University of California
Haas School of Business
UGBA 121
Prof. Alan Cerf
Midterm 2 exam, v. A
Fall 2012
Name ______________Q & A_______________________
Date ______________
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For problems 1-3, write answers on exam and show calculations to justify your answers.
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Question I.
10 pts
Rod is employed as an auditor by a CPA firm. On most days, he commutes by auto from his home to the
office (18 miles round trip). During one month, however, he has an extensive audit assignment closer to
home. For this engagement, Rod drives directly from home to the client’s premises and back (30 miles round
trip). How much, if any, of this mileage can Rod claim as a deduction?
(Show calculations.)
ANS:
30 miles for each day of the audit assignment.
Question 2.
(Show calculations for each of three parts.)
25 pts
Virginia had AGI of $100,000 in 2013. She donated Amber Corporation stock with a basis of $9,000 to a
qualified charitable organization on July 5, 2013.
a.
What is the amount of Virginia’s deduction, assuming that she purchased the stock on
December 4, 2012, and the stock had a fair market value of $16,000 when she made the
donation?
b.
Assume the same facts as in a., except that Virginia purchased the stock on July 1, 2003.
c.
Assume the same facts as in a., except that the stock had a fair market value of $5,000
(rather than $16,000) when Virginia donated it to the charity.
ANS:
General discussion. The deduction for a contribution of capital gain property is based on the fair market
value, while the deduction for a contribution of ordinary income property is equal to the lesser of the adjusted
basis or the fair market value.
a.
Because Virginia did not hold the stock for the long-term holding period (December 4,
2012 - July 5, 2013), it is short-term capital gain property that is subject to the rules for
ordinary income property. Therefore, her deduction is limited to $9,000.
b.
Virginia held the stock for the long-term holding period (July 1, 2003 - July 5, 2013);
so it is capital gain property. Therefore, her deduction is equal to the fair market value
of the stock, $16,000.
c.
The deduction for a contribution of loss property (FMV is less than adjusted basis) is
limited to the fair market value. Therefore, Virginia’s deduction is $5,000.
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Question 3.
25 pts.
For calendar year 2013, Jon and Betty Hansen file a joint return reflecting AGI of $280,000. Their itemized
deductions are as follows:
Medical expenses before AGI floor
Casualty loss (not covered by insurance) before statutory floors
Interest on home mortgage
Interest on credit cards
Property taxes on home
Charitable contributions
State income tax
Tax return preparation fees
What is the amount of itemized deductions the Hansens may claim?
$23,000
30,000
10,000
800
13,000
17,000
15,000
1,200
(Show calculations.)
ANS:
For the medical expenses, the taxpayers are allowed $2,000 [$23,000 – (7.5%  $280,000 AGI)]. The
casualty loss must first be reduced by $100 and then by $28,000 (10%  $280,000 AGI). Thus, only $1,900
[$30,000 – $28,100 ($100 + $28,000)] can be deducted. Also, note that the tax return preparation fees are
miscellaneous itemized deductions subject to the 2% floor. The floor of $5,600 (2%  $280,000 AGI)
reduces the $1,200 to $0.
The itemized deductions total $58,900 ($10,000 mortgage interest + $13,000 property tax + $17,000
contributions + $15,000 state income tax + $2,000 medical + $1,900 casualty).
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Question 4.
15 pts.
Joe, who is in the 33% tax bracket in 2012, expects to retire in 2013 and be in the 25% tax bracket. He plans
to donate $50,000 to his church. Because he will not have the cash available until 2013, Joe donates land
(long-term capital gain property) with a basis of $10,000 and fair market value of $50,000 to the church in
December 2012. He reacquires the land for $50,000 in February 2013. Discuss Joe’s tax objectives and all
tax issues related to his actions. (Show calculations.)
ANS:
Joe is attempting to accelerate his charitable contribution deduction into 2013. There are several potential
advantages to accelerating the deduction by donating the land in 2012.







His contribution will be deducted in a tax year when his marginal tax rate is 33% rather than
25%.

He might avoid disallowance of part of the deduction due to AGI percentage limitations
because his contribution base will be higher in 2012 than in 2013.

He can deduct the fair market value of the land without recognizing the $40,000 appreciation
as income.

He can step up his basis in the land from $10,000 to $50,000 when he reacquires it in 2012.
Joe’s plan will generate many favorable outcomes if he does not run afoul of the IRS. While it does not
appear that Joe has done anything that does not comply with the tax law, the IRS might collapse the
transaction; that is, focus on the outcome and ignore the steps involved. The outcome is that Joe has
transferred $50,000 cash to his church. The IRS might disallow the deduction for the land contribution in
2011 and treat the transaction as a cash contribution in 2012. In this case, Joe’s basis for the purchased land
would be $10,000 and his deduction would be at the lower 2012 marginal tax rate.
Question 5.
XX pts.?
John and Jenny decide to give $75,000 to two and the spouses of the two sons.
a) What is the most tax advantaged way to maximize their annual gift tax exclusion?
b) How much is subject to gift tax? (Ignore life time exclusion.)
(Show calculations for each part.)
Answer:
a) Give each son and spouse $26,000.
b) $0.
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Multiple Choice
(Mark answers on Scantron form.)
5 pts each
Section 179 deduction for 2011 cannot exceed maximum limitation of 500,000. If Section 179 investment
exceeds 2 million it is reduced one dollar per dollar exceeding for each dollar of investment over 2
million. Deduction cannot exceed taxpayers taxable income.
1. Tan Company acquires a new machine (ten-year property) on January 15, 2011, at a cost of $200,000.
Tan also acquires another new machine (seven-year property) on November 5, 2011, at a cost of $40,000.
No election is made to use the straight-line method. The company does not make the § 179 election. Tan
elects not to take additional first-year depreciation. Determine the total deductions in calculating taxable
income related to the machines for 2011.
a. $24,000.
b. $25,716.
c. $102,000.
d. $132,858.
e. None of the above.
ANS: B
2. Bonnie purchased a new business asset (five-year property) on March 10, 2011, at a cost of $20,000. She
also purchased a new business asset (seven-year property) on November 20, 2011, at a cost of $13,000.
Bonnie did not elect to expense either of the assets under § 179, nor did she elect straight-line cost
recovery. Bonnie elects not to take additional first-year depreciation. Determine the cost recovery
deduction for 2011 for these assets.
a. $5,858.
b. $7,464.
c. $9,586.
d. $19,429.
e. None of the above.
ANS: A
3. Cora purchased a hotel building on May 17, 2011, for $6,000,000. Determine the cost recovery deduction
a.
b.
c.
d.
e.
for 2012.
$96,300.
$119,040.
$138,000.
$153,840.
None of the above.
ANS: D
4. White Company acquires a new machine (seven-year property) on January 10, 2011, at a cost of
$900,000. White makes the election to expense the maximum amount under § 179. No election is made to
use the straight-line method. White does elect not to take additional first-year depreciation. Determine the
total deductions in calculating taxable income related to the machine for 2011 assuming White has
taxable income of $800,000.
a. $64,000.
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b.
c.
d.
e.
$128,610.
$257,175.
$500,000.
None of the above.
ANS: E
5. Bhaskar purchased a new factory building on September 2, 2011, for $2,000,000. He elected the
alternative depreciation system (ADS). Determine the cost recovery deduction for 2012.
a. $15,000.
b. $18,000.
c. $22,000.
d. $50,000.
e. None of the above.
ANS: D
6. On January 15, 2011, Vern purchased the rights to a mineral interest for $3,500,000. At that time it was
estimated that the recoverable units would be 500,000. During the year, 40,000 units were mined and
25,000 units were sold for $800,000. Vern incurred expenses during 2011 of $500,000. The percentage
depletion rate is 22%. Determine Vern’s depletion deduction for 2011.
a. $150,000.
b. $175,000.
c. $176,000.
d. $200,000.
e. $250,000.
ANS: B
$3,500,000/500,000 = $7 per unit
25,000 units sold  $7 = $175,000 cost depletion
22%  $800,000 = $176,000 percentage depletion
Percentage limit ($800,000 – $500,000)  50% = $150,000
Thus, the deduction is $175,000.
7. Michael is the city sales manager for “Chick-Stick,” a national fast food franchise. Every working day,
Michael drives his car as follows:
Home to office
Office to Chick-Stick No. 1
Chick-Stick No. 1 to No. 2
Chick-Stick No. 2 to No. 3
Chick-Stick No. 3 to home
Miles
20
15
18
13
30
Michael’s deductible mileage is:
a. 76 miles.
b. 46 miles.
c. 30 miles.
d. 0 miles.
e. None of the above.
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ANS: B
8. David, a single taxpayer, took out a mortgage on his home for $300,000 nine years ago. In August of this
year, when the home had a fair market value of $550,000 and he owed $225,000 on the mortgage, he took
out a home equity loan for $350,000. David used the funds to purchase a yacht to be used for recreational
purposes. What is the maximum amount of debt on which he can deduct home equity interest?
a. $50,000.
b. $100,000.
c. $325,000.
d. $350,000.
e. None of the above.
ANS: B
9. Rosie owned stock in Acme Corporation that she donated to a university (a qualified charitable
organization) on September 6, 2011. What is the amount of Rosie’s charitable contribution deduction
assuming that she had purchased the stock for $20,100 on October 22, 2010, and the stock had a value of
$28,200 when she made the donation?
a. $8,100.
b. $20,100.
c. $24,150.
d. $28,200.
e. None of the above.
ANS: B
If ordinary income property is contributed to a qualified charitable organization, the deduction is equal to
the fair market value of the property less the amount of ordinary income that would have been reported if
the property were sold. In most instances, the deduction is limited to the adjusted basis of the property to
the donor. Since she had not held the property long enough to meet the long-term capital gain
requirement (October 22, 2010 - September 6, 2011), Rosie would have recognized a short-term capital
gain of $8,100 if she had sold the property. Since short-term capital gain property is treated as ordinary
income property for charitable contribution purposes, Rosie’s charitable contribution deduction is limited
to the property’s adjusted basis of $20,100.
10. Kenton has investments in two passive activities. Activity A, acquired three years ago, produces income
in the current year of $60,000. Activity B, acquired last year, produces a loss of $110,000 in the current
year. At the beginning of this year, Kenton’s at-risk amounts in Activities A and B are $10,000 and
$120,000, respectively. What is the amount of Kenton’s suspended passive loss with respect to these
activities at the end of the current year?
a. $100,000.
b. $50,000.
c. $40,000.
d. $0.
e. None of the above.
ANS: B
The $60,000 of passive income from Activity A is offset by $60,000 of the passive loss from Activity B,
leaving a net passive loss of $50,000. None of the $50,000 net passive loss is deductible in the current year.
The $50,000 net passive loss is suspended.
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11. Rachel acquired a passive activity several years ago. Until 2008, the activity was profitable, and Rachel’s
at-risk amount at the beginning of 2008 was $300,000. The activity produced losses for Rachel of
$80,000 in 2008, $50,000 in 2009, and $70,000 in 2010. In 2011, the activity produced income of
$90,000. How much is Rachel’s suspended passive loss at the beginning of 2012?
a. $150,000.
b. $110,000.
c. $60,000.
d. $0.
e. None of the above.
ANS: B
12. Maria, who owns a 50% interest in a restaurant, has been a material participant in the restaurant activity
for the last 20 years. She retired from the restaurant at the end of last year and will not participate in the
restaurant activity in the future. However, she continues to be a material participant in a retail store in
which she is a 50% partner. The restaurant operations produce a loss for the current year, and Maria’s
share of the loss is $80,000. Her share of the income from the retail store is $150,000. She does not own
interests in any other activities.
a. Maria cannot deduct the $80,000 loss from the restaurant because she is not a material
participant.
b. Maria can offset the $80,000 loss against the $150,000 of income from the retail store.
c. Maria will not be able to deduct any losses from the restaurant until she has been retired
for at least three years.
d. Assuming Maria continues to hold the interest in the restaurant, she will always treat the
losses as active.
e. None of the above.
ANS: B
Because Maria materially participated in the restaurant activity for at least five of the last ten taxable
years before the current year (Test 5), she is still considered an active participant in the activity.
Therefore, her loss is an active loss that can be offset against her active income from the retail store.
However, in the future after no longer meeting the five-year test, the classification of the losses will
depend on Maria’s level of involvement in the restaurant activity.
13. Roxanne, who is single, has $125,000 of salary, $10,000 of income from a limited partnership, and a
$26,000 passive loss from a real estate rental activity in which she actively participates. Her modified
adjusted gross income is $125,000. Of the $26,000 loss, how much is deductible?
a. $0.
b. $10,000.
c. $25,000.
d. $26,000.
e. None of the above.
ANS: E
$22,500. A loss of $10,000 is deducted against the passive income from the limited partnership interest.
Of the remaining $16,000 real estate rental loss, $12,500 is deducted against Roxanne’s salary because
she actively participates in the activity. The special $25,000 offset for rental real estate is reduced to
$12,500 [$25,000 – 50%($125,000 – $100,000)]. Therefore, of the remaining $16,000 loss, only $12,500
is deducted in the current year.
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After you have finished your exam, please exit the classroom quietly so as not to disturb your classmates.
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