The Choice of Business Entity Test Bank Docx Chapter.12 - Taxation Principles 23e Complete Test Bank by Sally Jones. DOCX document preview.
Principles of Taxation for Business and Investment Planning, 23e (Jones)
Chapter 12 The Choice of Business Entity
1) Start-up losses of a new business operation can generate immediate tax savings if the business is operated as a corporation.
Difficulty: 1 Easy
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
2) The net operating losses of a C corporation can be carried forward to reduce its taxable income in future tax years.
Difficulty: 1 Easy
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
3) Bart owns 100% of an S corporation that had a net operating loss in the current year. If there is sufficient basis in the stock, he will carry this loss back to reduce taxes in a prior S corporation tax year.
Difficulty: 2 Medium
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
4) 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.
Difficulty: 1 Easy
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
5) If a new business organized as a C Corporation incurs start-up losses, the tax benefits of those losses will be recognized in the current tax year.
Difficulty: 2 Medium
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
6) If a business is formed as a regular corporation, the income may be subject to double taxation.
Difficulty: 1 Easy
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
7) Typical family-owned businesses are operated as passthrough entities.
Difficulty: 1 Easy
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
8) After-tax cash flow is minimized when a business operates as a passthrough entity rather than a taxable corporation.
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
9) Owners of a small business typically minimize tax costs and maximize cash flow by operating as a passthrough entity.
Difficulty: 1 Easy
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
10) Following the rate reductions of the Tax Cuts and Jobs Act, it is not possible for after-tax cash flow from a taxable corporation to exceed after-tax cash flow from a passthrough entity.
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
11) After-tax cash flow from a passthrough entity will always exceed after-tax cash flow from a taxable corporation.
Difficulty: 1 Easy
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
12) Family partnerships attempt to divide the income of a business among family members in order to decrease the overall tax burden of the family unit.
Difficulty: 1 Easy
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
13) A family partnership can shift taxable income to younger family members only if these family members own a partnership interest.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
14) A family partnership can be used to shift a portion of the income from a capital-intensive manufacturing business to a taxpayer's young children.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
15) A family partnership can be used to shift a portion of the income from an accounting practice to a taxpayer's young children.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
16) Family partnerships are generally created when the owner of a business makes a gift of an equity interest in the business to a relative.
Difficulty: 1 Easy
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
17) A family partnership can shift taxable income to younger family members without any corresponding shift of cash flow to those family members.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
18) Transfers of equity interests to family members may result in gift tax liability.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
19) Both individual general partners and S corporation shareholders must pay self-employment tax on their share of the entity's ordinary business income.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
20) Limited liability companies (LLCs) provide owners the tax advantages of a passthrough entity and the limited liability protection of corporations.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
21) Partnerships offer more flexibility in allocating income among owners than S corporations.
Difficulty: 1 Easy
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
22) A partner in a limited liability partnership (LLP) is protected from malpractice-related claims arising from the professional misconduct/negligence of another partner.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
23) One disadvantage of the creation of a family-owned entity is that there is dilution of control with respect to the original business owners.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
24) Partnerships offer owners the maximum flexibility to tailor their business arrangement to fit their needs.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
25) The IRS may recharacterize salary payments to the owners of a closely-held corporation as constructive dividends if it concludes that the amount of the payment is unreasonable in light of the facts and circumstances.
Difficulty: 1 Easy
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
26) When a closely held business is formed as a regular corporation, earnings that are distributed to a shareholder-employee as dividends are taxed only once.
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
27) If a corporation has a high debt-to-equity ratio, the IRS may reclassify deductible interest payments as nondeductible dividends.
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
28) The IRS may conclude that a CEO/shareholder of a closely held corporation has been paid a nondeductible constructive dividend rather than a deductible salary.
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
29) When a corporation is thinly capitalized, the IRS is more likely to reclassify a portion of the corporation's debt as equity.
Difficulty: 1 Easy
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
30) Because of conflicts of interest, shareholders are usually prohibited by law from serving as corporate officers and executives.
Difficulty: 1 Easy
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
31) The use of a corporation as a tax shelter is most effective when the corporate tax rate is significantly higher than the individual tax rate.
Difficulty: 2 Medium
Topic: Decline of the Corporate Tax Shelter
Learning Objective: 12-06 Explain why individuals once again can use corporations as tax shelters.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
32) The use of a corporation as a tax shelter is most effective when the individual tax rate is significantly higher than the corporate tax rate.
Difficulty: 2 Medium
Topic: Decline of the Corporate Tax Shelter
Learning Objective: 12-06 Explain why individuals once again can use corporations as tax shelters.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
33) Recent tax legislation reducing the individual tax on dividends has made C corporations more attractive than they were prior to the legislation.
Difficulty: 2 Medium
Topic: Decline of the Corporate Tax Shelter
Learning Objective: 12-06 Explain why individuals once again can use corporations as tax shelters.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
34) In today's tax environment, the opportunity for individuals to exploit the difference between the individual and the corporate rate structure is greater than ever.
Difficulty: 2 Medium
Topic: Decline of the Corporate Tax Shelter
Learning Objective: 12-06 Explain why individuals once again can use corporations as tax shelters.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
35) Following the Tax Cuts and Jobs Act of 2017, it is no longer possible to use a corporation as a tax shelter.
Difficulty: 2 Medium
Topic: Decline of the Corporate Tax Shelter
Learning Objective: 12-06 Explain why individuals once again can use corporations as tax shelters.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
36) Sunny Daze, Inc., a publicly held company, has $9,000,000 of retained earnings and no financial justification for retaining the earnings. Therefore, it must calculate and pay an accumulated earnings tax on its annual corporate tax return.
Difficulty: 2 Medium
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
37) The accumulated earnings tax is assessed at the highest individual marginal tax rate on ordinary income.
Difficulty: 1 Easy
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
38) The accumulated earnings tax is imposed on a partnership formed for or availed of for the purpose of avoiding the income tax with respect to its owners by permitting earnings and profits to accumulate instead of being divided or distributed.
Difficulty: 1 Easy
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
39) Glover, Inc. had $350,000 of taxable income, all of which was personal holding company income. The corporation paid a dividend of $350,000 in November. The corporation will owe a personal holding company tax for the year.
Difficulty: 1 Easy
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
40) A personal holding company is a corporation owned by a large number of individual shareholders that has taxable income arising primarily from nonbusiness sources.
Difficulty: 1 Easy
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
41) When the personal holding company tax was originally enacted, its purpose was to discourage individuals from incorporating their investment portfolios.
Difficulty: 1 Easy
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
42) The personal holding company tax is a penalty tax imposed in addition to the regular income tax.
Difficulty: 1 Easy
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
43) 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. If Gwen's marginal tax rate is 35%, her tax savings from the first-year LLC loss is:
A) $3,500
B) $1,750
C) $5,000
D) $3,250
Explanation: $10,000 × 50% × 35%.
Difficulty: 1 Easy
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
44) 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 expects to have sufficient taxable income in future years to pay tax in the 24% 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 $1,200.
B) Travis can carry his share of LLC loss forward, and will get tax savings only when he 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.
Difficulty: 2 Medium
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
45) Which of the following statements regarding the tax treatment of start-up losses is false?
A) Start-up losses of a business organized as a C corporation create NOL carryforwards, deductible in future years when the business generates a profit.
B) Start-up losses of a business organized as a partnership are deductible by the partners, potentially generating immediate tax savings.
C) Start-up losses of a business organized as an S corporation create NOL carryforwards, deductible in future years when the business generates a profit.
D) Start-up losses of a business organized as an S corporation are deductible by the shareholders, potentially generating immediate tax savings.
Difficulty: 2 Medium
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
46) Sandy, Sue, and Shane plan to open Friends, an upscale restaurant. They project that the business will incur a $90,000 operating loss in Year 1, and $75,000 of profit in Year 2. Which of the following statements is true?
A) If the business is a C corporation, it will not owe regular tax liability during the first two years.
B) If the business is a general partnership, it will owe income tax in Year 2.
C) If the business is an S corporation, the Year 1 loss can be allocated entirely to Sandy.
D) If the business is a C corporation, it will owe income tax in Year 2.
Difficulty: 2 Medium
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
47) Which of the following is not exclusively a benefit of a passthrough entity?
A) Avoiding double taxation.
B) Ability to diffuse ownership.
C) Deductibility of start-up losses.
D) All of the above are exclusive benefits of a passthrough entity.
Difficulty: 2 Medium
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
48) 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. Using Appendix A and 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) $52,910 total tax cost
B) $88,250 total tax cost
C) $94,350 total tax cost
D) $118,800 total tax cost
Explanation: Year 0 loss is carried forward, reducing year 1 taxable income to $50,000 with tax cost of $7,500. Year 2 tax cost is $80,750. Discounted cost is $73,518 [($7,500 × 0.909) + ($80,750 × 0.826)].
Difficulty: 2 Medium
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
49) 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 37%. Using Appendix A and 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 makes an S corporation election. Assume the excess business loss limitation does not apply.
A) $52,910 total tax cost
B) $94,350 total tax cost
C) $99,772 total tax cost
D) $0
Explanation: Year 0 loss produces tax savings of $39,600. Year 1 tax cost, at 39.6%, is $59,400; year 2 tax cost is $99,000. Discounted cost is $96,169 [$39,600 savings − ($59,400 × 0.909) − ($99,000 × 0.826)].
Difficulty: 2 Medium
Topic: Tax Benefit of Start-Up Losses
Learning Objective: 12-01 Explain the advantage of start-up losses in a passthrough entity.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
50) Which of the following statements regarding the tax burden imposed on business entities is true?
A) The tax burden imposed on corporate earnings is always lower if the corporation makes an S election.
B) Business owners desiring current cash flow can maximize annual after-tax cash flow by operating as a regular corporation.
C) Current tax cost associated with shareholder cash flow received as dividends may be lower than cash flow received as payments of salary, interest, or rental income.
D) All of the above statements are true.
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
51) Mr. and Mrs. Johnson and their two children, Alice and Ben, are the four equal partners in JAB Partnership. This year, JAB generated $40,000 of ordinary income. Compute the tax cost associated with this income if Mr. and Mrs. Johnson's marginal tax rate is 35%, Alice's marginal tax rate is 24%, and Ben's marginal tax rate is 32%.
A) $12,600
B) $8,800
C) $35,200
D) $0
Explanation: $40,000 × 50% × 35% + $40,000 × 25% × 25% + $40,000 × 25% × 28%.
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
52) Bryan Houlberg expects his C corporation to generate a profit of $200,000. What is the effective tax rate on the $200,000 if net income after corporate tax is distributed to him as a dividend and his marginal tax rate on ordinary income is 37%?
A) 21%
B) 58%
C) 36.8%
D) 37%
Explanation: The corporate level tax on $200,000 is $61,250, leaving $138,750 to distribute. The individual tax on $138,750 at 20% is $27,750. Total tax paid is $89,000 or 44.5% of the $200,000. Students will need a corporate tax rate schedule.
Difficulty: 3 Hard
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
53) Bryan Houlberg expects his C corporation to generate a profit of $200,000. What is Bryan's after-tax cash flow from the corporation if net income after corporate tax is distributed to him as a dividend and his marginal tax rate on ordinary income is 37%?
A) $120,800
B) $90,188
C) $126,400
D) $158,000
Explanation: The corporate level tax on $200,000 is $42,000, leaving $158,000 to distribute. The individual tax on $158,000 at 20% is $31,600. After-tax cash flow to Bryan is $158,000 − $31,600.
Difficulty: 3 Hard
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
54) Kyrsten Haas expects her S corporation to generate a profit of $200,000. What is the effective tax rate on the $200,000 if no cash is distributed? Kyrsten's marginal tax rate on ordinary income is 37%.
A) 21%
B) 58%
C) 36.8%
D) 37%
Explanation: There is only one level of tax.
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
55) Kyrsten Haas expects her S corporation to generate a profit of $200,000. Kyrsten's marginal tax rate on ordinary income is 37%. What is Kyrsten's after-tax cash flow from the S corporation if no cash is distributed?
A) $0
B) ($74,000)
C) $126,000
D) ($126,000)
Explanation: Kyrsten's has cash outflow from tax liability of $79,200, and no cash inflow.
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
56) A business generates profit of $100,000. The owner has a 37% marginal tax rate. What amount of corporate and individual income tax will be paid on this profit if the business is a regular corporation and no income is distributed?
A) Corporate tax, $21,000; individual tax, $37,000
B) Corporate tax, $21,000; individual tax, $0
C) Corporate tax, $0; individual tax, $37,000
D) Corporate tax, $21,000; individual tax, $15,800
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
57) A business generates profit of $100,000. The owner has a 37% 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, $21,000; individual tax, $37,000
B) Corporate tax, $21,000; individual tax, $0
C) Corporate tax, $0; individual tax, $37,000
D) Corporate tax, $21,000; individual tax, $15,800
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
58) A business generates profits of $150,000. The owner currently has a 32% marginal tax rate. What is the total amount of taxes paid if the business is a regular corporation and $20,000 in dividends is distributed to its sold individual shareholder?
A) Corporate tax, $31,500; individual tax, $3,000
B) Corporate tax, $48,000; individual tax, $6,400
C) Corporate tax, $31,500; individual tax, $6,400
D) Corporate tax, $0; Individual tax, $48,000
Explanation: The dividend tax rate on this individual shareholder is 15%.
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
59) Which of the following is not a good reason to form a family partnership?
A) Income can be shifted to lower-tax-rate individuals
B) A buy-sell agreement can ensure that all ownership interests are retained in the family
C) No gift tax is due on the transfer
D) Non-voting interests can be given to younger family members to ensure the older generation maintains operational control
Difficulty: 3 Hard
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
60) Which of the following statements regarding S corporations is true?
A) If an S corporation's election terminates, the corporation is forced to liquidate.
B) All states treat the S corporation as a taxable corporation for corporate franchise tax purposes.
C) Generally, the transfer of property by a controlling shareholder to a newly-formed S corporation in exchange for stock is a nontaxable event.
D) The owners of a new business should be indifferent between operating as an S corporation and a partnership.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
61) Homer currently operates a successful S corporation. He would like to bring his two teenage children into the business. If he gives each child 10% of the stock, which of the following statements is true?
A) Since the children did not pay for the stock, Homer will still be taxed on the full income of the corporation under the assignment of income doctrine.
B) Homer must receive a reasonable salary for any time he spends working on behalf of the business.
C) Both statements are true.
D) Neither statement is true.
Difficulty: 3 Hard
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
62) Which of the following statements regarding alternative business forms is true?
A) If an S corporation's election terminates, the corporation is forced to liquidate.
B) Some states treat S corporations as taxable corporations for purposes of corporate franchise taxes.
C) Generally, the transfer of property to a new partnership in exchange for a partnership interest is a taxable event.
D) The owners of a new business should be indifferent between operating as an S corporation and a partnership.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
63) Which of the following is a consequence of establishing a family partnership or a family-owned S corporation?
A) The original owners will have their control of the business diluted.
B) For the structure of the family business to be honored, the transfers to the younger family members must be complete and legally binding.
C) The transfers to the younger family members must be irrevocable.
D) All of the above are consequences of establishing a family partnership or a family-owned S corporation.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
64) Mr. Allen, whose marginal tax rate is 37%, owns an office building that generates $100,000 annual taxable income. He plans to create a family partnership by giving each of his three children a 15% interest in the building. Mr. Allen will retain a 55% interest. Mr. Allen will manage the building, and receive a guaranteed payment of $20,000. If Mr. Allen's children are in the 12% tax bracket, compute the annual tax savings from this income-shifting arrangement.
A) $11,250
B) $9,000
C) $5,000
D) $0
Explanation: Partnership income after guaranteed payment is $80,000, of which 45% or $36,000 will be allocated to the children. Rate savings is 25%, for total annual tax savings of $36,000 × 25% = $9,000.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
65) Mr. and Mrs. Maxwell are equal partners in Family partnership. The Maxwell's marginal tax rate is 35%. Next year, the partnership is expected to generate $200,000 of ordinary income. The Maxwells are considering transferring 20% interests in the partnership to each of their children. Their daughter, Melissa, has a 12% marginal tax rate. Their son, Mark, has a 22% marginal tax rate. Calculate the expected annual tax savings to the family from the proposed transfer of partnership interests.
A) $14,000
B) $28,000
C) $14,400
D) $16,000
Explanation: $14,400 total tax savings for next year alone. $200,000 × 20% × (35% − 12%) = $9,200 savings from transfer to Melissa. $200,000 × 20% × (35% − 22%) = $5,200 savings from transfer to Mark.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
66) Platte River Corporation is a calendar year S corporation. At the beginning of the year, Mr. Reeves owned 100% of Platte River's outstanding stock. On June 30 of the current year, he gave 25% of the stock to his son Mark and 10% of the stock to his daughter Megan. Platte River's ordinary income for the year was $220,000. What portion of this income must each shareholder report?
A) Mr. Reeves, $220,000; Mark, $0; Megan, $0
B) Mr. Reeves, $143,000; Mark, $55,000; Megan, $22,000
C) Mr. Reeves, $181,500; Mark, $27,500; Megan, $11,000
D) Mr. Reeves, $73,333; Mark, $73,333; Megan, $73,333
Explanation: Income is pro-rated within the year. For the first six months, Mr. Reeves owned 100%; for the last six months, he owned 65%. Mr. Reeves' share is [100% × (220,000/2) + (65% × $220,000/2)]; Mark's share is 25% × ($220,000/2); Megan's share is 10% × ($220,000/2).
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
67) Which of the following statements concerning the differences in operating a business as a partnership or as an S corporation is true?
A) The S corporation form offers greater flexibility in allocating the income or loss among the owners.
B) The owners of an S corporation have unlimited personal liability for the debts of the business.
C) The owners of a general partnership have unlimited personal liability for the debts of the business.
D) All of the above are true statements.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
68) Which of the following entities does not provide all the owners with limited liability for debts incurred by the entity?
A) C corporation
B) S corporation
C) Limited partnership
D) LLC
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
69) The three Crosby children intend to form a business. The business will borrow $900,000 from a local bank. Which of the following statements is true?
A) Regardless of whether the business is a partnership or an S corporation, the owners will include the bank debt in the tax basis of their ownership interests.
B) From a liability standpoint, the owners should be indifferent as to whether they are a general partnership or an S corporation.
C) If the business is an S corporation, the owners can allocate income and losses in any reasonable manner.
D) If the business is a partnership the owners can allocate income and losses in any reasonable manner.
Difficulty: 2 Medium
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
70) Which of the following statements regarding partnerships versus S corporations is false?
A) Ordinary income allocated from both types of passthrough entities is subject to self-employment tax.
B) Partners are not permitted to be employees of their partnerships, but S corporation shareholders can be employees of their S corporation.
C) S corporation shareholders are not liable for entity debts, but general partners are liable for partnership debts.
D) Partnerships have more flexibility than S corporations in the manner in which items are allocated to the owners.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
71) Marcia is a shareholder in an S corporation and also works for the corporation. This year, her share of ordinary income was $250,000 and her compensation was $100,000. Which of the following accurately describes her tax consequences from these earnings?
A) Both the ordinary income and the compensation are subject to income tax and self-employment tax.
B) Both the ordinary income and the compensation are subject to income tax and the compensation is subject to payroll tax.
C) Both the ordinary income and the compensation are subject to income tax and the compensation is subject to self-employment tax.
D) The ordinary income is subject to income and self-employment tax; the compensation is subject to income and payroll tax.
Difficulty: 2 Medium
Topic: Contrasting Characteristics
Learning Objective: 12-04 Explain tax and nontax considerations in choosing a passthrough entity form.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
72) Which of the following would not be a successful means of avoiding double tax on the earnings of a closely-held corporation?
A) Having a shareholder lend money to the corporation at a reasonable rate of interest.
B) Having a shareholder lease warehouse space to the corporation at a reasonable rental rate.
C) Having the corporation pay the shareholder a fixed percentage of the par value of the stock the shareholder owns.
D) Having the corporation employ the shareholder at a reasonable compensation.
Difficulty: 1 Easy
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
73) Which of the following items might an IRS agent seek to recharacterize as a constructive dividend?
A) Payment of interest expense to a corporate shareholder, where the loan bears interest at a market rate, has fixed written terms with a repayment required at a defined future point, and the corporation is not thinly capitalized.
B) Payment of salary expense to a corporate shareholder's wife, where the wife performs no services for the corporation.
C) Payment of rental expense to a corporate shareholder, for the use of equipment owned by the shareholder. The equipment is necessary to the corporate business, and the rental cost is similar to that charged by unrelated equipment providers.
D) All of the above payments could reasonably be considered constructive dividends.
Difficulty: 1 Easy
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
74) Which of the following is NOT one of the characteristics of a constructive dividend?
A) Payment between a corporation and a shareholder
B) Original payment treated as deductible by the corporation
C) Original payment treated as made to the shareholder in some capacity other than as an owner of the corporation
D) All of the above are common characteristics of constructive dividends.
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
75) Cathy is the President and sole shareholder of Boxer, Inc., a regular corporation. The corporation reported taxable income of $435,000 after deducting Cathy's $800,000 salary. If the IRS disallowed $550,000 of the salary as unreasonable compensation, the corporation's regular income tax will change by a:
A) $115,500 increase
B) $175,000 increase
C) $175,000 decrease
D) $115,500 decrease
Explanation: Taxable income will increase by 550,000, all of which will be taxed at 21%.
Difficulty: 1 Easy
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
76) Chad is the president and sole shareholder of Greenfield, Inc., a regular corporation. The corporation reported taxable income of $575,000 after deducting his $900,000 salary. If the IRS disallowed $550,000 as unreasonable compensation, Chad's taxable income will:
A) Increase by $550,000
B) Decrease by $550,000
C) Increase by $900,000
D) Stay the same
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
77) The IRS agent who audited the Form 1120 filed by Alano Inc. concluded that $300,000 of the salary that Alano paid to its CEO and sole shareholder was a constructive dividend. As a result:
A) The CEO/shareholder's taxable income increases by $300,000.
B) Alano must distribute an additional $300,000 cash to the CEO/shareholder
C) Alano must distribute an additional $300,000 cash to the CEO/shareholder.
D) Alano's taxable income increases by $300,000.
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
78) Mrs. Jansen is the sole shareholder of Mimeo Corporation. She also owns the office building that serves as corporate headquarters. Last year, Mimeo paid $200,000 annual rent to Mrs. Jansen for use of the building. Mimeo's marginal tax rate was 21% and Mrs. Jansen's marginal tax rate on ordinary income was 37%. The revenue agent who audited Mimeo's return concluded that the fair rental value of the office building was $150,000. Compute the net impact of this audit conclusion on Mrs. Jansen's income tax liability.
A) $8,500 increase
B) $10,500 decrease
C) $10,500 increase
D) $8,500 decrease
Explanation: Mrs. Jansen's taxable income does not change. However, the $50,000 not treated as rental income is now a constructive dividend, taxable at 20% instead of 37%. So she saves $9,800 in tax [$50,000 × (37% − 20%)].
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
79) Mrs. Jansen is the sole shareholder of Mimeo Corporation. She also owns the office building that serves as corporate headquarters. Last year, Mimeo paid $200,000 annual rent to Mrs. Jansen for use of the building. Mimeo's marginal tax rate was 21% and Mrs. Jansen's marginal tax rate on ordinary income was 37%. The revenue agent who audited Mimeo's return concluded that the fair rental value of the office building was $150,000. Compute the net impact of this audit conclusion on Mimeo's income tax liability.
A) $10,500 increase
B) $10,500 decrease
C) $8,500 increase
D) $8,500 decrease
Explanation: Taxable income increases by $50,000, increasing tax liability by $10,500 ($50,000 × 21%).
Difficulty: 1 Easy
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
80) Gerry is the sole shareholder and president of Garmon Corporation. He also owns the office building that serves as the corporation's headquarters. Last year, Garmon paid Gerry $250,000 for the use of the building. Garmon's MTR was 21% and Gerry's was 37%. The revenue agent who audited Garmon's return has concluded that the fair rental value of the office building was $200,000. What is the net impact of this audit conclusion on Gerry and Garmon's combined income tax liability?
A) $10,500 net increase
B) $8,500 net decrease
C) $2,000 net increase
D) $2,000 net decrease
Explanation: Garmon's tax will increase by $10,500 = $50,000 × 21%. Gerry will have $50,000 of ordinary income reclassified as a dividend. The impact of this reclassification is a tax savings of $8,500 = $50,000 × (37% − 20%). Note that the corporation's tax increase is greater than Gerry's tax savings.
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
81) The revenue agent who audited the Form 1120 filed by LCW Inc. recharacterized $125,000 of the salary paid to Ms. Lewis (LCW's president and controlling shareholder) as a constructive dividend. LCW's marginal tax rate is 21%, and Ms. Lewis' marginal tax rate is 32%. Which of the following is not a consequence of the recharacterization?
A) LCW's taxable income will increase.
B) Ms. Lewis' taxable income will increase.
C) Ms. Lewis' payroll tax liability will decrease.
D) Ms. Lewis' income tax liability will decrease.
Explanation: LCW's taxable income will increase by $125,000. Ms. Lewis' taxable income will not increase because $125,000 of her salary is recharacterized as a dividend. However, her payroll tax liability and her income tax liability will decrease because the dividend is not subject to payroll tax and is eligible for a 15% preferential income tax rate.
Difficulty: 3 Hard
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
82) Kansas Corporation is a 68% shareholder in Colorado, Inc. Last year, Colorado paid Kansas $100,000 as compensation for unspecified services provided by Kansas employees to Colorado, and deducted the payment on its federal income tax return. The revenue agent who audited both corporations' returns concluded that the payment is a constructive dividend. Both corporations have a 21% marginal tax rate. What is the effect of this audit conclusion on each corporation's income tax liability?
A) Kansas $13,650 decrease; Colorado $21,000 increase
B) Kansas $21,000 decrease; Colorado $21,000 increase
C) Kansas -0- effect; Colorado $21,000 decrease
D) Kansas $21,000 increase; Colorado -0- effect
Explanation: Kansas' tax on $100,000 compensation income was $21,000, and its tax on a $100,000 dividend from Colorado, Inc. is only $7,350 ([$100,000 dividend − $65,000 DRD] × 21%).
Difficulty: 3 Hard
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
83) Mr. Eddy loaned his solely-owned corporation $3,000,000. The corporation paid a market rate of interest annually. Upon audit, the IRS reclassified some of the debt as equity. Which of the following statements is true?
A) The interest paid by the corporation on the reclassified amount is treated as a dividend.
B) The taxable income of the corporation should stay the same.
C) Mr. Eddy's taxable income will increase by the amount of the reclassified debt.
D) None of the statements is true.
Difficulty: 3 Hard
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
84) Mrs. Fuente, who has a 37% marginal tax rate on ordinary income, is the sole shareholder and CEO of Furey Inc. She also holds a $1 million interest-bearing note issued by Furey. The corporation's current-year financial records show the following:
|
|
|
|
Sales revenue | $ | 1,879,000 |
|
Mrs. Fuente's salary |
| (160,000 | ) |
Other operating expenses |
| (414,000 | ) |
Interest paid on Mrs. Fuente's note |
| (60,000 | ) |
Dividend distributed to Mrs. Fuente |
| (100,000 | ) |
Compute Mrs. Fuente's tax on her income from Furey. (Ignore payroll taxes in your calculations.)
A) $64,000
B) $91,200
C) $101,400
D) $118,400
Explanation: Mrs. Fuente's tax is $107,120 ([$220,000 salary and interest × 39.6%] + [$100,000 dividend × 20%]).
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
85) Mrs. Ford, who has a 37% marginal tax rate, is the sole shareholder and CEO of Fast Inc. She also holds a $1 million interest-bearing note issued by Fast. The corporation's current-year financial records show the following:
|
|
|
|
Sales revenue | $ | 1,879,000 |
|
Mrs. Ford's salary |
| (160,000 | ) |
Other operating expenses |
| (414,000 | ) |
Interest paid on Mrs. Ford's note |
| (60,000 | ) |
Dividend distributed to Mrs. Ford's |
| (100,000 | ) |
Compute Fast's taxable income.
A) $1,145,000
B) $1,245,000
C) $1,305,000
D) $1,465,000
Difficulty: 1 Easy
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
86) Which of the following benefits does not occur when owner-shareholders accumulate earnings of their closely-held corporations at the entity level and later sell their stock at an increased value?
A) Deferral of shareholder tax until the year of sale.
B) Conversion of ordinary income into capital gain.
C) Increase in corporate capitalization and reduction in debt-equity ratio.
D) All of the above occur.
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
87) Which of the following statements regarding the use of a corporation as a tax shelter is false?
A) In years in which the individual tax rates were significantly higher than the corporate rates, individuals could reduce the tax on business income by operating as a regular corporation rather than as a passthrough entity.
B) The combination of deferral of individual tax and conversion of ordinary income into capital gain enhanced the attractiveness of corporations as tax shelters.
C) When the top corporate and individual tax rates are equal, the opportunity for individuals to exploit differences between the individual and corporate rate structures is significant.
D) When the top corporate and individual tax rates are equal, corporations are effective tax shelters only if business income is very small and the owners are willing to forgo dividends for a long period of time.
Difficulty: 2 Medium
Topic: Decline of the Corporate Tax Shelter
Learning Objective: 12-06 Explain why individuals once again can use corporations as tax shelters.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
88) Mr. Olsen has a marginal tax rate on ordinary income of 37 percent. He currently earns $100,000 per year through a business operated as a sole proprietorship. If Mr. Olsen does not require current cash from the business, calculate the potential increase or decrease in his annual tax liability if he incorporates and operates the business through a regular corporation.
A) No increase or decrease
B) $16,000 decrease
C) $16,000 increase
D) $3,000 decrease
Explanation: $100,000 x (37% - 21%)
Difficulty: 1 Easy
Topic: Decline of the Corporate Tax Shelter
Learning Objective: 12-06 Explain why individuals once again can use corporations as tax shelters.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
89) Ms. Chou, who is in the 37 percent marginal tax bracket, is the sole shareholder of Liu Corporation. This year, Liu earned $200,000 of taxable income and distributed $50,000 to Ms. Chou. Calculate the combined tax cost for Liu and Ms. Chou.
A) $42,000
B) $60,500
C) $74,000
D) $52,000
Explanation: $100,000 × 21% corporate tax + $50,000 × 20% dividend tax
Difficulty: 1 Easy
Topic: Decline of the Corporate Tax Shelter
Learning Objective: 12-06 Explain why individuals once again can use corporations as tax shelters.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
90) Which of the following statements regarding the accumulated earnings tax is true?
A) The accumulated earnings tax is imposed instead of the regular corporate income tax.
B) The accumulated earnings tax is intended to coerce corporations to pay dividends.
C) The accumulated earnings tax is calculated by the corporation and paid on its annual corporate income tax return.
D) All of the above statements are true.
Difficulty: 2 Medium
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
91) Which of the following statements regarding the personal holding company tax is false?
A) The personal holding company tax is imposed in addition to the regular corporate income tax.
B) The personal holding company tax was originally enacted to discourage individuals from incorporating their investment portfolios.
C) The personal holding company tax is calculated by a qualifying corporation and paid on its annual corporate income tax return.
D) The personal holding company tax is assessed on a qualifying corporation's undistributed personal holding company income.
Difficulty: 3 Hard
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
92) Which of the following is not a permissible reason for a regular corporation to accumulate earnings at the entity level and avoid the imposition of the accumulated earnings tax?
A) To construct a new plant facility in connection with expanding the corporation's business into a new geographic region
B) To accumulate a fund of cash with which to pay off long-term debt due in twenty years
C) To fund the development of a new product line
D) To invest in the stock of an unrelated company to take advantage of the dividends received deduction
Difficulty: 2 Medium
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
93) For the current tax year, Cuddle Corporation's $500,000 of taxable income is all considered to be personal holding company income. The corporation did not pay dividends. Which of the following statements is true?
A) The corporation will owe a personal holding company tax of $105,000.
B) The corporation will owe a regular tax of $100,000.
C) The corporation's total tax liability will be $210,000.
D) The corporation's total tax liability will be $200,000.
Explanation: Personal holding company tax is $500,000 × 20% = $100,000; regular tax is $105,000.
Difficulty: 2 Medium
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
94) During a recent IRS audit, the revenue agent decided that Roger used his closely-held corporation, Dodger Inc., to avoid shareholder tax by accumulating earnings beyond the reasonable needs of the business. Dodger's taxable income for the year was $500,000, and it paid no dividends. Compute Dodger's accumulated earnings tax, assuming that it had accumulated $2 million after-tax income in prior years.
A) $100,000
B) $400,000
C) $50,000
D) $0
Difficulty: 2 Medium
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
95) During a recent IRS audit, the revenue agent decided that Roger used his closely-held corporation, Dodger Inc., to avoid shareholder tax by accumulating earnings beyond the reasonable needs of the business. Dodger's taxable income for the year was $500,000 and it paid no dividends. Compute Dodger's accumulated earnings tax, assuming that it had accumulated $130,000 after-tax income in prior years.
A) $0
B) $100,000
C) $76,000
D) $50,000
Explanation: Up to $250,000 can be accumulated without incurring the tax. Since $130,000 was accumulated in prior years, $120,000 ($250,000 − $130,000) of the current accumulation is not subject to the accumulated earnings tax. Tax is 20% × $380,000 ($500,000 − $120,000).
Difficulty: 2 Medium
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: automatic
96) Mr. and Mrs. Maxwell and their two children (Alicia and Percy) are the four equal partners in MAP Partnership. This year, MAP generated $52,000 ordinary income. Compute the tax cost for the business if Mr. and Mrs. Maxwell's marginal rate is 37 percent, Alicia's marginal rate is 24 percent, and Percy's marginal rate is 12 percent. (Ignore SE tax consequences.)
Difficulty: 1 Easy
Topic: Income Shifting Among Family Members
Learning Objective: 12-03 Describe how families can use partnerships or S corporations to shift income.
Accessibility: Keyboard Navigation
Type: Static
Gradable: manual
97) Mr. Longwood and Mrs. Kennett are the equal shareholders in LK Corporation. Both shareholders have a 37 percent marginal tax rate on ordinary income. LK's financial records show the following:
|
|
|
|
Gross income from sales | $ | 875,000 |
|
Operating expenses |
| (420,000 | ) |
Interest paid on debt to shareholders |
| (75,000 | ) |
Dividend distributions: |
|
|
|
Mr. Longwood |
| (50,000 | ) |
Mrs. Kennett |
| (50,000 | ) |
a. Compute the combined tax cost for LK, Mr. Longwood, and Mrs. Kennett attributable to LK's operations.
b. How would your computation change if the interest on the shareholder debt was $175,000 and LK paid no dividends?
a. LK taxable income: $380,000 = $875,000 − $420,000 − $75,000. Corporate tax liability = $79,800 ($380,000 x 21%). Shareholder tax liability: $47,750 = $100,000 dividend income × 20% + $75,000 interest income × 37%. Combined tax cost = $127,550.
b. LK taxable income: $280,000 = $875,000 − $420,000 − $175,000. Corporate tax liability = $58,800 ($280,000 x 21%). Shareholder tax liability: $64,750 = $175,000 interest income × 37%. Combined tax cost = $123,550.
Difficulty: 2 Medium
Topic: Avoiding a Double Tax on Business Income; Constructive Dividends
Learning Objective: 12-02 Calculate after-tax cash flow from passthrough entities and taxable corporations.; 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: manual
98) Betsy Williams is the sole shareholder of Kurt Corporation. She also owns the office building that serves as corporate headquarters for Kurt. Last year, Kurt paid $200,000 annual rent to Betsy for use of the building. Kurt's marginal tax rate was 21 percent and Betsy's marginal tax rate was 37 percent. The revenue agent who audited Kurt's return concluded that the fair rental value of the office building was $140,000.
a. What effect does this conclusion have on Betsy's personal income tax liability?
b. What effect does this conclusion have on Kurt's corporate income tax liability?
a. If $60,000 of the payment to Betsy is considered a dividend instead of rental income, her personal income tax liability will decline by $10,200 = $60,000 × (37% − 20%).
b. Kurt's corporate income tax liability will increase by $12,600 = $60,000 × 21%.
Difficulty: 2 Medium
Topic: Constructive Dividends
Learning Objective: 12-05 Define constructive dividend.
Accessibility: Keyboard Navigation
Type: Static
Gradable: manual
99) During a recent IRS audit, the revenue agent decided that the Emig family used their closely held corporation, Gamekeeper, to avoid shareholder tax by accumulating earnings beyond the reasonable needs of the business. Gamekeeper's taxable income was $800,000, it paid no dividends, and it had no business need to retain any income. Compute Gamekeeper's accumulated earnings tax assuming that it had accumulated $2 million of after-tax income in prior years.
Difficulty: 2 Medium
Topic: Penalty Taxes on Corporate Accumulations
Learning Objective: 12-07 Explain the purpose of the accumulated earnings tax and the personal holding company tax.
Accessibility: Keyboard Navigation
Type: Static
Gradable: manual