Question 1

Jason's employer pays year-end bonuses each year on December 31. Jason, a cash basis taxpayer, would prefer to not pay tax on his bonus this year (and actually would prefer his daughter to pay tax on the bonus). So, he leaves town on December 31, 2014 and has his daughter, Julie, pick up his check on January 2nd, 2015. Who reports the income and when?

Accepted Answer

The answer of Jason's employer pays year-end bonuses each year...

Question 2

A common income shifting strategy is to:

Accepted Answer

The answer of A common income shifting strategy is to:
...

Question 3

A taxpayer instructing her son to collect rent checks for the taxpayer's property and to report this as taxable income on the son's tax return violates which doctrine?

Accepted Answer

The taxpayer instructing her son to collect rent checks and report it as taxable income on the son's tax return violates the assignment of income doctrine. This doctrine states that a taxpayer cannot avoid taxes by assigning income to someone else. In this case, the income from the rental property belongs to the taxpayer and cannot be assigned to the son.

Question 4

Assume that Lucas' marginal tax rate is 30% and his tax rate on dividends is 15%. If a dividend-paying stock (with no growth potential) pays an 8% dividend yield, what interest rate would a municipal bond have to offer for Lucas to be indifferent between the two investments?

Accepted Answer

Lucas' after-tax return on the dividend-paying stock would be: 
(1-0.15) x 8% = 6.8% 
For Lucas to be indifferent between the two investments, the municipal bond would also need to offer a 6.8% after-tax return. Since municipal bond interest is typically tax-exempt, the pre-tax yield would need to be: 
6.8% / (1-0.30) = 9.71% 
Therefore, the municipal bond would need to offer a pre-tax yield of 9.71% to provide Lucas with an after-tax return of 6.8%, making him indifferent between the two investments.

Question 5

Assume that Lavonia's marginal tax rate is 20%. If a city of Tampa bond pays 5% interest, what interest rate would a corporate bond have to offer for Lavonia to be indifferent between the two bonds?

Accepted Answer

The answer of Assume that Lavonia's marginal tax rate is...

Question 6

Assume that Marsha is indifferent between investing in a city of Destin bond that pays 6% interest and a corporate bond that pays 8% interest. What is Marsha's marginal tax rate?

Accepted Answer

The answer of Assume that Marsha is indifferent between investing...

Question 7

Assume that Jose is indifferent between investing in a corporate bond that pays 10% interest and a stock with no growth potential that pays an 8% dividend yield. Assume that the tax rate on dividends is 15%. What is Jose's marginal tax rate?

Accepted Answer

The answer of Assume that Jose is indifferent between investing...

Question 8

Assume that John's marginal tax rate is 40%. If a city of Austin bond pays 6% interest, what interest rate would a corporate bond have to offer for John to be indifferent between the two bonds?

Accepted Answer

The answer of Assume that John's marginal tax rate is...

Question 9

Which of the following is needed to implement the income shifting strategy?

Accepted Answer

The income shifting strategy involves transferring income from a taxpayer with a higher tax rate to one with a lower tax rate. Therefore, taxpayers with varying tax rates are needed to implement this strategy.

Question 10

Which of the following is more likely to receive IRS scrutiny under the assignment of income doctrine?

Accepted Answer

The assignment of income doctrine applies when a taxpayer attempts to shift income to a related party in a lower tax bracket. Employing a child in the family business may raise questions about whether the compensation is reasonable and whether the child is actually performing services for the business. The other options do not necessarily involve income shifting and are not as likely to receive IRS scrutiny under the assignment of income doctrine.

Question 11

A taxpayer paying his 10 year old daughter $50,000 a year for consulting likely violates which doctrine?

Accepted Answer

The answer of A taxpayer paying his 10 year old...

Question 12

Assume that Javier is indifferent between investing in a city of El Paso bond that pays 5% interest and a corporate bond that pays 6.25% interest. What is Javier's marginal tax rate?

Accepted Answer

The answer of Assume that Javier is indifferent between investing...

Question 13

Which of the following may limit the conversion strategy?

Accepted Answer

The answer of Which of the following may limit the...

Question 14

Which of the following is an example of the conversion strategy?

Accepted Answer

Investing in tax-exempt municipal bonds is a conversion strategy as it allows a high tax rate taxpayer to earn tax-free income. A, B, and D do not involve any conversion strategy.

Question 15

Assume that Keisha's marginal tax rate is 40% and her tax rate on dividends is 15%. If a city of Atlanta bond pays 7.65% interest, what dividend yield would a dividend-paying stock (with no growth potential) have to offer for Keisha to be indifferent between the two investments?

Accepted Answer

Keisha's after-tax yield on the bond would be 7.65% * (1 - 0.4) = 4.59%. For her to be indifferent between the bond and a dividend-paying stock (with no growth potential), the dividend yield would have to be 4.59% / (1 - 0.15) = 5.41%. Therefore, the dividend yield would have to be 5.41%, which is closest to choice C (9%).

Question 16

Assume that Shavonne's marginal tax rate is 50% and her tax rate on dividends is 15%. If a corporate bond pays 10.2% interest, what dividend yield would a dividend-paying stock (with no growth potential) have to offer for Shavonne to be indifferent between the two investments?

Accepted Answer

The answer of Assume that Shavonne's marginal tax rate is...

Question 17

Assume that Bill's marginal tax rate is 30%. If corporate bonds pay 8% interest, what interest rate would a municipal bond have to offer for Bill to be indifferent between the two bonds?

Accepted Answer

The answer of Assume that Bill's marginal tax rate is...

Question 18

Assume that Will's marginal tax rate is 32% and his tax rate on dividends is 15%. If a dividend-paying stock (with no growth potential) pays a dividend yield of 8%, what interest rate must the corporate bond offer for Will to be indifferent between the two investments?

Accepted Answer

Since Will's tax rate on dividends is 15%, his after-tax return on dividends will be 8% × (1 - 15%) = 6.8%. In order for Will to be indifferent between the dividend-paying stock and the corporate bond, the interest rate on the bond must also provide an after-tax return of 6.8%. Given Will's marginal tax rate of 32%, the pre-tax return on the bond that would yield 6.8% after taxes would be 10% (i.e. 10% × (1 - 32%) = 6.8%). Therefore, Choice C is the correct answer.

Question 19

Which of the following is an example of the income shifting strategy?

Accepted Answer

Paying the owner a salary is an example of income shifting as it allows the corporation to reduce its taxable income by deducting the salary as an expense while the owner pays taxes on the income instead. The other choices do not involve shifting income from one party to another.

Question 20

Assume that Larry's marginal tax rate is 25%. If corporate bonds pay 10% interest, what interest rate would a municipal bond have to offer for Larry to be indifferent between the two bonds?

Accepted Answer

Larry's after-tax return on corporate bonds would be 7.5% (10%*(1-0.25)). Therefore, a municipal bond would have to offer a yield of 7.5% for him to be indifferent between the two bonds.

Quiz 3: Tax Planning Strategies and Related Limitations