Unit 15 - Tax Considerations

Which of the following is an example of a regressive tax? a) federal fuel excise tax b) gift tax c) estate tax d) income tax

a

An investor purchases 1,000 shares of ABC at $42 per share. One year later, the stock is trading at $50 per share and the investor receives 50 shares of ABC as a stock dividend. How will this dividend be currently taxed? A) The shares are not subject to taxation B) As a $2,100 capital gain C) As a $2,500 capital gain D) As $2,500 ordinary income

a Shares received per a stock dividend are not currently taxable. Instead, shareholders who receive stock dividends must adjust their cost basis in the shares downward. The total number of new shares, multiplied by their new adjusted basis, must equal the shareholder's total interest before the stock dividend was received

Which of the following is considered a tax preference item for the purposes of calculating the alternative minimum tax? a) incentive stock options (ISOs) to the extent that the fair market value of the employer's stock is in excess of the strike price of the option b) depreciation on property placed in service after 1986 c) intangible drilling costs to a limited partnership program d) tax-exempt interest on general purpose municipal bonds issued after August 7, 1986

a the excess of the fair market value of the strike price of an ISO, known as the bargain element, is included as a tax preference item for the AMT: it is accelerated deprecation, excess intangible drilling costs, and interest on private purpose municipal bonds that are all tax preference items.

An example of an interest-on-interest reinvestment program is A) reinvesting the earnings on a bond UIT. B) interest left to compound on a bank-insured certificate of deposit. C) reinvesting the dividends distributed on a bond fund. D) reinvesting the interest received on a bond.

b

One of your customers received a $5,000 year-end bonus. You explain that the bonus is really worth $3,250 in after-tax funds. This is because a) the customer's effective tax rate is 35% b) the customer's marginal tax rate is 35% c) the customer's median tax rate is 35% d) the customer's marginal tax rate is 65%

b

A customer in the 25% tax bracket bought 200 shares of ABC at $93 per share plus commission of $50. Considering the customer's cost basis, when she sold 100 shares six months later at $96 per share, less commission of $50, her after-tax net was A) $150.00. B) $168.75. C) $56.25. D) $300.00.

b Cost: $93 + $0.25 (50/200) = $93.25 Selling for $96 + $0.50 (50/100) = $96.50 96.50-93.25 = $2.25 2.25*100 = $225 225*0.75 = 168.75

An investor who would like to increase current income from investments and, at the same time, pay taxes on that income at less than her marginal tax rate would probably find which of the following to be most suitable a) U.S. Treasury Bonds b) Public utility stock c) Growth stock d) Money market mutual fund

b Dividends paid on stock issued by American companies (and certain qualified foreign corporations) generally qualify for a reduced tax rate (minimum 15% or 20%). No such benefit accrues to money market funds (their dividends are generated from interest income) and government bond interest is always taxed as ordinary income (although state income tax-free). The dividends on a growth stock would also qualify, but because the question deals with increasing current income, a public utility is a more sensible approach.

Many corporations make available dividend reinvestment plans for their shareholders. Among the benefits of using DRIPS are I. allowing the investment to compound. II. discounts from the current market price. III. reduced taxation. IV. the ability to accept the dividend in cash or in additional shares of stock. A) I and IV B) I and II C) II and IV D) I and III

b In most cases, shares are available at a slight discount from the current market and/or reduced or eliminated commissions. Many plans allow investors to add thousands of dollars to the reinvested dividend, taking advantage of the previous two units. However, there is no tax advantage and this is merely reinvesting a cash dividend, not receiving a stock dividend.

A U.S. citizen purchases a bond issued by the government of Sweden. The interest payments received are taxed at which of the following levels? I. Federal II. State III. Local A) II and III B) I, II, and III C) II only D) I only

b Interest on foreign bonds is taxed in the U.S. by federal, state, and local governments

Investors looking to minimize the effects of taxation on their investments would probably receive the least benefit from A) an apartment building. B) a corporate bond. C) an S&P 500 Index fund. D) a growth stock.

b Investors receive interest income from corporate bonds. That income is fully taxable at ordinary income rates. real estate ownership has certain tax benefits, such as depreciation and a deduction for operating expenses. Index funds are known for their tax efficiency, and investors in growth stocks anticipate long-term capital gains, which are taxed at a lower rate than ordinary income.

An investor purchases 100 shares of ABCE common stock at $70 per share. Thirteen months later, the stock is sold when the market price is $50 per share. Which of the following activities made 20 days after the sale of the stock at $50 per share, would not violate the wash sale rule? A) Purchasing an ABCE call option B) Purchasing 5 ABCE convertible bonds with a conversion price of $50 C) Purchasing an ABCE put option D) Purchasing 100 shares of ABCE common stock

c

If a high-income taxpayer is subject to the AMT, which of the following preference items must be added to adjusted gross income to calculate his tax liability? A) Dividends paid on preferred stock B) Interest on a general obligation municipal bond C) Interest on a private-purpose municipal bond D) Distributions from a corporate bond mutual fund

c

Which of the following statements about capital gains are true? I. The minimum holding period required to qualify for long-term capital gains treatment is 1 day longer than 12 months. II. The highest federal income tax rate on long-term capital gains is less than the highest federal income tax rate on ordinary income. III. If an investor holds stock for 12 months or less and has no other transactions, any gain on the sale of the stock is taxed at the same rate as ordinary income. A) II and III B) I and II C) I, II, and III D) I and III

c

Your customer in the 24% federal income tax bracket would probably pay the most tax on a $5,000 investment into a) dividends received on domestic common stock b) dividends received on domestic preferred stock c) interest received on U.S. Treasury bonds d) interest received on municipal bonds

c Interest received on treasuries will be fully taxable on a federal basis. That means 24% to this customer. Unless stated to the contrary, you can assume that dividends paid on stock (common and preferred) issued by domestic corporations are qualified. That means the tax rate will be 15%. Interest received on municipal bonds will be tax free

If an investor is in the highest federal income tax bracket and is subject to the alternative minimum tax, which of the following securities should an agent recommend? A) Corporate bond B) Industrial revenue bond C) General obligation bond D) Treasury bond

c Municipal bonds are suitable for the portfolio of an investor who is in a high tax bracket because the interest is exempt from federal income tax. A general obligation bond (GO) is a better recommendation than an industrial revenue bond because the interest on industrial revenue bonds is likely subject to the AMT

It would be least likely for dividends paid on which of the following investments to meet the requirements to be considered qualified? A) Common stock B) Equity mutual funds C) Bond mutual funds D) Preferred stock

c Qualified dividends are those eligible for reduced income tax rates. Those rates can be as low as 0% and as high as 23.8%, with most falling within the 15% to 20% bracket. dividends on bond funds and money market funds are not qualified because the majority of those dividends represent interest earned by the fund and the tax break does not apply to earnings from interest.

A client bought 100 shares of a mutual fund on December 28, 2016, for $4,000 and received a capital gains distribution of $2.40 per share on March 6, 2017, which was taken in cash. He sold his 100 shares for $4,300 on June 19, 2017. For tax purposes, this transaction resulted in A) a $240 long-term capital gain and a $60 short-term capital gain. B) a $60 short-term capital gain. C) a $300 short-term capital gain. D) a $240 long-term capital gain

c The June sale of the shares purchased in December resulted in a short-term capital gain of $300. The distribution represents a long-term gain of $240, but this question only deals with the client's transaction.

A taxpayer has realized short-term capital gains of $50,000 and long-term capital gains of $75,000 during the taxable year. Over the same period, the individual realized short-term capital losses of $40,000 and long-term capital losses of $100,000. The tax consequences of these transactions are a) a net short-term capital gain of $10,000 and a net long-term capital loss of $25,000 b) a net long-term capital loss of $15,000 and no gain carryover c) a $3,000 deduction from income and a long-term capital loss carryover of $7,000 d) a $3,000 deduction from income and a long-term capital loss carryover of $12,000

d

Tax preference items are used for the purpose of computing the alternative minimum tax. They include all of the following except A) excess intangible drilling costs. B) accelerated depreciation. C) certain incentive stock options. D) straight-line depreciation.

d

Many different investments offer the opportunity to reinvest income. If one were to compare the difference between interest-on-interest reinvestment plans and dividend and capital gain reinvestment plans, A) in the case of dividend and capital gains reinvestment plans, taxes are deferred until liquidation. B) in the case of interest on interest plans, taxes are deferred until liquidation. C) in both cases, all income is deferred until liquidation. D) in both plans, all income is taxable in the year received, whether reinvested or not.

d Regardless of the type of plan, any income, whether reinvested or not, is always taxed in the current year.

Which of the following offers the opportunity to realize a capital gain rather than ordinary income? A) Cash dividends B) Deferred annuities C) Section 529 plans D) Stock dividends

d Stock dividends, unlike cash dividends, are not taxable in the year of receipt. Instead, they reduce the owner's cost basis and, when sold at a price above that cost basis, are treated as a capital gain rather than ordinary income. Deferred annuities never generate anything but ordinary income, and qualified withdrawals from Section 529 plans result in no taxation on the earnings. If they are not qualified, there is ordinary income tax plus a penalty.