Apple Corporation has never been audited before the current year. An audit is now needed from a CPA because the company is expanding rapidly and plans to issue stock to the public in a secondary offering. A CPA firm has been doing preliminary evaluations of the Apple Corporation’s accounts and records. One major problem involves the valuation of inventory under GAAP. Apple Corporation has been valuing its inventory under the cost method and no write-downs have been made for obsolescence. A review of the inventory indicates that obsolescence and excess spare parts in the inventory are two major problems. The CPA states that for GAAP the company will be required to write down its inventory by 25% of its stated amount, or $100,000, and charge this amount against net income from operations for the current period. Otherwise, a “clean opinion” will not be rendered. The company controller asks your advice regarding the tax consequences from the obsolescence and spare parts inventory write-downs for the current year and the procedures for changing to the LCM method for tax purposes. Apple Corporation is on a calendar year, and the date of your contact with the company is December 1 of the current year. A partial list of research sources is: • Secs. 446 and 471 • Reg. Secs. 1.446-1(e)(3), 1.471-2 and 1.471-4 • American Liberty Pipe Line Co. v. CIR, 32 AFTR 1099, 44-2 USTC ¶9408 (5th Cir., 1944) • Thor Power Tool Co. v. CIR, 43 AFTR 2d 79-362,79-1 USTC ¶9139 (USSC, 1979)
> Mr. and Mrs. Snell own and live in a house, with an adjusted basis of $300,000, that was purchased in 1994. The house is destroyed by a tornado on March 10 of the current year, and the Snells receive insurance proceeds of $410,000. They purchase another
> Twelve years ago, Marilyn purchased two lots in an undeveloped subdivision as an investment. Each lot has a $10,000 basis and a $40,000 FMV when the city condemns one lot for use as a municipal sewage treatment plant. As a result of the condemnation, Mar
> On September 3, 2017, Federal Corporation’s warehouse is totally destroyed by fire. $800,000 of insurance proceeds are received, and the realized gain is $300,000. Whenever possible, Federal elects to defer gains. For each of the following independent si
> On April 27, 2017, an office building owned by the Ava James Corporation, an offshore drilling company that is a calendar-year taxpayer, is destroyed by a hurricane. The basis of the office building is $600,000, and the corporation receives $840,000 from
> The Madison Corporation paid $3,000 for several acres of land in 1993 to use in its business. The land is condemned and taken by the state in March 2017. The company receives $25,000 from the state. Whenever possible, the corporation elects to minimize t
> Duke Corporation owns an office building with a $400,000 adjusted basis. The building is destroyed by a tornado. The insurance company paid $750,000 as compensation for the loss. Eight months after the loss, Duke uses the insurance proceeds and other fun
> Assume the same facts as in I:12-36 except Cindy sells the duplex to a nonrelated individual more than two years after the exchange with Bob. Ignore any changes in adjusted basis due to depreciation that would have occurred after the exchange. Determine:
> Why do some revenue ruling citations refer to the Internal Revenue Bulletin (I.R.B.) and others to a Cumulative Bulletin (C.B.)?
> Bob owns a duplex used as rental property. The duplex has a basis of $86,000 and $300,000 FMV. He transfers the duplex to Cindy, his sister, in exchange for a triplex that she owns. The triplex has a basis of $279,000 and a $300,000 FMV. Two months after
> Wayne exchanges unimproved land with a $50,000 basis and marketable securities with a $10,000 basis for an eight-unit apartment building having a $150,000 FMV. The land and marketable securities are held by Wayne as investments, and the apartment buildin
> Carol owns land used in her business with a basis of $70,000 and a fair market value of $90,000. She is planning to exchange the land for a warehouse owned by Jeff and used in his business. Jeff’s warehouse has a basis of $50,000 and a fair market value
> Helmut exchanges his apartment complex for Heidi’s farm, and the exchange qualifies as a like-kind exchange. Helmut’s adjusted basis for the apartment complex is $600,000 and the complex is subject to a $180,000 liability. The FMV of Heidi’s farm is $770
> Paul owns a building used in his business with an adjusted basis of $340,000 and a $750,000 FMV. He exchanges the building for a building owned by Kelley. Kelley’s building has a $950,000 FMV but is subject to a $200,000 liability. Paul assumes Kelley’s
> Consider the following information for Mr. and Mrs. Gomez: • On May 26, 2016, they sold their principal residence, acquired in 1999, for $200,000. They paid $8,000 of selling expenses. Their basis in the residence was $70,000. • On July 25, 2016, they
> Which of the following exchanges qualify as like-kind exchanges under Sec. 1031? a. A motel in Texas for a motel in Italy b. An office building held for investment for an airplane to be used in the taxpayer’s business c. Land held for investment for m
> Which of the following exchanges qualify as like-kind exchanges under Sec. 1031? a. Acme Corporation stock held for investment purposes for Mesa Corporation stock also held for investment purposes b. A motel used in a trade or business for an apartment
> Mr. and Mrs. Kitchens purchased their first home in Ohio for $135,000 on October 1, 2016. Because Mr. Kitchens’ employer transferred him to Utah, they sold the house for $160,000 on January 10, 2017. How much of the gain is recognized?
> Jaharta, Inc., owns land used for truck farming and cattle raising. The California Division of Highways condemned 36 acres of Jaharta’s land to build a new highway. Jaharta owned a 50% interest in property being used for apricot, prune, and walnut orchar
> The decisions of which courts are reported in the AFTR? In the USTC?
> Chauvin Oil Corporation operates primarily in the United States and owns an offshore drilling rig with an adjusted basis of $400,000 that it uses near Louisiana. Chauvin exchanges the rig for a new rig with a FMV of $1,000,000, and Chauvin also pays $250
> John owns 25% of the ABC Partnership and Jane owns 25% of the XYZ Partnership. The ABC Partnership owns a farm and produces corn and the XYZ Partnership owns a farm and produces soybeans. John and Jane agree to exchange their partnership interests. What
> What are severance damages? What is the tax treatment for severance damages received if the taxpayer does not use the severance damages to restore the retained property?
> When does a nonsimultaneous exchange qualify as a like-kind exchange?
> Kay owns equipment used in her business and exchanges the equipment for other like-kind equipment and marketable securities. a. Will Kay’s recognized gain ever exceed the realized gain? b. Will Kay’s recognized gain ever exceed the FMV of the marketabl
> Why might a taxpayer want to avoid having an exchange qualify as a like-kind exchange?
> Prior to the Taxpayer Relief Act of 1997, taxpayers could defer a gain on the sale of a principal residence sold before May 7, 1997, if they purchased and occupied a new principal residence within two years before or after the sale and the cost of the ne
> What requirements must be satisfied by an unmarried taxpayer under Sec. 121 to be eligible for the election to exclude a gain up to $250,000 on the sale or exchange of a principal residence?
> The Nelsons purchased a new residence in 1992 for $300,000 from David who owned and used the residence as rental property. When the Nelsons wanted to purchase the property, it was being rented to tenants who had four months remaining on their lease. The
> Steve maintains that the cost of wallpapering his three-bedroom house is a capital expenditure while Martha maintains that the cost of wallpapering her three-bedroom house is an expense. Steve uses his house as his personal residence while Martha’s house
> Does the IRS acquiesce in decisions of U.S. district courts?
> One reason Congress expanded the exclusion of gain on the sale of a principal residence and eliminated the deferral provision was to eliminate the need for many taxpayers to keep records of capital improvements that increase the basis of their residence.
> In what situations may a gain due to an involuntary conversion of real property be deferred if like-kind property is purchased to replace the converted property?
> The functional use test is often used to determine whether the replacement property is similar or related in service or use to the property converted. Explain the functional use test.
> Must property be actually condemned for the conversion of property to be classified as an involuntary conversion? Explain.
> What is the justification for Sec. 1033, which allows a taxpayer to elect to defer a gain resulting from an involuntary conversion? May a taxpayer elect under Sec. 1033 to defer recognition of a loss resulting from an involuntary conversion?
> When must a taxpayer who gives boot recognize a gain or loss?
> Does the receipt of boot in a transaction that otherwise qualifies as a like-kind exchange always cause the exchange to be at least partially taxable?
> Lanny wants to purchase a farm owned by Jane, but Jane does not want to recognize a gain on the transfer of the appreciated property. Explain how a three-party exchange might be used to allow Lanny to obtain the farm without Jane having to recognize a ga
> Burke is anxious to purchase land owned by Kim for use in his trade or business. Kim’s basis for the land is $150,000, and Burke has offered to pay $800,000 if she will sell within the next 10 days. Kim is interested in selling but wants to avoid recogni
> What is personal property of a like class that meets the definition of like-kind?
> Explain whether the following decisions are of the same precedential value: (1) Tax Court regular decisions, (2) Tax Court memo decisions, and (3) decisions under the Small Cases Procedures of the Tax Court.
> When determining whether property qualifies as like-kind property, is the quality or grade of the property considered?
> Demetrius sells word processing equipment used in his business to Edith. He then purchases new word processing equipment from Zip Corporation. a. Do the sale and purchase qualify as a like-kind exchange? b. When may a sale and a subsequent purchase be
> Debbie owns office equipment with a basis of $300,000 and a holding period starting on May 10, 2006. Debbie exchanges the equipment for other office equipment owned by Doug on July 23, 2017. Doug’s equipment has an FMV of $500,000. Both Debbie and Doug u
> Evaluate the following statement: The underlying rationale for the nonrecognition of a gain or loss resulting from a like-kind exchange is that the exchange constitutes a liquidation of the taxpayer’s investment.
> Paden, who is single and has been employed as an accountant for 27 years with Harper, Inc., lost his job due to company downsizing. His last day of employment is July 31, 2017, and Harper provides a $9,000 severance payment. The severance payments are ba
> The Electric Corporation, a publicly held corporation, owns land with a $1,600,000 basis that is being held for investment. The company is considering exchanging the land for two assets owned by the Quail Corporation: land with a FMV of $4,000,000 and ma
> Leon has a substantial portfolio of stocks and bonds as well as cash from some bonds that have recently matured. He has been looking at investing $200,000 in corporate bonds that pay 7% interest. The $14,000 of annual interest would be used to pay his 24
> Linda is selling land she has owned for many years. The land cost $80,000 and will sell for $200,000. The buyer has offered to pay $100,000 down and pay the balance next year plus interest at 8%. Assume that Linda’s after tax rate of return on investment
> Texas Corporation disassembles old automobiles for the purpose of reselling their components (i.e., different types of metals, plastics, rubber, and other materials). Texas sells some of the items for scrap, but must pay to dispose of environmentally haz
> May a taxpayer appeal a case litigated under the Small Cases Procedure of the Tax Court?
> Eagle and Hill Corporations discuss the terms of a land sale, and they agree to a price of $230,000. Eagle wants to use the installment sale method, but is not sure Hill is a reliable borrower. As a result, Eagle requires Hill to place the entire purchas
> Jane loans $80,000 to John, her son, to permit him to purchase a principal residence. The loan principal is secured by John’s residence, but the agreement does not specify any interest. The applicable federal rate for the year is 8%. John’s net investmen
> Lance Corporation’s management has asked whether they may change their inventory valuation method to LIFO. They now report their inventory using FIFO. If they can change, how would they go about it? How is the related adjustment handled?
> BCD Partnership has, for many years, had a March 31 year-end. The partnership’s net income for the fiscal year ended March 31, 2018 is $400,000. Because of its fiscal year, BCD has $100,000 on deposit with the IRS from 2017. a. How much must BCD add to
> Dana manages real estate and is a cash method taxpayer. She changes to the accrual method in 2018. Danaâ€™s business income for 2018 is $30,000 computed on the accrual method. Her books show the following: a. What adjustment is necessary
> On January 30, 2017, Amy sells land to Bob for a stated price of $200,000. The full $200,000 is payable on January 30, 2019. No interest is stated. Amy, a cash-method taxpayer, purchased the land in 2012 for $130,000. a. How much interest income must be
> Joe sells land with a $60,000 adjusted basis for $42,000. He incurs selling expenses of $2,000. The land is subject to a $10,000 mortgage. The buyer, who assumes the mortgage, pays $8,000 down and agrees to pay Joe $8,000 per year for three years plus in
> First Company sold the following assets during the year. Indicate whether First Company can use the installment method to report each transaction. If not, how is the transaction reported? Assume First Company is an accrual basis taxpayer. a. First Compa
> Prime Corporation begins operations in late 2017. Prime decides to use the single-pool LIFO method. Year-end inventories under FIFO are as follows: 2017……………………….$110,000 2018………………………..134,000 2019………………………..125,000 The price index for 2017 is 130%; f
> In light of the economic performance requirement, how much is deductible by the following accrual-basis corporate taxpayers this year? a. Camp Corporation sells products with a one-year warranty. Camp estimates that the warranty costs on products sold d
> a. In which courts may litigation dealing with tax matters begin? b. Discuss the factors that might be considered in deciding where to litigate. c. Describe the appeals process in tax litigation.
> For each of the following cases, indicate whether the taxpayer has selected an allowable tax year in an initial year. If the year selected is not acceptable, indicate what an acceptable year would be. a. A corporation selects a January 15 year-end. b.
> King Construction Company is engaged in a road construction contract to build a highway over a three-year period. King will receive $11,200,000 for building five miles of highway. King estimates that it will incur $10,000,000 of costs before the contract
> Zap Company manufactures computer hard drives. The cost of hard drives has been declining for years. Sales totaled $4,000,000 last year. Zap’s ending inventory was valued at $300,000 under FIFO. The company’s new president is trying to cut taxes and asks
> Which of the following costs must be included in inventory by a manufacturing company? a. Raw materials b. Advertising c. Payroll taxes for factory employees d. Research and experimental costs e. Factory insurance f. Repairs to factory equipment g.
> How much of the following expenses are currently deductible by a cash basis taxpayer? a. Medical prescriptions costing $20 paid by credit card (medical expenses already exceed the 10% of AGI floor). b. Prepaid interest (not related to points) of $200 o
> Lavanya, a single taxpayer, is a practicing accountant. She obtains permission to change her tax year from the calendar year to a year ending July 31. Her practice income for the seven months ending July 31 is $40,000. In addition, Lavanya has $3,000 of
> Each of the following cases involves a taxable year of less than 12 months. In which situations is annualization required? a. A new corporation formed in September elects a calendar year. b. A calendar-year individual dies on June 15. c. Jean, who has
> In which of the following instances is a taxpayer permitted to change accounting periods without IRS approval? a. A calendar-year taxpayer who wishes to change to a year that ends on the last Friday in December. b. ABC Partnership has filed its tax ret
> In December, Dan sells unlisted stock with a cost of $14,000 for $20,000. Dan collects $5,000 down and is scheduled to receive $5,000 per year for three years plus interest at a rate acceptable to the IRS. a. How much gain must Dan recognize in the year
> Lee is starting a small lawn service. On the advice of his accountant, Lee has formed a corporation and made an S corporation election. The accountant has asked Lee to consider electing a fiscal year ending on the last day in February. The accountant poi
> a. Discuss the authoritative weight of revenue rulings. b. As a practical matter, what consequences are likely to ensue if a taxpayer does not follow a revenue ruling and the IRS audits his or her return?
> John owns a small farm on a lake. A local developer offers John $400,000 cash for his farm. The developer believes John’s farm will be very attractive to home buyers because it is on a lake. After John turns down the initial offer, the developer offers t
> Lana operates a real estate appraisal service business in a small town serving local lenders. After noting that lenders must pay to bring in a surveyor from out of town, she completes a course and obtains a surveyor’s license that enables her to provide
> Judy’s Cars, Inc., sells collectible automobiles to consumers. She employs the specific identification inventory valuation method. Prices are negotiated by Judy and individual customers. Judy accepts trade-ins when she sells an automobile. Judy negotiate
> What treatment is given to an installment sale involving related people?
> a. What conditions must be met in order to use the installment method? b. Why would a taxpayer elect not to use the installment method?
> What transactions are subject to the long-term contract method of reporting?
> a. How are overhead costs treated in determining a manufacturing company’s inventory? b. Do retailers have a similar rule? c. Are these rules the same as for financial accounting? If not, explain.
> What is the significance of the Thor Power Tool Co. decision?
> What conditions must be met if the economic performance test is to be waived for an accrual method taxpayer?
> What constitutes a payment in determining when a cash-basis taxpayer is entitled to deduct an expense?
> Explain the legislative reenactment doctrine.
> Who may use the completed contract method of reporting income from long-term contracts?
> a. When are expenses deductible by a cash method taxpayer? b. Are the rules that determine when interest is deductible by a cash method taxpayer the same as for other expenses? c. Is a cash method taxpayer subject to the same rules for depreciable asse
> a. Does the term method of accounting refer only to overall methods of accounting? Explain. b. Does a taxpayer’s accounting method affect the total amount of income reported over an extended time period? c. How can the use of an accounting method affect
> a. Is it correct to say that businesses with inventories must use the accrual method? b. What other restrictions apply to taxpayers who are choosing an overall tax accounting method? c. Why is the cash method usually preferred to the accrual method?
> Under what circumstances can an individual taxpayer change tax years without IRS approval?
> How could the 52–53-week year prove to be beneficial to taxpayers? Explain.
> What restrictions apply to partnerships selecting a tax year?
> Why is it desirable for a new taxpayer to select an appropriate tax year?
> How does a taxpayer’s tax accounting method affect the amount of tax paid?
> Do accounting rules determine the amount of income to be reported by a taxpayer?
> In 2011, there was a change in the authoritative weight of interpretive versus legislative regulations. Briefly explain what changed and why.
> What is the primary impact of the imputed interest rules on installment sales?
> If a taxpayer changes the method of accounting used for financial reporting purposes, must the taxpayer also change his or her method of accounting for tax purposes?
> Explain the purpose of the four-year method used in computing the tax resulting from a net adjustment due to a change in accounting methods.
> Can the IRS require a taxpayer to change accounting methods?
> What changes in accounting method can be made without IRS approval?