gain or loss
Q3) Gift tax is based on the donor's adjusted tax basis in the transferred property.
A)True
B)False
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Chapter 17: Tax Consequences of Personal Activities
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Q1) Helen makes quilts and sells them at the regional county fairs.This year,she earned $950 from quilt sales and spent $3,300 on supplies and travel relating to her quilting activity.If the IRS determines that this activity is a hobby instead of a business,Helen can't deduct her $2,350 net loss.
A)True
B)False
Q2) A thief broke into Kate's condominium and stole her laptop computer.Kate purchased the computer for $1,400,but its current value is only $300.Kate's casualty loss is $1,400.
A)True
B)False
Q3) Unemployment benefits are excluded from gross income.
A)True
B)False
Q4) Which of the following expenditures is not a medical expense for federal tax purposes?
A)Payment for eyeglasses
B)Health insurance premiums
C)Payment for prescription antibiotics
D)All of the above are deductible medical expenses
Page 19
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Chapter 18: The Tax Compliance Process
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Q1) The revenue agent who audited Mr.and Mrs.Wilke's 2014 Form 1040 assessed a $40,200 deficiency and concluded that $13,900 of the deficiency resulted from Mr.Wilke's deliberate disregard of the tax rules concerning business entertainment expense.The remaining deficiency resulted from various errors caused by confusing instructions on the tax forms.Compute the negligence penalty that the agent can impose.
A)$8,040
B)$3,475
C)$2,780
D)Only a federal court can impose a negligence penalty.
Q2) Taxpayers who can't complete their tax return by the filing date can request an automatic extension of time to file the return and pay any balance of tax due.
A)True
B)False
Q3) If a taxpayer has insufficient financial means to pay a deficiency,the IRS may make an offer in compromise to settle for a lesser amount.
A)True
B)False
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