Chapter 3 tax

Created by Court_Buchanan 

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1) Except as otherwise provided, gross income means all income from whatever source derived.

Answer: TRUE
Page Ref.: I:3-2

2) Under the economist's definition, unrealized gains, as well as gifts and inheritances, are income.

Answer: TRUE
Page Ref.: I:3-2

3) The wherewithal-to-pay concept provides that a tax should be collected when the taxpayer is most easily able to pay the tax.

Answer: TRUE
Page Ref.: I:3-4

) Internal Revenue Code Section 61 provides an inclusive list of all possible items taxed under the Code.

Answer: FALSE
Page Ref.: I:3-4

5) Gross income is limited to amounts received in the form of cash.

Answer: FALSE
Page Ref.: I:3-4

6) Gross income may be realized when a taxpayer receives economic benefit even if no cash is received.

Answer: TRUE
Page Ref.: I:3-4

7) Gregory receives 100 shares of stock from his employer as a year-end bonus. The fair market value of the stock is included in Gregory's income for the year.

Answer: TRUE
Page Ref.: I:3-5; Example I:3-3

8) Ellen, a CPA, prepares a tax return for Frank, a farmer, in exchange for twenty bushels of rice. Since no cash changed hands, neither taxpayer reports income.

Answer: FALSE
Explanation: Gross income can be realized in any form, including money, property and services.
Page Ref.: I:3-5; Example I:3-4

9) AAA Corporation distributes an automobile to Alexandria, a shareholder, in lieu of a cash dividend. Alexandria must report the value of the automobile as dividend income.

Answer: TRUE
Page Ref.: I:3-5; Example I:3-5

10) The portion of a taxpayer's wages that are garnished by court order and forwarded to pay a delinquent bank loan are not taxable income to the taxpayer.

Answer: FALSE
Explanation: The income is constructively received by the taxpayer.
Page Ref.: I:3-5; Example I:3-6

11) A taxpayer may not avoid responsibility for payment of income taxes by assigning the income to a third party.

Answer: TRUE
Page Ref.: I:3-6

12) For federal income tax purposes, income is allocated between a husband and wife depending on the state of residence.

Answer: TRUE
Page Ref.: I:3-6

13) In community property states, income from separate property owned before marriage is always considered separate income after marriage.

Answer: FALSE
Explanation: In Idaho, Louisiana, Texas, and Wisconsin such income is community income.
Page Ref.: I:3-7

14) Earnings of a minor child are taxed to the child regardless of the state's property law system.

Answer: TRUE
Page Ref.: I:3-8

15) If a taxpayer's method of accounting does not clearly reflect income, the IRS may specify a different accounting method which must be used by the taxpayer.

Answer: TRUE
Page Ref.: I:3-8

16) The cash receipts and disbursements method of accounting is used by most individual taxpayers and most noncorporate businesses that do not have inventories.

Answer: TRUE
Page Ref.: I:3-8

17) Under the cash method of accounting, income is reported in the year the taxpayer actually or constructively receives the income.

Answer: TRUE
Page Ref.: I:3-8

18) A cash-basis taxpayer can defer income recognition by refusing to accept payment.

Answer: FALSE
Explanation: The constructive receipt doctrine requires recognition if income is made available without significant restriction.
Page Ref.: I:3-9

19) A check received after banking hours is considered constructively received by the payee even though the check can not be converted to cash.

Answer: TRUE
Page Ref.: I:3-10

20) Interest credited to a bank savings account is taxed regardless of whether or not it is withdrawn.

Answer: TRUE
Page Ref.: I:3-10

21) Interest on Series E and Series EE U.S. savings bonds need not be reported until the bonds mature.

True 3:10

22) Under the accrual method of accounting, income is considered earned when all the events have occurred which fix the right to receive the income and when the amount of income can be determined with reasonable accuracy.

Answer: TRUE
Page Ref.: I:3-11

23) An accrual basis taxpayer may defer advance payments for services if the payments are for services to be performed before the end of the tax year following the year of receipt.

Answer: TRUE
Page Ref.: I:3-12

24) Gains realized from property transactions are included in gross income unless a nonrecognition rule applies.

Answer: TRUE
Page Ref.: I:3-13

25) Interest on the obligations of the U.S. government, states, territories, and U.S. possessions and their political subdivisions are tax-exempt.

Answer: FALSE
Explanation: Interest on U.S. government obligations is taxable.
Page Ref.: I:3-14 and I:3-15

26) For a cash basis taxpayer, security deposits received on rental property are taxable to the landlord upon receipt.

Answer: FALSE
Explanation: There is a binding obligation to repay.
Page Ref.: I:3-15

27) Improvements to leased property made by a lessee are includable in the lessor's gross income only if made in lieu of rent or if rent is reduced because of the improvements.

Answer: TRUE
Page Ref.: I:3-15 and I:3-16

28) In 2011 and 2012, qualified dividends received by individuals are taxed at the same rate as ordinary income.

Answer: FALSE
Explanation: Qualifying dividends are taxed at a preferential rate, usually 15%.
Page Ref.: I:3-16

29) Distributions in excess of a corporation's current and accumulated earnings and profits are treated as a nontaxable recovery of capital unless they exceed the basis of the stock.

Answer: TRUE
Page Ref.: I:3-17

30) The recipient of a taxable stock dividend includes the value of the stock received in gross income and that amount becomes the basis for the stock received.

Answer: TRUE
Page Ref.: I:3-17

31) Alimony received is taxable to the recipient while child support payments are not.

Answer: TRUE
Page Ref.: I:3-18

32) In order to be treated as alimony for tax purposes, payments must be made in cash.

Answer: TRUE
Page Ref.: I:3-19

33) Property settlements made incident to a divorce have no immediate tax consequences; that is, the transfer from one spouse to another is not taxable.

Answer: TRUE
Page Ref.: I:3-19

34) Payments from an annuity are not taxable until the taxpayer has recovered the purchase price of the annuity.

Answer: FALSE
Explanation: The recovery of the purchase price is spread over the payment period of the annuity.
Page Ref.: I:3-20

35) With some exceptions, amounts withdrawn from a pension plan prior to the normal starting date are subject to a ten percent nondeductible penalty.

Answer: TRUE
Page Ref.: I:3-22

36) Becky wins a car and furniture on a television game show. The fair market value of these items is taxable to Becky.

Answer: TRUE
Page Ref.: I:3-23 and I:3-24

37) Mike won $700 in a football pool. This amount is not taxable.

Answer: FALSE
Explanation: Gambling winnings must be included in gross income.
Page Ref.: I:3-24

38) Income from illegal activities is taxable.

Answer: TRUE
Page Ref.: I:3-24

39) Unemployment compensation is exempt from federal income tax.

Answer: FALSE
Explanation: Unemployment compensation is subject to tax.
Page Ref.: I:3-24

40) Social Security benefits are excluded from taxation for all taxpayers.

Answer: FALSE
Explanation: Middle and upper income taxpayers must include a portion of the Social Security benefits in gross income.
Page Ref.: I:3-24

41) Which one of the following items is not considered gross income for tax purposes?
A) gambling winnings
B) illegal income
C) face amount of life insurance received due to the death of the insured
D) cash dividends

Answer: C
Explanation: C) Life insurance proceeds are an exclusion item.
Page Ref.: I:3-4 and I:3-5

42) Frasier and Marcella, husband and wife, file separate returns. Frasier and Marcella live in a community property state that considers separate property income to be separate. Frasier's salary is $42,000 and Marcella's salary is $46,000. Marcella receives dividend income of $4,000 from stock inherited from her parents. Frasier receives interest income of $1,000 from bonds purchased with his salary after marriage. Frasier and Marcella receive $3,200 dividend income from stock they purchased jointly. Marcella's income would be
A) $50,000.
B) $50,100.
C) $51,100.
D) $51,600.

Answer: B
Explanation: B) ($21,000 + $23,000 + $4,000 + 500 + $1,600 = $50,100.)
Page Ref.: I:3-7; Example I:3-8

43) Bill and Hillary, husband and wife, file separate returns. Bill and Hillary live in a community property state that considers separate property income to be community income. Bill's salary is $82,000 and Hillary's salary is $80,000. Hillary receives dividend income of $7,000 from stock inherited from her parents. Bill receives interest income of $5,000 from bonds purchased with his salary after marriage. Bill and Hillary receive $10,000 dividend income from stock they purchased jointly. Bill's income would be
A) $92,000.
B) $93,000.
C) $94,500.
D) $97,000.

Answer: A
Explanation: A) ($41,000 + $40,000 + $3,500 + $2,500 + $5,000 = $92,000.)
Page Ref.: I:3-7; Example I:3-8

44) Norah, who gives music lessons, is a calendar year taxpayer using the cash basis method of accounting. On October 1 of this year, she received $1,200 for a one-year contract beginning on that date to provide 10 lessons. She gave 6 lessons this year. How much should Norah include in income this year?
A) $0
B) $360
C) $720
D) $1,200

Answer: D
Explanation: D) As a cash basis taxpayer, she will recognize the income in the year received.
Page Ref.: I:3-8

45) All of the following statements are true except
A) Under the cash method, prepaid income such as rent is usually taxed when received rather than when earned.
B) Municipal bond interest is taxable.
C) Alimony received by the taxpayer is taxable.
D) Income earned by selling goods on the Internet is taxable.

Answer: B
Explanation: B) Interest on obligations of states, territories, U.S. possessions and their political subdivisions is tax-exempt.
Page Ref.: I:3-8, I:3-13, I:3-14 and I:3-18

46) Examples of income which are constructively received include all of the following except
A) interest credited to a savings account.
B) a check received after banking hours.
C) a paycheck received from employer, when employer does not have funds in the bank to cover the check.
D) dividends available on December 31; unclaimed dividends will be mailed out.

Answer: C
Explanation: C) Since the funds are not available to the employee, they are not considered constructively received.
Page Ref.: I:3-10; Example I:3-11

47) Ms. Marple's books and records for 2011 reflect the following information:

Salary earned this year $65,000
Interest on savings account (credited to her account in 2011, withdrawn in 2012) 1,000
Interest on county bonds earned and collected in 2011 2,000

What is the amount Ms. Marple should include in her gross income in 2011?
A) $66,000
B) $67,000
C) $68,000
D) $65,000

Answer: A
Explanation: A) $65,000 + $1,000 = $66,000.
Page Ref.: I:3-10

48) One of the requirements that must be met in order to defer recognition of income for advance payments for goods is
A) the taxpayer's method of accounting for the sale for tax purposes is the same as the method used for financial reporting purposes.
B) the goods are on the taxpayer's premises on the last day of the tax year.
C) the goods are produced in the United States.
D) the amount received is more than the taxpayer's cost of the goods

Answer: A
Explanation: A) The tax reporting method must match the financial reporting method.
Page Ref.: I:3-11

49) Which of the following advance payments cannot qualify for income tax deferral?
A) advance collection for services
B) advance collection for merchandise
C) advance collection of rent without associated services
D) advance collection of rent with associated services

Answer: C
Explanation: C) Rent received in advance is immediately taxable assuming no services are associated with the rent.
Page Ref.: I:3-12

50) CT Computer Corporation, an accrual basis taxpayer, sells service contracts on the computers it sells. At the beginning of January of this year, CT Corporation sold contracts with service to begin immediately:

One for three months $200
One for 20 months 800
One for 48 months 4,000

The amount of income CT Corporation must report for this year is
A) $200.
B) $1,000.
C) $1,680.
D) $5,000.

Answer: C
Explanation: C) ($200 + $480 + $1,000 = $1,680) Collections for services that do not extend beyond the next tax year may be accrued. $800 / 20 months = $40 per month. $40 × 12 months this year = $480 of the $800 accrued this year. $4,000/48 months = $83.33 per month x 12 months = $1,000. Note that the balance of the long term contracts will be recognized in the following year as they cannot be deferred more than one tax year.
Page Ref.: I:3-12; Example I:3-15

51) Alex is a calendar year sole proprietor. He began business on December 1, this year. He uses the accrual method of accounting. Alex had the following collections in December.

Collected $7,000 in December, from clients who paid cash for services to be performed next year.
Collected $5,000 in December, for services performed during December; deposited in an operating account on December 31, this year.
Collected $12,000 in December; on accounts receivable for services performed in December; deposited in operating account on January 2, next year.

What is the amount Alex must include in his income for December?
A) $7,000
B) $12,000
C) $17,000
D) $24,000

Answer: C
Explanation: C) $5,000 + $12,000 = $17,000.
Page Ref.: I:3-12

52) Amy's employer provides her with several fringe benefits. Which of the following are included in her taxable income?
A) Christmas bonus check
B) group term life insurance premium paid by employer for $40,000 coverage for Amy
C) employee discount
D) employer's contribution to retirement plans on Amy's behalf

Answer: A
Explanation: A) There is no provision in the Code to exclude bonuses from income.
Page Ref.: I:3-13 and I:3-14

53) Which of the following bonds do not generate tax-exempt Federal income?
A) U.S. Treasury bonds
B) bonds issued by fire districts
C) school district bonds
D) bonds issued by port authorities

Answer: A
Explanation: A) There is no provision in the Code to exclude from interest income from U.S. Treasury bonds.
Page Ref.: I:3-14

54) Carla redeemed EE bonds which qualify for the educational exclusion. The redemption consisted of $14,000 principal and $6,000 interest. The net qualifying educational expenses are $10,000. No reduction of the exclusion is required. The taxable interest is
A) $0.
B) $2,400.
C) $3,000.
D) $6,000.

Answer: C
Explanation: C) $6,000 × [$10,000 / ($6,000 + $14,000)] = $3,000 exclusion. $6,000 - $3,000 = $3,000 taxable.
Page Ref.: I:3-14; Example I:3-16

55) In December of this year, Jake and Stockard, a married couple, redeemed qualified Series EE U.S. Savings Bonds which they had purchased in January 2000. The proceeds were used to help pay for their daughter's college tuition. Jake and Stockard received proceeds of $8,000 representing principal of $5,000 and interest of $3,000. The qualified higher educational expenses they paid this year totaled $6,000. What is the amount of interest income Jake and Stockard can exclude from their income this year?
A) $2,250
B) $2,500
C) $3,000
D) $5,000

Answer: A
Explanation: A) $3,000 × [$6,000 / ($5,000 + $3,000)] = $2,250 exclusion.
Page Ref.: I:3-14; Example I:3-16

56) Jacob, who is single, paid educational expenses of $16,000 in 2011. He redeemed Series EE bonds and received principal of $8,000 and interest of $3,000. Jacob has other adjusted gross income of $75,100. The $3,000 exclusion must be reduced by
A) $0.
B) $1,400.
C) $1,600.
D) $3,000.

Answer: B
Explanation: B) $3,000 × [($75,100 + $3,000 - $71,100)/$15,000] = $1,400.
Page Ref.: I:3-15; Example I:3-17

57) In December 2011, Max, a cash basis taxpayer, rents an apartment to Kadeem. Max receives both the first and last months' rent totaling $1,800 plus a security deposit of $400. The amount of income reported as taxable in 2011 is
A) $400.
B) $1,300.
C) $1,800.
D) $2,200.

Answer: C
Explanation: C) A security deposit is not taxable until final disposition. That is, it is not taxable unless nonrefundable or until the tenant moves out and all or part of the deposit is not returned to the tenant. Rent is taxable when received.
Page Ref.: I:3-15; Example I:3-18

58) Hoyt rented office space two years ago to Harris, receiving the first and last months' rent plus a security deposit of $1,000. In early January of this year, Harris moves and Hoyt refunds $250 of the deposit and keeps the remainder to cover $500 which is spent for repairs to the office space and one week of unpaid rent that amounts to $250. How would this information be reflected on Hoyt's tax return this year?
A) $750 income and $500 deduction
B) $750 income and no deduction
C) $250 income and $500 deduction
D) $750 income and $500 deduction

Answer: A
Explanation: A) The $750 deposit not returned to the tenant is income. However, the $500 repairs may be deducted.
Page Ref.: I:3-15; Example I:3-18

59) Which of the following is not included in gross income when received?
A) interest received on bank accounts
B) royalties paid to an author
C) amounts received to cancel or modify a lease
D) refundable security deposit

Answer: D
Explanation: D) A security deposit is not taxable until final disposition. That is, it is not taxable unless nonrefundable or until the tenant moves out and all or part of the deposit is not returned to the tenant.
Page Ref.: I:3-15 and I:3-16

60) Ricky has rented a house from Sarah since last year. The rent is usually $900 per month, but Sarah reduced the monthly rent down to $800 for all twelve months this year in exchange for Ricky constructing an addition to the house. The addition has a fair market value of $33,000. How much total rental income must Sarah report this year?
A) $9,600
B) $33,000
C) $42,600
D) $43,800

Answer: C
Explanation: C) Rent collected of $9,600 (12 × $800) plus FMV of improvement $33,000 = $42,600.
Page Ref.: I:3-16; Example I:3-19

61) Distributions from corporations to the shareholders in a nonliquidating distribution will usually be classified as a dividend up to the amount of the corporation's
A) earnings and profits.
B) retained earnings.
C) taxable income for the year.
D) stock basis.

Answer: A
Explanation: A) A distribution is considered a dividend to the extent of current and accumulated earnings and profits
Page Ref.: I:3-17

62) In 2011, Richard, a single taxpayer, has adjusted gross income of $40,500. His AGI includes $4,000 of qualified dividends. Richard has no dependents and does not itemize deductions. What is his 2011 federal income tax?
A) $3,625
B) $4,225
C) $4,650
D) $4,750

Answer: A
Explanation: A)
AGI $40,500
Personal exemption -3,700
Standard deduction -5,800
Taxable income $31,000

Taxable income of $31,000 less qualifying dividends of $4,000 = $27,000. The tax on $27,000 is .15(27,000 - 8,500) + 850 = $3,625. There is no tax on the dividends in 2011 since Richard has a 15% marginal tax rate.
Page Ref.: I:3-17; Example I:3-21

63) Edward, a single taxpayer, has AGI of $50,000 which includes $1,000 of qualified dividends. Edward has $6,000 of itemized deductions. What is his 2011 federal income tax?
A) $6,045
B) $6,100
C) $6,200
D) $10,075

Answer: B
Explanation: B)
AGI $50,000
Itemized deductions -6,000
Personal exemption -3,700
Taxable income $40,300

The calculation of the tax is split between the tax on the qualifying dividends and the balance of the taxable income. The tax on the dividend income of $1,000 is $150 ($1,000 × .15). The tax on the $39,300 balance of taxable income is .25(39,300 - 34,500) + $4,750 = $5,950. The total tax liability is $5,950 + 150 = $6,100.
Page Ref.: I:3-17; Example I:3-21

64) Bridget owns 200 shares of common stock of Jones Corporation. During the current year, Jones gives its shareholders the choice of receiving cash of $2 per share or one additional share of Jones common stock for each 5 shares of stock owned. The stock has a fair market value of $10 per share. Bridget chooses to take the additional shares of stock. How much income does Bridget have from the stock dividend?
A) $0
B) $200
C) $400
D) $1,000

Answer: C
Explanation: C) Since Bridget has the choice to receive cash, she must include the fair market value of the stock dividend in her income.
Page Ref.: I:3-17

65) Julia owns 1,000 shares of Orange Corporation. This year, Orange declared a 10% stock dividend. There was no option for shareholders to receive cash When Julia received 100 shares of Orange stock, it had a fair market value of $50 a share. How much income does Julia have from the dividend?
A) $0
B) $50
C) $5,000
D) $50,000

Answer: A
Explanation: A) Stock dividends are not taxable if there is no option to receive cash.
Page Ref.: I:3-17

66) Mark purchased 2,000 shares of Darcy Corporation for $13,200. This year, Darcy declared a 10% nontaxable stock dividend, and Mark received 200 shares. After the dividend Mark's per share basis will be
A) $6.00.
B) $6.57.
C) $6.60.
D) $7.26.

Answer: A
Explanation: A) $13,200 original basis divided by 2,200 new total number of shares = $6 per share.
Page Ref.: I:3-18; Example I:3-23

67) Which of the following is least likely to result in a constructive dividend?
A) an unreasonable salary paid to a shareholder
B) a sale of a corporation's asset to a shareholder at fair market value
C) a payment by a corporation of a shareholder's debts
D) a payment by a corporation of a shareholder's personal expenses

Answer: B
Explanation: B) The sale of an asset at fair market value will not result in a constructive dividend.
Page Ref.: I:3-18

68) Alimony is
A) deductible by both the payor and the payee.
B) deductible by the payor and included in income by the payee.
C) included in income by the payor and deducted by the payee.
D) an item which does not affect the payor's and the payee's tax reporting.

Answer: B
Explanation: B) The Code includes alimony in the definition of gross income of the payee and specifically allows a "for AGI deduction" for alimony paid by the payor.
Page Ref.: I:3-18

69) Child support is
A) deductible by both the payor and the payee.
B) deductible by the payor, and included in income by the payee.
C) included in income by the payor and deducted by the payee.
D) an item which does not affect the payor's and the payee's tax reporting.

Answer: D
Explanation: D) The Code specifically excludes child support from taxable income and does not specifically allow a deduction for child support paid.
Page Ref.: I:3-18

70) With respect to alimony and property settlements in a divorce or separation, all of the following are true with the exception of
A) a property settlement does not result in income to either spouse.
B) no tax deduction is allowed for payment of a property settlement.
C) the spouse receiving a property settlement has a basis equal to the basis of that property to the paying spouse prior to payment.
D) no deduction is allowed for alimony paid to the former spouse, if a property settlement is also paid.

Answer: D
Explanation: D) Alimony is taxable to the payee and deductible by the payor; a property settlement has no tax consequences.
Page Ref.: I:3-19

71) The requirements for a payment to be considered as alimony include all of the following except
A) be made in cash or property.
B) be made pursuant to a divorce, separation or a written agreement between the spouses.
C) terminate at the death of the payee.
D) not be designated as being other than alimony.

Answer: A
Explanation: A) Property may not be part of an alimony payment.
Page Ref.: I:3-19

72) Thomas and Sally were divorced last year. As a result, Thomas must pay Sally alimony of $100,000 per year starting this year and relinquish the house and car with a combined value of $170,000 and a combined cost basis of $155,000. The house and car are given as a property settlement. As a result of these transactions Thomas has a deduction of
A) $100,000.
B) $155,000.
C) $170,000.
D) $270,000.

Answer: A
Explanation: A) Only the $100,000 alimony is a "for AGI" deduction for Thomas.
Page Ref.: I:3-19

73) Carolyn, who earns $400,000, is required to pay John, her ex-husband, $200,000 as part of the property settlement as a result of their divorce. In turn, John transfers stock worth $50,000 to Carolyn. What is the amount of Carolyn's adjusted gross income for the year?
A) $200,000
B) $250,000
C) $400,000
D) $450,000

Answer: C
Explanation: C) Neither the transfer of cash to John nor the transfer of stock to Carolyn are taxable events. Thus, only the $400,000 salary is included in Carolyn's adjusted gross income.
Page Ref.: I:3-19; Example I:3-25

74) Under the terms of their divorce agreement executed in August of this year, Clint transferred Beta, Inc. stock to his former wife, Rosa, as a property settlement. At the time of the transfer, the stock had a basis to Clint of $55,000 and a fair market value of $68,000. Rosa subsequently sold the stock for $75,000. What is the tax consequence of first the stock transfer and then the stock sale to Rosa?


Rosa's Income
From Stock Transfer Rosa's Income
From Stock Sale
$0 $20,000 capital gain

B)
Rosa's Income
From Stock Transfer Rosa's Income
From Stock Sale
$0 $7,000 capital gain

C)
Rosa's Income
From Stock Transfer Rosa's Income
From Stock Sale
$13,000 $7,000 capital gain

D)
Rosa's Income
From Stock Transfer Rosa's Income
From Stock Sale
$13,000 $20,000 capital gain

Answer: A
Explanation: A) The stock transfer has no tax consequences because it is a property settlement. Rosa's basis in the stock is $55,000, the carryover basis from Clint. Thus, her gain on the sale is $20,000 ($75,000 - $55,000).
Page Ref.: I:3-19; Example I:3-26

75) Under the terms of their divorce agreement, Humphrey transferred Corporation H stock to his former wife, Greta as a property settlement. At the time of the transfer, the stock had a basis to Humphrey of $40,000 and a fair market value of $55,000. What is the tax consequence of this transaction to Humphrey, and what is Greta's basis in the Corporation H stock?
A) Humphrey has no gain or loss; Greta's basis is $55,000.
B) Humphrey has no gain or loss; Greta's basis is $40,000.
C) Humphrey has a gain of $15,000; Greta's basis is $55,000.
D) Humphrey has a gain of $15,000; Greta's basis is $40,000.

Answer: B
Explanation: B) There are no tax consequences from the property settlement. Greta has a carryover basisthat is, she takes Humphrey's basis of $40,000
Page Ref.: I:3-19; Example I:3-26

76) As a result of a divorce, Matthew pays Jasmine alimony of $75,000 in year one and $25,000 per year in subsequent years. How much is deductible by Matthew in year one?
A) $25,000
B) $35,000
C) $40,000
D) $75,000

Answer: D
Explanation: D) Although $35,000 will be recaptured in year three, the entire payment is deductible in year one.
Page Ref.: I:3-20

77) As a result of a divorce, Michael pays Judy $75,000 in year one and $25,000 per year in subsequent years. How much of the $75,000 in year one is properly characterized as alimony and will not be recaptured later?
A) $25,000
B) $35,000
C) $40,000
D) $75,000

Answer: C
Explanation: C)
First year alimony $75,000
Minus: $15,000 change limit (15,000)
Minus: Average 2nd and 3rd year alimony (25,000)
Minus: Amount to be recaptured (35,000)
Amount not subject to recapture $40,000

Page Ref.: I:3-20; Example I:3-27

78) Thomas purchased an annuity for $20,000 that will pay him $500 per month for ten years. What amount should Thomas include in his income each year?
A) $0
B) $2,000
C) $4,000
D) $6,000

Answer: C
Explanation: C) ($500 × 12 × 10) = $60,000 Expected return.
($20,000 / $60,000) × $6,000 = $2,000 Exclusion.
$6,000 - $2,000 = $4,000 amount included in income.
Page Ref.: I:3-20 and I:3-21

79) Natasha, age 58, purchases an annuity for $40,000. Natasha will receive $400 per month for the rest of her life. The expected return multiple is 20.0. At age 65, the amount that Natasha may exclude from income is
A) $0.
B) $2,000.
C) $2,800.
D) $4,000.

Answer: B
Explanation: B) ($40,000/$96,000 total expected payments) × $4,800 annual payments = $2,000 annual exclusion.
Page Ref.: I:3-21; Example I:3-29

80) Julia, age 57, purchases an annuity for $33,600. Julia will receive $400 per month for the rest of her life. The expected return multiple is 20.0. At age 88, the amount that Julia may exclude from income is
A) $0.
B) $1,680.
C) $3,120.
D) $4,800.

Answer: A
Explanation: A) Once life expectancy is reached, the annual exclusion is no longer available because the original investment has been recovered.
Page Ref.: I:3-22

81) David, age 62, retires and receives $1,000 per month annuity from his employer's qualified pension plan. David contributed $65,000 to the plan prior to his retirement. Under the simplified method, David's number of anticipated payments is 260. What is the amount includible in income in the first year of withdrawals assuming 12 monthly payments?
A) $0
B) $3,000
C) $9,000
D) $12,000

Answer: C
Explanation: C) $65,000/($1,000 × 260) × $12,000 = $3,000 excludable; $12,000 - $3,000 = $9,000 includible.
Page Ref.: I:3-22; Example I:3-30

82) Jonathon, age 50 and in good health, withdrew $6,000 from his pension plan during the current year. The withdrawal was not eligible for any exception to the 10% penalty. Jonathon had made $40,000 of after-tax contributions to the plan while his employer had contributed $80,000. How much must Jonathon include in income?
A) $0
B) $2,000
C) $4,000
D) $6,000

Answer: C
Explanation: C) $80,000 employer contribution/$120,000 total contributions × 6,000 withdrawal = $4,000 included in income.
Page Ref.: I:3-22; Example I:3-31

83) Jonathon, age 50 and in good health, withdrew $6,000 from his pension plan during the current year. The withdrawal was not eligible for any exception to the 10% penalty. Jonathon had made $40,000 of after-tax contributions to the plan while his employer had contributed $80,000. What amount of penalty tax must Jonathon pay?
A) $0
B) $200
C) $400
D) $600

Answer: C
Explanation: C) $80,000 employer contribution/$120,000 total contributions × 6,000 withdrawal = $4,000
included in income × 10% penalty rate = $400.
Page Ref.: I:3-22; Example I:3-31

84) Jan purchased an antique desk at auction. For two years, the desk sat in Jan's garage until she decided to restore it. This year, while cleaning and restoring the desk, Jan discovered $1,500 in a hidden compartment inside one drawer. With respect to the $1,500, Jan must
A) report nothing.
B) amend her previous tax return and report the $1,500.
C) report only $750 due to the statute of limitations.
D) report $1,500 on this year's tax return.

Answer: D
Explanation: D) All income is taxable unless specifically excluded by the Code.
Page Ref.: I:3-24; Example I:3-32

85) While using a metal detector at the beach during spring break, Toni uncovered some rare coins with a current fair market value of $9,000. What are her tax consequences regarding this find?
A) Because it was a "find" she only reports half of the FMV as income.
B) She reports the entire FMV as income.
C) Since she "found" the coins, she does not have to report any amount of income until she sells the coins.
D) Under the discovery rules in the tax law, she will never report any amount as taxable since the value is under $10,000.

Answer: B
Explanation: B) All income is taxed except that which is specifically excluded. There is no exclusion for this type of "found" income.
Page Ref.: I:3-24

86) A taxpayer had the following income and losses in the current year:

Salary $55,000
Sold AT&T stock at a loss ( 5,000)
Lottery prize 4,500
Gambling winnings 8,000
Gambling losses ( 5,000)

What is the taxpayer's adjusted gross income (not taxable income)?
A) $57,500
B) $59,500
C) $62,500
D) $64,500

Answer: D
Explanation: D) Gambling losses are deductible as itemized deductions to the extent of gambling winnings and therefore do not affect AGI. The capital loss deduction is limited to $3,000. $55,000 - $3,000 + $4,500 + $8,000 = $ 64,500.
Page Ref.: I:3-24

87) In 2011 Lily had the following income and losses:

Salary $75,000
Prize from quiz show 25,000
Unemployment compensation 8,000
Embezzled funds 30,000
Partnership Income 35,000

What is Lily's adjusted gross income (not taxable income)?
A) $135,000
B) $143,000
C) $165,000
D) $173,000

Answer: D
Explanation: D) $75,000 + $25,000 + $8,000 + $30,000 + $35,000 = $173,000.
Page Ref.: I:3-24

88) Lori had the following income and losses in 2011:

Wages $22,000
Share of partnership income 18,000
Unemployment compensation 12,000
Gambling winnings 2,000
Gambling losses ( 5,000)
Prize won on a game show 30,000

What is Lori's adjusted gross income (not taxable income)?
A) $72,000
B) $79,000
C) $82,000
D) $84,000

Answer: D
Explanation: D) Gambling losses, to the extent of gambling winnings, are deductible as itemized deductions and do not affect AGI. $22,000 + $18,000 + $12,000 + $2,000 + $30,000 = $84,000.
Page Ref.: I:3-24

89) The term "Social Security benefits" does not include
A) supplementary medicare benefits.
B) tier-one railroad retirement benefits.
C) disability benefits received under Social Security.
D) retirement benefits received under Social Security.

Answer: A
Explanation: A) Medicare benefits are not included in the term.
Page Ref.: I:3-25 and I:3-26

90) In addition to Social Security benefits of $8,000, Mr. and Mrs. Wells have adjusted gross income of $32,000 and tax-exempt interest of $1,000 and will file a joint return. The taxable portion of their social security benefits will be
A) $0.
B) $2,500.
C) $4,000.
D) $8,000.

Answer: B
Explanation: B) Provisional income is $37,000 ($32,000 + $1,000 + $4,000 [one-half of social security]). $37,000 - $32,000 baseline = $5,000.00 × 0.50 = $2,500 is taxable (subject to the ceiling limit of one half of social security benefits, which is $4,000). Eighty-five percent of a portion of the social security benefits are subject to tax only if provisional income exceeds $44,000 on a joint return, or $34,000 for a single taxpayer.
Page Ref.: I:3-25; Example I:3-33

91) Mr. & Mrs. Bronson are both over 65 years of age and are filing a joint return. Their income this year consisted of the following:

Taxable interest $ 6,000
Taxable dividends 9,000
Social Security payments (combined) 20,000
Tax-exempt interest 5,000
Taxable pension 11,000

They did not have any adjustments to income. What amount of Mr. & Mrs. Bronson's social security benefits is taxable this year?
A) $-0-
B) $4,500
C) $10,000
D) $20,000

Answer: B
Explanation: B) Provisional income is $41,000 ($6,000 + $9,000 + $10,000 + $5,000 + $11,000). $41,000 - $32,000 baseline amount = $9,000 × 0.50 = $4,500 taxable benefits (subject to the ceiling limit of one half of social security benefits, which is $10,000). Eighty-five percent of a portion of the social security benefits are subject to tax only if provisional income exceeds $44,000 on a joint return, or $34,000 for a single taxpayer.
Page Ref.: I:3-25; Example I:3-33

92) Reva is a single taxpayer with a taxable pension of $22,000, tax-exempt interest of $10,000, and Social Security benefits of $10,000. What is the amount of her taxable Social Security benefits?
A) $5,000
B) $8,500
C) $7,100
D) $10,000

Answer: C
Explanation: C) Her provisional income is $22,000 + 10,000 + $5,000(.50 × $10,000) =$37,000. The taxable Social Security benefits are equal to $7,100 which is the lesser of $8,500 (.85 x$10,000) or $7,100 computed as follows: [($37,000 - $34,000 threshold) x.85] + the lesser of $4,500 or $5,000.
Page Ref.: I:3-25; Example I:3-33

93) Insurance proceeds received because of the destruction of property are
A) included in gross income in all cases.
B) excluded from gross income completely.
C) included in gross income to the extent the proceeds are less than the adjusted basis of the replacement property.
D) included in gross income only to the extent the proceeds exceed the adjusted basis of the replacement property.

Answer: D
Explanation: D) The proceeds are not taxable to the extent of return of capital (i.e. adjusted basis).
Page Ref.: I:3-26

94) Homer Corporation's office building was destroyed by fire. Homer collected insurance of $250,000, which equaled the building's basis, and $150,000 for profits lost during the time the company was rebuilding the office building. What is the amount taxable this year?
A) $0
B) $150,000
C) $250,000
D) $400,000

Answer: B
Explanation: B) Only the $150,000 to cover lost profits is taxable.
Page Ref.: I:3-26; Example I:3-34

95) During 2011, Christiana's employer withheld $1,500 from her wages for state income taxes. She claimed the $1,500 as an itemized deduction on her 2011 federal income tax return which included $7,000 of itemized deductions. Christiana is single. On her 2011 state income tax return, her state income tax was $900. As a result, Christiana received a $600 refund in 2012. What amount must Christiana include in income in 2012?
A) $0
B) $600
C) $900
D) $1,500

Answer: B
Explanation: B) She received the full tax benefit of her itemized deduction so the entire amount of the refund is taxable.
Page Ref.: I:3-26; Example I:3-35

96) During 2011, Mark's employer withheld $2,000 from his wages for state income tax. Mark claimed the $2,000 as an itemized deduction on his 2011 federal income tax return. His total itemized deductions for 2011 were $6,000. Mark's taxable income for 2011 was a negative $20,000. Mark received the $2,000 as a refund from the state during 2012. What amount must Mark include in income in 2012?
A) $0
B) $1,000
C) $2,000
D) $6,000

Answer: A
Explanation: A) Since Mark would have owed no income tax even without the state tax deduction, the refund is not taxable. He received no tax benefit.
Page Ref.: I:3-27; Example I:3-36

97) During 2011, Christiana's employer withheld $1,500 from her wages for state income taxes. She claimed the $1,500 as an itemized deduction on her 2011 federal income tax return which included a total of $6,150 of itemized deductions. Christiana is single. On her 2011 state income tax return, her state income tax was $900. As a result, Christiana received a $600 refund in 2012. What amount must Christiana include in income in 2012?
A) $0
B) $350
C) $600
D) $900

Answer: B
Explanation: B) According to the tax benefit rule, she received a $350 tax benefit. $6,150 itemized deductions less $5,800 standard deduction.
Page Ref.: I:3-27; Example I:3-37

98) During 2011, Robert and Cassie had $2,600 withheld from their pay for state income taxes. They file a joint return for 2011 and claimed the $2,600 taxes withheld as an itemized deduction on their federal tax return. Their itemized deductions totaled $12,200 on their 2011 tax return. Their 2011 state income tax was only $1,000 and they received a refund of $1,600 when they filed their state income tax return in 2012. As a result, Robert and Cassie must
A) amend 2011's federal tax return.
B) report income of $600 in 2012.
C) report income of $1,600 in 2012.
D) reduce their deduction for state income taxes for 2012 by $1,600.

Answer: B
Explanation: B) The total itemized deductions exceeded the standard deduction by only $600 which is the tax benefit that must be included in income. ($12,200 - $11,600).
Page Ref.: I:3-27; Example I:3-37

99) Gwen's marginal tax bracket is 25%. Gwen pays alimony of $24,000 per year. Gwen's after tax cost for the $24,000 payment is
A) $-0-.
B) $6,000.
C) $18,000.
D) $24,000.

Answer: C
Explanation: C) (100% - 25%) × $24,000 = $18,000.
Page Ref.: I:3-28

100) Daniel plans to invest $20,000 in either a corporate bond paying 5% or a tax-exempt bond with a 4% interest rate. The bonds have an equivalent level of risk. Daniel has a 33% marginal tax rate and wants to maximize his after-tax earnings. Daniel should
A) invest in the corporate bond due to its higher stated interest rate.
B) invest in the tax-exempt bond since its yield is more than the after-tax return on the corporate bond.
C) invest in the corporate bond because its after-tax earnings are more than the return on the tax-exempt bond.
D) allocate his money equally between the two investments.

Answer: B
Explanation: B) .05 ( 1 - .33) = 3.34% after-tax return on the corporate bond.
Page Ref.: I:3-29

101) Which of the following constitutes constructive receipt in 2011?
a. A check received on December 29, 2011. The check was postdated January 5, 2012.
b. A check received on January 4, 2012. It had been mailed on December 29, 2011.
c. A rent check, received on December 31, 2011, by the manager of an apartment complex. The manager normally collects rent for the owner who is out of town.
d. A salary check received at 5:30 p.m. on December 31, 2011, after all banks are closed.
e. A paycheck received on December 26, 2011. The check was not honored by the bank because the employer's account did not have sufficient funds

Answer: C and D are constructively received. A and E are not because funds are not available. B is probably not considered constructively received assuming the taxpayer could not have "picked up" the check from the payor on December 29, 2011.
Page Ref.: I:3-10

102) Chuck Corporation began operating a new retail business in the current year and had $500,000 of sales, $70,000 of which had not been collected by year-end. Total purchases were $350,000 on which $30,000 is still owed. Ending inventory is $60,000; operating expenses are $170,000, $50,000 of which is still owed at year-end.
a. Compute net income from the business under the accrual method.
b. Compute net income from the business under the cash method.
c. Would paying the $50,000 she owes for operating expenses before year-end change her net income under the accrual method? Under the cash method?

Answer:
Accrual Cash
Sales $ 500,000 $430,000
Purchases $350,000 $320,000
Inventory 60,000 30,000*
Cost of sales 290,000 290,000
Gross profit 210,000 140,000

Expenses 170,000 120,000
Net income $ 40,000 a. $ 20,000 b.

* $60,000 - $30,000 = $30,000.

c. Paying the $50,000 will not change the net amount of business income under the accrual method. Under cash method, payment of the $50,000 expense would result in a $30,000 net loss.
Page Ref.: I:3-11; Example I:3-14

103) The Cable TV Company, an accrual basis taxpayer, allows its customers to pay by the month, by the year, or two years in advance. In December 2011, the company collected the following amounts applicable to future services:

Jan 2012 services (monthly contracts) $10,000
Dec 2011 - Nov 2012 services (annual contracts) 48,000
Dec 2011 - Nov 2013 contracts (2-year contracts) 72,000

If Cable TV wants to report as little income as possible for 2011, what is the amount of gross income that must be reported for 2011?

Answer: $7,000 must be reported in 2011. All of the services for the one-month contracts will be performed in the next year so all of the income is deferred to 2012. One-twelfth of the services for the one-year contracts will be completed in 2011 so $4,000 will be recognized in 2011 and the $44,000 balance in 2012. With respect to the two-year contracts, 1/24th of the services will be completed in 2011 so $3,000 will be recognized in 2011, and the $69,000 balance will have to be recognized in 2012. Income cannot be deferred beyond the end of the tax year following the year of receipt so none of the income from the two-year contracts can be deferred to 2013.
Page Ref.: I:3-12; Example I:3-15

104) Gabe Corporation, an accrual-basis taxpayer that uses the calendar year as its tax year, sells CPE (continuing professional education) courses under contracts ranging from three months to two years. Assume that Gabe Corporation sold three contracts in July 2011; one for six months costing $300; one for one year costing $500; and one for two years costing $800.

Required: What is the minimum amount of income that must be recognized in 2011 and 2012?

Answer:
Length of contract 2011 2012
6 months $300
12 months $250 $250
24 months $200 600
Total $750 $850
Page Ref.: I:3-12; Example I:3-15

105) Leigh inherited $65,000 of City of New York bonds in January 2011. In March 2011, she received $4,000 of interest on the bonds. In July 2011, she sold the bonds at a $10,000 gain. Leigh also redeemed Series E U.S. Savings bonds in October 2011 that she had purchased several years ago and received accumulated interest of $2,600. In December 2011, she received $800 of interest on City of Paris, France, bonds. What amount, if any of gross income must Leigh report?

Answer: Leigh must report $13,400 of gross income determined as follows:

Gain on City of New York bonds $10,000
Interest on City of New York bonds (exclude) 0
Interest on Series E Bonds 2,600
Interest on City of Paris bonds 800
Gross income $13,400
Page Ref.: I:3-13 and I:3-14

106) Rocky owns The Palms Apartments. During the year, Molly Ann, a tenant, moved to another state. Molly Ann paid Rocky $1,500 to cancel the two-year lease she had signed. Rocky then rented the apartment to Elvis who paid the first and last months' rents of $500 each and a security deposit of $800. Rocky also owns a building used as a dance club. The owner of the club requested that Rocky add on another room to be used for private parties. Rocky refused but allowed the club owner to make the addition at a cost of $20,000. What amount should be included in Rocky's income with regard to these items?

Answer: $1,500 + $500 + $500 = $2,500. Since there is no reduction in rent, the fair market value of the addition is not included in Rocky's income.
Page Ref.: I:3-15 and I:3-16

107) Ellen is a single taxpayer with a salary of $50,000, qualified dividend income of $5,000, and itemized deductions of $13,000.

Required:
a. What is the amount of Ellen's taxable income for 2011?
b. What is the amount of Ellen's tax liability?

Answer:
a.
AGI ($50,000 + $5,000) $55,000
Itemized deductions (13,000)
Personal exemption (3,700)
Taxable income $38,300

b. Tax on other income of $33,300 excluding dividends:
$850 + [.15 ($33,300 - $8,500)] = $4,570
There is no tax on the dividends since Ellen has a 15% marginal tax rate.
Page Ref.: I:3-17; Example I:3-21

108) Emma is the sole shareholder in Atlantic Corporation and has owned the stock for five years. The basis in her stock is $50,000. Atlantic distributes $35,000 to Emma. Accumulated earnings and profits at the beginning of the year equal $25,000 and current earnings and profits equal $5,000.

Required:
a. What are the tax consequences of this information?
b. What are the tax consequences of this information if, instead of distributing $35,000 to Emma, Atlantic distributes $100,000 to Emma?

Answer:
a. Emma reports $30,000 of taxable dividend income and a nontaxable return of capital equal to $5,000. In addition, Emma must reduce her basis in the stock by $5,000.
b. Emma reports $30,000 of taxable dividend income, a nontaxable return of capital of $50,000, and capital gain of $20,000.
Page Ref.: I:3-17; Example I:3-22

109) Under the terms of a divorce agreement dated January 1, 2011, Edmond was to pay his wife Donna $3,000 per month in alimony and $500 per month in child support. Payments began on 1/1/11. In addition, Donna received the family residence with a cost basis of $110,000 and a fair market value of $120,000.
a. What is the amount that Donna must include in income for the twelve-month period ended December 31, 2011?
b. What is the basis in the home which Donna received as a result of the divorce?

Answer:
a. Alimony, which is taxable to Donna and must be included in income, is $3,000 per month × 12 = $36,000.
b. The basis in the home received in the property settlement (which is not taxable) is $110,000, the transfer basis.
Page Ref.: I:3-18 and I:3-19

110) Marisa and Kurt divorced in 2009. Under the terms of the divorce agreement, Marisa was to pay Kurt $110,000 in 2009 and $60,000 each year following until Kurt's death or remarriage. What must Kurt report on his tax return for 2011 regarding these transactions?

Answer: First, Kurt must report $60,000 in gross incomethe amount of alimony received in 2011. Then, Kurt will get a For AGI deduction for alimony recaptured of $35,000.

First year alimony $110,000
Minus: $15,000 change limit ( 15,000)
Minus: Average 2nd and 3rd year alimony (60,000)
Amount to be recaptured $ 35,000
There is no recapture between years two and three.
Page Ref.: I:3-20

111) On January 1, 1996, Erika Greene purchased a single premium annuity for $15,000 that will pay her $5,000 every year for life beginning on January 1, 2011. Based on actuarial tables published by the IRS, her life expectancy multiple is 10.
a. What is the amount to be excluded Erika's income for 2011?
b. What is the amount to be excluded in Erika's income for the year 2021?

Answer:
a. $15,000/ ($5,000 × 10) × $5,000 = $1,500 excluded from income.
b. Once Erika has recovered her original investment of $15,000 (after 10 years), all of the $5,000 is taxable and included in income; none of it is excluded.
Page Ref.: I:3-20 through I:3-22

112) On April 1, 2011, Martha, age 67, begins receiving payments of $3,000 monthly from her employer's qualified retirement plan. She had contributed $90,000 to the plan in after-tax dollars. The anticipated number of payments is 210.
a. How much of the payments are taxable in 2011?
b. In 2029, Martha, age 85, continues to receive retirement payments. How much of the payments are taxable in 2029?
c. Assume that Martha dies on December 20, 2013. She had received all twelve of her 2011 payments. What are the tax consequences on her 2013 tax return?

Answer:
a. $90,000 / 210 = 429 monthly exclusion. The monthly taxable amount is $3,000 - 429 = $2,571. In 2011, $2,571 × 9 = $23,139 is taxable to Martha.
b. By 2029, Martha will have recovered all of her contributions to the retirement plan. The entire amount of her payments will be taxable ($3,000 × 12 = $36,000).
c. Martha has received 33 payments prior to her death and will have recovered $429 × 33 = $14,157. She has not recovered $75,843 of her contributions ($90,000 - 14,157) and this amount is deductible on her final tax return.
Page Ref.: I:3-22; Example I:3-30

113) Jeannie, a single taxpayer, retired during the year, to take over the management of some rental property. She had the following items of income and expense:

Salary prior to retirement date $34,000
Dividends from domestic corporation 4,000
Interest from City of Los Angeles bonds 5,000
Pension (60% exclusion ratio) 12,000
Share of partnership income 14,000
Partnership distribution 10,000
Rent income 7,000
Rent expenses 9,000

What is Jeannie's adjusted gross income for the year?

Answer: $34,000 + $4,000 + $4,800 ($12,000 × .40) + $14,000 + $7,000 - $9,000 = $54,800.
Page Ref.: I:3-13 through I:3-16 and I:3-21 through I:3-23

114) Kevin is a single person who earns $70,000 in salary for 2011 and has other income from a variety of investments, as follows:

Bank savings account interest $5,500
Interest from State of Missouri Bonds 3,500
Dividends from XYZ Corp. 7,000

Kevin received refunds when he filed his 2010 tax returns in April of 2011. His federal refund was $600 and his state refund was $300. Kevin's 2010 federal itemized deductions totaled $13,000. In 2011 his itemized deductions total only $3,700, and the amount of withholding for Federal income taxes is $16,900.

Compute Kevin's taxable income for 2011.

Answer:
Salary $70,000
Bank interest 5,500
Dividends 7,000
State refund 300
AGI $82,800
Standard deduction ( 5,800)
Personal exemption ( 3,700)
Taxable income $73,300
Page Ref.: I:3-13 through I:3-16 and I:3-27

115) Adanya's marginal tax rate is 35% and she is trying to decide whether to invest in tax-exempt bonds which pay 5% interest or taxable bonds paying 7% interest. The bonds have equivalent risk. Which of the bonds would yield the highest amount of income after taxes?

Answer: The taxable bonds yield 4.55% after-tax [.07 - (1-.35)], so she should invest in the tax-exempt bonds.
Page Ref.: I:3-28

116) While certain income of a minor may now be taxed at the parent's tax rate, discuss how income shifting may still be accomplished and any constraints that may exist on income shifting.

Answer:
1. Children may own stock in the family business. Dividends may be distributed to the children, but these may be taxed at the parents' rates.
2. A child may work in the family business. Income earned by the child would be taxed at the child's tax rate. Income earned by the child would be subject to reasonable compensation limits.
3. Series EE U.S. savings bonds may be purchased in the child's name to mature after the child reaches age 24. A gift of the bonds to the child may be subject to gift tax.
Page Ref.: I:3-28

117) Marcia and Dave are separated and negotiating a divorce agreement. They live in a common law state and have two children who will remain with Marcia. Dave is willing to transfer the jointly owned home to Marcia. He wishes to keep the couple's jointly owned boat. Dave will either transfer securities to Marcia ($100,000 adjusted basis, $150,000 fair market value) or will pay her $30,000 for 5 years with interest of 8%. What issues should Marcia and Dave consider when formulating their divorce agreement?
Answer: Marcia and Dave should consider the tax treatment of the transfer of the home to Marcia and the boat to Dave. That is, what are the tax consequences of a property settlement? (No immediate tax consequences; a carryover basis). In considering whether to take the securities or the payments, Marcia needs to consider whether or not the $20,000 per year will be classified as alimony, which is taxable. (It would be deductible for AGI to Dave). Each should consider what determines whether or not a payment is alimonymust be made in cash, must not be specified to "not be alimony," must end with Marcia's death or remarriage, Marcia and Dave can not live together. While the transfer of securities would not trigger immediate tax consequences, if Marcia sold the securities, she would have capital gain which she could offset against any capital losses she might have for the year.
Page Ref.: I:3-18 through I:3-20 and I:3-28

...

118) James and Colleen have reached an agreement with Kelsey in which she will give birth to a baby, and then give the baby to James and Colleen. In return, James and Colleen will pay Kelsey $40,000 cash and pay for her medical expenses. What tax issues should Kelsey consider?

Answer: Is the receipt of cash and payment of medical expenses income to Kelsey?
Page Ref.: I:3-4

119) Aaron found a prototype of a new cell phone with Internet service and other computing capabilities while in a bar one evening. He offered the prototype to the owner of a magazine and blog that reviews hand-held digital devices. The owner paid Aaron $10,000 in return for the prototype. What tax issues should Aaron consider?

Answer: The $10,000 must be included in Aaron's gross income.
Page Ref.: I:3-4

120) Billy, age 10, found an old baseball glove while exploring his new home. His father, Al, took the glove to a dealer in baseball memorabilia who verified that the glove belonged to Babe Ruth. Al sold the glove for $75,000. What tax issues should Al consider?

Answer: Al has $75,000 of income upon the sale of the glove. However, is there an argument that Billy is the owner of the glove since he found it, and he should be taxed on the proceeds? Does Billy giving the glove to Al constitute an assignment of income?
Page Ref.: I:3-6 and I:3-24

121) Buzz is a successful college basketball coach. In April 2010, he signed a contract to coach at Mountain State University. In April 2011, Buzz accepted a position as head basketball coach at Beach University. The terms of his contract with Mountain State require that Buzz repay the university $150,000 he received in 2010. What tax issues does Buzz face?

Answer: According to the claim of right doctrine, Buzz includes the $150,000 as income in 2010 and then he could deduct that amount when it is repaid in 2011. Since the repayment exceeds $3,000, he has the option of instead calculating a credit to recover an amount equivalent to the incremental tax paid on the $150,000 in 2010. The latter would be an attractive option if his tax rate declined from 2010 to 2011.
Page Ref.: I:3-27

122) Raoul sells household items on an Internet website. He receives $3,340 cash and a lawn mower from this activity during the year. What tax issues should Raoul consider?

Answer: Raoul will have to report income from his Internet sale activities. The income should include $3,340 cash and the FMV of the lawn mower.
Page Ref.: I:3-4

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