CHAPTER 4

David and Lilly Fernandez have determined their tax liability on their joint tax return to be $1,740. They
have made prepayments of $1,100 and also have a child tax credit of $1,000.
What is the amount of their tax refund or taxes due?
(1)Total tax$1,740
(2)Child tax credit1,000
(3)Prepayments1,100
Tax refund $(360)
Explanation:

David and Lilly will receive a tax refund of $360 calculated as follows:
Tax refund = $1,740 $1,100 $1,000 = $360
Prepayments are fully refundable when payments exceed the taxes after credits because the refundable
amount is essentially an overpayment of taxes.
2.
Jasper and Crewella Dahvill were married in year 0. They filed joint tax returns in years 1 and 2. In year
3, their relationship was strained and Jasper insisted on filing a separate tax return. In year 4, the couple
divorced. Both Jasper and Crewella filed single tax returns in year 4. In year 5, the IRS audited the
couples joint year 2 tax return and each spouses separate year 3 tax returns. The IRS determined that
the year 2 joint return and Crewellas separate year 3 tax return understated Crewellas self-employment
income causing the joint return year 2 tax liability to be understated by $9,000 and Crewellas year 3
separate return tax liability to be understated by $6,950. The IRS also assessed penalties and interest on
both of these tax returns. Try as it might, the IRS has not been able to locate Crewella, but they have
been able to find Jasper. (Leave no cells blank - be certain to enter "0" wherever required.)
a. What amount of tax can the IRS require Jasper to pay for the Dahvills year 2 joint return?

b. What amount of tax can the IRS require Jasper to pay for Crewellas year 3 separate tax return?

Explanation:

a.
Because Jasper is jointly and severally liable for the year 2 return, he is responsible to pay the entire
$9,000.
b.
Because they filed separately in year 3, Jasper is not responsible for any of the $6,950. $0

#3

In each of the following independent situations, determine the taxpayers filing status and the number of
personal and dependency exemptions the taxpayer is allowed to claim.

a.

Frank is single and supports his 17-year-old brother, Bill. Bill earned $3,000 and did not live with
Frank.
Single with two exemptions.

b. Geneva and her spouse reside with their son, Steve, who is a 20-year-old undergraduate student at
State University. Steve earned $13,100 at a part-time summer job, but he deposited this money in a
savings account for graduate school. Geneva paid all of the $12,000 cost of supporting Steve.
Married filing jointly with three exemptions.

c. Hamishs spouse died last year, and Hamish has not remarried. Hamish supports his father Reggie,
age 78, who lives in a nursing home and had interest income this year of $2,500.
Head of household with two exemptions.

d. Irene is married but has not seen her spouse since February. She supports her spouse's 18-year-old
child Dolores, who lives with Irene. Dolores earned $4,500 this year.
Head of household with two exemptions.

e. Assume the same facts as in part d. Also assume that Craig is Irenes husband. Craig supports his
12-year-old son Ethan, who lives with Craig. Ethan did not earn any income. What is Craig's filing
status?
Head of household with two exemptions.

Explanation:

a.
Single with two exemptions; one personal and one dependency exemption for Bill.
Frank will file as single, not head of household. Bill is not a qualifying person for purposes of the head of
household test because Bill did not live as member of Franks household for more than half the year.
Frank can claim an exemption for Bill because Bill qualifies as Franks qualifying relative as follows:
Test
Relationship
Age
Residence
Support
Gross income

Bill
Yes, Bill is taxpayers brother.
Not applicable to qualifying relative
Not applicable to qualifying relative
Yes, more than half of Bills support is provided by Frank.
Yes, Bills gross income ($3,000) is less than the exemption amount.

b.
Married filing jointly with two personal exemptions and one dependency exemption for Steve. Steve
meets the test to be Geneva and her husbands qualifying child as follows:
Test
Relationship
Age
Residence
Support

Steve
Yes, Steve is the taxpayers son.
Yes, under age 24 and a full-time student (and younger than parents).
Yes, temporary absences away at school count as time in the parents home
Yes, even though the Steve earned $13,100, he did not use any of that money to
provide for his support. Steves parents provided more than half (all, in fact) of his
support for the year. A qualifying child is not subject to the gross income test.

c.
Head of household with two exemptions. Hamish is not a qualifying widower because he does not
maintain a household for a dependent child. However, he does qualify for head of household because he
is not married and he pays more than half the cost of maintaining a separate household that is the
principal place of abode for his father, and his father also qualifies as his dependent (as a qualifying
relative) as follows:
Because Reggie is considered to be Hamishs qualifying relative (and a qualifying person for purposes of
the head of household filing status), Hamish may also claim a dependency exemption for Reggie.
Test
Relationship
Age
Residence
Support
Gross income

Reggie
Yes, Reggie is Hamishs father.
Not applicable to qualifying relative
Not applicable to qualifying relative
Yes, Hamish provides more than half of Reggies support.
Yes, Reggies gross income of $2,500 is less than the exemption amount.

d.
Head of household with two exemptions. Irene qualifies for being treated as unmarried for the year
(abandoned spouse) as follows:
Test
Married
Separate return
Maintains home
Time separated

Irene
Yes, Irene is still married at the end of the year.
Yes, Irene files a separate return from her spouse.
Yes, Irene provides more than half the cost of maintaining a home for a qualifying
child.
Yes, Irene has not lived with her spouse for the last six months of the year.

Because she is treated as though she were unmarried, she may file as head of household because she
pays more than half the costs (for more than half the taxable year) of maintaining a household that is the
principal place of abode for a dependent who is her qualifying child. Dolores is Irenes qualifying child, as
determined below:
Test
Relationship
Age
Residence
Support

Dolores
Yes, Dolores is the taxpayers stepchild.
Yes, under age 19 (and younger than Irene)
Yes, Dolores lived with taxpayer for more than half of the year.
Yes, Dolores did not provide more than half of her own support.

Irene may claim one personal exemption for herself and one dependency exemption for Dolores.
e.
Head of household with two exemptions. Craig qualifies for being treated as unmarried (abandoned
spouse rules) as follows:
Test
Married
Separate return
Maintains home
Time separated

Craig
Yes, Craig is still married at the end of the year.
Yes, Craig files a separate return from his spouse.
Yes, Craig provides more than half the cost of maintaining a home for a qualifying
child.
Yes, Craig has not lived with his spouse for the last six months of the year.

Because he is treated as though he were unmarried, he may file as head of household because he pays
more than half the costs (for more than half the taxable year) of maintaining a household that is the
principal place of abode for a dependent who is his qualifying child. Ethan is Craig's qualifying child, as
determined below:
Test
Relationship
Age
Residence
Support

Ethan
Yes, Ethan is the taxpayers child.
Yes, under age 19 (and younger than Craig)
Yes, Ethan lived with taxpayer for more than half of the year.
Yes, Ethan did not provide more than half of his own support.

Craig may claim one personal exemption for himself and one dependency exemption for Ethan. Note that
both Irene in part d. and Craig may claim head of household filing status because they both qualify to be
treated as unmarried for filing status purposes.

Three years ago, Adrian purchased 160 shares of stock in X Corp. for $19,520. On December 30 of year
4, Adrian sells the 160 shares for $11,520. (Input the amount as positive value.)
a. Assuming Adrian has no other capital gains or losses, how much of the loss is Adrian able to deduct
on her year 4 tax return?
Capital loss$3,000
b-1. Assume the same facts as in part a, except that on January 20 of year 5, Adrian purchases 160
shares of X Corp. stock for $11,520. How much loss from the sale on December 30 of year 4 is
deductible on Adrians year 4 tax return?

Capital loss$0
b-2. What basis does Adrian take in the stock purchased on January 20 of year 5?
The basis of the new 160 shares of stock is $19,520
Explanation:
a.

Adrian has a $8,000 long-term capital loss. She can offset $3,000 of the capital loss against ordinary
income. The remaining $5,000 of the capital loss (i.e. $8,000 less the $3,000 deducted currently) is
carried forward indefinitely.
b-1. & b-2.

Adrian has a realized $8,000 long-term capital loss on the sale of the 160 shares. However, she has
purchased substantially identical stock within the 61 day period (30 days before the sale until 30 days
after the sale); therefore, her loss is limited by the wash sale rules. Since Adrian purchased 160 shares
the loss is not currently recognized. The loss is added to the basis of the new shares purchased. Thus,
the basis of the 160 new shares of stock is $19,520 (i.e. the $11,520 purchase price plus the
unrecognized loss of $8,000).

Terry was ill for three months and missed work during this period. During his illness, Terry received
$4,700 in sick pay from a disability insurance policy.
What amounts are included in Terrys gross income under the following independent circumstances?
a. Terry has disability insurance provided by his employer as a nontaxable fringe benefit. Terrys
employer paid $2,080 in disability premiums for Terry this year.
Amount included$4,700
b. Terry paid $2,080 in premiums for his disability insurance this year.
Amount included$0
c. Terrys employer paid the $2,080 in premiums for Terry, but Terry elected to have his employer include
the $2,080 as compensation on Terrys W-2.
Amount included$0
d. Terry has disability insurance whose cost is shared with his employer. Terrys employer paid $1,500 in
disability premiums for Terry this year as a nontaxable fringe benefit, and Terry paid the remaining
$580 of premiums from his after-tax salary. (Do not round intermediate calculations. Round your
answer to the nearest whole dollar amount.)

Explanation:
a.

$4,700. The disability pay of $4,700 is included in Terrys gross income because Terrys employer paid
the insurance premiums as a nontaxable fringe benefit to Terry. Consequently, the disability insurance
premiums of $2,080 paid by Terrys employer are excluded from Terrys gross income.
b.

$0. The disability pay of $4,700 is excluded from Terrys gross income because Terry paid the insurance
premiums. Note: the cost of disability insurance premiums is not deductible as a medical expense.
c.

$0. Even though his employer paid the premium, the premium is taxable compensation to Terry, so he is
treated as though he paid the premiums. Thus, the answer is the same as for part b.
d.

$3,389. A portion of the disability pay is excluded from Terrys gross income because Terry paid a portion
of the insurance premiums. Terry can exclude $1,311 = [($580/$2,080) $4,700].

Louis files as a single taxpayer. In April of this year he received a $1,620 refund of state income taxes
that he paid last year.
How much of the refund, if any, must Louis include in gross income under the following independent
scenarios? Assume the standard deduction last year was $6,100.
a. Last year Louis claimed itemized deductions of $6,525. Louiss itemized deductions included state
income taxes paid of $2,500.

b. Last year Louis had itemized deductions of $4,630 and he chose to claim the standard deduction.
Louiss itemized deductions included state income taxes paid of $2,500.

c. Last year Louis claimed itemized deductions of $7,620. Louiss itemized deductions included state
income taxes paid of $4,075.

Explanation:
a.

Louis received a tax benefit for the lesser of the refund ($1,620) or the excess of the itemized deductions
above the standard deduction ($6,525 $6,100 = $425). Hence, Louis must include $425 of the $1,520
refund in gross income.
b.

Because he didnt itemize his deductions, Louis received no tax benefit from the $1,520 tax

overpayment. Hence, none of the refund is included in his gross income.

c.

Louis received a tax benefit for the lesser of the refund ($1,520) or the excess of the itemized deductions
above the standard deduction ($7,620 $6,100 = $1,520). Hence, Louis must include the entire $1,520
refund in gross income.

Rubio recently invested $16,750 (tax basis) in purchasing a limited partnership interest in which he will
have no management rights in the company. His at-risk amount is $10,000. In addition, Rubios share of
the limited partnership loss for the year is $19,750, his share of income from a different limited
partnership was $6,850, and he had $46,400 in wage income and $14,300 in long-term capital gains.
(Input all amounts as positive values.)
a. How much of Rubio's $19,750 loss is allowed considering only the tax basis loss limitations?

b. How much of the loss from part (a) is allowed under the at-risk limitations?

c. How much of Rubios $19,750 loss from the limited partnership can he deduct in the current year
considering all limitations?

Explanation:
a.

Rubios initial tax basis in the limited partnership is $16,750. Rubios $19,750 loss reduces his tax basis
to zero leaving him with a $3,000 loss carryover because of the tax basis loss limitation.
b.
Rubios initial at-risk amount in the limited partnership is $10,000. Rubios $19,750 loss reduces his atrisk amount to zero leaving him with a $6,750 at-risk carryover. ($16,750 loss allowed under the tax basis
limitation less the $10,000 amount Rubio has at risk).
c.
After applying the tax basis and at-risk limitations, Rubio can potentially deduct $10,000 of
loss. However, because Rubio is a limited partner this loss is considered a passive loss. Therefore,
Rubio may only deduct this loss in the current year to the extent he has passive income. Because Rubio
has only passive income of $6,850 (from another limited partnership), he may only deduct $6,850 of the
$10,000 loss leaving him with a $3,150 passive activity loss that can be carried forward indefinitely.

2.

award:

10 out of
10.00 points

Clyde currently commutes 55 miles to work in the city. He is considering a new assignment in the
suburbs on the other side of the city that would increase his commute considerably. He would like to
accept the assignment, but he thinks it might require that he move to the other side of the city. Assume
that Clyde is employed for 39 of the next 52 weeks.
Determine if Clydes move qualifies for a moving expense deduction and calculate the amount (if any)
under the following circumstances: (Leave no cells blank - be certain to enter "0" wherever
required.)
a.Clyde estimates that unless he moves across town, his new commute would be almost 64 miles. He
also estimates the costs of a move as follows:
Lodging while searching for an apartment
Transportation auto (100 miles @ 19 cents/mile)
Mover's fee (furniture and possessions)
Meals while en route

$ 174
19
3,650
77

a-1 Does Clydes move qualify for a moving expense deduction?

No
a-2 Calculate the amount of deduction.

b.Same as part (a), except Clyde estimates that unless he moves across town, his new commute would
be almost 120 miles.
b-1 Does Clydes move qualify for a moving expense deduction?
Yes
b-2 Calculate the amount of deduction.

c.Same as part (a), except Clydes new commute would be almost 134 miles and the movers intend to
impose a $890 surcharge on the moving fee for the additional distance.
c-1 Does Clydes move qualify for a moving expense deduction?
Yes
c-2 Calculate the amount of deduction.

Explanation:
a.

Zero. Clyde would not qualify for a moving expense deduction. To qualify for a moving expense
deduction the new commute from Clydes current residence would need to be a minimum of 105 miles.
That is, his commute from his old residence to the new job must be more than 50 miles longer than his
current commute.
b.

Clyde now qualifies for a moving expense deduction (assuming he is employed for 39 of the next 52
weeks). Estimated costs of $3,669 (movers fee of $3,650 + $19 of mileage) are deductible for AGI. This
excludes the cost for lodging while searching for an apartment and the meals en route.
c.

Clyde qualifies for a moving expense deduction (assuming he is employed for 39 of the next 52
weeks). Estimated costs of moving increase to $4,559, and this total is deductible for AGI.

3.

award:

0 out of
10.00 points

Natalie owns a condominium near Cocoa Beach in Florida. This year, she incurs the following expenses
in connection with her condo:

Insurance
Advertising expense
Mortgage interest
Property taxes
Repairs & maintenance
Utilities
Depreciation

$720
915
4,350
1,480
1,070
730
9,000

During the year, Natalie rented out the condo for 99 days, receiving $22,000 of gross income. She
personally used the condo for 52 days during her vacation. Assume there are 365 days in the year.
Assume Natalie uses the Tax Court method of allocating expenses to rental use of the property. (Do not
round intermediate calculations. Round your final answers to the nearest whole dollar amount.)
a. What is the total amount of for AGI (rental) deductions Natalie may deduct in the current year related
to the condo?

b. What is the total amount of itemized deductions Natalie may deduct in the current year related to the
condo?

c. If Natalies basis in the condo at the beginning of the year was $159,000, what is her basis in the
condo at the end of the year?

d. Assume that gross rental revenue was $3,400 (rather than $22,000), what amount of for AGI
deductions may Natalie deduct in the current year related to the condo?

Explanation:

Note that the home falls into the residence with significant rental use category.
a.

$10,049, calculated as follows:

Gross rental income
Tier 1 expenses:
Advertising expense = $915
Mortgage interest = (99/365)
$4,350 = $1,180
Property taxes = (99/365)
$1,480 = $401
Less: Total Tier 1 expenses

Balance
Tier 2 expenses:
Insurance = (99/151) $720 =
$472
Repairs & Maintenance =
(99/151) $1,070 = $702
Utilities = (99/151) $730 = $479
Less: Total Tier 2 expenses

Balance
Tier 3 expenses:
Depreciation (99/151) $9,000 =
$5,901

Balancenet income from rental of

condo
Total For AGI deductions ($2,496 +
$1,652 + $5,901)

22,000

(2,496)
19,504

(1,652)
17,852
(5,901)
$

11,951

10,049

b.

Natalie may deduct the personal-use portion of the mortgage interest and property taxes since they are
deductible without regard to rental income. Her deductions for these items are computed as follows:
Mortgage interest
[(266/365)
$4,350]
Real property
taxes [(266/365)
$1,480]

3,170
1,079

Total from AGI

deductions

4,249

c.

$153,099, calculated as follows:

Beginning basis $
Less: depreciation
actually deducted
Adjusted basis

159,000
(5,901)
153,099

d.

$3,400. Natalie is allowed to deduct all $2,496 of the tier 1 expenses (advertising expense and the
portion of the mortgage interest expense and real property taxes allocated to the rental use of the home)
as for AGI deductions (these deductions would not be limited to rental revenue even if it created a
loss). Natalie is also able to deduct $904 of the tier two expenses. In total, she will deduct $3,400 of
rental related expensesleaving her with $0 net income from the property.

4.

award:

10 out of
10.00 points

John (age 59 and single) has earned income of $3,600. He has $35,000 of unearned (capital gain)
income.
a. If he does not participate in an employer-sponsored plan, what is the maximum deductible IRA

contribution John can make in 2014?

b. If he does participate in an employer-sponsored plan, what is the maximum deductible IRA

contribution John can make in 2014?

c. If he does not participate in an employer-sponsored plan, what is the maximum deductible IRA
contribution John can make in 2014 if he has earned income of $11,500?

Explanation:

a.
$3,600. Deductible contributions to an IRA account are limited to the lesser of $5,500 or earned
income. If the individual is at least 50 years old by the end of the year, he/she may make a contribution of
up to the lesser of $6,500 or earned income. In this case, Johns deductible contribution is the lesser of
(1) his earned income of $3,600 or (2) the maximum deductible amount of $6,500. So his deductible
contribution is $3,600.
b.
$3,600. Taxpayers who are participants in an employer sponsored retirement plan are allowed to make
deductible contributions to an IRA account as long as they meet certain AGI restrictions. In 2014, the
deductibility of IRA contributions is phased-out proportionally for AGI between $60,000 and
$70,000. Johns AGI of $38,600 (3,600 earned income + 35,000 capital gain) falls below the $60,000 AGI
phase-out threshold. Thus, John is allowed to make a contribution equal to the lesser of $6,500 or
earned income (The $6,500 = $5,500 standard limit + $1,000 catch-up contribution for taxpayers age 50
and over). So, he is allowed to deduct $3,600.
c.
$6,500. Deductible contributions are limited to the lesser of $5,500 or earned income. The $5,500 limit is
increased to $6,500 for taxpayers who have reached the age of 50 by the end of the year (taxpayers age
50 or older at the end of the year are allowed to make an additional $1,000 catch up contribution). Thus,
John may make a total deductible contribution equal to the lesser of $6,500 (5,500 + 1,000) or earned
income ($11,500). So, he is allowed to deduct $6,500.

1.
award:

0 out of
10.00 points

Simpson is a single individual who is employed full-time by Duff Corporation. This year Simpson reports
AGI of $58,000 and has incurred the following medical expenses:

Dentist charges
Physician's charges
Optical charges
Cost of eyeglasses
Hospital charges
Prescription drugs
Over-the-counter drugs
Medical insurance premiums
(not through an exchange)

$1,285
2,140
980
715
2,190
525
585
1,130

a. Calculate the amount of medical expenses that will be included with Simpsons itemized deductions
after any applicable limitations.

b. Suppose that Simpson was reimbursed for $455 of the physician's charges and $1,695 for the
hospital costs. Calculate the amount of medical expenses that will be included with Simpsons
itemized deductions after any applicable limitations.

Explanation:
a.

All expenses are qualified medical expenses except for the over-the-counter drugs. Hence, Simpsons
medical expense deduction is $8,965 less $5,800 (10 percent 58,000) = $3,165 and this amount is
included with Simpsons other itemized deductions.
b.

Same as a. except Simpsons medical expenses are first reduced by reimbursements $8,965 less $2,150
then reduced by the floor limit $5,800 (10 percent 58,000) = $1,015 and this amount is included with
Simpsons other itemized deductions.

2.
award:

0 out of
10.00 points

Tim is a single, cash-method taxpayer with one personal exemption and an AGI of $35,000. In April of
this year Tim paid $1,330 with his state income tax return for the previous year. During the year, Tim had
$3,780 of state income tax and $12,775 of federal income tax withheld from his salary. In addition, Tim
made estimated payments of $952 and $1,330 of state and federal income taxes, respectively. Finally,
Tim expects to receive a refund of $350 for state income taxes when he files his state tax return for this
year in April next year. What is the amount of taxes that Tim can deduct as an itemized deduction?

Explanation:

Tim can deduct the state taxes paid with last years return, state tax withheld during the year, and
estimated payments of state tax, a total of $6,062. The expected refund next year will not affect the
deductions for this year, but may be taxable next year under the tax benefit rule

3.

award:

0 out of
10.00 points

Zack is employed as a full-time airport security guard. This year Zack's employer transferred him from
Dallas to Houston. At year-end, Zack discovered a number of unreimbursed expenses related to his
employment in Dallas prior to his move to Houston.
Cost of bus transportation from
his home to the airport
Subscription to Journal of
Security Guards
Lunch with colleagues
Cost of self-defense course at
local community center
Cost of lunch with supervisor
during evaluations
Total

180
63
225
600
348

1,416

Identify which expenses are deductible and whether the deductions are for or from AGI.

Explanation:

The cost of bus transportation is a nondeductible personal expense, but the cost of the subscription and
half the cost of the supervisor lunches (assuming Zack has sufficient substantiation) will be deductible as
miscellaneous itemized deductions subject to the 2% floor (from AGI). The cost of the course is also
deductible as a miscellaneous itemized deduction subject to the 2% of AGI floor, because it appears to
maintain or improve Zacks skills in the business.

4.
award:

0 out of
10.00 points

In each of the following independent cases, indicate the amount (1) deductible for AGI, (2) deductible
from AGI, and (3) neither deductible for nor deductible from AGI before considering income limitations or
the standard deduction.

a. Fran spent $97 for uniforms for use on her job. Her employer reimbursed her for $9 of this amount
under an accountable plan.

b. Timothy, a plumber employed by ACE Plumbing, spent $101 for small tools to be used on his job, but
he was not reimbursed by ACE.

c. Jake is a perfume salesperson. Because of his high pay, he receives no allowance or reimbursement
from his employer for advertising expenses even though his position requires him to advertise
frequently. During the year, he spent $2,650 on legitimate business advertisements.

d. Trey is a self-employed special-duty nurse. He spent $460 for uniforms.

e. Mary, a professor at a community college, spent $465 for magazine subscriptions. The magazines
were helpful for her research activities, but she was not reimbursed for the expenditures.

f. Wayne lost $440 on the bets he made at the race track, but he won $62 playing slot machines.

Explanation:
a.

$0 for AGI. $88 from AGI (miscellaneous itemized deduction as unreimbursed employee business
expense). Income and expenses associated with the $9 reimbursement completely offset each other and
are ignored. Note that the accountable plan only reimburses deductible expenses.
b.

from - miscellaneous itemized deduction as employee business expense.

c.

from - miscellaneous itemized deduction as employee business expense.

d.

for - trade expense assuming that the special duty uniforms cannot be adapted to normal use.
e.

$465 from AGI as miscellaneous itemized deduction as employee business expenses.

f.

$62 from AGI as a miscellaneous itemized deduction not subject to 2% floor. Wayne's gambling loss
deduction is limited to his winnings.

1.

award:

3.34 out of
10.00 points

Lacy is a single taxpayer. In 2014, her taxable income is $40,500. What is her tax liability in each of the
following alternative situations? Use Tax rate schedule for reference. (Do not round intermediate calculations.
Round your answer to 2 decimal places.)
a. All of her income is salary from her employer.

b. Her $40,500 of taxable income includes $1,300 of qualified dividends.

c. Her $40,500 of taxable income includes $15,300 of qualified dividends.

Explanation:
a.

Lacys total tax is $5,981.25.

Description
(1) Taxable income
(2) Preferentially taxed income
(3) Income taxed at ordinary
rates
(4) Tax on income taxed at
ordinary rates

Amount
$

40,500
$

(5) Tax on preferentially taxed

income
Tax on taxable income

Explanation
40,500
0
5,981.25

(1) (2)
(40,500 36,900) 25% +
5,081.25 (see tax rate
schedule for
Single individuals)

0
$

5,981.25

Amount
$

40,500

(4) + (5)

b.

Lacys total tax is $5,851.25.

Description
(1) Taxable income

Explanation

(2) Preferentially taxed income

(3) Income taxed at ordinary
rates
(4) Tax on income taxed at
ordinary rates
(5) Tax on preferentially taxed
income

Tax on taxable income

1,300
39,200
5,656.25
195

5,851.25

(1) (2)
(39,200 36,900) 25% +
5,081.25
(2) 15% [Note that if (2)
were
ordinary income it would
have been
taxed at 15%]
(4) + (5)

c.

Lacys total tax is $3,866.25.

Description
(1) Taxable income
(2) Preferentially taxed income
(3) Income taxed at ordinary
rates
(4) Tax on income taxed at
ordinary rates
(5) Tax on preferentially taxed
income
Tax on taxable income

Amount
$

Explanation
40,500
15,300
25,200
3,326.25
540.00

3,866.25

(1) (2)
(25,200 9,075) 15% +
907.50
(36,900 25,200) 0% +
(15,300
(36,900 25,200)) 15%
(4) + (5)

2.
award:

0 out of
10.00 points

This year Lloyd, a single taxpayer, estimates that his tax liability will be $11,350. Last year, his total tax
liability was $15,900.
He estimates that his tax withholding from his employer will be $8,655.
a. How much does Lloyd need to increase his withholding by (for the year), in order to avoid the
underpayment penalty?

b. Assuming Lloyd does not make any additional payments, what is the amount of his underpayment

penalty? Assume the federal short-term rate is 5 percent. (Negative amounts should be indicated
by a minus sign. Round your answers to 2 decimal places.)

Explanation:
a.

Taxpayers can avoid an underpayment penalty if their withholdings and estimated tax payments equal or
exceed one of the following two safe harbors:
(1) 90 percent of their current tax liability [$11,350 90% = $10,215 for Lloyd] or
(2) 100 percent of their previous year tax liability (110 percent for individuals with AGI greater than
$150,000). [100% of $15,900 for Lloyd assuming his AGI was $150,000 or less].
Since Lloyds withholding does not equal or exceed $10,215 (safe harbor 1) or $15,900 (safe harbor 2),
he will need to increase his withholding or make estimated payments this year to avoid the
underpayment penalty. If he increases his withholding by $1,560 or makes four quarterly estimated
payments of $390 each, he will avoid the underpayment penalty (assuming his current year tax
projection is accurate).
b.

With an 8% penalty rate (federal short-term rate of 5% plus 3%), Lloyd will owe $78 in underpayment
penalty computed as following:
(1)
Actual
withholding

Dates
th

April 15

June 15th
September 15th
January 15th

$2,163.75

(2)
Required withholding
$2,553.75 ($11,350 0.9 0.25)

($8,655 )
4,327.50 5,107.50 ($11,350 0.9 0.50)
($8,655 )
6,491.25 7,661.25 ($11,350 0.9 0.75)
($8,655 )
8,655.00 10,215.00 ($11,350 0.9 1)

(1) (2)
Over
(Under)
Withheld

Penalty Per Quarter

$(390.00) $390 8% = $7.80

(780.00) $780 8% = $15.60
(1,170.00) $1,170 8% = $23.40
(1,560.00) $1,560 8% = $31.20
Total = $78.00

3.
award:

0 out of
10.00 points

In 2014, Elaine paid $2,200 of tuition and $720 for books for her dependent son to attend State
University this past fall as a freshman. Elaine files a joint return with her husband.
What is the maximum American opportunity credit that Elaine can claim for the tuition payment and

books in each of the following alternative situations?

a. Elaines AGI is $101,500.

b. Elaines AGI is $167,000. (Round your intermediate calculations to two decimal places and final
answer to the nearest whole dollar amount.)

c. Elaines AGI is $220,500.

Explanation:
a.

Elaine may claim an American opportunity credit (AOC) of $2,230.

Description
(1) AOC before phase-out

(2) AGI

Amount
2,230

Explanation
2,000 100% + (2,920 2,000)
25%

101,500
160,000

(3) Phase-out threshold

(4) Excess AGI

(5) Phase-out range for

taxpayer filing as married
filing jointly
(6) Phase-out percentage
(7) Phase-out amount
AOC after-phase-out

$ 20,000

$
$

(2) (3) {but not < 0 and

limited to a maximum of $20,000}
$180,000 $160,000

0 % (4)/(5) or 100% max.

0
(1) (6)
2,230
(1) (7)

b.

Elaine may claim an AOC of $1,450.

Description
(1) AOC before phase-out
(2) AGI
(3) Phase-out threshold
(4) Excess AGI
(5) Phase-out range for
taxpayer filing as married
filing jointly
(6) Phase-out percentage
(7) Phase-out amount
AOC after-phase-out

Amount
2,230.00

$167,000.00
160,000.00
$ 7,000.00
$ 20,000.00

$
$

Explanation
2,000 100% + (2,920 2,000)
25%
(2) (3)
$180,000 $160,000

35 % (4)/(5) or 100% max.

780.50
(1) (6)
1,450
(1) (7)

c.

Because Elaines AGI exceeds the threshold amount, she may not claim an AOC.
Description

Amount

Explanation

(1) AOC before phase-out

(2) AGI

2,000 100% + (2,920 2,000)

25%

220,500
160,000

(3) Phase-out threshold

(4) Excess AGI
(5) Phase-out range for
taxpayer filing as married
filing jointly
(6) Phase-out percentage
(7) Phase-out amount
AOC after-phase-out

2,230

$ 60,500
$ 20,000

$
$

(2) (3) (limited to $20,000)

$180,000 $160,000

100 % (4)/(5)
2,230
(1) (6)
0
(1) (7)

4.

award:

0 out of
10.00 points

Rasheed works for Company A, earning $436,000 in salary during 2014.

Assuming he has no other sources of income, what amount of FICA tax will Rasheed pay for the year?

Explanation:

For 2013, Rasheed will pay 6.2% of Social Security taxes on the first $117,000 of his salary, and he will
pay 1.45% of Medicare taxes on his first $200,000 of salary and 2.35% of Medicare taxes on
the remaining 236,000 of salary. In total, Rasheed will pay $7,254 of Social Security taxes (6.2%
$117,000) and $8,446 of Medicare taxes for the year ($200,000 1.45% + $236,000 2.35%) for a total
of $15,700 in FICA taxes.

1.
award:

0 out of
10.00 points

In October of year 0, Janine received a $7,670 payment from a client for 26 months of security services
she will provide starting on September 1 of year 0. This amounts to $295 per month.
a. When must Janine recognize the income from the $7,670 advance payment for services if she uses
the cash method of accounting?
Year 0
b. When must Janine recognize the income from the $7,670 advance payment for services if she uses
the accrual method of accounting?

Year 0 and Year 1

c. Suppose that instead of services, Janine received the payment for a security system (inventory) that
she will deliver and install in year 2. When would Janine recognize the income from the advance
payment for inventory sale if she uses the accrual method of accounting and she uses the deferral
method for reporting income from advance payments? For financial accounting purposes, she reports
the income when the inventory is delivered.
Year 2
d. Suppose that instead of services, Janine received the payment for the delivery of inventory to be
delivered next year. When would Janine recognize the income from the advance payment for sale of
goods if she uses the accrual method of accounting and she uses the full-inclusion method for
advance payments?
Year 0
Explanation:
a.

Janine must recognize the entire $7,670 as income this year because she received it this year.
b.

Janine must recognize the $1,180 she earns in year 0 (4 months $295) and she must recognize the
remaining $6,490 in year 1 (she is allowed to defer the prepaid income for only one year).
c.

If Janine uses the deferral method, then she would recognize the entire prepayment of $7,670 in year 2
when she delivers the goods.
d.

If Janine uses the full inclusion method, she would recognize the entire prepayment of $7,670 as income
in year 0.

2.

award:

0 out of
10.00 points

Indicate the amount (if any) that Josh can deduct as ordinary and necessary business deductions in each
of the following situations.
a. Josh borrowed $87,500 from the First State Bank using his business assets as collateral. He used the
money to buy City of Blanksville bonds. Over the course of a year, Josh paid interest of $8,800 on the
borrowed funds, but he received $7,000 of interest on the bonds.

b. Josh purchased a piece of land for $64,500 in order to get a location to expand his business. He also
paid $12,000 to construct a new driveway for access to the property.

c. This year Josh paid $18,700 to employ the mayors son in the business. Josh would typically pay an
employee with these responsibilities about $16,700 but the mayor assured Josh that after his son was
hired, some city business would be coming his way.

d. Josh paid his brother, a mechanic, $6,550 to install a robotic machine for Joshs business. The
amount he paid to his brother is comparable to what he would have paid to an unrelated party to do
the same work. Once the installation was completed by his brother, Josh began calibrating the
machine for operation. However, by the end of the year, he had not started using the machine in his
business.

Explanation:
a.

$0. The interest expense is not deductible (expense associated with tax-exempt income).
b.

$0. Capital expenditures are not deductible.

c.

Only $16,700 is deductible and the remaining $2,000 is either unreasonable in amount or against public
policy (as a bribe).
d.

$0. The amount paid to install a machine is capitalized because the cost benefits the useful life of the
machine.

3.

award:

0 out of
10.00 points

This year Amy purchased $3,450 of equipment for use in her business. However, the machine was
damaged in a traffic accident while Amy was transporting the equipment to her business. Note that
because Amy did not place the equipment into service during the year, she does not claim any
depreciation expense for the equipment.
a. After the accident, Amy had the choice of repairing the equipment for $2,440 or selling the equipment
to a junk shop for $680. Amy sold the equipment. What amount can Amy deduct for the loss of the
equipment?

b. After the accident, Amy repaired the equipment for $1,320. What amount can Amy deduct for the loss
of the equipment?

c. After the accident, Amy could not replace the equipment so she had the equipment repaired for
$4,750. What amount can Amy deduct for the loss of the equipment?

Explanation:

Note: Since the machine was not placed in service, Amy cannot claim any cost recovery.
a.

For the complete destruction of a business asset, Amy can claim a casualty loss deduction for the tax
basis of the machine less any recovery. Hence, Amy can claim a casualty deduction for $2,770 ($3,450
$680)
b.

For partial destruction of a business asset, Amy can claim a casualty loss deduction for the lesser of the
economic loss (the cost of repair) or the tax basis of the machine. In this case, Amy can deduct $1,320.
c.

For partial destruction of a business asset, Amy can claim a casualty loss deduction for the lesser of the
economic loss (the cost of repair) or the tax basis of the machine. In this case Amy can deduct $3,450.

4.
award:

0 out of
10.00 points

Ryan is self-employed. This year Ryan used his personal auto for several long business trips. Ryan paid
$1,920 for gasoline on these trips. His depreciation on the car if he was using it fully for business
purposes would be $3,900. During the year, he drove his car a total of 20,200 miles (a combination of
business and personal travel). (Do not round intermediate calculations. Round your final answer to
the nearest dollar amount.)
a. Ryan can provide written documentation of the business purpose for trips totaling 4,040 miles. What
business expense amount can Ryan deduct (if any) for these trips?

b. Ryan estimates that he drove approximately 2,260 miles on business trips, but he can only provide
written documentation of the business purpose for trips totaling 1,300 miles. What business expense
amount can Ryan deduct (if any) for these trips?

Explanation:
a.

Ryan can claim the direct cost of these trips, including gas ($1,920) and depreciation on the
auto. However, the deduction for auto use is limited to direct costs (such as gas and oil) and the pro-rata
portion of indirect costs (such as depreciation). The pro rata portion would be calculated as the business
percentage of total mileage ($3,900 [4,040 / 20,200]) or $780. Hence, Ryan could deduct

$2,700. Alternatively, Ryan can claim a standard mileage rate, and based on the standard mileage rate of
56 per mile, he can deduct $2,262 (i.e., 4,040 0.56).
b.

Ryan is allowed to deduct the cost of using his personal auto in his business activities only if he can
substantiate the business use. If he has records to substantiate the business use, Ryan can claim the
direct cost of these trips including depreciation on the auto (for the business portion of the total
mileage). Ryans total expense deduction would consist of depreciation and expenses calculated as
follows: [(1,300 / 20,200) $3,900] + [(1,300 / 2,260) $1,920] = $251 + $1,104 = $1,355. Alternatively,
Ryan can claim a standard mileage rate. Ryan can only substantiate 1,300 miles, and based on the
standard mileage rate of 56 per mile, he can deduct $728 (i.e., 1,300 0.56).

5.

award:

0 out of
10.00 points

Rebecca is a calendar-year taxpayer who operates a business. She made the following business-related
expenditures in December of year 0.
Indicate the amount of these payments that she may deduct in year 0 under both the cash method of
accounting and the accrual method of accounting.
a. $1,800 for an accountant to evaluate the accounting system of Rebeccas business. The accountant
spent three weeks in January of year 1 working on the evaluation.

b. $4,800 for new office furniture. The furniture was delivered on February 15, year 1.

c. $4,100 for property taxes on her factory.

d. $3,180 for interest on a short-term bank loan relating to the period from October 1, year 0 through
March 31, year 1.

Explanation:
a.

$1,800 under the cash method. Likely $1,800 under the accrual method. Rebecca paid for the
accounting services in advance and as long as she reasonably expected that the accountant would finish
the services within 3 months after the payment, she may treat payment as economic performance.
Here, since she made the payment in December and the accountant provided the services a month later,
it is likely that she would qualify for the deduction in year 0. Otherwise she would need to deduct the
$1,800 in year 1 when the accountant provided the services .
b.

$0 under both the cash and accrual method. In this case, economic performance takes place when the
goods are provided to her. However, because the asset will provide a benefit for more than 12 months,
she must capitalize the expenditure and she will begin depreciating it in year 1 when she places the
asset in service.
c.

$4,100 under both the cash method and accrual method. Taxes are a payment liability and are therefore,
absent a special election, deductible only when paid.
d.

$1,590 (the interest allocable to October November and December) under both the cash method and the
accrual method. Even under the cash method taxpayers may not deduct interest expense in excess of
the amount of accrued interest.

6.

award:

0 out of
10.00 points

Melissa recently paid $540 for round-trip airfare to San Francisco to attend a business conference for
three days. Melissa also paid the following expenses: $340 fee to register for the conference, $430 per
night for three nights lodging, $225 for meals, and $500 for cab fare.
a. What amount of the travel costs can Melissa deduct as business expenses? (Round your answer to
the nearest dollar amount.)

b. Suppose that while Melissa was on the coast, she also spent two days sightseeing the national parks
in the area. To do the sightseeing, she paid $1,780 for transportation, $925 for lodging, and $395 for
meals during this part of her trip, which she considers personal in nature. What amount of the travel
costs can Melissa deduct as business expenses? (Round your answer to the nearest dollar
amount.)

c. Suppose that Melissa made the trip to San Francisco primarily to visit the national parks and only
attended the business conference as an incidental benefit of being present on the coast at that
time. What amount of the airfare can Melissa deduct as a business expense? (Round your answer
to the nearest dollar amount.)

d. Suppose that Melissas permanent residence and business was located in San Francisco. She
attended the conference in San Francisco and paid $340 for the registration fee. She drove 167 miles
over the course of three days and paid $188 for parking at the conference hotel. In addition, she spent
$630 for breakfast and dinner over the three days of the conference. She bought breakfast on the way
to the conference hotel and she bought dinner on her way home each night from the conference.
What amount of the travel costs can Melissa deduct as business expenses?(Round your final
answer to the nearest whole dollar amount.)

Explanation:
a.

Since business was the primary reason for the trip, Melissa can deduct $2,782 of travel costs [$340
registration + $540 + $1,290 + (50% $225) + $500]
b.

None of the costs of sightseeing is deductible. However, because her primary purpose for the trip
appears to be business (3 days business vs. 2 days personal) she is allowed to deduct her airfare to San
Francisco and her other expenses in part a. relating to the business portion of the trip.
c.

If the purpose of the trip is primarily personal, then none of the air fare is deductible and only those direct
costs associated with the conference ($2,242) can be deducted (the registration, lodging, 50 percent of
the meals, and cab fare).
d.

Melissa would be allowed to deduct the registration fee for the conference of $340 and she could deduct
0.56 cents per mile for the 167 miles she drove to and from the conference ($94) and the parking fee of
$188. However, because her travel did not require her to be away from home overnight, she is not
allowed to deduct the cost of her meals going to and coming from the conference each day.
Chapter 10 property acquisition and cost recovery

1.
award:

0 out of
10.00 points

Wanting to finalize a sale before year-end, on December 29, WR Outfitters sold to Bob a warehouse and
the land for $201,000. The appraised fair market value of the warehouse was $112,250, and the
appraised value of the land was $141,750. (Do not round intermediate calculations. Round your
answers to the nearest dollar amount.)
a. What is Bobs basis in the warehouse and in the land?

b. What would be Bobs basis in the warehouse and in the land if the appraised value of the warehouse
is $92,250, and the appraised value of the land is $161,750?

c. Which appraisal would Bob likely prefer?

Appraised value in part (a)
Explanation:

NOTE: This is a bargain purchase. The sales price is less than the appraised value. This solution uses
the relative appraised values of the land and the warehouse to allocate the purchase price between
these two assets.

a.
Bob's cost basis in the land is $112,172. Because the purchase price is less than the appraised values
for the land and the warehouse, the purchase price must be allocated between the land and the
warehouse. The $112,172 basis for the land is the amount of the $201,000 purchase price that is
allocated to the land based on the relative value of the land ($141,750) to the value of the land
($141,750) plus the value of the warehouse ($112,250) based on the appraisal. The formula used to
determine the basis allocated to the land is $201,000 (purchase price) $141,750/($141,750+ 112,250).
Use the same process to determine that Bobs basis in the warehouse is $88,828.

b.
Bob's cost basis for the land is $127,999. Because the purchase price is less than the appraised values
for the land and the warehouse, the purchase price must be allocated between the land and the
warehouse. The $127,999 basis for the land is the amount of the $201,000 purchase price that is
allocated to the land based on the relative value of the land ($161,750) to the value of the land
($161,750) plus the value of the warehouse ($92,250) based on the appraisal. The formula used to
determine the basis allocated to the land is $201,000 (purchase price) $201,000/($92,250 + 161,750).
Use the same process to determine that Bobs basis in the warehouse is $73,001.
c.
Bob would likely prefer the appraisal from part (a), because the appraisal allows him to allocate more
basis to the warehouse, which is depreciable.

2.

award:

0 out of
10.00 points

Chaz Corporation has taxable income in 2014 of $392,000 before the 179 expense and acquired the
following assets during the year:
Asset
Office furniture
Computer equipment
Delivery truck
Total

Placed in Service
September 12
February 10
August 21

Basis
$1,330,000
946,000
73,000
$2,349,000

What is the maximum total depreciation expense that Chaz may deduct in 2014? (Use MACRS Table
1,Table 2, Table 3, Table 4 and Table 5.) (Take the 179 deduction only on the Furniture. Round your
answer to the nearest whole dollar amount.)

Explanation:

The maximum depreciation expense is $1,436,140 determined as follows:

Description

Amount

(1) Property placed in service

(2) Threshold for 179 phase-out

(3) Phase-out of maximum 179 expense

Explanation
Total of qualifying
2,349,000
assets
2013 amount
(2,000,000)
[179(b)(2)]

(4) Maximum 179 expense before phaseout

(5) Phase-out of maximum 179 expense

349,000

(1) (2)
(permanently
disallowed)
2013 amount
500,000
[179(b)(1)]
349,000 From (3)

(6) Maximum 179 expense after phaseout

151,000

(4) (5) not limited

by
taxable income

Chaz will receive the most benefit by applying the 179 amount to the furniture 7-year property.
179
Original Expens Remainin
Asset
Basis
e
g Basis
Furniture $1,330,00 $151,00 $1,179,00
(7-year)
0
0
0
Compute
rs (5946,000
946,000
year)
Delivery
truck (5
73,000
73,000
year)
179
Expense
Bonus
depreciati
on
Total depreciation expense

3.
award:

0 out of
10.00 points

Bonus
Depreciation
$

589,500

Remainin
g Basis Rate
$589,500 14.29
%

Depreciation
Expense
$

84,240

473,000

473,000

20.00
%

94,600

36,500

36,500

20.00
%

7,300
$

$ 1,099,000

151,000

$ 1,099,000

$ 1,436,140

Jose purchased a delivery van for his business through an online auction. His winning bid for the van
was $30,750. In addition, Jose incurred the following expenses before using the van: shipping costs of
$1,490; paint to match the other fleet vehicles at a cost of $1,090; registration costs of $3,759, which
included $3,500 of sales tax and a registration fee of $259; wash and detailing for $132; and an engine
tune-up for $347.
What is Joses cost basis for the delivery van?

Explanation:

$36,830, cost basis in the delivery van, computed as follows:

Description
Purchase price
Shipping costs

Amount
$

Explanation*
30,750
1,490

Paint

1,090

Sales tax

3,500
Total cost basis

Business
preparation
cost
Business
preparation
cost
Business
preparation
cost

36,830

*Note that the registration fee, washing and detailing, and engine tune-up are costs for repairs and
maintenance that are not required to be capitalized.

4.

award:

0 out of
10.00 points

DLW Corporation acquired and placed in service the following assets during the year: (Use MACRSTable
1, Table 2, Table 3, Table 4 and Table 5.)
Asset
Computer equipment
Furniture
Commercial building

Date
Acquired
3/4
3/28
10/14

Cost
Basis
$ 18,200
20,300
306,000

Assuming DLW does not elect 179 expensing or bonus depreciation, answer the following questions:
a. What is DLW's year 1 cost recovery for each asset? (Round your answers to the nearest dollar
amount.)

b. What is DLW's year 3 cost recovery for each asset if DLW sells all of these assets on 2/27 of year 3?
(Round your answers to the nearest dollar amount.)

Explanation:

a.
$8,178, under the half-year convention for personal property, calculated as follows:

Asset
Computer equipment
Furniture
Building

Purchase
Date
4-Mar
28-Mar
14-Oct

Quarter
1st
1st
4th

Recovery
Period
5 years
7 years
39 years

(1)
Original
Basis
$ 18,200
$ 20,300
$306,000

(2)
Rate
20.00%
14.29%
0.535%

Total Depreciation Expense

(1) (2)
Depreciation
$3,640
$2,901
$1,637
$8,178

b.
$4,503, calculated as follows:

Asset
Comput
er
equipme
nt
$
Furnitur
$
e

Original
Basis

Recove
ry
Portion
Period Rate of Year

19.20 50.00%
%
20,300
17.49 50.00%
7 years
%
306,000
39
12.50%
Building $
2.56%
years

Depreciation
Expense

18,200

Total Depreciation
Expense

5 years

1,747

1,775

981

4,503

5.

award:

0 out of
10.00 points

Nicole organized a new corporation. The corporation began business on April 1 of year 1. She made the

following expenditures associated with getting the corporation started:

Expense
Attorney fees for articles of
incorporation
March 1 March 30 wages
March 1 March 30 rent
Stock issuance costs
April 1 May 30 wages

Date

Amount

February 10

$ 42,500

March 30
March 30
April 1
May 30

7,150
3,050
20,000
17,875

a. What is the total amount of the start-up costs and organizational expenditures for Nicole's
corporation?

b. What amount of the start-up costs and organizational expenditures may the corporation immediately
expense in year 1?

c. What amount can the corporation deduct as amortization expense for the organizational expenditures
and for the start-up costs for year 1 (not including the amount it immediately expensed)? (Round
intermediate calculations to 2 decimal places and final answer to the nearest whole dollar
amount.)

d. What would be the allowable organizational expenditures, including immediate expensing and
amortization, if Nicole started a sole proprietorship instead?

Explanation:

a.
The only qualifying organizational expenditure is the $42,500 of attorney fees related to the drafting
articles of incorporation. The start-up costs are the wages ($7,150) and rent ($3,050) before business
began. Therefore, total start-up costs are $10,200.
b.
The corporation may immediately expense $5,000 of the organizational expenditure and $5,000 of the
start-up costs because the amount of organizational expenditures is under $50,000 and the amount of
start-up costs is under $50,000.
c.
The corporation will deduct amortization expense of $1,875 for organizational expenditures and $260 of
amortization for start-up costs, computed as follows:
Description

Start-up costs
Amount

(1) Maximum immediate expense

5,000

(2) Total start-up expenditures

10,200

(3) Phase-out threshold

(4) Immediate expense phase-out

50,000
$

Explanation
195(b)(1)(A)
(ii)
195(b)(1)(A)
(ii)
(2) (3)

(5) Allowable immediate expense

(6) Remaining organizational
expenditures

5,000

(1) (4)

5,200

(2) (5)

(7) Recovery period in months

(8) Monthly straight-line
amortization
(9) Teton business months during
year 1
Year 1 straight-line
amortization for start-up costs

28.89

260

Organizational expenditures
Description
Amount
(1) Maximum immediate expense
$
(2) Total organizational
$
expenditures
(3) Phase-out threshold
(4) Immediate expense phase-out
(5) Allowable immediate expense
(6) Remaining organizational
expenditures

Year 1 straight-line
amortization for organizational
expenditures

(6)/(7)
April through
December
(8) (9)

Explanation
248(a)(1)
Given in
42,500
problem
50,000
248(a)(1)(B)
5,000

$
$

0
5,000

(2) (3)
(1) (4)

37,500

(2) (5)

180

15 years
248(a)(2)

(7) Recovery period in months

(8) Monthly straight-line
amortization
(9) Teton business months during
year 1

15 years
195(b)(1)(B)

180

208.33

1,875

(6)/(7)
April through
December
(8) (9)

d.
Organizational expenditures are only authorized for corporations (248) and partnerships (709). They
are not authorized for sole proprietorships. Typically, sole proprietorships do not incur many of the
expenses that would qualify as organizational expenditures anyway.
Chapter 11 Property disposition

1.

award:

0 out of
10.00 points

Rafael sold an asset to Jamal. What is Rafael's amount realized on the sale in each of the following
alternative scenarios?
a. Rafael received $94,500 of cash and a vehicle worth $14,000. Rafael also pays $7,400 in selling
expenses.

b. Rafael received $108,000 of cash and was relieved of a $54,250 mortgage on the asset he sold to
Jamal. Rafael also paid a commission of $6,750 on the transaction.

c. Rafael received $33,250 of cash, a parcel of land worth $85,500, and marketable securities of
$17,800. Rafael also paid a commission of $8,700 on the transaction.

Explanation:
a.

$101,100, computed as follows:

Property
received
(1) Cash
(2) Vehicle
(3)
Commission
s
Amount
realized

94,500
14,000

Explanatio
n
Given
Given

(7,400)

Given

Amount
$

101,100

(1) + (2) +
(3)

b.

$155,500, computed as follows:

Property
received
(1) Cash
(2) Relief of
debt
(3)
Commissions
Amount
realized

c.

Amount
$

Explanation
108,000
54,250
(6,750)

155,500

(1) + (2) +
(3)

$127,850, computed as follows:

Property received
(1) Cash
(2) Land
(3) Marketable
securities
(4) Commissions

Amount
$

Amount realized

Explanation
33,250
85,500
17,800
(8,700)
127,850

(1) + (2) + (3)

+ (4)

2.
award:

0 out of
10.00 points

Deirdre sold 153 shares of stock to her brother, James, for $4,131. Deirdre purchased the stock several
years ago for $5,661. (Loss amounts should be indicated by a minus sign.)
a. What gain or loss does Deirdre recognize on the sale?

b. What amount of gain or loss does James recognize if he sells the stock for $5,967?

c. What amount of gain or loss does James recognize if he sells the stock for $4,896?

d. What amount of gain or loss does James recognize if he sells the stock for $3,366?

Explanation:
a.

Though Deirdre realizes a $1,530 loss, she is not allowed to recognize any of the loss because she sold
the stock to a related party (her brother). See the following computation:
Description
(1) Amount
realized
(2) Basis
(3) Gain
(Loss) realized
(4)

Amount

Explanation

4,131

Given

5,661

Given

(1,530)

(1) (2)

(1,530)

no recognized loss on related

Disallowed
loss
Gain/(Loss)
recognized

party sale
$

(3) (4)

b.

$306 gain (see calculations below)

c.

$0 (see calculations below)

d.

($765) loss (see calculations below)

Description
(1) Amount realized
(2) Adjusted basis

Part b
$ 5,967
$ 4,131

Part c
$ 4,896
$ 4,131

Part d
$ 3,366
$ 4,131

(3) Realized gain (loss)

$ 1,836

$ 765

$ (765)

(4) Benefit of Deirdres

($1,530) disallowed loss

$ 1,530

$ 765

Recognized Gain/(Loss)

$ 306

$ (765)

Explanation
Given in problem
(1) (2)
Lesser of (3) (if a loss, then
$0) or $1,530 (the amount of
Deirdres disallowed loss)
(3) (4)

3.
award:

0 out of
10.00 points

In year 0, Longworth Partnership purchased a machine for $53,500 to use in its business. In year 3,
Longworth sold the machine for $40,700. Between the date of the purchase and the date of the sale,
Longworth depreciated the machine by $22,500. (Loss amounts should be indicated by a minus
sign.)
a. What amount of gain or (loss) is recognized on the sale?

b. What amount of gain or (loss) is recognized on the sale if the sale proceeds were increased to
$66,500?

c. What amount of gain or (loss) is recognized on the sale if the sale proceeds were decreased to
$23,600?

Explanation:
a.

$9,700 ordinary income.

Description
(1) Amount realized
(2) Original basis
(3) Accumulated depreciation
(4) Adjusted basis
(5) Gain/(Loss) recognized
(6) Ordinary income (1245 depreciation
recapture)
1231 gain

Amount
$

$
$

40,700
53,500
22,500

Explanation
Given
Given
Given

31,000
9,700
9,700

(2) (3)
(1) (4)
Lesser of
(3) or (5)
0 (5) (6)

Because the entire gain is caused by depreciation deductions, the entire gain is treated as ordinary
income under 1245.
b.

$35,500 gain ($22,500 ordinary and $13,000 1231) computed as follows:

Description
(1) Amount realized
(2) Original basis
(3) Accumulated depreciation
(4) Adjusted basis
(5) Gain/(Loss) recognized
(6) Ordinary income (1245 depreciation
recapture)
1231 gain

Amount
$

$
$
$

66,500
53,500
22,500

Explanation
Given
Given
Given

31,000
35,500
22,500

(2) (3)
(1) (4)
Lesser of
(3) or (5)
13,000 (5) (6)

Only the gain caused by depreciation is treated as ordinary income under 1245, the remaining gain is
1231.
c.

($7,400) ordinary loss, computed as follows:

Description
(1) Amount realized
(2) Original basis
(3) Accumulated depreciation
(4) Adjusted basis
(5) Gain/(Loss) recognized
(6) Ordinary income (1245 depreciation
recapture)
1231 loss

Amount
$

$
$
$

23,600
53,500
22,500
31,000
(7,400)
0

(2) (3)
(1) (4)
Lesser of
(3) or (5)
(7,400) (5) (6)

Only gains are treated as ordinary income under 1245, any loss is 1231.

4.

award:

0 out of
10.00 points

Explanation
Given
Given
Given

Lily Tucker (single) owns and operates a bike shop as a sole proprietorship. This year, she sells the
following long-term assets used in her business:
Asset
Building
Equipment

Sales Price
$344,800
128,000

Cost
$303,000
208,400

Accumulated
Depreciation
$64,000
27,000

Lily's taxable income before these transactions is $259,000.

What are Lily's taxable income and tax liability for the year? Use Tax Rate Schedule reference. (Do not
round intermediate calculations. Round your answers to the nearest whole dollar amount.)

Explanation:

Lily's taxable income is $311,400 and her tax liability is $82,428. See the following calculations:

Asset
Building

Sales Price
$344,800

Adjusted
basis
$239,000

Gain/
(Loss)
$105,800

128,000

181,400

(53,400)

Equipment

Character
$64,000 is Unrecaptured 1250
$41,800 is 1231
$(53,400) 1231

Netting: The $41,800 1231 gain is offset by the $53,400 1231 loss. The remaining $11,600 loss then
reduces the unrecaptured 1250 gain of $64,000 to $52,400. This gain will be taxed at 25 percent.
Taxable income
before
transactions
Unrecaptured
1250 gain
Taxable income

Tax liability
Ordinary income: (311,400
52,400) = $259,000
($259,000 186,350)
33% + $45,353.75
Capital gain: $52,400 25%
Total tax liability

259,000
52,400

311,400

=$

69,328

13,100
$

82,428

5.

award:

0 out of
10.00 points

Prater Inc. enters into an exchange in which it gives up its warehouse on 10 acres of land and receives a
tract of land. A summary of the exchange is as follows:
Transferred
Warehouse
Land
Mortgage on warehouse
Cash
Assets Received
Land

FMV
$475,000
61,500
43,750
14,250

Original Accumulated
Basis
Depreciation
$320,000
$53,500
61,500
14,250

FMV
$507,000

What is Praters realized and recognized gain on the exchange and its basis in the assets it received in
the exchange?

Explanation:

Gain realized is $208,500, gain recognized is $29,500, and Praters adjusted basis in the land is
$328,000.
Description
(1) Amount realized in likekind
(2) Amount realized from boot

Amount

Explanation

507,000

43,750

(3) Total amount realized

550,750

(4) Adjusted basis

(1) + (2)
$320,000 $53,500 +
$61,500 (land) +
342,250 $14,250 (cash paid)

(5) Gain realized

208,500

(6) Gain recognized

(7) Deferred gain
Adjusted basis in new
property

$
$
$

Given. FMV of land

Mortgage relief

(3) (4)
Lesser of [(2) cash
paid or
29,500 liability assumed] or (5)
179,000 (5) (6)
328,000 (1) (7)

*Prater has debt relief of $43,750 and can offset this boot with cash paid of $14,250. The offset rules
allow a taxpayer to offset debt relief with cash paid or with other liabilities assumed. Consequently, Prater

is allowed to net the debt relief against cash paid and he is treated as receiving only the $29,500 net
liabilities hes been relieved of as boot.
Chapter 13 corporate formations and operations

1.

award:

0 out of
10.00 points

LNS corporation reports book income of $2,160,000. Included in the $2,160,000 is $27,750 of taxexempt interest income. LNS reports $1,642,500 in ordinary and necessary business expenses. What is
LNS corporations taxable income for the year?

Explanation:

$489,750, computed as follows:

Description
(1 Total
) revenue
Tax(2 exempt
) interest
income
(3
Deductions
)
Taxable
income

Amount
$

Explanation

2,160,000
(27,750)
(1,642,500)

489,750

(1) + (2) +
(3)

2.

award:

0 out of
10.00 points

On August 1 of year 1, Riverside Corp. (RC), a calendar-year taxpayer, acquired the assets of another
business in a taxable acquisition. When the purchase price was allocated to the assets purchased, RC
determined it had purchased $1,683,000 of goodwill for both book and tax purposes. At the end of year
1, the auditors for RC determined that the goodwill had not been impaired during the year. In year 2,
however, the auditors concluded that $445,000 of the goodwill had been impaired, and they required RC
to write down the goodwill by $445,000 for book purposes. (Do not round intermediate calculations.)
a-1. What book-tax difference associated with its goodwill should RC report in year 1?

a-2. Is it favorable or unfavorable?

Favorable
a-3. Is it permanent or temporary?
Temporary
b-1. What book-tax difference associated with its goodwill should RC report in year 2?

b-2. Is it favorable or unfavorable?

Unfavorable
b-3. Is it permanent or temporary?
Temporary
Explanation:
a.

For tax purposes, RC amortizes the $1,683,000 using the straight line method over 15 years (180
months). Consequently, in year 1, it will amortize and expense $46,750 of the goodwill ($1,683,000/180
months 5 months = $46,750) for tax purposes. However, for book purposes, RC does not deduct any of
the goodwill because there is no impairment. Consequently, in year 1, RC will report a favorable $46,750
temporary difference associated with the goodwill.
b.

In year 2, RC amortizes $112,200 of the goodwill for tax purposes ($1,683,000/180 12 months =
$112,200). For book purposes RC writes off (deducts) $445,000 in goodwill. Consequently, it reports a
$332,800 unfavorable temporary book-tax difference in year 2.

3.
award:

0 out of
10.00 points

For the current year, LNS corporation reported the following taxable income at the end of its first, second,
and third quarters. (Use Corporate Tax Rate Table.)
Quarter-End
First
Second
Third

Cumulative Taxable Income

$1,660,000
2,515,000
3,255,000

What are LNSs minimum first, second, third, and fourth quarter estimated tax payments determined
using the annualized income method? (Round "Annualization Factor for Fourth quarter" to 7
decimal places.)

Installment
First quarter
Second quarter
Third quarter
Fourth quarter

Explanation:
No further explanation details are available for this problem.

4.
award:

0 out of
10.00 points

Ivan incorporated his sole proprietorship by transferring inventory, a building, and land to the corporation
in return for 100 percent of the corporations stock. The property transferred to the corporation had the
following fair market values and tax bases:

Inventory
Building
Land

Adjusted
FMV
Basis
$ 15,200 $ 18,500
92,500
44,000
61,500
54,250

Total

$169,200 $116,750

The fair market value of the corporations stock received in the exchange equaled the fair market value of
the assets transferred to the corporation by Ivan. The transaction met the requirements to be taxdeferred under 351. (Any answer representing a loss should be entered as a negative number.)
a. What amount of gain or loss does Ivan realize on the transfer of the property to his corporation?

b. What amount of gain or loss does Ivan recognize on the transfer of the property to his corporation?

Taxable Incom

c. What is Ivans basis in the stock he receives in his corporation?

d. What is the corporations adjusted basis in each of the assets received in the exchange?

Explanation:
a.

Ivan realizes a net gain of $52,450 on this transfer, computed as follows:

Fair market value of stock received

Adjusted basis of the property transferred
Gain realized

$169,200
116,750
$ 52,450

b.

Ivan does not recognize any gain or loss on the transfer because the requirements of 351 are met and
no boot is received in the exchange.
c.

$116,750. Ivans tax basis in the stock received is a substituted basis of the assets transferred.
d.

The corporation receives a carryover basis in the assets received from Ivan.
Inventory
Building
Land
Total

18,500
44,000
54,250

$ 116,750

Chapter 13 forming and operating partnerships

1.

award:

0 out of
10.00 points

Larrys tax basis in his partnership interest at the beginning of the year was $21,000. If his share of the
partnership debt increased by $16,000 during the year and his share of partnership income for the year
is $4,200, what is his tax basis in his partnership interest at the end of the year?

Explanation:

$41,200 as computed in the table below:

Description
Beginning tax basis
Increase in
partners share of
debt
Partners share of
income
Ending tax basis

Total
Amount
$

21,000
16,000
4,200

41,200

2.
award:

0 out of
10.00 points

Laurel contributed equipment worth $285,000, purchased 6 months ago for $294,000 cash and used in
her sole proprietorship, to Sand Creek LLC in exchange for a 30 percent profits and capital interest in the
LLC. Laurel agreed to guarantee all $14,500 of Sand Creeks accounts payable, but she did not
guarantee any portion of the $142,500 nonrecourse mortgage securing Sand Creeks office building.
Other than the accounts payable and mortgage, Sand Creek does not owe any debts to other creditors.
a. What is Laurels initial tax basis in her LLC interest?

b. Laurels holding period in the partnership interest begins the day the LLC interest is acquired.
True

c. What is Sand Creeks initial basis in the contributed property?

d. What is Sand Creeks holding period in the contributed property?

Explanation:
a.

$351,250.
Laurels basis in her LLC interest is made up of the $294,000 basis in the equipment (no depreciation
was taken on the equipment prior to the contribution because it was acquired and contributed within the
same calendar year) Laurel contributed, her $14,500 share of accounts payable that she guaranteed,
and her $42,750 share of the nonrecourse mortgage securing Sand Creeks office building (30%
$142,500). Laurels profits sharing ratio is used to allocate a portion of the mortgage to her because it is
nonrecourse debt.
b.

Laurels holding period begins the day the LLC interest is acquired because the asset she contributed is
not a capital or Section 1231 asset. The equipment is not a Section 1231 asset because it was used in a
trade or business for one year or less.
c.

$294,000.
The LLC takes a carryover basis in the contributed property.
d.

6 months.
Laurels holding period is included in the LLCs holding period regardless of the nature of the property
Laurel contributed.

3.
award:

0 out of
10.00 points

Joseph contributed $36,000 in cash and equipment with a tax basis of $12,100 and a fair market value of
$15,600 to Berry Hill Partnership in exchange for a partnership interest.
a. What is Josephs tax basis in his partnership interest?

b. What is Berry Hills basis in the equipment?

Explanation:

a.

$48,100.
Josephs tax basis is considered to be his outside basis in the partnership. The tax basis includes the
$36,000 in cash and his original basis in the equipment, $12,100. Josephs holding period for his outside
basis would depend upon the holding period of the assets contributed. If property contributed is a capital
or Section 1231 asset, the holding period for that portion of the partnership interest includes the holding
period of the contributed property. Otherwise, the holding period of the partnership interest begins on the
date it is received.
b.

$12,100.
Berry Hill Partnerships basis in the equipment is a carryover basis from the partner who contributed the
equipment. The basis in the equipment plus the basis in the cash will give us Berry Hill Partnerships
inside basis. The holding period for the equipment carries over to the Berry Hill Partnership from Joseph.

4.
award:

0 out of
10.00 points

Tall Tree LLC was recently formed with the following members:
Name
Eddie Robinson
Pitcher Lenders LLC
Perry Homes Inc.

Tax Year End

December 31
June 30
October 31

Capital/Profits %
40%
25%
35%

What is the required taxable year-end for Tall Tree LLC?

October 31
Explanation:

Tall Tree does not have a majority interest taxable year because no partner or group of partners with the
same year end owns more than 50 percent of the profits and capital interests in Tall Tree. Also, because
all three principal partners in Tall Tree have different year ends, the principal partner test is not met. As a
result, Tall Tree must decide which of three potential year ends, December 31, June 30, or October 31,
will provide its members the least aggregate deferral. The table below illustrates the required
computations:
Possible Year Ends

12/31 Year End

Months
Tax Deferral*
Members
% Year (MD)
12/3
Eddie Robinson 40%
0
1
Pitcher Lenders
25% 6/30
6
LLC

6/30 Year End

10/31 Year End

% MD

Months
Deferral
*
(MD)

% MD

2.4

0.8

% MD

Months
Deferral*
(MD)

0
1.5

Perry Homes Inc. 35%

10/3
1

10

3.5

Total Aggregate
Deferral

1.4

3.8

0
2.8

*Months deferral equals number of months between proposed year end and members year end.
As the table above indicates, Tall Tree must use October 31 as its year end because it provides the least
amount of aggregate deferral to the members.

5.
award:

0 out of
10.00 points

Turtle Creek Partnership had the following revenues, expenses, gains, losses, and distributions: (An
answer representing a loss should be entered as a negative number.)
Sales revenue
Long-term capital gains
Cost of goods sold
DepreciationMACRS
Amortization of organization costs
Guaranteed payments to partners for general management
Cash distributions to partners

$ 60,500
$ 4,200
$(13,600)
$ (3,800)
$ (1,150)
$(15,300)
$ (4,800)

Given these items, what is Turtle Creeks ordinary business income (loss) for the year?

Explanation:

Turtle Creeks ordinary business income is calculated in the table below:

Sales
revenue
Less:
Cost of
goods sold
Depreciation
MACRS
Amortization
of organization
costs
Guaranteed
payments
Ordinary
business
income

60,500

(13,600)

(3,800)

(1,150)

(15,300)

26,650

Separately
Stated Items
on Schedule
K-1:
Long-term
capital gains
Guaranteed
payments
Cash
distributions

4,200

15,300

4,800

Note that guaranteed payments must be separately disclosed to the partners that receive them, and cash
distributions must be separately disclosed so that partners can reduce the tax basis of their partnership
interests by the amount of the distributions.
Chapter 17 s corporations

1.
award:

0 out of
10.00 points

Harry, Hermione, and Ron formed an S corporation called Bumblebore. Harry and Hermione both
contributed cash of $40,500 to get things started. Ron was a bit short on cash but had a parcel of land
valued at $99,500 (basis of $81,000) that he decided to contribute. The land was encumbered by a
$57,100 mortgage. What tax bases will each of the three have in his or her stock of Bumblebore?

Explanation:

Harry and Hermione have a basis equal to the cash they contributed ($40,500). Ron's $23,900 basis is
computed by starting with the $81,000 basis of the property contributed and then subtracting the $57,100
mortgage that Ron was relieved of when he contributed the property to the corporation.

2.

award:

0 out of
10.00 points

Birch Corp., a calendar-year corporation, was formed three years ago by its sole shareholder, James,
who has operated it as an S corporation since its inception. Last year, James made a direct loan to Birch
Corp. in the amount of $9,250. Birch Corp. has paid the interest on the loan but has not yet paid any
principal. (Assume the loan qualifies as debt for tax purposes.) For the year, Birch experienced a
$31,000 business loss.

What amount of the loss clears the tax basis limitation, and what is Jamess basis in his Birch Corp. stock
and Birch Corp. debt in each of the following alternative scenarios?
a. At the beginning of the year, James's basis in his Birch Corp. stock was $51,400 and his basis in his
Birch Corp. debt was $9,250.

b. At the beginning of the year, James's basis in his Birch Corp. stock was $9,100 and his basis in his
Birch Corp. debt was $9,250.

c. At the beginning of the year, James's basis in his Birch Corp. stock was $0 and his basis in his Birch
Corp. debt was $9,250.

Explanation:
a.

All $31,000 of the loss clears the tax basis limitation. Jamess stock basis is reduced to $20,400 ($51,400
31,000 loss). His debt basis remains at $9,250.
b.

Of the $31,000 loss, $18,350 clears the tax basis limitation. Jamess stock basis is reduced from $9,100
to $0, and his debt basis is reduced from $9,250 to $0. James has a suspended loss of $12,650
($31,000 $18,350).
c.

$9,250 clears the tax basis limitation. Jamess stock basis remains at $0, and his debt basis is reduced
from $9,250 to $0. James has a suspended loss of $21,750 ($31,000 9,250).

Question:

Tall Tree LLC was recently formed with the following members:
Name
Eddie Robinson
Pitcher Lenders LLC
Perry Homes Inc.

Tax Year End

Capital/Profits %

December 31

40%

June 30

25%

October 31

35%

What is the required taxable year-end for Tall Tree LLC?

Step 1 of 1
Tall Tree does not have a majority interest taxable year because no partner or group of partners
with the same year end owns more than 50 percent of the profits and capital interests in Tall
Tree. Also, because all three principal partners in Tall Tree have different year ends, the principal
partner test is not met. As a result, Tall Tree must decide which of three potential year ends,
December 31, June 30, or October 31, will provide its members the least aggregate deferral. The
table below illustrates the required computations:

Possible Year Ends

Members

% Tax Year

12/31 Year End

6/30 Year End

10/31 Year End

Months

Months

Months

Deferral*
(MD)

%x
MD

Deferral*
(MD)

%x
MD

Deferral*
(MD)

%x
MD

Eddie Robinson

40
%

12/31

2.4

.8

Pitcher Lenders

25
%

6/30

1.5

PerryHomes

35
%

10/31

10

3.5

1.4

Total Aggregate
Deferral

3.8

2.8

*Months deferral equals number of months between proposed year end and members year end.

As the table above indicates, Tall Tree must use October 31 as its year end because it provides
the least amount of aggregate deferral to the members.