ADVANCED CONCEPTS IN FEDERAL INCOME TAXATION - BUS 586 - EXAM 1

The U. S. House Ways and Means Committee is responsible for drafting new federal tax legislation. (T/F)

T

Which of the following statements regarding tax systems is false?

1. A single percentage that applies to the entire tax base is described as a flat rate.

2. When designing a tax, governments try to identify tax bases that taxpayers can easily avoid or conceal.

3. A tax base is an item, occurrence, transaction, or activity with respect to which a tax is levied.

4. With regard to tax systems, the term revenue refers to the total tax collected by the government.

2

A sales tax is an example of a transaction-based tax. (T/F)

T

Which of the following statements about the Internal Revenue Code is false?

1. The Internal Revenue Code has not been amended since 1986.

2. The Internal Revenue Code is part of federal statutory law.

3. The Internal Revenue Code consists of numerically organized sections.

4. Only Congress has the authority to amend the Internal Revenue Code.

1

A user fee entitles the payer to a specific good or service from the government. (T/F)

T

The potential for conflict among taxing jurisdictions is greatest for businesses operating on a global scale. (T/F)

T

A tax is intended to deter or punish unacceptable behavior. (T/F)

F

Which of the following taxes is not a significant source of revenue for local governments?

1. Real property tax

2. Personal property tax

3. Employment tax

4. All of these choices are correct

3

Which of the following statements regarding the political process of creating tax law is false?

1. The political process contributes to the dynamic nature of the tax law.

2. Special interest groups have little effect on the tax legislative process.

3. When taxpayers devise a new tactic for reducing their tax burdens, governments respond by enacting a new rule to render the tactic ineffective.

4. Changes in political philosophy often reflect shifts in the public attitude about the proper role of taxes in society.

2

The federal government imposed the first income tax to raise money to fight the War of 1812. (T/F)

F

Under U.S. tax law, corporations are entities separate and distinct from their shareholders. (T/F)

T

Sellers of retail goods are responsible for collecting sales tax from their customers and remitting the tax to the state government. (T/F)

T

Both the U.S. House of Representatives and the U.S. Senate must vote to approve a new federal tax bill before the bill is signed into law by the President. (T/F)

T

A sales tax can best be described as a(n):

1. Consumption tax

2. Income tax

3. Activity tax

4. Ad valorem tax

1

The city of Springvale imposes a net income tax on businesses operating within its jurisdiction. The tax equals 1% of income up to $100,000 and 1.5% of income in excess of $100,000. The Springvale Bar and Grill generated $782,000 net income this year. Compute its city income tax.

1. $10,230

2. $11,230

3. $11,730

4. None of these choices are correct

2

Which of the following is/are not a primary source of authority for the tax law?

1. A revenue ruling published by the Internal Revenue Service

2. Section 162 of the Internal Revenue Code

3. Treasury Reg. §1.351-2

4. All of these choices are primary sources of authority

4

The U.S. Constitution requires that federal tax legislation begins in the Senate. (T/F)

F

Which of the following does not contribute to the dynamic nature of the tax law?

1. The political pressure from professional lobbyists

2. Changes in the economic and social climate

3. Changes in revenue needs of the government

4. All of these choices contribute to the dynamic nature of the tax law

4

Which of the following is not an advantage of state conformity to federal corporate income tax laws?

1. States have complete control over their corporate income tax revenues.

2. States do not have to enact comprehensive corporate income tax statutes.

3. Conformity eases the compliance burden of corporate taxpayers.

4. All of these choices are advantages of state conformity.

1

Which of the following is not characteristic of an excise tax?

1. An excise tax is levied on the retail sale of specific goods.

2. Excise tax rates typically are higher than general sales tax rates.

3. The purchaser is responsible for paying any excise tax directly to the government.

4. All of these choices are characteristics of an excise tax.

3

Which of the following statements about a proportionate income tax rate structure is false?

1. A theoretic justification for a proportionate rate is its superior potential for wealth redistribution.

2. Under a proportionate rate structure, the marginal rate equals the average rate.

3. Under a proportionate rate structure, the taxpayer with the least income pays the same percentage of income to the government as the taxpayer with the most income.

4. None of the choices are false.

1

Which of the following statements concerning a regressive tax rate structure is true?

1. A regressive tax rate structure is justified by the tax policy of distributive justice.

2. A regressive rate structure is justified by the theory of the declining marginal utility of income.

3. Under a regressive rate structure, the average tax rate for high-income taxpayers is less than the marginal tax rate.

4. None of the statements are true.

4

The U.S. individual income tax has always used a progressive rate structure. (T/F)

T

Which of the following describes a tax that meets the standard of convenience?

1. A tax that the government can administer without excessive cost.

2. A tax that is easy for taxpayers to compute and pay.

3. A tax that minimizes the opportunity for noncompliance.

4. All of these describe a convenient tax.

4

Government officials of Country Z estimate that next year's public programs will cost $19 million but that tax revenues will be only $15 million. The officials could avoid a deficit next year by adopting which of the following fiscal strategies?

1. Reduce the cost of public programs by $4 million.

2. Increase taxes by $4 million.

3. Borrow $4 million by issuing new government bonds.

4. All of these strategies will avoid a deficit.

4

Government J decides that it must increase its tax revenue. Which of the strategies could result in more revenue?

1. Increase the rate of an existing tax.

2. Expand the base of an existing tax.

3. Enact a tax on a new base.

4. All of these strategies could result in more revenue for Government J.

4

A tax meets the standard of efficiency if it generates enough revenue to pay for the public goods and services provided by the government. (T/F)

F

State use taxes are more convenient for individual consumers than state sales taxes. (T/F)

F

A convenient tax has low compliance costs for taxpayers and low collection and enforcement costs for the government. (T/F)

T

A dynamic forecast of the revenue effect of a tax rate change assumes that the tax base does not change. (T/F)

F

Government L levies a 4% excise tax on restaurant meals. It is considering reducing the rate to 2% on meals served in restaurants that ban cigarette and cigar smoking and to increase the rate to 5% in restaurants that allow smoking. Which of the following statements is true?

1. The rate change would improve the neutrality of the excise tax.

2. The rate change would improve the convenience of the tax.

3. The rate change is intended to affect social behavior.

4. Both the rate change would improve the convenience of the tax and the rate change is intended to affect social behavior are true.

3

Vervet County levies a real property tax based on the following schedule.

Rate	Assessed value
3%	$-0- to $250,000
+ 1%	$250,001 and above

Which type of rate structure does this tax use?

1. Proportionate

2. Regressive

3. Progressive

4. Dual-bracket

2

Government officials of Country Z estimate that next year's public programs will cost $19 million but that tax revenues will be only $15 million. Which of the following statements is false?

1. Country Z's tax system is sufficient.

2. Country Z's government is engaging in deficit spending.

3. If Country Z must borrow $4 million to pay for its public programs, its national debt will increase by $4 million.

4. Country Z's government could balance its budget by eliminating a program that costs $4 million.

1

The federal government is not required to pay interest on the national debt. (T/F)

F

The government of Nation C operated at a $32 billion deficit this year. The deficit suggests that Nation C's tax system is:

1. Inefficient

2. Insufficient

3. Unfair

4. Inconvenient

2

Vertical equity focuses on measurement of the tax base, and horizontal equity focuses on the tax rate structure. (T/F)

F

Which of the following taxes is most convenient for individuals (purchasers) to pay?

1. Sales tax

2. Use tax

3. Federal income tax

4. Real property tax

1

Which of the following statements does not describe the Keynesian standard of tax efficiency?

1. An efficient tax encourages economic growth.

2. An efficient tax encourages full employment.

3. An efficient tax encourages price-level stability.

4. All of these describe the Keynesian standard of tax efficiency.

4

Changes in the tax law intended to make the measurement of taxable income more precise usually make the tax law less complex. (T/F)

F

Which of the following statements about horizontal equity is false?

1. Horizontal equity focuses on a rational and impartial measurement of the tax base.

2. Horizontal equity focuses on the measurement of taxpayers' ability to pay.

3. If persons with equal ability to pay a tax owe an equal amount of tax, the tax is horizontally equitable.

4. None of these choices are false.

4

Mr. and Mrs. Bing purchased a business from Ms. Clark in an arm's length transaction. This transaction occurred in a private market. (T/F)

T

Which of the following statements about related party transactions is false?

1. The transaction may lack the economic tension characteristic of a transaction between unrelated parties.

2. The transaction may reflect a fictitious market.

3. The parties to the transaction may have compatible financial objectives.

4. None of these choices are false.

4

Private market transactions create an opportunity for bilateral tax planning. (T/F)

T

Hower Incorporated's tax advisor recommends that the corporation take a deduction that the IRS has disallowed for other corporations in similar circumstances. If Hower decides not to take the deduction, it is reducing:

1. Audit risk

2. Tax law uncertainty

3. Business risk

4. None of these choices are correct.

1

When the IRS audits a tax return, it is most likely to scrutinize the tax consequences of a/an:

1. Related party transaction

2. Private market transaction

3. Public market transaction

4. Arm's length transaction

1

Which of the following statements about discount rates is true?

1. The higher the marginal tax rate, the higher the discount rate for future cash flows should be.

2. The higher the degree of risk involved in a transaction, the higher the discount rate for future cash flows should be.

3. The longer the time period over which a transaction will generate cash flows, the higher the discount rate should be.

4. The greater the amount of cash generated by a transaction, the higher the discount rate should be.

2

The arm's length transaction presumption:

1. Assumes that each party is dealing in its own economic self-interest.

2. Cannot be satisfied in a private market transaction.

3. Requires direct negotiation between parties to ensure an arm's length price.

4. Applies to both related party and unrelated party transactions.

1

Ramos Company must choose between two alternate transactions. Transaction 1 requires a $20,000 nondeductible cash outlay, while transaction 2 requires a $25,000 deductible cash outlay. Determine the marginal tax rate at which the after-tax costs of the two transactions are equal.

1. 15%

2. 20%

3. 25%

4. 30%

2

Mr. and Mrs. Rajan invested in a business that will generate the following cash flows over a three-year period.

	Year 0	Year 1	Year 2
Taxable revenue	30,000	40,000	60,000
Deductible expenses	(15,000)	(15,000)	(20,000)

If the Rajan's marginal tax rate over the three-year period is 20% and they use a 6% discount rate, compute the NPV of the transaction using the appropriate present value tables in Appendix A (.943, .890).

• $59,340

• $55,996

• $50,413

• None of these choices are correct.

1

Every business transaction results in a current tax cost or tax savings. (T/F)

F

An increase in the risk associated with a future stream of cash should result in an increase in the discount rate used in the present value calculation. (T/F)

T

The tax savings from a transaction represents a cash inflow. (T/F)

T

If a taxpayer decides to take advantage of an ambiguous tax issue to reduce future tax costs, the decision increases:

1. Financial risk

2. Audit risk

3. Tax law uncertainty

4. Marginal tax rate uncertainty

2

Which of the following statements about marginal tax rates is true?

1. A taxpayer's marginal rate can change with every transaction.

2. As the marginal rate increases, the tax cost of an income-generating transaction decreases.

3. As the marginal rate increases, the tax savings from a deduction increases.

4. Both a taxpayer's marginal rate can change with every transaction and, as the marginal rate increases, the tax savings from a deduction increases.

4

A cash flow consisting of a constant dollar amount to be received for a specific number of future periods is called an annuity. (T/F)

T

The arm's length transaction presumption is unreliable for transactions between related parties. (T/F)

T

Ms. Owen purchased 2,000 shares of General Electric common stock through a broker. This purchase is an example of a:

1. Public market transaction

2. Fictitious market transaction

3. Private market transaction

4. Related party transaction

1

Zazu Company is considering modifying a transaction to reduce the current year tax cost by $50,000. Which of the following statements is false?

1. The modification will increase the NPV of the transaction by $50,000.

2. The modification may affect the transaction's before-tax cash flows.

3. The modification may reduce the tax cost but increase one or more nontax costs.

4. The modification may not be desirable even though it reduces the tax cost.

1

A dollar available today is always worth more than a dollar not available until a future period. (T/F)

T

Mr. Vail made an offer to purchase a business for sale by Mr. Cao. Mr. Vail and Mr. Cao had never met prior to their negotiation of the terms of the sale. The sale is an example of a/an:

1. Arm's length transaction

2. Private market transaction

3. Public market transaction

4. Both an arm's length transaction and a private market transaction are true.

4

When the tax law applies differentially to transaction alternatives, decisions should focus on before-tax earnings. (T/F)

F

The after-tax cost of a dollar of deductible expense to a high-tax entity is less than the after-tax cost to a low-tax entity. (T/F)

T

The rate at which an item of income is taxed depends on the tax character of the income. (T/F)

T

Jelk Company is structuring a transaction that will generate $140,000 taxable revenue and cash inflow. Which of the following structures is the most effective in terms of the time period variable?

1. Jelk will receive the cash and report the income in 20Y1.

2. Jelk will receive the cash in 20Y2 and report the income in 20Y1.

3. Jelk will receive the cash and report the income in 20Y2.

4. Jelk will receive the cash in 20Y1 and report the income in 20Y2.

4

Which of the following statements about tax strategies is false?

1. Tax planners should prefer a simple strategy over a complex strategy.

2. Tax planners should prefer a flexible strategy over an inflexible strategy.

3. Tax planners should consider the tax consequences of a strategy to all parties.

4. None of these choices are false.

1

The time period variable reflects the fact that ______.

a tax dollar paid today costs more in present value terms than a tax dollar paid in the future

A taxpayer should prefer to pay a $100 implicit tax rather than a $100 explicit tax.(T/F)

F

The substance over form doctrine allows the IRS to look through the legal formalities of a transaction to determine its true economic nature. (T/F)

T

Which of the following sources of tax law carries the most authority?

1. Revenue procedure

2. Treasury regulation

3. Supreme Court decision

4. The three sources of tax law have equal authority

3

Tax planning strategies to enhance NPV must reflect all four tax planning maxims. (T/F)

F

Which of the following does not characterize federal transfer taxes?

1. The tax is imposed on the value of wealth transferred by an individual as a gift.

2. The tax is imposed on the value of wealth transferred because of the death of an individual.

3. The tax is imposed on the value of wealth transferred by an individual to charity.

4. All of these choices characterize federal transfer taxes.

3

Mr. Dole needed to sell appreciated stock out of his investment portfolio to generate cash to pay for his Christmas spending. He decided to postpone the sale from December 20Y1 until January 20Y2. Mr. Dole is taking advantage of the:

1. Entity variable

2. Time period variable

3. Jurisdiction variable

4. Character variable

2

Mr. Blau structured an income-generating transaction so that the $90,000 income and cash flow shifted to Mr. Blau's sister, Kim. If Mr. Blau's marginal tax rate is 35%, and Kim's tax rate is 12%, compute the tax savings from the income shift.

1. $0

2. $10,800

3. $31,500

4. None of these choices are correct

4

Supply-side economic theory:

1. Predicts that a decrease in the highest income tax rates will cause an increase in government revenues.

2. Is inconsistent with the substitution effect.

3. Was a clear failure following the Reagan administration tax cuts of the 1980s.

4. Predicts that taxpayers will save their tax windfall from a rate cut rather than spend or investment the windfall.

1

In 20Y1, Ms. Graves transferred appreciated property to KL Partnership in exchange for an ownership interest in the partnership. She deliberately waited until 20Y3 before taking cash out of the partnership. Ms. Graves may have been trying to prevent the IRS from applying the:

1. Business purpose doctrine

2. Economic substance doctrine

3. Substance over form doctrine

4. Step transaction doctrine

4

The present value of a dollar available in a future period increases as the discount rate increases. (T/F)

F

A business that operates in more than one state is required to pay state income tax only to the state in which it is incorporated. (T/F)

F

The federal Social Security tax burden on employees has not increased since 1990 because the tax rate has not increased since that year. (T/F)

F

Purchasers of consumer goods through the mail are responsible for paying use tax on goods for which sales tax was not collected by the seller. (T/F)

T

Jurisdiction M imposes an individual income tax based on the following schedule.

Rate	Income bracket
5%	$-0- to $50,000
+ 8%	$50,001 to $200,000
+ 12%	$200,001 and above

Which type of rate structure does this tax use?

1. Proportionate

2. Regressive

3. Progressive

4. Multi-bracket

3

Mr. Smith resides in a state with a 6% sales and use tax. He recently traveled to another state to buy furniture and paid that state's 7% sales tax. Which of the following statements is true?

1. Mr. Smith is entitled to a refund of 1% of the purchase price of the furniture.

2. Mr. Smith does not owe a use tax to his home state.

3. Mr. Smith's use tax liability to his home state equals 6% of the purchase price of the furniture.

4. None of these choices are true.

2

Which of the following statements about implicit and explicit taxes is false?

1. The amount of implicit tax on an investment depends on the owner's marginal tax rate.

2. The taxpayer pays an explicit tax to the taxing jurisdiction.

3. An investment yielding ordinary income taxed at the regular tax rates should not have an implicit tax.

4. None of these choices are false.

1

Assume that Congress plans to amend the federal income tax to provide a deduction for the first $2,400 of residential rent paid by families with incomes below the federal poverty level. Which of the following statements is true?

1. The amendment is intended to improve the efficiency of the tax.

2. The amendment is intended to improve the equity of the tax.

3. The amendment is intended to improve the simplicity of the tax.

4. The amendment is intended to improve the convenience of the tax.

2

Which of the following statements about ordinary income and capital gain is false?

1. Every item of income is ultimately characterized as either ordinary income or capital gain for federal tax purposes.

2. Most ordinary income items are taxed at the regular individual or corporate tax rates.

3. Individuals and corporations pay tax on their capital gains at a preferential rate.

4. None of these choices are false.

3

Mr. Bearne paid $50,000 to a local spiritual healer and deducted the payment as a business expense of his sole proprietorship. The healer provided personal counseling to Mr. and Mrs. Bearne. Upon audit of the sole proprietorship's accounting records, the IRS agent disallowed the deduction by applying the:

1. Business purpose doctrine

2. Assignment of income doctrine

3. Economic substance doctrine

4. Constructive receipt doctrine

1

The after-tax value of a dollar of income to a high-tax entity is more than the after-tax value to a low-tax entity. (T/F)

F

If State H increases its sales tax rate by 1%, its sales tax revenue must also increase by 1%. (T/F)

F

XYT Company engaged in a transaction that generated $50,000 cash deposited in the company bank account and required the company to pay $12,000 out of that account. XYT's marginal tax rate is 30%. Which of the following statements is false?

1. If the deposit is taxable income and the payment is deductible, the transaction generated $26,600 after-tax cash flow.

2. If the deposit is taxable income but the payment is nondeductible, the transaction generated $35,000 after-tax cash flow.

3. If the deposit is not taxable income and the payment is nondeductible, the transaction generated $38,000 after-tax cash flow.

4. None of these choices are false.

2

Which of the following statements concerning income tax rate structures is false?

1. Under a progressive rate structure, the marginal rate and the average rate are equal.

2. Under a regressive rate structure, the average rate for low-income individuals is more than the average rate for high-income individuals.

3. Under either a regressive, proportionate, or progressive rate structure, high-income taxpayers pay more dollars of tax than low-income individuals.

4. In theory, a progressive rate structure results in equal economic sacrifice across taxpayers.

1

A taxpayer may choose to accept a reduced market rate of return on an investment to take advantage of a tax preference associated with the investment. In such case, the taxpayer will pay a/an:

1. Excise tax

2. Explicit tax

3. Implicit tax

4. Transaction tax

3

Fewer than half of the state governments depend on some form of gambling as a source of revenue. (T/F)

F

Congress recently amended the tax law to make it easier for individuals to file their income tax returns electronically (online). Which of the following statements is true?

1. The amendment is intended to improve the efficiency of the tax.

2. The amendment is intended to improve the equity of the tax.

3. The amendment is intended to improve the simplicity of the tax.

4. The amendment is intended to improve the convenience of the tax.

4

KRU Company engaged in a current-year transaction that required a $20,000 cash outflow. Which of the following statements is true?

1. If the cash outflow is deductible and KRU's marginal tax rate is 20%, the tax savings from the transaction is $4,000.

2. If the cash outflow is deductible and KRU's marginal tax rate is 30%, the tax savings from the transaction is $6,000.

3. If the cash outflow is not deductible, the current-year tax savings of the transaction is zero.

4. All of these are true.

4

Omar Incorporated paid a $24,000 expense, only $18,000 of which was deductible. If Omar's marginal tax rate is 40%, compute the after-tax cost of the expense.

1. $24,000

2. $18,000

3. $16,800

4. $10,800

3

Zazu Company is considering modifying a transaction to reduce the current year tax cost by $50,000. Which of the following statements is false?

1. The modification will increase the NPV of the transaction by $50,000.

2. The modification may affect the transaction's before-tax cash flows.

3. The modification may reduce the tax cost but increase one or more nontax costs.

4. The modification may not be desirable even though it reduces the tax cost.

1

Many taxpayers believe the income tax system is unfair because it is so complicated. (T/F)

T

Jurisdiction P recently increased its income tax rate. A taxpayer who reacts to the increase by working harder to earn more income is demonstrating the income effect of the rate increase. (T/F)

T

Which of the following statements about the jurisdiction variable is true?

1. Most businesses are subject to the taxing jurisdiction of more than one government.

2. For federal purposes, state income taxes are deductible in the computation of taxable income.

3. Businesses can often minimize total tax burden by conducting business in jurisdictions with favorable tax climates.

4. All of these statements are true.

4

The federal government collects more revenue from the corporate income tax than from the individual income tax. (T/F)

F

A tax meets the standard of sufficiency if it is easy for people to pay the tax. (T/F)

F