Chapter 3

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Liberty University *

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401

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Accounting

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Feb 20, 2024

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Chapter 3  Which of the following is not necessarily a part of effective tax planning? – minimizing tax payments  There are three basic tax planning strategies that represent the building blocks of tax planning. These strategies include ___, income shifting, and ___. – timing; conversion  The concept of present value states a $1 today is worth ___ than $1 in the future. – more  Andre has the option of receiving $1800 today or $1860 a year from now. assuming Andre can invest the money and earn 4 percent this year, he would have $___ a year from now. he should take the $___. – 1872; 1800 (1800*1.04)  The discount factor for a one-year investment earning a rate of return of 3 percent is equal to ___. – 0.971 (1/(1+.03))  Select the two most important considerations that are necessary for effective tax planning for individuals. – maximizing after-tax wealth; achieving non-tax related goals  Lucky Lee has won a contest where he can choose to receive $500 today or $550 one year form now. Assuming his rate of return is 5%, how much is the $550 worth today? - $523.6 ($550*0.952)  When tax rates are constant, tax planning suggests that taxpayers should consider ____ the recognition of income. – defer  The concept that $1 today is worth more than $1 in the future is known as – present value  Generally, whenever a taxpayer can accelerate a tax deduction without accelerating the cash outflow, the ___ strategy will be beneficial. – timing  Nina can choose to receive $5000 today or $5000 a year from now. if she takes the money now and invests the money at a 6% interest rate (after tax), she will have $___ one year from now. – 5300 (5000*1.06)  In addition of accelerating deductions, the timing strategy of ___ income recognition is benefical to many taxpayers – deferring  Calculate the discount factor for one period for an investment given a rate of return equal to 6 percent. – 0.943 (1/(1+.06))  Which of the following statements is correct regarding the timing strategy? – it is best to recognize deductions in high-tax rate years and income in low-tax-rate years  Using the attacked table, what is the present value today of $2300 received two years from now with a rate of return equal to 4%? – 2127.5 (2300*.925)  The impact of the tax rate on a transaction must be considered along with the ___ ___ of the transaction to determine if the benefits of accelerating the transaction outweigh the disadvantages. – present value  When tax rates are constant, taxpayers should ___ tax deductions and ___ recognize taxable income. – accelerate; defer  Darlene plans to purchase $3000 in furniture for her office. She is currently in the 20% tax bracket, so her after tax cost of the furniture is $___ if she purchases it in the current year. She expects her marginal rate will increase to 25% next year. If she waits until next year to purchase the furniture and her after tax rate is 7%, the after-tax cost of her furniture will be $___. – 2400; 2299 (3000*.8); (3000*.25=750*.935=701.25, 3000-701.25)  Under which of the following situations is a strategy for the timing of deductions most beneficial? – when tax deductions can be accelerated without accelerating the cash outflow; when the transaction is large; when tax rates are high; when taxpayer is earning a high rate of return

 Under what circumstances might a taxpayer want to defer the recognition of income? – when setting aside money for retirement; when the actual receipt of the income does not have to be postponed very long  All other things being equal, taxpayers should prefer to recognize income during ___ tax-rate years and deduction during ___ tax-rate years. – low; high  When tax rates are constant or ___, taxpayers should accelerate tax deductions and defer taxable income. – decreasing  How should a taxpayer evaluate whether it is advantageous to accelerate a tax deduction in a period of tax rate increase? – the taxpayer needs to compare the tax-savings from the deduction in the current year to the present value of the tax-savings in one year  Danny is trying to determine if he should purchase equipment for his business this year or next year. He is currently in the 28% tax bracket and will be able to expense the equipment in the year he purchases it. With the new equipment, he believes that his marginal rate will increase to 33% next year. The cost of the equipment is $20,000 and his after-tax rate of return is 6%. Calculate the after-tax cost of the equipment for both years and choose the correct statement below. – the after tax cost of the equipment is $14400 this year or $13776 next year. Danny should purchase the equipment next year  Which of the following options are limitations of a timing strategy? – the constructive receipt doctrine often prevents income from being deferred to a later period; tax laws generally require taxpayers to continue their investment in an asset in order to defer income recognition  The tax planning strategy known as ___ shifting encompasses shifting earnings and deductions from (1) taxpayers in one rate bracket to taxpayers in a different rate bracket, and (2) one jurisdiction to a more tax favorable jurisdiction. – income  What is the name of the tax rule that requires income to be taxed to the taxpayer who actually earns it? – assignment of income doctrine  An effective income shifting strategy for a corporation and an employee-owner involves generating a tax ___ for one party while generating taxable ___ for the other party. – deduction; income  Because it often restricts the income deferral for cash-method taxpayers, the ___ ___ doctrine is a limitation of a timing strategy. – constructive receipt  Which of the following choices is an advantage of shifting income across jurisdictions? – the differences in tax rates and tax laws across jurisdictions can often be used to maximize after-tax wealth  Which of the following choices describes an income shifting tax planning strategy? – moving income to more tax favorable jurisdictions  Which of the following options best describes the basis for conversion strategies? – the understanding that the tax law does not treat all types of income and deductions the same  Which of the following transactions would not be acceptable to the IRS as a means of switching the taxable income to another taxpayer? – transferring interest income from a taxpayer’s investment to his young daughter  Limitations on certain tax benefits, such as depreciation for luxury automobiles, often decrease or eliminate the benefits of ___ strategies. – conversion  Which of the following methods will not result in a tax beneficial shift of income from a corporation to its employee-owner? – paying dividends to the employee-owner  Which of the following doctrines sis not used by the IRS to examine transactions where it expects taxpayer abuse? – tax minimization doctrine

 Which of the following statements is incorrect regarding income shifting strategies across jurisdictions? – taxpayers that operate in multiple countries should always incorporate in the country with the lowest tax structure in order to pay taxes in that country  Amanda decided to wait to sell her investment in ABC, Inc. until she had owned the stock for more than one year. Because she waited, she was able to pay tax on the gain at a lower rate than her marginal rate. Which of the following choices best describes the result of Amanda's decision? – Amanda’s decision to postpone the sale to receive more favorable tax treatment is considered tax avoidance and is legal  FIB: in order for the IRS to not scrutinize such related-person transactions, it should be a(n) ___ ___ transaction. – arm’s length  A lower rate of return on tax-exempt securities than the rate earned on similar taxable securities is an example of a(n) ___ tax which often reduces or negates the benefits of conversion strategies. – implicit  Business purpose doctrine – allows the IRS to challenge and disallow business experiences with no underlying business motivation  Step-transaction doctrine – allows the IRS to collapse a series of related transactions into one transaction to determine the tax consequences  Substance over form doctrine – allows the IRS to consider the purpose of the transaction regardless of the way it is structured  Economic substance doctrine – requires the transaction to meet two criteria: (1) meaningfully change a taxpayer’s economic position and (2) have a substantial purpose for the transaction  Andrew received 20 percent of his business revenue in cash. The cash was not third-party reported to the IRS. Andrew has decided NOT to report the cash receipts on his tax return. Which response is true? – failure to report the income is considered tax evasion

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