Question 1

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

Accepted Answer

The assignment of income doctrine holds that income cannot be assigned to another taxpayer to avoid taxation. In the case of a parent employing their child in the family business, there may be questions about whether the child is truly performing work for the business and whether their compensation is reasonable. This situation is more likely to receive scrutiny than the others listed.

Question 2

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 because it allows the owner to take income out of the business and potentially pay a lower tax rate on that income compared to leaving it within the corporation.

Question 3

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

Accepted Answer

The income-shifting strategy involves transferring income from a higher-tax-rate taxpayer to a lower-tax-rate taxpayer in order to reduce overall tax liability. Therefore, taxpayers with varying tax rates are needed in order to implement this strategy successfully.

Question 4

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

Accepted Answer

The substance-over-form doctrine is likely violated here because the IRS could argue that the payment to the 10-year-old daughter for consulting does not reflect the economic reality of the transaction and is instead a means to shift income and reduce the taxpayer's tax liability. This doctrine allows the IRS to reclassify transactions based on their substance rather than their form.

Question 5

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

This violates the assignment of income doctrine, which holds that income must be taxed to the person who earns it or generates it. The taxpayer cannot escape taxation by assigning income to someone else. In this case, the rent checks belong to the taxpayer and should be reported on her tax return. The son cannot claim the income as his own.

Question 6

Assume that Lavonia's marginal tax rate is 22 percent.If a city of Tampa bond pays 5 percent interest,what interest rate would a corporate bond have to offer for Lavonia to be indifferent between the two bonds?

Accepted Answer

To find the equivalent taxable interest rate that would make Lavonia indifferent between a tax-exempt bond (like a municipal bond from the city of Tampa) and a taxable bond (like a corporate bond), we use the formula: Taxable Interest Rate = Tax-Exempt Interest Rate / (1 - Marginal Tax Rate). Plugging in Lavonia's details: 5% / (1 - 0.22) = 5% / 0.78 ≈ 6.41%. Since none of the provided options matches this calculation, the correct answer is E) None of the choices are correct.

Question 7

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

Accepted Answer

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

Question 8

Assume that Larry's marginal tax rate is 24 percent.If corporate bonds pay 10 percent interest,what interest rate would a municipal bond have to offer for Larry to be indifferent between the two bonds?

Accepted Answer

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

Question 9

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

Accepted Answer

Delaying billing customers until after year-end is an example of the timing strategy because it will delay taxable income until the following tax year.

Question 10

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

Accepted Answer

Investing in tax exempt municipal bonds is an example of the conversion strategy, as it involves converting taxable income (such as interest received on corporate bonds) into tax-exempt income. This strategy can help high tax rate taxpayers reduce their overall tax liability. The other choices do not involve conversion strategies.

Question 11

Assume that John's marginal tax rate is 37 percent.If a city of Austin bond pays 6 percent interest,what interest rate would a corporate bond have to offer for John to be indifferent between the two bonds?

Accepted Answer

Since John's marginal tax rate is 37 percent, he would pay 37 percent of any interest income received from a corporate bond in taxes. Therefore, the after-tax return on a corporate bond would be:

After-tax return = before-tax return * (1 - marginal tax rate)
After-tax return =  x (1 - 0.37)
After-tax return = 0.63x

For John to be indifferent between the two bonds, the after-tax return on the corporate bond must be equal to the before-tax return on the municipal bond.

So, 0.63x = 0.06 or x = 0.06/0.63 = 0.0952 or 9.52 percent.

Therefore, the corporate bond would have to offer a before-tax return of 9.52 percent for John to be indifferent between the two bonds.

Question 12

Assume that Keisha's marginal tax rate is 37 percent and her tax rate on dividends is 15 percent.If a city of Atlanta bond pays 7.65 percent 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

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

Question 13

Assume that Lucas's marginal tax rate is 32 percent and his tax rate on dividends is 15 percent.If a dividend-paying stock (with no growth potential)pays an 8 percent 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

To find the interest rate at which Lucas would be indifferent between the two investments, we need to compare the after-tax cash flow from both investments.

For the dividend-paying stock, Lucas would receive an after-tax yield of: 
After-tax yield = Dividend yield x (1 - tax rate on dividends) 
= 0.08 x (1 - 0.15) 
= 0.068 or 6.8%

For the municipal bond, the interest income is tax-free, so Lucas would receive the full interest rate.

Therefore, for Lucas to be indifferent between the two investments, the interest rate on the municipal bond would have to be 6.8%. Thus, the answer is D).

Question 14

Assume that Bill's marginal tax rate is 32 percent.If corporate bonds pay 8 percent interest,what interest rate would a municipal bond have to offer for Bill to be indifferent between the two bonds?

Accepted Answer

To find the equivalent interest rate of a municipal bond that would make Bill indifferent, we use the formula for the after-tax return of the corporate bond and set it equal to the return of the municipal bond (since municipal bond interest is generally exempt from federal taxes). The formula for the after-tax return of the corporate bond is: Corporate Bond Interest Rate * (1 - Marginal Tax Rate). Plugging in the numbers: 8% * (1 - 0.32) = 5.44%. Therefore, a municipal bond would need to offer a 5.44% interest rate for Bill to be indifferent. Since this option is not listed, the correct choice is E) None of the choices are correct.

Question 15

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

Accepted Answer

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

Question 16

Which of the following may limit the conversion strategy?

Accepted Answer

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

Question 17

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

Accepted Answer

A cash-basis taxpayer paying all outstanding bills by year-end is an example of a timing strategy because the taxpayer is strategically timing the payment of expenses in order to maximize deductions in the current tax year.

Question 18

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

Accepted Answer

None of the choices limit the income-shifting strategy.

Question 19

A common income-shifting strategy is to:

Accepted Answer

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

Question 20

Jason's employer pays year-end bonuses each year on December 31.Jason,a cash-basis taxpayer,would prefer not to 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 31,2018,and has his daughter,Julie,pick up his check on January 2,2019.Who reports the income and when?

Accepted Answer

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

Quiz 3: Tax Planning Strategies and Related Limitations

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

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

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

A taxpayer paying his 10-year-old daughter $50,000 a year for consulting likely violates which 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 Lavonia's marginal tax rate is 22 percent.If a city of Tampa bond pays 5 percent interest,what interest rate would a corporate bond have to offer for Lavonia to be indifferent between the two bonds?

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

Assume that Larry's marginal tax rate is 24 percent.If corporate bonds pay 10 percent 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 an example of the timing strategy?

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

Assume that John's marginal tax rate is 37 percent.If a city of Austin bond pays 6 percent interest,what interest rate would a corporate bond have to offer for John to be indifferent between the two bonds?

Assume that Bill's marginal tax rate is 32 percent.If corporate bonds pay 8 percent interest,what interest rate would a municipal bond have to offer for Bill to be indifferent between the two bonds?

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

Which of the following may limit the conversion strategy?

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

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

A common income-shifting strategy is to: