tax chapter 7

A critical difference between product costs and period costs is that costs are currently deductible, while costs must be capitalized to inventory.

Blank 1: period Blank 2: product

Leveraged financing of asset acquisitions can the after-tax cost of an acquisition by the net present value of after-tax cash flows.

Blank 1: reduce or decrease Blank 2: increasing

In conflicts between a taxpayer and the IRS over deductibility of expenses, the burden of proof for showing the right to a deduction is on the .

Blank 1: taxpayer

Most inventory book/tax differences are differences producing deferred tax .

Blank 1: temporary Blank 2: assets

Most organizational and start-up cost book/tax differences are differences producing deferred tax .

Blank 1: temporary Blank 2: assets

Most purchased book/tax differences are differences producing either deferred tax or deferred tax .

Blank 1: temporary Blank 2: assets or liabilities Blank 3: liabilities or assets

Most depreciation book/tax differences are differences producing deferred tax .

Blank 1: temporary Blank 2: liabilities

An important distinction between wasting and nonwasting assets is that assets are generally depreciable, while assets are nondepreciable.

Blank 1: wasting Blank 2: nonwasting

Which of the following are considered start-up costs for tax purposes? (Select all that apply.)

Preoperational costs of a new business Costs of investigating the purchase of a business

Organizational costs ______.

are costs of forming a partnership or corporation to conduct business activities

Organizational costs ______.

are deductible in the year incurred if not in excess of $5,000

For tax purposes, start-up costs ______.

are deductible when incurred up to $5,000

During 2019, ABC acquired $2,570,000 of property qualifying under Section 179. What is the maximum amount that ABC may elect to deduct under Section 179 for 2019?

$1,000,000 Reason: Because total acquisitions exceed the $2,550,000 threshold, the normal $1.02 million deduction is reduced to $1 million.

ABC Corporation incurred $10,000 of organization costs and opened for business on July 1 of the current year. For book purposes, the costs were expensed. For tax purposes, ABC can deduct the first $5,000 of such costs this year, and is entitled to $167 of amortization for tax purposes. If ABC has a 21% tax rate, what amount of deferred tax asset or liability should it record for organization costs?

$1,015 deferred tax asset Reason: $1,015 DTA = ($10,000 book expense - $5,167 tax deduction) × 21%

Delta Company owns an oil well with an adjusted basis of $100,000. During the year, it produced and sold 20,000 barrels of oil. At the beginning of the year, Delta geologists estimated that the well contained 200,000 barrels of oil. How much cost depletion is allowed for the current year?

$10,000 Reason: $100,000 × 20,000/200,000.

Six years ago, Alpha Corporation purchased goodwill at a cost of $200,000. No impairments of the goodwill have been recorded, and Alpha has deducted $80,000 of tax amortization over these six years. If Alpha's tax rate is 21%, what amount of deferred tax asset or liability should appear on its balance sheet related to goodwill?

$16,800 deferred tax liability

Two years ago, Gamma Company paid $4,500 for equipment used in its business. It has deducted $1,745 of MACRS depreciation on this equipment. It also incurred $500 of costs to repair the equipment. These repairs did not increase the value or extend the useful life of the equipment. What is Gamma's adjusted tax basis in the equipment?

$2,755 Reason: $4,500 - $1,745 = $2,755.

For acquisitions during 2019, what is the threshold amount of qualifying acquisitions above which the Section 179 deduction is subject to phase-out?

$2.55 million

On January 1, as part of a business acquisition, ABC company obtained a covenant not to compete from the former owners of the business with a 5-year term. If the purchase price assigned to this contract is $300,000, how much cost recovery can ABC claim for the current year?

$20,000 Reason: The cost is amortized over 15 years, even though the contract life is shorter.

XYZ, a calendar-year company, opened for business on July 1 of the current year. ABC incurred $52,000 of organizational costs. How much can it deduct this year?

$4,633 Reason: $3,000 initial deduction (reduced from $5,000 due to excess of total over $50,000) plus $1,633 amortization ($49,000 × 6/180).

On January 1, a calendar-year taxpayer entered into a 5-year lease on a building to be used as its headquarters. The taxpayer paid $4,000 to the broker that negotiated the lease. How much of this cost is deductible in the current year?

$800 Reason: The cost is amortized over the 5-year term of the lease, thus 1/5th is currently deductible.

When an asset acquisition qualifies for cost recovery through MACRS, bonus depreciation, and Section 179, identify the order in which these provisions are applied in determining the total deduction.

1. section 179 2. bonus depreciation 3. MACRS

For each of the MACRS recovery periods listed below, match the appropriate MACRS recovery method.

10-year property- 200 percent declining balance 15-year property- 150 percent declining balance 50-year property- Straight-line method

For each of the years listed below, identify the appropriate bonus depreciation percentage.

100%- 2011, 2019 50%- 2016

For each of the years listed below, identify the maximum amount deductible under the Section 179 limited expensing election.

2009-$250,000 2015-$500,000 2018- $1,000,000 2019-$1,020,000

The $1 million maximum amount deductible under Section 179 applies beginning with tax years after December 31, _____.

2017

For each of the MACRS recovery periods listed below, match the appropriate MACRS recovery method.

3 years property-200 percent declining balance 20 years property-150 percent declining balance 27.5 years property-Straight-line method

For qualifying acquisitions in 2010 through 2015, the maximum amount deductible under the Section 179 limited expensing election was $.

500000

The method of recovering investments in natural resources that is based on a percentage of gross revenue from the property is referred to as .

Blank 1: percentage Blank 2: depletion

Which of the following statements regarding the use of the LIFO inventory costing convention for tax purposes is false?

A firm using LIFO for financial reporting purposes is required to use LIFO for tax purposes.

Which of the following is the correct formula for calculating the cost of goods sold?

Beginning inventory plus cost of goods acquired minus ending inventory

For qualified acquisitions during 2019, if total acquisitions exceed $3.57 million, the maximum allowable Section 179 deduction is $.

Blank 1: 0

and costs that are regular and recurring in nature are generally deductible for tax purposes.

Blank 1: Repair, Repairs, or Maintenance Blank 2: Maintenance, Repair, or Repairs

In comparing the initial tax basis and adjusted tax basis of an asset, over the life of the asset, the tax basis will generally be lower.

Blank 1: adjusted

The cost of business acquisition intangibles is recovered through over years.

Blank 1: amortization Blank 2: 15

Tax represents the taxpayer's unrecovered dollars invested in an asset.

Blank 1: basis

When the cost of an asset will be recovered using both bonus depreciation and MACRS, is calculated first, basis of the asset is reduced, and is then calculated.

Blank 1: bonus Blank 2: MACRS

An expenditure that enhances an asset with a useful life beyond the current tax year should be for tax purposes.

Blank 1: capitalized

The method of recovering investments in natural resources that is based on the ratio of current production to total expected production at the beginning of the year is referred to as .

Blank 1: cost Blank 2: depletion

The preferential tax deduction for research and experimental costs the after-tax cost of the expenditures, and therefore, represents a(n) federal subsidy.

Blank 1: decreases or reduces Blank 2: indirect

The tax law distinguishes between the Section 179 expense and the deduction. The (not the ) is limited annually to taxable income computed without the Section 179 .

Blank 1: deduction Blank 2: expense Blank 3: deduction

While most provisions of the Internal Revenue Code are mandatory, the Section 179 limited expensing deduction is .

Blank 1: elective or optional

The allowable depletion deduction for the year equals the of or depletion.

Blank 1: greater Blank 2: cost or percentage Blank 3: percentage or cost

In most cases, MACRS property with a recovery period of 20 years or less is subject to the -convention for computing depreciation in the first and last years of the recovery period.

Blank 1: half or mid Blank 2: year

Time period variable tax savings as the recovery period of an asset decreases.

Blank 1: increase

If the firm can recover the cost of asset acquisitions over a shorter period of time, the present value of the related tax savings and the after-tax cost of the asset .

Blank 1: increases Blank 2: decreases

LIFO is often desirable for tax purposes because in periods of prices, LIFO maximizes tax savings related to the cost of good sold deduction.

Blank 1: increasing or rising

The - convention applies in computing MACRS depreciation of realty.

Blank 1: mid or half Blank 2: month

The convention constrains taxapayers that might be tempted to accelerate future year property acquisitions into the last quarter of the current year to get greater cost recovery deductions.

Blank 1: midquarter

Which of the following vehicles are subject to limitations on MACRS depreciation deductions?

Cars used by company executives

Which of the following assets are amortized for tax purposes over an arbitrary 15-year life? (Select all that apply.)

Government licenses Trade names Franchises

Which of the following inventory-related indirect costs must be capitalized for tax purposes under the uniform capitalization rules? (Select all that apply.)

Compensation of officers supervising the production function Employee benefits for officers supervising the production function

Which of the following statements regarding cost recovery deductions is false?

Cost recovery deductions represent a cash outflow that reduces the firm's before-tax cash flow each year.

Which of the following preferential tax deductions are available to farmers? (Select all that apply.)

Costs of grading and terracing land Cost of fertilizer Costs of planting windbreaks

Which of the following are common business acquisition intangibles? (Select all that apply.)

Covenant not to compete Accounting records

Which of the following are common business acquisition intangibles? (Select all that apply.)

Customer contracts Supplier relationships

Which of the following occurrences is consistent with a wasting asset? (Select all that apply.)

Decline in value due to wear and tear Decline in value due to physical deterioration Decline in value due to obsolescence

Which of the following are characteristics of tangible assets recoverable through depreciation? (Select all that apply.)

Decline in value over time due to wear and tear Reasonably ascertainable useful life

Which of the following independent events would result in an increase in cost of goods sold? (Select all that apply.)

Decrease in inventory on hand at year end Increase in cost of inventory purchases Increase in current production costs

For which of the following calculations does the IRS provide depreciation tables? (Select all that apply.)

Depreciable realty subject to the midmonth convention Depreciable personalty subject to the midquarter convention Depreciable personalty subject to the half-year convention

Which of the following are common business acquisition intangibles? (Select all that apply.)

Goodwill Intellectual property

Which of the following inventory-related indirect costs must be capitalized for tax purposes under the uniform capitalization rules? (Select all that apply.)

Employee benefits for officers supervising the production function Compensation of officers supervising the production function

Which of the following statements regarding the tax treatment of advertising costs is true?

Except in unusual circumstances, advertising costs are currently deductible.

Which of the following are part of an asset's cost basis? (Select all that apply.)

Fair market value of a note given to the seller in exchange for the asset Fair market value of services performed in exchange for the asset Sales tax paid by the purchaser

True or false: The allowance of bonus depreciation expired on December 31, 2015; Congress has not taken action to extend this incentive provision to 2016 acquisitions.

False Reason: Congress extended bonus depreciation beyond December 31, 2015, with the Protecting Americans from Tax Hikes Act of 2015.

Which of the following are common sources of cost recovery book/tax differences? (Select all that apply.)

Goodwill amortization MACRS depreciation

Which of the following inventory costing conventions is permitted for tax purposes? (Select all that apply.)

First-in first-out Specific identification Last-in first-out

Which of the following statements regarding inventory costing conventions is false?

For tax purposes, most large manufacturing and retail businesses use the specific identification method of inventory costing.

Which of the following are characteristics of passenger automobiles subject to limitations on MACRS depreciation? (Select all that apply.)

Four-wheel vehicles Primarily for use on public roads Unloaded gross vehicle weight of 6,000 pounds or less

Which of the following statements regarding the interaction of bonus depreciation and the Section 179 deduction is true?

If property qualifies for both incentives, Section 179 is applied first and bonus depreciation is applied second.

Which of the following statements regarding the Section 179 deduction is false?

If the cost of qualifying property exceeds the maximum Section 179 deduction, the election is not permitted.

Which of the following statements regarding goodwill book/tax differences are true? (Select all that apply.)

If the firm records a goodwill impairment expense, such expense is not tax-deductible and produces an unfavorable book/tax difference. Because goodwill is not amortizable for book purposes, the annual tax amortization deduction creates a favorable book/tax difference.

Which of the following statements regarding deductibility of trade or business expenses is true?

Income tax deductions are a matter of legislative grace.

Which of the following statements regarding preferential deductions for oil and gas producers is true?

Intangible drilling and development costs include wages, fuel, and supplies that contribute to the drilling of an oil or gas well.

Which of the following statements regarding inventory book/tax differences is true?

Inventory book/tax differences arise when indirect costs are capitalized to inventory for tax purposes that were expensed on the books.

For each of the tangible business assets listed below, match the appropriate MACRS recovery period.

Land improvements-15 years Office furniture-7 years Computers-5 years

Which of the following are considered organizational costs for tax purposes? (Select all that apply.)

Legal fees to form a new entity Registration fees under state law

Which of the following statements regarding depreciation book/tax differences is false?

MACRS depreciation typically causes book depreciation to exceed tax depreciation in the early years of an asset's recovery life.

Which of the following statements regarding the deductibility of organizational costs is false?

New businesses are required to amortize organizational costs over 180 months for tax purposes.

Which of the following asset acquisitions qualify for bonus depreciation? (Select all that apply.)

New tangible personal property acquired prior to Sept. 28, 2017 New or used tangible personal property acquired after Set. 27, 2017 Computer software

For each of the tangible business assets listed below, match the appropriate MACRS recovery period.

Office building-39 years Apartment building-27.5 years Municipal sewer system-20 years

Which of the following are common sources of cost recovery book/tax differences? (Select all that apply.)

Organizational cost amortization Inventory costing Bonus depreciation

Which of the following asset acquisitions is considered qualifying property for purposes of the Section 179 deduction? (Select all that apply.)

Qualified improvements to nonresidential real property Tangible depreciable personalty Off-the-shelf computer software amortizable over 36 months

For each of the tangible business assets listed below, match the appropriate MACRS recovery period.

Racehorse-3 years Dairy cattle-5 years Barges-10 years

Which of the following inventory-related indirect costs must be capitalized for tax purposes under the uniform capitalization rules? (Select all that apply.)

Rent on equipment used in manufacturing Repair costs of manufacturing equipment Cost recovery deductions on manufacturing equipment

Which of the following clearly capital expenditures qualify for preferential tax deductions? (Select all that apply.)

Research costs leading to the creation of new computer technology Installation of wheel chair ramps at a restaurant

Which of the following are deductible under the safe harbor repair and maintenance rules of the IRS regulations? (Select all that apply.)

Routine maintenance Certain building improvements by qualifying small taxpayers De minimis expenditures

Which of the following taxpayers are eligible to claim percentage depletion? (Select all that apply.)

Royalty owners Independent oil and gas producers

Which of the following statements regarding the IRS depreciation tables are true? (Select all that apply.)

Separate IRS depreciation tables are provided for each quarter of property subject to the midquarter convention. The IRS depreciation tables contain annual depreciation percentages for each permissible recovery period.

Which of the following asset acquisitions is considered qualifying property for purposes of the Section 179 deduction? (Select all that apply.)

Tangible depreciable personalty Off-the-shelf computer software amortizable over 36 months Qualified improvements to nonresidential real property

Which of the following statements regarding the interaction of bonus depreciation and MACRS is false?

Taxpayers must elect whether to take bonus depreciation or MACRS, but cannot deduct both.

Which of the following statements regarding the maximum amount of deductible bonus depreciation is false?

The annual deduction for bonus deprecation is limited to taxable income as computed before this deduction.

Which of the following statements regarding the calculation of the depreciation limitation on passenger automobiles is false?

The annual depreciation permitted on passenger automobiles equals the greater of MACRS depreciation or the IRS-provided annual limitation amount.

Which of the following statements regarding qualifying property for bonus depreciation versus qualifying property for Section 179 is false?

The definitions of qualifying property for bonus depreciation and Section 179 are identical.

Which of the following statements regarding the difference between repairs and maintenance versus capital improvements is false?

The distinction between repairs and capital improvements is rarely in dispute.

Which of the following are general requirements for deductibility of trade or business expenses? (Select all that apply.)

The expense must be necessary. The expense must be ordinary.

Which of the following statements regarding the midmonth convention is false?

The midmonth convention can be elected by a taxpayer for any asset depreciable under MACRS.

Which of the following is not required for property to qualify for the Section 179 deduction?

The property must be new.

Which of the following factors would require capitalization of an expenditure? (Select all that apply.)

The tax treatment of the expenditure is uncertain. The expenditure creates an asset with a useful life beyond the current year. The expenditure provides significant long-term value.

Accelerated methods of cost recovery produce tax savings from which of the following basic tax planning variables?

Time period variable

Which of the following assets are amortized for tax purposes over an arbitrary 15-year life? (Select all that apply.)

Trademarks Government permits

True or false: The calculation of the deduction for start-up costs, including allowable amortization, is identical to the calculation of deductible organizational costs.

True

True or false: The midquarter convention was enacted to restrain taxpayers that might take advantage of deductions available under the midyear convention by making significant property acquisitions at year-end.

True

Which of the following statements regarding the half-year convention is true? (Select all that apply.)

Under MACRS, assets with recovery periods of 20 years or less are generally entitled to six months of depreciation in the year of acquisition. Under MACRS, the half-year convention also applies in the year of disposition of depreciable personalty.

Which of the following statements regarding the midquarter convention is true?

Under the midquarter convention, property acquisitions are treated as placed in service at the midpoint of the quarter of acquisition.

Which of the following amounts are needed to calculate cost depletion? (Select all that apply.)

Units of resource produced and sold during the year Adjusted basis of the property at the beginning of the year Units of resource available at the beginning of the year

When will a book/tax difference that arises when inventory is produced, reverse?

When the inventory is sold

The calculation of percentage depletion ______.

applies an arbitrary depletion rate to the gross income generated by a mineral property

The midmonth convention ______.

applies when computing MACRS depreciation for depreciable real property

In calculating MACRS depreciation, the annual percentages in the IRS depreciation tables ______.

are multiplied by the initial undepreciated basis of the asset to compute annual depreciation

Costs associated with the expansion of an existing business ______.

are typically deductible as ordinary and necessary business expenses

Depreciation book/tax differences ______. (Select all that apply.)

are typically favorable in the early years of an asset's recovery life are a common example of a temporary difference

Leasehold costs ______. (Select all that apply.)

are upfront costs paid to acquire a lease on tangible property used in a business must be capitalized and amortized over the lease term

Organizational and start-up cost book/tax differences ______.

arise because such costs are expensed on the books and may be capitalized and amortized for tax purposes

As a general rule, for tax purposes, the cost of an intangible with a determinable useful life ______.

can be deducted through straight-line amortization of the useful life

The adjusted tax basis of an asset ______. (Select all that apply.)

declines as the taxpayer deducts MACRS depreciation on that asset represents the capitalized cost that the taxpayer has not yet deducted

Adjusted tax basis ______.

decreases as the firm deducts a portion of the capitalized cost of an asset

MACRS depreciation deductions ______.

do not represent cash outflows each year over the life of a depreciable asset

When a firm uses debt financing to acquire an asset, the cost basis ______.

equals the entire cost of the asset

The allowable depletion deduction for any single mineral property ______.

equals the greater of cost or percentage depletion for that property

True or false: If the tax treatment of an expenditure is uncertain, it should be deducted rather than capitalized under conservative accounting principles.

false

In applying the Section 179 deduction, ______. (Select all that apply.)

if the cost of qualifying property is less than the maximum deduction, the entire cost is deductible in the current year if the cost of qualifying property exceeds the maximum deduction, the excess is recovered through depreciation or amortization

The cost basis of an asset ______.

includes any portion of the cost paid through debt financing

The cost of inventory sold during the year ______.

increases as inventory production costs increase

The midquarter convention ______.

is an important exception to the general rule of the half-year convention

The annual allowance of percentage depletion ______.

is limited to 50 percent of taxable income from the depletable property (if not oil and gas)

The annual deduction under Section 179 ______.

is limited to taxable income computed without the Section 179 deduction.

The cost of leasehold improvements ______.

is recovered through MACRS depreciation over the recovery life of the asset

The tax basis of an asset ______.

may be recovered without tax cost

Tax basis ______.

may reduce future tax costs as the basis is recovered through future deductions

The tax law treats inventory costs that are ______.

product costs as costs that must be capitalized to inventory

Cost recovery deductions ______.

provide time period variable tax savings when cost recovery occurs over the shortest possible time period

Cost recovery deductions ______.

reduce after-tax cost of an asset acquisition due to related tax savings

Shorter cost recovery lives for tax purposes ______.

reduce the after-tax cost of asset acquisitions

The half-year convention applies ______.

regardless of when during the year an asset is disposed of, if that asset was subject to the convention in year of acquisition

Leasehold improvement costs ______. (Select all that apply.)

represent physical improvements made to leased property must be capitalized and recovered through MACRS depreciation

In conflicts between a taxpayer and the IRS over deductibility of expenses, the burden of proof for showing the right to a deduction is on the

taxpayer

In calculating percentage depletion, ______.

the applicable depletion rate depends on the type of mineral produced

True or false: Although the IRS acknowledges that advertising can have long-term benefits, it does not require capitalization of advertising costs.

true

True or false: The ability to deduct the cost of business assets over shorter time frames provides firms with an incentive to invest in capital acquisitions.

true

True or false: When assets are acquired in exchange for other property or services, the cost basis of the asset generally equals the fair market value of the property or services given up.

true