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Free Questions › CPA › Tax Compliance and Planning
Free CPA Tax Compliance and Planning Practice Questions & Answers
400 exam-style Tax Compliance and Planning questions. Pick your answer, hit Check answer, and see the worked solution — free to start, no signup.
100% free · No login to startQuestion 1
The core principle of tax planning is to:
Select an option first.
Correct answer: D — MAXIMISE AFTER-TAX WEALTH — not merely minimise tax
Explanation: The objective is MAXIMISING AFTER-TAX WEALTH, not minimising tax. A strategy that saves $10,000 of tax but destroys $50,000 of economic value is a failure. Tax is ONE input into a business or personal decision — never the only one. This is the single most important framing in TCP.
Question 2
The three classic tax planning levers are:
Select an option first.
Correct answer: A — TIMING, CHARACTER and ENTITY/JURISDICTION
Explanation: TIMING (when income and deductions are recognised); CHARACTER (ordinary vs capital, active vs passive); and ENTITY/JURISDICTION (who is taxed, and where). Nearly every planning technique is an application of one or more of these three.
Question 3
DEFERRING income is generally beneficial because:
Select an option first.
Correct answer: A — The TIME VALUE OF MONEY — a dollar of tax paid later is cheaper in present-value terms
Explanation: Deferral is valuable because of the TIME VALUE OF MONEY. But it is NOT always right: if RATES ARE RISING (by law or because the taxpayer's income is climbing), ACCELERATING income into a low-rate year can beat deferral. Deferral is a default, not a rule.
Question 4
ACCELERATING income into the current year makes sense when:
Select an option first.
Correct answer: A — The taxpayer expects to be in a HIGHER bracket next year, or rates are legislated to rise
Explanation: ACCELERATE income (and DEFER deductions) when you expect to be in a HIGHER bracket later. DEFER income (and ACCELERATE deductions) when you expect a LOWER bracket. The direction depends entirely on the RATE DIFFERENTIAL, weighed against the time value of money.
Question 5
A ROTH conversion is most attractive when the taxpayer:
Select an option first.
Correct answer: D — Is in a TEMPORARILY LOW bracket, and expects HIGHER rates in retirement
Explanation: A ROTH CONVERSION pays tax NOW at today's rate to secure TAX-FREE growth and withdrawals later. It wins when the CURRENT rate is LOWER than the expected future rate — a gap year, an early retirement before pensions begin, or a year with large offsetting losses.
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Question 6
The ideal year for a large Roth conversion is often:
Select an option first.
Correct answer: B — A GAP YEAR — retired but before pensions/Social Security begin, when taxable income is temporarily low
Explanation: The classic window: RETIRED (wages have stopped) but BEFORE Social Security and required distributions begin. Taxable income is temporarily low, so conversions can be made at low marginal rates — filling up the lower brackets each year rather than converting everything at once.
Question 7
A ROTH IRA has NO required minimum distributions for:
Select an option first.
Correct answer: D — The ORIGINAL OWNER during their lifetime
Explanation: A ROTH IRA has NO lifetime RMD for the ORIGINAL OWNER — a major planning advantage, allowing the account to compound tax-free indefinitely and pass to heirs. (Traditional IRAs require RMDs from the applicable age; INHERITED accounts have their own distribution rules.)
Question 8
A traditional IRA's tax treatment is:
Select an option first.
Correct answer: D — DEDUCTIBLE contributions (subject to limits), tax-DEFERRED growth, and TAXABLE withdrawals
Explanation: TRADITIONAL: deduct now, pay tax later. ROTH: no deduction now, tax-free later. The choice turns on whether your rate is HIGHER now or in retirement — with the added consideration that Roth avoids RMDs and passes more efficiently to heirs.
Question 9
A BACKDOOR ROTH involves:
Select an option first.
Correct answer: C — A NON-DEDUCTIBLE traditional IRA contribution, subsequently CONVERTED to a Roth
Explanation: The BACKDOOR ROTH: contribute NON-DEDUCTIBLY to a traditional IRA (there is no income limit on non-deductible contributions), then CONVERT to a Roth. It is used by taxpayers whose income exceeds the direct Roth contribution limit. Beware the PRO-RATA rule if other pre-tax IRA balances exist.
Question 10
The PRO-RATA rule can defeat a backdoor Roth when the taxpayer:
Select an option first.
Correct answer: B — Holds OTHER PRE-TAX IRA balances — the conversion is then taxed proportionately across ALL IRAs
Explanation: The PRO-RATA (aggregation) rule treats ALL traditional, SEP and SIMPLE IRAs as ONE account. If pre-tax balances exist, the conversion is TAXABLE in proportion to the pre-tax share — destroying the tax-free backdoor. A common fix is rolling the pre-tax IRA into an employer 401(k) first, since 401(k)s are excluded from the calculation.
Question 11
An HSA's TRIPLE tax benefit is:
Select an option first.
Correct answer: B — PRE-TAX contributions, TAX-FREE growth, and TAX-FREE withdrawals for qualified medical expenses
Explanation: The HSA is the ONLY vehicle in the Code with all three. As a planning tool, the sophisticated approach is to CONTRIBUTE MAXIMUM, PAY MEDICAL COSTS OUT OF POCKET, and let the HSA COMPOUND TAX-FREE — reimbursing yourself decades later with no time limit on the reimbursement.
Question 12
After age 65, a NON-MEDICAL HSA withdrawal is:
Select an option first.
Correct answer: C — TAXABLE as ordinary income, but NOT PENALISED — effectively behaving like a traditional IRA
Explanation: Before 65, non-medical withdrawals face income tax PLUS a 20% penalty. After 65, the PENALTY DISAPPEARS and the withdrawal is simply TAXABLE — so an HSA becomes, at worst, a traditional IRA. That downside protection makes maximum funding a low-risk decision.
Question 13
A 529 plan's earnings are:
Select an option first.
Correct answer: D — TAX-FREE when used for QUALIFIED education expenses
Explanation: 529 EARNINGS are TAX-FREE when used for qualified education expenses. Contributions are NOT federally deductible (though many states allow a deduction). Contributions are completed GIFTS eligible for the annual exclusion, with a 5-YEAR FORWARD-AVERAGING election allowing a large front-loaded gift.
Question 14
The 529 five-year election permits a donor to:
Select an option first.
Correct answer: D — Treat a LUMP-SUM contribution as if made RATABLY over 5 YEARS, using 5 years of annual exclusions at once
Explanation: The 5-YEAR (superfunding) election lets a donor front-load FIVE YEARS of annual exclusions into a 529 in one go — a powerful estate-planning move, removing a large sum from the estate immediately while it compounds tax-free. Gift splitting doubles it.
Question 15
The KIDDIE TAX applies to a child's:
Select an option first.
Correct answer: A — UNEARNED income above a threshold, taxed at the PARENT'S marginal rate
Explanation: The KIDDIE TAX taxes a child's UNEARNED income (interest, dividends, capital gains) above a threshold at the PARENT'S marginal rate. It defeats the strategy of shifting investment income to a low-bracket child. Note it does NOT apply to EARNED income — a child's wages are taxed at the child's own rate.
Question 16
Employing your CHILD in your business can be advantageous because:
Select an option first.
Correct answer: C — Their WAGES are EARNED income (not subject to the kiddie tax) and are DEDUCTIBLE by the business
Explanation: Employing a child SHIFTS income from the parent's high bracket to the child's low one — and because WAGES are EARNED income, the KIDDIE TAX does not apply. The business gets a DEDUCTION. The work must be GENUINE and the pay REASONABLE. (A sole proprietorship employing a child under 18 may also be exempt from FICA.)
Question 17
TAX-LOSS HARVESTING involves:
Select an option first.
Correct answer: A — Selling losing positions to REALISE losses that offset gains and up to $3,000 of ordinary income
Explanation: TAX-LOSS HARVESTING realises losses to offset capital GAINS, plus up to $3,000 of ordinary income annually, with an INDEFINITE carryforward. The WASH SALE rule (no substantially identical purchase within 30 days before or after) is the constraint — but a similar, non-identical fund maintains market exposure.
Question 18
A WASH SALE disallows a loss when substantially identical securities are purchased within:
Select an option first.
Correct answer: A — 30 days BEFORE or AFTER the sale (a 61-day window)
Explanation: The window is 61 DAYS: 30 days BEFORE, the day of sale, and 30 days AFTER. The loss is DISALLOWED and ADDED to the replacement shares' basis — deferred, not destroyed. But a purchase in an IRA destroys it PERMANENTLY, because there is no basis to add it to.
Question 19
Repurchasing the identical security in an IRA after a loss sale:
Select an option first.
Correct answer: C — PERMANENTLY DESTROYS the loss — there is no taxable basis in the IRA to which it can be added
Explanation: A wash sale normally DEFERS the loss by adding it to the replacement shares' basis. But shares held in an IRA have no taxable basis — so the disallowed loss simply EVAPORATES. It is the single most damaging wash sale mistake, and it is entirely avoidable.
Question 20
Donating APPRECIATED long-term stock to charity is superior to selling and donating cash because:
Select an option first.
Correct answer: D — The donor deducts FULL FMV and NEVER recognises the built-in GAIN — a double benefit
Explanation: Donating APPRECIATED LTCG property to a PUBLIC charity gives a deduction at FULL FMV (30% of AGI limit) AND permanently avoids tax on the built-in gain. Selling first and donating the cash yields the same deduction but a taxable gain. It is the cleanest arbitrage in the individual Code.
Question 21
A DONOR-ADVISED FUND allows a taxpayer to:
Select an option first.
Correct answer: B — Take the DEDUCTION NOW (bunching into a high-income year) while DISTRIBUTING to charities over time
Explanation: A DAF separates the TIMING OF THE DEDUCTION from the TIMING OF THE GIVING. Contribute (and deduct) in a HIGH-INCOME year — perhaps BUNCHING several years of giving to clear the standard deduction — then distribute grants to charities over subsequent years. The contribution is IRREVOCABLE.
Question 22
BUNCHING charitable deductions is used to:
Select an option first.
Correct answer: C — Exceed the STANDARD DEDUCTION in alternate years — itemising in one year and taking the standard deduction in the next
Explanation: Post-TCJA, the large standard deduction means many taxpayers get NO benefit from modest annual giving. BUNCHING two or three years of gifts into ONE year (often via a DAF) lifts them over the standard deduction in that year, while they take the standard deduction in the others.
Question 23
A QUALIFIED CHARITABLE DISTRIBUTION (QCD) from an IRA:
Select an option first.
Correct answer: B — EXCLUDES the distribution from income entirely — better than a deduction, because it reduces AGI
Explanation: A QCD (available from age 70.5) sends IRA funds DIRECTLY to charity, EXCLUDING the amount from income. This is SUPERIOR to a deduction: it reduces AGI, which gates the medical floor, Medicare IRMAA premiums, and the taxability of Social Security. It also SATISFIES the RMD.
Question 24
A QCD is superior to a deduction because it:
Select an option first.
Correct answer: A — Reduces AGI — which drives Medicare premiums, Social Security taxability and other AGI-based thresholds
Explanation: An itemised deduction reduces TAXABLE income but NOT AGI. A QCD reduces AGI ITSELF — which cascades: lower Medicare IRMAA premiums, less Social Security included in income, a lower medical expense floor. And it works even for a taxpayer taking the STANDARD deduction.
Question 25
The NET INVESTMENT INCOME TAX is:
Select an option first.
Correct answer: C — 3.8% on the LESSER of net investment income or MAGI over the threshold
Explanation: NIIT = 3.8% × the LESSER of (a) NII or (b) MAGI minus the threshold. NII EXCLUDES wages and ACTIVE business income. Achieving MATERIAL PARTICIPATION therefore removes business income from NII entirely — a genuine planning lever worth 3.8%.
Question 26
Achieving MATERIAL PARTICIPATION in a business removes its income from:
Select an option first.
Correct answer: A — NET INVESTMENT INCOME — saving the 3.8% NIIT, and converting passive losses into deductible ones
Explanation: MATERIAL PARTICIPATION does DOUBLE duty: it removes the income from NII (saving 3.8%), and it makes the activity NON-PASSIVE, so LOSSES become deductible against ordinary income rather than suspended. Documenting hours is therefore a real and valuable planning exercise.
Question 27
The three loss hurdles, in order, are:
Select an option first.
Correct answer: C — Basis, At-risk, Passive
Explanation: The ORDER is fixed: (1) BASIS — you cannot deduct more than your investment; (2) AT-RISK — you cannot deduct more than you could actually lose; (3) PASSIVE — passive losses offset only passive income. A loss must clear ALL THREE, and each suspends separately.
Question 28
The EXCESS BUSINESS LOSS limitation:
Select an option first.
Correct answer: A — CAPS the net business loss an individual may deduct against non-business income; the excess becomes an NOL carryforward
Explanation: §461(l) CAPS the aggregate business loss an individual may deduct against NON-BUSINESS income (wages, investment income). The DISALLOWED excess converts to an NOL CARRYFORWARD. It is a FOURTH hurdle, applied AFTER basis, at-risk and passive — and it is easy to forget.
Question 29
The QBI deduction is:
Select an option first.
Correct answer: D — Up to 20% of qualified business income from PASS-THROUGHS — taken BELOW the line
Explanation: §199A gives up to 20% of QBI from pass-throughs. C CORPORATIONS do NOT qualify (they have the 21% rate). It is taken BELOW the line — it does NOT reduce AGI or self-employment tax — and it is available whether or not the taxpayer itemises.
Question 30
An SSTB owner above the upper income threshold receives a QBI deduction of:
Select an option first.
Correct answer: C — ZERO — SSTBs are fully phased out above the upper threshold
Explanation: An SSTB (law, health, accounting, consulting, financial services, brokerage) LOSES the QBI deduction ENTIRELY above the upper threshold. A NON-SSTB merely becomes subject to the W-2/UBIA cap — it still gets something. That total-loss-vs-capped distinction is the whole SSTB point, and it drives real planning.
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