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T-F questions - Taxation of Corporations and Partnerships

Please answer the attached questions with True or False.

1. Unreasonable compensation can be reclassified as a nondeductible dividend payment to the shareholder.

2. The corporation cannot deduct as a business expense interest payments to creditors who are also shareholders.

3. The IRS determines that compensation is unreasonable by comparing how much is paid by similar corporations to officers who are not controlling shareholders.

4. Revenue agents who audit S corporations are on the alert for shareholder/employee salaries that are unreasonably low.

5. An investment's net present value is the sum of the present values of all cash inflows and outflows associated with it.

6. In current value terms, the ability to defer making a payment decreases a taxpayer's cost for that expenditure.

7. An ordinary annuity is a stream of periodic cash flows to be received at the end of each period for a specified number of periods.

8. The marginal tax rate is the rate that applies to the next dollar of taxable income for the year.

9. A natural business year is one in which gross receipts in the last two months of the year exceed 25% of total yearly receipts.

10. An S corporation can use any taxable year it wishes.

11. A majority interest taxable year is the taxable year of one or more partners that own more than 50 percent of partnership capital and profits.

12. If a partnership does not have a majority interest taxable year, a principal partner taxable year, or a natural business year, it must use the taxable year resulting in the least aggregate deferral of income to its partners.

13. A principal partner is any partner who owns more than 25 percent of partnership capital or profits.

14. A taxable C corporation cannot be a shareholder in an S corporation.

15. For Year 2003, the maximum expense allowed under Section 179 of the Internal Revenue Code, for those companies not doing business in any empowerment zone or enterprise community, is $25,000.

16. The costs associated with drilling a new oil and gas well can be expensed in the year incurred, rather than being capitalized and depleted over the productive life of the well.

17. Percentage depletion is based on the annual revenue derived from a natural resource.

18. Henry Inc. bought equipment for $125,000 this year. The company expects to have net loss before cost recovery deductions of $(85,000). The company can take full advantage of the Sec. 179 expensing election this year.

19. Jackson Company placed $450,000 of property subject to Sec. 179 expensing in service this year. Its business income before cost recovery deductions is expected to be $220,000. Jackson will be able to take full advantage of the expensing election this year.

20. Most tax elections concerning the computation of taxable income for a passthrough entity are made by the entity.

21. Darden Partnership purchased business equipment in 2003 and elected to expense the maximum amount allowed under Section 179. This amount is deducted by the partnership in computing the partnership ordinary business income.

22. Credits earned by a partnership or S corporation are passed through to the partners or shareholders for use in their own personal tax returns.

23. Partners' capital accounts are decreased by their shares of loss items.

24. Cash distributed during the year has no effect on partners' capital accounts.

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1. Unreasonable compensation can be reclassified as a nondeductible dividend payment to the shareholder. Yes, reclassified during an audit which increases taxable income because there is no compensation expense.

2. The corporation cannot deduct as a business expense interest payments to creditors who are also shareholders. False, the corporation can deduct interest provided there is a valid note and periodic payments to principal and interest.

3. The IRS determines that compensation is unreasonable by comparing how much is paid by similar corporations to officers who are not controlling shareholders. Generally true, although there are a ton of court cases discussing this issue. The IRS often loses using this position as a basis for their argument.

4. Revenue agents who audit S corporations are on the alert for shareholder/employee salaries that are unreasonably low. True because the IRS wants the owners to pay payroll taxes like everyone else.

5. An investment's net present value is the sum of the present values of all cash inflows and outflows associated with it. True, if the question means future cash inflows and outflows. I'm also confused about outflows, but assume it means additional investments.

6. In current value terms, the ability to defer making a payment decreases a taxpayer's cost for that expenditure. False. Deferring a payment usually means that interest will accumulate on the unpaid amount until the date of payment, and therefore, the total cost will be more.

7. An ordinary annuity is a ...

Solution Summary

The 24 questions cover a variety of somewhat difficult subjects to do with taxation of C and S corporations plus partnerships. The solution give a sentence or two for each question to explain the basis for the response.

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