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Free Questions › CPA › Taxation and Regulation
Free CPA Taxation and Regulation Practice Questions & Answers
500 exam-style Taxation and Regulation questions. Pick your answer, hit Check answer, and see the worked solution — free to start, no signup.
100% free · No login to startQuestion 121
The dividends-received deduction for a corporation owning LESS THAN 20% of the payor is:
Select an option first.
Correct answer: B — 50%
Explanation: DRD tiers: under 20% ownership → 50%; 20% to under 80% → 65%; 80% or more (affiliated) → 100%. The DRD prevents triple taxation as income passes through a chain of corporations. It is a PERMANENT difference and creates no deferred tax.
Question 122
A corporation's charitable contribution deduction is limited to:
Select an option first.
Correct answer: D — 10% of taxable income (computed before the charitable deduction, DRD and certain other items)
Explanation: A CORPORATION'S charitable deduction is capped at 10% of taxable income (computed before the charitable contribution itself, the DRD, and any NOL carryback). The excess carries forward 5 years. (INDIVIDUALS use AGI-based percentages: 60% for cash to public charities.)
Question 123
A corporation's net capital LOSSES:
Select an option first.
Correct answer: A — May offset ONLY capital gains — carried back 3 years and forward 5 years
Explanation: A CORPORATION may deduct capital losses ONLY against capital GAINS — never against ordinary income. Unused losses carry BACK 3 years and FORWARD 5 years, and they carry over as SHORT-TERM regardless of their original character. Contrast INDIVIDUALS, who may deduct $3,000 per year against ordinary income with an indefinite carryforward.
Question 124
Post-2017 net operating losses:
Select an option first.
Correct answer: A — Carry forward INDEFINITELY, with the deduction limited to 80% of taxable income
Explanation: Post-2017 NOLs: NO carryback, INDEFINITE carryforward, and the deduction is LIMITED TO 80% of taxable income in the year used. Pre-2018 NOLs had a 2-year carryback and 20-year carryforward with NO 80% cap. The NOL's vintage determines the rules.
Question 125
The accumulated earnings tax (§531) is imposed at:
Select an option first.
Correct answer: A — 20% on accumulated taxable income
Explanation: The ACCUMULATED EARNINGS TAX is 20% of accumulated taxable income. It is a PENALTY tax on C corporations that hoard earnings beyond the reasonable needs of the business, to avoid shareholder-level dividend tax. The IRS bears the BURDEN OF PROOF, and there is a lifetime accumulated earnings credit.
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Question 126
The Personal Holding Company tax requires BOTH:
Select an option first.
Correct answer: C — A stock test and an income test
Explanation: PHC tax requires BOTH tests: (1) the STOCK test — 5 or fewer individuals own more than 50% of the value in the last half of the year; AND (2) the INCOME test — PHC income (dividends, interest, rents, royalties) is at least 60% of adjusted ordinary gross income. Unlike the AET, the PHC tax is SELF-ASSESSED.
Question 127
Schedule M-1 reconciles:
Select an option first.
Correct answer: B — Book income to TAXABLE income
Explanation: Schedule M-1 reconciles BOOK (financial statement) income to TAXABLE income, showing the permanent and temporary differences. Schedule M-3 is a more detailed version, required when total assets are $10 million or more.
Question 128
A partnership itself:
Select an option first.
Correct answer: B — Does NOT pay federal income tax — it is a PASS-THROUGH entity; partners report their distributive shares
Explanation: A partnership is a PASS-THROUGH: it files an INFORMATION return (Form 1065) and issues Schedule K-1s, but pays NO federal income tax itself. Each partner reports their DISTRIBUTIVE SHARE — whether or not it is actually distributed.
Question 129
A partner's distributive share is taxed:
Select an option first.
Correct answer: B — WHETHER OR NOT it is actually distributed
Explanation: A partner is taxed on their DISTRIBUTIVE SHARE regardless of whether cash is actually distributed. This creates 'phantom income' — a tax bill without the cash to pay it — which is why partnership agreements often mandate tax distributions.
Question 130
A CURRENT distribution from a partnership is generally:
Select an option first.
Correct answer: C — NONTAXABLE to the extent of the partner's outside basis; cash in EXCESS of basis produces CAPITAL GAIN
Explanation: A CURRENT distribution is nontaxable up to the partner's OUTSIDE BASIS, reducing that basis. CASH received in excess of basis produces a CAPITAL GAIN. NO LOSS is ever recognised on a CURRENT distribution — losses arise only on LIQUIDATING distributions.
Question 131
In a partnership distribution, basis is reduced FIRST by:
Select an option first.
Correct answer: D — CASH
Explanation: CASH always reduces basis FIRST. Then PROPERTY takes a carryover basis, capped at the partner's REMAINING outside basis. This ordering matters, because it determines whether the cash exceeds basis (triggering gain) and how much basis remains to absorb distributed property.
Question 132
An S corporation's AAA (accumulated adjustments account) tracks:
Select an option first.
Correct answer: D — POST-election income, net of losses — used to determine the taxability of distributions
Explanation: AAA is a CORPORATE-LEVEL account tracking cumulative POST-S-ELECTION income, net of losses and distributions. Distributions from AAA are TAX-FREE (reducing stock basis). AAA matters only when the corporation ALSO has accumulated E&P from a prior C corporation life.
Question 133
An S corporation with NO accumulated E&P makes a distribution. It is:
Select an option first.
Correct answer: B — TAX-FREE to the extent of stock basis; the excess is CAPITAL GAIN
Explanation: With NO AE&P, the analysis is simple: the distribution is TAX-FREE to the extent of stock BASIS (reducing it), and any EXCESS is a CAPITAL GAIN. AE&P exists only if the corporation was ONCE a C corporation — a company that has always been an S corp has none.
Question 134
Built-in gains tax applies to:
Select an option first.
Correct answer: C — A C corporation that CONVERTS to an S corporation and sells appreciated assets within the 5-year recognition period
Explanation: The BUILT-IN GAINS tax (21%) applies only to a corporation that CONVERTED from C to S status and disposes of assets that were appreciated at the conversion date, within the 5-YEAR recognition period. Holding the asset past year 5 eliminates the tax entirely — the planning strategy is simply patience.
Question 135
The QBI deduction under §199A is:
Select an option first.
Correct answer: A — A deduction of up to 20% of qualified business income, available to PASS-THROUGHS but NOT to C corporations
Explanation: §199A permits a deduction of up to 20% of QUALIFIED BUSINESS INCOME from pass-through entities (sole proprietorships, partnerships, S corporations). C CORPORATIONS do NOT qualify — they already enjoy the 21% rate. The deduction is taken BELOW the line and does NOT reduce AGI.
Question 136
An SSTB (specified service trade or business) includes:
Select an option first.
Correct answer: D — Law, health, accounting, consulting, athletics and financial services
Explanation: SSTBs include health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage, and any business whose principal asset is the REPUTATION OR SKILL of its employees or owners. Above the upper income threshold, an SSTB owner loses the QBI deduction ENTIRELY. Engineering and architecture are notably EXCLUDED from the SSTB list.
Question 137
A partnership's 'inside basis' refers to:
Select an option first.
Correct answer: B — The PARTNERSHIP'S basis in its ASSETS
Explanation: INSIDE basis = the partnership's basis in its ASSETS. OUTSIDE basis = the partner's basis in the partnership INTEREST. They start EQUAL on a contribution but DIVERGE over time — notably when an interest is sold or a partner dies. A §754 election exists to realign them.
Question 138
A §754 election allows the partnership to:
Select an option first.
Correct answer: A — ADJUST the INSIDE basis of its assets following a transfer of an interest or a distribution
Explanation: A §754 election permits the partnership to ADJUST INSIDE basis: §743(b) after a SALE or TRANSFER of a partnership interest (including at death), and §734(b) after a DISTRIBUTION. It aligns inside basis with the new outside basis. Once made, the election is BINDING for all future years.
Question 139
Guaranteed payments to a partner are:
Select an option first.
Correct answer: B — Payments for services or capital determined WITHOUT REGARD to partnership income — deductible by the partnership and ORDINARY income to the partner
Explanation: GUARANTEED PAYMENTS are determined WITHOUT regard to partnership income (a fixed salary-like amount). They are DEDUCTIBLE by the partnership and are ORDINARY income to the receiving partner — and they are subject to SELF-EMPLOYMENT tax. They do NOT reduce the partner's basis as a distribution would.
Question 140
A corporation's E&P (earnings and profits) measures:
Select an option first.
Correct answer: B — The corporation's ECONOMIC ability to pay a dividend
Explanation: E&P measures the corporation's ECONOMIC dividend-paying capacity. It starts with taxable income and is adjusted: ADD tax-exempt interest and life insurance proceeds; SUBTRACT federal income tax and non-deductible expenses. That is why tax-exempt interest is ADDED — it is not taxable, but it IS cash available to distribute.
Question 141
A corporate distribution is a taxable DIVIDEND to the extent of:
Select an option first.
Correct answer: A — The corporation's EARNINGS AND PROFITS (current, then accumulated)
Explanation: A distribution is a DIVIDEND to the extent of E&P (current first, then accumulated). Beyond E&P, it is a TAX-FREE RETURN OF CAPITAL reducing stock basis. Once basis reaches zero, any further amount is a CAPITAL GAIN. Three tiers, in that order.
Question 142
Corporations must make estimated tax payments to avoid penalty by paying:
Select an option first.
Correct answer: D — 100% of the prior year OR 100% of the current year — with NO 110% step-up for large corporations
Explanation: Corporations must pay the LESSER of 100% of the CURRENT year's tax or 100% of the PRIOR year's tax. Unlike individuals, there is NO 110% requirement for high-income filers — but LARGE corporations (taxable income of $1 million or more in any of the 3 preceding years) generally cannot use the prior-year safe harbour except for the first instalment.
Question 143
The §1244 small business stock provision allows a shareholder to treat a loss as:
Select an option first.
Correct answer: B — An ORDINARY loss, up to $50,000 ($100,000 MFJ) per year
Explanation: §1244 converts what would otherwise be a CAPITAL loss into an ORDINARY loss — up to $50,000 per year ($100,000 MFJ). This is enormously valuable, because ordinary losses offset ordinary income without the $3,000 capital loss cap. The shareholder must be the ORIGINAL holder of the stock.
Question 144
Boot received in a §351 exchange triggers gain recognition of:
Select an option first.
Correct answer: A — The LESSER of the realised gain or the boot received
Explanation: Gain recognised = the LESSER of REALISED GAIN or BOOT received. LOSS is NEVER recognised in a §351 exchange. The shareholder's stock basis = adjusted basis of property transferred − boot received + gain recognised.
Question 145
Stock received for SERVICES in a §351 transaction:
Select an option first.
Correct answer: D — Does NOT count toward control, and the recipient recognises ORDINARY INCOME equal to the stock's FMV
Explanation: Stock issued for SERVICES is NOT counted toward the 80% CONTROL test, and the service provider recognises ORDINARY INCOME equal to the FMV of the stock received. The corporation gets a corresponding deduction (or capitalises it). This is a two-part trap in one fact pattern.
Question 146
Liabilities assumed by the corporation in a §351 exchange are treated as boot:
Select an option first.
Correct answer: D — ONLY if there is a tax-avoidance purpose, OR the liabilities EXCEED the basis of the property transferred
Explanation: Liabilities assumed are generally NOT boot. Two exceptions: (a) there is no bona fide business purpose or a tax-AVOIDANCE purpose; or (b) the LIABILITIES EXCEED the ADJUSTED BASIS of the property transferred — in which case the EXCESS is GAIN.
Question 147
A C corporation's dividend is taxed:
Select an option first.
Correct answer: D — TWICE — once at the corporate level (21%) and again at the shareholder level
Explanation: DOUBLE TAXATION is the defining feature of a C corporation: earnings are taxed at 21% at the corporate level, and again when distributed as a dividend to shareholders (at qualified dividend rates). PASS-THROUGH entities avoid the entity-level layer entirely.
Question 148
A QUALIFIED dividend is taxed at:
Select an option first.
Correct answer: D — The preferential LONG-TERM CAPITAL GAIN rates (0%/15%/20%), subject to a holding period requirement
Explanation: QUALIFIED dividends are taxed at the LTCG rates. Requirements: paid by a US or qualified foreign corporation, and the shareholder must satisfy a HOLDING PERIOD (generally more than 60 days during a 121-day window around the ex-dividend date). NON-qualified dividends are taxed at ordinary rates.
Question 149
An S election is made by filing:
Select an option first.
Correct answer: A — Form 2553, with the consent of ALL shareholders
Explanation: The S election is made on FORM 2553 and requires the consent of ALL shareholders. To be effective for the CURRENT year, it must be filed by the 15th day of the 3rd month of that year; filed later, it takes effect the FOLLOWING year.
Question 150
An S corporation election TERMINATES if:
Select an option first.
Correct answer: B — The corporation ceases to qualify (e.g. exceeds 100 shareholders, issues a second class of stock, or admits an ineligible shareholder)
Explanation: The election terminates automatically if the corporation ceases to MEET the eligibility requirements — exceeding 100 shareholders, creating a second class of stock, or admitting an ineligible shareholder (a corporation, partnership or non-resident alien). It also terminates by REVOCATION (holders of more than 50% consenting), or on excess PASSIVE INVESTMENT INCOME for 3 consecutive years where AE&P exists.
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