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South-Western Federal Taxation 2014 chapter 7




Question;Ch07 DISCUSSION QUESTIONS1. LO.1 Explain how an account receivable can give rise to a bad debt deduction.2. LO.1 Ron, a cash basis taxpayer, sells his business accounts receivable of $100,000 toMike for $70,000 (70% of the actual accounts receivable). Discuss the amount and classification of Ron?s bad debt deduction.3. LO.1 Discuss when a bad debt deduction can be taken for a nonbusiness debt.4. LO.1 During the past tax year, Jane identified $50,000 as a nonbusiness bad debt. In that tax year, Jane had $100,000 of taxable income, of which $5,000 consisted of shortterm capital gains. During the current tax year, Jane collected $10,000 of the amount she had previously identified as a bad debt. Discuss Jane?s tax treatment of the $10,000 received in the current tax year.5. LO.1 Bob owns a collection agency. He purchases uncollected accounts receivable from other businesses at 60% of their face value and then attempts to collect these accounts. During the current year, Bob collected $60,000 on an account with a face value of $80,000. Discuss the amount of Bob?s bad debt deduction.6. LO.1 Discuss the treatment of a business bad debt when the business also has longterm capital gains.7. LO.1 Many years ago, Jack purchased 400 shares of Canary stock. During the current year, the stock became worthless. It was determined that the company ?went under? because several corporate officers embezzled a large amount of company funds. Identify the relevant tax issues for Jack.8. LO.2 Sean is in the business of buying and selling stocks and bonds. He has a bond ofGreen Corporation for which he paid $200,000. The bond is currently worth only $50,000. Discuss whether Sean can take a $150,000 loss for a business bad debt or for a worthless security.9. LO.2 Discuss the tax treatment of the sale of ? 1244 stock at a gain.10. LO.3, 4 Jim discovers that his residence has extensive termite damage. Discuss whether he may take a deduction for the damage to his residence.11. LO.3, 4 The value of Mary?s personal residence has declined significantly because of a recent forest fire in the area where she lives. Mary?s house suffered no actual damage during the fire, but because much of the surrounding area was destroyed, the value of all of the homes in the area declined substantially. Discuss whether Mary can take a casualty loss for the decline in value of her residence caused by the fire.12. LO.4 Discuss at what point in time a theft loss generally is recognized.13. LO.4 Mary?s diamond ring was stolen in 2012. She originally paid $8,000 for the ring, but it was worth considerably more at the time of the theft. Mary filed an insurance claim for the stolen ring, but the claim was denied. Because the insurance claim was denied, Mary took a casualty loss for the stolen ring on her 2012 tax return. In 2012,Mary had AGI of $40,000. In 2013, the insurance company had a ?change of heart? and sent Mary a check for $5,000 for the stolen ring. Discuss the proper tax treatment of the $5,000 Mary received from the insurance company in 2013.14. LO.4 Discuss the measurement rule for the theft of property used in a transaction entered into for profit.15. LO.4 Discuss the tax consequences of not making an insurance claim when insured business use property is subject to a loss.16. LO.4 Discuss the circumstances under which the cost of repairs to the damaged property can be used to measure the amount of a casualty loss.17. LO.4 Discuss the treatment of a loss on rental property under the following facts:Basis $650,000FMV before the loss 800,000FMV after the loss 200,00018. LO.4 Hazel sustained a loss on the theft of a painting. She had paid $20,000 for the painting, but it was worth $40,000 at the time of the theft. Evaluate the tax consequences of treating the painting as investment property or as personal use property.19. LO.4 Discuss the tax treatment when personal casualty gains exceed personal casualty losses.20. LO.4 Kelly decided to invest in Lime, Inc. common stock after reviewing Lime?s public disclosures, including recent financial statements and a number of press releases issued by Lime. On August 7, 2011, Kelly purchased 60,000 shares of Lime for $210,000. InMay 2012, Lime entered into a joint venture with Cherry, Inc. In November 2012, the joint venture failed, and Lime?s stock began to decline in value. In December 2012,Cherry filed a lawsuit against Lime for theft of corporate opportunity and breach of fiduciary responsibility. In February 2013, Lime filed a countersuit against Cherry for fraud and misappropriation of funds. At the end of December 2013, Kelly?s stock inLime was worth $15,000. Identify the relevant tax issues for Kelly.21. LO.3, 4 In 2010, John opened an investment account with Randy Hansen, who held himself out to the public as an investment adviser and securities broker. John contributed $200,000 to the account in 2010. John provided Randy with a power of attorney to use the $200,000 to purchase and sell securities on John?s behalf. John instructedRandy to reinvest any gains and income earned. In 2010, 2011, and 2012, John received statements of the amount of income earned by his account and included these amounts in his gross income for these years. In 2013, it was discovered that Randy?s purported investment advisory and brokerage activity was in fact a fraudulent investment arrangement known as a Ponzi scheme. In reality, John?s account balance was zero, the money having been used by Randy in his scheme. Identify the relevant tax issues for John.22. LO.5 Discuss the tax treatment of capitalized research and experimental expenditures.23. LO.5 Discuss under what circumstances a company would elect to amortize research and experimental expenditures rather than use the expense method.24. LO.6 Amos began a business, Silver, Inc., on July 1, 2010. The business extracts and processes silver ore. During 2013, Amos becomes aware of the domestic production activities deduction (DPAD) and would like to take advantage of this deduction. Identify the relevant tax issues for Silver, Inc.25. LO.6 The DPAD is unlike other deductions and is designed to provide a tax benefit in a somewhat unique manner. Explain this statement.26. LO.6 Discuss the impact of an NOL on the DPAD.27. LO.7 Discuss whether deductions for AGI can be treated as nonbusiness deductions in computing an individual?s NOL.28. LO.1 Several years ago, John Johnson, who is in the lending business, loaned Sara $30,000 to purchase an automobile to be used for personal purposes. In August of the current year, Sara filed for bankruptcy, and John was notified that he could not expect to receive more than $4,000. As of the end of the current year, John has received $1,000. John has contacted you about the possibility of taking a bad debt deduction for the current year.Write a letter to John that contains your advice as to whether he can claim a bad debt deduction for the current year. Also prepare a memo for the tax files. John?s address is100 Tyler Lane, Erie, PA 16563.29. LO.1 Monty loaned his friend Ned $20,000 three years ago. Ned signed a note and made payments on the loan. Last year, when the remaining balance was $11,000, Ned filed for bankruptcy and notified Monty that he would be unable to pay the balance on the loan. Monty treated the $11,000 as a nonbusiness bad debt. Last year, Monty had capital gains of $4,000 and taxable income of $20,000. During the current year, Ned paid Monty $10,000 in satisfaction of the debt. Determine Monty?s tax treatment for the $10,000 received in the current year.30. LO.1 Sally is in the business of purchasing accounts receivable. Last year, Sally purchased an account receivable with a face value of $80,000 for $60,000. During the current year, Sally settled the account, receiving $65,000. Determine the maximum amount of the bad debt deduction for Sally for the current year.31. LO.1, 2 Mable and Jack file a joint return. For the current year, they had the following items:Salaries $120,000Loss on sale of ? 1244 stock acquired two years ago 105,000Gain on sale of ? 1244 stock acquired six months ago 20,000Nonbusiness bad debt 19,000Determine their AGI for the current year.32. LO.2, 8 Mary, a single taxpayer, purchased 10,000 shares of ? 1244 stock several years ago at a cost of $20 per share. In November of the current year, Mary received an offer to sell the stock for $12 per share. She has the option of either selling all of the stock now or selling half of the stock now and half of the stock in January of next year. Mary will receive a salary of $80,000 for the current year and $90,000 next year. Mary will have long-term capital gains of $8,000 for the current year and $10,000 next year. If Mary?s goal is to minimize her AGI for the two years, determine whether she should sell all of her stock this year or half of her stock this year and half next year.33. LO.4 During 2013, someone broke into Jacob?s personal residence and took the following items:AssetAdjustedBasis FMV before FMV afterInsuranceRecoveryBusiness computer $12,000 $10,000 $?0? $ 7,000Bearer bonds 30,000 25,000 ?0? ?0?Silverware 7,000 20,000 ?0? 18,000Cash 8,000 8,000 ?0? ?0?Jacob is an employee and used the computer 100% of the time in his employment.Although his homeowner?s insurance policy paid Jacob $7,000 for the stolen computer,Jacob?s employer did not reimburse Jacob for any of the remainder of his loss. Jacob?sAGI for the year, before considering any of the above items, is $50,000. Determine the total deduction for the stolen items on Jacob?s 2013 tax return.34. LO.3, 4, 8 Olaf lives in the state of Minnesota. A tornado hit the area and damaged his home and automobile. Applicable information is as follows:ItemAdjustedBasis FMV before FMV afterInsuranceProceedsHome $350,000 $500,000 $100,000 $280,000Auto 60,000 40,000 10,000 20,000Because of the extensive damage caused by the tornado, the President designated the area a disaster area.Olaf and his wife, Anna, always file a joint return. Their return for last year showsAGI of $180,000 and taxable income of $140,000. For the current year, their return shows AGI of $300,000 and taxable income (exclusive of the casualty loss deduction) of $215,000.Determine the amount of Olaf and Anna?s loss and the year in which they should take the loss.35. LO.3, 4 Heather owns a two-story building. The building is used 40% for business use and 60% for personal use. During 2013, a fire caused major damage to the building and its contents. Heather purchased the building for $800,000 and has taken depreciation of $100,000 on the business portion. At the time of the fire, the building had a fair market value of $900,000. Immediately after the fire, the fair market value was $200,000. The insurance recovery on the building was $600,000. The contents of the building were insured for any loss at fair market value. The business assets had an adjusted basis of $220,000 and a fair market value of $175,000. These assets were totally destroyed. The personal use assets had an adjusted basis of $50,000 and a fair market value of $65,000.These assets were also totally destroyed. If Heather?s AGI is $100,000 before considering the effects of the fire, determine her itemized deduction as a result of the fire. Also determine Heather?s AGI.36. LO.3, 4 On July 24 of the current year, Sam Smith was involved in an accident with his business use automobile. Sam had purchased the car for $30,000. The automobile had a fair market value of $20,000 before the accident and $8,000 immediately after the accident.Sam has taken $20,000 of depreciation on the car. The car is insured for the fair market value of any loss. Because of Sam?s history, he is afraid that if he submits a claim, his policy will be canceled. Therefore, he is considering not filing a claim. Sam believes that the tax loss deduction will help mitigate the loss of the insurance reimbursement.Sam?s current marginal tax rate is 35%.Write a letter to Sam that contains your advice with respect to the tax and cash-flow consequences of filing versus not filing a claim for the insurance reimbursement for the damage to his car. Also prepare a memo for the tax files. Sam?s address is 450 Colonel?sWay, Warrensburg, MO 64093.37. LO.5 Blue Corporation, a manufacturing company, decided to develop a new line of merchandise. The project began in 2013. Blue had the following expenses in connection with the project:2013 2014Salaries $500,000 $600,000Materials 90,000 70,000Insurance 8,000 11,000Utilities 6,000 8,000Cost of inspection of materials for quality control 7,000 6,000Promotion expenses 11,000 18,000Advertising ?0? 20,000Equipment depreciation 15,000 14,000Cost of market survey 8,000 ?0?The new product will be introduced for sale beginning in July 2015. Determine the amount of the deduction for research and experimental expenditures for 2013, 2014, and 2015 if:a. Blue Corporation elects to expense the research and experimental expenditures.b. Blue Corporation elects to amortize the research and experimental expenditures over 60 months.38. LO.6 Sarah Ham, operating as a sole proprietor, manufactures printers in the UnitedStates. For 2013, the proprietorship has QPAI of $400,000. Sarah?s modified AGI was $350,000. The W?2 wages paid by the proprietorship to employees engaged in the qualified domestic production activity were $60,000. Calculate Sarah?s DPAD for 2013.39. LO.6 Barbara, a calendar year taxpayer, owns and operates a company that manufactures toys. For 2013, she has modified AGI of $500,000 and QPAI of $550,000. Ignoring the W?2 wage limitation, calculate Barbara?s DPAD.40. LO.6 Red Corporation manufactures hand tools in the United States. For the current year, the QPAI derived from the manufacture of hand tools was $1 million. Red?s taxable income for the current year was $2.0 million. Last year, Red had an NOL of $800,000, which Red elected to carry forward. Calculate Red?s DPAD for the current year.41. LO.6 Green Corporation manufactures skirts and blouses in the United States. TheDPGR derived from the manufacture of one skirt is $12, and the DPGR from one blouse is $10. The cost of goods sold is $5 for one skirt and $6 for one blouse. Other allocated costs are $1 for one skirt and $5 for one blouse. What amount of QPAI is available toGreen for calculating the DPAD?42. LO.6 In 2013, Rose, Inc., has QPAI of $4 million and taxable income of $3 million. Rose pays independent contractors $500,000. Rose?s W?2 wages are $600,000, but only $400,000 of the wages are paid to employees engaged in qualified domestic production activities.a. Calculate the DPAD for Rose, Inc., for 2013.b. What suggestions could you make to enable Rose to increase its DPAD?43. LO.1, 3 Nell, single and age 38, had the following income and expense items in 2013:Nonbusiness bad debt $ 6,000Business bad debt 2,000Nonbusiness long-term capital gain 4,000Nonbusiness short-term capital loss 3,000Salary 50,000Interest income 3,000Determine Nell?s AGI for 2013.44. LO.1, 4 Assume that in addition to the information in Problem 43, Nell had the following items in 2013:Personal casualty gain on an asset held for four months $10,000Personal casualty loss on an asset held for two years 1,000Determine Nell?s AGI for 2013.


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