U.S. Tax System: Key Concepts and Calculations
Chapter 1
1. “In addition to raising revenues, specific U.S. taxes may have other objectives (e.g., economic or social objectives) True
2. Mitch, a single taxpayer, earns $100,000 in taxable income and $10,000 in interest from an investment in city of Birmingham Bonds. Using the U.S. tax rate schedule for year 2023, how much federal tax will he owe? $16,290 + 0.24 ($100,000 − $95,375) = $17,400
3. Mitch, a single taxpayer, earns $100,000 in taxable income and $10,000 in interest from an investment in city of Birmingham Bonds. Using the U.S. tax rate schedule for year 2023, what is his average tax rate (rounded)? $17,400 tax / $100,000 taxable income = 17.4%
4. Mitch, a single taxpayer, earns $100,000 in taxable income and $10,000 in interest from an investment in city of Birmingham Bonds. Using the U.S. tax rate schedule for year 2023, what is his effective tax rate (rounded)? $17,400 tax / $110,000 taxable income & tax-exempt income = 15.82%
5. Which of the following is an example of a progressive tax system? U.S. federal income tax
6. “Benjamin, who is an employee, earns a salary of $50,000. Determine the employment taxes (= FICA taxes = SST + MT) and the average tax rate for Benjamin.
Total FICA (Federal Insurance Contributions Act) tax (= Social Security tax + Medicare
tax) = ($50,000 × 7.65%) = $12,255.3 = $3,825
• Average tax rate = total FICA tax ÷ taxable income = $3,825 ÷ $50,000 = 7.65%
7. On March 31st, 2023, Charlie (married and files a joint return) gives $36,000 to each of the
eleven people: Julie (Charlie’s wife), his three married children and their spouses, and his four
grandchildren. Determine the amount of gift that has to be reported by Charlie during 2023.
Charlie’s total federal gift amount that needs to be reported to the IRS (in 2023) = $0* +
($36,000 – $34,000**) × 10*** = $20,000
* Since Julie is a spouse, gift to Julie is nontaxable (“marital exclusion”).
** annual gift exclusion is $17,000 ($34,000 if married).
*** 3 children + 3 children’s spouses + 4 grandchildren = 10 people
8. Which of the following represents the largest percentage of average state tax revenue?
Sales Tax
9. Which of the following is true regarding use taxes? Use taxes attempt to eliminate any tax advantage of purchasing goods out of state.
Chapter 4
10. The income tax base for an individual tax return is: Taxable income, which is adjusted gross income minus from AGI deductions, is the income tax base for an individual tax return.
11. Which of the following statements regarding tax credits is true? Credits reduce the taxes due dollar for dollar and are therefore not sensitive to marginal tax rates.
12. Madison’s gross tax liability is $9,000. Madison had $3,000 of tax credits available and she
had $8,000 of taxes withheld by her employer. What are Madison’s taxes due (or taxes refunded) Gross tax liability minus credits minus payments equals tax refund ($9,000 − $3,000 − $8,000 = $2,000 tax refund).
13. Frieda is 67 years old and deaf. If Frieda files as a head of household, what amount of
standard deduction can she claim in 2023?
$22,650 = $20,800 + $1,850, the regular standard deduction increased for being age 65 or
Blindness
14. Choose whether the following statement is true or false: “If a taxpayer chooses itemized
deduction for a certain year, the taxpayer must choose standard deduction in the subsequent year to maintain consistency.” false
15. Which of the following relationships does NOT pass the relationship test for a qualifying
Child? Stepsister’s daughter, half-brother, and stepsister are all valid relationships for a qualifying child.
16. Jia is the Lucas family’s 22-year-old daughter. Jia is a full-time student at an out-of-state
university but plans to return home when the school year ends. During the year, Jia earned
$4,000 of income working part time. Her support totaled $30,000 for the year. Of this amount,
Jia paid $7,000 with her own funds, her parents paid $14,000, and Jia’s grandparents paid $9,000.Which of the following statements most accurately describes whether Jia’s parents can claim Jia as a dependent? . Because Jia is a full-time student and under 24 years of age she passes the age test of a qualifying child. Her time spent away from school is counted as time at home for the residence test. Also, Jia did not provide more than half of her own support. There is no gross income test for qualifying children
17. Sheri and Jake Woodhouse have one daughter, Emma, who is 16 years old. They also have
taken in Emma’s friend, Harriet, who has lived with them since February of the current year and
is also 16 years of age. The Woodhouses have not legally adopted Harriet but Emma often refers to Harriet as her”sister” The Woodhouses provide all of the support for both girls, and both girls live at the Woodhouse residence. Which of the following statements is true regarding whom Sheri and Jake may claim as dependents for the current year?
Emma passes all tests of a qualifying child. Harriet, however, must be tested as a
qualifying relative because she does not meet the relationship test of a qualifying child. In order to be considered a qualifying relative, she would have had to live at the Woodhouse residence for the entire year, and not just 11 of 12 months.
18. Katy has one child, Dustin, who is 18 years old at the end of the year. Dustin lived at home
for three months during the year before leaving home to work full time in another city. During
the year, Dustin earned $15,000. Katy provided more than half of Dustin’s support for the year.
Which of the following statements regarding whether Katy may claim Dustin as a dependent for
the current year is accurate? Dustin fails the qualifying child residence test and he fails the qualifying
relative gross income test, so Katy may not claim Dustin as a dependent.
19. William and Charlotte Collins divorced in November of Year 1. William moved out and
Charlotte remained in their house with their 10-month-old daughter, Autumn. Diana, Charlotte’s
mother, lived in the home and acted as Autumn’s nanny for all of Year 1. William provided 70
percent of Autumn’s support, Diana provided 20 percent, and Charlotte provided 10 percent.
When the time came to file their tax returns for Year 1, William, Charlotte, and Diana each
wanted to claim Autumn as a dependent. Their respective adjusted gross incomes for Year 1
were $50,000, $35,000, and $52,000. Who has priority to claim Autumn as a dependent?
When a child is a qualifying child of multiple parties, parents have priority over
grandparents. Because Charlotte lived with Autumn longer, she has preference over William. AGI is not used as a tiebreaker in this case because the issue was resolved after application of the first two rules.
20. Which of the following statements regarding the difference between the requirements for a qualifying child and the requirements for a qualifying relative is false?
The support test for a qualifying child considers the amount of support the child provided for herself. The support test for a qualifying relative considers the amount of support the taxpayer provided for the prospective dependent.
21. In June of Year 1, Eric’s wife, Savannah, died. Eric did not remarry during Year 1, Year 2, or
Year 3. Eric maintains the household for his dependent daughter, Catherine, in Year 1, Year 2,
and Year 3. Which is the most advantageous filing status for Eric in Year 2? Since he maintains a household for a dependent child and has not remarried as of the end of Year 2, Eric can file as a qualifying widower for Year 2.
22. Jane is unmarried and has no children, but provides more than half of her mother’s financial
support. Jane’s mother lives in an apartment across town and has a part-time job earning $5,000 a year. Which is the most advantageous filing status available to Jane?
Jane’s mother is not Jane’s dependent because she fails the qualifying relative gross income test. Consequently, Jane may not file as a head of household
23. Mason and his wife, Madison, have been married for five years. Jaxon, who is 18 years old and unrelated to Mason and Madison, has been living with Mason and Madison for the last two years. In May of Year 1, Mason and Madison divorced. Mason and Jaxon stayed in the home and Madison moved out. During Year 2, Mason provided all of Jaxon’s support, and Jaxon lived in the home for all of Year 2. Jaxon did not earn any income during Year 2. What is Mason’s most favorable filing status for Year 2? While Jaxon qualifies as Mason’s dependent for Year 2 as a qualifying relative, Jaxon is not related to Mason through a qualified family relationship (he would not be considered a related party if he had not lived with Mason for the entire year). Consequently, Mason may not qualify for head of household status and he must file as a single taxpayer.
24. Sally is a cash-basis taxpayer and a member of the Valley Barter Club. This year Sally provided 100 hours of sewing services to the barter club in exchange for two football playoff tickets. Which of the following is a true statement? Gross income includes the value of property received in exchange for services.
25. Opal deducted $2,400 of state income taxes on her tax return last year. This year she received a state income tax refund of $170. What amount of the refund, if any, should Opal include in her gross income if last year her total itemized deductions exceeded the standard deduction by $350? Refund amounts are included in gross income only to the extent that the original deduction provided a tax benefit. The $2,400 of deduction produced a tax benefit of $350, so the entire $170 is included in income.
26. Fran purchased an annuity that provides $12,000 quarterly payments for the next 10 years. The annuity was purchased at a cost of $300,000. How much of the first quarterly payment will Fran include in her gross income? The annuity exclusion ratio is [$300,000/(4 × 10)] = $7,500 return of capital per payment. Hence, $4,500 of each $12,000 payment is included in gross income.
27. Nate is a partner in a partnership that received $5,000 of interest income this year. Nate’s
share of the interest is $1,000, and he should report this income on his individual return as:
Income from flow-through entities retains its character when reported on individual returns.
28. Charles and Camilla got divorced in 2018. Under the terms of the decree Charles pays
Camilla $50,000 in cash in each of the next five years (or until Camilla’s death or remarriage). In
addition, Charles transferred a castle worth $2,000,000 to Camilla in 2018 and will pay $12,000
per year to support their son, Clyde, until he turns 19 years old. What amount (if any) is included
in Camilla’s gross income in 2023? Property settlements and child support are not included in gross income, but alimony payments (cash) are includible for divorce agreements executed before 2019. So 50,000
29. Bernie is a former executive who is retired. This year Bernie received $250,000 in taxable pension payments and $10,000 of Social Security payments. What amount must Bernie include in his gross income? High-income individuals include 85 percent of their Social Security benefits in gross income. So its $258,500
30. This year, Fred and Wilma, married filing jointly, sold their home (sales price $750,000; cost $200,000). All closing costs were paid by the buyer. Fred and Wilma owned and lived in their home for the last 20 years. How much of the gain is included in gross income? . Fred and Wilma may exclude $500,000 of their $550,000 gain ($750,000 sales price − $200,000 cost = $550,000 gain) because they meet the ownership and use tests. Thus, they only include $50,000 of the gain in their gross income.
31. Ben’s employer offers employees the following benefits. What amount must Ben include in his gross income? . If an employer pays disability premiums, and the employee chooses the premium as taxable compensation, it is considered employee-purchased and the benefits paid (if any) are excluded from the employee’s gross income. Employer-paid whole life insurance premiums are included in gross income. Only premiums on up to $50,000 of employer-paid group-term insurance are excluded from gross income.
32. Brenda has $15,000 in U.S. Series EE savings bonds and she is considering whether to cash the bonds. Under what conditions can Brenda exclude the interest on the savings bonds from her gross income? Specifically, taxpayers using the bond redemption proceeds from Series EE bonds to pay for qualified higher educational expenses of the taxpayer, the taxpayer’s spouse, or a dependent of the taxpayer may be allowed to exclude the interest from gross income.
33. Roquan is a U.S. citizen and is doing a three- to six-year assignment as a sales executive in Paris for a French company, which began this year. Roquan earned $109,500 working for the French company this year but only lived in France for 180 days (out of 365 days). He will live full time in France next year. What amount of Roquan’s $109,500 salary this year will he be allowed to exclude from gross income in the United States? Note: Round your answer to the nearest $100: $120,000 × [180/365] = $59,178, rounded to $59,200. Since Roquan will have a tax home in a foreign country and spend more than 330 days in the foreign country over 12 consecutive months, he is eligible to exclude foreign-earned income. The exclusion is computed on a daily basis, the maximum exclusion is reduced pro rata for each day during the calendar year the taxpayer is not considered to be a resident of the foreign country or does not actually live in the foreign country.
34. This year Zach was injured in an auto accident. As a result, he received the following payments. Zach received $18,000 of disability pay. Zach has disability insurance provided by his employer as a nontaxable fringe benefit. Zach’s employer paid $4,300 in disability premiums for Zach this year. Zach’s hospital bills totaled $4,500 and were paid by his health insurance. Zach has health insurance provided by his employer as a nontaxable fringe benefit. Zach’s employer paid $6,250 in health insurance premiums for Zach this year. What amount must Zach include in his gross income? 1800. Any payment a taxpayer receives from a health and accident insurance policy for medical or dental expenses paid by the taxpayer is excluded from the taxpayer’s income. If the employer pays the disability premiums for an employee as a nontaxable fringe benefit, the employee must include all disability benefits in gross income.
35. “All business expense deductions are claimed as “from” AGI deductions. False, . Most business expenses are claimed as for AGI deductions.
36. Business income and expenses are reported on Schedule E of Form 1040, if the business is a sole proprietorship.” False Business income and expenses are reported on Schedule C of Form 1040, if the business is a sole proprietorship.
37. Generally, losses from rental activities are considered to be active losses.” False Rental activities are generally considered passive.
38. On which tax form do partnerships generally report their income and losses?
Partnerships report their income on Form 1065, which is an information return (i.e., contains the business income and expenses). The Schedule K-1 of Form 1065 is the tax form that the partners receive from their partnership.
39. Which of the followings is an incorrect statement? The deduction for moving expenses is subject to a phase-out limitation.
40. Which of the followings is a true statement? For purposes of the deduction for educational interest, qualified education expenses are those paid for the education of the taxpayer, the taxpayer’s spouse, or the taxpayer’s dependent. . Penalties for early withdrawal are deductible for AGI.