Sample Questions and Answers
If an S-Corporation distributes appreciated property to a shareholder, how is the transaction treated for tax purposes?
A) The transaction is treated as a sale of property by the corporation, and the gain is passed through to the shareholders.
B) The transaction is treated as a taxable event to the shareholder, with the gain recognized on the difference between the distribution and the basis of the property.
C) The distribution is tax-free if the shareholder holds the property for at least one year.
D) The transaction is exempt from tax and only reduces the shareholder’s basis in the S-Corporation.
Answer: B
How does an S-Corporation handle a distribution of cash to a shareholder?
A) The distribution is taxable to the shareholder as ordinary income.
B) The distribution is tax-free as long as it does not exceed the shareholder’s basis in the S-Corporation.
C) The distribution is always taxable, regardless of the shareholder’s basis.
D) The distribution is taxable as a dividend, regardless of the shareholder’s basis.
Answer: B
What is the result of a partnership distributing property that has a liability attached to it to a partner?
A) The partner assumes the liability and adjusts their basis accordingly.
B) The liability is ignored for tax purposes, and the partner’s basis remains unchanged.
C) The partner recognizes a gain to the extent the liability exceeds the partner’s basis.
D) The partner must recognize income equal to the fair market value of the property distributed.
Answer: A
How does a self-employed individual who owns a partnership interest calculate their net earnings for self-employment tax purposes?
A) They only include their salary, not their share of partnership income.
B) They include their share of partnership income, including guaranteed payments for services.
C) They include only their share of the partnership’s capital gains.
D) They do not include any partnership income in their self-employment tax calculation.
Answer: B
What happens if an S-Corporation distributes property to a shareholder that has a liability attached to it?
A) The shareholder is deemed to have received the fair market value of the property minus the liability.
B) The distribution is tax-free and the liability is ignored.
C) The shareholder assumes the liability and adjusts their basis accordingly.
D) The shareholder must recognize income equal to the liability attached to the property.
Answer: C
What is the tax effect when an S-Corporation has built-in gains at the time of a distribution to a shareholder?
A) The distribution is subject to corporate-level tax before being passed through to the shareholders.
B) The distribution is treated as taxable income to the shareholders, but no additional corporate-level tax is imposed.
C) The shareholders pay tax on the built-in gains at the corporate level, and the distribution is tax-free.
D) The distribution is not taxable if the built-in gain is held for more than one year.
Answer: A
What is the tax treatment for guaranteed payments made by a partnership to a partner?
A) Guaranteed payments are treated as distributions and are not subject to self-employment tax.
B) Guaranteed payments are treated as ordinary income to the partner and are subject to self-employment tax.
C) Guaranteed payments are not subject to self-employment tax if the partner is a limited partner.
D) Guaranteed payments are treated as capital gains and are taxed accordingly.
Answer: B
How are distributions from a limited liability company (LLC) taxed when the LLC is treated as a partnership for tax purposes?
A) Distributions are always taxable as income, regardless of the LLC’s profits.
B) Distributions are treated as a return of capital to the extent of the member’s basis in the LLC.
C) Distributions are subject to self-employment tax.
D) Distributions are taxed at the corporate level before being passed to the members.
Answer: B
When does a partner’s basis in their partnership interest decrease?
A) When the partnership earns income.
B) When the partner receives a distribution from the partnership.
C) When the partner assumes additional liabilities.
D) When the partnership acquires new assets.
Answer: B
What is the effect of an S-Corporation making a distribution of cash to a shareholder?
A) The distribution is treated as income to the shareholder and is subject to tax.
B) The distribution reduces the shareholder’s basis in the S-Corporation.
C) The distribution is treated as a capital gain to the shareholder.
D) The distribution is tax-free and does not affect the shareholder’s basis.
Answer: B
If a partnership distributes property with a fair market value greater than the partner’s basis in the partnership interest, how is the distribution treated?
A) The partner recognizes income equal to the excess of the fair market value over the basis in the partnership interest.
B) The partner recognizes capital gain on the distribution.
C) The partner does not recognize any income or gain.
D) The partner recognizes ordinary income on the difference between the fair market value and the basis.
Answer: B
How does an S-Corporation shareholder’s basis in the corporation change after receiving a distribution?
A) The shareholder’s basis increases by the amount of the distribution.
B) The shareholder’s basis remains unchanged unless the distribution exceeds the basis.
C) The shareholder’s basis decreases by the amount of the distribution.
D) The shareholder’s basis is adjusted based on the corporation’s earnings.
Answer: C
How does a partner’s basis in a partnership interest change when the partnership incurs a new liability?
A) The partner’s basis increases by their share of the liability.
B) The partner’s basis decreases by their share of the liability.
C) The partner’s basis is unaffected by changes in partnership liabilities.
D) The partner must recognize income equal to their share of the liability.
Answer: A
What happens when an S-Corporation makes a non-liquidating distribution to a shareholder?
A) The distribution is taxable to the shareholder as a dividend.
B) The distribution reduces the shareholder’s basis in their stock and is not taxable unless it exceeds the shareholder’s basis.
C) The distribution is taxable to the shareholder as ordinary income.
D) The distribution is treated as a capital gain, regardless of the shareholder’s basis.
Answer: B
When a partner contributes property subject to a liability to a partnership, how is the liability treated for tax purposes?
A) The liability is ignored for basis purposes.
B) The partner’s basis is reduced by the liability amount, and they may recognize gain.
C) The liability is considered a loan from the partnership to the partner.
D) The liability is treated as an increase in the partner’s basis in the partnership interest.
Answer: B
What is the primary characteristic of a pass-through entity?
A) It is taxed at the entity level, and its income is then passed to shareholders.
B) Its income is not subject to taxation at the entity level, but is passed directly to its owners.
C) The owners of the pass-through entity are subject to self-employment tax.
D) The entity’s income is taxed at a flat rate, regardless of the owner’s tax bracket.
Answer: B
What happens when a partnership makes a distribution of property to a partner in a non-liquidating situation?
A) The partner must recognize gain to the extent that the fair market value of the property exceeds their basis in the partnership interest.
B) The partner recognizes no gain or loss on the distribution of property.
C) The partnership recognizes gain or loss, and the partner is taxed on the entire amount.
D) The distribution is treated as a capital gain transaction.
Answer: A
How are guaranteed payments made to a partner in a partnership taxed?
A) Guaranteed payments are treated as dividends.
B) Guaranteed payments are considered taxable income and are subject to self-employment tax if the partner provides services.
C) Guaranteed payments are tax-exempt income to the partner.
D) Guaranteed payments are treated as a return of capital and are not taxable.
Answer: B
If a limited liability company (LLC) has elected to be taxed as an S-Corporation, how are distributions treated for tax purposes?
A) Distributions are taxed as ordinary income to the shareholders.
B) Distributions are tax-free to the extent of the shareholder’s basis in the LLC.
C) Distributions are subject to self-employment tax.
D) Distributions are taxed at the corporate rate, and then at the shareholder level.
Answer: B
When a partner’s interest in a partnership is sold, what is the tax treatment of the sale?
A) The sale is treated as a sale of capital assets, subject to capital gains tax.
B) The sale is treated as ordinary income, and the partner must recognize gain based on their original contribution.
C) The sale is treated as a dividend and taxed accordingly.
D) The sale is not taxable if the partnership continues operations after the sale.
Answer: A
What is the effect of a partnership’s operating agreement on the allocation of profits and losses among the partners?
A) The operating agreement determines the allocation of profits and losses, regardless of each partner’s ownership percentage.
B) The operating agreement must allocate profits and losses equally among all partners.
C) The operating agreement cannot alter the default allocation prescribed by tax law.
D) The operating agreement cannot affect how income is allocated, but it can determine when distributions are made.
Answer: A
How does the IRS treat the loss on a partnership distribution of property to a partner?
A) The loss is immediately recognized if the fair market value of the property is less than the partner’s basis.
B) The loss is not recognized unless the property is later sold by the partner.
C) The loss is deducted on the partner’s personal tax return.
D) The loss is not recognized at the entity level, but the partner may recognize it later upon disposition of the property.
Answer: B
What is the general tax treatment of distributions from a partnership to its partners?
A) Distributions are taxed as ordinary income, regardless of the nature of the distribution.
B) Distributions of property are not taxable unless the property exceeds the partner’s basis.
C) Distributions are taxable as dividends.
D) Distributions are always tax-free.
Answer: B
What happens if a partnership distributes property that is subject to debt to a partner?
A) The partner must include the debt as income equal to the fair market value of the property.
B) The partner’s basis in the property is reduced by the amount of the debt attached to it.
C) The partner assumes the debt and adjusts their basis accordingly.
D) The distribution is taxable only if the property is sold at a later date.
Answer: C
How does a partner calculate the amount of income subject to self-employment tax?
A) Only income from capital gains is subject to self-employment tax.
B) Income derived from guaranteed payments and the partner’s share of ordinary income is subject to self-employment tax.
C) Only guaranteed payments are subject to self-employment tax.
D) All distributions from a partnership are subject to self-employment tax.
Answer: B
What happens to a partner’s basis when they contribute property subject to a liability to the partnership?
A) The partner’s basis is reduced by the amount of the liability.
B) The partner’s basis remains unaffected by the liability.
C) The liability is considered a contribution of capital, and the basis is increased.
D) The partner’s basis is increased by the amount of the liability.
Answer: A
How is a non-liquidating distribution from an S-Corporation treated for tax purposes?
A) The distribution is subject to income tax only if it exceeds the shareholder’s basis in the stock.
B) The distribution is always taxable as a dividend.
C) The distribution is not taxable as long as the corporation has sufficient income to cover the distribution.
D) The distribution is subject to corporate tax before being passed through to the shareholders.
Answer: A
What is the consequence if an S-Corporation has a passive investment income that exceeds 25% of its gross receipts for three consecutive years?
A) The S-Corporation will be disqualified from S-Corporation status.
B) The S-Corporation must pay a tax on the passive investment income.
C) The S-Corporation must make additional distributions to shareholders.
D) The S-Corporation will not be taxed on passive income if it is distributed to shareholders.
Answer: A
How are distributions to limited partners typically treated for tax purposes?
A) Distributions to limited partners are always taxable as ordinary income.
B) Distributions to limited partners are treated as a return of capital, reducing their basis in the partnership interest.
C) Distributions to limited partners are subject to self-employment tax.
D) Distributions to limited partners are subject to both income tax and self-employment tax.
Answer: B
What happens if an S-Corporation distributes property that has appreciated in value to a shareholder?
A) The S-Corporation recognizes gain on the distribution, and the shareholder recognizes gain on the difference between the fair market value and their basis in the property.
B) The shareholder recognizes gain on the distribution, and the S-Corporation does not recognize gain.
C) The distribution is tax-free, and no gain is recognized by either party.
D) The S-Corporation is not allowed to distribute appreciated property.
Answer: A
How is a partner’s share of a partnership’s liabilities treated in calculating their basis in the partnership?
A) A partner’s basis is unaffected by the partnership’s liabilities.
B) A partner’s basis increases by their share of the partnership’s liabilities.
C) A partner’s basis is reduced by their share of the partnership’s liabilities.
D) A partner’s basis is determined by the total amount of liabilities assumed by the partnership.
Answer: B
When does a partner recognize gain on a distribution from a partnership?
A) When the partner receives a distribution that exceeds their basis in the partnership.
B) When the distribution is less than the partner’s basis in the partnership.
C) When the partnership distributes cash or property to the partner.
D) When the partnership incurs a new liability.
Answer: A
If a partnership sells a property for more than its basis, what is the tax treatment of the gain?
A) The gain is passed through to the partners and is taxed at the individual level.
B) The gain is taxed at the partnership level before being passed through to the partners.
C) The gain is not taxable unless the property is sold to an unrelated third party.
D) The gain is taxed as a capital gain at the entity level.
Answer: A
How does the IRS treat the distribution of property with a liability attached to it in a partnership?
A) The partner assumes the liability, and their basis is adjusted accordingly.
B) The partner must recognize gain to the extent the liability exceeds their basis in the partnership.
C) The partnership must recognize income equal to the liability attached to the property.
D) The partner does not assume the liability and must reduce their basis by the fair market value of the property.
Answer: A
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