Today’s question: REG

Seymour Thomas named his wife Penelope the beneficiary of a $100,000 (face amount) insurance policy on his life. The policy
provided that upon his death, the proceeds would be paid to Penelope with interest over her present life expectancy, which was
calculated at 25 years. Seymour died on January 1 of this year and Penelope received a payment of $5,200 from the insurance
company. What amount should she include in her gross income for the year?
A)   $200
B)   $1,200
C)   $4,200
D)   $5,200
Correct Answer: B

Explanation: A lump sum distribution of life insurance is generally not included as gross income. However, when the proceeds are
not being paid out immediately, but are paid over a 25 year period, there is an element of interest that must be recognized. The
non-taxable recovery is determined on a straight-line basis. $100,000 divided by 25 years for a non-taxable recovery of $4,000 per
year.

Receipt of payment: 5,200

Excluded portion: -4,000
Taxable portion: $1,200

Which of the following is a step in an auditor's decision to assess control risk at below the maximum?
A)   Apply analytical procedures to both financial data and nonfinancial information to detect conditions that may indicate weak
controls.
B)   Perform tests of details of transactions and account balances to identify potential errors and irregularities.
C)   Identify specific internal control policies and procedures that are likely to detect or prevent material misstatements.
D)   Document that the additional audit effort to perform tests of controls exceeds the potential reduction in substantive testing.

Correct Answer: C

Explanation: AU 319 states that the auditor may make a preliminary assessment of control risk at less than a high level only when
the auditor:

• Is able to identify policies and procedures of the accounting and internal control systems relevant to specific assertions which are
likely to prevent or detect material misstatements in the financial statement.
• Plans to perform tests of control to support the assessment.

Analytical procedures or tests of reasonableness test amounts of financial data.

Tests of details are performed as a substantive test to determine material mistakes in the financial statements.

If the audit effort of performing tests of controls exceeds the potential reduction in substantive testing, tests of controls will not be
performed because doing so would reduce audit efficiency.

The element of the audit planning process most likely to be agreed upon with the client before implementation of the audit strategy
is the determination of the:
A)   Evidence to be gathered to provide a sufficient basis for the auditor's opinion
B)   Procedures to be undertaken to discover litigation, claims, and assessments
C)   Pending legal matters to be included in the inquiry of the client's attorney
D)   Timing of inventory observation procedures to be performed
Correct Answer: D

Explanation: The client is responsible for counting inventory and the auditor is responsible for observing the client's count. Since the
timing of the observation depends on the timing of the count, there must be agreement between the auditor and client regarding
the inventory observation procedures before the auditor finalizes an audit strategy for inventory.

The incorrect answer choices are evidence-gathering issues that are decided by the auditor without specific regard to timing and
other client concerns. Independently of the client, the auditor determines the extent of evidence needed in the audit, the nature of
procedures to follow in the audit, and the scope of issues to be addressed in a legal letter
Today’s question: FAR
Compared to historical cost income from continuing operations, which of the following conditions increases Pollard's current cost
income from continuing operations?
A)   Current cost of equipment is greater than historical cost.
B)   Current cost of land is greater than historical cost.
C)   Current cost of cost of goods sold is less than historical cost.
D)   Ending net monetary assets are less than beginning net monetary assets.
Correct Answer: C

Explanation: Holding gains for equipment and land are not part of income from continuing operations. The reduction in cost of
goods sold is reflected in income from continuing operations and is not applicable for current cost measurement.
Today’s question: FAR
Deecee Co. adjusted its historical cost income statement by applying specific price indexes to its depreciation expense and cost of
goods sold. Deecee's adjusted income statement is prepared according to:
A)   Fair value accounting
B)   General purchasing power accounting
C)   Current cost accounting
D)   Current cost/general purchasing power accounting

Correct Answer: C

Explanation: FASB # 89 suggests that income from operations be reported on a current cost basis. The adjustment of depreciation
expense and cost of goods sold to a current cost basis may be made by using current cost, exit value, capitalization of net cash flows,
or by applying specific indexes to the historical cost. Specific price indexes are indexes compiled specifically for inventory or for plant
and equipment. Specific indexes should not be confused with a general index such as the CPI-Urban which is normally used to adjust
historical cost for the change in price level.

"Fair value accounting" is incorrect because current cost of goods would not be the same as fair value (selling price).
"General purchasing power accounting" and "Current cost/general purchasing power accounting" are incorrect because both deal
with the calculation of purchasing power.
Today’s question: BEC
A parent corporation owned more than 90% of each class of the outstanding stock issued by a subsidiary corporation and decided to
merge that subsidiary into itself. Under the Revised Model Business Corporation Act, which of the following actions must be taken?
A)   The subsidiary corporation's board of directors must pass a merger resolution.
B)   The subsidiary corporation's dissenting stockholders must be given an appraisal remedy.
C)   The parent corporation's stockholders must approve the merger.
D)   The parent corporation's dissenting stockholders must be given an appraisal remedy.
Correct Answer: B

Explanation: When a corporation owns 90% or more of the shares of a subsidiary corporation, the subsidiary may be merged into
the parent corporation without the approval of the stockholders of either the parent corporation or the subsidiary corporation and
without the approval of the subsidiary corporation's board of directors. This is called a short-form merger. In a short-form merger
stockholders of the subsidiary corporation have dissenters' rights, but the stockholders of the parent corporation do not.
Today’s question: AUD
Which of the following procedures is least likely to be performed before the balance sheet date?
A)   Testing of internal control over cash
B)   Confirmation of receivables
C)   Search for unrecorded liabilities
D)   Observation of inventory

Correct Answer: C

Explanation: The auditor is concerned with unrecorded liabilities as of the balance sheet date (completeness assertion), thus audit
procedures performed to identify unrecorded liabilities before the balance sheet date would be meaningless. Accounts receivable
may be confirmed prior to the balance sheet date if the auditor concludes internal controls surrounding accounts receivable are
effective. Inventory counts may be observed prior to year if the client maintains perpetual inventory records and the controls
surrounding those records are effective.

Today’s question: REG

Nelson Harris had an adjusted gross income of $60,000. During the year his personal summer home was completely destroyed by a
cyclone. Pertinent data with respect to the home follows:

Cost basis = $39,000

Value before casualty = $45,000
Value after casualty = $3,000

Harris was partially insured for his loss and he received a $15,000 insurance settlement. What is Harris' allowable casualty loss
deduction?
A)   $17,900
B)   $17,500
C)   $26,500
D)   $27,000
Correct Answer: A

Explanation: The personal casualty loss deduction is determined taking the lessor of decrease in the FMV of the property or its basis;
less the insurance reimbursement; subject to a $100 floor; and then subject to 10% of the taxpayer's adjusted gross income. The
decrease in fair market value was $42,000 ($45,000 down to $3,000) and the cost basis was $39,000. Therefore, using the cost basis,
the computations are:

Cost basis of house: $39,000

Less reimbursement: -15,000
Loss by taxpayer: 24,000
Less: $100 floor: -100
Less: AGI limitation ($60,000 x 10%): -6,000
Allowable casualty loss: $17,900

Today’s question: BEC

Which of these statements is true in the long run about equilibrium price in competitive product markets?
A)   It will be a fair price all consumers can afford.
B)   It will be set equal to the total costs of production.
C)   It will be set equal to the total fixed costs of production.
D)   It will be set equal to the marginal costs of production
Correct Answer: D

Explanation: In a competitive market, the forces of

demand and supply will, in the long run, cause price to
equal marginal cost. If price is higher than marginal
cost, additional production will be forthcoming. If price
is lower than marginal cost, producers will quit
producing. A competitive market cannot assure a fair
price that all consumers can afford.

The disposable income of the consumers dictates whether

or not they can afford the product at the equilibrium
price. Some will be able to afford it and some will not.
A price set equal to the total cost of production fails
to recognize that the total cost should be divided by the
number of units produced. A price set equal to the total
fixed cost of production fails to recognize that the
total fixed cost should be divided by the total number of
units produced. Even then, the variable costs per unit
would be ignored.

Today’s question: AUD

 
A written client representation letter most likely would be an auditor's best source of corroborative information of a client's plans to:
 
A)     Terminate an employee pension plan.
 
B)     Make a public offering of its common stock.
 
C)     Settle an outstanding lawsuit for an amount less than the accrued loss contingency.
 
D) Discontinue a line of business.

Correct Answer: D

Explanation: In some cases, the corroborating information that can be obtained by the application of auditing procedures other than
inquiry is limited. When a client plans to discontinue a line of business, for example, the auditor may not be able to obtain
information through other auditing procedures to corroborate the plan or intent. Accordingly, the auditor should obtain a written
representation to provide confirmation of management's intent. The client's plans included in the other answers, in comparison to
the plans to discontinue a line of business, could be more readily corroborated by other evidence.

Today’s question: REG

The Simone Trust reported distributable net income of $120,000 for the current year. The trustee is required to distribute $60,000
to Kent and $90,000 to Lind each year. If the trustee distributes these amounts, what amount is includible in Lind's gross income?
A)   $0
B)   $60,000
C)   $72,000
D)   $90,000

Correct Answer: C

Explanation: When the distributable net income has been determined ($120,000) and the distribution is greater than the DNI, then
in order to determine the taxable income to include in the beneficiary's income, you must pro-rate the distribution. Since Lind
received 60% of the distribution, then 60% of the $120,000, or $72,000 is included as taxable income.
Today’s question: REG

Nash and Ford are partners in a calendar year partnership and share profits and losses equally. For the current year, the partnership
had book income of $80,000 which included the following deductions:

Guaranteed salaries to partners:

Nash = $35,000
Ford = $25,000
Contributions = $5,000

What amount should be reported as ordinary income on the partnership return?

A) $80,000

B) $85,000

C) $140,000

D) $145,000
Correct Answer: B

Explanation: Book income should include the deductions for guaranteed payments and contributions. However, for the computation
of ordinary income, only guaranteed payments are allowed. The contributions represent a separately stated item and are not
deductible in computing ordinary income.

Income per books: $80,000

Add back contributions: $5,000
Ordinary income: $85,000
Today’s question: REG
This taxable year, Trapp, Inc., had $400,000 of gross profit from operations and $160,000 of dividends from Von Corporation in
which Trapp had a 25% ownership interest. Trapp's operating expenses totaled $410,000. What is Trapp's dividends received
deduction?
A)   $80,000
B)   $128,000
C)   $136,000
D)   $120,000
Correct Answer: D

Explanation: The lesser of 80% of the (1) dividends received or (2) taxable income is used. As taxable income ($150,000) before the
dividends received deduction is less than dividends received, the $120,000 is the DRD for this year. (Note: Using the $128,000 will
not cause a net operating loss.)

Today’s question: REG

On March 7, 2008, Wax Corp. contracted with Noll Wholesalers to supply Noll with specific electrical parts. Delivery was called for on
June 3, 2008. On May 2, 2008, Wax notified Noll that it would not perform and that Noll should look elsewhere. Wax had received a
larger and more lucrative contract on April 21, 2008, and its capacity was such that it could not fulfill both orders. The facts
_________________

A) will prevent Wax from retracting its repudiation of the Noll contract.

B) are not sufficient to clearly establish an anticipatory repudiation.

C) will permit Noll to sue only after June 3, 2008, the latest performance date.

D) will permit Noll to sue immediately after May 2, 2008, even though the performance called for under the contract was not due
until June 3, 2008.
Correct Answer: D

Explanation: An anticipatory repudiation occurs when one side states they will not perform before the time of performance. The
injured party can sue immediately or wait until the time of performance and then sue. Wax told Noll prior to the time of
performance that Wax would not perform. Thus, Noll can sue immediately and need not wait until June 3. Wax may retract its
repudiation as long as Noll hasn't canceled the contract or materially changed position.
Today’s question: FAR

On November 1, 2009, Davis Co. discounted with recourse at 10% a one-year, noninterest bearing, $20,500 note receivable maturing
on January 31, 2010. What amount of contingent liability for this note must Davis disclose in its financial statements for the year
ended December 31, 2009?

A) $0

B) $20,000

C) $20,333

D) $20,500

Correct Answer: D

Explanation: A note discounted with recourse creates a contingent liability for the face of the note plus any interest due on the note.
Since this note is a noninterest bearing note, the contingent liability disclosed in the financial statements would be $20,500.

71% (15 out of 21 correct) Responses to questions are indicated by the symbol.

1. The balance sheet is sometimes referred to as the Statement of Financial Position.

True
A.
False
B.

A balance sheet reports on the financial position of a business enterprise.

2. Solvency refers to the amount of time that is expected to elapse until a liability has to be paid.
True
A.
B. False

Solvency refers to the ability to pay debts as they mature.

3. Current assets are presented in the balance sheet in their order of liquidity.

True
A.
False
B.

Current assets are presented in the order that they will be converted to cash or used up, which is their order of
liquidity.

4. The statement of cash flows is divided into three different activities.

True
A.
False
B.
 The activities are: operating, investing and financing.

5. The current cash debt coverage ratio is equal to net cash provided by operating activities ÷ average total liabilities.
True
A.
B. False

It is net cash provided by operating activities ÷ average current liabilities.

6. Indicators of strong financial flexibility include a low debt coverage ratio and negative free cash flow.

True
A.
False
B.

A lower debt coverage ratio and negative free cash flow are indicators of poor financial flexibility.

7. Companies rarely use estimates in valuing items on the balance sheet.

True
A.
False
B.

Companies use judgments and estimates to determine many of the items reported on the balance sheet.

8. A liability that is payable within the next year is sometimes included in long-term debt.

True
A.
False
B.

A liability that is payable within the next year is sometimes included in long-term debt if the company expects to
refinance the debt through another long-term issue or to retire the debt out of non-current assets.

9. The excess of total assets over total liabilities is referred to a net working capital.

True
A.
False
B.

Net working capital is the excess of total current assets over total current liabilities.

10. Investing activities on the statement of cash flows include the issuance of debt and equity securities.

True
A.
False
B.

The issuance of debt and equity securities is reported as a financing activity on the statement of cash flows.
11. The use of the term “reserve” is discouraged in both U.S. GAAP and iGAAP.

True
A.
False
B.

While the use of the term “reserve” is discouraged in U.S. GAAP, there is no such prohibition in iGAAP.

12. A balance sheet is useful for analyzing all of the following except:
financial flexibility.
A.
liquidity.
B.
solvency.
C.
D. profitability.

Profitability is determined primarily by analyzing information from the income statement.

13. Assets can be divided into how many subclassifications?

A. 5
4
B.
3
C.
2
D.

There are 5 subclassifications: current, long-term investments, PP & E, intangibles, and other.

14. Which of the following is not one of the portfolio groupings for investments in debt and equity securities?

Available-for-sale.
A.
Trading.
B.
Investments.
C.
Held to maturity.
D.

Investments is a subcategory of assets, not a type of portfolio.

15. Which of the following types of securities do not include equity securities?
Trading.
A.
B. Held to maturity.
Available-for-sale.
C.
None of the above include equity securities.
D.

Held to maturity securities are only debt securities.

16. Which of the following securities are not reported in the balance sheet at their fair value?

Held to maturity.
A.
Trading.
B.
Available-for-sale.
C.
None of the above.
D.

Held to maturity securities are reported at their amortized cost.

17. Which of the following is not an intangible asset?

Patents.
A.
Wasting resources.
B.
Goodwill.
C.
Franchises.
D.

Wasting resources are a type of property, plant & equipment asset.

18. How many different ways may pertinent information be disclosed in the financial statements?
A. 4
3
B.
2
C.
1
D.

There are 4: parenthetical explanations, notes, cross-references and contra items, and supporting schedules.

19. Payment of interest expense would come under which activity on the statement of cash flows?

Financing.
A.
Operating.
B.
Investing.
C.
None of the above.
D.

Operating activities involve the cash effects of transactions that enter into the determination of net income including
interest expense.

20. Payment of a cash dividend would be reported as a cash outflow in which of the following sections:

operating activities.
A.
financing activities.
B.
investing activities.
C.
None of the above.
D.
 Cash dividends are an outflow under the financing activities section.

21. Which of the following would be added back to net income in the operating activities section of the statement of
cash flows?

Payment of a cash dividend.

A.
Increase in inventory.
B.
Increase in accounts payable.
C.
Gain on sale of equipment.
D.

Increases in current liabilities are positive adjustments to net income in the operating activities section of the
statement of cash flows.

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