Test bank taxation of individuals and business entities 2015 6e by brian c spilker chap015

AACSB: Reflective Thinking AICPA: BB Critical Thinking Accessibility: Keyboard Navigation Blooms: Understand Learning Objective: 15-01 Discuss the legal and nontax characteristics of dif

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Chapter 15 Entities Overview

True / False Questions

1 Corporations are legally formed by filing articles of organization with the state in which the corporation will be created

6 LLC members have more flexibility than corporate shareholders to alter their legal arrangements with respect to one another, the entity, and with outsiders

True False

7 Corporations are legally better suited for taking a business public compared with

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9 Tax rules require that entities be classified the same way for tax purposes as they areclassified for legal purposes

McGraw-Hill Education.

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20 Shareholders of C corporations receiving property distributions must recognize dividend income equal to the fair market value of the distributed property if the distributing corporation has sufficient earnings and profits

True False

21 Losses from C corporations are never available to offset a shareholder's personal income

True False

Multiple Choice Questions

22 Which of the following legal entities file documents with the state to be formally recognized by the state?

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24 Which legal entity is correctly paired with the party that bears the ultimate

responsibility for paying the legal entity's liabilities?

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28 Which of the following entity characteristics are generally key drivers for small business owners in deciding which entity to choose?

29 On which form is income from a single member LLC with one corporate (C

corporation) owner reported?

A Form 1120 used by C corporations to report their

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31 On which tax form do LLCs with more than one owner report their income and losses?

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34 Which of the following legal entities are classified as C corporations for tax

Jimmy's marginal ordinary tax rate is 34 percent and his marginal tax rate on

dividends is 15 percent What is the overall tax rate on Crocker and Company's tax income?

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37 If C corporations retain their after-tax earnings, when will their shareholders be taxed

on the retained earnings?

A Shareholders will be taxed when they sell their shares

38 Which of the following is most effective in mitigating the double tax?

A Shift income from high tax rate shareholders to low tax rate

A Carried back two years, carried forward

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40 Logan, a 50 percent shareholder in Military Gear Inc., is comparing the tax

consequences of losses from C corporations with losses from S corporations Assume Military Gear Inc has a $100,000 loss for the year, Logan's tax basis in his Military Gear Inc stock was $150,000 at the beginning of the year, and he received $75,000 ordinary income from other sources during the year Assuming Logan's marginal income tax rate is 15%, how much more tax will Logan pay currently if Military Gear Inc is a C corporation compared to the tax he would pay if it were an S corporation?

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43 What tax year-end must unincorporated entities with only one owner adopt?

A The entity is free to adopt any tax

44 Roberto and Reagan are both 25 percent owner/managers for Bright Light Inc

Roberto runs the retail store in Sacramento, CA, and Reagan runs the retail store in San Francisco, CA Bright Light Inc generated a $125,000 profit companywide made

up of a $75,000 profit from the Sacramento store, a ($25,000) loss from the San Francisco store, and a combined $75,000 profit from the remaining stores If Bright Light Inc is an S corporation, how much income will be allocated to Roberto?

45 Roberto and Reagan are both 25 percent owner/managers for Bright Light

Enterprises Roberto runs the retail store in Sacramento, CA, and Reagan runs the retail store in San Francisco, CA Bright Light generated a $125,000 profit

companywide made up of a $75,000 profit from the Sacramento store, a ($25,000) loss from the San Francisco store, and a combined $75,000 profit from the remaining stores If Bright Light is taxed as a partnership and decides that Roberto and Reagan will be allocated 70 percent of his own store's profit with the remaining profits

allocated pro rata among all the owners, how much income will be allocated to Reagan?

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46 When an employee/shareholder receives an income allocation from an S corporation, what taxes apply to the income allocation?

47 What is the tax impact to a C corporation or an S corporation when it makes a

property distribution to a shareholder?

A Recognizes either gain or

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49 From a tax perspective, which entity choice is preferred when a liquidating

distribution occurs and the entity has assets that have declined in value?

50 From a tax perspective, which entity choice is preferred when a liquidating

distribution occurs and the entity has appreciated assets?

interest, which entity should you decide to use?

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52 Which of the following is not an effective strategy for mitigating the double tax associated with C corporations?

A Paying a salary to a

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54 David would like to organize HOS as either an LLC or as a corporation generating a 12percent annual before-tax return on a $300,000 investment Individual and corporate tax rates are both 30 percent and individual capital gains and dividend tax rates are

15 percent HOS will pay out its after-tax earnings every year to either its members

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56 Emmy would like to organize PRK as either an LLC or as a C corporation generating a

15 percent annual before-tax rate of return on a $100,000 investment Individual ordinary rates are 25 percent, corporate rates are 15 percent, and individual capital gains and dividends tax rates are 5 percent PRK will distribute its earnings annually

to either its members or shareholders

a Ignoring self-employment taxes, how much would Emmy keep after taxes if PRK is organized as either an LLC or as a C corporation?

b Ignoring self-employment taxes, what are the overall tax rates (combined entity and owner level) if PRK is organized as either an LLC or a corporation?

57 Jerry would like to organize FBC as either an LLC or as a C corporation generating an

8 percent annual before-tax rate of return on a $400,000 investment Individual and corporate tax rates are both 35 percent and individual capital gains and dividends taxrates are 15 percent FBC will pay out its after-tax earnings every year to either its members or its shareholders

a How much would Jerry keep after taxes if FBC is organized as either an LLC or as a

C corporation (ignore self-employment taxes)?

b Ignoring self-employment taxes, what are the overall tax rates (combined owner and entity level) tax rates if FBC is organized as either an LLC or as a C corporation?

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58 Taylor would like to organize DRK as either an LLC or as a C corporation generating a

13 percent annual before-tax rate of return on a $250,000 investment Individual andcorporate tax rates are both 30 percent and individual capital gains and dividends taxrates are 5 percent DRK will distribute its earnings annually to either its members or shareholders

a Ignoring self-employment taxes, how much would Taylor keep after taxes if DRK is organized as either an LLC or as a C corporation?

b Ignoring self-employment taxes, what are the overall (combined owner and entity level) tax rates if DRK is organized as either an LLC or as a C corporation?

59 Becca would like to organize BMI as either an LLC or as a C corporation generating a

4 percent annual before-tax rate of return on a $450,000 investment Individual ordinary rates are 28 percent, corporate rates are 15 percent, and individual capital gains and dividends tax rates are 15 percent BMI will distribute its earnings annually

to either its members or shareholders

a Ignoring self-employment taxes, how much would Becca keep after taxes if BMI is organized as either a LLC or as a C corporation?

b Ignoring self-employment taxes, what are the overall (combined owner and entity level) tax rates if BMI is organized as either an LLC or as a C corporation?

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60 SNL corporation, a C corporation, reports $400,000 of taxable income in the current year SNL's tax rate is 35 percent Answer the following questions, assuming Keegan, SNL's sole shareholder, has a marginal tax rate of 39.6 percent on ordinary income and 20 percent on dividend income.

a Compute the first level of tax on SNL's taxable income for the year

b Compute the second level of tax on SNL's income assuming that SNL currently distributes all of its after-tax earnings to Keegan What is the overall (combined owner and entity level) tax rate on SNL's taxable income for the year?

61 In the current year, DNS (a C corporation) had taxable income of $600,000 and distributed all of its after-tax earnings to Daniel, its sole shareholder DNS's tax rate is

38 percent Assuming Daniels's marginal tax rate on ordinary income is 28 percent and his dividend rate is 15 percent, what is the overall tax rate (combined corporate level and shareholder level) on DNS's $600,000 of taxable income?

62 In its first year of existence, BYC Corporation (a C corporation) reported a loss for tax purposes of ($40,000) How much tax will BYC pay in year 2 if it reports taxable income from operations of $35,000 in year 2 before any loss carryovers?

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63 In its first year of existence Aspen Corp (a C corporation) reported a loss for tax purposes of $50,000 In year 2, it reports a $30,000 loss For year 3, it reports taxableincome from operations of $120,000 How much tax will Aspen Corp pay for year 3? Consult the corporate tax rate table provided to calculate your answer

64 For the current year, Creative Designs Inc., a C corporation, reports taxable income of

$300,000 before paying salary to Ben the sole shareholder of Creative Designs Inc (CD) Ben's marginal tax rate on ordinary income is 28 percent and 15 percent on dividend income Assume CD's tax rate is 39 percent

a How much total income tax will Creative Designs and Ben pay on the $300,000 taxable income for the year if CD doesn't pay any salary to Ben and instead

distributes all of its after-tax income to Ben as a dividend?

b How much total income tax will Creative Designs and Ben pay on the $300,000 of income if CD pays Ben a salary of $100,000 and distributes its remaining after-tax earnings to Ben as a dividend?

c Compare your answer in part a with your answer to part b Explain why these numbers are different

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65 For the current year, Birch Corporation, a C corporation, reports taxable income of

$400,000 before paying salary to its sole shareholder Elaine Elaine's marginal tax rate on ordinary income is 33 percent and 15 percent on dividend income If Birch pays Elaine a salary of $200,000 but the IRS determines that Elaine's salary in excess

of $100,000 is unreasonable compensation, what is the overall income tax rate on Birch's $400,000 pre-salary income? Assume Birch's tax rate is 35 percent and it always distributes all after-tax earnings to Elaine

66 Cali Corp (a C corporation) projects that it will have taxable income of $250,000 for the year before paying any fringe benefits Stacey, Cali's sole shareholder, has a marginal tax rate of 33 percent on ordinary income and 15 percent on dividend income Assume Cali's tax rate is 34 percent

a What is the amount of the combined corporate and shareholder level income tax

on Cali's $250,000 of pre-benefit income if Cali Corp does not pay out any fringe benefits and distributes all of its after-tax earnings to Stacey?

b What is the amount of the combined corporate and shareholder level income tax

on Cali's $250,000 of pre-benefit income if Cali Corp pays Stacey's adoption

expenses of $50,000 and the payment is considered to be a qualified fringe benefit? Cali Corp distributes all of its after-tax earnings to Stacey

c What is the amount of the combined corporate and shareholder level income tax

on Cali's $250,000 of pre-benefit income if Cali Corp pays Stacey's adoption

expenses of $50,000 and the payment is considered to be a nonqualified fringe benefit? Cali Corp distributes all of its after-tax earnings to Stacey

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67 Jamal Corporation, a C corporation, projects that it will have taxable income of

$500,000 before incurring any lease expenses Jamal's tax rate is 34 percent Ali, Jamal's sole shareholder, has a marginal tax rate of 33 percent on ordinary income and 15 percent on dividend income Jamal always distributes all of its after-tax earnings to Ali

a What is the amount of the combined corporate and shareholder level tax on Jamal Corp.'s $500,000 pre-lease expense income if Jamal Corp distributes all of its after-tax earnings to its sole shareholder Ali?

b What is the amount of the combined corporate and shareholder level tax on Jamal Corp.'s $500,000 pre-lease expense income if Jamal leases equipment from Ali at a cost of $120,000 for the year?

c What is the amount of the combined corporate and shareholder level tax on Jamal Corp.'s $500,000 pre-lease expense income if Jamal Corp leases equipment from Ali

at a cost of $120,000 for the year but the IRS determines that the fair market value

of the lease payments is $80,000?

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68 Tuttle Corporation (a C corporation) projects that it will have taxable income for the year of $300,000 before incurring any interest expense Assume Tuttle's tax rate is 35percent.

a What is the amount of the combined corporate and shareholder level tax on the

$300,000 of pre-interest expense earnings if Ruth, Tuttle's sole shareholder, lends Tuttle Corporation $100,000 at the beginning of the year, Tuttle pays Ruth $10,000 ofinterest on the loan (interest is considered to be reasonable), and Tuttle distributes all

of its after-tax earnings to Ruth? Assume her ordinary marginal rate is 33 percent anddividend tax rate is 15 percent

b Assume the same facts as in part a except that the IRS determines that the fair market value of the interest should be $8,000 What is the amount of the combined corporate and shareholder level tax on Tuttle Corporation's pre-interest expense earnings?

69 Nancy purchased a building and then leased the building to ZML Nancy is the sole shareholder of ZML She leased the building to ZML for $2,500 per month However, the IRS determined that the fair market value of the lease payment should only be

$1,500 per month How would the lease payment be treated with respect to both Nancy and ZML?

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70 Rodger owns 100% of the shares in Trevor Inc., a C corporation Assume the followingfor the current year:

Given these assumptions, how much cash does Rodger have from the dividend after all taxes have been paid?

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71 Corporation A owns 10% of Corporation C The marginal tax rate on non-dividend income for both A and C is 34% Corporation C earns a total of $200 million before taxes in the current year, pays corporate tax on this income and distributes the remainder proportionately to its shareholders as a dividend In addition, Corporation

A owns 20% of partnership P that earns $500 million in the current year Given this fact pattern, answer the following questions:

a How much cash from the Corporation C dividend remains after Corporation A pays the tax on the dividend assuming Corporation A is eligible for the 70 percent

dividends received deduction?

b If partnership P distributes all of its current year earnings in proportion to the partner's ownership percentages, how much cash from Partnership P does

Corporation A have after paying taxes on its share of income from the partnership?

c If you were to replace corporation A with individual A (her marginal tax rate on ordinary income is 28% and on qualified dividends is 15%) in the original fact pattern above, how much cash does individual A have from the Corporation C dividend after all taxes assuming the dividends are qualified dividends? Consistent with the original facts, assume that Corporation C distributes all of its after-tax income to its

shareholders

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Chapter 15 Entities Overview Answer Key

True / False Questions

1 Corporations are legally formed by filing articles of organization with the state in which the corporation will be created

FALSE

Corporations file articles of incorporation

AACSB: Reflective Thinking AICPA: BB Critical Thinking Accessibility: Keyboard Navigation

Blooms: Understand Learning Objective: 15-01 Discuss the legal and nontax characteristics of different types of legal entities.

Level of Difficulty: 2 Medium Topic: Entity legal classification and nontax characteristics

2 General partnerships are legally formed by filing a partnership agreement with thestate in which the partnership will be formed

FALSE

General partnerships may be formed by written agreement among the partners, called a partnership agreement, or may be formed informally without a written agreement when two or more owners join together in an activity to generate profits

3 Limited partnerships are legally formed by filing a certificate of limited partnershipwith the state in which the partnership will be organized

TRUE

Blooms: Remember Learning Objective: 15-01 Discuss the legal and nontax characteristics of different types of legal entities.

Level of Difficulty: 1 Easy Topic: Entity legal classification and nontax characteristics

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4 Sole proprietorships are not treated as legal entities separate from their individual owners

TRUE

5 S corporation shareholders are legally responsible for paying the S corporation's debts because S corporations are treated as flow-through entities for tax

purposes

FALSE

6 LLC members have more flexibility than corporate shareholders to alter their legal arrangements with respect to one another, the entity, and with outsiders

TRUE

7 Corporations are legally better suited for taking a business public compared with LLCs and general partnerships

TRUE

AACSB: Reflective Thinking AICPA: BB Critical Thinking

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9 Tax rules require that entities be classified the same way for tax purposes as they are classified for legal purposes

FALSE

Blooms: Remember Learning Objective: 15-02 Describe the different types of entities of tax purposes.

Level of Difficulty: 1 Easy Topic: Entity tax classification

10 C corporations and S corporations are separate taxpaying entities that pay tax on their own income

Blooms: Understand Learning Objective: 15-02 Describe the different types of entities of tax purposes.

Level of Difficulty: 2 Medium Topic: Entity tax classification

11 All unincorporated entities are generally treated as flow-through entities for tax purposes

TRUE

12 In certain circumstances, C corporations can elect to be treated as flow-through entities

TRUE

An S-Corporation election achieves this purpose

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13 An unincorporated entity with more than one owner is, by default, taxed as a partnership

TRUE

Blooms: Remember Learning Objective: 15-02 Describe the different types of entities of tax purposes.

Level of Difficulty: 1 Easy Topic: Entity tax classification

14 A single-member LLC is taxed as a partnership

FALSE

Single-member LLCs are taxed as sole proprietorships

15 For tax purposes, only unincorporated entities can be considered to be disregardedentities

16 Unincorporated entities with only one individual owner are taxed as sole

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17 S corporations have more restrictive ownership requirements than other entities

TRUE

Blooms: Understand Learning Objective: 15-03 Identify fundamental differences in tax characteristics across entity types.

Level of Difficulty: 2 Medium Topic: Entity tax characteristics

18 Entities taxed as partnerships can use special allocations to reward owners based

on their responsibilities, contributions, and individual needs

TRUE

19 Sole proprietors are subject to self-employment taxes on net income from their sole proprietorships

TRUE

20 Shareholders of C corporations receiving property distributions must recognize dividend income equal to the fair market value of the distributed property if the distributing corporation has sufficient earnings and profits

TRUE

21 Losses from C corporations are never available to offset a shareholder's personal income

TRUE

Blooms: Remember Learning Objective: 15-03 Identify fundamental differences in tax characteristics across entity types.

Level of Difficulty: 1 Easy

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Topic: Entity tax characteristics

Multiple Choice Questions

22 Which of the following legal entities file documents with the state to be formally recognized by the state?

agreements Because sole proprietorships are not treated as legal entities

separate from their owners, sole proprietors don't need to do anything to receive legal recognition from the state

23 If an individual forms a sole proprietorship, which nontax factor will be of greatest benefit to the sole proprietor?

A Liability

protection

B Legal flexibility in defining rights and responsibilities

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AICPA: BB Critical Thinking Accessibility: Keyboard Navigation

24 Which legal entity is correctly paired with the party that bears the ultimate

responsibility for paying the legal entity's liabilities?

25 Which legal entity provides the least flexible legal arrangement for owners?

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26 Which legal entity is generally best suited for going public?

27 What document must LLCs file with the state to organize their business?

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28 Which of the following entity characteristics are generally key drivers for small business owners in deciding which entity to choose?

Blooms: Understand Learning Objective: 15-01 Discuss the legal and nontax characteristics of different types of legal entities Learning Objective: 15-03 Identify fundamental differences in tax characteristics across entity types.

Topic: Entity tax characteristics

29 On which form is income from a single member LLC with one corporate (C

corporation) owner reported?

A Form 1120 used by C corporations to report their

Blooms: Apply Learning Objective: 15-02 Describe the different types of entities of tax purposes.

Level of Difficulty: 3 Hard Topic: Entity tax classification

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30 On which tax form does a single member LLCs with one individual owner report its income and losses?

Single member LLCs, with one individual owner, follow the same filing guidelines

as sole proprietorships Thus, their income is reported on Form 1040, Schedule C

31 On which tax form do LLCs with more than one owner report their income and losses?

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