Question 1

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 2

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, 2016 and has his daughter, Julie, pick up his check on January 2, 2017. Who reports the income and when?

Accepted Answer

As a cash basis taxpayer, Jason must report the income in the year it was made available to him, which is 2016, regardless of when he actually picks up the check.

Question 3

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

John's after-tax return from the city bond would be 6%*(1-0.4) = 3.6%
For John to be indifferent between the two bonds, the corporate bond must also offer a 3.6% after-tax return. 
Let x be the interest rate on the corporate bond, then (1-0.4)x = 0.036
Solving for x, we get x = 0.06 or 6%. Therefore, John would be indifferent between the two bonds if the corporate bond offered a 6% interest rate. Since this is not an option, the closest answer is B, 10%, which is above the required return of 3.6%.

Question 4

A common income shifting strategy is to:

Accepted Answer

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

Question 5

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

Accepted Answer

Delaying billing until after year end is an example of a timing strategy, as it allows the business to defer income and resulting taxes to the following year. The other options are not examples of timing strategies.

Question 6

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

Accepted Answer

This is an example of the conversion strategy, as the high tax rate taxpayer is investing in tax-exempt municipal bonds to avoid paying taxes on their investment income. The other options do not involve a conversion strategy.

Question 7

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

Accepted Answer

Income shifting strategy involves reallocating income from a high tax rate entity to a lower tax rate entity. In this case, a corporation paying its owner a salary instead of a dividend can be an example of income shifting, as a salary is deductible for the corporation and is taxed at the owner's individual tax rate, which may be lower than the corporate tax rate. The other options do not involve shifting income between entities with different tax rates.

Question 8

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

To calculate the tax-adjusted yield on the corporate bond, we need to take (1 - 0.25) times the bond yield i.e. (1-0.25) x 10% = 7.5%. Therefore, a municipal bond would have to offer at least a 7.5% yield for Larry to be indifferent between the two bonds.

Question 9

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 from a cash-flow perspective?

Accepted Answer

Lucas' after-tax return on the dividend-paying stock would be:
8% x (1 - 0.15) = 6.8%
For Lucas to be indifferent between the stock and a municipal bond, the bond must offer a yield of 6.8% or higher, since the interest income from municipal bonds is tax-exempt. Therefore, the correct answer is D.

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 states that income cannot be assigned to another person in order to avoid tax liability. Therefore, the IRS is likely to scrutinize situations where income is being assigned to family members or other related parties. Option B involves a parent employing her child in the family business, which could be seen as an attempt to assign income to the child. The other options do not necessarily involve an assignment of income.

Question 11

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 assignment of income doctrine states that income must be taxed to the person who earns it, and cannot be assigned to another person. In this scenario, the taxpayer is instructing her son to collect rent checks and report it on his tax return, which violates this doctrine. The constructive receipt doctrine pertains to income that is not physically received but is still deemed taxable, while the implicit tax doctrine refers to the tax paid indirectly on certain transactions. The step-transaction doctrine deals with the recharacterization of a series of transactions as a single transaction for tax purposes. None of these doctrines are applicable in this scenario.

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

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 14

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 daughter $50,000...

Question 15

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

Accepted Answer

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

Question 16

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

Accepted Answer

Paying all outstanding bills by year end is an example of the timing strategy, as it allows the taxpayer to deduct the expenses in the current year and potentially reduce their taxable income. The other options do not involve timing strategies.

Question 17

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 from a cash-flow perspective?

Accepted Answer

Keisha's after-tax return on the city of Atlanta bond is:

0.60 × 7.65% = 4.59%

For Keisha to be indifferent between this bond and a dividend-paying stock, the after-tax dividend yield on the stock must also be 4.59%.

Let's use the formula for the after-tax return on a dividend-paying stock:

After-tax dividend yield = (Dividend yield) × (1 - tax rate on dividends)

Substituting the values given in the question:

4.59% = (Dividend yield) × (1 - 0.15)
Dividend yield = 9%

Therefore, a dividend-paying stock would need to offer a dividend yield of 9% for Keisha to be indifferent between this investment and a city of Atlanta bond. The correct answer is C.

Question 18

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 19

Which of the following may limit the conversion strategy?

Accepted Answer

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

Question 20

Which of the following does not limit the income shifting strategy?

Accepted Answer

All of the options listed limit the income shifting strategy in different ways, but there is no option that does not limit it at all. Therefore, the correct answer is E - None of these.

Quiz 3: Tax Planning Strategies and Related Limitations

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?

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?

A common income shifting strategy is to:

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

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

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

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?

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

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?

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?

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?

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

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

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

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?

Which of the following may limit the conversion strategy?

Which of the following does not limit the income shifting strategy?