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Exam 16: Accounting Periods and Methods

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Question 31

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Brown Corporation had consistently reported its income by the cash method.The corporation should have used the accrual method because inventories are material to the business.In 2012, Brown timely filed a request to change to the accrual method.At the beginning of 2012, Brown had accounts receivable of $90,000.Also, Brown had merchandise on hand with a cost of $120,000 and accounts payable for merchandise of $37,500.The accounts receivable, inventory, and accounts payable balance per books were zero.Determine the adjustment to income due to the change in accounting method and the amount that is allocated to 2012.

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Adjustment due to the change:
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Question 32

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In 2012, Swan Company discovered that it had for the past 10 years capitalized as a production cost certain expenses that are properly classified as administrative expenses. The total amount of the expense for 2011 was $300,000, $60,000 of the item was included in the ending inventory that year and $240,000 was deducted as cost of goods sold.

A) The company should amend its 2011 tax return and reduce its income by $240,000.
B) The company should change its accounting method in 2012, with a $60,000 negative § 481 adjustment which decreases its 2012 taxable income.
C) The company should change its accounting method in 2012, and increase its 2012 income by $60,000, the amount of the positive § 481 adjustment to income.
D) The company should change its accounting method in 2012 and recognize a $60,000 negative § 481 adjustment that will be spread equally over 2012-15.
E) None of the above.

F) A) and D)
G) C) and D)

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Question 33

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A C corporation in the manufacturing business must use a calendar year as its tax year unless the corporation has a business reason for using a tax year that is not a calendar year.

Which of the following statements regarding a 52-53 week tax year is correct?

A cash basis taxpayer sold investment land in 2012 for $200,000.He received $40,000 in the year of sale and $160,000 in 2013.The cost of the land was $80,000.Under the installment method, the taxpayer would report a $24,000 gain in 2012.

A doctor's incorporated medical practice may end the last day of any month of the year.

Which of the following is (are) a taxable disposition of an installment obligation?

In the case of a sale reported under the installment method, no gain is reported until the seller has recovered the entire cost of the property sold.

The buyer and seller have tentatively agreed that the buyer will pay the seller $100,000 (principal and interest) each year for 5 years.The seller's cost of the asset is $200,000, and he will report the capital gain using the installment method.The buyer and seller are now negotiating the interest rate that will be used to compute the interest included in each $100,000 payment.The relevant Federal rate is 5%, but the market rate on similar contracts in the area is 7%.Why would the seller bargain for a 5% interest rate for the contract rather than a 7% interest rate?

The installment method applies where a payment will be received after the tax year of the sale:

The Seagull Partnership has three equal partners.Partner A's tax year ends June 30th, and Partners B and C use a calendar year.If the partnership uses the calendar year to report its income, Partner A is permitted to defer partnership income earned from July through December 2012 until he files his tax return for his year ending June 30, 2013.

The Yellow Equipment Company, an accrual basis C corporation, is a manufacturer's representative and works on a commission basis (15% of sales that it places) and does not carry inventory.In November 2012, Yellow made a sale and collected a commission for $20,000. In June of 2013, the customer had not received the equipment from the manufacturer and canceled the order. As a result, Yellow was required to refund the $20,000 commission to the manufacturer.Yellow's taxable income in 2012 was $70,000, and in 2013 Yellow's taxable income was $25,000 after deducting the refund.The applicable tax rate schedule is 15% on the first $50,000 of income and 25% on income in excess of $50,000.What is the effect of the refund on Yellow's 2013 tax liability?

In regard to choosing a tax year for a business owned by individuals, which form of business provides the greater number of options in regard to the tax year?

Ramon sold land in 2012 with a cost of $80,000 for $200,000.The sales agreement called for a $50,000 down payment and a $50,000 payment plus 8% interest to be received on the first day of each year for the next three years.What would be the consequences of the following (treat each part independently and assume Ramon uses the installment method whenever possible):

Alice, Inc., is an S corporation that has been in business for five years.Its annual gross receipts have never exceeded $1 million. The corporation operates a retail store and also owns rental property.The sales from the retail store and the rental income may be reported by the cash method, unless Alice previously elected the accrual method.

What incentives do the tax accounting rules provide for taxpayers to voluntarily change from an incorrect method of accounting that has reduced the company's tax liability in prior years?

The accrual basis taxpayer sold land for $100,000 on December 31, 2012.He did not collect the $100,000 until January 2, 2013.The land was held as an investment.

In 2012, Norma sold Zinc, Inc., common stock for $100,000 cash and a note receivable for $900,000.The note was due in 2013 with accrued interest at the Federal rate.Norma's basis in the stock was $250,000.This was Norma's only installment sale transaction.Which of the following statements is correct?

Generally, an advantage to using the cash method of accounting, as compared to the accrual method, is that under the cash method income is not recognized until it is collected, rather than being taxed as soon as the taxpayer has the right to collect the income.

Karen, an accrual basis taxpayer, sold goods in December 2012 for $20,000.The customer was unable to pay cash.So the customer gave Karen a note for $20,000 that was payable in April 2013.The note bore interest at the Federal rate.The fair market value of the note at the end of 2012 was $18,000.Karen collected $20,500 from the customer in April 2013, $20,000 principal plus $500 interest. Under the accrual method, Karen must recognize income of: