CHAPTER 6 DEDUCTIONS AND LOSSES: IN GENERAL

1. Paula is the sole shareholder of Violet, Inc. For 2014, she receives from Violet a salary of $300,000 and dividends of $100,000. Violet’s taxable income for 2014 is $500,000. On audit, the IRS treats $100,000 of Paula’s salary as unreasonable. Which of the following statements is correct?

a. Paula’s gross income will increase by $100,000 as a result of the IRS adjustment.

b. Violet’s taxable income will not be affected by the IRS adjustment.

c. Paula’s gross income will decrease by $100,000 as a result of the IRS adjustment.

d. Violet’s taxable income will decrease by $100,000 as a result of the IRS adjustment.

e. None of the above is correct.

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2. During 2013, the first year of operations, Silver, Inc., pays salaries of $175,000. At the end of the year, employees have earned salaries of $20,000, which are not paid by Silver until early in 2014. What is the amount of the deduction for salary expense?

a. If Silver uses the cash method, $175,000 in 2013 and $0 in 2014.

b. If Silver uses the cash method, $0 in 2013 and $195,000 in 2014.

c. If Silver uses the accrual method, $175,000 in 2013 and $20,000 in 2014.

d. If Silver uses the accrual method, $195,000 in 2013 and $0 in 2014.

e. None of the above is correct.

3. Benita incurred a business expense on December 10, 2014, which she charged on her bank credit card. She paid the credit card statement which included the charge on January 5, 2015. Which of the following is correct?

a. If Benita is a cash method taxpayer, she cannot deduct the expense until 2015.

b. If Benita is an accrual method taxpayer, she can deduct the expense in 2014.

c. If Benita uses the accrual method, she can choose to deduct the expense in either 2014 or 2015.

d. Only b. and c. are correct.

e. a., b., and c. are correct.

4. Payments by a cash basis taxpayer of capital expenditures:

a. Must be expensed at the time of payment.

b. Must be expensed by the end of the first year after the asset is acquired.

c. Must be deducted over the actual or statutory life of the asset.

d. Can be deducted in the year the taxpayer chooses.

e. None of the above.

5. Petal, Inc. is an accrual basis taxpayer. Petal uses the aging approach to calculate the reserve for bad debts. During 2014, the following occur associated with bad debts.

Credit sales	$400,000
Collections on credit sales	250,000
Amount added to the reserve	10,000
Beginning balance in the reserve	–0–
Identifiable bad debts during 2014	12,000

The amount of the deduction for bad debt expense for Petal for 2014 is:

a. $10,000.

b. $12,000.

c. $22,000.

d. $140,000.

e. None of the above.

6. Which of the following legal expenses are deductible forAGI?

a. Incurred in connection with a trade or business.

b. Incurred in connection with rental or royalty property held for the production of income.

c. Incurred for tax advice relative to the preparation of an individual’s income tax return.

d. Only a. and b. qualify.

e. a., b., and c. qualify.

7. Rex, a cash basis calendar year taxpayer, runs a bingo operation which is illegal under state law. During 2014, a bill designated H.R. 9 is introduced into the state legislature which, if enacted, would legitimize bingo games. In 2014, Rex had the following expenses:

Operating expenses in conducting bingo games	$247,000
Payoff money to state and local police	24,000
Newspaper ads supporting H.R. 9	3,000
Political contributions to legislators who support H.R. 9	8,000

a. $247,000.
b. $250,000.
c. $258,000.
d. $282,000.
e. None of the above.

8. Andrew, who operates a laundry business, incurred the following expenses during the year.

· Parking ticket of $250 for one of his delivery vans that parked illegally.

· Parking ticket of $75 when he parked illegally while attending a rock concert in Tulsa.

· DUI ticket of $500 while returning from the rock concert.

· Attorney’s fee of $600 associated with the DUI ticket.

What amount can Andrew deduct for these expenses?

a. $0.

b. $250.

c. $600.

d. $1,425.

e. None of the above.

9. Which of the following may be deductible?

a. Bribes that relate to a U.S. business.

b. Fines paid for violations of the law.

c. Interest on a loan used in a hobby.

d. All of the above.

e. None of the above.