Chapter 16- Corporate Operations
Which of the following is not an acceptable method of determining the required annual payment of federal income tax for corporations? A. 100 percent of the prior year's tax liability (with a few exceptions). B. 100 percent of the current year's tax liability. C. 100 percent of the estimated current year tax liability using the annualized income method. D. All of the choices are acceptable methods of determining the required annual payment of federal income tax for corporations.
Answer: D Explanation: All methods are acceptable.
Jazz Corporation owns 10% of the Williams Corp. stock. Williams distributed a $10,000 dividend to Jazz Corporation. Jazz Corp.'s taxable income (loss) before the dividend was ($6,000). What is the amount of Jazz's dividends received deduction on the dividend it received from Williams Corp.? A. $0. B. $2,000. C. $4,000. D. $5,000. E. None of the choices is correct.
Answer: D Explanation: Because Jazz owns less than 20% of the Williams stock, the DRD percentage is 50%. Even though $2,000 (50% × 4,000 taxable income before the DRD) is less than the full DRD of $5,000, deducting the full DRD creates a net operating loss for Jazz [$4,000 − $5,000 = ($1,000)] so Jazz may deduct the full $5,000 DRD.
Calendar-year corporations that request an extension for filing their 2018 tax returns will have a tax return due date of October 15.
Answer: TRUE Explanation: Calendar and fiscal year corporations other than those with a June 30 year-end can extend their tax returns for five months.
An unfavorable temporary book-tax difference is so named because it causes taxable income to decrease relative to book income.
FALSE Explanation: Any book-tax difference that requires an add-back to book income to compute taxable income is an unfavorable book-tax difference because it requires an adjustment that increases taxable income relative to book income.
Federal income tax expense reported on a corporation's books generates a temporary book-tax difference for Schedule M-3 purposes.
FALSE Explanation: Federal income tax expense generates a permanent book-tax difference for Schedule M-3 purposes.
Although a corporation may report a temporary book-tax difference for an item of income or deduction for a given year, over the long term the total amount of income or deduction it reports with respect to that item will be the same for both book and tax purposes.
TRUE
Corporations are not allowed to deduct charitable contributions in excess of 10% of the corporation's taxable income (before the charitable contribution and certain other deductions).
TRUE
Corporations may carry excess charitable contributions forward five years, but they may not carry them back.
TRUE
For incentive stock options, the value of the options that accrue in a given year always creates a permanent, unfavorable book-tax difference.
TRUE
GenerUs Inc.'s board of directors approved a charitable cash contribution to FoodBank, a qualified non-profit organization, in November of 2018. GenerUs made the payment to FoodBank on February 2, 2019. GenerUs Inc. (a calendar-year corporation) may claim a deduction for the contribution on its 2018 tax return.
TRUE
Income that is included in book income, but excluded from taxable income, results in a favorable, permanent book-tax difference.
TRUE
Most corporations use the annualized income method to determine their required annual payment for purposes of making quarterly estimated payments.
TRUE
The dividends received deduction is designed to mitigate the extent to which corporate earnings are subject to more than two levels of taxation.
TRUE
Taxable income of the all C corporations is subject to a flat 21% tax rate.
Answer: TRUE
Corporation A receives a dividend from Corporation B. Corporation A includes the dividend in its gross income for tax and financial accounting purposes (no book-tax difference). If A has accounted for the dividend correctly (following the general rule), how much of B stock does A own? A. A owns less than 20 percent of the stock of B. B. A owns at least 20 but not more than 50 percent of the stock of B. C. A owns more than 50 percent of the stock of B. D. Cannot be determined.
Answer: A Explanation: Corporations generally include dividends from corporations in which they own less than 20% in both taxable and financial income (dividends are not income for book purposes if Corporation A accounts for its stock ownership under the equity method, which generally begins with a 20% ownership interest).
Omnidata uses the annualized income method to determine its quarterly federal income tax payments. It had $100,000, $50,000, and $90,000 of taxable income for the first, second, and third quarters, respectively ($240,000 in total through the first three quarters). What is Omnidata's annual estimated taxable income as of the end of the third quarter? A. $300,000. B. $320,000. C. $400,000. D. $480,000.
Answer: A Explanation: The annual estimated taxable income for the third quarter is determined by annualizing cumulative taxable income for the first half of the year. $300,000 = 2 × ($100,000 first quarter income + $50,000 second quarter income).
Orange Inc. issued 20,000 nonqualified stock options valued at $40,000 (in total). The options vest over two years—half in 2018 (the year of issue) and half in 2019. One thousand options are exercised in 2019 with a bargain element on each option of $6. What is the 2019 book-tax difference associated with the stock options? A. $14,000 unfavorable. B. $6,000 favorable. C. $24,000 unfavorable. D. $24,000 favorable. E. None of the choices are correct.
Answer: A Explanation: The book-tax difference in 2019 is the difference between $20,000 expensed for book purposes (50% × $40,000) and $6,000 (1,000 options exercised × $6 bargain element). It is unfavorable because book expenses exceed tax deductions.
Which of the following statements regarding net operating losses generated in 2019 is true? A. Corporations can carry NOLs back two years and forward up to 20 years. B. A corporation can carryover the NOL indefinitely. C. A corporation can carry NOLs back two years and forward indefinitely. D. When a corporation applies a net operating loss carryover, it reports a favorable, permanent book-tax difference in the amount of the applied carryover. E. None of these is a true statement.
Answer: B Explanation: A corporation can carry over the NOL indefinitely.
Jazz Corporation owns 10% of the Williams Corp. stock. Williams distributed a $10,000 dividend to Jazz Corporation. Jazz Corp.'s taxable income (loss) before the dividend was ($2,000). What is the amount of Jazz's dividends received deduction on the dividend it received from Williams Corp.? A. $0. B. $4,000. C. $5,000. D. $6,500. E. None of the choices is correct.
Answer: B Explanation: Because Jazz owns less than 20% of the Williams stock, the DRD percentage is 50%. Further, $4,000 (50% × $8,000 taxable income before the DRD) is less than the full DRD of $5,000 and the full DRD does not create a net operating loss ($8,000 − $5,000 = $3,000). As a result, the DRD is limited to $4,000.
Canny Foods Co. is considering three ways it could contribute to a local, qualified charity. First, it could give $10,000 in cash. Second, it could give stock it initially purchased two years ago for $8,000 but is now worth $12,000. Third, it could give items of inventory with a fair market value of $7,000 but with an adjusted basis of $3,000. Which of the following correctly describes the relation among possible charitable contributions in terms of amount deductible for tax purposes? A. Cash > Stock > Inventory. B. Stock > Cash > Inventory. C. Inventory > Stock > Cash. D. Inventory > Cash > Stock.
Answer: B Explanation: Canny Foods can deduct $12,000 of the stock contribution (the fair market value of long-term capital gain property), $10,000 of the cash, and $3,000 of the inventory contribution (the adjusted basis of ordinary property).
Which of the following statements is false regarding corporate estimated tax payments? A. The due dates for estimated tax payments are the 15th day of the 4th, 6th, 9th, and 12th months of the corporation's tax year. B. Corporations must pay estimated taxes only if they have a federal income tax liability greater than $10,000. C. Even though a corporation extends its tax return, it still must pay its tax liability for the year by three and one-half months after year-end. D. Corporations using the annualized income method for determining estimated tax payments project their tax liability for the year based on income from the first, second, and third quarters.
Answer: B Explanation: Corporations are required to make quarterly estimated payments if their federal income tax liability is $500 or more.
Which of the following describes the correct treatment of incentive stock options (ISOs)? A. Financial accounting—no expense; tax—no deduction. B. Financial accounting—no expense; tax—deduct bargain element at exercise. C. Financial—expense value over vesting period; tax—no deduction. D. Financial—expense value over vesting period; tax—deduct bargain element at exercise.
Answer: C Explanation: Under ASC 718, option values are expensed over the vesting period creating an unfavorable permanent book-tax difference.
Corporation A receives a dividend from Corporation B. It includes the dividend in gross income for tax purposes but includes a pro-rata portion of B's earnings in its financial accounting income. If A has accounted for the dividend correctly (using the general rule), how much of B's stock does A own? A. A owns less than 20 percent of the stock of B. B. A owns at least 20 but not more than 50 percent of the stock of B. C. A owns more than 50 percent of the stock of B. D. Cannot be determined.
Answer: B Explanation: If a corporation receiving dividends owns at least 20% but not more than 50% of the stock of a dividend-distributing corporation, it reports a pro-rata portion of the distributing corporation's earnings in its financial accounting income under the equity method and it includes the actual amount of the dividend in its taxable income.
iScope Inc. paid $3,000 in interest on a loan it used to purchase municipal bonds. What is the nature of the book-tax difference relating to this expense? A. Permanent; favorable. B. Permanent; unfavorable. C. Temporary; favorable. D. Temporary; unfavorable.
Answer: B Explanation: Interest expense on loans to acquire investments that produce tax-exempt income is not deductible under section 265.
TrendSetter Inc. paid $50,000 in premiums for life insurance coverage for its key employees for which TrendSetter Inc. is the beneficiary. What is the nature of the book-tax difference created by this expense? A. Permanent; favorable. B. Permanent; unfavorable. C. Temporary; favorable. D. Temporary; unfavorable.
Answer: B Explanation: Life insurance premiums for key employees are not deductible for tax purposes.
For Corporation P to file a consolidated tax return with Corporation S, P must own what percentage of P's voting stock? A. 100%. B. 80%. C. More than 50%. D. 50% or more.
Answer: B Explanation: P must own at least 80% of the voting power and value of S to file a consolidated tax return with S.
Which of the following is not required to allow an accrual-method corporation to deduct charitable contributions before actually paying the contribution to charity? A. Approval of the payment from the board of directors. B. Approval from the IRS prior to making the contribution. C. Payment made within three and one-half months of the tax year-end. D. All of the choices are necessary.
Answer: B Explanation: Prior IRS approval is not required.
Which of the following statements regarding the dividends and/or the dividends received deduction (DRD) is true? A. Dividends are taxed at preferential rates for corporations as well as for individuals. B. The DRD can increase the net operating loss of a corporation. C. Corporations are allowed to deduct from a dividend received the product of the dividend and the percentage of the receiving corporation's ownership in the distributing corporation's stock. D. The DRD allows corporations to deduct the amount of dividends that they distribute.
Answer: B Explanation: The DRD limitation does not apply if the DRD creates or increases a corporation's net operating loss.
Tatoo Inc. reported a net capital loss of $13,000 in 2018. The company had a net capital gain of $4,300 in 2016 and $3,000 in 2015. In 2017, although the company suffered a net operating loss, it had net capital gains of $1,000. What is the amount of Tatoo's capital loss carryover remaining after it applies the carryback? A. $4,700. B. $5,700. C. $8,700. D. $13,000.
Answer: B Explanation: The net capital loss is first carried back to 2015 as $3,000 is deducted against net capital gain. The $4,300 net capital gain in 2016 is offset next. Because Tatoo reported a net operating loss in 2017, it is not allowed to apply the carryback to that year. The remaining carryover is $5,700 ($13,000 − $3,000 − $4,300).
Which of the following statements is false regarding consolidated tax returns? A. An affiliated group can file a consolidated tax return only if it elects to do so. B. To file a consolidated tax return, one corporation must own at least 50% of the stock of another corporation. C. For a group of corporations filing a consolidated tax return, an advantage is that losses of one group member may offset gains of another group member. D. For a group of corporations filing a consolidated tax return, losses from certain intercompany transactions are deferred until realized through a transaction outside of the group.
Answer: B Explanation: To file a consolidated tax return, one corporation must own at least 80% of the stock of another corporation.
Jazz Corporation owns 50% of the Williams Corp. stock. Williams distributed a $10,000 dividend to Jazz Corporation. Jazz Corp.'s taxable income before the dividend was $100,000. What is the amount of Jazz's dividends received deduction on the dividend it received from Williams Corp.? A. $0. B. $5,000. C. $6,500. D. $10,000.
Answer: C Explanation: Because Jazz owns more than 20% and less than 80% of the Williams stock, it is entitled to a 65% dividends received deduction ($10,000 × 65%).
Which of the following statements regarding excess charitable contributions (contributions in excess of the modified taxable income limitation) by corporations is true? A. Corporations may not carry over or carry back excess charitable contributions. B. Corporations can carry excess charitable contributions over to a future year or back to a prior year. C. Corporations can carry excess charitable contributions over to a future year but not back to a prior year. D. Corporations can carry excess charitable contributions back to a prior year but not over to a future year.
Answer: C Explanation: Corporations may carry excess charitable contributions over for up to five years but they may not carry them back.
It is important to distinguish between temporary and permanent book-tax differences for which of the following reasons? A. Temporary book-tax differences affect the computation of taxable income whereas permanent differences do not. B. All corporations are required to disclose book-tax differences as permanent or temporary on their tax returns. C. Temporary book-tax differences will reverse in future years whereas permanent differences will not. D. Neither temporary nor permanent book-tax differences will reverse in future years.
Answer: C Explanation: Temporary book-tax differences will reverse in future years whereas permanent differences will not.
What is the unextended due date of the tax return of a calendar-year C corporation for 2018? A. February 15. B. March 15. C. April 15. D. October 15.
Answer: C Explanation: The unextended tax return due date for a calendar year corporation is 3½ months after year-end.
Bingo Corporation incurred a $10 million net operating loss in 2019. Bingo reported taxable income of $12 million in 2020. Bingo can offset the entire $10 million NOL carryover against taxable income in 2020.
Answer: FALSE Explanation: The NOL can only offset 80% of taxable income in the carryover year ($9.6 million). The remainder is carried over to 2021.
WFO Corporation has gross receipts according to the following schedule: Year 1 $22.00 million Year 2 $24.00 million Year 3 $26.00 million Year 4 $24.50 million Year 5 $25.00 million Year 6 $27.00 million If WFO began business as a cash-method corporation in Year 1, in which year would it have first been required to use the accrual method? A. Year 3. B. Year 4. C. Year 5. D. Year 6. E. None of the choices are correct.
Answer: D Explanation: Corporations with $25 million or less in annual average gross receipts can use the cash method of accounting for tax purposes. Corporations that have not been in existence for at least three years can compute average annual gross receipts over the years they have been in existence. The three years preceding Year 6 have annual average gross receipts of $25.167 million.
Which of the following statements regarding charitable contributions is false? A. Only contributions made to qualified charitable organizations are deductible. B. Charitable contribution deductions are subject to a limitation based on the corporation's taxable income (before certain deductions). C. Corporations can qualify to deduct a contribution before actually paying the contribution to the charity. D. The amount deductible for non-cash contributions is always the adjusted basis of the property donated.
Answer: D Explanation: Depending on the nature of the property, the amount deductible for a contribution can be the fair market value of the contributed property.
Remsco has taxable income of $60,000 and a charitable contribution limit modified taxable income of $72,000. Its charitable contributions for the year were $7,500. What is Remsco's current-year charitable contribution deduction and contribution carryover? A. $6,000 current-year deduction; $1,500 carryover. B. $7,500 current-year deduction; $0 carryover. C. $1,200 current-year deduction; $6,300 carryover. D. $7,200 current-year deduction; $300 carryover.
Answer: D Explanation: The current-year deduction is limited to 10% of the charitable contribution limit modified taxable income, which is $7,200 ($72,000 × 10%). The carryover is any excess of the charitable contribution deduction for the year over the allowable current-year deduction.
AmStore Inc. sold some of its heavy machinery at a gain. AmStore used the straight-line method for financial accounting depreciation and expensing for tax cost-recovery. If accumulated depreciation for financial accounting purposes is less than accumulated depreciation for tax reporting purposes, what is the nature of the book-tax difference associated with the gain on the sale? A. Permanent; favorable. B. Permanent; unfavorable. C. Temporary; favorable. D. Temporary; unfavorable.
Answer: D Explanation: The gain recognized by AmStore is higher for tax purposes than it is for book purposes because the tax accumulated depreciation is higher than the book accumulated depreciation (the basis is higher for book purposes than for tax purposes). This adjustment is the reversal of the favorable book-tax difference for depreciation on the asset.
Which of the following describes the correct treatment of the exercise of nonqualified stock options (NQOs)? A. Financial—no expense; tax—no deduction. B. Financial—no expense; tax—deduct bargain element at exercise. C. Financial—expense value over vesting period; tax—no deduction. D. Financial—expense value over vesting period; tax—deduct bargain element at exercise.
Answer: D Explanation: Under ASC 718, the value of options is expensed over the vesting period for books and the bargain element is deducted in the year of exercise for tax purposes creating a temporary book-tax difference.
A C corporation reports its taxable income or loss on Form 1065.
Answer: FALSE Explanation: A C corporation reports its taxable income or loss on Form 1120.
A corporation may carry a net capital loss forward five years to offset capital gains in future years but it may not carry a net capital loss back to offset capital gains in previous years.
Answer: FALSE Explanation: A corporation carries a net capital loss back 3 years (required) and forward 5 years.
The dividends received deduction cannot create a net operating loss. The deduction can reduce income to zero but not below zero.
Answer: FALSE Explanation: A dividends received deduction is limited to 50% or 65% of taxable income unless it creates or increases a net operating loss deduction, in which case the full amount is allowed.
The rules for consolidated reporting for financial statement purposes are the same as the rules for consolidated reporting for tax purposes
Answer: FALSE Explanation: ASC 810 governs consolidated financial reporting while IRC sections 1501-1504 and the accompanying regulations govern income tax consolidation.
Corporations may carry a net operating loss sustained in 2019 back two years and forward 20 years.
Answer: FALSE Explanation: An NOL sustained in 2019 can be carried forward indefinitely with no carry back permitted.
Volos Company (a calendar-year corporation) began operations in March of 2016 and was not profitable through December of 2017. Volos has been profitable for the first quarter of 2018 and is trying to determine its first quarter estimated tax payment. It will have no estimated tax payment requirement in 2018 because it had no tax liability for the 2017 tax year and has been in business for at least 12 months.
Answer: FALSE Explanation: Estimated taxes are due if the corporation expects to incur a tax liability of $500 or more for the year. A corporation can base its estimated payments on the prior year's tax liability only if it is positive, which is not the case here.
An affiliated group must file a consolidated tax return.
Answer: FALSE Explanation: Filing a consolidated tax return must be elected in the first year, after which it is mandatory on a going forward basis.
Large corporations (corporations with more than $1,000,000 in taxable income in any of the three years prior to the current year) can use their prior tax year liability to determine all required estimated quarterly payments for the current year.
Answer: FALSE Explanation: Large corporations can use the prior year liability to determine the first quarter estimated tax payment only.
Both Schedules M-1 and M-3 require taxpayers to identify book-tax differences as either temporary or permanent.
Answer: FALSE Explanation: Schedule M-1 is less detailed than Schedule M-3 and does not require the taxpayer to distinguish between temporary and permanent differences.
Corporations compute their dividends received deduction by multiplying the dividend amount by 10%, 50%, or 100% depending on their ownership in the distributing corporation's stock.
Answer: FALSE Explanation: The DRD percentages are 50%, 65%, and 100%, depending on the stock ownership level.