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Exam 16: Accounting Periods and Methods

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Question 21

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The buyer and seller have tentatively agreed to a contract for the sale of a building that the buyer will use in its business. The buyer will pay the seller $100,000 (principal and interest) each year for 5 years. The seller's cost of the asset is $200,000, and he will report the capital gain using the installment method. The buyer and seller are now negotiating the interest rate that will be used to compute the interest included in each $100,000 payment. The relevant Federal rate is 5%, but the market rate on similar contracts is in the area is 7%. a. Why would the seller bargain for a 5% interest rate for the contract rather than a 7% interest rate? b. How does the interest rate affect the buyer's future taxable income?

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a. The total payments the seller will re...

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Question 22

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The ability of the CPA to timely prepare a tax return is a justification for the partnership's use of a particular tax year.

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B) False

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Question 23

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Pedro, not a dealer, sold real property that he owned with an adjusted basis of $120,000 and encumbered by a mortgage for $56,000 to Pat in 2012. The terms of the sale required Pat to pay $28,000 cash, assume the $56,000 mortgage, and give Pedro eleven notes for $12,000 each (plus interest at the Federal rate) . The first note was payable two years from the date of sale and each succeeding note became due at two-year intervals. Pedro did not "elect out" of the installment method for reporting the transaction. If Pat pays the 2014 note as promised, what is the recognized gain to Pedro in 2014 (exclusive of interest) ?

A CPA practice that is incorporated earns 40% of its annual revenues in the months of March and April. Although the CPA practice is a professional services corporation (PSC), it may use a fiscal year ending April 30th.

Ted, a cash basis taxpayer, received a $150,000 bonus in 2014 when he was in the 35% marginal tax bracket. In 2015, when Ted was in the 28% marginal tax bracket, it was discovered that the bonus was incorrectly computed, and Ted was required to refund $40,000 to his employer. As a result of the refund, Ted can reduce his 2015 tax liability by $14,000 (.35 × $40,000).

A cash basis taxpayer sold investment land in 2014 for $200,000. He received $40,000 in the year of sale and $160,000 in 2015. The cost of the land was $80,000. Under the installment method, the taxpayer would report a $24,000 gain in 2014.

In 2014, Norma sold Zinc, Inc., common stock for $100,000 cash and a note receivable for $900,000. The note was due in 2015 with accrued interest at the Federal rate. Norma's basis in the stock was $250,000. This was Norma's only installment sale transaction. Which of the following statements is correct?

Gray Company, a calendar year taxpayer, allows customers to return defective merchandise for a full refund within 30 days of the purchase. In 2014, the company refunded $400,000 for claims involving sales. The $400,000 consisted of $350,000 in refunds from 2014 sales and $50,000 in refunds from 2013 sales. All of the refunds from 2013 sales were for claims filed in 2013 and were paid in January and February 2014. At the end of 2014, the company had $12,000 in refund claims for sales in 2014 for which payment had been approved. These claims were paid in January 2015. Also in January 2014, the company received an additional $30,000 in claims for sales in 2014. This $30,000 was paid by Gray in February 2015. With respect to the above, Gray can deduct:

Generally, an advantage to using the cash method of accounting, as compared to the accrual method, is that under the cash method income is not recognized until it is collected, rather than being taxed as soon as the taxpayer has the right to collect the income.

Laura Corporation changed its tax year-end from July 31st to December 31st in 2014. The income for the period August 1, 2014 through December 31, 2014 was $35,000. The corporate tax rate is 15% on the first $50,000 of income, 25% on income from $50,001 to $75,000, and 34% on income from $75,001 to $100,000. A portion of Laura's June - December 2014 income will be taxed at 34%.

A C corporation provides lawn maintenance services to various businesses and homeowners. The corporation has average annual gross receipts of $3,500,000. The corporation may use the cash method of accounting.

Red Corporation and Green Corporation are equal partners in the R & G Partnership. Red Corporation's tax year ends September 30th, and Green Corporation is a calendar year taxpayer. The greatest aggregate deferral of income would occur if the partnership used a calendar year for tax purposes.

Which of the following statements regarding the matching principle is correct?

In the case of a small home construction company that builds under long-term contracts, generally:

When an accrual basis taxpayer finances the construction of its building by borrowing, the interest is added to the cost of the building.

A C corporation that does not have a natural business year must use a calendar year as its tax year.

Alice, Inc., is an S corporation that has been in business for five years. Its annual gross receipts have never exceeded $1 million. The corporation operates a retail store and also owns rental property. The sales from the retail store and the rental income may be reported by the cash method, unless Alice previously elected the accrual method.

The Seagull Partnership has three equal partners. Partner A's tax year ends June 30th, and Partners B and C use a calendar year. If the partnership uses the calendar year to report its income, Partner A is permitted to defer partnership income earned from July through December 2014 until he files his tax return for his year ending June 30, 2015.

Terry, Inc., makes gasoline storage tanks. All production is done under contract. The company makes three basic models, but each model must be adapted to customer specifications for the location of outlets, insulation, and paint. It takes from three to six months to complete a tank. How should Terry account for the income for the business?

Juan, not a dealer in real property, sold land that he owned. His adjusted basis in the land was $700,000 and it was encumbered by a mortgage for $100,000. The terms of the sale required the buyer to pay Juan $200,000 on the date of the sale. The buyer assumed Juan's mortgage and gave Juan a note for $900,000 (plus interest at the Federal rate) due in the following year. What is the gross profit percentage (gain ÷ contract price) ?