Certified Public Accountant CPA Questions + Answers Part 3
Posted: Tue Feb 22, 2022 6:07 pm
QUESTION 27
Parker, whose spouse died during the preceding year, has not remarried. Parker maintains a home for a dependent child. What is Parker's most advantageous filing status?
A. Single.
B. Headofhousehold.
C. Married filing separately.
D. Qualifying widow(er) with dependent child.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation
Choice "d" is correct. A qualifying widow (er) is a taxpayer who may use the joint tax return standard deduction and rates (but not the exemption for the deceased spouse) for each of two taxable years following the year of death of his or her spouse, unless he or she remarries. The surviving spouse must maintain a household that, for the whole entire taxable year, was the principal place of abode of a son, stepson, daughter, or stepdaughter (whether by blood or adoption). The surviving spouse must also be entitled to a dependency exemption for such individual. Parker may file as a qualifying widow (er) since her spouse died in the previous tax year, she did not remarry and she maintained a home for a dependent child. Since, qualifying widow (er) is the most advantageous status and Parker qualifies, Parker would file as a qualifying widow (er).
Choice "a" is incorrect. Even though Parker would qualify as single, filing single would give Parker a high tax liability than the qualifying widow (er) status and therefore is not most advantageous. Choice "b" is incorrect. Parker would not qualify as head of household for the first two years after the death of Parker's spouse because one of the requirements for Head of Household status is that the taxpayer is NOT a surviving spouse. (Also, note that the likely reason for this requirement is that filing as Head of Household status would give the qualifying surviving spouse taxpayer a higher tax liability than the Qualifying Widow(er) status, which would be less advantageous.) Choice "c" is incorrect. Parker would not qualify to file married filing separately.
QUESTION 28
Barkley owns a vacation cabin that was rented to unrelated parties for 10 days during the year for $2,500. The cabin was used personally by Barkley for three months and left vacant for the rest of the year. Expenses for the cabin were as follows:
Real estate taxes $1,000 Maintenance and utilities $2,000
How much rental income (loss) is included in Barkley's adjusted gross income?
A. $0
B. $500
C. $(500) D. $(1,500)
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation
RULE: If a vacation residence is rented for less than 15 days per year, it is treated as a personal residence. The rental income is excluded from income, and mortgage interest (first or second home) and real estate taxes are allowed as itemized deductions. Depreciation, utilities, and repairs are not deductible.
Choice "a" is correct. Applying the rule above, if a vacation residence is rented for less than 15 days per year, it is treated as a personal residence. The rental income ($2,500 in this case) is excluded from income. A Schedule E is not filed for this property (i.e., no income is reported, the taxes are reported as itemized deductions, and the maintenance and utilities are not deductible), so the effect on AGI is zero. Choice "b" is incorrect. This assumes that the property taxes are reported as itemized deductions but that the rental income ($2,500) less the maintenance and utilities ($2,000) are reported net on Schedule E.
Per the above RULE, the rental income is excluded from income, and the maintenance and utilities are not deductible.
Choice "c" is incorrect. This assumes that all of the items shown are reported net on the Schedule E- $2,500 - $1,000 - $2,000 = ($500). Per the above RULE, the rental income is excluded from income, the maintenance and utilities are not deductible, and the property taxes are reported on Schedule A as an itemized deduction.
Choice "d" is incorrect, per the above rule and discussion.
QUESTION 29
Tom and Joan Moore, both CPAs, filed a joint 1994 federal income tax return showing $70,000 in taxable income. During 1994, Tom's daughter Laura, age 16, resided with Tom. Laura had no income of her own and was Tom's dependent.
Determine the amount of income or loss, if any that should be included on page one of the Moores' 1994 Form 1040.
The Moores had no capital loss carryovers from prior years. During 1994, the Moores had the following stock transactions, which resulted in a net capital loss:
A. $0
B. $500
C. $900
D. $1,000 E. $1,250 F. $1,300 G. $1,500 H. $2,000 I. $2,500 J. $3,000 K. $10,000 L. $25,000 M. $50,000 N. $55,000 O. $75,000
Correct Answer: J Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
"J" is correct. $3,000. The capital loss on Revco ($10,000 loss) is added to the capital gain on Abbco ($4,000) to produce a net capital loss of ($6,000). The Moores can claim $3,000 of the loss on their 1994 income tax return and carry the balance forward to 1995.
QUESTION 30
Tom and Joan Moore, both CPAs, filed a joint 1994 federal income tax return showing $70,000 in taxable income. During 1994, Tom's daughter Laura, age 16, resided with Tom. Laura had no income of her own and was Tom's dependent.
Determine the amount of income or loss, if any that should be included on page one of the Moores' 1994 Form 1040.
In 1992, Joan received an acre of land as an inter-vivos gift from her grandfather. At the time of the gift, the land had a fair market value of $50,000. The grandfather's adjusted basis was $60,000. Joan sold the land in 1994 to an unrelated third party for $56,000.
A. $0
B. $500
C. $900
D. $1,000 E. $1,250 F. $1,300 G. $1,500 H. $2,000 I. $2,500 J. $3,000 K. $10,000 L. $25,000 M. $50,000 N. $55,000 O. $75,000
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
"A" is correct. $0. Property received by gift has two bases: one for computing gain and another for computing loss. Joan's basis for gain is the grandfather's
adjusted basis ($60,000). Using this basis for gain, Joan has a loss of: $56,000 - $60,000 = ($4,000 loss). Joan's basis for loss is the fair market value of the property on the date of the gift ($50,000). Using this basis for loss, Joan has a gain of: $56,000 - $50,000 = $6,000 gain. In this unusual situation, Joan has neither a gain nor a loss, although the transaction must be reported.
QUESTION 31
During 2001, Adler had the following cash receipts:
What is the total amount that must be included in gross income on Adler's 2001 income tax return?
A. $18,000 B. $18,400 C. $19,500 D. $19,900
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. The wages of $18,000 and unemployment compensation are both includable in gross income on Adler's 2001 income tax return.
Choice "a" is incorrect. The unemployment compensation must be included in gross income. Choice "b" is incorrect. Municipal bond interest income is excluded from gross income and the unemployment compensation must be included in gross income. Choice "d" is incorrect. Municipal bond interest income is excluded from gross income.
QUESTION 32
Hall, a divorced person and custodian of her 12-year old child, filed her 1990 federal income tax return as head of a household. She submitted the following information to the CPA who prepared her 1990 return:
A. $36,000 B. $28,800 C. $5,000 D. $0
· The divorce agreement, executed in 1983, provides for Hall to receive $3,000 per month, of which $600 is designated as child support. After the child reaches 18, the monthly payments are to be reduced to $2,400 and are to continue until remarriage or death. However, for the year 1990, Hall received a total of only $5,000 from her former husband. Hall paid an attorney $2,000 in 1990 in a suit to collect the alimony owed.
· In June 1990, Hall's mother gifted her 100 shares of a listed stock. The donor's basis for this stock, which she bought in 1970, was $4,000, and market value on the date of the gift was $3,000. Hall sold this stock in July 1990 for $3,500. The donor paid no gift tax. · During 1990, Hall spent a total of $1,000 for state lottery tickets. Her lottery winnings in 1990 totaled $200.
· Hall earned a salary of $25,000 in 1990. Hall was not covered by any type of retirement plan, but contributed $2,000 to an IRA in 1990.
· In 1990, Hall sold an antique that she bought in 1980 to display in her home. Hall paid $800 for the antique and sold it for $1,400, using the proceeds to pay a court-ordered judgment. · Hall paid the following expenses in 1990 pertaining to the home that she owns: realty taxes, $3,400; mortgage interest, $7,000; casualty insurance, $490; assessment by city for construction of a sewer system, $910; interest of $1,000 on a personal, unsecured bank loan, the proceeds of which were used for home improvements. Hall does not rent out any portion of the home.
What amount should be reported in Hall's 1990 return as alimony income?
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. None of the payments received should be considered alimony income. Hall would only claim alimony income if total receipts from her former spouse exceeded $7,200 (the required child support).
Rule: In the event of payments consisting of both child support and alimony, child support obligations will be satisfied first.
QUESTION 33
A cash basis taxpayer should report gross income:
A. Onlyfortheyearinwhichincomeisactuallyreceivedincash.
B. Onlyfortheyearinwhichincomeisactuallyreceivedwhetherincashorinproperty.
C. For the year in which income is either actually or constructively received in cash only.
D. For the year in which income is either actually or constructively received, whether in cash or in property.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. A cash basis taxpayer should report gross income for the year in which income is either actually or constructively received, whether in cash or in property. Choice "a" is incorrect. Income also be constructively received in property - not only actually in cash. Choice "b" is incorrect. Income also be constructively received - not only actually. Choice "c" is incorrect. Income also be received in property - not only cash.
QUESTION 34
Tom and Joan Moore, both CPAs, filed a joint 1994 federal income tax return showing $70,000 in taxable income. During 1994, Tom's daughter Laura, age 16, resided with Tom. Laura had no income of her own and was Tom's dependent.
Determine the amount of income or loss, if any that should be included on page one of the Moores' 1994 Form 1040.
The Moores received a $500 security deposit on their rental property in 1994. They are required to return the amount to the tenant.
A. $0
B. $500 C. $900 D. $1,000 E. $1,250
F. $1,300 G. $1,500 H. $2,000 I. $2,500 J. $3,000 K. $10,000 L. $25,000 M. $50,000 N. $55,000 O. $75,000
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
"A" is correct. $0. The security deposit is not taxable income because the Moores are required to return it when the tenant leaves. If the deposit is applied to damages in a later tax year, the portion the Moores retain would be income to them in the year they retain the deposit, and the money they spend to repair the damage would be a deduction to them.
QUESTION 35
In 19X4, Smith, a divorced person, provided over one half the support for his widowed mother, Ruth, and his son, Clay, both of whom are U.S. citizens. During 19X4, Ruth did not live with Smith. She received $9,000 in Social Security benefits. Clay, a 25 year-old full-time graduate student, and his wife lived with Smith. Clay had no income but filed a joint return for 19X4, owing an additional $500 in taxes on his wife's income. How many exemptions was Smith entitled to claim on his 19X4 tax return?
A. 4 B. 3 C. 2 D. 1
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. Smith is entitled to an exemption for himself. He is also entitled to an exemption for his mother Ruth (qualifying relative). Ruth has $9,000 in Social Security payments during 19X4, but since that is her only income, the Social Security is not taxable, and nontaxable income does not count in calculating whether an exemption can be taken for a dependent. Clay cannot be taken as a dependent because he filed a joint return with his wife. Since the joint return was filed for a purpose other than simply claiming a refund, the joint return prevents Smith from claiming an exemption for Clay. An exemption cannot be taken for Clay's wife because she filed a joint return with Clay. Smith is entitled to two exemptions.
Choice "a" is incorrect. Clay cannot be taken as a dependent because he filed a joint return with his wife. Since the joint return was filed for a purpose other than simply claiming a refund, the joint return prevents Smith from claiming an exemption for Clay. An exemption cannot be taken for Clay's wife because she filed a joint return with Clay.
Choice "b" is incorrect. Clay cannot be taken as a dependent because he filed a joint return with his wife. Since the joint return was filed for a purpose other than simply claiming a refund, the joint return prevents Smith from claiming an exemption for Clay. An exemption cannot be taken for Clay's wife because she filed a joint return with Clay.
Choice "d" is incorrect. Smith is entitled to an exemption for his mother, Ruth. Ruth has $9,000 in Social Security payments during 19X4, but because that is her only income, the Social Security income is not taxable, and nontaxable income does not count in calculating whether an exemption can be taken for a dependent.
Individual Taxation - Gross Income
QUESTION 36
Baum, an unmarried optometrist and sole proprietor of Optics, buys and maintains a supply of eyeglasses and frames to sell in the ordinary course of business. In 1999, Optics had $350,000 in gross business receipts and its year-end inventory was not subject to the uniform capitalization rules. Baum's 1999 adjusted gross income was $90,000 and Baum qualified to itemize deductions. During 1999, Baum recorded the following information:
Business expenses:
What amount should Baum report as 1999 net earnings from self-employment?
A. $243,250 B. $252,000 C. $273,000 D. $281,750
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. Baum should report $281,750 as 1999 net earnings from self-employment (line 12 of the Form 1040), calculated as follows:
Choices "a", "b", and "c" are incorrect. Self-employment tax and self-employment health insurance expenses are adjustments from total gross income. They are not deducted from self-employment earnings (i.e., not reported net on line 12 of the Form 1040). Note: There are many distracters in this question, all relating to items that are either deductible as part of itemized deductions or not deductible. Be careful to read the requirement of the question before spending unnecessary time on the question. The statement that Baum's year-end inventory was not subject to the uniform capitalization rules is a distracter as well. There is not enough information given in the facts to apply the rules if he had been subject to them.
QUESTION 37
On December 1, 1997, Krest, a self-employed cash basis taxpayer, borrowed $200,000 to use in her business. The loan was to be repaid on November 30, 1998. Krest paid the entire interest amount of $24,000 on December 1, 1997. What amount of interest was deductible on Krest's 1997 income tax return?
A. $0
B. $2,000 C. $22,000 D. $24,000
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "b" is correct. Cash basis taxpayers deduct interest in the year paid or the year to which the interest relates, whichever is later. Even though all of the interest on this loan was paid on December 1, 1997, only the interest relating to December 1997 can be deducted in 1997. The question does not give an interest rate, but because the loan is to be repaid in a lump sum at maturity, 1/12 of the interest, or $2,000 applies to each month.
Choice "a" is incorrect. Because $2,000 of the interest relates to 1997, this amount is deductible in 1997.
Choice "c" is incorrect. This is the amount that cannot be deducted until 1998, the year to which the interest relates. Be sure to read questions like this very carefully, because if you had simply misread the question as seeking the amount deductible in 1998, you would get the question wrong despite understanding the rule.
Choice "d" is incorrect. Cash basis taxpayers can deduct interest in the year paid or the year to which the interest relates, whichever is later, thus 11 months of the interest will not be deductible until 1998.
QUESTION 38
Which payment(s) is(are) included in a recipient's gross income?
A. Paymenttoagraduateassistantforapart-timeteachingassignmentatauniversity.Teachingisnotarequirementtowardobtainingthedegree. II. A grant to a Ph.D. candidate for his participation in a university-sponsored research project for the benefit of the university.
B. Ionly.
C. II only.
D. Both I and II.
E. NeitherInorII.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation: Explanation
Choice "c" is correct.
I. A payment to a student for a part-time teaching assignment is taxable income just as a payment for any other campus job would be. This is not a scholarship or fellowship. II. There is no exclusion in the tax law for amounts paid to a degree candidate for participation in university-sponsored research.
QUESTION 39
Under the uniform capitalization rules applicable to property acquired for resale, which of the following costs should be capitalized with respect to inventory if no exceptions are met?
A. Option A B. OptionB C. Option C D. Option D
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. Under the uniform capitalization rules, purchasers of inventory for resale may deduct their marketing costs but must capitalize their off-site storage costs. Choices "a", "b", and "c" are incorrect. Marketing costs are deductible, but off-site storage must be capitalized.
QUESTION 40
In a tax year where the taxpayer pays qualified education expenses, interest income on the redemption of qualified U.S. Series EE Bonds may be excluded from gross income. The exclusion is subject to a modified gross income limitation and a limit of aggregate bond proceeds in excess of qualified higher education expenses. Which of the following is (are) true?
A. Theexclusionappliesforeducationexpensesincurredbythetaxpayer,thetaxpayer'sspouse,oranypersonwhomthetaxpayermayclaimasadependentfor the year.
II. "Otherwise qualified higher education expenses" must be reduced by qualified scholarships not includible in gross income. B. Ionly.
C. II only.
D. Both I and II.
E. NeitherInorII.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. Interest earned on Series EE bonds issued after 1989 may qualify for exclusion. One requirement is that the interest is used to pay tuition and fees for the taxpayer, spouse, or dependent enrolled in higher education. The interest exclusion is reduced by qualified scholarships that are exempt from tax and other nontaxable payments received for educational expenses (other than gifts and inheritances).
QUESTION 41
Which one of the following will result in an accruable expense for an accrual-basis taxpayer?
A. Aninvoicedatedpriortoyearendbuttherepaircompletedafteryearend. B. Arepaircompletedpriortoyearendbutnotinvoiced.
C. A repair completed prior to year end and paid upon completion.
D. A signed contract for repair work to be done and the work is to be completed at a later date.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
RULE: An accruable expense is one is which the services have been received/performed but have not been paid for by the end of the reporting period.
Choice "b" is correct. The facts indicate that a repair was completed prior to year end but not yet invoiced. If it has not yet been invoiced, it is assumed that it has also not yet been paid for. Therefore, this is a situation in which the repair expense would be accrued at year end. Services have been performed, but they have not been paid for, as they have not even been invoiced yet. Choice "a" is incorrect. If the repair was completed after year end, then the expense is not accruable, as the benefit of the services hasn't been received as of year end. The fact that the repair was invoiced prior to year end does not impact the situation.
Choice "c" is incorrect. If a repair was completed and paid for prior to year end, no accrual is appropriate. On the accrual basis, the expense is taken in the year the repair is completed and the benefit is received. In this case, the account payable was also paid in the same year, but this has no effect on the expense.
Choice "d" is incorrect. The facts indicate that the work is to be completed at a date later than year end. Therefore, the expense is not accruable at year end, as the benefit of the repair hasn't been received as of year end. It is reasonable that a signed contract for the repair work exists, but this has no effect on the accrual.
QUESTION 42
Which of the following is subject to the Uniform Capitalization Rules of Code Sec. 263A?
A. Editorialcostsincurredbyafreelancewriter.
B. Researchandexperimentalexpenditures.
C. Mine development and exploration costs.
D. Warehousing costs incurred by a manufacturing company with $12 million in annual gross receipts.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. Uniform capitalization rules apply to the following: (1) real or tangible personal property produced by the taxpayer for use in his or her trade or business; (2) real or tangible personal property produced by the taxpayer for sale to his or her customers; and (3) real or tangible personal property acquired by the taxpayer for resale, provided the taxpayer's annual average gross receipts for the preceding three years exceeds $10,000,000. Warehousing costs incurred by a manufacturing company (making inventory for sale to its customers) are subject to the Uniform Capitalization Rules. Further, they are the only item on the list that is real or tangible personal property. In this case, the inventory is not acquired for resale (it is produced by the taxpayer for sale to his or her customers), so the fact that the annual sales are $12,000,000 does not matter in this case. The sales could have been less than $10,000,000 annually, and the Uniform Capitalization
Rules would still have applied. Choices "a", "b", and "c" are incorrect, based on the above discussion.
QUESTION 43
Under the uniform capitalization rules applicable to taxpayers with property acquired for resale, which of the following costs should be capitalized with respect to inventory if no exceptions have been met?
A. Option A B. OptionB C. Option C D. Option D
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "a" is correct. Direct material, direct labor, and factory overhead (applicable indirect costs) are capitalized with respect to inventory under the uniform capitalization rules for property acquired for resale. Applicable indirect costs include depreciation and amortization, insurance, supervisory wages, utilities, spoilage and scrap, design expenses, repair and maintenance and rental of equipment and facilities (including offsite storage), some administrative costs, costs of bonus and other incentive plans, and indirect supplies and other materials (including repackaging costs). Choices "b", "c", and "d" are incorrect, per the above discussion. Individual Taxation - Capital Gains and Losses
QUESTION 44
Smith made a gift of property to Thompson. Smith's basis in the property was $1,200. The fair market value at the time of the gift was $1,400. Thompson sold the property for $2,500. What was the amount of Thompson's gain on the disposition?
A. $0
B. $1,100 C. $1,300
D. $2,500
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. The general rule for the basis on gifted property is that the donee receives the property with a rollover cost basis (equal to the donor's basis). An exception exists where the fair market value of the property at the time of the gift is less than the donor's basis. That is not the case in this question; thus, the calculation of the gain on the disposition of the property is:
Choice "a" is incorrect. This choice could be correct if the facts of the question met the exception whereby no gain or loss is recognized when a donee sells gifted property for an amount between the donor's basis and the fair market value at the date of the gift. Choice "b" is incorrect. This choice uses the basis as the fair market value of the property. Fair market value of property at date of death is used as the basis for inherited property, not gifted property. Choice "d" is incorrect. This choice assumes that Thompson's basis is zero. His basis is $1,200 as indicated above.
QUESTION 45
Rich is a cash basis self-employed air-conditioning repairman with 1993 gross business receipts of $20,000. Rich's cash disbursements were as follows:
What amount should Rich report as net self-employment income?
A. $15,100 B. $14,900 C. $14,100 D. $13,900
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "a" is correct. Deductions to arrive at net self-employed income include all necessary and ordinary expenses connected with the business. Estimated federal income tax payments are not an expense. Charitable contributions by an individual are only deductible as an itemized deduction on Schedule A. This assumes the contribution was not made with the "expectation of commensurate financial return."
Choice "b" is incorrect. Charitable contributions are an itemized deduction unless there is an expectation of commensurate financial return.
Choice "c" is incorrect. Federal income taxes paid are not a deductible expense. Choice "d" is incorrect. Charitable contributions are an itemized deduction unless there is an expectation of commensurate financial return. Federal income taxes paid are not a deductible expense.
QUESTION 46
On December 1, 1992, Michaels, a self-employed cash basis taxpayer, borrowed $100,000 to use in her business. The loan was to be repaid on November 30, 1993. Michaels paid the entire interest of $12,000 on December 1, 1992. What amount of interest was deductible on Michaels' 1993 income tax return?
A. $12,000 B. $11,000 C. $1,000 D. $0
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation: Explanation
Choice "b" is correct. Prepaid interest must be prorated over the time for which payment is made. This is true for both cash and accrual basis taxpayers. The loan is for 1 month in 1992 and 11 months in 1993. Therefore, 1/12 of the interest is deductible in 1992 and 11/12, or $11,000 is deductible in 1993. Choices "a", "c", and "d" are incorrect. Prepaid interest must be prorated over the time for which payment is made. This is true for both cash and accrual basis taxpayers.
QUESTION 47
Mosh, a sole proprietor, uses the cash basis of accounting. At the beginning of the current year, accounts receivable were $25,000. During the year, Mosh collected $100,000 from customers. At the end of the year, accounts receivable were $15,000. What was Mosh's gross taxable income for the current year?
A. $75,000 B. $90,000 C. $100,000 D. $110,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. The facts state that cash collections from customers were $100,000 and as a cash basis taxpayer this is the amount of Mosh's gross taxable income for the year. Note that according to the formula BASE - we can determine the amount of sales = $90,000, but that would give us accrual, not cash basis, income.
Choice "a" is incorrect. See explanation above.
Choice "b" is incorrect. $90,000 is the amount of sales that would be Mosh's taxable income if Mosh were an accrual basis taxpayer. Choice "d" is incorrect. See explanation above.
QUESTION 48
Porter was unemployed for part of the year. Porter received $35,000 of wages, $4,000 from a state unemployment compensation plan, and $2,000 from his former employer's company-paid supplemental unemployment benefit plan. What is the amount of Porter's gross income?
A. $35,000 B. $37,000 C. $39,000 D. $41,000
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
RULE: Gross income includes all income unless it is specifically excluded in the tax code. Choice "d" is correct. Wages and all unemployment compensation are not excluded from being taxable; therefore, there are included in the taxpayer's gross income for tax purposes.
Choice "a" is incorrect. All forms of unemployment compensation are included as part of gross income. Choice "b" is incorrect. The $4,000 of state unemployment compensation received is included as part of gross income.
Choice "c" is incorrect. The $2,000 of his former employer's company-paid supplemental unemployment benefit plan is included as part of gross income.
QUESTION 49
Leker exchanged a van that was used exclusively for business and had an adjusted tax basis of $20,000 for a new van. The new van had a fair market value of $10,000, and Leker also received $3,000 in cash.
What was Leker's tax basis in the acquired van?
A. $20,000 B. $17,000 C. $13,000 D. $7,000
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "b" is correct. $17,000 is the tax basis in the van. The basis for like-kind exchanges is computed as follows:
The general rule is the gain is recognized to the extent boot is received. As the transaction results in a loss to Leker (he received an asset worth $10,000 plus $3,000 cash less a $20,000 tax basis equals $7,000 loss) no gain is recognized and the $3,000 received reduces his basis in the new asset. Choice "a" is incorrect. Basis must be reduced by non-like-kind assets (boot) received. Choice "c" is incorrect. For non-like-kind exchanges, the basis would be the FMV of the assets received ($10,000 FMV plus $3,000 Boot). However, because both assets have similar use, this is a like-kind exchange, which follows the rule above.
Choice "d" is incorrect. The basis of the old property is used to calculate the basis of the new property, less any boot received.
Financial Accounting and Reporting QUESTION 1
According to the FASB conceptual framework, which of the following relates to both relevance and reliability?
A. Comparability. B. Feedback value. C. Verifiability.
D. Timeliness.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Comparability and consistency are secondary qualities of both relevance and reliability. SFAC 2 para. 111-122
Choice "b" is incorrect. Feedback value is a key characteristic of relevance only. Choice "c" is incorrect. Verifiability is a key characteristic of reliability only. Choice "d" is incorrect. Timeliness is a key characteristic of relevance only.
QUESTION 2
Which of the following is true regarding the comparison of managerial to financial accounting?
A. Managerialaccountingisgenerallymoreprecise.
B. Managerialaccountinghasapastfocusandfinancialaccountinghasafuturefocus.
C. The emphasis on managerial accounting is relevance and the emphasis on financial accounting is timeliness.
D. Managerial accounting need not follow generally accepted accounting principles (GAAP) while financial accounting must follow them.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Public companies must follow GAAP for (external) financial reporting purposes. GAAP need not be followed for (internal) managerial accounting purposes. Choice "a" is incorrect. Financial accounting is generally more precise. Choice "b" is incorrect. Managerial accounting has a future focus, while financial accounting focuses on reporting past results.
Choice "c" is incorrect. The emphasis of financial accounting is providing useful information to financial statement users (including the characteristic of relevance), while the emphasis of managerial accounting is providing timely information to management decision makers.
QUESTION 3
Which of the following is a generally accepted accounting principle that illustrates the practice of conservatism during a particular reporting period?
A. Capitalizationofresearchanddevelopmentcosts.
B. Accrualofacontingencydeemedtobereasonablypossible.
C. Reporting investments with appreciated market values at market value. D. Reporting inventory at the lower of cost or market value.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. The rule of conservatism states that revenues and gains should be recognized when the earnings process is complete, but that expenses and losses should be expensed immediately. Reporting inventory at the lower of cost or market requires the recording of a loss on inventory when market is lower than cost in the period the loss is sustained, rather than when the inventory is sold, consistent with the rule of conservatism.
Choice "a" is incorrect. Because the future benefits of R&D costs are questionable, these cost should be expensed immediately, consistent with the rule of conservatism and the matching principle. Choice "b" is incorrect. The rule of conservatism only requires the accrual of "probable" losses. The accrual of a reasonably possible loss is not required and the accrual of any contingent gain, whether probable, reasonably possible, or remote, is prohibited. Choice "c" is incorrect. The reporting of marketable securities with appreciated values at market value requires the recording of a gain on the asset before the gain is realized. This contradicts the rule of conservatism, but is allowed because fair value is a more relevant measure of the value of marketable securities.
QUESTION 4
Arpco, Inc., a for-profit provider of healthcare services, recently purchased two smaller companies and is researching accounting issues arising from the two business combinations. Which of the following accounting pronouncements are the most authoritative?
A. AICAStatementsofPosition.
B. AICP A Industry and Audit Guides.
C. FASB Statements of Financial Accounting Concepts.
D. FASB Statements of Financial Accounting Standards.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Since Arpco is a for-profit provider of healthcare services, it is covered under normal GAAP. Thus, the most authoritative pronouncements are the FASB Statements of Financial Accounting Standards (SFAS).
Choice "a" is incorrect. AICPA Statements of Position are not the most authoritative pronouncement for almost anything (other than for some issues that only they cover). They are normally "merely" the opinion of the AICPA.
Choice "b" is incorrect. AICPA Industry and Audit Guides are not the most authoritative pronouncement for almost anything (other than for some issues that only they cover). Choice "c" is incorrect. FASB Statements of Financial Accounting Concepts are not authoritative pronouncements except where they have been incorporated by reference into an SFAS. They are the basis on which SFAS can be constructed.
QUESTION 5
According to the FASB conceptual framework, the quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called:
A. Feedback value.
B. Predictivevalue.
C. Representational faithfulness. D. Reliability.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. The quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called predictive value. Forecasting is predicting. Choice "a" is incorrect. The quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called predictive value, not feedback value. Feedback value enables decision makers to confirm prior expectations or to adjust or correct the decisions made previously.
Choice "c" is incorrect. The quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called predictive value, not representational faithfulness. Representational faithfulness is the agreement between financial reporting and the resources or events represented.
Choice "d" is incorrect. The quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called
predictive value, not reliability. Reliability is the combination of neutrality, representational faithfulness, and verifiability.
QUESTION 6
Which of the following assumptions means that money is the common denominator of economic activity and provides an appropriate basis for accounting measurement and analysis?
A. Goingconcern. B. Periodicity.
C. Monetaryunit. D. Economic entity.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The monetary unit assumption means that money is the common denominator for economic activity and provides an appropriate basis for accounting measurements and analysis. Choice "a" is incorrect. The going concern assumption has nothing to do with money per se. The going concern assumption presumes that an entity will continue to operate in the foreseeable future. Choice "b" is incorrect. The periodicity has nothing to do with money per se. The periodicity assumption is that economic activity can be divided into meaningful time periods. Choice "d" is incorrect. The economic entity assumption has nothing to do with money per se. The economic entity assumption is that economic activity can be accounted for when considering an identifiable set of activities.
QUESTION 7
Which of the following statements best describes an operating procedure for issuing a new Financial Accounting Standards Board (FASB) statement?
A. Theemergingissuestaskforcemustapproveadiscussionmemorandumbeforeitisdisseminatedtothepublic. B. Theexposuredraftismodifiedperpublicopinionbeforeissuingthediscussionmemorandum.
C. AnewstatementisissuedonlyafteramajorityvotebythemembersoftheFASB.
D. A new FASB statement can be rescinded by a majority vote of the AICPA membership.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. A new statement from the FASB is issued only after a majority vote of the members of the FASB.
Choice "a" is incorrect. There is no necessity for the EITF to approve a discussion memorandum (presumably the question means a discussion memorandum of the FASB statement itself and not an EITF statement) before it is disseminated to the public.
Choice "b" is incorrect. There is no necessity for an exposure draft to be modified per public opinion before issuing the discussion memorandum (a question can be raised here as to "what" discussion memorandum"). Exposure drafts are quite/most often modified before they are issued as FASB statements, but they do not have to be. Whether they are or are not modified is a function of whether the FASB thinks they should be modified, partly due to the public comments that have been received. Choice "d" is incorrect. There is no way to rescind a new FASB statement, although, in reality, a FASB statement can be rescinded by the issuance of a new statement on the same subject. However, even if there was a way to rescind a new FASB statement, it would not be by a majority vote of the AICPA membership, but by a majority vote of the members of the FASB.
Reporting Net Income
QUESTION 8
An extraordinary gain should be reported as a direct increase to which of the following?
A. Netincome.
B. Comprehensiveincome.
C. Income from continuing operations, net of tax. D. Income from discontinued operations, net of tax.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Extraordinary items are reported as a component of net income, after income from continuing operations and discontinued operations. Choice "b" is incorrect. An extraordinary gain (or loss) only indirectly affects comprehensive income as a component of net income.
Choice "c" is incorrect. Extraordinary items are reported net of tax after income from continuing operations and discontinued operations.
Choice "d" is incorrect. Extraordinary items are reported net of tax after income from continuing operations and discontinued operations.
Income Statement
QUESTION 9
On December 2, 20X1, Flint Corp.'s board of directors voted to discontinue operations of its frozen food division and to sell the division's assets on the open market as soon as possible. The division reported net operating losses of $20,000 in December and $30,000 in January. On February 26, 20X2, sale of the division's assets resulted in a gain of $90,000. Assuming that the frozen foods division qualifies as a component of the business and ignoring income taxes, what amount of gain/loss from discontinued operations should Flint recognize in its income statement for 20X2?
A. $0
B. $40,000 C. $60,000 D. $90,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The $60,000 gain from discontinued operations would be reported in Flint's 20X2 income statement. The operating loss for January would offset the gain from disposal in February, and the net amount would be reported as a gain (in this case) from discontinued operations. The operating losses for December would have been reported in Flint's 20X1 income statement. Choice "a" is incorrect per the above. It would be correct if all of the gains and losses were included in 20X1 instead of 20X2. However, gains and losses from discontinued operations are included in the year they occur.
Choice "b" is incorrect. It includes the operating loss for December, 20X1 in with the 20X2 amounts. Choice "d" is incorrect. It ignores the January operating loss. Operating losses are included in gain/loss from discontinued operations, along with impairment losses and gains/losses on disposal.
QUESTION 10
Lore Co. changed from the cash basis of accounting to the accrual basis of accounting during 1994. The cumulative effect of this change should be reported in Lore's 1994 financial statements as a:
A. Priorperiodadjustmentresultingfromthecorrectionofanerror.
B. Priorperiodadjustmentresultingfromthechangeinaccountingprinciple. C. Component of income before extraordinary item.
D. Component of income after extraordinary item.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. The cash basis for financial reporting is not a generally accepted accounting basis of accounting (GAAP); therefore, it is an error. Correction of an error from a prior period is a reported as prior period adjustment to retained earnings.
Choice "b" is incorrect. Cash basis reporting is not an accounting principle under accrual accounting principles. Thus, the change from cash basis is not reported as a change in accounting principle. In addition, changes in accounting principle are not prior period adjustments; instead, they are treated retrospectively.
Choices "c" and "d" are incorrect. Correction of prior period errors has no effect on the current year's income statement.
QUESTION 11
A material loss should be presented separately as a component of income from continuing operations when it is:
A. Anextraordinaryitem.
B. Acumulativeeffecttypechangeinaccountingprinciple. C. Unusual in nature and infrequent in occurrence.
D. Not unusual in nature but infrequent in occurrence.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Gains or losses that are unusual in nature or occur infrequently but not both, are presented as a component of income from continuing operations. Choice "a" is incorrect. Extraordinary items are shown net of tax in a separate section of the income statement after income from continuing operations. Choice "b" is incorrect. Cumulative effects of changes in accounting principle are now shown net of tax as an adjustment to the opening balance of retained earnings in the retained earnings statement. This treatment is called retrospective application. There really are no longer any cumulative effect types of changes in accounting principle. The cumulative effect is merely how the amount of the change is measured.
Choice "c" is incorrect. This is the definition of an extraordinary item.
QUESTION 12
During 1994, Orca Corp. decided to change from the FIFO method of inventory valuation to the weightedaverage method. Inventory balances under each method were as follows:
Orca's income tax rate is 30%.
Orca should report the cumulative effect of this accounting change as a(n):
A. Adjustmenttobeginningretainedearnings.
B. Componentofincomefromcontinuingoperations. C. Extraordinaryitem.
D. Component of income after extraordinary items.
Correct Answer: A
Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. The cumulative effect of a change in accounting principle is shown as an adjustment to beginning retained earnings.
Choice "b" is incorrect. The cumulative effect of a change in accounting principle is now presented as a separate category on the retained earnings statement and is not a component of net income. Choice "c" is incorrect. Extraordinary items are unusual and infrequent in nature. Extraordinary items have nothing to do with changes in accounting principle. Choice "d" is incorrect. A change in accounting principle affects retained earnings, not the income statement, under SFAS No. 154.
QUESTION 13
A transaction that is unusual in nature and infrequent in occurrence should be reported separately as a component of income:
A. Aftercumulativeeffectofaccountingchangesandbeforediscontinuedoperationsofasegmentofabusiness. B. Aftercumulativeeffectofaccountingchangesandafterdiscontinuedoperationsofasegmentofabusiness.
C. Before cumulative effect of accounting changes and before discontinued operations of a segment of a business. D. After discontinued operations of a segment of a business.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. An extraordinary item (a transaction that is both "unusual in nature" and "infrequent in occurrence") should be reported separately as a component of income after discontinued operations of a segment of a business.
The cumulative effect of a change in accounting principle is shown on the retained earnings statement. This is why memorizing the mnemonic "idea" is so important.
QUESTION 14
How should the effect of a change in accounting estimate be accounted for?
A. Byrestatingamountsreportedinfinancialstatementsofpriorperiods. B. Byreportingproformaamountsforpriorperiods.
C. As a prior period adjustment to beginning retained earnings.
D. In the period of change and future periods if the change affects both.
Correct Answer: D
Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct, a "change in accounting estimate" affects only the current and subsequent (future) periods, if the change affects both. It does not affect "prior periods," nor "retained earnings." Choice "a" is incorrect. Restating prior years' financial statements is required when comparative financial statements are shown for prior period adjustments of "corrections of errors," "changes in entities," and changes in accounting principle.
Choices "b" and "c" are incorrect. A "change in accounting estimate" does not affect prior periods.
Parker, whose spouse died during the preceding year, has not remarried. Parker maintains a home for a dependent child. What is Parker's most advantageous filing status?
A. Single.
B. Headofhousehold.
C. Married filing separately.
D. Qualifying widow(er) with dependent child.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation
Choice "d" is correct. A qualifying widow (er) is a taxpayer who may use the joint tax return standard deduction and rates (but not the exemption for the deceased spouse) for each of two taxable years following the year of death of his or her spouse, unless he or she remarries. The surviving spouse must maintain a household that, for the whole entire taxable year, was the principal place of abode of a son, stepson, daughter, or stepdaughter (whether by blood or adoption). The surviving spouse must also be entitled to a dependency exemption for such individual. Parker may file as a qualifying widow (er) since her spouse died in the previous tax year, she did not remarry and she maintained a home for a dependent child. Since, qualifying widow (er) is the most advantageous status and Parker qualifies, Parker would file as a qualifying widow (er).
Choice "a" is incorrect. Even though Parker would qualify as single, filing single would give Parker a high tax liability than the qualifying widow (er) status and therefore is not most advantageous. Choice "b" is incorrect. Parker would not qualify as head of household for the first two years after the death of Parker's spouse because one of the requirements for Head of Household status is that the taxpayer is NOT a surviving spouse. (Also, note that the likely reason for this requirement is that filing as Head of Household status would give the qualifying surviving spouse taxpayer a higher tax liability than the Qualifying Widow(er) status, which would be less advantageous.) Choice "c" is incorrect. Parker would not qualify to file married filing separately.
QUESTION 28
Barkley owns a vacation cabin that was rented to unrelated parties for 10 days during the year for $2,500. The cabin was used personally by Barkley for three months and left vacant for the rest of the year. Expenses for the cabin were as follows:
Real estate taxes $1,000 Maintenance and utilities $2,000
How much rental income (loss) is included in Barkley's adjusted gross income?
A. $0
B. $500
C. $(500) D. $(1,500)
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation
RULE: If a vacation residence is rented for less than 15 days per year, it is treated as a personal residence. The rental income is excluded from income, and mortgage interest (first or second home) and real estate taxes are allowed as itemized deductions. Depreciation, utilities, and repairs are not deductible.
Choice "a" is correct. Applying the rule above, if a vacation residence is rented for less than 15 days per year, it is treated as a personal residence. The rental income ($2,500 in this case) is excluded from income. A Schedule E is not filed for this property (i.e., no income is reported, the taxes are reported as itemized deductions, and the maintenance and utilities are not deductible), so the effect on AGI is zero. Choice "b" is incorrect. This assumes that the property taxes are reported as itemized deductions but that the rental income ($2,500) less the maintenance and utilities ($2,000) are reported net on Schedule E.
Per the above RULE, the rental income is excluded from income, and the maintenance and utilities are not deductible.
Choice "c" is incorrect. This assumes that all of the items shown are reported net on the Schedule E- $2,500 - $1,000 - $2,000 = ($500). Per the above RULE, the rental income is excluded from income, the maintenance and utilities are not deductible, and the property taxes are reported on Schedule A as an itemized deduction.
Choice "d" is incorrect, per the above rule and discussion.
QUESTION 29
Tom and Joan Moore, both CPAs, filed a joint 1994 federal income tax return showing $70,000 in taxable income. During 1994, Tom's daughter Laura, age 16, resided with Tom. Laura had no income of her own and was Tom's dependent.
Determine the amount of income or loss, if any that should be included on page one of the Moores' 1994 Form 1040.
The Moores had no capital loss carryovers from prior years. During 1994, the Moores had the following stock transactions, which resulted in a net capital loss:
A. $0
B. $500
C. $900
D. $1,000 E. $1,250 F. $1,300 G. $1,500 H. $2,000 I. $2,500 J. $3,000 K. $10,000 L. $25,000 M. $50,000 N. $55,000 O. $75,000
Correct Answer: J Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
"J" is correct. $3,000. The capital loss on Revco ($10,000 loss) is added to the capital gain on Abbco ($4,000) to produce a net capital loss of ($6,000). The Moores can claim $3,000 of the loss on their 1994 income tax return and carry the balance forward to 1995.
QUESTION 30
Tom and Joan Moore, both CPAs, filed a joint 1994 federal income tax return showing $70,000 in taxable income. During 1994, Tom's daughter Laura, age 16, resided with Tom. Laura had no income of her own and was Tom's dependent.
Determine the amount of income or loss, if any that should be included on page one of the Moores' 1994 Form 1040.
In 1992, Joan received an acre of land as an inter-vivos gift from her grandfather. At the time of the gift, the land had a fair market value of $50,000. The grandfather's adjusted basis was $60,000. Joan sold the land in 1994 to an unrelated third party for $56,000.
A. $0
B. $500
C. $900
D. $1,000 E. $1,250 F. $1,300 G. $1,500 H. $2,000 I. $2,500 J. $3,000 K. $10,000 L. $25,000 M. $50,000 N. $55,000 O. $75,000
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
"A" is correct. $0. Property received by gift has two bases: one for computing gain and another for computing loss. Joan's basis for gain is the grandfather's
adjusted basis ($60,000). Using this basis for gain, Joan has a loss of: $56,000 - $60,000 = ($4,000 loss). Joan's basis for loss is the fair market value of the property on the date of the gift ($50,000). Using this basis for loss, Joan has a gain of: $56,000 - $50,000 = $6,000 gain. In this unusual situation, Joan has neither a gain nor a loss, although the transaction must be reported.
QUESTION 31
During 2001, Adler had the following cash receipts:
What is the total amount that must be included in gross income on Adler's 2001 income tax return?
A. $18,000 B. $18,400 C. $19,500 D. $19,900
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. The wages of $18,000 and unemployment compensation are both includable in gross income on Adler's 2001 income tax return.
Choice "a" is incorrect. The unemployment compensation must be included in gross income. Choice "b" is incorrect. Municipal bond interest income is excluded from gross income and the unemployment compensation must be included in gross income. Choice "d" is incorrect. Municipal bond interest income is excluded from gross income.
QUESTION 32
Hall, a divorced person and custodian of her 12-year old child, filed her 1990 federal income tax return as head of a household. She submitted the following information to the CPA who prepared her 1990 return:
A. $36,000 B. $28,800 C. $5,000 D. $0
· The divorce agreement, executed in 1983, provides for Hall to receive $3,000 per month, of which $600 is designated as child support. After the child reaches 18, the monthly payments are to be reduced to $2,400 and are to continue until remarriage or death. However, for the year 1990, Hall received a total of only $5,000 from her former husband. Hall paid an attorney $2,000 in 1990 in a suit to collect the alimony owed.
· In June 1990, Hall's mother gifted her 100 shares of a listed stock. The donor's basis for this stock, which she bought in 1970, was $4,000, and market value on the date of the gift was $3,000. Hall sold this stock in July 1990 for $3,500. The donor paid no gift tax. · During 1990, Hall spent a total of $1,000 for state lottery tickets. Her lottery winnings in 1990 totaled $200.
· Hall earned a salary of $25,000 in 1990. Hall was not covered by any type of retirement plan, but contributed $2,000 to an IRA in 1990.
· In 1990, Hall sold an antique that she bought in 1980 to display in her home. Hall paid $800 for the antique and sold it for $1,400, using the proceeds to pay a court-ordered judgment. · Hall paid the following expenses in 1990 pertaining to the home that she owns: realty taxes, $3,400; mortgage interest, $7,000; casualty insurance, $490; assessment by city for construction of a sewer system, $910; interest of $1,000 on a personal, unsecured bank loan, the proceeds of which were used for home improvements. Hall does not rent out any portion of the home.
What amount should be reported in Hall's 1990 return as alimony income?
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. None of the payments received should be considered alimony income. Hall would only claim alimony income if total receipts from her former spouse exceeded $7,200 (the required child support).
Rule: In the event of payments consisting of both child support and alimony, child support obligations will be satisfied first.
QUESTION 33
A cash basis taxpayer should report gross income:
A. Onlyfortheyearinwhichincomeisactuallyreceivedincash.
B. Onlyfortheyearinwhichincomeisactuallyreceivedwhetherincashorinproperty.
C. For the year in which income is either actually or constructively received in cash only.
D. For the year in which income is either actually or constructively received, whether in cash or in property.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. A cash basis taxpayer should report gross income for the year in which income is either actually or constructively received, whether in cash or in property. Choice "a" is incorrect. Income also be constructively received in property - not only actually in cash. Choice "b" is incorrect. Income also be constructively received - not only actually. Choice "c" is incorrect. Income also be received in property - not only cash.
QUESTION 34
Tom and Joan Moore, both CPAs, filed a joint 1994 federal income tax return showing $70,000 in taxable income. During 1994, Tom's daughter Laura, age 16, resided with Tom. Laura had no income of her own and was Tom's dependent.
Determine the amount of income or loss, if any that should be included on page one of the Moores' 1994 Form 1040.
The Moores received a $500 security deposit on their rental property in 1994. They are required to return the amount to the tenant.
A. $0
B. $500 C. $900 D. $1,000 E. $1,250
F. $1,300 G. $1,500 H. $2,000 I. $2,500 J. $3,000 K. $10,000 L. $25,000 M. $50,000 N. $55,000 O. $75,000
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
"A" is correct. $0. The security deposit is not taxable income because the Moores are required to return it when the tenant leaves. If the deposit is applied to damages in a later tax year, the portion the Moores retain would be income to them in the year they retain the deposit, and the money they spend to repair the damage would be a deduction to them.
QUESTION 35
In 19X4, Smith, a divorced person, provided over one half the support for his widowed mother, Ruth, and his son, Clay, both of whom are U.S. citizens. During 19X4, Ruth did not live with Smith. She received $9,000 in Social Security benefits. Clay, a 25 year-old full-time graduate student, and his wife lived with Smith. Clay had no income but filed a joint return for 19X4, owing an additional $500 in taxes on his wife's income. How many exemptions was Smith entitled to claim on his 19X4 tax return?
A. 4 B. 3 C. 2 D. 1
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. Smith is entitled to an exemption for himself. He is also entitled to an exemption for his mother Ruth (qualifying relative). Ruth has $9,000 in Social Security payments during 19X4, but since that is her only income, the Social Security is not taxable, and nontaxable income does not count in calculating whether an exemption can be taken for a dependent. Clay cannot be taken as a dependent because he filed a joint return with his wife. Since the joint return was filed for a purpose other than simply claiming a refund, the joint return prevents Smith from claiming an exemption for Clay. An exemption cannot be taken for Clay's wife because she filed a joint return with Clay. Smith is entitled to two exemptions.
Choice "a" is incorrect. Clay cannot be taken as a dependent because he filed a joint return with his wife. Since the joint return was filed for a purpose other than simply claiming a refund, the joint return prevents Smith from claiming an exemption for Clay. An exemption cannot be taken for Clay's wife because she filed a joint return with Clay.
Choice "b" is incorrect. Clay cannot be taken as a dependent because he filed a joint return with his wife. Since the joint return was filed for a purpose other than simply claiming a refund, the joint return prevents Smith from claiming an exemption for Clay. An exemption cannot be taken for Clay's wife because she filed a joint return with Clay.
Choice "d" is incorrect. Smith is entitled to an exemption for his mother, Ruth. Ruth has $9,000 in Social Security payments during 19X4, but because that is her only income, the Social Security income is not taxable, and nontaxable income does not count in calculating whether an exemption can be taken for a dependent.
Individual Taxation - Gross Income
QUESTION 36
Baum, an unmarried optometrist and sole proprietor of Optics, buys and maintains a supply of eyeglasses and frames to sell in the ordinary course of business. In 1999, Optics had $350,000 in gross business receipts and its year-end inventory was not subject to the uniform capitalization rules. Baum's 1999 adjusted gross income was $90,000 and Baum qualified to itemize deductions. During 1999, Baum recorded the following information:
Business expenses:
What amount should Baum report as 1999 net earnings from self-employment?
A. $243,250 B. $252,000 C. $273,000 D. $281,750
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. Baum should report $281,750 as 1999 net earnings from self-employment (line 12 of the Form 1040), calculated as follows:
Choices "a", "b", and "c" are incorrect. Self-employment tax and self-employment health insurance expenses are adjustments from total gross income. They are not deducted from self-employment earnings (i.e., not reported net on line 12 of the Form 1040). Note: There are many distracters in this question, all relating to items that are either deductible as part of itemized deductions or not deductible. Be careful to read the requirement of the question before spending unnecessary time on the question. The statement that Baum's year-end inventory was not subject to the uniform capitalization rules is a distracter as well. There is not enough information given in the facts to apply the rules if he had been subject to them.
QUESTION 37
On December 1, 1997, Krest, a self-employed cash basis taxpayer, borrowed $200,000 to use in her business. The loan was to be repaid on November 30, 1998. Krest paid the entire interest amount of $24,000 on December 1, 1997. What amount of interest was deductible on Krest's 1997 income tax return?
A. $0
B. $2,000 C. $22,000 D. $24,000
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "b" is correct. Cash basis taxpayers deduct interest in the year paid or the year to which the interest relates, whichever is later. Even though all of the interest on this loan was paid on December 1, 1997, only the interest relating to December 1997 can be deducted in 1997. The question does not give an interest rate, but because the loan is to be repaid in a lump sum at maturity, 1/12 of the interest, or $2,000 applies to each month.
Choice "a" is incorrect. Because $2,000 of the interest relates to 1997, this amount is deductible in 1997.
Choice "c" is incorrect. This is the amount that cannot be deducted until 1998, the year to which the interest relates. Be sure to read questions like this very carefully, because if you had simply misread the question as seeking the amount deductible in 1998, you would get the question wrong despite understanding the rule.
Choice "d" is incorrect. Cash basis taxpayers can deduct interest in the year paid or the year to which the interest relates, whichever is later, thus 11 months of the interest will not be deductible until 1998.
QUESTION 38
Which payment(s) is(are) included in a recipient's gross income?
A. Paymenttoagraduateassistantforapart-timeteachingassignmentatauniversity.Teachingisnotarequirementtowardobtainingthedegree. II. A grant to a Ph.D. candidate for his participation in a university-sponsored research project for the benefit of the university.
B. Ionly.
C. II only.
D. Both I and II.
E. NeitherInorII.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation: Explanation
Choice "c" is correct.
I. A payment to a student for a part-time teaching assignment is taxable income just as a payment for any other campus job would be. This is not a scholarship or fellowship. II. There is no exclusion in the tax law for amounts paid to a degree candidate for participation in university-sponsored research.
QUESTION 39
Under the uniform capitalization rules applicable to property acquired for resale, which of the following costs should be capitalized with respect to inventory if no exceptions are met?
A. Option A B. OptionB C. Option C D. Option D
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. Under the uniform capitalization rules, purchasers of inventory for resale may deduct their marketing costs but must capitalize their off-site storage costs. Choices "a", "b", and "c" are incorrect. Marketing costs are deductible, but off-site storage must be capitalized.
QUESTION 40
In a tax year where the taxpayer pays qualified education expenses, interest income on the redemption of qualified U.S. Series EE Bonds may be excluded from gross income. The exclusion is subject to a modified gross income limitation and a limit of aggregate bond proceeds in excess of qualified higher education expenses. Which of the following is (are) true?
A. Theexclusionappliesforeducationexpensesincurredbythetaxpayer,thetaxpayer'sspouse,oranypersonwhomthetaxpayermayclaimasadependentfor the year.
II. "Otherwise qualified higher education expenses" must be reduced by qualified scholarships not includible in gross income. B. Ionly.
C. II only.
D. Both I and II.
E. NeitherInorII.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. Interest earned on Series EE bonds issued after 1989 may qualify for exclusion. One requirement is that the interest is used to pay tuition and fees for the taxpayer, spouse, or dependent enrolled in higher education. The interest exclusion is reduced by qualified scholarships that are exempt from tax and other nontaxable payments received for educational expenses (other than gifts and inheritances).
QUESTION 41
Which one of the following will result in an accruable expense for an accrual-basis taxpayer?
A. Aninvoicedatedpriortoyearendbuttherepaircompletedafteryearend. B. Arepaircompletedpriortoyearendbutnotinvoiced.
C. A repair completed prior to year end and paid upon completion.
D. A signed contract for repair work to be done and the work is to be completed at a later date.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
RULE: An accruable expense is one is which the services have been received/performed but have not been paid for by the end of the reporting period.
Choice "b" is correct. The facts indicate that a repair was completed prior to year end but not yet invoiced. If it has not yet been invoiced, it is assumed that it has also not yet been paid for. Therefore, this is a situation in which the repair expense would be accrued at year end. Services have been performed, but they have not been paid for, as they have not even been invoiced yet. Choice "a" is incorrect. If the repair was completed after year end, then the expense is not accruable, as the benefit of the services hasn't been received as of year end. The fact that the repair was invoiced prior to year end does not impact the situation.
Choice "c" is incorrect. If a repair was completed and paid for prior to year end, no accrual is appropriate. On the accrual basis, the expense is taken in the year the repair is completed and the benefit is received. In this case, the account payable was also paid in the same year, but this has no effect on the expense.
Choice "d" is incorrect. The facts indicate that the work is to be completed at a date later than year end. Therefore, the expense is not accruable at year end, as the benefit of the repair hasn't been received as of year end. It is reasonable that a signed contract for the repair work exists, but this has no effect on the accrual.
QUESTION 42
Which of the following is subject to the Uniform Capitalization Rules of Code Sec. 263A?
A. Editorialcostsincurredbyafreelancewriter.
B. Researchandexperimentalexpenditures.
C. Mine development and exploration costs.
D. Warehousing costs incurred by a manufacturing company with $12 million in annual gross receipts.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "d" is correct. Uniform capitalization rules apply to the following: (1) real or tangible personal property produced by the taxpayer for use in his or her trade or business; (2) real or tangible personal property produced by the taxpayer for sale to his or her customers; and (3) real or tangible personal property acquired by the taxpayer for resale, provided the taxpayer's annual average gross receipts for the preceding three years exceeds $10,000,000. Warehousing costs incurred by a manufacturing company (making inventory for sale to its customers) are subject to the Uniform Capitalization Rules. Further, they are the only item on the list that is real or tangible personal property. In this case, the inventory is not acquired for resale (it is produced by the taxpayer for sale to his or her customers), so the fact that the annual sales are $12,000,000 does not matter in this case. The sales could have been less than $10,000,000 annually, and the Uniform Capitalization
Rules would still have applied. Choices "a", "b", and "c" are incorrect, based on the above discussion.
QUESTION 43
Under the uniform capitalization rules applicable to taxpayers with property acquired for resale, which of the following costs should be capitalized with respect to inventory if no exceptions have been met?
A. Option A B. OptionB C. Option C D. Option D
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "a" is correct. Direct material, direct labor, and factory overhead (applicable indirect costs) are capitalized with respect to inventory under the uniform capitalization rules for property acquired for resale. Applicable indirect costs include depreciation and amortization, insurance, supervisory wages, utilities, spoilage and scrap, design expenses, repair and maintenance and rental of equipment and facilities (including offsite storage), some administrative costs, costs of bonus and other incentive plans, and indirect supplies and other materials (including repackaging costs). Choices "b", "c", and "d" are incorrect, per the above discussion. Individual Taxation - Capital Gains and Losses
QUESTION 44
Smith made a gift of property to Thompson. Smith's basis in the property was $1,200. The fair market value at the time of the gift was $1,400. Thompson sold the property for $2,500. What was the amount of Thompson's gain on the disposition?
A. $0
B. $1,100 C. $1,300
D. $2,500
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. The general rule for the basis on gifted property is that the donee receives the property with a rollover cost basis (equal to the donor's basis). An exception exists where the fair market value of the property at the time of the gift is less than the donor's basis. That is not the case in this question; thus, the calculation of the gain on the disposition of the property is:
Choice "a" is incorrect. This choice could be correct if the facts of the question met the exception whereby no gain or loss is recognized when a donee sells gifted property for an amount between the donor's basis and the fair market value at the date of the gift. Choice "b" is incorrect. This choice uses the basis as the fair market value of the property. Fair market value of property at date of death is used as the basis for inherited property, not gifted property. Choice "d" is incorrect. This choice assumes that Thompson's basis is zero. His basis is $1,200 as indicated above.
QUESTION 45
Rich is a cash basis self-employed air-conditioning repairman with 1993 gross business receipts of $20,000. Rich's cash disbursements were as follows:
What amount should Rich report as net self-employment income?
A. $15,100 B. $14,900 C. $14,100 D. $13,900
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "a" is correct. Deductions to arrive at net self-employed income include all necessary and ordinary expenses connected with the business. Estimated federal income tax payments are not an expense. Charitable contributions by an individual are only deductible as an itemized deduction on Schedule A. This assumes the contribution was not made with the "expectation of commensurate financial return."
Choice "b" is incorrect. Charitable contributions are an itemized deduction unless there is an expectation of commensurate financial return.
Choice "c" is incorrect. Federal income taxes paid are not a deductible expense. Choice "d" is incorrect. Charitable contributions are an itemized deduction unless there is an expectation of commensurate financial return. Federal income taxes paid are not a deductible expense.
QUESTION 46
On December 1, 1992, Michaels, a self-employed cash basis taxpayer, borrowed $100,000 to use in her business. The loan was to be repaid on November 30, 1993. Michaels paid the entire interest of $12,000 on December 1, 1992. What amount of interest was deductible on Michaels' 1993 income tax return?
A. $12,000 B. $11,000 C. $1,000 D. $0
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation: Explanation
Choice "b" is correct. Prepaid interest must be prorated over the time for which payment is made. This is true for both cash and accrual basis taxpayers. The loan is for 1 month in 1992 and 11 months in 1993. Therefore, 1/12 of the interest is deductible in 1992 and 11/12, or $11,000 is deductible in 1993. Choices "a", "c", and "d" are incorrect. Prepaid interest must be prorated over the time for which payment is made. This is true for both cash and accrual basis taxpayers.
QUESTION 47
Mosh, a sole proprietor, uses the cash basis of accounting. At the beginning of the current year, accounts receivable were $25,000. During the year, Mosh collected $100,000 from customers. At the end of the year, accounts receivable were $15,000. What was Mosh's gross taxable income for the current year?
A. $75,000 B. $90,000 C. $100,000 D. $110,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "c" is correct. The facts state that cash collections from customers were $100,000 and as a cash basis taxpayer this is the amount of Mosh's gross taxable income for the year. Note that according to the formula BASE - we can determine the amount of sales = $90,000, but that would give us accrual, not cash basis, income.
Choice "a" is incorrect. See explanation above.
Choice "b" is incorrect. $90,000 is the amount of sales that would be Mosh's taxable income if Mosh were an accrual basis taxpayer. Choice "d" is incorrect. See explanation above.
QUESTION 48
Porter was unemployed for part of the year. Porter received $35,000 of wages, $4,000 from a state unemployment compensation plan, and $2,000 from his former employer's company-paid supplemental unemployment benefit plan. What is the amount of Porter's gross income?
A. $35,000 B. $37,000 C. $39,000 D. $41,000
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
RULE: Gross income includes all income unless it is specifically excluded in the tax code. Choice "d" is correct. Wages and all unemployment compensation are not excluded from being taxable; therefore, there are included in the taxpayer's gross income for tax purposes.
Choice "a" is incorrect. All forms of unemployment compensation are included as part of gross income. Choice "b" is incorrect. The $4,000 of state unemployment compensation received is included as part of gross income.
Choice "c" is incorrect. The $2,000 of his former employer's company-paid supplemental unemployment benefit plan is included as part of gross income.
QUESTION 49
Leker exchanged a van that was used exclusively for business and had an adjusted tax basis of $20,000 for a new van. The new van had a fair market value of $10,000, and Leker also received $3,000 in cash.
What was Leker's tax basis in the acquired van?
A. $20,000 B. $17,000 C. $13,000 D. $7,000
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Explanation
Choice "b" is correct. $17,000 is the tax basis in the van. The basis for like-kind exchanges is computed as follows:
The general rule is the gain is recognized to the extent boot is received. As the transaction results in a loss to Leker (he received an asset worth $10,000 plus $3,000 cash less a $20,000 tax basis equals $7,000 loss) no gain is recognized and the $3,000 received reduces his basis in the new asset. Choice "a" is incorrect. Basis must be reduced by non-like-kind assets (boot) received. Choice "c" is incorrect. For non-like-kind exchanges, the basis would be the FMV of the assets received ($10,000 FMV plus $3,000 Boot). However, because both assets have similar use, this is a like-kind exchange, which follows the rule above.
Choice "d" is incorrect. The basis of the old property is used to calculate the basis of the new property, less any boot received.
Financial Accounting and Reporting QUESTION 1
According to the FASB conceptual framework, which of the following relates to both relevance and reliability?
A. Comparability. B. Feedback value. C. Verifiability.
D. Timeliness.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Comparability and consistency are secondary qualities of both relevance and reliability. SFAC 2 para. 111-122
Choice "b" is incorrect. Feedback value is a key characteristic of relevance only. Choice "c" is incorrect. Verifiability is a key characteristic of reliability only. Choice "d" is incorrect. Timeliness is a key characteristic of relevance only.
QUESTION 2
Which of the following is true regarding the comparison of managerial to financial accounting?
A. Managerialaccountingisgenerallymoreprecise.
B. Managerialaccountinghasapastfocusandfinancialaccountinghasafuturefocus.
C. The emphasis on managerial accounting is relevance and the emphasis on financial accounting is timeliness.
D. Managerial accounting need not follow generally accepted accounting principles (GAAP) while financial accounting must follow them.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Public companies must follow GAAP for (external) financial reporting purposes. GAAP need not be followed for (internal) managerial accounting purposes. Choice "a" is incorrect. Financial accounting is generally more precise. Choice "b" is incorrect. Managerial accounting has a future focus, while financial accounting focuses on reporting past results.
Choice "c" is incorrect. The emphasis of financial accounting is providing useful information to financial statement users (including the characteristic of relevance), while the emphasis of managerial accounting is providing timely information to management decision makers.
QUESTION 3
Which of the following is a generally accepted accounting principle that illustrates the practice of conservatism during a particular reporting period?
A. Capitalizationofresearchanddevelopmentcosts.
B. Accrualofacontingencydeemedtobereasonablypossible.
C. Reporting investments with appreciated market values at market value. D. Reporting inventory at the lower of cost or market value.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. The rule of conservatism states that revenues and gains should be recognized when the earnings process is complete, but that expenses and losses should be expensed immediately. Reporting inventory at the lower of cost or market requires the recording of a loss on inventory when market is lower than cost in the period the loss is sustained, rather than when the inventory is sold, consistent with the rule of conservatism.
Choice "a" is incorrect. Because the future benefits of R&D costs are questionable, these cost should be expensed immediately, consistent with the rule of conservatism and the matching principle. Choice "b" is incorrect. The rule of conservatism only requires the accrual of "probable" losses. The accrual of a reasonably possible loss is not required and the accrual of any contingent gain, whether probable, reasonably possible, or remote, is prohibited. Choice "c" is incorrect. The reporting of marketable securities with appreciated values at market value requires the recording of a gain on the asset before the gain is realized. This contradicts the rule of conservatism, but is allowed because fair value is a more relevant measure of the value of marketable securities.
QUESTION 4
Arpco, Inc., a for-profit provider of healthcare services, recently purchased two smaller companies and is researching accounting issues arising from the two business combinations. Which of the following accounting pronouncements are the most authoritative?
A. AICAStatementsofPosition.
B. AICP A Industry and Audit Guides.
C. FASB Statements of Financial Accounting Concepts.
D. FASB Statements of Financial Accounting Standards.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Since Arpco is a for-profit provider of healthcare services, it is covered under normal GAAP. Thus, the most authoritative pronouncements are the FASB Statements of Financial Accounting Standards (SFAS).
Choice "a" is incorrect. AICPA Statements of Position are not the most authoritative pronouncement for almost anything (other than for some issues that only they cover). They are normally "merely" the opinion of the AICPA.
Choice "b" is incorrect. AICPA Industry and Audit Guides are not the most authoritative pronouncement for almost anything (other than for some issues that only they cover). Choice "c" is incorrect. FASB Statements of Financial Accounting Concepts are not authoritative pronouncements except where they have been incorporated by reference into an SFAS. They are the basis on which SFAS can be constructed.
QUESTION 5
According to the FASB conceptual framework, the quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called:
A. Feedback value.
B. Predictivevalue.
C. Representational faithfulness. D. Reliability.
Correct Answer: B Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "b" is correct. The quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called predictive value. Forecasting is predicting. Choice "a" is incorrect. The quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called predictive value, not feedback value. Feedback value enables decision makers to confirm prior expectations or to adjust or correct the decisions made previously.
Choice "c" is incorrect. The quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called predictive value, not representational faithfulness. Representational faithfulness is the agreement between financial reporting and the resources or events represented.
Choice "d" is incorrect. The quality of information that helps users increase the likelihood of correctly forecasting the outcome of past or present events is called
predictive value, not reliability. Reliability is the combination of neutrality, representational faithfulness, and verifiability.
QUESTION 6
Which of the following assumptions means that money is the common denominator of economic activity and provides an appropriate basis for accounting measurement and analysis?
A. Goingconcern. B. Periodicity.
C. Monetaryunit. D. Economic entity.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The monetary unit assumption means that money is the common denominator for economic activity and provides an appropriate basis for accounting measurements and analysis. Choice "a" is incorrect. The going concern assumption has nothing to do with money per se. The going concern assumption presumes that an entity will continue to operate in the foreseeable future. Choice "b" is incorrect. The periodicity has nothing to do with money per se. The periodicity assumption is that economic activity can be divided into meaningful time periods. Choice "d" is incorrect. The economic entity assumption has nothing to do with money per se. The economic entity assumption is that economic activity can be accounted for when considering an identifiable set of activities.
QUESTION 7
Which of the following statements best describes an operating procedure for issuing a new Financial Accounting Standards Board (FASB) statement?
A. Theemergingissuestaskforcemustapproveadiscussionmemorandumbeforeitisdisseminatedtothepublic. B. Theexposuredraftismodifiedperpublicopinionbeforeissuingthediscussionmemorandum.
C. AnewstatementisissuedonlyafteramajorityvotebythemembersoftheFASB.
D. A new FASB statement can be rescinded by a majority vote of the AICPA membership.
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. A new statement from the FASB is issued only after a majority vote of the members of the FASB.
Choice "a" is incorrect. There is no necessity for the EITF to approve a discussion memorandum (presumably the question means a discussion memorandum of the FASB statement itself and not an EITF statement) before it is disseminated to the public.
Choice "b" is incorrect. There is no necessity for an exposure draft to be modified per public opinion before issuing the discussion memorandum (a question can be raised here as to "what" discussion memorandum"). Exposure drafts are quite/most often modified before they are issued as FASB statements, but they do not have to be. Whether they are or are not modified is a function of whether the FASB thinks they should be modified, partly due to the public comments that have been received. Choice "d" is incorrect. There is no way to rescind a new FASB statement, although, in reality, a FASB statement can be rescinded by the issuance of a new statement on the same subject. However, even if there was a way to rescind a new FASB statement, it would not be by a majority vote of the AICPA membership, but by a majority vote of the members of the FASB.
Reporting Net Income
QUESTION 8
An extraordinary gain should be reported as a direct increase to which of the following?
A. Netincome.
B. Comprehensiveincome.
C. Income from continuing operations, net of tax. D. Income from discontinued operations, net of tax.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. Extraordinary items are reported as a component of net income, after income from continuing operations and discontinued operations. Choice "b" is incorrect. An extraordinary gain (or loss) only indirectly affects comprehensive income as a component of net income.
Choice "c" is incorrect. Extraordinary items are reported net of tax after income from continuing operations and discontinued operations.
Choice "d" is incorrect. Extraordinary items are reported net of tax after income from continuing operations and discontinued operations.
Income Statement
QUESTION 9
On December 2, 20X1, Flint Corp.'s board of directors voted to discontinue operations of its frozen food division and to sell the division's assets on the open market as soon as possible. The division reported net operating losses of $20,000 in December and $30,000 in January. On February 26, 20X2, sale of the division's assets resulted in a gain of $90,000. Assuming that the frozen foods division qualifies as a component of the business and ignoring income taxes, what amount of gain/loss from discontinued operations should Flint recognize in its income statement for 20X2?
A. $0
B. $40,000 C. $60,000 D. $90,000
Correct Answer: C Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "c" is correct. The $60,000 gain from discontinued operations would be reported in Flint's 20X2 income statement. The operating loss for January would offset the gain from disposal in February, and the net amount would be reported as a gain (in this case) from discontinued operations. The operating losses for December would have been reported in Flint's 20X1 income statement. Choice "a" is incorrect per the above. It would be correct if all of the gains and losses were included in 20X1 instead of 20X2. However, gains and losses from discontinued operations are included in the year they occur.
Choice "b" is incorrect. It includes the operating loss for December, 20X1 in with the 20X2 amounts. Choice "d" is incorrect. It ignores the January operating loss. Operating losses are included in gain/loss from discontinued operations, along with impairment losses and gains/losses on disposal.
QUESTION 10
Lore Co. changed from the cash basis of accounting to the accrual basis of accounting during 1994. The cumulative effect of this change should be reported in Lore's 1994 financial statements as a:
A. Priorperiodadjustmentresultingfromthecorrectionofanerror.
B. Priorperiodadjustmentresultingfromthechangeinaccountingprinciple. C. Component of income before extraordinary item.
D. Component of income after extraordinary item.
Correct Answer: A Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. The cash basis for financial reporting is not a generally accepted accounting basis of accounting (GAAP); therefore, it is an error. Correction of an error from a prior period is a reported as prior period adjustment to retained earnings.
Choice "b" is incorrect. Cash basis reporting is not an accounting principle under accrual accounting principles. Thus, the change from cash basis is not reported as a change in accounting principle. In addition, changes in accounting principle are not prior period adjustments; instead, they are treated retrospectively.
Choices "c" and "d" are incorrect. Correction of prior period errors has no effect on the current year's income statement.
QUESTION 11
A material loss should be presented separately as a component of income from continuing operations when it is:
A. Anextraordinaryitem.
B. Acumulativeeffecttypechangeinaccountingprinciple. C. Unusual in nature and infrequent in occurrence.
D. Not unusual in nature but infrequent in occurrence.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. Gains or losses that are unusual in nature or occur infrequently but not both, are presented as a component of income from continuing operations. Choice "a" is incorrect. Extraordinary items are shown net of tax in a separate section of the income statement after income from continuing operations. Choice "b" is incorrect. Cumulative effects of changes in accounting principle are now shown net of tax as an adjustment to the opening balance of retained earnings in the retained earnings statement. This treatment is called retrospective application. There really are no longer any cumulative effect types of changes in accounting principle. The cumulative effect is merely how the amount of the change is measured.
Choice "c" is incorrect. This is the definition of an extraordinary item.
QUESTION 12
During 1994, Orca Corp. decided to change from the FIFO method of inventory valuation to the weightedaverage method. Inventory balances under each method were as follows:
Orca's income tax rate is 30%.
Orca should report the cumulative effect of this accounting change as a(n):
A. Adjustmenttobeginningretainedearnings.
B. Componentofincomefromcontinuingoperations. C. Extraordinaryitem.
D. Component of income after extraordinary items.
Correct Answer: A
Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "a" is correct. The cumulative effect of a change in accounting principle is shown as an adjustment to beginning retained earnings.
Choice "b" is incorrect. The cumulative effect of a change in accounting principle is now presented as a separate category on the retained earnings statement and is not a component of net income. Choice "c" is incorrect. Extraordinary items are unusual and infrequent in nature. Extraordinary items have nothing to do with changes in accounting principle. Choice "d" is incorrect. A change in accounting principle affects retained earnings, not the income statement, under SFAS No. 154.
QUESTION 13
A transaction that is unusual in nature and infrequent in occurrence should be reported separately as a component of income:
A. Aftercumulativeeffectofaccountingchangesandbeforediscontinuedoperationsofasegmentofabusiness. B. Aftercumulativeeffectofaccountingchangesandafterdiscontinuedoperationsofasegmentofabusiness.
C. Before cumulative effect of accounting changes and before discontinued operations of a segment of a business. D. After discontinued operations of a segment of a business.
Correct Answer: D Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct. An extraordinary item (a transaction that is both "unusual in nature" and "infrequent in occurrence") should be reported separately as a component of income after discontinued operations of a segment of a business.
The cumulative effect of a change in accounting principle is shown on the retained earnings statement. This is why memorizing the mnemonic "idea" is so important.
QUESTION 14
How should the effect of a change in accounting estimate be accounted for?
A. Byrestatingamountsreportedinfinancialstatementsofpriorperiods. B. Byreportingproformaamountsforpriorperiods.
C. As a prior period adjustment to beginning retained earnings.
D. In the period of change and future periods if the change affects both.
Correct Answer: D
Section: (none) Explanation
Explanation/Reference:
Explanation:
Choice "d" is correct, a "change in accounting estimate" affects only the current and subsequent (future) periods, if the change affects both. It does not affect "prior periods," nor "retained earnings." Choice "a" is incorrect. Restating prior years' financial statements is required when comparative financial statements are shown for prior period adjustments of "corrections of errors," "changes in entities," and changes in accounting principle.
Choices "b" and "c" are incorrect. A "change in accounting estimate" does not affect prior periods.