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Rent $7,200 52. (b) The requirement is to select the correct state-
ment regarding the $1,000 of additional income determined
Real estate taxes (50% x $6,400) (3,200)
Painting of rental apartment (800) by Stewart, an accrual method corporation. Under the ac-
Fire insurance (50% x $600) (300) crual method, income generally is reported in the year
Depreciation (50% x $5,000) a.2QQ) earned. If an amount is included in gross income on the
Net rental income $----.400 basis of a reasonable estimate, and it is later determined that
47. (a) The requirement is to determine the amount of the exact amount is more, then the additional amount is in-
rent income to be reported on Amy's 2009 return. Both the cluded in income in the tax year in which the determination
$6,000 of rent received for 2009, as well as the $1,000 of of the exact amount is made. Here, Stewart properly ac-
advance rent received in 2009 for the last two months of the crued $5,000 of income for 2008, and discovered that the
lease must be included in income for 2009. Advance rent exact amount was $6,000 in 2008. Therefore, the additional
must be included in income in the year received regardless $1,000 of income is properly includible in Stewart's 2008
of the period covered or the accounting method used. income tax return.
53. (b) The requirement is to determine the correct
48. (a) The requirement is to determine the amount to
statement regarding Axis Corp.'s deduction for its employ-
be reported as rent revenue in an accrual-basis taxpayer's
ees bonus expense. An accrual-method taxpayer can deduct
tax return for 2009. An accrual-basis taxpayer's rent reve-
compensation (including a bonus) when there is an obliga-
nue would consist of the amount of rent earned during the
tion to make payment, the services have been performed,
taxable year plus any advance rent received .. Advance rents
and the amount can be determined with reasonable accuracy.
must be included in gross income when received under both
It is not required that the exact amount of compensation be
the cash and accrual methods, even though they have not yet
determined during the taxable year. As long as the compu- .
been earned. In this case, Royce's rent revenue would be
tation is known and the liability is fixed, accrual is proper
determined as follows:
even though the profits upon which the compensation are
Rent receivable 12/31/08 $35,000
Rent receivable 12/31/09 ~ based are not determined until after the end of the year.
Decrease in recei vables (10,000)
Rent collections during 2009 Although compensation is generally deductible only for
Rent deposits 50,000 the year in which the compensation is paid, an exception is
Rent revenue for 2009 2.QQQ made for accrual method taxpayers so long as "payment is
~ made within 2 112 months after the end of the year. Here,
The rent deposits must be included in gross income for 2009 since the services were performed, the method of computa-
because they are nonrefundable deposits. tion was known, the amount was reasonable, and payment
was made by March 15,2009, the bonus expense may be
I.C.19. Unemployment Compensation deducted on Axis Corp.'s 2008 tax return. Note that the
bonus could not be a disguised dividend bec,ause none of the
49. (d) The requirement is to determine the amount of
employees were shareholders.
state unemployment benefits that should be included in ad-
justed gross income for 2009. Although unemployment 54. (b) The requirement is to determine the amount of
compensation benefits received must generally be included the 2008 interest payment of $12,000 that was deductible on
in gross income, up to $2,400 of unemployment compensa- Michaels' 2009 income tax return. Generally, there is no
tion can be excluded from gross income for tax years begin- deduction for prepaid interest. When a taxpayer pays inter-
ning in 2009. est for a period that extends beyond the end of the tax year,
the interest paid in advance must be spread over the period
I.D. Tax Accounting Methods to which it applies. Michaels paid $12,000 of interest dur-
ing 2008 that relates to the period beginning December 1,
50. (d) The requirement is to determine the correct 2008, and ending November 30, 2009. Therefore, 1112 x
statement regarding the reporting of income by a cash-basis $12,000 = $1,000 of interest was deductible for 2008, and
taxpayer. A cash-basis taxpayer should report gross income 11/12 x $12,000 = $11,000 was deductible for 2009.
for the year in which income is either actually or construc-
tively received, whether in cash or in property. Constructive 55. (c) The requirement is to determine the amount of
receipt means that an item of income is unqualifiedly avail- income to be reported in Blair's 2009 return for the stock
able to the taxpayer without restriction (e.g., interest on bank received in satisfaction of a client fee owed to Blair. Since
deposit is income when credited to account). Blair is a cash method taxpayer, the amount of income to be
recognized equals the $4,000 fair market value of the stock
51. (b) The requirement is to determine which taxpayer on date of receipt. Note that the $4,000 of income is re-
may use the cash method of accounting. The cash method ported by Blair in 2009 when the stock is received; not in
cannot generally be used if inventories are necessary to 2010 when the stock is sold.
clearly reflect income, and cannot generally be used by C
corporations, partnerships that have a C corporation as a 56. (d) The requirement is to determine whether the
partner, tax shelters, and certain tax-exempt trusts. Taxpay- accrual method of tax reporting is mandatory for a sole pro-
ers permitted to use the cash method include a qualified prietor when there are accounts receivable for services ren-
personal service corporation, an entity (other than a tax dered, or year-end merchandise inventories. A taxpayer's
shelter) if for every year it has average gross receipts of $5 taxable income should be computed using the method of
million or less for any prior three-year period (and provided accounting by which the taxpayer regularly computes in-
it does not have inventories), and a small taxpayer with av- come in keeping the taxpayer's books. Either the cash or
erage annual gross receipts of $1 million or less for any prior the accrual method generally can be used so long as the
three-year period may use the cash method and is excepted method is consistently applied and clearly reflects income.
from the requirement to account for inventories However, when the production, purchase, or sale of mer-