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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 331
A taxpayer comparing a §1031 exchange with an outright SALE should weigh:
Select an option first.
Correct answer: C — The DEFERRED TAX against the LOST DEPRECIATION on the lower basis, plus flexibility and the deadlines' risk
Explanation: The exchange DEFERS tax (a benefit) but carries a LOW BASIS (less depreciation — a cost), imposes rigid 45/180-day DEADLINES (a risk), and constrains the choice of replacement property. Selling outright pays the tax but gives a FULL basis and complete freedom. It is a genuine trade-off, not an automatic win.
Question 332
An OPPORTUNITY ZONE investment versus a §1031 exchange: OZ is more flexible because it:
Select an option first.
Correct answer: A — Requires reinvesting only the GAIN (not all proceeds), has no like-kind requirement, and covers ANY capital gain (not just real property)
Explanation: OZ ADVANTAGES: reinvest only the GAIN (keep the basis); ANY capital gain qualifies (stock, business sale, crypto — not just real estate); no like-kind requirement; and the 10-year EXCLUSION of the QOF's own appreciation. §1031 ADVANTAGES: indefinite deferral, and the step-up at death erases it entirely.
Question 333
A taxpayer selling a BUSINESS (not real property) with a large gain cannot use §1031 but CAN consider:
Select an option first.
Correct answer: D — An OPPORTUNITY ZONE investment, an INSTALLMENT SALE, a CRT, or a §1045 QSBS rollover
Explanation: Post-TCJA, §1031 is REAL PROPERTY only. For a BUSINESS sale, the alternatives are: an OPPORTUNITY ZONE reinvestment (deferral plus a 10-year exclusion); an INSTALLMENT SALE (spreading the gain); a CRT (avoiding immediate gain, generating income and a deduction); or a §1045 QSBS ROLLOVER if the stock qualifies.
Question 334
An ASSET SALE versus a STOCK SALE: the BUYER generally prefers:
Select an option first.
Correct answer: C — An ASSET SALE — obtaining a STEPPED-UP basis in the assets and future depreciation, plus avoiding unknown liabilities
Explanation: The BUYER wants an ASSET SALE: a STEPPED-UP basis (future depreciation deductions) and no inheritance of unknown liabilities. The SELLER wants a STOCK SALE: a single layer of CAPITAL gain, and no recapture. This tension is central to every deal negotiation, and the price adjusts to reflect it.
Question 335
The SELLER of a C corporation generally prefers a STOCK sale because an asset sale would produce:
Select an option first.
Correct answer: D — DOUBLE TAXATION — corporate tax on the asset gain, then shareholder tax on the liquidating distribution
Explanation: A C corporation ASSET SALE is taxed TWICE: at the CORPORATE level on the asset gain, then AGAIN at the SHAREHOLDER level on the liquidating distribution. A STOCK sale is taxed ONCE, as capital gain to the shareholder. The difference can be enormous, which is why C corp sellers fight hard for stock deals.
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Question 336
A §338(h)(10) election allows a STOCK sale to be TREATED as an:
Select an option first.
Correct answer: C — ASSET SALE for tax purposes — giving the buyer a step-up while the transaction remains a stock sale legally
Explanation: §338(h)(10) is the bridge: legally a STOCK sale (simple, no asset transfers or consent issues), but treated as an ASSET SALE for tax — so the BUYER gets a STEP-UP. It is available for S corporation and consolidated-group targets. The SELLER bears the (usually higher) asset-sale tax cost, so the PRICE is adjusted to compensate.
Question 337
A §338(h)(10) election is available for a target that is:
Select an option first.
Correct answer: A — An S CORPORATION or a member of a CONSOLIDATED GROUP
Explanation: §338(h)(10) requires the target to be an S CORPORATION or a subsidiary in a CONSOLIDATED GROUP. It is NOT available for a standalone C corporation with individual shareholders — for which the double-tax problem of an asset sale has no such workaround.
Question 338
For an S CORPORATION target, a §338(h)(10) election is often acceptable to the seller because:
Select an option first.
Correct answer: D — There is only ONE layer of tax anyway — so the seller's cost is only the ORDINARY/recapture element, not a full second layer
Explanation: An S CORPORATION is a pass-through, so an asset sale produces only ONE layer of tax. The seller's additional cost from a §338(h)(10) is only the CHARACTER difference (some gain becomes ORDINARY recapture rather than capital), not a whole second tax. Buyers routinely PAY UP for the election, and the parties split the benefit.
Question 339
A PURCHASE PRICE ALLOCATION in an asset sale matters because:
Select an option first.
Correct answer: B — It determines the CHARACTER of the seller's gain and the buyer's future DEPRECIATION — the parties' interests CONFLICT
Explanation: The allocation drives everything. The SELLER wants value allocated to GOODWILL (capital gain); the BUYER wants it allocated to EQUIPMENT (fast depreciation) rather than goodwill (15-year amortisation). Their interests CONFLICT, and the allocation must be AGREED and reported CONSISTENTLY by both on Form 8594.
Question 340
GOODWILL acquired in an asset purchase is amortised over:
Select an option first.
Correct answer: D — 15 YEARS (§197)
Explanation: §197 INTANGIBLES — goodwill, going concern value, customer lists, covenants not to compete — are amortised over 15 YEARS straight-line, regardless of their actual useful life. Note that PURCHASED goodwill IS amortisable for tax (unlike book goodwill, which is not amortised but tested for impairment).
Question 341
A COVENANT NOT TO COMPETE is amortised over:
Select an option first.
Correct answer: B — 15 YEARS under §197 — even if the covenant itself lasts only 3 years
Explanation: A §197 intangible is amortised over 15 YEARS regardless of its actual life. So a 3-YEAR non-compete is still amortised over FIFTEEN — a genuinely unfavourable outcome. Sellers, meanwhile, receive ORDINARY income on a non-compete payment (not capital gain), so both sides dislike it.
Question 342
A SELLER receiving payment for a covenant not to compete recognises:
Select an option first.
Correct answer: C — ORDINARY income — which is why sellers resist allocating value to a non-compete
Explanation: A NON-COMPETE payment is ORDINARY income to the seller (it is compensation for refraining from services), whereas GOODWILL produces CAPITAL GAIN. The buyer is largely indifferent (both are 15-year §197 intangibles), so the seller usually wins this argument and value is pushed toward goodwill.
Question 343
In an asset sale, the seller's gain on EQUIPMENT is:
Select an option first.
Correct answer: B — ORDINARY to the extent of §1245 DEPRECIATION RECAPTURE
Explanation: §1245 recaptures ALL depreciation taken on equipment as ORDINARY income (up to the gain). This is why an asset sale is worse for the seller than a stock sale — a large slice of the price is taxed at ORDINARY rates rather than at 15/20%.
Question 344
A seller can reduce the ORDINARY component of an asset sale by:
Select an option first.
Correct answer: A — NEGOTIATING the ALLOCATION toward GOODWILL and away from depreciated equipment and non-competes
Explanation: The ALLOCATION is negotiable (within the constraints of fair value and the residual method). Shifting value toward GOODWILL (capital gain) and away from EQUIPMENT (ordinary recapture) and NON-COMPETES (ordinary income) can materially improve the seller's after-tax proceeds. The buyer will want compensating price.
Question 345
An INSTALLMENT SALE of a business is NOT available for:
Select an option first.
Correct answer: D — The portion attributable to INVENTORY and DEPRECIATION RECAPTURE — recapture is recognised in full in the year of sale
Explanation: The instalment method does NOT apply to: DEPRECIATION RECAPTURE (recognised IN FULL in the year of sale); INVENTORY; or publicly traded securities. So a seller may face a substantial tax bill in year one despite receiving little cash — the classic instalment sale cash-flow trap.
Question 346
An ESOP sale allows a C corporation owner to:
Select an option first.
Correct answer: D — DEFER gain under §1042 by reinvesting the proceeds in QUALIFIED REPLACEMENT PROPERTY — if the ESOP holds 30%+ after the sale
Explanation: A §1042 ESOP ROLLOVER lets a C corporation owner DEFER the gain by selling to an ESOP (which must hold at least 30% afterwards) and reinvesting in QUALIFIED REPLACEMENT PROPERTY (securities of US operating companies) within a 15-month window. Combined with the step-up at death, that deferral can become permanent.
Question 347
A §1042 ESOP rollover requires the ESOP to hold, after the sale:
Select an option first.
Correct answer: C — At least 30% of the corporation's stock
Explanation: The ESOP must own at least 30% of the corporation's stock IMMEDIATELY AFTER the sale. The selling shareholder must have held the stock for at least 3 years, and must reinvest in QUALIFIED REPLACEMENT PROPERTY. The corporation must be a C corporation (not an S corporation) for §1042 to apply.
Question 348
A SELF-CANCELLING INSTALLMENT NOTE (SCIN) differs from a private annuity in that a SCIN:
Select an option first.
Correct answer: C — Has a FIXED TERM but CANCELS at the seller's death — with a risk premium priced in
Explanation: A SCIN has a FIXED TERM but CANCELS on the seller's death — so the unpaid balance is NOT in their estate. A RISK PREMIUM (a higher rate or principal) must be charged to compensate for the cancellation feature. If the seller dies EARLY, the family wins substantially.
Question 349
The IRS may attack a SCIN or private annuity if:
Select an option first.
Correct answer: C — The seller has a SHORT LIFE EXPECTANCY (terminally ill) — the transaction is then treated as a disguised GIFT
Explanation: If the seller is TERMINALLY ILL (generally, death within a year is at least 50% likely), the actuarial tables may NOT be used, and the transaction is recharacterised as a GIFT (or the note is valued at its true, much lower, worth). Timing these arrangements while healthy is essential.
Question 350
A PRIVATE ANNUITY transfers property in exchange for:
Select an option first.
Correct answer: D — LIFETIME payments — the property leaves the estate, but the payments cease at death and the seller bears mortality risk
Explanation: A PRIVATE ANNUITY: transfer property to family in exchange for LIFETIME payments. The property (and its appreciation) leaves the estate. The seller bears the risk of DYING EARLY (having received little) — and the family bears the risk of the seller LIVING LONG. It is a mortality bet in both directions.
Question 351
The BASIS of property received by a beneficiary from a GRANTOR TRUST at the grantor's death:
Select an option first.
Correct answer: C — May receive a STEP-UP if the assets are INCLUDED in the grantor's estate — but an IDGT's assets are OUTSIDE the estate and get NO step-up
Explanation: THE CRITICAL TRADE-OFF. An IDGT removes assets from the ESTATE (avoiding estate tax) — but because they are OUTSIDE the estate, they get NO §1014 STEP-UP. So the heirs inherit the LOW basis and a built-in capital gains liability. Estate tax saved; capital gains tax created.
Question 352
The IDGT's lack of a step-up means the strategy is best when:
Select an option first.
Correct answer: B — The ESTATE TAX rate EXCEEDS the CAPITAL GAINS rate — so avoiding a 40% estate tax justifies accepting a 23.8% capital gains cost
Explanation: The arithmetic: estate tax at 40% versus capital gains at 23.8%. If the estate WOULD be taxable, removing the asset (at the cost of forgoing the step-up) still wins. But if the estate is BELOW the exclusion — so no estate tax would be due anyway — the IDGT DESTROYS the step-up for NO BENEFIT. Below-exclusion estates should keep assets IN the estate.
Question 353
For an estate BELOW the exclusion amount, the priority shifts to:
Select an option first.
Correct answer: B — MAXIMISING BASIS STEP-UP — keeping appreciated assets IN the estate, since no estate tax will be due
Explanation: With today's high exclusions, most estates owe NO estate tax. For them, the goal INVERTS: keep appreciated assets IN the estate to capture the §1014 STEP-UP, erasing the capital gains liability. Aggressive lifetime gifting of appreciated assets — sensible when estate tax loomed — now actively DESTROYS value for these families.
Question 354
'UPSTREAM' gifting to an elderly parent is used to:
Select an option first.
Correct answer: B — Obtain a BASIS STEP-UP — gift appreciated assets to a parent with unused exclusion, who bequeaths them back with a stepped-up basis
Explanation: UPSTREAM PLANNING: gift low-basis assets to an ELDERLY PARENT (who has unused exclusion and a taxable estate below the threshold). At their death, the assets receive a STEP-UP and pass BACK to the donor or their children — with the gain ERASED. Beware §1014(e), which DENIES the step-up if the donor reacquires the property within ONE YEAR of the gift.
Question 355
§1014(e) DENIES a step-up when appreciated property is gifted to a decedent who dies within:
Select an option first.
Correct answer: A — ONE YEAR — and the property passes BACK to the original donor or their spouse
Explanation: §1014(e) is the ANTI-ABUSE rule for upstream planning: if appreciated property is gifted to someone who DIES WITHIN ONE YEAR and it passes BACK to the DONOR (or their spouse), the step-up is DENIED — the donor's original basis carries over. Surviving the year is essential, which makes upstream planning a timing bet.
Question 356
The step-up at death applies to:
Select an option first.
Correct answer: D — TAXABLE assets — NOT to IRAs, annuities or other IRD, which get NO step-up
Explanation: The STEP-UP applies to TAXABLE assets. It does NOT apply to IRD — traditional IRAs, annuities, unpaid wages, instalment notes. Those retain their income tax character and are taxed as ORDINARY income to the heir. This is why asset LOCATION and beneficiary DESIGNATION must be planned together.
Question 357
COMMUNITY PROPERTY receives a step-up on:
Select an option first.
Correct answer: B — BOTH halves at the first spouse's death — a substantial advantage over common-law states
Explanation: In a COMMUNITY PROPERTY state, BOTH halves of community property receive a §1014 step-up at the FIRST spouse's death — a DOUBLE step-up. In a COMMON LAW state, only the DECEDENT'S half steps up. Some common-law couples establish a COMMUNITY PROPERTY TRUST specifically to capture this.
Question 358
A JOINT TENANCY between spouses in a common-law state receives a step-up on:
Select an option first.
Correct answer: D — ONLY the DECEDENT'S half — the survivor's half retains its original basis
Explanation: In a COMMON LAW state, joint tenancy property gets a step-up only on the DECEDENT'S HALF. The survivor's half keeps its ORIGINAL basis. In a COMMUNITY PROPERTY state, BOTH halves step up. This single difference can be worth a great deal, and it is why community property trusts exist.
Question 359
A LIFE ESTATE retained by a donor causes the property to be:
Select an option first.
Correct answer: C — INCLUDED in the estate under §2036 — which means it DOES receive a step-up
Explanation: Retaining a LIFE ESTATE causes ESTATE INCLUSION under §2036 — which is bad for estate tax but GOOD for BASIS, since included property receives the STEP-UP. For a below-exclusion estate, deliberately triggering §2036 inclusion to capture the step-up can be a FEATURE, not a bug.
Question 360
For a taxpayer with a below-exclusion estate and highly appreciated assets, the optimal strategy is often to:
Select an option first.
Correct answer: A — HOLD the assets until death — capturing the STEP-UP, since no estate tax will be due anyway
Explanation: With no estate tax exposure, aggressive lifetime gifting is COUNTERPRODUCTIVE — it transfers the LOW basis to the donee and forfeits the STEP-UP. Simply HOLDING until death erases the entire gain. The best plan is often the simplest one, and sophisticated structures can actively destroy value here.
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