tax smart book chapter 7

Bailey has $8,000 to invest. She has a 25% marginal tax rate. She is planning to reinvest her dividends and leave the investment in place for three years. If she can invest the money in taxable securities that earn qualified dividends with a 6% rate of return before tax, how much will she have at the end of the third year?

$9,287 Rationale: 6% x (1 -.15) = 5.1%; $8,000 x (1+.051)3 = $9,287. Qualified dividends are taxed at 15%.

Bridget, a single taxpayer, sold a building used in her business during the current year. The realized gain on the sale was $135,000. Of this amount, $95,000 is unrecaptured Section 1250 gain. How will Bridget be taxed on this gain assuming her marginal tax rate is 32 percent and her LTCG rate is 15%?

$95,000 will be taxed at 25 percent and $40,000 will be taxed at 15%

Braden is in the 12% marginal tax bracket with a taxable income of $36,000 for the year. In addition, Braden has a $500 long-term capital gain on bonds he sold this year. If the $500 were taxed as ordinary income, Braden would remain in the 12% rate bracket. Since it is a long-term capital gain on security sales, Braden will pay tax of $_ on this income. If the $500 gain was on collectibles, taxed at a maximum 28%, Braden would incur tax of $_ on this income.

0 b/c the marginal rate did not increase above the 12% 60 b/c (500*.12)

Which of the following types of transactions result in capital losses that are NOT deductible for tax purposes? (Check all that apply.)

1). Sales of personal-use assets 2.)Wash sales 3.)Sales to related parties

Which of the following statements are true when considering the deductibility of a suspended passive loss? (Check all that apply.)

1). The suspended loss may be deducted against active or portfolio income when the taxpayer sells or divests of the passive activity. 2.) The suspended loss may be deducted when a taxpayer generates passive income from that activity or another passive activity.

Carly sold land that she purchased 10 years ago for $3,000. The selling price of the land was $7,000 and Carly paid broker's fees of $420. When she originally purchased the land, she paid $1,000 to clear some of the brush in order to make a walking path down to a nearby lake. In the ten years since the purchase, Carly paid $200 per year to keep the path maintained. Carly's amount realized on the sale was $ _ and her tax basis was $_ resulting in a capital gain of $_ for the year.

1.) 6580 = 7000-420. 2). 3000+1000=4000. 3.) 6580-4000=2580.

Which of the following choices describe collectibles? (Check all that apply.)

1.) Alcoholic beverages held over a year can qualify as a collectible. 2.) A gain on collectibles is taxed at a maximum rate of 28 percent. 3.) Coin collections and stamp collections may qualify as collectibles.

Which of the following types of investments generate interest income? (Check all that apply.)

1.) Certificate of Deposits. 2.) Government Bonds. 3.) Corporate Bonds. 4.) Saving Accounts.

Which of the following types of investments generate dividend income? (Check all that apply.)

1.) Corporate stock 2.) Mutual fund investments

What is included in the calculation of the amount realized upon the sale of a capital asset? (Check all that apply.)

1.) Fair market value of any other property received by the seller 2.) Broker's fees and other selling costs are deducted 3.) Cash received by the seller

Which of the following assets would qualify as capital assets? (Check all that apply.)

1.) Land held for investment 2.) Coin collection 3.) Personal residence 4.) Corporate stock

If a taxpayer is an active participant in a rental activity, she may be allowed to deduct up to $ _ in rental losses against other types of income

25,000

What is the rate of the additional tax that is assessed on net investment income when it exceeds specified thresholds?

3.8%

Which one of the following tax rates does NOT currently apply to long-term capital gains?

37% (CURRENTLY) : 15% 20% 25% 28%

Brent has a 25% marginal tax rate. He is considering an investment that will earn qualified dividends at a rate of 7% before tax. What is Brent's after-tax rate of return on the securities?

5.95% Rationale: Qualified dividends are taxed at 15% when the taxpayer's marginal rate is above 15%. The after-tax rate of return is 7% x 0.85 = 5.95%.

Which of the following statements is TRUE regarding the tests for material participation in a trade or business activity?`

A taxpayer can be materially participating by being involved in more than one activity if the total hours of involvement meet certain levels.

Which of the following statements is FALSE regarding the tests for material participation in a trade or business activity?

A taxpayer must be involved in the business on a full-time basis throughout the year to be considered materially participating.

What is the minimum level of participation required in order for a taxpayer to be able to deduct up to $25,000 in rental losses against other types of income?

Active participation

Which of the following types of assets does NOT qualify as a capital asset?

Assets used in a trade or business

Bailey stood in line for hours and purchased the new game system the day it became available for $600. Knowing that there was a high demand for the game system and a limited supply, she decided to put the item on E-bay rather than keep it. She sold it for $950. She also sold her five-year old car for $5,000. She had purchased the car for $13,000. What is the taxable nature of these transactions?

Bailey has a taxable short-term capital gain of $350, but no deductible loss for the car.

Which of the following statements is correct?

Interest income is typically taxed at ordinary rates.

What term is used to denote the interest incurred on loans used to acquire investments?

Investment interest expense

Bob has capital losses of $4,000 that exceed his capital gains in the current year. Of this amount, $1,200 is a short-term capital loss and $2,800 is a long-term capital loss. What is the amount and character of the capital loss carry forward?

It will be a $1,000 long-term capital loss because Bob must first use the short-term loss to offset ordinary income.

Please choose the statement that is INCORRECT regarding portfolio and passive investments?

Losses from portfolio investments are deductible in full against ordinary income. (CORRECT): Losses from portfolio investments are deferred until the investment is sold

Operating losses in flow-through entities must pass certain hurdles in order for the taxpayer to deduct the loss in the current year. Which of the following choices is NOT a hurdle that the owner must clear to be eligible to deduct the loss?

Net investment limits (has to pass At-risk limits, Tax basis, and passive loss limits)

Please choose the statement that is INCORRECT when referring to net passive income?

Net passive income is taxed at long-term capital gains rates.

Which of the following types of income is generated from passive investments rather than portfolio investments?

Operating income

Which of the following statements is INCORRECT regarding flow-through entities?

Operating income from flow-through entities may or may NOT be taxable in the current year, depending on certain limits imposed on the taxpayer.

Which of the following types of transactions results in capital losses that are deductible for tax purposes?

Sales of investment assets

Assets that are held for investment or personal use assets are referred to as _ assets.

capital

When a taxpayer does NOT materially participate in the business activities of a trade or business (including rental activities) in which he is a partial owner, any loss that flows through to the taxpayer is subject to the _ _ loss rules.

passive activity

A(n) _ _ occurs when an investor sells or trades stock or securities at a loss and within 30 days either before or after the day of sale buys substantially identical stocks or securities.

wash sale

Darin has a tax basis of $7,000 and an at-risk amount of $5,000 in a partnership where he is a 25% owner. The partnership incurred a loss of $40,000 in the current year. How much of the loss will be allocated to Darin and how much will he be able to deduct in the current year assuming he materially participates in the business?

$10,000 of the loss will flow-through to Darin, and he will be able to deduct $5,000.

Darlene has a tax basis and at-risk basis of $10,000 in a partnership where she is a 50% owner. Darlene materially participates in the operations of the business. The partnership incurred a loss of $35,000 in the current year. How much of the loss will be allocated to Darlene and how much will she be able to deduct in the current year?

$17,500 of the loss will flow-through to Darlene, and she will be able to deduct $10,000.

Angie incurred capital gains and losses during the current year. She has a $12,000 net short-term capital loss; a $5,000 long-term capital gain in the 15% category; and a $15,000 long-term capital gain in the 28% category. How will these transactions be taxed after the gains and losses are combined?

$3,000 will be taxed at 28% and $5,000 will be taxed at 15%.

Chad incurred capital gains and losses during the current year. He has a $7,000 net short-term capital gain; a $14,000 long-term capital loss in the 15% category; and a $10,000 long-term capital gain taxed at 28%. How will these transactions be taxed after the gains and losses are combined?

$3,000 will be taxed at marginal rates. Rationale: The long-term capital loss will offset the long-term capital gain. The remaining $4,000 long-term loss can offset the net short-term capital gain. (7000-14000+10000=3000)

Which of the following choices determine the amount and the timing for recognizing interest income? (Check all that apply.)

1.) If bonds are purchased at a discount in the secondary market, the discount is recognized as interest income at maturity. 2.) If bonds were issued at a premium, taxpayers may amortize the premium over the life of the bond resulting in a decrease in interest income. 3.) The actual interest payments received are included in gross income.

Which of the following choices concerning the recognition of interest income for corporate bond are CORRECT? (Check all that apply.)

1.) If bonds were issued at a discount, special original issue discount rules apply. 2.) If bonds are purchased at a premium in the secondary market, the premium can be amortized or added to the basis of the bond. 3.) The actual interest payments received are included in gross income.

Which of the following types of income are generally included in the calculation of investment income? (Check all that apply.)

1.) Net short-term capital gains 2.) Nonqualified dividends 3.) Interest income

Regarding portfolio investments, which types of income generally are taxed at a rate lower than the taxpayer's marginal tax rate? (Check all that apply.)

1.) Qualified dividends 2.) Long-term capital gains

Which of the following choices describes the tax treatment for qualified dividends? (Check all that apply.)

1.) The income may be taxed as low as 0%, depending on the taxpayer's ordinary income rate. 2.) The income may be taxed at a rate as high as 20%, depending on the taxpayer's marginal rate.

Which of the following characteristics of a wash sale are CORRECT? (check all that apply)

1.) The loss generated by a wash sale is NOT deductible. 2.) The unrecognized loss is added to the basis of the newly acquired stock.

Assets such as works of art, antiques, stamps and coins held for more than one year are referred to as _ . The maximum capital gains tax rate applied to the gain on the sale of these assets is _ percent.

1.) collectibles 2.) 28%

Taxpayers must _ (include/exclude) gains but (include/exclude) _ losses on the disposal of personal use assets from gross income.

1.) include 2.) exclude

When taxpayers borrow money to acquire investments, the interest expense they pay on the loan is _ _ expense and the deduction is limited to the taxpayer's _ _ income for the year.

1.) investment interest 2.) net investment

The net investment income tax is imposed on the _ of (a) net investment income or (b) the excess of _ AGI over a specific level depending on filing status.

1.) lesser 2.) modified

Passive activity losses may only offset _ income, but NOT active or _ income.

1.) passive 2.) portfolio

A taxpayer's income or loss for the year is classified into one of three categories: _ (may have more than one word) income/loss, _ income/loss, and _ (may have more than one word) income/loss.

1.) passive activity 2.) portfolio 3.) active business

Regarding portfolio investments, _ dividends generally are taxed at capital gains rates and _ dividends are taxed at ordinary rates.

1.) qualified 2.) nonqualified

Section 1202 provides that owners of qualified small business stock that is sold during 2019 and has been held for at least five years can exclude up to _ percent of the gain from taxation depending on the acquisition date.

100%

Annette is currently in the 24% marginal tax bracket. She had a long-term capital gain from the sale of stock and another capital gain from a coin collection. Assuming that the combined gains are not large enough to push her into a higher marginal bracket, she will be taxed _% on the gain from the sale of stock and _% on the gain from the coin collection.

15% 24% (because 24 is less than 28)

True or false: Interest income is generally taxed at lower capital gains rates.

False Rationale: Interest income is taxed at ordinary rates, while dividend income is generally taxed at capital gains rates.

True or false: All net capital gains are included in the definition of net investment income.

False Rationale: Net investment income only includes net short-term capital gains and non-qualified dividends. It does not include capital gains or qualified dividends taxed at a preferential rate unless taxpayers elect to include them.

True or false: Short-term capital gains are subject to preferential tax treatment when the capital gains rates are lower than the taxpayer's marginal income tax rate

False Rationale: Short-term capital gains are taxed as ordinary income. Long-term capital gains may receive preferential tax rates.

Holly has worked for Ford Motor Company for several years. Each year, she purchases 50-100 shares of the company's stock for her investment portfolio. During the current year, Holly sold 25% of her stock to purchase a new home. She hasn't maintained records to track the basis of the shares as she purchases them for her stock portfolio. What method should she use to calculate her tax basis?

First-in, first-out method Rationale: FIFO is the default method for determining the basis of the shares of stock they sell.

If a taxpayer has a long-term capital loss in the 15% category, how is it used to offset capital gains in the other rate categories?

The loss will first offset gains in the 28% category, then the 25% category; then the taxpayer may use it to offset short-term capital gains.

Which of the following statements is true when considering the deductibility of a suspended passive loss?

The suspended loss may be deducted when a taxpayer generates passive income from that activity or another passive activity.

In order for a taxpayer to be able to deduct the loss on a business activity that he is involved in, which of the following must be true?

The taxpayer must materially participate in the business.

U.S. _ _ do NOT pay periodic interest payments, but the interest accumulates over the term of the bond.

Treasury/savings bonds

True or false: A suspended loss on a passive activity can be used to offset active and portfolio income in the year the taxpayer sells or divests of the activity.

True Rationale: All suspended losses from prior years for an activity can be deducted against all types of income in the year that the passive activity is terminated.

True or false: Capital losses retain their character as short-term or long-term when they are carried forward to subsequent years.

True Rationale: If the loss is a short-term loss, it will NOT become a long-term loss when it is carried forward even though it was not deducted in the year the loss was incurred.

True or false: Net passive income is included with net investment income and, therefore, may be subject to the 3.8% additional tax on net investment income.

True Rationale: Net passive income is considered to be investment income. Consequently, it may be assessed the additional tax

What type of gain is taxed at a maximum long-term capital gains rate of 25%?

Unrecaptured Section 1250 gain from the sale of business property

Which of the following statements is CORRECT regarding the sale of qualified small business stock (Sec. 1202 stock)?

Up to 100% of the gain could be excluded depending on the acquisition date.

When can a taxpayer use the specific identification method for determining the tax basis of stock being sold rather than the FIFO method?

When the taxpayer has maintained sufficient records to document which batch of stock is being sold

Taxpayers can completely offset _ _ with capital losses. If there remains an excess capital loss, taxpayers can deduct up to $ _ per year against ordinary income. The loss exceeding that amount is carried forward indefinitely.

capital gain and 3000