Chapter 07 Individual Income Tax Computation and Tax Credits True / False Questions Both the width (or range) of the tax brackets (the amount of income taxed at a particular rate) in the tax rate schedules and the range of the tax rates in the tax rate schedules (the difference between the lowest tax rate and the highest tax rate) vary by filing status True False The tax rate schedules are set up to tax lower levels of income at higher tax rates than higher levels of income True False Tax rate schedules are provided for use by (relatively) higher income taxpayers while the tax tables are provided for use by (relatively) lower income taxpayers True False If a married couple has one primary breadwinner, filing a joint return will likely result in a marriage penalty True False If both spouses of a married couple earn roughly equivalent wages, the couple is likely to pay a marriage penalty due to the nature of the tax rate schedules True False A marriage penalty occurs when a couple pays more taxes by filing a joint tax return than they would have paid had they filed married filing separate returns True False All capital gains are taxed at preferential rates True False Long-term capital gains, dividends, and taxable interest income are all taxed at preferential rates True False 7-1 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education Generally, income from an active trade or business is subject to the 3.8% Net Investment Income tax True False 10 In certain circumstances a child with very little income may have their income taxed at the parents' marginal tax rate True False 11 The kiddie tax does not apply to children over 24 years old at the end of the tax year True False 12 The alternative minimum tax system requires taxpayers to apply an alternative tax rate on the regular income tax base to determine the amount of the alternative minimum tax True False 13 Regular taxable income is the starting point for determining the alternative minimum tax True False 14 The alternative minimum tax is the AMT base multiplied by the AMT rate True False 15 Long-term capital gains are taxed at the stated AMT rate for purposes of the alternative minimum tax True False 16 Taxpayers are not allowed to deduct personal or dependency exemptions for alternative minimum tax purposes True False 17 For alternative minimum tax purposes, taxpayers are required to add back the regular tax standard deduction amount for their filing status whether or not they itemized deductions for regular tax purposes True False 18 For alternative minimum tax purposes, taxpayers are allowed to deduct state income taxes but are not allowed to deduct charitable contributions True False 19 The AMT exemption amount is phased-out for high income taxpayers True False 7-2 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 20 All else equal, a reduction in regular income tax rates would require more taxpayers to pay the alternative minimum tax True False 21 Due to the alternative minimum tax rate structure, timing tax planning strategies are not effective under the alternative minimum tax system True False 22 Employees must pay both Social Security tax and Medicare tax on all of their wages no matter the amount of their wages True False 23 For married couples, the Social Security wage base limitation applies separately to each spouse True False 24 For married couples, the Medicare tax is based on the couple's combined wages True False 25 Alton reported net income from his sole proprietorship of $90,000 To determine his self employment tax, he would multiply $90,000 by the self-employment tax rate True False 26 Employee status is always better than independent contractor status for a taxpayer because the employee is responsible for paying the employee portion of the FICA taxes True False 27 Self-employed taxpayers are allowed to deduct the full amount of the selfemployment taxes they pay True False 28 Employees are not allowed to deduct FICA taxes they pay True False 29 Employees are allowed to deduct a portion of the FICA taxes they pay True False 30 Katlyn reported $300 of net income from her sole proprietorship She is not required to pay self-employment tax True False 7-3 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 31 All else equal, taxpayers are more likely to be classified as employees rather than independent contractors if they are allowed to determine their own working hours and work without frequent oversight True False 32 Tax credits reduce a taxpayer's taxable income dollar for dollar True False 33 The child tax credit is subject to phase-out based on the taxpayer's AGI True False 34 Parents may claim a child tax credit for a dependent child who is 22 years of age at the end of the year if the child is a full-time student True False 35 Parents may claim a child and dependent care credit for expenses incurred in providing for their dependents while the parents work as long as the children are over age 14 and under age 20 at year end True False 36 John and Sally pay Janet (Sally's older sister) to watch John and Sally's child Dexter during the day Janet cares for Dexter in her home John and Sally may claim a child and dependent care credit based on the amount they pay Janet to care for Dexter True False 37 The child and dependent care credit entitles qualifying taxpayers to a credit equal to the full amount of qualified expenses True False 38 The American opportunity credit is available only for those students who are in their first or second year of postsecondary education True False 39 The lifetime learning credit can be used toward the cost of any course of instruction to acquire or improve a taxpayer's job skills, no matter the age of the taxpayer True False 40 The American opportunity credit and lifetime learning credit are available to all taxpayers regardless of their income level True False 41 The earned income credit is sometimes referred to as a negative income tax True False 7-4 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 42 To qualify for the earned income credit, the taxpayer must have a qualified dependent True False 43 An 80-year-old taxpayer with earned income and no dependent children could qualify for the earned income credit True False 44 Business credits are generally refundable credits True False 45 Taxpayers are generally allowed to carry back and/or carry forward unused business credits True False 46 When applying credits against a taxpayer's gross tax liability, nonrefundable personal credits are applied first, then business credits, and finally refundable personal credits True False 47 An individual could pay 100% of her tax liability by the due date of her tax return and still be subject to underpayment tax penalties True False 48 Depending on the year, the original (unextended) due date for an individual's tax return may be after April 15 True False 49 Depending on the year, the original (unextended) due date for an individual's tax return may be before April 15 True False 50 Individuals may file for and receive a six-month extension of time to file their tax return and pay their taxes without penalty True False 51 The late payment penalty is based on the amount of tax owed and the number of days that the tax is not paid The maximum amount of the penalty is unlimited True False Multiple Choice Questions 7-5 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 52 Which of the following is not a taxpayer filing status for purposes of determining the appropriate tax rate schedule? A Head of Household B Qualifying Widow or Widower C Married Filing Separately D Singl e E All of these are taxpayer filing statuses 53 The taxable income levels in the married filing jointly tax rate schedule are _ those in the married filing separately schedule A the same as B doubl e C half the amount of D None of these 54 Linda is a qualifying widow in 2014 In 2014, she reported $75,000 of taxable income (all ordinary) What is her gross tax liability using the tax rate schedules? A $10,46 B $14,60 C $14,67 D $13,16 7-6 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 55 Miley, a single taxpayer, plans on reporting $27,900 of taxable income this year (all of her income is from a part-time job) She is considering applying for a second parttime job that would give her an additional $10,000 of taxable income By how much will the income from the second job increase her tax liability (use the tax rate schedules)? A $1,00 B $1,50 C $1,60 D $2,50 56 Tamra and Jacob are married and they file a joint tax return Tamra received nearly five times the salary that Jacob received Which of the following statements is true? A Tamra and Jacob likely pay no tax marriage penalty nor receive a tax marriage benefit B Tamra and Jacob likely pay a tax marriage penalty C Tamra and Jacob likely receive a tax marriage benefit D Tamra and Jacob likely will pay a tax marriage penalty and receive a tax marriage benefit 57 Stephanie and Mitch are married and they file a joint tax return Mitch received a slightly higher salary than Stephanie did during the year Which of the following statements is true? A Stephanie and Mitch likely pay no tax marriage penalty nor receive a tax marriage benefit B Stephanie and Mitch likely pay a tax marriage penalty C Stephanie and Mitch likely receive a tax marriage benefit D Stephanie and Mitch likely will pay a tax marriage penalty and receive a tax marriage benefit 7-7 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 58 Harrison received a qualified dividend Without knowing any additional facts, which of the following statements is true regarding the rate at which the dividend will be taxed to Harrison? A The dividend will be taxed at a 15% tax rate B The dividend will be taxed at a 20% tax rate C The entire dividend will be taxed at either 15% or the entire dividend will be taxed at 20% depending on Harrison's marginal ordinary income tax rate D None of these 59 Jamie is single In 2014, she reported $100,000 of taxable income, including a longterm capital gain of $5,000 What is her gross tax liability, rounded to the nearest whole dollar amount (use the tax rate schedules)? A $22,57 B $21,17 C $20,52 D $15,00 60 Angelena files as a head of household In 2014, she reported $50,000 of taxable income, including a $10,000 qualified dividend What is her gross tax liability, rounded to the nearest whole dollar amount (use the tax rate schedules)? A $5,35 B $5,44 C $7,50 D $6,91 7-8 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 61 Allen Green is a single taxpayer with an AGI (and modified AGI) of $210,000, which includes $170,000 of salary, $25,000 of interest income, $10,000 of dividends, and $5,000 of long-term capital gains What is Allen's Net Investment Income tax liability this year, rounded to the nearest whole dollar amount? A $2,46 B $1,52 C $57 D $38 62 Which of the following is not a barrier to income shifting among family members? A The assignment of income doctrine B Net unearned income for children 18 and younger taxed at parents' marginal tax rates C Elimination of preferential tax rates (on dividends and long-term capital gains) for dependents D Two of these 63 The Olympians have three children The kiddie tax applies to unearned income received by which of the following children? A Poseidon is a 20-year-old full-time student who does not support himself B Demeter, a 23-year-old full-time student who supports herself with a job at a grocery store C Zeus is 20 years old and not a student D Two of these E None of these 7-9 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 64 Assuming the kiddie tax applies, what amount of a child's income is subject to the kiddie tax? A All of it B All of the unearned income C The net unearned income D Taxable income less the standard deduction 65 During 2014, Montoya (age 15) received $2,200 from a corporate bond He also received $600 from a savings account established for him by his parents Montoya lives with his parents and he is their dependent What is Montoya's taxable income? A $ B $2,20 C $2,80 D $1,80 66 During 2014, Jasmine (age 12) received $2,400 from a corporate bond She also received $600 from a savings account established for her by her parents Jasmine lives with her parents and she is their dependent Assuming her parents' marginal tax rate is 28%, what is Jasmine's gross tax liability? A $ B $10 C $28 D $38 7-10 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education tax considerations relating to whether a taxpayer is considered to be an employee or a self-employed independent contractor Level of Difficulty: Medium Topic: Employment and self-employment taxes 143 Lexa worked as an employee during the first half of the year earning $65,000 of salary Lexa's employer withheld $4,030 of Social Security tax and $943 of Medicare tax In the second half of the year, she was self-employed and she reported $180,000 of self-employment income on her Schedule C What amount of self-employment taxes is Lexa required to pay? $11,549 Feedback: Answer computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-03 Calculate a taxpayer's employment and self-employment taxes payable and explain tax considerations relating to whether a taxpayer is considered to be an employee or a self-employed independent contractor Level of Difficulty: Hard Topic: Employment and self-employment taxes 144 Atlas earned $17,300 from his sole proprietorship in 2014 This was his only source of income How much in self-employment taxes will Atlas be able to deduct? $1,222 Feedback: Answer computed as follows: $17,300 × 92.35% × 7.65% AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-03 Calculate a taxpayer's employment and self-employment taxes payable and explain tax considerations relating to whether a taxpayer is considered to be an employee or a self-employed 7-102 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education independent contractor Level of Difficulty: Easy Topic: Employment and self-employment taxes 145 Demeter is a single taxpayer Her AGI in 2014 is $81,200 Demeter may claim a child tax credit for her daughter Persephone What amount of child tax credit is Demeter entitled to claim after any applicable phase-out? $650 Feedback: $1,000 - 350 phase-out (see below) Phase-out is $350, computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-04 Describe the different general types of tax credits; identify specific tax credits; and compute a taxpayer's allowable child tax credit; child and dependent care credit; American opportunity credit; lifetime learning credit; and earned income credit Level of Difficulty: Medium Topic: Tax credits 7-103 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 146 Jack paid $5,000 in daycare expenses for his five-year-old daughter so he could work His AGI for the year was $37,500 (all earned income) What is the amount of his child and dependent care credit? $690 Feedback: Answer computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-04 Describe the different general types of tax credits; identify specific tax credits; and compute a taxpayer's allowable child tax credit; child and dependent care credit; American opportunity credit; lifetime learning credit; and earned income credit Level of Difficulty: Easy Topic: Tax credits 7-104 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 147 Wolfina's twins, Romulus and Remus, finished their first year of school at an accredited university in 2014 She paid $10,000 in qualified educational expenses for Romulus and $2,000 of qualifying expenses for Remus Wolfina is a head of household with an AGI of $85,000 What amount of American opportunity credit may she claim? $2,250 Feedback: Answers computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-04 Describe the different general types of tax credits; identify specific tax credits; and compute a taxpayer's allowable child tax credit; child and dependent care credit; American opportunity credit; lifetime learning credit; and earned income credit Level of Difficulty: Hard Topic: Tax credits 7-105 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 148 Akiko and Hitachi (married filing jointly for 2014) are both educators They attended a conference to further their job-related skills Tuition for the conference was $2,000 for each person Their AGI was $114,000 How much lifetime learning credit can they claim? $560 Feedback: Answer computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-04 Describe the different general types of tax credits; identify specific tax credits; and compute a taxpayer's allowable child tax credit; child and dependent care credit; American opportunity credit; lifetime learning credit; and earned income credit Level of Difficulty: Medium Topic: Tax credits 7-106 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 149 Julien and Sarah are married, file a joint return, and have two children, Kaya and Christopher Kaya just finished her third year at college and Christopher just finished his first year of graduate school (fifth year of college) Tuition and books for the past year were $1,800 for Kaya and $5,000 for Christopher How much can Julien and Sarah claim in educational credits if their joint AGI was $120,000 for 2014? $2,200 Feedback: Answer computed as follows: AACSB: Analytic AACSB: Reflective Thinking AICPA: BB Critical Thinking Blooms: Analyze Blooms: Remember Learning Objective: 07-04 Describe the different general types of tax credits; identify specific tax credits; and compute a taxpayer's allowable child tax credit; child and dependent care credit; American opportunity credit; lifetime learning credit; and earned income credit Level of Difficulty: Hard Topic: Tax credits 7-107 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 150 Sam is 30 years old In 2014, he reported an AGI of $12,000, all from his job as a server at the local café He is single and has no dependents What amount of earned income credit may he claim in 2014? $198 Feedback: Answer computed as follows: AACSB: Analytic AACSB: Reflective Thinking AICPA: BB Critical Thinking Blooms: Analyze Blooms: Remember Learning Objective: 07-04 Describe the different general types of tax credits; identify specific tax credits; and compute a taxpayer's allowable child tax credit; child and dependent care credit; American opportunity credit; lifetime learning credit; and earned income credit Level of Difficulty: Medium Topic: Tax credits 7-108 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 151 In 2014, John (52 years old) files as a head of household with one 18-year old dependent (qualifying) child John is eligible to claim a $700 American opportunity credit for the year John did not have any taxes withheld by his employer during the year and he did not make any estimated tax payments After taking credits into account, what is the amount of John's taxes payable or refund assuming that his AGI is $26,000 (all from salary) and his taxable income is $9,000? Refund of $1,799 Feedback: Answer computed as follows: Earned income credit computation AACSB: Analytic AACSB: Reflective Thinking AICPA: BB Critical Thinking Blooms: Analyze Blooms: Remember Learning Objective: 07-04 Describe the different general types of tax credits; identify specific tax credits; and compute a taxpayer's allowable child tax credit; child and dependent care credit; American opportunity credit; lifetime learning credit; and earned income credit Level of Difficulty: Hard Topic: Tax credits 7-109 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 152 Clarissa's gross tax liability for 2014 is $1,300 She has a $1,500 nonrefundable personal tax credit, a $750 business tax credit, and a $400 refundable personal tax credit Her employer withheld $1,000 from her pay for taxes What is her net tax due or refund for this year? Refund of $1,400 Feedback: Answer computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-04 Describe the different general types of tax credits; identify specific tax credits; and compute a taxpayer's allowable child tax credit; child and dependent care credit; American opportunity credit; lifetime learning credit; and earned income credit Level of Difficulty: Medium Topic: Tax credits 7-110 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 153 In 2014, Shawn's AGI is $170,000 He earned the income evenly throughout the year He owed $24,900 in federal income tax plus alternative minimum tax of $263, and self-employment taxes of $2,590 Last year, he had a gross tax liability of $50,000 What is the minimum quarterly estimated tax payment Shawn must pay each quarter to avoid underpayment penalties for 2014? $6,245 Feedback: Answer computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-05 Explain taxpayer filing and tax payment requirements and describe in general terms how to compute a taxpayer's underpayment; late filing; and late payment penalties Level of Difficulty: Medium Topic: Taxpayer prepayments and filing requirements 7-111 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 154 Johann had a gross tax liability of $22,508 in 2014, but his employer only withheld taxes of $19,500 Johann's gross tax liability was $21,000 in 2013 Calculate Johann's under/overpayment in each quarter for 2014 tax purposes Underwitheld by $189, $379, $568, and $757 in the st, 2nd, 3rd, and 4th quarters, respectively Feedback: Answer computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-05 Explain taxpayer filing and tax payment requirements and describe in general terms how to compute a taxpayer's underpayment; late filing; and late payment penalties Level of Difficulty: Medium Topic: Taxpayer prepayments and filing requirements 7-112 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 155 Assume Georgianne underpaid her estimated tax liability by $150 in the first quarter, $500 in the second quarter, $400 in the third quarter, and $200 in the fourth quarter Calculate her underpayment penalty for the year, assuming the federal short-term interest rate is five percent $25 ($3 + $10 + $8 + $4) Feedback: Answer computed as follows: AACSB: Analytic AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-05 Explain taxpayer filing and tax payment requirements and describe in general terms how to compute a taxpayer's underpayment; late filing; and late payment penalties Level of Difficulty: Medium Topic: Taxpayer prepayments and filing requirements 156 Keith and Nicole are married filing joint with two daughters who qualify as dependents Their gross income for 2014 is $21,000 Are they required to file a tax return? How you know this without memorizing the gross income thresholds? In 2014, the standard deduction for taxpayers filing a joint return is $12,400 and the personal exemption is $3,950 Yes, Keith and Nicole are required to file Feedback: This is apparent knowing only the standard deduction and personal exemption amounts Their gross income of $21,000 is greater than the standard deduction for married filing a joint return ($12,400) and two personal exemptions ($3,950 × 2)—the sum of these ($20,300) is the threshold The fact that they have two children does not affect the gross income threshold amount AACSB: Reflective Thinking AICPA: BB Critical Thinking Blooms: Remember Learning Objective: 07-05 Explain taxpayer filing and tax payment requirements and describe in general terms how to compute a taxpayer's underpayment; late filing; and late payment penalties Level of Difficulty: Medium Topic: Taxpayer prepayments and filing requirements 7-113 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 7-114 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education 157 During all of 2014, Mr and Mrs Clay lived with their four children (all are under the age of 17) They provided over one-half of the support for each child Mr and Mrs Clay file jointly for 2014 Neither is blind, and both are under age 65 They reported the following tax-related information for the year A What is the Clays' taxes payable or (refund due) (ignore the alternative minimum tax)? B What is the Clays' tentative minimum tax and alternative minimum tax? A Tax refund is $1,687 Feedback: Answer computed as follows: Child tax credit phase-out is $250, computed as follows: 7-115 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education B A Tentative minimum tax is $4,524; AMT is $0 (regular tax liability > tentative minimum tax liability) Feedback: Answer computed as follows: AACSB: Analytic AACSB: Reflective Thinking AICPA: BB Critical Thinking Blooms: Analyze Learning Objective: 07-05 Explain taxpayer filing and tax payment requirements and describe in general terms how to compute a taxpayer's underpayment; late filing; and late payment penalties Level of Difficulty: Hard Topic: Taxpayer prepayments and filing requirements 7-116 Copyright © 2015 McGraw-Hill Education All rights reserved No reproduction or distribution without the prior written consent of McGraw-Hill Education ... written consent of McGraw-Hill Education 109 Which of the following tax credits is fully refundable? A American opportunity credit B Dependent care credit C Earned income credit D None of these... an AGI (and modified AGI) of $290,000, which includes $90,000 of salary, $170,000 of active business income, $10,000 of interest income, $15,000 of dividends, and $5,000 of long-term capital... prior written consent of McGraw-Hill Education 86 The wage base for which of the following taxes is capped? A Federal income B Social Security C Medicar e D Alternative minimum 87 Which of the following