2008 AICPA newly released questions – regulation

BDT made a liquidating distribution of land with an adjusted basis of $75,000 and a fair market value of $40,000 to Baker.. Even though the land has a $40,000 fair market value, Baker's

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Following are multiple choice questions recently released by the AICPA These questions were released by the AICPA with letter answers only Our editorial board has provided the accompanying explanations

Please note that the AICPA generally releases questions that it does NOT intend to use again These questions and content may or may not be representative of questions you may see on any upcoming exams

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2

What is the standard that must be established to prove a violation of the anti-fraud provisions of Rule

10b-5 of the Securities Exchange Act of 1934?

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a Punitive damages because taking a vacation in the middle of the project was irresponsible

b Compensatory damages because of the delay in completing the project

c Liquidated damages because of the clause in the contract

d No damages because Mullin completed performance

Solution:

Choice "b" is correct Whenever a contract is breached, the nonbreaching party is entitled to

compensatory damages (damages to pay for the injuries caused by the breach) Here, the contract was breached performance was to be completed within 90 days and instead Mullin took 120 days to

perform Thus, the town would be entitled to compensatory damages equal to any loss caused by the delay in completion

Choice "a" is incorrect Punitive damages generally are not available in actions for breach of contract and this is true even if the breach was intentional Punitive damages generally are limited to actions regarding intentional torts

Choice "c" is incorrect A liquidated damages clause is enforceable only if it does not constitute a penalty, actual damages would be difficult to assess, and the liquidated amount is a reasonable estimate of the actual damages that will arise in the case of breach Here, when the parties entered into the contract, it was probably difficult to assess how much damage would be caused to the town if its town square

renovations were delayed However, nothing in the facts indicates that the $100 per day was a

reasonable estimate of actual damages or that it was anything more than a penalty to encourage Mullin to perform quickly Absent such information, we cannot presume that the liquidated damages clause is enforceable

Choice "d" is incorrect Although Mullin completed the performance called for in the contract, there nevertheless was a breach here The contract required performance to be complete within 90 days, and performance was not completed until 120 days after work began Whenever a party breaches a contract, the party is liable for any damages caused by the breach Although we are not told how the town was damaged by the delay, at a minimum it would be entitled to nominal damages (e.g., $1) arising from the breach

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4

Baker is a partner in BDT with a partnership basis of $60,000 BDT made a liquidating distribution of land with an adjusted basis of $75,000 and a fair market value of $40,000 to Baker What amount of gain or loss should Baker report?

no money, unrealized receivables, or inventory distributed, so there is no loss, regardless of the partner's basis in the partnership Even though the land has a $40,000 fair market value, Baker's basis in the land

is his $60,000 partnership basis, effectively giving him a $20,000 built-in loss that he can recognize by selling the land

Choice "a" is incorrect The $35,000 is the difference between the $40,000 fair market value of the land and the land's $75,000 adjusted basis (to the partnership) That difference is not reported as a loss by the partner or by the partnership

Choice "b" is incorrect The $20,000 is the difference between the $40,000 fair market value of the land and the $60,000 partner's adjusted basis in the partnership That amount is the partner's built-in loss in the land, but the loss is not recognized unless and until the partner sells or disposes of the land in a separate taxable transaction

Choice "d" is incorrect The $15,000 is the difference between the $60,000 partner's adjusted basis in the partnership and the $75,000 partnership's adjusted basis in the land That difference is not recognized in any way

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a An investment held in a retirement plan

b An investment held in a blind trust

c An investment held through a regulated mutual fund

d An investment held through participation in an investment club

Solution:

Choice "c" is correct A CPA in public practice must be independent in fact and appearance

Independence will be impaired if the CPA has a direct financial interest with an attestation client or a material indirect financial interest in a client An indirect financial interest involves a removed relationship, such as owning shares in a mutual fund that owns stock in a corporate client

Choices "a", "b" and "c" are incorrect A direct financial interest is an interest held directly in a client An interest in a client's retirement plan or in a blind trust holding stock in a client would be considered a direct interest

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6

Nolan designed Timber Partnership's new building Nolan received an interest in the partnership for the services Nolan's normal billing for these services would be $80,000 and the fair market value of the partnership interest Nolan received is $120,000 What amount of income should Nolan report?

Choice "d" is correct In this question, Nolan receives an interest in the partnership for services

performed The services are valued at the fair market value of what is received (the partnership interest)

of $120,000, regardless of what Nolan's normal billing for these services might have been

Choice "a" is incorrect Nolan would certainly report some income from the services that she performed when something is received in return for those services

Choice "b" is incorrect The $40,000 is the difference between the fair market value of the partnership (and of the services performed) and Nolan's billing That number is meaningless in this question Choice "c" is incorrect The $80,000 is Nolan's normal billing for her services However, her income is the $120,000 fair market value of the services Perhaps, she should charge more The difference is not considered a gift

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In the second year after receiving the liquidating distribution, Chang sold the inventory for $5,000 and the land for $3,000 What income must Chang report upon the sale of these assets?

a $0 gain or loss

b $0 ordinary gain and $1,000 capital loss

c $1,000 ordinary gain and $1,000 capital loss

d $1,000 ordinary gain and $0 capital loss

Solution:

Choice "c" is correct In this liquidating distribution of a partnership, three different assets are distributed The $4,000 cash distributed reduces Chang's (outside) basis in the partnership to $8,000 At that point, Chang's outside basis is less than the total (inside) basis of the remaining property distributed The inventory gets $4,000 of basis first and Chang's outside basis is reduced to $4,000 The land gets the remaining $4,000 basis (whatever is left over) The sale of the inventory for $5,000 then produces a

$1,000 ordinary gain ($5,000 - $4,000), and the sale of the land for $3,000 produces a $1,000 capital loss ($3,000 - $4,000)

Choice "a" is incorrect There is gain or loss on the sale transactions because each of the assets

distributed is sold for an amount that is different from its basis This choice would require that the

inventory be given a basis of $5,000 and the land be given a basis of $3,000

Choice "b" is incorrect A $0 ordinary gain could be recognized if the inventory were given a basis of

$5,000, but there is no reason for doing that The $1,000 capital loss is correct, but the choice is already incorrect

Choice "d" is incorrect A $0 capital loss could be recognized if the land were given a basis of $3,000 That would require that the land be given a basis of its fair market value on the distribution date

However, it is the bases of the property distributed that are allocated, not the fair market values The

$1,000 ordinary gain is correct, but the choice is already incorrect

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8

A couple filed a joint return in prior tax years During the current tax year, one spouse died The couple has no dependent children What is the filing status available to the surviving spouse for the first

subsequent tax year?

Choice "d" is incorrect Filing status is not "head of household" because there are no dependent children and no other qualifying dependents

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b Fraud in the inducement

c Minority of the maker

d Lack of consideration

Solution:

Choice "c" is correct Under the Negotiable Instruments Article, a maker or drawer may raise any contract defense he has against a regular holder, but the defenses that can be raised against a holder in due course (a holder who takes an instrument for value, in good faith, and without notice of any defenses on

or claims to the instrument) are limited to those commonly known as "real" defenses One such real defense is the minority of the maker (we use the term "infancy" in class, but they mean the same thing) Choices "a", "b" and "d" are incorrect because they are not so-called real defenses and, as such, cannot

be raised against a holder in due course

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10

Commerce Corp elects S corporation status as of the beginning of year 2000 At the time of

Commerce's election, it held a machine with a basis of $20,000 and a fair market value of $30,000 In March of 2000, Commerce sells the machine for $35,000 What would be the amount subject to the built-

Choice "b" is incorrect The $5,000 is the amount of the gain recognized on the sale ($35,000 - $20,000 -

$10,000) that is NOT built-in gain The $5,000 gain occurred while the corporation was an S corporation and is not subject to the built-in gains tax

Choice "d" is incorrect The $15,000 is the total gain recognized on the sale ($35,000 - $20,000), not the amount of gain subject to the built-in gains tax

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Choice "a" is correct To impose a disincentive to fraud, an audit team member may not accept

employment as a chief executive, chief financial or chief accounting officer, or controller of an audit client that files reports with the Securities and Exchange Commission for one year

Choices "b", "c" and "d" are incorrect, per the above discussion

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12

Under the Documents of Title Article of the UCC, which of the following correctly describes the standard

of liability that must be established to hold a warehouser liable for loss or damage to stored property?

Choice "b" is correct Under the Documents of Title Article, a warehouser is liable for loss of stored goods

on a showing of ordinary negligence

Choice "a" is incorrect Strict liability means liability regardless of fault A warehouser is not strictly liable for loss of stored goods At least negligence must be shown

Choice "c" is incorrect Although proof of gross negligence would be sufficient to hold a warehouser liable for the loss of goods stored, proof of gross negligence is not necessary A person can recover on the lesser showing of ordinary negligence

Choice "d" is incorrect Although proof of deliberate destruction or theft would be sufficient to hold a warehouser liable for the loss of goods stored, such proof is not necessary A person can recover on the lesser showing of ordinary negligence

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Choice "a" is incorrect The $0 indicates that nothing is taxed at the parents' maximum tax rate Taxing something at the parent's tax rate is the whole idea of the "kiddie tax."

Choice "c" is incorrect The $2,200 uses only the $800 standard deduction, but the next $800 would be taxed at the child's rate

Choice "d" is incorrect The $3,000 indicates that the entire $3,000 interest income is taxed at the parents' maximum tax rate

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14

Which of the following is allowed in the calculation of the taxable income of a simple trust?

Choice "a" is correct An exemption of $300 is available for simple trusts

Choice "b" is incorrect There is no standard deduction for simple trusts Standard deductions are available only for individuals

Choice "c" is incorrect There is no deduction for brokerage commissions to purchase tax-exempt bonds Since the interest on tax-exempt bonds is not taxable, related investment expenses are not deductible (by any taxpayer)

Choice "d" is incorrect There is no charitable contribution deduction for simple trusts

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15

Which of the following statements about the child and dependent care credit is correct?

a The credit is nonrefundable

b The child must be under the age of 18 years

c The child must be a direct descendant of the taxpayer

d The maximum credit is $600

Solution:

Choice "a" is correct The child and dependent care credit is nonrefundable The only refundable credits are the child tax credit (which is a different credit with a similar name), the earned income credit,

withholding taxes, and excess Social Security taxes paid The child and dependent care credit is a

"personal" tax credit

Choice "b" is incorrect The child must be under age 13, not age 18, to be a qualifying child and for there

to be a credit

Choice "c" is incorrect The child need not be a direct descendant of the taxpayer for there to be a credit

To be a qualifying child, the child must merely be a dependent of the taxpayer

Choice "d" is incorrect The maximum child and dependent care credit is 35% of eligible expenses, with a phase out for AGI over $15,000 There is no pure $600 limit

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16

Martin filed a timely return on April 15 Martin inadvertently omitted income that amounted to 30% of his gross income stated on the return The statute of limitations for Martin's return would end after how many years?

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17

The individual partner rather than the partnership makes which of the following elections?

a Election to amortize organizational costs

b Nonrecognition treatment for involuntary conversion gains

c Code Section 179 deductions for tangible personal property

d Whether to take a deduction or credit for taxes paid to foreign countries

Solution:

Choice "d" is correct Most elections that affect the calculation of taxable income of a partnership are made by the partnership itself rather than by an individual partner For example, the elections as to methods of accounting, methods of depreciation and the Section 179 expensing of a limited amount of depreciable property, the election not to use installment method accounting, and similar elections are made by the partnership and apply to all partners However, individual partners can make the election to take a deduction or a credit for taxes paid to foreign countries

Choice "a" is incorrect The election to amortize organizational costs is made at the partnership level, not

at the partner level

Choice "b" is incorrect The election not to recognize involuntary conversion gains is made at the

partnership level, not at the partner level

Choice "c" is incorrect The election to expense Section 179 property is made at the partnership level, not

at the partner level

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18

A taxpayer sold for $200,000 equipment that had an adjusted basis of $180,000 Through the date of the sale, the taxpayer had deducted $30,000 of depreciation Of this amount, $17,000 was in excess of straight-line depreciation What amount of gain would be recaptured under Section 1245 (Gain from Dispositions of Certain Depreciable Property)?

Choice "c" is correct Under Section 1245, the amount of depreciation in excess of straight-line

depreciation is irrelevant (the "excess depreciation" rule is a Section 1250 rule and applies to real

property) In this question, $30,000 of depreciation was deducted and, at first glance, the answer would appear to be $30,000 However, Section 1245 actually only requires that the lesser of the depreciation taken ($30,000) or the gain recognized ($200,000 - $180,000 = $20,000) be recaptured

Choice "a" is incorrect The $13,000 is the difference between the $30,000 depreciation that had been deducted and the $17,000 "excess" depreciation That amount is not used anywhere

Choice "b" is incorrect The $17,000 is the amount of "excess" depreciation As indicated, this amount is related to Section 1250 depreciation recapture, not Section 1245 Section 1245 requires depreciation recapture regardless of the method of depreciation

Choice "d" is incorrect The $30,000 is the depreciation that had been deducted Normally, that would be the amount subject to Section 1245 recapture However, only the gain recognized is recaptured in this question

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Choice "a" is incorrect The $0 indicates that nothing will be long-term capital gain Any amount of the proceeds over the original cost (in this question $7,000) will be Section 1231 (taxed as a long-term capital) gain

Choice "c" is incorrect The $20,700 is the total depreciation deduction Normally, that would be the depreciation recaptured However, in this question, the office furniture, for some reason, is sold for more than the original cost, and there will be Section 1231 gain

Choice "d" is incorrect The $27,700 is the entire gain recognized on the transaction For that amount to

be Section 1231 (taxed as a long-term capital) gain, depreciation recapture would have to be ignored

Tiêu đề	2008 AICPA Newly Released Questions – Regulation
Tác giả	DeVry/Becker Educational Development Corp.
Chuyên ngành	Regulation
Thể loại	Exam Questions
Năm xuất bản	2008

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