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Exam 4: Maxims of Income Tax Planning

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Question 1

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Mrs Reid made a gift to her 19-year old daughter Susan. Mrs Reid's marginal tax rate is 35%, and Susan's marginal tax rate is 10%. Which of the following statements is true?  

A)  The gift consisted of a corporate bond that paid $10,000 interest to Susan this year. Even though Susan is the owner of the bond, Mrs Reid must include the $10,000 in her taxable income.
B)  The gift consisted of a $2,600 rent check written by tenants who lease a duplex owned by Mrs Reid. Even though Susan cashed the check, Mrs Reid must include the $2,600 in her taxable income.
C)  The gift consisted of a lottery ticket. Six weeks after the gift, the ticket was drawn as a winner. Even though Susan received the $50,000 taxable prize because she was the rightful owner of the ticket, Mrs Reid must include $50,000 in her taxable income.
D)  None of the above is true.

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Question 2

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The goal of tax planning is to reduce tax costs or increase tax savings as much as possible. 

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Question 3

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A strategy to shift income from one taxpayer to a different taxpayer reflects the entity variable, while a strategy to shift income from one year to a different year reflects the time period variable.  

The assignment of income doctrine holds that: 

Which of the following statements about ordinary income and capital gain is false? 

Assume that Congress recently amended the tax law to provide for a maximum 12% rate on interest income from U.S. savings bonds. Compute the tax savings from this preferential rate for: A. Mrs Edwin, who has a 15% marginal rate on ordinary income and earned $290 interest on her investment in U.S. savings bonds. B. Mr Kalter, who has a 35% marginal rate on ordinary income and earned $290 interest on his investment in U.S. savings bonds.

Mrs Day structures a transaction to shift income from her sole proprietorship to her grandson's business. This tax planning strategy may be taking advantage of the: 

Opportunity cost refers to the decrease in NPV from a deferral of the receipt of before-tax cash flows.  

In 20Y1, Ms. Graves transferred appreciated property to KL Partnership in exchange for an ownership interest in the partnership. She deliberately waited until 20Y3 before taking cash out of the partnership. Ms. Graves may have been trying to prevent the IRS from applying the:  

Planning opportunities are created when the tax law applies differentially to alternative business transactions.  

Gregly Company, which has a 21% marginal tax rate, plans to make an investment that should generate $300,000 annual cash flow/ordinary income. Instead of making the investment directly, Gregly could form a new taxable entity (L'il Greg) to make the investment. L'il Greg's marginal tax rate on the investment income would be only 13%. However, L'il Greg would have to incur a $26,500 annual nondeductible expense associated with the investment that Gregly would not incur. A. Should Gregly make the investment directly or make it through L'il Greg to maximize after-tax cash flow? B. Would your answer change if L'il Greg could deduct its $26,500 additional expense?

Tax planning strategies to enhance NPV must reflect all four tax planning maxims.  

The tax law applies uniformly to every commercial transaction by every business entity.  

Mr Dole needed to sell appreciated stock out of his investment portfolio to generate cash to pay for his Christmas spending. He decided to postpone the sale from December 20Y1 until January 20Y2. Mr Dole is taking advantage of the:  

NWR Inc. is structuring a transaction that will require a $200,000 deductible cash expenditure. Which of the following structures is the most effective in terms of the time period variable? 

Both the individual and the corporate federal income tax rates are progressive.

Sancel Inc. is planning a transaction that will generate $70,000 taxable income and cash inflow. The transaction is structured so that Sancel will receive the cash and report the income this year (year 0) . Use Appendix A of your textbook provided to compute the increase in the NPV of the transaction if it can be restructured so that Sancel will receive the cash this year, but report the income two years later (year 2) . Sancel's marginal tax rate is 21%, and it uses a 10% discount rate to compute NPV. 

Which of the following statements about the character variable is true?  

Hilex Inc. structures a transaction to shift income from one controlled subsidiary to another controlled subsidiary. This tax planning strategy may be taking advantage of the:  

The after-tax value of a dollar of income to a high-tax entity is more than the after-tax value to a low-tax entity.