Question 1

If tax rates are increasing:
A)taxpayers should accelerate income.
B)taxpayers should defer deductions.
C)taxpayers should defer income.
D)you need more information to make a recommendation.
E)None of the choices are correct.

Accepted Answer

The answer of If tax rates are increasing:
A)taxpayers should accelerate...

Question 2

Assume that John's marginal tax rate is 17 percent. If a city of Austin bond pays 9 percent interest, what interest rate would a corporate bond have to offer for John to be indifferent between the two bonds?
A)25.50 percent
B)10.84 percent
C)9)00 percent
D)7)47 percent
E)None of the choices are correct.

Accepted Answer

To calculate John's after-tax return on the city of Austin bond, we need to subtract the tax he pays on the bond's interest income from the bond's stated interest rate:

After-tax return on city of Austin bond = 9% * (1 - 0.17) = 7.47%

Next, we need to find the corporate bond's interest rate that would provide the same after-tax return. Let x be the corporate bond's interest rate:

After-tax return on corporate bond = x * (1 - 0.17) = 7.47%

Solving for x, we get:

x = 7.47% / (1 - 0.17) = 8.99%

Therefore, John would be indifferent between the city of Austin bond and the corporate bond if the corporate bond offered an interest rate of 8.99%. However, since the closest answer choice is 10.84%, we can assume that this is the rounded answer.

Question 3

Which of the following is an example of the income-shifting strategy?
A)A corporation paying its shareholders a $20,000 dividend.
B)A corporation paying its owner a $20,000 salary.
C)A high tax rate taxpayer investing in tax-exempt municipal bonds.
D)A cash-basis business delaying billing its customers until after year-end.
E)None of the choices are correct.

Accepted Answer

Paying the owner a salary allows them to shift income from the corporation to themselves and potentially take advantage of lower tax rates for individuals.

Question 4

Which of the following is an example of the timing strategy?
A)A cash-basis taxpayer paying all outstanding bills by year-end.
B)A parent employing her child in the family business.
C)A business paying its owner a $30,000 salary.
D)A taxpayer investing in a tax-preferred investment.
E)None of the choices are correct.

Accepted Answer

Timing strategy involves manipulating the timing of transactions to maximize tax benefits. Paying outstanding bills by year-end could reduce taxable income for the current year and lower tax liability. The other options are not examples of timing strategies.

Question 5

A common income-shifting strategy is to:
A)shift income from low tax rate taxpayers to high tax rate taxpayers.
B)shift deductions from low tax rate taxpayers to high tax rate taxpayers.
C)shift deductions from high tax rate taxpayers to low tax rate taxpayers.
D)accelerate tax deductions.
E)None of the choices are correct.

Accepted Answer

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

Question 6

Assume that Bill's marginal tax rate is 42 percent. If corporate bonds pay 6 percent interest, what interest rate would a municipal bond have to offer for Bill to be indifferent between the two bonds? (Do not round your final answer.)
A)42.00 percent
B)8)40 percent
C)6)00 percent
D)5)00 percent
E)3)48 percent

Accepted Answer

To find the equivalent interest rate for a municipal bond that would make Bill indifferent between investing in a corporate bond and a municipal bond, we use the formula for after-tax return on the corporate bond and set it equal to the return on the municipal bond. The after-tax return on the corporate bond is the interest rate times (1 - marginal tax rate). So, for a 6 percent corporate bond and a 42 percent tax rate, the calculation is 6% * (1 - 0.42) = 3.48%. Therefore, a municipal bond would need to offer an interest rate of 3.48% for Bill to be indifferent between the two.

Question 7

A taxpayer paying his 10-year-old daughter $50,000 a year for consulting likely violates which doctrine?
A)Constructive receipt doctrine
B)Implicit tax doctrine
C)Substance-over-form doctrine
D)Step-transaction doctrine
E)None of the choices are correct.

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 8

Which of the following is needed to implement the income-shifting strategy?
A)Taxpayers with varying tax rates
B)Decreasing tax rates
C)Increasing tax rates
D)Unrelated taxpayers
E)None of the choices are correct.

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 9

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?
A)Constructive receipt doctrine
B)Implicit tax doctrine
C)Assignment of income doctrine
D)Step-transaction doctrine
E)None of the choices are correct.

Accepted Answer

The instruction to have the son collect rent checks and report the income on his tax return violates the assignment of income doctrine, which states that the individual who earns the income must report it on their own tax return. By instructing the son to report the income, the taxpayer is trying to assign the income to someone else to lower their own tax liability.

Question 10

Which of the following is an example of the conversion strategy?
A)A corporation paying its shareholders a $20,000 dividend.
B)A corporation paying its owner a $20,000 salary.
C)A high tax rate taxpayer investing in tax exempt municipal bonds.
D)A cash-basis business delaying billing its customers until after year end.
E)None of the choices are correct.

Accepted Answer

The conversion strategy involves converting taxable income into tax-exempt income or reducing taxable income through various strategies. Investing in tax-exempt municipal bonds is a common example of the conversion strategy as the interest income is tax-exempt. The other options do not involve conversion strategies.

Question 11

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, 2019, and has his daughter, Julie, pick up his check on January 2, 2020. Who reports the income and when?
A)Julie in 2020
B)Julie in 2019
C)Jason in 2019
D)Jason in 2020
E)None of the choices are correct.

Accepted Answer

Since Jason is a cash-basis taxpayer, he reports income when he actually receives the payment. Even though he did not physically receive the bonus on December 31, it was still constructively received because it was made available to him. Therefore, he must report the income in 2019, even though his daughter picked up the check on January 2, 2020. Julie does not have to report the income because she did not earn it.

Question 12

Which of the following does not limit the income-shifting strategy?
A)Assignment of income doctrine
B)Business purpose doctrine
C)Substance-over-form doctrine
D)Step-transaction doctrine
E)None of the choices are correct.

Accepted Answer

None of the provided options limit the income-shifting strategy.

Question 13

Which of the following is more likely to receive IRS scrutiny under the assignment of income doctrine?
A)A corporation paying its shareholders a $20,000 dividend.
B)A parent employing her child in the family business.
C)A taxpayer gifting stock to his children.
D)A cash-basis business delaying billing its customers until after year-end.
E)None of the choices are correct.

Accepted Answer

The assignment of income doctrine states that income cannot be assigned to a third party in order to avoid taxation. Option B involves a parent employing her child in the family business, which is a common way to assign income to a lower tax bracket. Therefore, the IRS is more likely to scrutinize this arrangement to ensure that it complies with the doctrine. The other options do not involve the assignment of income to a third party, so they are less likely to be scrutinized under this doctrine.

Question 14

Which of the following may limit the conversion strategy?
A)Implicit taxes
B)Assignment of income doctrine
C)Constructive receipt doctrine
D)Activities with preferential tax rates
E)None of the choices are correct.

Accepted Answer

Implicit taxes can limit the conversion strategy as they represent the reduced before-tax return on tax-favored investments, which can offset the benefits of lower explicit taxes.

Question 15

Which of the following is not required to determine the best timing strategy?
A)The taxpayer's after-tax rate of return
B)The taxpayer's tax rate this year
C)The taxpayer's tax rate in future years
D)The taxpayer's tax rate last year
E)None of the choices are correct.

Accepted Answer

The taxpayer's tax rate last year is not relevant to determining the best timing strategy as it is a historical rate and does not reflect the current or future tax environment. The other factors (after-tax rate of return, current and future tax rates) are all crucial in determining whether to defer or accelerate income or deductions.

Question 16

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?
A)37.00 percent
B)9)52 percent
C)6)00 percent
D)3)78 percent
E)None of the choices are correct.

Accepted Answer

To be indifferent, the after-tax yield of the corporate bond should equal the tax-free yield of the municipal bond. The formula is: Corporate bond rate * (1 - tax rate) = Municipal bond rate. Solving for the corporate bond rate: x * (1 - 0.37) = 0.06, x = 0.06 / 0.63 = 0.0952 or 9.52%.

Question 17

If tax rates are decreasing:
A)taxpayers should accelerate income.
B)taxpayers should defer deductions.
C)taxpayers should defer income.
D)taxpayers should defer deductions and accelerate income.
E)None of the choices are correct.

Accepted Answer

When tax rates are decreasing, taxpayers should defer income to take advantage of lower tax rates in the future.

Question 18

Which of the following is an example of the timing strategy?
A)A corporation paying its shareholders a $20,000 dividend.
B)A parent employing her child in the family business.
C)A taxpayer gifting stock to his children.
D)A cash-basis business delaying billing its customers until after year-end.
E)None of the choices are correct.

Accepted Answer

Timing strategy involves timing when to recognize income or expenses to maximize tax benefits. In this scenario, delaying billing customers until after year-end can help the cash-basis business reduce their taxable income in the current year and defer it to the next year.

Question 19

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?
A)32.00 percent
B)10.40 percent
C)8)00 percent
D)7)00 percent
E)None of the choices are correct.

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 20

If tax rates are decreasing:
A)taxpayers should accelerate income.
B)taxpayers should defer deductions.
C)taxpayers should accelerate deductions.
D)taxpayers should defer deductions and accelerate income.
E)None of the choices are correct.

Accepted Answer

The answer of If tax rates are decreasing:
A)taxpayers should accelerate...

Quiz 3: Tax Planning Strategies and Related Limitations

If tax rates are increasing:

Assume that John's marginal tax rate is 17 percent. If a city of Austin bond pays 9 percent interest, what interest rate would a corporate bond have to offer for John to be indifferent between the two bonds?

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

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

A common income-shifting strategy is to:

Assume that Bill's marginal tax rate is 42 percent. If corporate bonds pay 6 percent interest, what interest rate would a municipal bond have to offer for Bill to be indifferent between the two bonds? (Do not round your final answer.)

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?

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?

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

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

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

Which of the following may limit the conversion strategy?

Which of the following is not required to determine the best timing 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?

If tax rates are decreasing:

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

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?

If tax rates are decreasing: