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Exam 5: Introduction to Business Expenses

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Question 71

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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: $\begin{array} { l r } \text { Rental income } & \$ 1,800 \\\text { Property taxes } & ( 250 ) \\\text { Mortgage interest } & ( 950 ) \\\text { Repairs and maintenance } & ( 200 ) \\\text { Utilities } & ( 300 ) \\\text { Depreciation } & \underline { ( 400 ) } \\\text { Rental loss } & \$ ( 300 ) \end{array}$ 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.

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Question 72

Multiple Choice

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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.

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Question 73

Multiple Choice

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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.

Match each statement with the correct term below. -Ordinary Expense

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.

Electronic City sells various electronic products.With each of its products,Electronic City offers customers the option of purchasing a repair contract.Under the contracts,Electronic City will make repairs anytime during the term of the contract.Electronic City estimates that repair costs related to this year's sales will be $39,000.During the current year,Electronic City incurs repair costs of $37,000 related to prior year's contracts and $4,000 on contracts sold this year. I.If Electronic City accounts for the contracts using the accrual method of accounting,its repair cost deduction is $39,000. II.If Electronic City accounts for the contracts using the cash method of accounting,its repair cost deduction is $41,000.

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

Discuss whether the following expenditures meet the ordinary,necessary,and reasonable requirements for deductibility. a.Mortimer owns a shoe store.Every August Mortimer has a "Back-to-School" sale.To promote that event Mortimer spends $2,000 on newspaper and radio advertising.Generally,this event generates about $85,000 in sales.These sales revenues are about twice the level of sales in other months. b.Wilma bought a small manufacturing business that had been declared bankrupt.To retain the current sales force,she pays some of the obligations owed to these people by the former owners.Wilma has no legal obligation to pay these debts. c.Ned owns a large sporting goods store.Nick's 17-year-old son,Tony,works in the store when time permits.Nick pays Tony $10 per hour because he has worked in the store several years.Other high school age individuals also work at the store and perform functions requiring less experience than Tony.They are paid $8 per hour. d.Art is a self-employed CPA.Last month he attended an AICPA Continuing Education course that cost him $750.In addition to the course registration fee,Art incurred $800 in travel expenses to attend the course. e.Elvira is a stockholder in over 100 different corporations.However,she does not own more than 10 shares of stock in any one company.She enjoys attending annual stockholder meetings and often gives her "two cents worth" about issues affecting the companies' operations.In the past year Elvira spent $7,540 to attend the stockholder meetings to help protect her investments.

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 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.

Income tax accounting methods and financial accounting methods differ in many ways.Which of the following tax law provisions are likely to create permanent differences between taxable income and financial (or book) income of a single entity? I.Treatment of payment of penalties and fines. II.Disallowance of 50% of the cost of business meals and entertainment.

Using the tests for deductibility discussed in Chapter 5,explain why the following expenses may not be fully deductible in the current year. a.Antonio is the owner of a restaurant.His business has been growing,and Antonio determines that he needed to add more seating capacity.He builds a patio garden section onto the back of the restaurant at a cost of $70,000. b.Tina owns a construction company.Because she is behind schedule on a project,she pays a city building inspector $500 to get him to come out and do his inspection a week before he had scheduled the inspection. c.Claude is a graduate of State University and an avid supporter of the school's athletic program.During the summer he employed State's star running back in his pool cleaning business.He paid the football player $15 an hour,although other employees doing similar work are only paid $10 per hour. d.Melody owns a chain of coffeehouses.When she opened a coffeehouse in a new city this year,she spent $20,000 advertising the new store.Even though this is much more than she typically spends on advertising,she felt that it was reasonable because the new coffeehouse has the potential to be a very profitable venture for many years.

Using the tests for deductibility discussed in Chapter 5,explain why the following expenses may not be fully deductible in the current year a.Janet pays $900 in interest on debt she incurred to purchase municipal bonds.The bonds pay $1,500 of interest in the current year. b.Andrew owns a retail-clothing store.Andrew has the opportunity to obtain a franchise to operate a discount sporting goods store.He spends $5,000 investigating the possibility of opening a sporting goods store in a neighboring town. c.Jane owns a fitness center.She employs the star basketball player at Local University as an aerobics instructor.Because of his reputation,she pays him $20 an hour.Jane pays her other aerobics instructors $10 an hour. d.Alvin makes a vacation trip to Florida,and while there spends two days investigating the feasibility of opening up a new office of his optometry practice.

Match each statement with the correct term below. -Hobby expense

Jenny,an individual cash basis taxpayer,has $6,000 of state income taxes withheld from her salary during 2013.When she filed her 2012 state income tax return during April 2013,she paid an additional $500 in state income taxes.When she filed her 2013 state income tax return in April 2014,she received a $200 refund.What is her state income tax deduction for 2013 for federal income tax purposes?

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.

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.

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.

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.

Evelyn can avoid the 2 percent limitation on her investment expenses by having her partnership pay them.

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