Chapter 5
1. In order for a taxpayer to reduce taxable income with a deduction, the tax law must allow it, and it must meet all
statutory requirements.
a.
True
b.
False
True
2. In order to take a business deduction, the taxpayer engaged in a business must be able to establish a business purpose
for each expenditure.
a.
True
b.
False
True
3. An individual is indifferent whether an expense is deducted for or deducted from adjusted gross income.
a.
True
b.
False
False
4. Evelyn can avoid the 2 percent limitation on her investment expenses by having her partnership pay them.
a.
True
b.
False
False
5. An expense that is incurred for the production of rent will be deducted for adjusted gross income.
a.
True
b.
False
False
6. For a taxpayer to be engaged in a trade or business, the activity must meet all of the following tests: it must produce a
profit every year; must be continuous and regular activity; and must be the taxpayer’s livelihood not their hobby.
a.
True
b.
False
False
7. A necessary expense is one that is appropriate and helpful to the taxpayer’s income activity.
a.
True
b.
False
True
8. Pamela owns the building where her plumbing supply business is located. This year she put on vinyl siding to replace
the weathered wood siding on her building. The cost of the new siding can be expensed in the current year.
a.
True
b.
False
False
9. Bowen is planning to quit his job as a plumber and open a paint store. He has incurred expenses of $8,000 dealing with
the opening of the store and will be able to deduct all of these expenses.
a.
True
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b.
False
True
10. Morgan, a banker, is an amateur photographer who takes pictures at weddings and parties. He earned $1,000 but
incurred $1,200 in related expenses. Since he takes a standard deduction, he will have to include the $1,000 in income but
will not get any benefit from the expenses.
a.
True
b.
False
True
11. Andy lives in New York and rents his house for two weeks during the U.S. Open Tennis tournament for $3,500. He
must include the rent in his income.
a.
True
b.
False
False
12. John decides rather than work late in the office, he does all of his work in an office at home. His employer approves of
this arrangement. Since John uses his home office on a regular and exclusive basis, he will be eligible to take a home
office deduction even though it was not required as a condition of employment.
a.
True
b.
False
False
13. A taxpayer can take a deduction for a portion of his phone bill if he is eligible for the home office deduction.
a.
True
b.
False
False
14. Ona is a professional musician. She prepared her music teacher’s tax return in exchange for music lessons. Since she
is a cash basis taxpayer, she cannot take a deduction for the music lessons.
a.
True
b.
False
False
15. Devery, Inc. sells high tech machine parts that are fully warranted against defects. Based on prior years experience
they can expect to incur $20,000 of warranty expense on current sales. They are on the accrual basis, and the warranty
expense is based on a reasonable estimate, so Devery can deduct the $20,000.
a.
True
b.
False
False
16. Teresa, Terri, and Tricia operate Sassy Solutions, an exclusive boutique. Based on advice from Teresa’s sister, a CPA,
the three form a partnership. Teresa owns 50% and Terri and Tricia each own 25%. For the year, Sassy Solutions reports
the following:
Sales revenues
$600,000
Business expenses
(320,000)
Investment expenses
(4,000)
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Short-term capital gains
26,000
Long-term capital losses
(14,000)
Taxable income
$288,000
For tax purposes, what amount will Sassy Solutions report to Teresa as her ordinary income from the partnership?
a.
$144,000
b.
$146,000
c.
$148,000
d.
$138,000
e.
$140,000
e
17. Tom, Dick, and Harry operate Quality Stores. Based on advice from Tom’s sister, a CPA, the three form a partnership.
Tom owns 50%; Dick and Harry each own 25%. For the year, Quality Stores reports the following:
Sales revenues
$800,000
Business expenses
(440,000)
Investment expenses
(4,000)
Short-term capital gains
26,000
Long-term capital losses
(14,000)
Taxable income
$368,000
By how much will Tom’s adjusted gross income increase because of the above?
a.
$178,000
b.
$180,000
c.
$183,000
d.
$184,000
e.
$186,000
e
18. To be deductible, the dominant motive for incurring an expense must be
a.
the relationship to a business activity.
b.
to reduce income taxes.
c.
tax avoidance.
d.
the intent to earn a profit.
e.
personal.
19. Which of the following is an example of a business purpose as dominant motive?
I.
Darren is a full-time plumber and a part-time Amway salesman. He is taking his family to
Disney World and plans to take his Amway products with him so that he may deduct most
of his cost of the trip.
II.
Larry is a full-time plumber. He is taking his family with him to a convention in Orlando
featuring the latest in plumbing products and techniques. He plans to deduct most of his
cost of the trip.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
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d.
Neither statement is correct.
20. The Business Purpose Concept means
I.
that the economic purpose of the transaction must exceed the tax avoidance motive.
II.
that the taxpayer’s dominant motive for an expenditure is to reduce taxation.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
21. The legislative grace concept dictates that deductible business expenses be grouped into certain categories that include
I.
Personal expenses.
II.
Trade or business expenses.
III.
Expenses for the production of income.
a.
Statements I and II are correct.
b.
Statements I and III are correct.
c.
Statements I, II, and III are correct.
d.
Statements II and III is correct.
22. Business expenses include
I.
expenditures that have a business purpose
II.
expenditures that are incurred for the production of income.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
23. A business expense includes
I.
an expenditure that satisfies the dominant profit-motive requirement.
II.
an expenditure that is incurred in a trade or business activity.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
24. Sheila extensively buys and sells securities. The IRS has determined upon examination that she is not in a trade or
business concerning the securities’ transactions and therefore, Shelia must be
a.
a broker.
b.
an active trader.
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c.
an active investor.
d.
a securities’ dealer.
25. Sarah extensively buys and sells securities . The IRS has determined upon examination that she is in a trade or
business concerning the securities’ transactions and therefore, Sarah is
a.
a day trader.
b.
an active trader.
c.
an active investor.
d.
a securities’ dealer.
26. Which of the following is/are trade or business expenses?
I.
Mahlon incurs expenses related to investing in stocks and bonds. Mahlon is a Sociology
professor at State University but spends 10–15 hours per week on his investments. Almost
2/3 of Mahlon’s annual income comes from his investments as dividends and interest.
II.
Shaheen has expenses related to managing her portfolio of securities. The short-term
trading of her securities generates most of her annual income. She has no other job.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
27. Which of the following is/are trade or business expenses?
I.
Solly incurs legal expenses related to real estate he leases to Bucko Burger Hamburger
Haven for a parking lot. Solly does little but negotiate the lease every year..
II.
Susan owns several rental apartments. She negotiates new rental contracts, arranges for
repairs and maintenance, and handles all leasing activities.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
28. Which of the following people is currently engaged in a trade or business?
I.
Barry spends 4 hours a day 5 days a week managing his investment portfolio. He watches
the market and buys and sells securities when he thinks the market is right. His investment
strategy is to realize income from dividends and long-term gains from holding investments
for appreciation in value.
II.
Jennifer is a full-time realtor, and she owns a house that she rents to Barry and his family
for $900 a month. Jennifer provides for the repairs and maintenance of the house, and she
stops by monthly to collect the rent and visit with Barry and his family.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
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d.
Neither statement is correct.
29. Which of the following people are currently engaged in a trade or business?
I.
Willie devotes 45 hours per week to betting on horse races. Although he intends to win
large sums, he has failed to win the big one. He considers his betting activities his job and
relies on his meager winnings to support his family.
II.
Daryl owns 214 home sites in and around Orlando, Florida. He bought these vacant lots
several years ago in hoping that they would appreciate in value so he could sell them at a
profit. Because of the recreational activities in the area, the building lots are worth several
times his original cost. He is getting the lots ready to sell this year.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
30. Which of the following individuals is involved in a trade or business?
I.
Lil owns a farm near Lafayette, Indiana. She leases the property to Cal, who operates the
farm for himself. Lil receives 10% of Cal’s net income as part of the lease agreement but
has no responsibilities for the farming operation.
II.
Lorraine owns a warehouse located in Brooklyn NY. She paid $250,000 for the real estate
several years ago. It is now appraised at over $1,000,000, but she still uses the building
only to store her painting collection.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
31. Marian, a schoolteacher in Duluth, Minnesota, owns a rental house in Scottsdale, Arizona. She travels to Arizona
during spring break to inspect her property and discuss property improvements with the tenant and property manager.
Marian’s brother, Brian, lives in Scottsdale. She stays at his house during her week in Arizona and borrows his car to
travel across town for her day of meetings. Her trip accomplishes several objectives: a visit with her brother, a trip away
from Wisconsin’s winter weather, and a review of her investment property. The expenses of traveling to Scottsdale
I.
have a dominant business purpose.
II.
are deductible as expenses for the production of income.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
32. Bonnie’s sister, Diane, wants to open a restaurant. Because Diane is short of funds, Bonnie purchases the building and
leases it to Diane. No agreement is signed, and Bonnie tells Diane not to worry about paying rent until the cash flow can
support it. Also, Bonnie promises not to sell the property to anyone other than Diane.
I.
Any expenditures Bonnie makes regarding the building would be classified as production
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of income expenses.
II.
The building rental has the characteristics of a gift.
III.
The dominant motive in acquiring the building is to earn an economic benefit (profit).
IV.
Bonnie’s property tax expenses related to the property are deductible.
a.
Only statement II is correct.
b.
Only statement III is correct.
c.
Statements I, II, and IV are correct.
d.
Statements II and IV are correct.
e.
Statements I, II, III, and IV are correct.
33. Shaheen owns 2 rental properties. She hires her 21 year old son, who is a junior at State College, to obtain tenants,
negotiate leases, make arrangements for repairs, and pay expenses related to the properties.
I.
Shaheen’s sale of the properties will result in a capital gain or loss.
II.
Shaheen’s sale of the properties at a loss results in a current-year loss deduction of no more
than $3,000.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
c
34. Pedro owns 5 rental properties. He contracts with East Lake Properties, Inc., to manage the real estate. East Lake
obtains tenants, negotiates leases, makes necessary repairs, pays expenses related to the properties, and remits monthly net
receipts to Pedro.
I.
Pedro’s sale of the properties at a gain will result in a capital gain.
II.
Pedro’s sale of the properties at a loss results in an ordinary loss on his tax return.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
a
35. In the current year, Paul acquires a car for $16,000. He uses the car in his advertising business and for personal
purposes. His records indicate the car is used 60% for business and that the total operating expenses, including
depreciation, are $4,700. Paul expects to use the car for 5 years in his business. What amount can Paul deduct as the
operating costs of the car?
a.
$- 0 –
b.
$2,400
c.
$2,820
d.
$4,700
e.
$12,000
36. During 2015, Myca sells her car for $5,000. She acquired the car in 2011 for $11,000 and has used it 60% for business
and 40% for personal use. She deducted $5,280 in depreciation. What is the taxable gain or loss from the sale of the car
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attributable to her business use?
a.
$3,680 gain
b.
$432 gain
c.
$720 loss
d.
$2,280 loss
e.
$1,680 gain
e
37. Charlotte traveled to Annapolis to attend a three-day business conference. After her meetings concluded, she stays 2
additional days sightseeing. Charlotte’s airfare is $400 and pays $110 per night for lodging, $60 a day for meals, and $20 a
day for incidentals. How much of Charlotte’s costs can be deducted as a business expense?
a.
$- 0 –
b.
$400
c.
$880
d.
$970
e.
$1,200
c
38. Three requirements must be met in order to deduct a trade or business expense. Also, deductible trade or business
expenses may not be which of the following:
I.
a capital expenditure.
II.
reasonable in amount.
III.
a payment that frustrates public policy.
IV.
an expense related to tax-exempt income.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Statements III and IV are correct.
d.
Statements I, II, and III are correct.
e.
Statements I, III, and IV are correct.
e
39. An ordinary expense
I.
is normal, common, and accepted under the circumstances of the business community.
II.
is an expense commonly incurred in an income-producing activity.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
c
40. An ordinary expense
I.
is an expense commonly incurred in an income-producing activity.
II.
is an expenditure that provides future benefits to an income-producing activity.
a.
Only statement I is correct.
b.
Only statement II is correct.
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c.
Both statements are correct.
d.
Neither statement is correct.
a
41. All of the following are a required test for the deduction of a business expense except?
a.
GAAP approved.
b.
Ordinary.
c.
Necessary.
d.
Business purpose.
e.
Reasonable in amount.
a
42. Portia, a CPA, operates a financial and tax planning service. During the months of February, March, and April of
every year, she hires graduate tax students from The University of Chicago as interns. This year she hires 4 interns. One is
her brother, Sidney. She pays all interns except Sidney $20 per hour for help with tax return preparation and tax research.
Sidney receives $25 an hour. She cannot deduct the full amount of Sidney’s hourly wages because the expense is not
a.
appropriate.
b.
ordinary.
c.
necessary.
d.
reasonable.
43. Which of the following payments are currently deductible?
I.
Sweeney Corporation pays tuition to an MBA program for Phyllis, the controller.
II.
Amber’s Construction Company pays the tuition for Karl’s son. Karl is a local building
inspector and has no other relationship with the company.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
a
44. Which of the following payments are currently deductible?
I.
Steve is a self-employed attorney. He pays another attorney $14,000 to represent him in a
lawsuit that alleged that he was liable in a personal auto accident.
II.
Connie has an investment portfolio in excess of $600,000. She pays Chris $1,000 to do an
analysis of her investments and make recommendations on restructuring the portfolio.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
45. Which of the following is a currently deductible trade or business expense.
a.
$ 5,000 trustee fees paid to a bank to manage tax-exempt securities.
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b.
$ 12,000 fee paid to a marketing firm for a market analysis for a new business.
c.
$15,000 fee paid to a TV station to advertise a new product.
d.
$20,000 to an attorney to defend title to a new patent.
e.
All of the above are currently deductible expenses.
46. Which of the following is/are currently deductible trade or business expenses?
I.
Membership dues to an environmental lobbying group.
II.
Cost of acquiring a new business automobile.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
47. Which of the following is/are currently deductible trade or business expenses?
I.
Personal property taxes on a hot air balloon operated as a hobby.
II.
Interest paid on the mortgage note on a business warehouse.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
48. Which of the following requirements does not have to be met for a business or investment expense to be deductible:
a.
Be ordinary and necessary.
b.
Be reasonable in amount.
c.
Be recurring.
d.
Be the taxpayer’s own expense.
e.
All of the above must be met.
49. Which of the following is not deductible?
a.
Expenses related to earning dividends on a portfolio of “blue chip” stocks.
b.
Expenses related to interest income from municipal bonds.
c.
Legal expenses related to rental real estate property.
d.
Medical expenses of the taxpayer’s dependent child.
50. Kelly buys a new Lexus for $48,750 in the current year to use in her commercial real estate business. Kelly cannot
deduct the cost of the automobile in the current year, because
a.
it is unreasonable in amount.
b.
it is not a regularly recurring item.
c.
it is a capital expenditure.
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d.
it is not necessary
c
51. Angel owns a gourmet Mexican restaurant. His head chef, Carmen, is arrested for a parole violation. Because Angel
needs Carmen back to work as soon as possible, Angel pays her bail of $250, attorney’s fees of $300, and a court fine of
$200.
I.
A business purpose exists for the payments.
II.
If Carmen were required to repay the expenditures, it would constitute a loan and not be
deductible for Angel.
III.
If Angel does not require Carmen to repay the amounts paid on Carmen’s behalf, the
payments constitute compensation and Angel gets a deduction for the expenses paid.
a.
Only statement I is correct.
b.
Statements I and III are correct.
c.
Statements I and II are correct.
d.
Statements I, II and III are correct.
52. Which of the following expenditures are not deductible because they are personal in nature?
I.
Premiums paid on liability insurance for the taxpayer.
II.
Education costs that improves the taxpayer’s skills in his/her trade or business.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
a
53. Which of the following expenditures are not deductible because they are personal in nature?
I.
Legal costs to acquire a personal residence.
II.
Losses resulting from the sale of personal residences.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
c
54. Diana bought 1,500 shares of Dalton Protection, Inc., common stock for $10 per share. She paid her broker a $300
commission to close the purchase. The following year, Diana sold 1,000 of the shares for $17 per share and paid a
commission of $175 on the sale. What is Diana’s capital gain on the sale of the stock?
a.
$1,525
b.
$2,000
c.
$6,625
d.
$6,825
e.
$7,000
c
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55. Wanda owns and operates a restaurant on the north side of Cleveland. She is considering opening a second restaurant
on the south side of town and incurs $13,600 of investigation expenses. In July of the current year, Wanda decides not to
open a second restaurant. How much of the investigation expenses can Wanda deduct in the current year?
a.
$- 0 –
b.
$5,000
c.
$5,120
d.
$5,600
e.
$13,600
e
56. Kim owns and operates a restaurant on the north side of Indianapolis. She is considering opening a day care center on
the south side of town and incurs $10,400 of investigation expenses. In July of the current year, Kim opens the day care
center. How much of the investigation expenses can Kim deduct in the current year?
a.
$- 0 –
b.
$5,000
c.
$1,540
d.
$5,180
e.
$10,400
57. Davis owns and operates a convenience store on the north side of the city. He has always wanted to operate a sports
bar. When he hears of a new shopping center development in the south part of the city, he contacts the developer and
begins negotiations to open his dream enterprise.
I.
If negotiations are successful and Davis incurs $40,000 in start-up costs to open his new
business, he can deduct up to $5,000 of the start-up costs and must capitalize the costs of
investigation and start-up exceeding $5,000.
II.
If Davis decides not to open his bar and restaurant, the investigation expenses are fully
deductible.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
a
58. Henry owns a hardware store in Indianapolis. He has decided to expand his business interests and is considering
opening a golf store in a neighboring town. He has incurred $12,000 of expenses investigating whether to open the new
golf store. In July of the current year he finds the perfect location and opens the golf store on October 1. What amount of
the investigation expenses can he deduct in the current year?
a.
$- 0 –
b.
$600
c.
$5,117
d.
$5,540
e.
$12,000
59. Paul owns a lumber yard in Portland. He has decided to expand his business interests and is considering opening a golf
course in Seattle. He has incurred $51,000 of expenses investigating whether to open the new golf course. In January of
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the current year he finds the perfect location and opens the golf course on July 1. What amount of the investigation
expenses can he deduct in the current year?
a.
$- 0 –
b.
$5,100
c.
$5,567
d.
$6,533
e.
$51,000
c
60. Jackie recently retired from the U.S. Coast Guard after 30 years of service. She would like to open a boat shop to
operate in her retirement years. Jackie incurs $3,800 of expenses while investigating sites for her shop and while checking
out boat franchises. What are the tax effects of the expenses Jackie incurs?
I.
If Jackie enters the boat business, she can deduct the costs only by capitalizing them and
amortizing them over 180 months.
II.
They are not deductible if Jackie does not enter the ski and boat business.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
61. Which of the following can be deducted as a trade or business expense?
a.
Lobbying expenses to influence taxpayers.
b.
Political contribution to elect a local Congressman.
c.
Illegal bribes to government
d.
Rent paid on a office to run an illegal gambling operation.
e.
None of the above can be deducted.
62. Oscar drives a taxi on weekends. In maximizing the amount of fares he earns, he occasionally gets tickets for
speeding. Oscar figures that as long as he keeps his traffic violations under $100 over a weekend, he can more than offset
those costs with additional fares. What is/are the tax effect(s) of Oscar’s speeding ticket costs?
a.
The costs are deductible because they are ordinary and necessary expenses directly related to the business.
b.
The costs are deductible because they have a business purpose and the business is not illegal.
c.
The costs are not deductible because the business activity is illegal.
d.
The costs are not deductible because they are due to violations of law.
63. Which of the following expenditures or losses incurred in the context of a trade or business activity is deductible at the
time it is incurred?
a.
Aaron owns a local restaurant. He pays the local health inspector a fee of $125 per week, as provided by city
regulation.
b.
Beth owns a local delivery company and pays $750 in parking fines during the year with respect to her
delivery vehicles. These fines were unavoidable in the context of her business activity.
c.
Brad hires the son of the police chief as the night watchman at his business. The son is paid at the same
weekly rate as other night watchmen in the area, but he does not show up for work on a regular basis.
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d.
Dotty owns a local nightclub that features live music. She pays $4,600 to purchase a full page ad in the local
newspaper urging citizens to vote against a noise ordinance in the next election that will force her out of
business if passed.
a
64. Bruce operates an illegal drug business. Which of the following is deductible?
a.
Commissions paid to dealers.
b.
Rent for a warehouse.
c.
Bribes paid to local police.
d.
Cost of drugs sold.
e.
Interest on debt to finance the purchase of inventory.
65. Michael operates an illegal cock fighting business. Which of the following expenses is currently deductible?
a.
Fines paid to the local authorities.
b.
Bribes paid to local police.
c.
Rent expense on the enterprise’s building.
d.
Expenditures to acquire bar and kitchen equipment.
e.
None of these expenses are currently deductible.
c
66. Chelsea operates an illegal gambling enterprise out of her restaurant. Considering only the following expenses, what
amount can Samantha deduct?
Building rent
$34,000
Secretarial services
12,000
Payments to off-duty policemen to provide security
20,000
Lease payments for cars given to health inspectors
18,000
a.
$- 0 –
b.
$46,000
c.
$66,000
d.
$72,000
e.
$84,000
c
67. Which of the following expenses is/are deductible?
I.
Transportation and lodging expenses of $4,000 to influence state legislation that may
affect the taxpayer’s business.
II.
A $4,000 contribution to the mayor’s campaign fund.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
68. Which of the following expenses is/are deductible?
I.
Transportation and lodging expenses of $3,000 incurred to monitor state legislation that
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may affect the taxpayer’s business.
II.
Lobby expenses of $300 during the year to influence local town legislators to support pro-
business legislation.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
c
69. Which of the following payments are deductible?
I.
Wilcox pays $1,000 to run an add in the program of the state Independent Party
convention
II.
Wilcox is in the construction business. In January, he sends his chief financial officer to
Washington, D.C., to monitor current legislation affecting the real estate industry.
Expenses totaled $2,100.
III.
In March, Wilcox personally travels to Washington, D.C., to testify before the banking
subcommittee on the effects of proposed legislation on the construction industry. Expenses
totaled $2,300.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Only statement III is correct.
d.
Statements II and III are correct.
e.
Statements I and II are correct.
70. Which of the following production of income expenses would be deductible:
I.
Interest expense on loan to acquire U.S. Treasury notes.
II.
Interest expense on loan to acquire IBM Corporate bonds.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
c
71. Clay incurs $5,000 of investment expenses related to purchasing Renco Company stock and New Orleans municipal
bonds. He receives $6,000 of dividends on the stock and $14,000 of interest on the bonds. The amount of investment
expense Clay can deduct is:
a.
$- 0 –
b.
$1,500
c.
$2,500
d.
$3,500
e.
$5,000
72. Walter pays a financial adviser $2,100 to help him manage his investment portfolio during the current year. Walter
receives $5,000 in interest from investments in General Motors and Xerox bonds, and $2,500 in interest from investments
Chapter 5
in City of San Francisco bonds. How much may Walter deduct for the current year?
a.
$- 0 –
b.
$ 700
c.
$1,050
d.
$1,400
e.
$4,200
73. Jennifer pays the following expenses for her dependent 30-year old daughter while the daughter was ill during the
current year:
Real estate taxes on daughter’s house
$3,000
Utilities on daughter’s house
1,000
Interest on the daughter’s home mortgage
8,000
Interest on daughter’s car
800
Daughter’s medical expenses
6,000
How much of the above expenditures may Jennifer use in computing her itemized deductions?
a.
$- 0 –
b.
$6,000
c.
$9,000
d.
$14,800
e.
$17,000
74. During the current year, Paul came down with a serious illness. Paul’s uncle paid many of Paul’s expenses during the
period of rehabilitation. For tax purposes, how are Paul’s mortgage interest and real estate property taxes handled?
I.
Paul can deduct both items.
II.
Paul’s uncle can deduct both items.
III.
Neither Paul nor his uncle can deduct the expenses.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Only statement III is correct.
d.
Statements I and II are correct.
c
75. Sadie is a full time nurse and a part time painter. Her painting qualifies as a hobby. Her gross income from painting is
$7,000. Her expenses include $800 of interest on inventory loans, $5,200 of expenses in conducting business activities,
and $2,000 of depreciation of equipment. Which of the following statements about Sadie’s hobby activity is/are correct?
I.
Sadie will not recognize any taxable income as a result of her hobby.
II.
Sadie can deduct the interest of $800 plus $6,200 of other hobby expenses for the year.
III.
Sadie will lose at least $1,000 of her depreciation deduction for the current year.
IV.
If Sadie uses the standard deduction she will not receive any tax benefit from the hobby
expenses.
a.
Statements I and II are correct.
b.
Statements II and III are correct.
c.
Statements III and IV are correct.
d.
Statements I, II, and III are correct.
Chapter 5
e.
Statements II, III, and IV are correct.
e
76. Several factors are used to determine whether an activity is classified as a hobby or as a business. Which of the
following are factors that aid in this determination?
I.
The financial status of the taxpayer
II.
The expectation that the assets involved in the activity will increase in value.
III.
The taxpayer’s success in similar activities.
IV.
The amount of personal pleasure and enjoyment that accrues to the taxpayer.
a.
Only statements II, III, and IV are correct.
b.
Only statement III is correct.
c.
Statements I, II, and III are correct.
d.
Only statement IV is correct.
e.
Statements I, II, III, and IV are correct.
e
77. Which of the following factors absolutely must be present for an activity to be considered a trade or business for tax
purposes?
a.
The activity is profitable most of the time.
b.
Taxpayer has experience in the activity.
c.
Taxpayer has a mailing address and phone number for his business that is different from his personal address
and phone number.
d.
Taxpayer has a profit motive for engaging in the activity.
e.
All of the above factors must be present to have a trade or business activity.
78. Which of the following factors are used to aid in determining whether an activity that earns income is profit motivated
and should be treated as a business or is subject to the hobby loss rules?
I.
The amounts of occasional profits, if any.
II.
Taxpayer’s success in similar activities.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
c
79. Which of the following factors are used to aid in determining whether an activity that earns income is profit motivated
and should be treated as a business or is subject to the hobby loss rules?
I.
The taxpayer’s financial status.
II.
Elements of personal pleasure derived from the activity.
a.
Only statement I is correct.
b.
Only statement II is correct.
c.
Both statements are correct.
d.
Neither statement is correct.
c
80. Virginia, a practicing CPA, receives $11,000 from the sale of rare orchids that she grows. Her expenses of operating
this hobby activity follow:
Property taxes on the structures
$4,500
Seeds, fertilizer, and bug sprays.
8,000
Depreciation on the structures
5,000
How much of the expenses that Virginia incurs can be deducted as hobby expenses?
a.
$- 0 –
b.
$4,500
c.
$11,000
d.
$12,500
e.
$17,500
c
81. Mario paints landscape portraits, and he treats the activity as a hobby. During the current year, Mario incurred the
following expenses while earning $2,500 from sales of paintings:
Paints and supplies
$2,200
Utilities expenses for his studio
1,000
Advertising
300
Insurance on his studio and equipment
700
Mario uses the standard deduction and never itemizes his deductions. How should Mario report all of the items related to
his hobby on his tax return?
a.
Hobby losses are not allowed so he couldn’t deduct anything whether or not he itemizes anyway.
b.
Report a $400 loss as a deduction for AGI.
c.
Include $2,500 in gross income and deduct $2,500 for AGI.
d.
Include $2,500 in gross income and deduct nothing for AGI.
e.
Include $2,500 in gross income and deduct $1,700 for studio expenses.
82. Michelle is a bank president and a weekend artist. She regularly sells her paintings at flea markets and spends an
average of 9 hours a week painting or selling. Although she made about $6,000 last year from sales of artwork, she tells
her friends she would do it for free. For the current tax year, she incurs expenses of $800 primarily for admission fees to
flee markets and art fairs. The $800 is
I.
deductible for AGI as a business expense.
II.
a miscellaneous itemized deduction.
III.
is deductible only because she has revenue from the activity.
a.
Only statement III is correct.
b.
Only statement I is correct.
c.
Statements I and II are correct.
d.
Statements II and III are correct.
e.
Statements I, II, and III are correct.
83. Mike and Pam own a cabin near Teluride, Colorado. In the current year the cabin was rented for 8 days to friends.
Mike and Pam used the cabin a total of 82 days during the same year. After allocating the expenses between personal and
rental use, the following rental loss was determined:
Rental income
$700
Chapter 5
Property taxes
(250)
Mortgage interest
(300)
Repairs and maintenance
(100)
Utilities
(150)
Rental loss
$(100)
How should Mike and Pam report the rental income and expenses for last year?
a.
Report the $100 loss for AGI.
b.
Include the $700 in gross income, but no deductions are allowed.
c.
Only expenses up to the amount of $700 rental income may be deducted.
d.
Report the interest ($300) and taxes ($250) as itemized deductions and the other expenses for AGI.
e.
No reporting for the rental activity is necessary.
e
84. Tom and RoseMary own a cabin near Stowe, Vermont. During the current year the cabin is rented for 31 days for
$1,800. Tom and RoseMary used the cabin a total of 12 days during the year. After making the appropriate allocation of
expenses between personal and rental use, the following rental loss was determined:
Rental income
$1700
Property taxes
(150)
Mortgage interest
(950)
Repairs and maintenance
(400)
Utilities
(300)
Depreciation
(200)
Rental loss
$(300)
How should Tom and RoseMary report the rental income and expenses for the current year?
a.
Include the $1,700 in gross income, but no deductions are allowed.
b.
Report the $300 loss for AGI.
c.
Only expenses up to the amount of $1,700 rental income may be deducted in the current year.
d.
Report the interest ($950) and taxes ($150) as itemized deductions and the other expenses for AGI.
e.
No reporting for the rental activity should be reported.
85. Claire and Harry own a house on Hilton Head Island. During the year, Claire and Harry rent the house for 30 days to
friends from Texas for $2,000. Claire and Harry use the house a total of 60 days during the year. After making the
appropriate allocation of expenses between personal and rental use, the following rental loss was determined:
Rental income
$2,000
Property taxes
(250)
Mortgage interest
(950)
Repairs and maintenance
(200)
Utilities
(300)
Depreciation
(400)
Rental loss
$(100)
How should Claire and Harry report the rental income and expenses for the forthcoming year?
I.
Report the $100 loss for AGI.
II.
Only expenses up to the amount of $2,000 rental income may be deducted for the year.
III.
Include the $2,000 in gross income, but no deductions are allowed.
IV.
Nothing needs to be reported.
a.
Only statement I is correct.
Chapter 5
b.
Only statement II is correct.
c.
Statements II and III are correct.
d.
Statements III and IV are correct.
e.
Statements I and III are correct.
86. Marlene is a single taxpayer with an adjusted gross income of $140,000. In addition to her personal residence,
Marlene owns a ski cabin in Vail. She uses the cabin for 40 days during the current year and rents it out to unrelated
parties for 80 days, receiving rent of $10,000. Marlene’s costs before any allocation related to the cabin are as follows:
Mortgage interest and property taxes
$9,000
Utilities, maintenance, and repairs
4,500
Depreciation
6,000
Based on the above information, what is her allowable depreciation deduction?
a.
$- 0 –
b.
$1,000
c.
$3,000
d.
$4,000
e.
$6,000
87. Jack and Cheryl own a cabin near Copper Mountain, Colorado. During the year, Jack and Cheryl rent the cabin for 30
days to friends for $1,800. Jack and Cheryl use the cabin a total of 60 days during the year. After making the appropriate
allocation of planned expenses between personal and rental use, the following rental loss was determined:
Rental income
$1,800
Property taxes
(250)
Mortgage interest
(950)
Repairs and maintenance
(200)
Utilities
(300)
Depreciation
(400)
Rental loss
$(300)
How should Jack and Cheryl report the rental income and expenses for the forthcoming year?
I.
Only expenses up to the amount of $1,800 rental income may be deducted for the year.
II.
Only depreciation in the amount of $100 may be deducted.
III.
The amount of the disallowed depreciation deduction ($300) can be carried forward.
IV.
Nothing needs to be reported.
a.
Only statement I is correct.
b.
Statements II and III are correct.
c.
Statements I, II and III are correct.
d.
Statements III and IV are correct.
e.
Statements I, II, III, and IV.
c
88. James rents his vacation home for 30 days during the year and lives in it personally for 10 days. He receives rents of
$4,000 and incurs the following expenses before allocation:
Property taxes
$2,000
Utilities
800
Depreciation
4,200