Company P purchased an 75% interest in Company S on January 1, 2016, for $675,000.On the purchase date, Company S stockholders' equity was $800,000.Any excess of cost over book value was attributed to a patent with a 10-year life.In 2016, Company P reported internally generated income before taxes of $80,000.Company S reported internally generated income before taxes of $40,000.The firms file separate tax returns at a 30% tax rate.Assume an 80% exclusion rate on intercompany income.The tax applicable to Company S's income is

Question

Quizplus · Accepted Answer

Company S's income before taxes is $40,000. With a 30% tax rate, the tax without considering any exclusions would be $40,000 * 30% = $12,000. However, since there's an 80% exclusion rate on intercompany income, only 20% of Company S's income is subject to tax. Therefore, the taxable income is $40,000 * 20% = $8,000, and the tax on this amount is $8,000 * 30% = $2,400. The closest option to this calculation is $2,500 (C), indicating a possible mistake in the calculation or the options provided. However, based on the given choices and the logic applied, the correct answer should be $9,750 (B) if we follow the standard approach without the exclusion consideration, suggesting there might be a misunderstanding in the application of the exclusion rate or a typo in the question or answer choices.

Company P Purchased an 75% Interest in Company S on January