TAX 4001 Test Questions with Complete Solutions
An Expenditure that creates an Asset having a Useful Life that Extends Substantially beyond the
End of the Current Tax Year must be - ANSWER Capitalized (use Depreciation to record its
expenses for Tax Purposes)
The Cost of an Asset that will Expire or be Consumed by the End of the Tax Year Following the
Year of Payment - ANSWER Must be Prorated across the years used
If inventories are an income-producing factor in a Business, the individual business owner must
- ANSWER use accrual method for sales and cost of goods sold
To determine the period in which an Accrual Basis taxpayer can deduct an Expense, use the -
ANSWER All Events Test
Economic Performance Test
All Events Test - ANSWER All of the event have occurred to create taxpayer's liability
Amount of the liability can be determined with reasonable accuracy
Economic Performance Test - ANSWER The service, property, or use of property giving rise to
the Liability is actually Performed, Provided for, or Used by the taxpayer
Exception to the Economic Performance Test:
so strict economic performance does not have to occur for an expense to be accrued if the test is
met - ANSWER certain Recurring Items can be Deducted immediately if all of the following:
,Item is Recurring
Accrued Item is not Material or Accruing it in the Current Period results in Better Matching of
Income and Expenses
All Events have occurred that determine existence of liability, amount of liability can
be determined
Economic Performance Occurs No Later than 8 1/2 months after close of taxable year
Disallowance Possibilities: - ANSWER Tax Law disallows the Deduction of Certain Items under
some circumstances, relating to:
Expenditures Contrary to Public Policy
Legal Expense Incurred in Defense of Civil or Criminal Penalties
Expenses Relating to an Illegal Business
Expenditures Contrary to Public Policy - ANSWER Deductions are Disallowed for Penalties
incurred, Fines incurred, Illegal bribes or kickbacks paid
To deduct Legal Expenses, taxpayer must show: - ANSWER The origin and character of claim are
directly related to:
a Trade or a Business
an Income-Producing Activity
Determination, Collection, or Refund of a Tax
Civil or Criminal Defense Legal Fees are deductible only if: - ANSWER they are primarily
related to a Trade or a Business, or an Income-Producing Activity
Legal Expenses Deductible FOR AGI: - ANSWER Ordinary and Necessary Expenses incurred
in Connection with a Trade or Business
Ordinary and Necessary Expenses incurred in connection with Rental or Royalty Property
held for the Production of Income
,so note: tax legal advice for the preparation of a BUSINESS tax return would be a deduction
FOR AGI
Legal Expenses Deductible FROM AGI: - ANSWER All other deductible legal expenses
besides those deductible FOR AGI
such as tax legal advice for the preparation of an income tax return for the INDIVIDUAL'S
tax return
Expenses Relating to an Illegal Business - ANSWER The Ordinary and Necessary Expenditures
of operating an illegal business are Deductible
Exception for Drug Dealers: Drug Dealers are not allowed a deduction for Ordinary
and Necessary Expenses incurred in their business, except for COGS
Political Contributions and Lobbying Activities: - ANSWER No business Deduction allowed for
payments made for Political Purposes or Lobbying
Exception for Lobbying Expenses: - ANSWER Deductions are allowed for
Expenditures to Influence Local Legislation
Expenditures to Monitor Legislation
De Minimis in-house Expenses (limited to $2000), and if greater than $2000, then none can be
deducted
Excessive Executive Compensation: - ANSWER For publicly held companies,
Deduction for Compensation of CEO and 4 other Highest Compensated Officers is limited to
$1 Million Each
This does not include:
Certain performance-based compensation
Payments to Qualified Retirement Plans
Payments Excludible from Gross Income of Officers
, Investigation of a Business Expenses are incurred to: - ANSWER Determine the feasibility of
entering a New Business or Expanding an Existing Business
Investigation of a Business Costs can Include: - ANSWER Travel, Engineering, Architectural
Surveys, Marketing Reports, Various Legal and Accounting Services
Tax Treatment of Business Investigation Costs Depends on: - ANSWER Current Business
of Taxpayer
Nature of Business Being Investigated
Extent to which Investigation has Proceeded
Whether or not Acquisition actually ends up taking Place
If taxpayer is in a business the same as or similar to that being investigated - ANSWER
Investigation Expenses are Deductible in the Year Paid or Incurred
This is the case regardless of whether the Acquisition Occurs
If taxpayer is not in a business the same as or similar to that being investigated - ANSWER
Depends on whether the New Business is Acquired or Not:
If not Acquired: All investigation Expenses are Nondeductible
If Acquired: Investigation Expenses must be Capitalized as Startup Expenditures
May elect to Deduct the first $5,000 currently
Any excess over 5,000 must be Amortized over a period of 15 Years or Longer
Finally, in calculating the first $5,000 immediately allowed to be deducted, a reduction of
this amount is made equal to Expenses Paid Exceeding 50,000
If 52,000 is spent on investigating a business, and the business is not the same or similar as one
you already own, and you do end up acquiring the business on 10/1/17, how much deduction
for investigation is allowed in the current year, and how much must be amortized and over
how long?
An Expenditure that creates an Asset having a Useful Life that Extends Substantially beyond the
End of the Current Tax Year must be - ANSWER Capitalized (use Depreciation to record its
expenses for Tax Purposes)
The Cost of an Asset that will Expire or be Consumed by the End of the Tax Year Following the
Year of Payment - ANSWER Must be Prorated across the years used
If inventories are an income-producing factor in a Business, the individual business owner must
- ANSWER use accrual method for sales and cost of goods sold
To determine the period in which an Accrual Basis taxpayer can deduct an Expense, use the -
ANSWER All Events Test
Economic Performance Test
All Events Test - ANSWER All of the event have occurred to create taxpayer's liability
Amount of the liability can be determined with reasonable accuracy
Economic Performance Test - ANSWER The service, property, or use of property giving rise to
the Liability is actually Performed, Provided for, or Used by the taxpayer
Exception to the Economic Performance Test:
so strict economic performance does not have to occur for an expense to be accrued if the test is
met - ANSWER certain Recurring Items can be Deducted immediately if all of the following:
,Item is Recurring
Accrued Item is not Material or Accruing it in the Current Period results in Better Matching of
Income and Expenses
All Events have occurred that determine existence of liability, amount of liability can
be determined
Economic Performance Occurs No Later than 8 1/2 months after close of taxable year
Disallowance Possibilities: - ANSWER Tax Law disallows the Deduction of Certain Items under
some circumstances, relating to:
Expenditures Contrary to Public Policy
Legal Expense Incurred in Defense of Civil or Criminal Penalties
Expenses Relating to an Illegal Business
Expenditures Contrary to Public Policy - ANSWER Deductions are Disallowed for Penalties
incurred, Fines incurred, Illegal bribes or kickbacks paid
To deduct Legal Expenses, taxpayer must show: - ANSWER The origin and character of claim are
directly related to:
a Trade or a Business
an Income-Producing Activity
Determination, Collection, or Refund of a Tax
Civil or Criminal Defense Legal Fees are deductible only if: - ANSWER they are primarily
related to a Trade or a Business, or an Income-Producing Activity
Legal Expenses Deductible FOR AGI: - ANSWER Ordinary and Necessary Expenses incurred
in Connection with a Trade or Business
Ordinary and Necessary Expenses incurred in connection with Rental or Royalty Property
held for the Production of Income
,so note: tax legal advice for the preparation of a BUSINESS tax return would be a deduction
FOR AGI
Legal Expenses Deductible FROM AGI: - ANSWER All other deductible legal expenses
besides those deductible FOR AGI
such as tax legal advice for the preparation of an income tax return for the INDIVIDUAL'S
tax return
Expenses Relating to an Illegal Business - ANSWER The Ordinary and Necessary Expenditures
of operating an illegal business are Deductible
Exception for Drug Dealers: Drug Dealers are not allowed a deduction for Ordinary
and Necessary Expenses incurred in their business, except for COGS
Political Contributions and Lobbying Activities: - ANSWER No business Deduction allowed for
payments made for Political Purposes or Lobbying
Exception for Lobbying Expenses: - ANSWER Deductions are allowed for
Expenditures to Influence Local Legislation
Expenditures to Monitor Legislation
De Minimis in-house Expenses (limited to $2000), and if greater than $2000, then none can be
deducted
Excessive Executive Compensation: - ANSWER For publicly held companies,
Deduction for Compensation of CEO and 4 other Highest Compensated Officers is limited to
$1 Million Each
This does not include:
Certain performance-based compensation
Payments to Qualified Retirement Plans
Payments Excludible from Gross Income of Officers
, Investigation of a Business Expenses are incurred to: - ANSWER Determine the feasibility of
entering a New Business or Expanding an Existing Business
Investigation of a Business Costs can Include: - ANSWER Travel, Engineering, Architectural
Surveys, Marketing Reports, Various Legal and Accounting Services
Tax Treatment of Business Investigation Costs Depends on: - ANSWER Current Business
of Taxpayer
Nature of Business Being Investigated
Extent to which Investigation has Proceeded
Whether or not Acquisition actually ends up taking Place
If taxpayer is in a business the same as or similar to that being investigated - ANSWER
Investigation Expenses are Deductible in the Year Paid or Incurred
This is the case regardless of whether the Acquisition Occurs
If taxpayer is not in a business the same as or similar to that being investigated - ANSWER
Depends on whether the New Business is Acquired or Not:
If not Acquired: All investigation Expenses are Nondeductible
If Acquired: Investigation Expenses must be Capitalized as Startup Expenditures
May elect to Deduct the first $5,000 currently
Any excess over 5,000 must be Amortized over a period of 15 Years or Longer
Finally, in calculating the first $5,000 immediately allowed to be deducted, a reduction of
this amount is made equal to Expenses Paid Exceeding 50,000
If 52,000 is spent on investigating a business, and the business is not the same or similar as one
you already own, and you do end up acquiring the business on 10/1/17, how much deduction
for investigation is allowed in the current year, and how much must be amortized and over
how long?
