Exam 16: Accounting Periods and Methods

In 2019, Brown Corporation, a service business, no longer qualifies as a small business. Thus, it must change from the cash to the accrual method starting with its 2019 tax year.. At the beginning of 2019, Brown had accounts receivable of $575,000. Also, Brown had accounts payable of $345,000. Determine the adjustment to income due to the change in accounting method and the amount that is allocated to 2019.

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 2016. 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 2018 note as promised, what is the recognized gain to Pedro in 2018 (exclusive of interest)?

Wendy sold property on the installment basis in 2016 for more than her basis in the property. Wendy was to receive installment payments at the end of each year for the next five years. In 2018, Wendy was killed in a car accident and the note was transferred to her estate.

A C corporation's selection of a tax year, generally, is independent of the tax year of its principal shareholders.

Which of the following must use the accrual method of accounting? I. A property management company, operating as a C corporation, with average annual gross receipts of $50 million. II. An incorporated law firm with average annual gross receipts of $26 million. III. An unincorporated grocery store with average annual gross receipts of $27,000,000.

In 2018, Swan Company discovered that it had for the past 10 years capitalized as a production cost certain expenses that are properly classified as administrative expenses. The total amount of the expense for 2017 was $300,000, $60,000 of the item was included in the ending inventory that year and $240,000 was deducted as cost of goods sold.

A cash basis taxpayer sold investment land in 2018 for $200,000. He received $40,000 in the year of sale and $160,000 in 2019. The cost of the land was $80,000. Under the installment method, the taxpayer would report a $24,000 gain in 2018.

In the case of an accrual basis taxpayer, an item of income:

What incentives do the tax accounting rules provide for taxpayers to voluntarily change from an incorrect method of accounting that has reduced the company's tax liability in prior years?

Which of the following statements is true concerning the disposition of an installment note?

If an installment sale contract does not charge interest on the sale of a capital asset, only capital gain will be recognized over the life of the contract.

The installment method applies where a payment will be received after the tax year of the sale:

In regard to choosing a tax year for a business owned by individuals, which form of business provides the greater number of options in regard to the tax year?

When the IRS requires a taxpayer to change accounting methods:

In 2018, Beth sold equipment used in her business. Her basis in the property was $300,000 ($500,000 cost less $200,000 of depreciation). Beth sold the property for $400,000, with $100,000 due on the date of the sale and $300,000 (plus interest at the Federal rate) due in 2019. Beth's recognized gain from the installment sale in 2018 is:

Gray Company, a calendar year taxpayer, allows customers to return defective merchandise for a full refund within 30 days of the purchase. In 2018, the company refunded $400,000 for claims involving sales. The $400,000 consisted of $350,000 in refunds from 2018 sales and $50,000 in refunds from 2017 sales. All of the refunds from 2017 sales were for claims filed in 2017 and were paid in January and February 2018. At the end of 2018, the company had $12,000 in refund claims for sales in 2018 for which payment had been approved. These claims were paid in January 2018. Also in January 2019, the company received an additional $30,000 in claims for sales in 2018. This $30,000 was paid by Gray in February 2019. With respect to the above, Gray can deduct:

The accrual basis taxpayer sold land for $100,000 on December 31, 2018. He did not collect the $100,000 until January 2, 2019. The land was held as an investment.

Camelia Company is a large commercial real estate contractor that reports its income by the percentage of completion method. In 2018, the company entered into a contract to construct a building for $900,000. Camelia estimated that the cost of constructing the building would be $600,000. In 2018, the company incurred $150,000 in costs under the contract. In 2019, the company incurred an additional $500,000 in costs to complete the contract.

For a taxpayer who is required to use the percentage of completion method, the taxpayer can elect to defer the recognition of income and the related costs until the taxable year in which cumulative contract costs are at least 10 percent of the estimated contract costs.

Using your knowledge of GAAP and financial reporting, list and explain one good reason why GAAP should not be used for tax purposes and one good reason why it should be used.