Exam 4: Maxims of Income Tax Planning

Mr. Bearne paid $50,000 to a local spiritual healer and deducted the payment as a business expense of his sole proprietorship. The healer provided personal counseling to Mr. and Mrs. Bearne. Upon audit of the sole proprietorship's accounting records, the IRS agent disallowed the deduction by applying the:

OWB Inc. and Owin Inc. are owned by the same family. OWB's marginal tax rate is 40%, and Owin's marginal tax rate is 25%. OWB has the opportunity to engage in a transaction that will generate $250,000 taxable cash flow. Alternatively, Owin could engage in the transaction. However, Owin would incur an extra $60,000 deductible cash expense with respect to the transaction. Which of the following statements is true?

Which of the following statements about the jurisdiction variable is true?

The 15% preferential tax rate on capital gains has the same value to every individual taxpayer.

In 20Y1, Ms. Graves transferred appreciated property to KL Partnership in exchange for an ownership interest in the partnership. She deliberated waited until 20Y3 before taking cash out of the partnership. Ms. Graves may have been trying to prevent the IRS from applying the:

The after-tax value of a dollar of income to a high-tax entity is more than the after-tax value to a low-tax entity.

Gregly Company, which has a 33% marginal tax rate, plans to make an investment that should generate $300,000 annual cash flow/ordinary income. Instead of making the investment directly, Gregly could form a new taxable entity (L'il Greg) to make the investment. L'il Greg's marginal tax rate on the investment income would be only 25%. However, L'il Greg would have to incur a $26,500 annual nondeductible expense associated with the investment that Gregly would not incur. A. Gregly's annual after-tax cash flow if it made the investment directly would be $201,000 ($300,000 taxable income - $99,000 tax cost). L'il Greg's annual after-tax cash flow would be $198,500 ($300,000 taxable income - $75,000 tax cost - $26,500 nondeductible expense.) Therefore, Gregly should make the investment directly. A. Should Gregly make the investment directly or make it through L'il Greg to maximize after-tax cash flow? B. L'il Greg's annual after-tax cash flow would be $205,125 ($300,000 - $26,500 deductible expense - $68,375 tax cost [$273,500 taxable income * 25%]). Therefore, Gregly should make the investment through L'il Greg. B. Would your answer change if L'il Greg could deduct its $26,500 additional expense?

A strategy to shift income from one taxpayer to a different taxpayer reflects the entity variable, while a strategy to shift income from one year to a different year reflects the time period variable.

Mrs. Day structures a transaction to shift income from her New York business to her New Hampshire business. This tax planning strategy may be taking advantage of the:

Which of the following statements about ordinary income and capital gain is false?

Which of the following statements about tax legal doctrines is false?

The time period variable is based on the time value of money.

Sancel Inc. is planning a transaction that will generate $70,000 taxable income and cash inflow. The transaction is structured so that Sancel will receive the cash and report the income this year (year 0). Compute the increase in the NPV of the transaction if it can be restructured so that Sancel will receive the cash this year, but report the income two years later (year 2). Sancel's marginal tax rate is 30%, and it uses a 10% discount rate to compute NPV.

Which of the following entities is not a taxable entity for federal income tax purposes?

Which of the following statements about the entity variable is false?

Deduction-shifting transactions usually occur between unrelated taxpayers.

A taxpayer who invests in a growth stock rather than a stock that pays an annual dividend is engaging in tax planning based on the:

The entity variable is important because the amount of taxable income generated by a business depends on the type of entity conducting the business.

In the United States, individuals and corporations are the two entities that pay tax on business income.

Mr. Coomb structured a transfer of real estate to his daughter as a sale. Upon audit, the IRS agent analyzed the economic consequences of the transfer and treated it as a gift by applying the: