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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 61
A taxpayer should consider ELECTING OUT of the instalment method when:
Select an option first.
Correct answer: A — Rates will RISE, or the taxpayer has EXPIRING losses/NOLs to absorb the gain NOW
Explanation: ELECT OUT when: rates will RISE; or the taxpayer has NOLs, capital loss carryforwards or credits EXPIRING that can absorb the gain NOW. Recognising the entire gain immediately, sheltered by expiring attributes, can beat spreading it into unsheltered future years.
Question 62
A CAPITAL LOSS carryforward expiring at the taxpayer's DEATH argues for:
Select an option first.
Correct answer: B — REALISING GAINS during life to USE the losses — carryforwards DIE with the taxpayer and do NOT pass to heirs
Explanation: Capital loss carryforwards DIE with the taxpayer — they do NOT pass to the estate or heirs (beyond the year of death). An elderly taxpayer with a large carryforward should deliberately REALISE GAINS to use it, rather than let it expire unused. It is a wasting asset.
Question 63
The 0% LTCG bracket combined with a low-income year creates an opportunity to:
Select an option first.
Correct answer: C — REALISE gains TAX-FREE and reset basis higher — and possibly convert to a Roth in the same year
Explanation: A low-income year offers TWO stacking opportunities: realise LTCG in the 0% bracket (resetting basis for free), and/or execute a ROTH CONVERSION at low rates. They compete for the same bracket space, so the taxpayer must model which is worth more — but wasting the year entirely is the real error.
Question 64
A DONOR-ADVISED FUND funded with APPRECIATED STOCK provides:
Select an option first.
Correct answer: C — TWO benefits — a FMV deduction AND permanent avoidance of the built-in gain, with grant timing separated from the deduction
Explanation: The optimal charitable move STACKS: contribute APPRECIATED LONG-TERM stock (FMV deduction, gain never taxed) to a DAF (deduction taken NOW in a high-income year, grants distributed over time). Three benefits, one transaction.
Question 65
The AGI limit for CASH gifts to a public charity is:
Select an option first.
Correct answer: B — 60% of AGI (with a 5-year carryforward for the excess)
Explanation: CASH to a PUBLIC charity: 60% of AGI. APPRECIATED LTCG PROPERTY to a public charity: 30% of AGI (at FMV). Contributions to PRIVATE FOUNDATIONS face lower ceilings (generally 30% cash / 20% property) and are usually limited to BASIS for property. Excess carries FORWARD 5 years.
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Question 66
A taxpayer's marginal rate at an IRMAA cliff can effectively exceed 100% because:
Select an option first.
Correct answer: C — ONE DOLLAR of additional income triggers the ENTIRE surcharge tier — a cliff, not a phase-in
Explanation: IRMAA is a CLIFF. One dollar over a threshold imposes the FULL surcharge for BOTH spouses for the whole year — so that single dollar can cost hundreds or thousands. The effective marginal rate at the cliff is astronomically high, which is why precise income management matters enormously for retirees.
Question 67
The 'TAX TORPEDO' refers to:
Select an option first.
Correct answer: C — The zone where each additional dollar of income also makes MORE SOCIAL SECURITY taxable — producing effective marginal rates far above the nominal bracket
Explanation: The TAX TORPEDO: as provisional income rises, each additional dollar of income can also cause 50 or 85 CENTS of additional Social Security to become taxable. A taxpayer nominally in the 12% bracket can face an effective marginal rate of 22% or more. It is a hidden, and vicious, rate spike.
Question 68
The tax torpedo argues for:
Select an option first.
Correct answer: A — ROTH CONVERSIONS BEFORE Social Security begins — reducing later RMDs and provisional income
Explanation: Converting to Roth BEFORE claiming Social Security reduces future TRADITIONAL IRA balances — and therefore future RMDs, which drive provisional income. It attacks the torpedo at its source. Note that MUNICIPAL interest COUNTS in provisional income, so tax-exempt bonds do NOT solve this.
Question 69
MUNICIPAL BOND interest, though excluded from gross income, still:
Select an option first.
Correct answer: D — COUNTS toward PROVISIONAL INCOME (making Social Security taxable) and toward MAGI for IRMAA
Explanation: Municipal interest is EXCLUDED from taxable income — but it IS counted in PROVISIONAL INCOME (increasing the taxable portion of Social Security) and in MAGI for IRMAA. A retiree loading up on munis to 'reduce taxes' may inadvertently raise both Social Security taxation and Medicare premiums.
Question 70
The taxable-equivalent yield of a municipal bond is computed as:
Select an option first.
Correct answer: C — Muni yield / (1 - t)
Explanation: Taxable-equivalent yield = Municipal yield / (1 − marginal rate). A 3% muni for a taxpayer in the 37% bracket equates to 3%/0.63 = 4.76% taxable. Municipal bonds win only for taxpayers in HIGH brackets — for a low-bracket taxpayer they simply deliver a lower yield.
Question 71
A taxpayer in the 12% bracket buying municipal bonds is likely:
Select an option first.
Correct answer: C — MAKING AN ERROR — the tax exemption is worth little at 12%, so they accept a lower yield for almost no benefit
Explanation: Municipal bonds pay LOWER yields precisely BECAUSE the interest is exempt. That trade is worthwhile only if your marginal rate is HIGH enough to make the exemption valuable. At 12%, a taxable bond almost always delivers more after-tax income.
Question 72
A NON-QUALIFIED deferred compensation plan (§409A) risks:
Select an option first.
Correct answer: C — IMMEDIATE taxation plus a 20% PENALTY if the plan violates the strict timing and distribution rules
Explanation: §409A imposes rigid rules on deferral elections, distribution timing and acceleration. A VIOLATION triggers IMMEDIATE taxation of all deferred amounts, a 20% ADDITIONAL TAX, and an interest charge — on the EMPLOYEE. NQDC is also an UNSECURED claim against the employer, so it carries credit risk.
Question 73
NQDC differs from a qualified plan in that NQDC:
Select an option first.
Correct answer: B — Is an UNSECURED promise — the employee is a general creditor if the employer fails
Explanation: A QUALIFIED plan's assets are held in TRUST, protected from the employer's creditors. NQDC is an UNSECURED PROMISE — in bankruptcy, the employee is a GENERAL CREDITOR and may recover nothing. That credit risk is the price of the higher deferral limits, and it should be weighed against the employer's financial strength.
Question 74
An ISO exercise creates:
Select an option first.
Correct answer: C — NO regular taxable income, but the BARGAIN ELEMENT is an AMT ADJUSTMENT
Explanation: Exercising an ISO produces NO REGULAR income — but the BARGAIN ELEMENT (FMV less strike) IS an AMT adjustment. This can produce a substantial AMT bill on stock the employee has not sold and cannot sell. It is the classic ISO trap, and it ruined many people in the dot-com crash.
Question 75
The classic ISO disaster occurs when:
Select an option first.
Correct answer: A — The employee exercises, incurs AMT on the bargain element, and the stock then COLLAPSES — leaving a tax bill on phantom income
Explanation: Exercise at $100 with a $10 strike → a $90 AMT adjustment per share. The stock then falls to $5. The employee owes AMT on $90 of income they never received, and holds stock worth almost nothing. The lesson: consider a SAME-DAY SALE (a disqualifying disposition), or exercise early when the spread is small.
Question 76
An 83(b) ELECTION on restricted stock allows the recipient to:
Select an option first.
Correct answer: C — Pay tax NOW on the (low) current value, so ALL future appreciation is CAPITAL GAIN — and it starts the holding period
Explanation: An 83(b) election taxes the stock at its CURRENT (often near-zero) value at GRANT, rather than at its (much higher) value at VESTING. All subsequent appreciation becomes CAPITAL GAIN, and the holding period (and the §1202 clock) STARTS immediately. It must be filed within 30 DAYS of grant.
Question 77
The 83(b) election deadline is:
Select an option first.
Correct answer: B — 30 DAYS from the grant — and it is ABSOLUTE, with no extension available
Explanation: THIRTY DAYS from grant. There is NO extension and NO relief for a late filing. Missing it is irreversible, and it can cost a founder an enormous amount — turning what would have been capital gain into ordinary income at vesting.
Question 78
The RISK of an 83(b) election is that:
Select an option first.
Correct answer: B — If the stock becomes WORTHLESS or the recipient FORFEITS it, the tax paid is NOT REFUNDED
Explanation: An 83(b) election is a BET. If the company fails or the recipient leaves before vesting, the tax already paid is NOT REFUNDED (and no deduction is generally available for the forfeiture). That is why it is a clear win when the value at grant is NEAR ZERO — the bet costs almost nothing.
Question 79
An NQSO exercise produces:
Select an option first.
Correct answer: C — ORDINARY compensation income equal to the BARGAIN ELEMENT — with a matching EMPLOYER deduction
Explanation: An NQSO exercise creates ORDINARY income (subject to withholding) and gives the EMPLOYER a DEDUCTION. Basis becomes FMV at exercise; subsequent appreciation is capital gain. Contrast the ISO: no regular income at exercise, an AMT adjustment, and NO employer deduction on a qualifying disposition.
Question 80
A QUALIFYING ISO disposition requires holding:
Select an option first.
Correct answer: B — 2 YEARS from GRANT and 1 YEAR from EXERCISE — both must be satisfied
Explanation: BOTH: 2 years from GRANT and 1 year from EXERCISE. Satisfy both and the entire gain is LTCG (and the employer gets no deduction). Fail either and it is a DISQUALIFYING disposition: the bargain element becomes ORDINARY income, and the employer DOES get a deduction.
Question 81
A DISQUALIFYING ISO disposition:
Select an option first.
Correct answer: D — Converts the BARGAIN ELEMENT to ORDINARY income — but it also ELIMINATES the AMT problem
Explanation: A DISQUALIFYING disposition (typically a same-day sale) turns the bargain element into ORDINARY income — but it also removes the AMT adjustment and the risk of holding a collapsing stock. Sometimes it is the RIGHT answer: paying ordinary rates on a realised gain beats paying AMT on a phantom one.
Question 82
A SPOUSAL IRA allows a NON-WORKING spouse to:
Select an option first.
Correct answer: C — CONTRIBUTE to an IRA based on the WORKING spouse's earned income
Explanation: A SPOUSAL IRA lets a non-working (or low-earning) spouse contribute based on the COUPLE'S joint earned income, provided they file jointly. It effectively doubles the household's IRA capacity and is routinely overlooked by single-earner households.
Question 83
The SAVER'S CREDIT is available to:
Select an option first.
Correct answer: D — LOW-TO-MODERATE income taxpayers making retirement contributions — a credit ON TOP of the deduction
Explanation: The SAVER'S CREDIT gives low-to-moderate income taxpayers a CREDIT (a percentage of their retirement contribution) IN ADDITION to any deduction. It stacks with the deduction — an unusually generous combination, and one that is heavily underclaimed.
Question 84
A 401(k) LOAN differs from a withdrawal in that a loan:
Select an option first.
Correct answer: B — Is NOT TAXABLE if repaid on schedule — but becomes a TAXABLE DISTRIBUTION (plus penalty) if the borrower leaves and cannot repay
Explanation: A 401(k) LOAN is not a taxable event IF REPAID. The trap: if the employee LEAVES the job, the outstanding balance typically becomes due — and if unpaid, it becomes a TAXABLE DISTRIBUTION with a 10% penalty if under 59.5. Job loss and loan default tend to arrive together.
Question 85
A HARDSHIP WITHDRAWAL from a 401(k) is:
Select an option first.
Correct answer: A — TAXABLE and generally subject to the 10% early withdrawal PENALTY — it is not a loan
Explanation: A HARDSHIP WITHDRAWAL is a real DISTRIBUTION — TAXABLE and generally PENALISED if under 59.5. It is not a loan and is not repaid. It should be a last resort; a 401(k) LOAN (if available) is usually far cheaper, since it is not taxed at all if repaid.
Question 86
The RULE OF 55 permits penalty-free 401(k) withdrawals if the employee:
Select an option first.
Correct answer: D — SEPARATES FROM SERVICE in or after the year they turn 55 — and takes it from THAT employer's plan, NOT an IRA
Explanation: The RULE OF 55: separate from service in or after the year you turn 55, and withdrawals from THAT EMPLOYER'S PLAN are penalty-free. Critically, ROLLING THE MONEY TO AN IRA DESTROYS this — IRAs have no rule of 55. It is a strong argument for leaving the money in the plan if early access is needed.
Question 87
A 72(t) / SEPP election permits penalty-free IRA withdrawals if:
Select an option first.
Correct answer: A — SUBSTANTIALLY EQUAL PERIODIC PAYMENTS are taken for the LONGER of 5 years or until age 59.5 — modification triggers retroactive penalties
Explanation: §72(t) SEPP allows penalty-free early IRA withdrawals — but the payments must continue for the LONGER of 5 YEARS or until 59.5. MODIFYING or STOPPING them triggers the 10% penalty RETROACTIVELY on every prior distribution, plus interest. It is a rigid, unforgiving commitment.
Question 88
The 10% early withdrawal penalty does NOT apply to a distribution for:
Select an option first.
Correct answer: B — Death, disability, qualified education, first-time home purchase (IRA, up to a limit), substantial medical expenses, or a SEPP
Explanation: EXCEPTIONS include: death; disability; qualified higher EDUCATION expenses (IRA); FIRST-TIME HOME purchase (IRA, capped); unreimbursed MEDICAL above the AGI floor; a §72(t) SEPP; an IRS levy; and (for plans) the rule of 55. Note some exceptions apply to IRAs but not plans, and vice versa.
Question 89
A ROTH IRA's 5-YEAR RULE means:
Select an option first.
Correct answer: D — EARNINGS are tax-free only if the account has been open 5 years AND the owner is 59.5+ (or another exception applies)
Explanation: For a QUALIFIED (tax-free) distribution of EARNINGS, BOTH tests must be met: the account must have been open 5 YEARS, AND the owner must be 59.5+ (or disabled, deceased, or a first-time homebuyer). CONTRIBUTIONS may always be withdrawn tax- and penalty-free at any time.
Question 90
A ROTH CONVERSION has its OWN 5-year clock, meaning:
Select an option first.
Correct answer: B — Each CONVERSION must season 5 years before the converted amount can be withdrawn penalty-free (if under 59.5)
Explanation: Each CONVERSION has its OWN 5-year clock for PENALTY purposes (if the owner is under 59.5). Withdrawing a converted amount within 5 years triggers the 10% penalty on it — even though no income tax is due. This catches those converting and then needing the money quickly.
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