05 Chapter - Gross Income and Exclusions
Chapter 05
Gross Income and Exclusions
True / False Questions
1. Gross income includes all income realized during the year.
True False
2. Excluded income will never be subject to the federal income tax.
True False
3. The all-inclusive definition of income means that gross income is defined very broadly.
True False
4. A taxpayer who borrows money will include that amount borrowed in their gross income
under the all-inclusive definition of income.
True False
5. Income is included in gross income unless a tax provision specifies that it can be deferred
or excluded.
True False
6. The principle of realization for tax purposes is very different from realization as it is
understood for financial reporting purposes.
True False
7. Wherewithal to pay represents the principle that a realized transaction should require a
taxpayer to sell other assets in order to pay income taxes.
True False
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Chapter 05 - Gross Income and Exclusions
8. Barter clubs are an effective means of avoiding realization for tax purposes.
True False
9. The cash method of accounting requires taxpayers to recognize income only when that
income is received as cash.
True False
10. When a carpenter provides $100 of services in exchange for $100 of groceries, the
carpenter has realized $100 of income.
True False
11. Recognized income may be in the form of cash or property received (but not services
received).
True False
12. When a taxpayer sells an asset, the entire proceeds from the sale must be included in gross
income regardless of the cost of the asset.
True False
13. Jake sold his car for $2,400 in cash this year. He will realize a taxable gain of $1,000 if he
purchased the car for $1,400.
True False
14. When an asset is sold, the taxpayer calculates the gain or loss by subtracting the tax basis
of the asset from the proceeds of the sale.
True False
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Chapter 05 - Gross Income and Exclusions
15. The tax benefit rule applies when a taxpayer refunds amounts previously included in
income.
True False
16. Jim received a $500 refund of state income taxes this year. Jim will not need to include
the $500 in his gross income this year because he did not deduct state income taxes last year.
True False
17. Constructive receipt represents the principle that cash basis taxpayers should be taxed on
income when it is made available to them without substantial restrictions.
True False
18. Claim of right states that income has been realized if a taxpayer receives income and there
are substantial restrictions on the taxpayer's use of the income.
True False
19. Community property laws dictate that income earned by one spouse is treated as though it
was earned equally by both spouses.
True False
20. The assignment of income doctrine requires that to shift income from property to another
person, the taxpayer must transfer only the income to the other person.
True False
21. Interest income is earned in the year in which it is received by the taxpayer or credited to
the bank account.
True False
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Chapter 05 - Gross Income and Exclusions
22. For tax purposes, unearned income means income that has not yet been realized.
True False
23. A portion of each payment from a purchased annuity represents income.
True False
24. The exclusion ratio for a purchased annuity is the cost of the annuity divided by the
interest rate.
True False
25. Rental income generated by a partnership is reported by partners as dividend income.
True False
26. The tax law defines alimony to include transfers of property (but not cash) between
former spouses.
True False
27. The tax law includes a complex set of restrictions called frontloading to make it difficult
for taxpayers to disguise property payments as alimony payments.
True False
28. Prizes and awards are generally taxable.
True False
29. Gambling winnings are included in gross income only to the extent that the winnings
exceed gambling losses incurred during the same period.
True False
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Chapter 05 - Gross Income and Exclusions
30. Generally, 85 percent of Social Security benefits are included in income of high income
taxpayers.
True False
31. Unemployment benefits are excluded from gross income.
True False
32. A taxpayer generally includes in gross income the amount of debt forgiven by a lender.
True False
33. An employee may exclude up to a 40 percent employer-provided discount on services.
True False
34. A below-market loan (e.g., from an employer to an employee) is a common example of a
transaction that generates taxable imputed income.
True False
35. Interest earned on a Federal Treasury bond is excluded from gross income (for federal tax
purposes).
True False
36. Interest earned on a city of Denver bond is excluded from gross income (for federal tax
purposes).
True False
37. Taxpayers meeting certain home ownership and use requirements can permanently
exclude up to $1,000,000 of realized gain on the sale of their principal residence.
True False
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Chapter 05 - Gross Income and Exclusions
38. Qualified fringe benefits received by an employee can be excluded from gross income.
True False
39. Scholarships are excluded from gross income for degree candidates even if the scholarship
pays for required fees and books in addition to tuition.
True False
40. Earnings from 529 plans and Coverdell education savings accounts are excluded from
gross income as long as they use the earnings to pay for qualifying educational expenditures.
True False
41. Trevor received a gift of $25,000 in cash from his rich uncle. Trevor must include $15,000
of this gift in his gross income this year.
True False
42. Anna received $15,000 from life insurance paid upon the death of her grandmother. Anna
can exclude the entire amount of the life insurance from her gross income.
True False
43. U.S. citizens generally are subject to tax on all income whether it is generated in the
United States or in foreign countries.
True False
44. To provide relief from double taxation, Congress allows a foreign-unearned income
exclusion for interest and dividends earned in foreign countries.
True False
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Chapter 05 - Gross Income and Exclusions
45. Worker's compensation benefits are excluded from gross income.
True False
46. Fred must include in gross income a $7,500 payment received from his neighbor to
compensate Fred for the emotional distress he suffered when his neighbor accidentally ran
over his dog.
True False
47. Loretta received $6,200 from disability insurance that she purchased directly this year.
Loretta must include all $6,200 in her gross income.
True False
48. Brad was disabled for part of the year and he received $11,500 of benefits from a
disability plan purchased by Brad's employer. Brad must include all $11,500 of benefits in his
gross income because Brad was not taxed on the disability insurance premiums paid by his
employer.
True False
Multiple Choice Questions
49. Gross income includes
A. all income from whatever source derived unless excluded by law
B. excluded income
C. deferred income
D. all realized income
E. All of the above
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Chapter 05 - Gross Income and Exclusions
50. Which of the following is not a necessary condition for income to be included in gross
income?
A. income must be realized
B. income must be paid in cash
C. income cannot be excluded by law
D. income must be made available to a taxpayer on the cash basis
E. All of the above
51. Sally is a cash basis taxpayer and a member of the Valley Barter club. This year Sally
provided 100 hours of sewing services to the barter club in exchange for two football playoff
tickets. Which of the following is a true statement?
A. Sally need not recognize any gross income unless she sells the football tickets.
B. Sally's exchange does not result in taxable income.
C. Sally is taxed on the value of the football tickets even if she cannot attend the game.
D. Sally is taxed on the value of her sewing services only if she is a professional seamstress.
E. All of the above are true.
52. This year Barney purchased 500 shares of Bell common stock for $20 per share. At yearend the Bell shares were only worth $2 per share. What amount can Barney deduct as a loss
this year?
A. $10,000
B. $9,000
C. $1,000
D. Barney can deduct $10,000 only if he includes $1,000 in his taxable income
E. None of the above - Barney is not entitled to a loss deduction.
53. Hillary is a cash-basis calendar-year taxpayer. During the last week of December she
received a letter containing a $5,000 check for services. Which of the following is a true
statement?
A. Hillary is taxed on the $5,000 of service income in the year she cashes the check.
B. Hillary is taxed on the $5,000 of service income in the year the check was mailed.
C. Hillary is taxed on the $5,000 of service income in the year she receives the check.
D. Hillary is taxed on the $5,000 of service income in the year she provides the services.
E. None of the above is true.
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Chapter 05 - Gross Income and Exclusions
54. Identify the rule that determines whether a taxpayer must include in income a refund of an
amount deducted in a previous year:
A. Tax refund rule
B. Constructive receipt
C. Return of capital principle
D. Tax benefit rule
E. None of the above
55. Identify the rule dictating that on a sale of an asset a taxpayer need only include the
incremental gain in gross income rather than the entire proceeds from the sale:
A. Tax benefit rule
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. None of the above
F. All of the above
56. Identify the rule that allows lessors to exclude security deposits from gross income
because they have an obligation to repay the deposit:
A. Claim of right
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. None of the above
F. All of the above
57. Dave is a plumber who uses the cash method of accounting. This year Dave requested that
his clients make their checks payable to his son, Steve. This year Steve received checks in the
amount of $62,000 for Dave's plumbing services. Which of the following is a true statement?
A. Dave is taxed on $62,000 of plumbing income this year.
B. Steve is taxed on $62,000 of plumbing income this year.
C. Steve is taxed on $62,000 of income from gifts received this year.
D. Dave may deduct the $62,000 received by Steve.
E. All of the above are true
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Chapter 05 - Gross Income and Exclusions
58. Jack and Jill are married. This year Jack earned $72,000 and Jill earned $80,000 and they
received $4,000 of interest income from a joint savings account. How much gross income
would Jack report if he files married-separate from Jill?
A. $72,000 if they reside in a common law state.
B. $76,000 if they reside in a community property law state.
C. $84,000 if they reside in a common law state.
D. $78,000 if they reside in a community property law state.
E. All of the above
59. Identify which of the items below help determine which taxpayer must recognize earned
income:
A. Residence in a community property law state
B. Assignment of income
C. Residence in a common law state
D. Both A and B above
E. All of the above
60. Kevin provided services to several clients this year who paid with different types of
property. Which of the following payments is not included in Kevin's gross income?
A. Cash
B. Shares of stock listed on the New York Stock Exchange
C. A used car
D. Gold coins
E. All of the above are included in gross income
61. Emily is a cash basis taxpayer, and she was an especially productive salesperson last year.
In December of last year her supervisor told Emily she had earned a $5,000 bonus. However,
Emily received the bonus check after year end. Identify the principle that will determine when
Emily is taxed on the bonus:
A. Assignment of income
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. All of the above
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Chapter 05 - Gross Income and Exclusions
62. Ophra is a cash basis taxpayer who is employed in the publishing industry. This year her
employer informed her that because of her outstanding performance she is entitled to a free
world cruise. Ophra asked her employer to issue the cruise tickets to her parents, and he
complied with this request. Identify the principle that will determine whether Ophra or her
parents are taxed on the value of the cruise tickets:
A. Assignment of income
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. All of the above
63. This year Henry realized a gain on the sale of an antique car that he inherited from his
uncle. The buyer has promised to pay Henry in installment payments over the next few years.
Identify the principle that will determine when Henry should be taxed on the gain from the
sale:
A. Assignment of income
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. All of the above
64. This year Mary received a $200 refund of state income taxes that she deducted on her tax
return last year. Mary included a total of $4,000 of state income taxes when she itemized
deductions last year. What amount of the refund, if any, should Mary include in her gross
income this year?
A. $200 is included because Mary itemized her deductions last year.
B. $200 is included if itemized deductions exceeded the standard deduction by $200.
C. $200 is included because itemized deductions exceeded the standard deduction.
D. $200 is included even if Mary claimed the standard deduction.
E. None of the above - refunds of state income taxes are not included in gross income.
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Chapter 05 - Gross Income and Exclusions
65. Opal deducted $2,400 of state income taxes on her tax return last year. This year she
received a state income tax refund of $170. What amount of the refund, if any, should Opal
include in her gross income if last year her total itemized deductions exceeded the standard
deduction by $350?
A. $2,050
B. $350
C. $180
D. $170
E. None of the above - refunds of state income taxes are not included in gross income.
66. Wilma has a $25,000 certificate of deposit (CD) at the local bank. The interest on this
certificate, $1,000, was credited to her account this year but she must pay an early withdrawal
penalty if she cashes in the CD before next year. Which of the following is a true statement?
A. Wilma must include the $1,000 of interest in her income this year.
B. Wilma must include the $1,000 of interest in her income when she cashes the CD.
C. Wilma must include the $1,000 of interest in her income this year only if the bank waives
the early withdrawal penalty.
D. Wilma must include the $1,000 of interest in her income next year if she does not pay the
early withdrawal penalty.
E. All of the above
67. Which of the following is a true statement about the first payment received from a
purchased annuity?
A. The payment is included in gross income.
B. A portion of the payment is a return of capital.
C. The payment can only be taxed in the year after the annuity was purchased.
D. The payment is not taxed until the annuity payments cease altogether.
E. All of the above
68. Which of the following is a description of how the annuity exclusion ratio is calculated for
an annuity paid over a fixed period?
A. The expected return is divided by the number of payments.
B. The original investment is multiplied by the prevailing interest rate.
C. The original investment is divided by the number of payments.
D. The expected return is divided by the prevailing interest rate.
E. None of the above
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Chapter 05 - Gross Income and Exclusions
69. George purchased a life annuity for $3,200 that will provide him $80 monthly payments
for as long as he lives. Based on IRS tables, George's life expectancy is 100 months. How
much of the first $80 payment will George include in his gross income?
A. $80
B. $72
C. $48
D. $32
E. None of the above
70. Fran purchased an annuity that provides $12,000 quarterly payments for the next 10 years.
The annuity was purchased at a cost of $300,000. How much of the first quarterly payment
will Fran include in her gross income?
A. zero
B. $4,500
C. $12,000
D. $32,400
E. All of the above
71. Harold receives a life annuity from his qualified pension that pays him $5,000 per year for
as long as he lives. Later this year Harold will recover the remainder of his cost of the
annuity. Which of the following correctly describes how the annuity payments are taxed after
Harold has recovered the cost of the annuity?
A. Harold will continue to apply the annuity exclusion ratio to determine the amount of each
annuity payment includible in gross income.
B. Harold will include the entire amount of each annuity payment in gross income after he
recovers the cost of the annuity.
C. The entire amount of each annuity payment is excluded from gross income after Harold
recovers his cost of the annuity.
D. Harold must request that the IRS calculate his exclusion ratio based upon a revised life
expectancy.
E. All of the above
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Chapter 05 - Gross Income and Exclusions
72. To calculate a gain or loss on the sale of an asset, the proceeds from the sale are reduced
by which of the following?
A. Tax basis of the property
B. Selling expenses
C. Amount realized
D. A and B above
E. All of the above
73. Nate is a partner in a partnership that received $5,000 of interest income this year. Nate's
share of the interest is $1,000, and he should report this income on his individual return as:
A. business income
B. income from a partnership
C. interest income
D. dividend income because the partnership intends to organize next year as a limited liability
company
E. All of the above
74. Which of the following statements about alimony payments is true?
A. To qualify as alimony, payments must be made in cash.
B. Alimony payments are includible in the gross income of the recipient.
C. To qualify as alimony, payments cannot continue after the death of the recipient.
D. To qualify as alimony, payments must be made under a written agreement or divorce
decree that does not designate the payments as "nonalimony" or child support.
E. All of the above
75. Barney and Betty got divorced this year. In the divorce decree Betty agreed to transfer 100
shares of common stock worth $50,000 and pay Barney $24,000 per year for five years (or
until Barney's death or remarriage). What amount (if any) is included in Barney's gross
income this year?
A. $24,000
B. $50,000
C. $74,000
D. $170,000
E. None of the payments are included in gross income
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Chapter 05 - Gross Income and Exclusions
76. Charles and Camilla are getting divorced. Under the terms of the decree Charles will pay
Camilla $50,000 in cash in each of the next five years (or until Camilla's death or remarriage).
In addition, Charles will transfer a castle worth $2,000,000 to Camilla and pay $12,000 per
year to support their son, Clyde, until he turns 19 years old. What amount (if any) is included
in Camilla's gross income this year?
A. $2,062,000
B. $12,000
C. $50,000
D. $2,050,000
E. None of the payments are included in gross income
77. Hal Gore won a $1 million prize for special contributions to environmental research. This
prize is awarded for public achievement, and Hal immediately indicated that he would
transfer $400,000 of the award to the Environmental Protection Agency. How much of the
prize should Hal include in his gross income?
A. $400,000
B. $600,000
C. $1 million
D. None of the above because all prizes are excludible
E. None of the above because prizes from charities are excludible
78. Ethan competed in the annual Austin Marathon this year and won a $25,000 prize for
fastest wheelchair entrant. Ethan indicated that he would transfer the prize to the local
hospital. How much of the prize should Hal include in his gross income?
A. $25,000
B. $25,000 because all prizes are taxable
C. Zero because prizes transferred to charities are excludible
D. Zero because all prizes are excludible
E. Zero because prizes from charities are excludible
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Chapter 05 - Gross Income and Exclusions
79. This year Ed celebrated his 25th year as an employee of Designer Jeans Company. In
recognition of his long and loyal service, the company awarded Ed a gold watch worth $250
and a $2,000 cash bonus. What amount must Ed include in his gross income?
A. $2,250
B. $2,000
C. $250
D. Zero if Ed offers to contribute his watch and bonus to a qualified charity
E. Zero - all employee awards are excluded from gross income
80. Rhett made his annual gambling trip to Uwin Casino. On this trip Rhett won $250 at the
slots and $1,200 at poker. Also this year, Rhett made several trips to the race track, but he lost
$700 on his various wagers. What amount must Rhett include in his gross income?
A. $1,450
B. $1,200
C. $750
D. $250
E. Zero - gambling winnings are not included in gross income
81. Bernie is a former executive who is retired. This year Bernie received $250,000 in pension
payments and $10,000 of social security payments. What amount must Bernie include in his
gross income?
A. $250,000
B. $255,000
C. $258,500
D. $260,000
E. Zero
82. Bart, a single taxpayer, has recently retired. This year, he received $24,000 in pension
payments and $5,000 of social security payments. What amount must Bart include in his gross
income for the social security payments?
A. $4,250
B. $2,500
C. $1,500
D. $750
E. Zero
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Chapter 05 - Gross Income and Exclusions
83. Karl works at Moe's grocery. This year Karl was paid $43,000 in salary but he was
allowed to purchase his groceries at 10% below Moe's cost. This year Karl spent $3,600 to
purchase groceries costing Moe $4,000 and worth $6,000. What amount must Karl include in
his gross income?
A. $46,600
B. $47,000
C. $49,000
D. $43,400
E. $45,500
84. Joyce's employer loaned her $50,000 this year (zero interest rate) to buy a new car. If the
federal interest rate was 3%, which of the following is correct?
A. Joyce recognizes $1,500 of taxable interest income.
B. Joyce's employer recognizes $1,500 of deductible interest expense.
C. Joyce recognizes $1,500 of imputed compensation income.
D. Joyce recognizes $1,500 of imputed dividend income.
E. None of the above.
85. Janine's employer loaned her $5,000 this year (zero interest rate) to buy a used car. If the
federal interest rate was 4%, which of the following is correct?
A. Janine recognizes $200 of taxable interest income.
B. Janine's employer recognizes $200 of deductible interest expense.
C. Janine recognizes $200 of imputed compensation income.
D. Janine recognizes $200 of imputed dividend income.
E. None of the above.
86. Deb has found it very difficult to repay her loans. Because of these difficulties, the bank
decided to forgive one of her most recent loans, an amount of $45,000. After the loan was
discharged, Deb had total assets of $232,000 and her remaining loans total $217,000. What
amount must Deb include in her gross income?
A. $15,000
B. $45,000
C. $30,000
D. $28,000
E. Zero - Deb was not solvent when the loan was discharged
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Chapter 05 - Gross Income and Exclusions
87. Mike received the following interest payments this year. What amount must Mike include
in his gross income (for federal tax purposes)?
A. $2,650
B. $2,350
C. $2,050
D. $2,300
E. $4,950
88. This year, Fred and Wilma sold their home (sales price $750,000; cost $200,000). All
closing costs were paid by the buyer. Fred and Wilma owned and lived in their home for 20
years. How much of the gain is included in gross income?
A. $550,000
B. $300,000
C. $250,000
D. $50,000
E. None
89. This year, Barney and Betty sold their home (sales price $750,000; cost $200,000). All
closing costs were paid by the buyer. Barney and Betty owned and lived in their home for 18
months. How much of the gain is included in gross income?
A. $550,000
B. $300,000
C. $250,000
D. $50,000
E. None
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Chapter 05 - Gross Income and Exclusions
90. Frank received the following benefits from his employer this year. What amount must
Frank include in his gross income?
A. $54,450
B. $57,350
C. $56,250
D. $59,150
E. Zero - these benefits are excluded in gross income
91. Ben's employer offers employees the following benefits. What amount must Ben include
in his gross income?
A. $9,400
B. $11,070
C. $10,600
D. $7,000
E. Zero - none of the above benefits is included in gross income
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Chapter 05 - Gross Income and Exclusions
92. Shaun is a student who has received an athletic scholarship to State University. The
scholarship paid $14,000 for tuition, $2,500 for fees, and $1,000 for books. In addition,
Shaun's dormitory fees of $8,500 were paid by the University when he agreed to counsel
freshman on campus living. What amount must Shaun include in his gross income?
A. $9,500
B. $11,000
C. $2,500
D. $8,500
E. Zero - none of the above benefits is included in gross income
93. Graham has accepted an offer to do graduate work in the chemistry department at State
University. The chemistry department offered Graham a $5,000 tuition reduction and $3,500
toward the cost of room and meals. Under the terms of the scholarship Graham must work in
the chemistry labs during the summer as a research assistant. What amount must Graham
include in his gross income?
A. $8,500
B. $5,000
C. $3,500
D. $2,500
E. Zero - none of the above benefits is included in gross income
94. Sam saved diligently for his college education by putting part of his pay into U.S. Series
EE saving bonds. Sam purchased the bonds for $6,500, and this year he redeemed the bonds
for $7,200. He has no other income this year. What amount must Sam include in his gross
income?
A. $7,200.
B. $6,500.
C. a maximum of $350 if Sam uses the proceeds to pay for his college tuition and fees.
D. $700 unless Sam uses the proceeds to pay for his college tuition and fees.
E. Zero - proceeds from cashing bonds sold at a discount is not realized income.
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Chapter 05 - Gross Income and Exclusions
95. Brenda has $15,000 in U.S. Series EE saving bonds and she is considering whether to
cash the bonds. Under what conditions can Brenda exclude the interest on the savings bonds
from her gross income?
A. Brenda can exclude the interest if she uses the proceeds to pay for college tuition.
B. Brenda's modified AGI must be below a phase-out range for the exclusion.
C. The proceeds must be used for higher education expenses of Brenda, her spouse, or
Brenda's dependent.
D. All of the above are necessary conditions for Brenda to exclude the interest.
E. None of the above - the interest is always included in gross income
96. Dora made a gift of stock to her granddaughter. At the time of the gift, the stock was
worth $15,000. Several months after the gift, a $500 dividend was declared on the stock and
paid to Dora's granddaughter. What amount must Dora's granddaughter include in her gross
income?
A. $2,000
B. $15,000
C. $15,500
D. $2,500
E. None of the above
97. Irene's husband passed away this year. After his death, Irene received $250,000 of
proceeds from life insurance on her husband, and she inherited her husband's stock portfolio
worth $750,000. What amount must Irene include in her gross income?
A. $1 million
B. $750,000
C. $500,000
D. Zero but only if Irene does not opt to receive the life insurance proceeds in a lump sum
E. Zero - none of the above benefits is included in gross income
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Chapter 05 - Gross Income and Exclusions
98. Helen is a CPA and will spend this entire year in an overseas office of her firm. Helen's
salary of $110,000 is subject to the income tax of the foreign country. How much of her salary
will she be allowed to exclude from gross income in the U.S.?
A. $82,000
B. $92,900
C. $97,500
D. $108,000
E. All of her salary is included in gross income
99. Hank is a sales executive who earned $109,500 working for a multinational firm this year.
Of the 365 days in this year Hank spent 340 days residing and working in an overseas office
and 25 days working in the United States. What amount of Hank's salary will he be allowed to
exclude from gross income in the U.S. (rounded to the nearest one-hundred dollars)?
A. Hank can exclude his entire salary because he worked more than 330 days overseas
B. 97,400
C. 86,500
D. 92,900
E. None of his salary can be excluded from gross income because Hank must reside overseas
for the entire year
100. NeNe is an accountant who works for a multinational firm this year and spent the entire
year working overseas. NeNe's employer paid $40,000 of her overseas housing expenses this
year. What amount of the $40,000 housing payments may NeNe exclude?
A. NeNe can exclude all of the housing payment because she worked more than 330 days
overseas
B. 14,864
C. 25,136
D. 13,006
E. None of her salary can be excluded from gross income because NeNe must reside overseas
for two consecutive years to receive an exclusion.
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Chapter 05 - Gross Income and Exclusions
101. Pam recently was sickened by eating spoiled peanut butter. She successfully sued the
manufacturer for her medical bills ($3,700), her emotional distress ($6,000 - she now fears
peanut butter), and punitive damages ($44,000). What amount must Pam include in her gross
income?
A. $44,000
B. $50,000
C. $47,700
D. $9,700
E. Zero - none of the above benefits is included in gross income
102. This year Zach was injured in an auto accident. As a result he received the following
payments.
Zach received $18,000 of disability pay. Zach has disability insurance provided by his
employer as a nontaxable fringe benefit. Zach's employer paid $4,300 in disability premiums
for Zach this year.
Zach's hospital bills totaled $4,500 and were paid by his health insurance. Zach has health
insurance provided by his employer as a nontaxable fringe benefit. Zach's employer paid
$6,250 in health insurance premiums for Zach this year.
What amount must Zach include in his gross income?
A. $22,500
B. $18,000
C. $4,500
D. $10,550
E. Zero - none of the above benefits is included in gross income
5-23
Chapter 05 - Gross Income and Exclusions
103. Samantha was ill for four months this year. Samantha missed work during this period,
but disability insurance paid $18,000 of disability pay to replace her missed salary. Samantha
shares the cost of the insurance with her employer. This year Samantha's employer paid
$2,200 in disability premiums for Samantha as a nontaxable fringe benefit and Samantha paid
the remaining $1,100 of premiums from her salary. What amount of the disability pay must
Samantha include in her gross income (rounded to the nearest whole dollar)?
A. $18,000
B. $12,000
C. $7,000
D. $1,100
E. Zero - none of the above disability pay is included in gross income
104. Acme published a story about Paul and as a result Paul sued Acme for damage to his
reputation, emotional distress, and punitive damages. Paul won an award of $20,000 for
damages, $5,500 for emotional distress, and $50,000 for punitive damages. What amount
must Paul include in his gross income?
A. $5,500
B. $20,000
C. $50,000
D. $70,000
E. All of the above benefits are included in gross income
5-24
Chapter 05 - Gross Income and Exclusions
Essay Questions
105. This year Ann has the following stock transactions. What amount is included in her gross
income if Ann paid a $200 selling commission for each sale?
106. Blake is a limited partner in Kling-On Partners. This year Kling-On reported that Blake's
share of dividend income was $3,700 and his share of municipal interest was $2,750. Early
this year Blake found a bundle of $100 bills in the alley outside his apartment. When no one
claimed the money, the cash (a total of $2,400) was returned to Blake. Finally, Blake earned
salary of $42,000 but almost $6,500 was withheld for income taxes and FICA tax. Compute
Blake's realized income and gross income.
5-25
Chapter 05 - Gross Income and Exclusions
107. Henry works part-time on auto repairs and restoration projects. This year Henry was paid
$5,400 for repairs he made to his neighbor's auto. Henry's neighbor promised to pay Henry
another $2,200 in cash next year. Henry's brother borrowed $4,100 in cash in December of
this year and gave him a negotiable promissory note for $4,300 due in three months with
interest. Henry sold the note in January for $3,500. Finally, Henry restored a car for the
football coach. The coach paid him with a pass to next year's football games. The pass is
worth $750. Compute Henry's gross income assuming that he uses the cash basis of
accounting.
108. Juan works as a landscaper for local businesses on weekends, and he often provides
services in exchange for property. This year Juan provided lawn-mowing services in exchange
for $1,275 of car repair services, $3,570 of groceries, and a certificate of deposit (C.D.) for
$4,050. The C.D. matures next year with interest. Finally, Juan received a gift card that can
only be applied for $850 of clothing at a local mall. Juan has only applied the gift card to
purchase $100 of clothing. Compute Juan's gross income assuming that he uses the cash basis
of accounting.
109. This year Kelsi received a $1,900 refund of state income taxes that she paid last year.
Last year Kelsi claimed itemized deductions of $6,800 and this total included $2,800 of state
income taxes. How much of the refund, if any, must Kelsi include in gross income if the
standard deduction last year was $5,700?
5-26
Chapter 05 - Gross Income and Exclusions
110. In April of this year Victoria received a $1,400 refund of state income taxes that she paid
last year. Last year Victoria claimed itemized deductions of $8,290. Victoria's itemized
deductions included state income taxes paid of $3,750. How much of the refund, if any, must
Victoria include in gross income if the standard deduction last year was $5,700?
111. Aubrey and Justin divorced on June 30 of this year. Through June 30 Aubrey earned
$62,000 of salary, and Justin earned $45,000. For the year Aubrey reported a total salary of
$130,000, and Justin earned a total salary of $88,000. Aubrey and Justin live in a community
property state. How much of the income earned by Aubrey and Justin will Justin report on his
tax return for this year?
112. Aubrey and Justin divorced on June 30 of this year. Through June 30 Aubrey earned
$62,000 of salary and Justin earned $45,000. For the year Aubrey reported a total salary of
$130,000 and Justin earned a total salary of $88,000. Aubrey and Justin live in a community
property state. How much of the income earned by Aubrey and Justin will Aubrey report on
her tax return for this year?
5-27
Chapter 05 - Gross Income and Exclusions
113. Cyrus is a cash method taxpayer who reports on a calendar-year. Last year Cyrus
received salary of $88,000 and at year-end his employer announced that Cyrus would receive
an additional year-end bonus of $10,000 in cash and a new TV worth $2,000. Cyrus didn't
receive his bonus check until January of this year and the TV didn't arrive until March of this
year. Determine the amount Cyrus should include in his gross income for last year.
114. Kathryn is employed by Acme and they have been very pleased with her performance
this year. In December Kathryn was granted an extra week off with pay (pay for the week
totaled $2,000). In addition, Kathryn was given tickets to a football bowl game worth $800
(Kathryn didn't use the tickets - she hates football). At year-end Kathryn was allowed to order
new office furniture and Acme told her to take the old office furniture home. The office
furniture was originally purchased for $7,000, but it was fully depreciated and only worth
about $1,000. Determine the amount Kathryn should include in her gross income.
115. Charles purchased an annuity from an insurance company that promised to pay him
$20,000 per year for the next 12 years. Charles paid $180,000 for the annuity. How much of
the first $20,000 payment should Charles include in gross income?
5-28
Chapter 05 - Gross Income and Exclusions
116. This year Larry received the first payment from an annuity that promises to pay him
$3,000 per month for the rest of his life. The IRS tables indicate that given Larry's age, he
should expect to receive 310 monthly payments. The cost of the annuity to Larry was
$620,000. How much of the first $3,000 payment should Larry include in gross income?
117. Desai and Lucy divorced this year. Lucy has custody of their child, Andrea, and under
the divorce decree Desai pays Lucy $120,000 per year. The payments must be made in cash
and will cease if Lucy dies or remarries. The payments drop to $100,000 per year once
Andrea reaches the age of 18. How much of the payments should Lucy include in gross
income this year?
118. Terri and Mike are seeking a divorce. Terri and Mike own an art collection worth
$357,000 that would belong to Terri. Mike offered to make annual payments of cash to Terri
each year for five years if Terry allows Mike to take possession of the art collection. Mike
insists however, that the annual payments must cease in the event of Terri's death. What
amount of annual payment must Terri demand to make her indifferent after taxes between
taking possession of the ($357,000) art versus collecting the cash payments? Assume that
Terri has a marginal tax rate of 15 percent and Mike's tax rate is 35 percent and ignore the
time value of money.
5-29
Chapter 05 - Gross Income and Exclusions
119. J.Z. (single taxpayer) is retired and received $10,000 of Social Security benefits this
year. How much of the $10,000 Social Security benefits is taxable if his only other income
was $28,000 of pension income?
120. Wendell is an executive with CFO Tires. At the beginning of this year the corporation
loaned Wendell $50,000 at an interest rate of one percent. Wendell would have paid interest
of $2,500 this year if the interest rate on the loan had been set at the prevailing Federal
interest rate. Wendell used the funds as a down payment on a vacation home and during the
year he paid $500 of interest to CFO. On December 31, CFO forgave the loan and remaining
interest. What amount of gross income does Wendell recognize from the loan this year?
121. Bobby and Sissy got married 2.5 years ago. Since that time, they have lived in Bobby's
home. Sissy sold her previous home three years ago and excluded her entire gain ($80,000) at
that time. Bobby and Sissy decided to move to a bigger home this year. As a result, they sold
Bobby's home for $500,000 (original cost $150,000). How much of the gain from the sale is
taxable?
5-30
Chapter 05 - Gross Income and Exclusions
122. Robert will be working overseas on a temporary assignment beginning on March 1 of
this year through January 31 of next year (347 total days, 306 this year). His salary is $11,000
per month while Robert is overseas, but only $9,200 per month otherwise. What is the
minimum amount of Robert's salary that he must include in gross income this year? (Round
your final answer to the nearest whole dollar amount.)
123. Simon was awarded a scholarship to attend State Law School from Gary Harris &
Associates, Attorneys at Law. The scholarship pays Simon's tuition ($7,000 per semester),
fees ($500 per semester), and a $4,500 per semester stipend to pay for food and housing. In
order to qualify for the stipend, Simon must work 10 hours per week at Gary Harris &
Associates during the term. How much of the scholarship is Simon required to include in
gross income?
124. This fall Angelina plans to attend college. To fund her tuition she cashed in Series EE
savings bonds with a redemption value of $24,000 and an original cost of $16,800. Angelina
plans on spending $7,200 of the proceeds to pay tuition. The redemption proceeds are
Angelina's only source of income. What amount of interest must Angelina include in gross
income this year?
5-31
Chapter 05 - Gross Income and Exclusions
125. Teresa was married on November 1 of this year and on that day received numerous gifts
from her extended family. Her grandfather presented Teresa with a check for $15,000; her
uncle gave Teresa 1,000 shares of Ford stock worth $10 per share (the uncle purchased the
shares for $25 each); and her aunt presented Teresa with $50,000 of corporate bonds (Teresa
received $1,500 of semiannual interest from the bonds on December 31 of this year). Finally,
Teresa's parents paid off $50,000 of her student loans debt including $2,000 of accrued
interest. What amount, if any, must Teresa include in gross income this year?
126. Andres has received the following benefits this year.
Besides these benefits Andres missed work for two months due to an illness. During his
illness Andres received $6,500 in sick pay from a disability insurance policy. Assume Andres
has disability insurance provided by his employer as a nontaxable fringe benefit. What
amount, if any, must Andres include in gross income this year?
5-32
Chapter 05 - Gross Income and Exclusions
127. This year Joseph joined the board of directors. Besides his director's fees, Joseph
received the following employee benefits:
The stock bonus consisted of 5,000 shares of Bell stock given to Joseph as compensation. At
the time of the transfer the stock was listed at $4 per share. What amounts, if any, should
Joseph include in gross income this year?
128. Caroline is retired and receives income from a number of sources. The interest payments
are from bonds that Caroline purchased over past years and a disability insurance policy that
Caroline purchased after her retirement. Calculate Caroline's gross income.
5-33
Chapter 05 - Gross Income and Exclusions
129. Alex is 63 years old and retired. This year Alex won $212,200 in the state lottery. Alex
also received $20,000 from an annuity he purchased eight years ago. He purchased the
annuity, to be paid annually for 15 years, for $157,500. Alex received $10,000 in Social
Security benefits for the year. Calculate Alex's gross income.
130. Vincent is a writer. Last year he began researching a story in Ireland and he resided in
various Irish locations from July 1 of last year through June 30 of this year. While he was in
Ireland he earned $135,000 working for a publisher. He was only paid $25,000 for his
services last year but he received the remaining $110,000 for his services this year. In April of
this year Vincent received a $1,500 refund of the $3,600 in state income taxes his employer
withheld from his pay last year. Vincent claimed $6,500 in itemized deductions last year (the
standard deduction for a single filer was 5,700). Vincent wants to elect to use the foreignearned income exclusion to the extent he is eligible. Calculate Vincent's gross income for this
year. (Round your final answer to the nearest whole dollar amount.)
5-34
Chapter 05 - Gross Income and Exclusions
131. Lisa and Collin are married. Lisa works as an engineer and earns a salary of $116,000.
Collin works at a beauty salon and reported wages of $45,000. Lisa received $500 of interest
from corporate bonds and $250 of interest from a municipal bond. Lisa acquired these bonds
prior to her marriage to Collin. Collin's father passed away on April 14. He inherited cash of
$50,000 and his baseball card collection, valued at $2,000. As beneficiary of his father's life
insurance policy, Collin also received $150,000. The couple spent a weekend in Atlantic City
in November and came home with gambling winnings of $1,200. Collin was injured in an
accident at the salon. He was unable to work for a month, but during this time he received
$5,000 from disability insurance he purchased several years ago. Collin also received $2,000
in workman's compensation, and $1,500 from the salon for the emotional trauma he suffered
from the accident. Calculate Lisa and Collin's gross income for this year assuming they will
file married joint.
5-35
Chapter 05 - Gross Income and Exclusions
Chapter 05 Gross Income and Exclusions Answer Key
True / False Questions
1. Gross income includes all income realized during the year.
FALSE
Deferred and excluded income is not included in gross income.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
2. Excluded income will never be subject to the federal income tax.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
3. The all-inclusive definition of income means that gross income is defined very broadly.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-36
Chapter 05 - Gross Income and Exclusions
4. A taxpayer who borrows money will include that amount borrowed in their gross income
under the all-inclusive definition of income.
FALSE
Debt does not generate economic benefit.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5. Income is included in gross income unless a tax provision specifies that it can be deferred
or excluded.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
6. The principle of realization for tax purposes is very different from realization as it is
understood for financial reporting purposes.
FALSE
Realization is similar for both tax and financial accounting.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
5-37
Chapter 05 - Gross Income and Exclusions
7. Wherewithal to pay represents the principle that a realized transaction should require a
taxpayer to sell other assets in order to pay income taxes.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
8. Barter clubs are an effective means of avoiding realization for tax purposes.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Hard
9. The cash method of accounting requires taxpayers to recognize income only when that
income is received as cash.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
10. When a carpenter provides $100 of services in exchange for $100 of groceries, the
carpenter has realized $100 of income.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
5-38
Chapter 05 - Gross Income and Exclusions
11. Recognized income may be in the form of cash or property received (but not services
received).
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Hard
12. When a taxpayer sells an asset, the entire proceeds from the sale must be included in gross
income regardless of the cost of the asset.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
13. Jake sold his car for $2,400 in cash this year. He will realize a taxable gain of $1,000 if he
purchased the car for $1,400.
TRUE
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
14. When an asset is sold, the taxpayer calculates the gain or loss by subtracting the tax basis
of the asset from the proceeds of the sale.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-39
Chapter 05 - Gross Income and Exclusions
15. The tax benefit rule applies when a taxpayer refunds amounts previously included in
income.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
16. Jim received a $500 refund of state income taxes this year. Jim will not need to include
the $500 in his gross income this year because he did not deduct state income taxes last year.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
17. Constructive receipt represents the principle that cash basis taxpayers should be taxed on
income when it is made available to them without substantial restrictions.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
18. Claim of right states that income has been realized if a taxpayer receives income and there
are substantial restrictions on the taxpayer's use of the income.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-40
Chapter 05 - Gross Income and Exclusions
19. Community property laws dictate that income earned by one spouse is treated as though it
was earned equally by both spouses.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
20. The assignment of income doctrine requires that to shift income from property to another
person, the taxpayer must transfer only the income to the other person.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
21. Interest income is earned in the year in which it is received by the taxpayer or credited to
the bank account.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
22. For tax purposes, unearned income means income that has not yet been realized.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
5-41
Chapter 05 - Gross Income and Exclusions
23. A portion of each payment from a purchased annuity represents income.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
24. The exclusion ratio for a purchased annuity is the cost of the annuity divided by the
interest rate.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
25. Rental income generated by a partnership is reported by partners as dividend income.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
26. The tax law defines alimony to include transfers of property (but not cash) between
former spouses.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
5-42
Chapter 05 - Gross Income and Exclusions
27. The tax law includes a complex set of restrictions called frontloading to make it difficult
for taxpayers to disguise property payments as alimony payments.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
28. Prizes and awards are generally taxable.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
29. Gambling winnings are included in gross income only to the extent that the winnings
exceed gambling losses incurred during the same period.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
30. Generally, 85 percent of Social Security benefits are included in income of high income
taxpayers.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
5-43
Chapter 05 - Gross Income and Exclusions
31. Unemployment benefits are excluded from gross income.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
32. A taxpayer generally includes in gross income the amount of debt forgiven by a lender.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
33. An employee may exclude up to a 40 percent employer-provided discount on services.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
34. A below-market loan (e.g., from an employer to an employee) is a common example of a
transaction that generates taxable imputed income.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
5-44
Chapter 05 - Gross Income and Exclusions
35. Interest earned on a Federal Treasury bond is excluded from gross income (for federal tax
purposes).
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
36. Interest earned on a city of Denver bond is excluded from gross income (for federal tax
purposes).
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
37. Taxpayers meeting certain home ownership and use requirements can permanently
exclude up to $1,000,000 of realized gain on the sale of their principal residence.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
38. Qualified fringe benefits received by an employee can be excluded from gross income.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-45
Chapter 05 - Gross Income and Exclusions
39. Scholarships are excluded from gross income for degree candidates even if the scholarship
pays for required fees and books in addition to tuition.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
40. Earnings from 529 plans and Coverdell education savings accounts are excluded from
gross income as long as they use the earnings to pay for qualifying educational expenditures.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
41. Trevor received a gift of $25,000 in cash from his rich uncle. Trevor must include $15,000
of this gift in his gross income this year.
FALSE
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
42. Anna received $15,000 from life insurance paid upon the death of her grandmother. Anna
can exclude the entire amount of the life insurance from her gross income.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-46
Chapter 05 - Gross Income and Exclusions
43. U.S. citizens generally are subject to tax on all income whether it is generated in the
United States or in foreign countries.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
44. To provide relief from double taxation, Congress allows a foreign-unearned income
exclusion for interest and dividends earned in foreign countries.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
45. Worker's compensation benefits are excluded from gross income.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
46. Fred must include in gross income a $7,500 payment received from his neighbor to
compensate Fred for the emotional distress he suffered when his neighbor accidentally ran
over his dog.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
5-47
Chapter 05 - Gross Income and Exclusions
47. Loretta received $6,200 from disability insurance that she purchased directly this year.
Loretta must include all $6,200 in her gross income.
FALSE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
48. Brad was disabled for part of the year and he received $11,500 of benefits from a
disability plan purchased by Brad's employer. Brad must include all $11,500 of benefits in his
gross income because Brad was not taxed on the disability insurance premiums paid by his
employer.
TRUE
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
Multiple Choice Questions
49. Gross income includes
A. all income from whatever source derived unless excluded by law
B. excluded income
C. deferred income
D. all realized income
E. All of the above
This is the all-inclusive definition of gross income.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-48
Chapter 05 - Gross Income and Exclusions
50. Which of the following is not a necessary condition for income to be included in gross
income?
A. income must be realized
B. income must be paid in cash
C. income cannot be excluded by law
D. income must be made available to a taxpayer on the cash basis
E. All of the above
Income can be paid in cash, property, or services.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
51. Sally is a cash basis taxpayer and a member of the Valley Barter club. This year Sally
provided 100 hours of sewing services to the barter club in exchange for two football playoff
tickets. Which of the following is a true statement?
A. Sally need not recognize any gross income unless she sells the football tickets.
B. Sally's exchange does not result in taxable income.
C. Sally is taxed on the value of the football tickets even if she cannot attend the game.
D. Sally is taxed on the value of her sewing services only if she is a professional seamstress.
E. All of the above are true.
Gross income includes the value of property received in exchange for services.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Hard
5-49
Chapter 05 - Gross Income and Exclusions
52. This year Barney purchased 500 shares of Bell common stock for $20 per share. At yearend the Bell shares were only worth $2 per share. What amount can Barney deduct as a loss
this year?
A. $10,000
B. $9,000
C. $1,000
D. Barney can deduct $10,000 only if he includes $1,000 in his taxable income
E. None of the above - Barney is not entitled to a loss deduction.
No realization occurs until the stock is sold or becomes worthless.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
53. Hillary is a cash-basis calendar-year taxpayer. During the last week of December she
received a letter containing a $5,000 check for services. Which of the following is a true
statement?
A. Hillary is taxed on the $5,000 of service income in the year she cashes the check.
B. Hillary is taxed on the $5,000 of service income in the year the check was mailed.
C. Hillary is taxed on the $5,000 of service income in the year she receives the check.
D. Hillary is taxed on the $5,000 of service income in the year she provides the services.
E. None of the above is true.
Under constructive receipt Hillary is taxed on income when property is received or made
available to her.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
5-50
Chapter 05 - Gross Income and Exclusions
54. Identify the rule that determines whether a taxpayer must include in income a refund of an
amount deducted in a previous year:
A. Tax refund rule
B. Constructive receipt
C. Return of capital principle
D. Tax benefit rule
E. None of the above
Definition of tax benefit rule.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
55. Identify the rule dictating that on a sale of an asset a taxpayer need only include the
incremental gain in gross income rather than the entire proceeds from the sale:
A. Tax benefit rule
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. None of the above
F. All of the above
Definition of return of capital principle.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-51
Chapter 05 - Gross Income and Exclusions
56. Identify the rule that allows to lessors exclude security deposits from gross income
because they have an obligation to repay the deposit:
A. Claim of right
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. None of the above
F. All of the above
Definition of claim of right.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
57. Dave is a plumber who uses the cash method of accounting. This year Dave requested that
his clients make their checks payable to his son, Steve. This year Steve received checks in the
amount of $62,000 for Dave's plumbing services. Which of the following is a true statement?
A. Dave is taxed on $62,000 of plumbing income this year.
B. Steve is taxed on $62,000 of plumbing income this year.
C. Steve is taxed on $62,000 of income from gifts received this year.
D. Dave may deduct the $62,000 received by Steve.
E. All of the above are true
The assignment of income is not effective for tax purposes.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-52
Chapter 05 - Gross Income and Exclusions
58. Jack and Jill are married. This year Jack earned $72,000 and Jill earned $80,000 and they
received $4,000 of interest income from a joint savings account. How much gross income
would Jack report if he files married-separate from Jill?
A. $72,000 if they reside in a common law state.
B. $76,000 if they reside in a community property law state.
C. $84,000 if they reside in a common law state.
D. $78,000 if they reside in a community property law state.
E. All of the above
In a community property state Jack is taxed on of his separate income ($36,000) plus of
Jill's separate income ($40,000) plus of joint income ($2,000). In a common law state, Jack
is taxed on his separate income ($72,000) plus of joint income ($2,000).
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Hard
59. Identify which of the items below help determine which taxpayer must recognize earned
income:
A. Residence in a community property law state
B. Assignment of income
C. Residence in a common law state
D. Both A and B above
E. All of the above
Both the residence and who earns the income dictate who recognizes income.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-53
Chapter 05 - Gross Income and Exclusions
60. Kevin provided services to several clients this year who paid with different types of
property. Which of the following payments is not included in Kevin's gross income?
A. Cash
B. Shares of stock listed on the New York Stock Exchange
C. A used car
D. Gold coins
E. All of the above are included in gross income
Property is included in gross income if it is capable of valuation.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
61. Emily is a cash basis taxpayer, and she was an especially productive salesperson last year.
In December of last year her supervisor told Emily she had earned a $5,000 bonus. However,
Emily received the bonus check after year end. Identify the principle that will determine when
Emily is taxed on the bonus:
A. Assignment of income
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. All of the above
Emily is taxed in the year the bonus is made available to her.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-54
Chapter 05 - Gross Income and Exclusions
62. Ophra is a cash basis taxpayer who is employed in the publishing industry. This year her
employer informed her that because of her outstanding performance she is entitled to a free
world cruise. Ophra asked her employer to issue the cruise tickets to her parents, and he
complied with this request. Identify the principle that will determine whether Ophra or her
parents are taxed on the value of the cruise tickets:
A. Assignment of income
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. All of the above
Ophra cannot assign earned income.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
63. This year Henry realized a gain on the sale of an antique car that he inherited from his
uncle. The buyer has promised to pay Henry in installment payments over the next few years.
Identify the principle that will determine when Henry should be taxed on the gain from the
sale:
A. Assignment of income
B. Constructive receipt
C. Return of capital principle
D. Wherewithal to pay
E. All of the above
Wherewithal to pay dictates that gains from installment sales are generally recognized over
the periods in which payments are received.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Hard
5-55
Chapter 05 - Gross Income and Exclusions
64. This year Mary received a $200 refund of state income taxes that she deducted on her tax
return last year. Mary included a total of $4,000 of state income taxes when she itemized
deductions last year. What amount of the refund, if any, should Mary include in her gross
income this year?
A. $200 is included because Mary itemized her deductions last year.
B. $200 is included if itemized deductions exceeded the standard deduction by $200.
C. $200 is included because itemized deductions exceeded the standard deduction.
D. $200 is included even if Mary claimed the standard deduction.
E. None of the above - refunds of state income taxes are not included in gross income.
Refund amounts are included in gross income only to the extent that the original deduction
provided a tax benefit. The $4,000 of deduction produced a tax benefit of $200 if itemized
deductions exceeded the standard deduction by $200.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Hard
65. Opal deducted $2,400 of state income taxes on her tax return last year. This year she
received a state income tax refund of $170. What amount of the refund, if any, should Opal
include in her gross income if last year her total itemized deductions exceeded the standard
deduction by $350?
A. $2,050
B. $350
C. $180
D. $170
E. None of the above - refunds of state income taxes are not included in gross income.
Refund amounts are included in gross income only to the extent that the original deduction
provided a tax benefit. The $2,400 of deduction produced a tax benefit of $350 so the entire
$170 is included in income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
5-56
Chapter 05 - Gross Income and Exclusions
66. Wilma has a $25,000 certificate of deposit (CD) at the local bank. The interest on this
certificate, $1,000, was credited to her account this year but she must pay an early withdrawal
penalty if she cashes in the CD before next year. Which of the following is a true statement?
A. Wilma must include the $1,000 of interest in her income this year.
B. Wilma must include the $1,000 of interest in her income when she cashes the CD.
C. Wilma must include the $1,000 of interest in her income this year only if the bank waives
the early withdrawal penalty.
D. Wilma must include the $1,000 of interest in her income next year if she does not pay the
early withdrawal penalty.
E. All of the above
Interest is taxed when credited to the account.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
67. Which of the following is a true statement about the first payment received from a
purchased annuity?
A. The payment is included in gross income.
B. A portion of the payment is a return of capital.
C. The payment can only be taxed in the year after the annuity was purchased.
D. The payment is not taxed until the annuity payments cease altogether.
E. All of the above
A portion of the first payment from a purchased annuity will be a return of capital depending
upon the amount paid for the investment and the expected number of payments to be received.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
5-57
Chapter 05 - Gross Income and Exclusions
68. Which of the following is a description of how the annuity exclusion ratio is calculated for
an annuity paid over a fixed period?
A. The expected return is divided by the number of payments.
B. The original investment is multiplied by the prevailing interest rate.
C. The original investment is divided by the number of payments.
D. The expected return is divided by the prevailing interest rate.
E. None of the above
Definition of annuity exclusion ratio.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
69. George purchased a life annuity for $3,200 that will provide him $80 monthly payments
for as long as he lives. Based on IRS tables, George's life expectancy is 100 months. How
much of the first $80 payment will George include in his gross income?
A. $80
B. $72
C. $48
D. $32
E. None of the above
The annuity exclusion ratio is ($3,200/100) = $32 return of capital per payment. Hence, $48
of the $80 is included in gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
5-58
Chapter 05 - Gross Income and Exclusions
70. Fran purchased an annuity that provides $12,000 quarterly payments for the next 10 years.
The annuity was purchased at a cost of $300,000. How much of the first quarterly payment
will Fran include in her gross income?
A. zero
B. $4,500
C. $12,000
D. $32,400
E. All of the above
The annuity exclusion ratio is [($300,000/(4 x 10) ] = $7,500 return of capital per payment.
Hence, $4,500 of each $12,000 payment is included in gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
71. Harold receives a life annuity from his qualified pension that pays him $5,000 per year for
as long as he lives. Later this year Harold will recover the remainder of his cost of the
annuity. Which of the following correctly describes how the annuity payments are taxed after
Harold has recovered the cost of the annuity?
A. Harold will continue to apply the annuity exclusion ratio to determine the amount of each
annuity payment includible in gross income.
B. Harold will include the entire amount of each annuity payment in gross income after he
recovers the cost of the annuity.
C. The entire amount of each annuity payment is excluded from gross income after Harold
recovers his cost of the annuity.
D. Harold must request that the IRS calculate his exclusion ratio based upon a revised life
expectancy.
E. All of the above
The entire annuity payment is included in gross income once the cost of the annuity is
recovered.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
5-59
Chapter 05 - Gross Income and Exclusions
72. To calculate a gain or loss on the sale of an asset, the proceeds from the sale are reduced
by which of the following?
A. Tax basis of the property
B. Selling expenses
C. Amount realized
D. A and B above
E. All of the above
Tax basis and selling expenses reduce proceeds for a "casual" sale of property.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
73. Nate is a partner in a partnership that received $5,000 of interest income this year. Nate's
share of the interest is $1,000, and he should report this income on his individual return as:
A. business income
B. income from a partnership
C. interest income
D. dividend income because the partnership intends to organize next year as a limited liability
company
E. All of the above
Income from flow-through entities retains its character when reported on individual returns.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
5-60
Chapter 05 - Gross Income and Exclusions
74. Which of the following statements about alimony payments is true?
A. To qualify as alimony, payments must be made in cash.
B. Alimony payments are includible in the gross income of the recipient.
C. To qualify as alimony, payments cannot continue after the death of the recipient.
D. To qualify as alimony, payments must be made under a written agreement or divorce
decree that does not designate the payments as "nonalimony" or child support.
E. All of the above
None.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
75. Barney and Betty got divorced this year. In the divorce decree Betty agreed to transfer 100
shares of common stock worth $50,000 and pay Barney $24,000 per year for five years (or
until Barney's death or remarriage). What amount (if any) is included in Barney's gross
income this year?
A. $24,000
B. $50,000
C. $74,000
D. $170,000
E. None of the payments are included in gross income
Alimony payments are in cash pursuant to a divorce and do not survive the death of the
recipient.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
5-61
Chapter 05 - Gross Income and Exclusions
76. Charles and Camilla are getting divorced. Under the terms of the decree Charles will pay
Camilla $50,000 in cash in each of the next five years (or until Camilla's death or remarriage).
In addition, Charles will transfer a castle worth $2,000,000 to Camilla and pay $12,000 per
year to support their son, Clyde, until he turns 19 years old. What amount (if any) is included
in Camilla's gross income this year?
A. $2,062,000
B. $12,000
C. $50,000
D. $2,050,000
E. None of the payments are included in gross income
Property settlements and child support are not included in gross income, but alimony
payments (cash) are includible.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
77. Hal Gore won a $1 million prize for special contributions to environmental research. This
prize is awarded for public achievement, and Hal immediately indicated that he would
transfer $400,000 of the award to the Environmental Protection Agency. How much of the
prize should Hal include in his gross income?
A. $400,000
B. $600,000
C. $1 million
D. None of the above because all prizes are excludible
E. None of the above because prizes from charities are excludible
Awards for scientific or public achievement are excluded only if transferred immediately to a
governmental unit (e.g., EPA) or a public charity.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
5-62
Chapter 05 - Gross Income and Exclusions
78. Ethan competed in the annual Austin Marathon this year and won a $25,000 prize for
fastest wheelchair entrant. Ethan indicated that he would transfer the prize to the local
hospital. How much of the prize should Hal include in his gross income?
A. $25,000
B. $25,000 because all prizes are taxable
C. Zero because prizes transferred to charities are excludible
D. Zero because all prizes are excludible
E. Zero because prizes from charities are excludible
The prize must be associated with scientific, literary, or charitable achievement.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
79. This year Ed celebrated his 25th year as an employee of Designer Jeans Company. In
recognition of his long and loyal service, the company awarded Ed a gold watch worth $250
and a $2,000 cash bonus. What amount must Ed include in his gross income?
A. $2,250
B. $2,000
C. $250
D. Zero if Ed offers to contribute his watch and bonus to a qualified charity
E. Zero - all employee awards are excluded from gross income
Cash bonus payments are includible in gross income but awards of tangible property to
employees for length of service or safety achievement are excluded up to $400 of value.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
5-63
Chapter 05 - Gross Income and Exclusions
80. Rhett made his annual gambling trip to Uwin Casino. On this trip Rhett won $250 at the
slots and $1,200 at poker. Also this year, Rhett made several trips to the race track, but he lost
$700 on his various wagers. What amount must Rhett include in his gross income?
A. $1,450
B. $1,200
C. $750
D. $250
E. Zero - gambling winnings are not included in gross income
Taxpayers must include the gross amount of their gambling winnings for the year in gross
income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Knowledge
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
81. Bernie is a former executive who is retired. This year Bernie received $250,000 in pension
payments and $10,000 of social security payments. What amount must Bernie include in his
gross income?
A. $250,000
B. $255,000
C. $258,500
D. $260,000
E. Zero
High income individuals include 85% of their social security benefits in gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
5-64
Chapter 05 - Gross Income and Exclusions
82. Bart, a single taxpayer, has recently retired. This year, he received $24,000 in pension
payments and $5,000 of social security payments. What amount must Bart include in his gross
income for the social security payments?
A. $4,250
B. $2,500
C. $1,500
D. $750
E. Zero
His modified AGI + 50% of Social Security benefits is $24,000 + $2,500 = $26,500, which is
greater than $25,000 but less than or equal to $34,000. His taxable Social Security benefits are
the lesser of A) $2,500 (50% of his Social Security benefits or B) 50 percent of [$24,000
modified AGI + $2,500 (50% of Social Security benefits) - $25,000] =$750. Thus, his taxable
Social Security benefits are $750.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
83. Karl works at Moe's grocery. This year Karl was paid $43,000 in salary but he was
allowed to purchase his groceries at 10% below Moe's cost. This year Karl spent $3,600 to
purchase groceries costing Moe $4,000 and worth $6,000. What amount must Karl include in
his gross income?
A. $46,600
B. $47,000
C. $49,000
D. $43,400
E. $45,500
Employees must recognize imputed income to the extent they are allowed to purchase goods
from their employer at a price below the employer's cost.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
5-65
Chapter 05 - Gross Income and Exclusions
84. Joyce's employer loaned her $50,000 this year (zero interest rate) to buy a new car. If the
federal interest rate was 3%, which of the following is correct?
A. Joyce recognizes $1,500 of taxable interest income.
B. Joyce's employer recognizes $1,500 of deductible interest expense.
C. Joyce recognizes $1,500 of imputed compensation income.
D. Joyce recognizes $1,500 of imputed dividend income.
E. None of the above.
Employees recognize compensation income on below market loans from employers
calculated using the federal interest rate.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
85. Janine's employer loaned her $5,000 this year (zero interest rate) to buy a used car. If the
federal interest rate was 4%, which of the following is correct?
A. Janine recognizes $200 of taxable interest income.
B. Janine's employer recognizes $200 of deductible interest expense.
C. Janine recognizes $200 of imputed compensation income.
D. Janine recognizes $200 of imputed dividend income.
E. None of the above.
The imputed interest rules do not apply to loans of $10,000 or less.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
5-66
Chapter 05 - Gross Income and Exclusions
86. Deb has found it very difficult to repay her loans. Because of these difficulties, the bank
decided to forgive one of her most recent loans, an amount of $45,000. After the loan was
discharged, Deb had total assets of $232,000 and her remaining loans total $217,000. What
amount must Deb include in her gross income?
A. $15,000
B. $45,000
C. $30,000
D. $28,000
E. Zero - Deb was not solvent when the loan was discharged
A discharge of indebtedness is not taxable if the taxpayer is insolvent before and after the
debt forgiveness. If the discharge of indebtedness makes the taxpayer solvent, the taxpayer
recognizes taxable income to the extent of his solvency.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
87. Mike received the following interest payments this year. What amount must Mike include
in his gross income (for federal tax purposes)?
A. $2,650
B. $2,350
C. $2,050
D. $2,300
E. $4,950
Interest on bonds issued by state and local governments is excluded from gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
5-67
Chapter 05 - Gross Income and Exclusions
88. This year, Fred and Wilma sold their home (sales price $750,000; cost $200,000). All
closing costs were paid by the buyer. Fred and Wilma owned and lived in their home for 20
years. How much of the gain is included in gross income?
A. $550,000
B. $300,000
C. $250,000
D. $50,000
E. None
Fred and Wilma may exclude $500,000 of their $550,000 gain ($750,000 sales price $200,000 cost = $550,000 gain) because they meet the ownership and use tests. Thus, they
only include $50,000 of the gain in their gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
89. This year, Barney and Betty sold their home (sales price $750,000; cost $200,000). All
closing costs were paid by the buyer. Barney and Betty owned and lived in their home for 18
months. How much of the gain is included in gross income?
A. $550,000
B. $300,000
C. $250,000
D. $50,000
E. None
All of the gain is included in gross income because Barney and Betty do not meet the two
year ownership and use tests.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-68
Chapter 05 - Gross Income and Exclusions
90. Frank received the following benefits from his employer this year. What amount must
Frank include in his gross income?
A. $54,450
B. $57,350
C. $56,250
D. $59,150
E. Zero - these benefits are excluded in gross income
An employee may exclude from income the cost of medical and dental health insurance
premiums and group-term life insurance (face $50,000) premiums an employer pays on the
employee's behalf.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
5-69
Chapter 05 - Gross Income and Exclusions
91. Ben's employer offers employees the following benefits. What amount must Ben include
in his gross income?
A. $9,400
B. $11,070
C. $10,600
D. $7,000
E. Zero - none of the above benefits is included in gross income
If an employer pays disability premiums, and the employee chooses the premium as taxable
compensation, it is considered employee-purchased and the benefits paid (if any) are excluded
from the employee's gross income. Employer-paid whole life insurance premiums are
included in gross income. Only premiums on up to $50,000 of employer-paid group term
insurance are excluded from gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
5-70
Chapter 05 - Gross Income and Exclusions
92. Shaun is a student who has received an athletic scholarship to State University. The
scholarship paid $14,000 for tuition, $2,500 for fees, and $1,000 for books. In addition,
Shaun's dormitory fees of $8,500 were paid by the University when he agreed to counsel
freshman on campus living. What amount must Shaun include in his gross income?
A. $9,500
B. $11,000
C. $2,500
D. $8,500
E. Zero - none of the above benefits is included in gross income
College students seeking a degree are allowed to exclude from gross income scholarships that
pay for tuition, fees, books, supplies, and other equipment required for the student's courses.
Any excess scholarship amounts (such as for room or meals) are fully taxable. The
scholarship exclusion applies only if the recipient is not required to perform services in
exchange for receiving the scholarship.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
93. Graham has accepted an offer to do graduate work in the chemistry department at State
University. The chemistry department offered Graham a $5,000 tuition reduction and $3,500
toward the cost of room and meals. Under the terms of the scholarship Graham must work in
the chemistry labs during the summer as a research assistant. What amount must Graham
include in his gross income?
A. $8,500
B. $5,000
C. $3,500
D. $2,500
E. Zero - none of the above benefits is included in gross income
The scholarship exclusion applies to the tuition reduction but not the cost of room and board.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-71
Chapter 05 - Gross Income and Exclusions
94. Sam saved diligently for his college education by putting part of his pay into U.S. Series
EE saving bonds. Sam purchased the bonds for $6,500, and this year he redeemed the bonds
for $7,200. He has no other income this year. What amount must Sam include in his gross
income?
A. $7,200.
B. $6,500.
C. a maximum of $350 if Sam uses the proceeds to pay for his college tuition and fees.
D. $700 unless Sam uses the proceeds to pay for his college tuition and fees.
E. Zero - proceeds from cashing bonds sold at a discount is not realized income.
Taxpayers using the bond redemption proceeds from Series EE bonds to pay for qualified
higher educational expenses of the taxpayer, the taxpayer's spouse, or a dependent of the
taxpayer may be allowed to exclude the interest from gross income. Qualified higher
education expenses include the tuition and fees required for enrollment or attendance at an
eligible educational institution.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
95. Brenda has $15,000 in U.S. Series EE saving bonds and she is considering whether to
cash the bonds. Under what conditions can Brenda exclude the interest on the savings bonds
from her gross income?
A. Brenda can exclude the interest if she uses the proceeds to pay for college tuition.
B. Brenda's modified AGI must be below a phase-out range for the exclusion.
C. The proceeds must be used for higher education expenses of Brenda, her spouse, or
Brenda's dependent.
D. All of the above are necessary conditions for Brenda to exclude the interest.
E. None of the above - the interest is always included in gross income
Specifically, taxpayers using the bond redemption proceeds from Series EE bonds to pay for
qualified higher educational expenses of the taxpayer, the taxpayer's spouse, or a dependent of
the taxpayer may be allowed to exclude the interest from gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-72
Chapter 05 - Gross Income and Exclusions
96. Dora made a gift of stock to her granddaughter. At the time of the gift, the stock was
worth $15,000. Several months after the gift, a $500 dividend was declared on the stock and
paid to Dora's granddaughter. What amount must Dora's granddaughter include in her gross
income?
A. $2,000
B. $15,000
C. $15,500
D. $2,500
E. None of the above
The gift of the stock is excluded but the dividend on the shares is taxable. Hence, the answer
is $500.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
97. Irene's husband passed away this year. After his death, Irene received $250,000 of
proceeds from life insurance on her husband, and she inherited her husband's stock portfolio
worth $750,000. What amount must Irene include in her gross income?
A. $1 million
B. $750,000
C. $500,000
D. Zero but only if Irene does not opt to receive the life insurance proceeds in a lump sum
E. Zero - none of the above benefits is included in gross income
Taxpayers exclude inheritances and life insurance proceeds from gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
5-73
Chapter 05 - Gross Income and Exclusions
98. Helen is a CPA and will spend this entire year in an overseas office of her firm. Helen's
salary of $110,000 is subject to the income tax of the foreign country. How much of her salary
will she be allowed to exclude from gross income in the U.S.?
A. $82,000
B. $92,900
C. $97,500
D. $108,000
E. All of her salary is included in gross income
Congress allows taxpayers to annually exclude a certain maximum amount, indexed for
inflation, of foreign earned income from taxation. In 2011, the maximum exclusion is
$92,900.
AACSB: Reflective thinking
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
99. Hank is a sales executive who earned $109,500 working for a multinational firm this year.
Of the 365 days in this year Hank spent 340 days residing and working in an overseas office
and 25 days working in the United States. What amount of Hank's salary will he be allowed to
exclude from gross income in the U.S. (rounded to the nearest one-hundred dollars)?
A. Hank can exclude his entire salary because he worked more than 330 days overseas
B. 97,400
C. 86,500
D. 92,900
E. None of his salary can be excluded from gross income because Hank must reside overseas
for the entire year
$92,900 x 93% [340/365] = $86,537 rounded to $86,500. Since Hank will spend more than
330 days in the foreign country over 12 months, he is eligible to exclude foreign earned
income. The exclusion is computed on a daily basis, the maximum exclusion is reduced prorata for each day during the calendar year the taxpayer is not considered to be a resident of the
foreign country or does not actually live in the foreign country.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
5-74
Chapter 05 - Gross Income and Exclusions
100. NeNe is an accountant who works for a multinational firm this year and spent the entire
year working overseas. NeNe's employer paid $40,000 of her overseas housing expenses this
year. What amount of the $40,000 housing payments may NeNe exclude?
A. NeNe can exclude all of the housing payment because she worked more than 330 days
overseas
B. 14,864
C. 25,136
D. 13,006
E. None of her salary can be excluded from gross income because NeNe must reside overseas
for two consecutive years to receive an exclusion.
Since NeNe spent the entire year overseas, she may exclude the lesser of A) $40,000 housing
costs - $14,864 ($92,900 x .16) = $25,136 or B) $13,006 ($92,900 x .14). Thus, she may
exclude $13,006 of the housing costs paid by her employer.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
101. Pam recently was sickened by eating spoiled peanut butter. She successfully sued the
manufacturer for her medical bills ($3,700), her emotional distress ($6,000 - she now fears
peanut butter), and punitive damages ($44,000). What amount must Pam include in her gross
income?
A. $44,000
B. $50,000
C. $47,700
D. $9,700
E. Zero - none of the above benefits is included in gross income
The tax laws specify that any payments (other than punitive damages) on account of a
physical injury or physical sickness are nontaxable. Damages taxpayers receive for emotional
distress associated with a physical injury are also excludable. Punitive damages are fully
taxable, however, because they are intended to punish the harm-doer rather than to
compensate the taxpayer for injuries.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-75
Chapter 05 - Gross Income and Exclusions
102. This year Zach was injured in an auto accident. As a result he received the following
payments.
Zach received $18,000 of disability pay. Zach has disability insurance provided by his
employer as a nontaxable fringe benefit. Zach's employer paid $4,300 in disability premiums
for Zach this year.
Zach's hospital bills totaled $4,500 and were paid by his health insurance. Zach has health
insurance provided by his employer as a nontaxable fringe benefit. Zach's employer paid
$6,250 in health insurance premiums for Zach this year.
What amount must Zach include in his gross income?
A. $22,500
B. $18,000
C. $4,500
D. $10,550
E. Zero - none of the above benefits is included in gross income
Any payment a taxpayer receives from a health and accident insurance policy for medical or
dental expenses paid by the taxpayer is excluded from the taxpayer's income. If the employer
pays the disability premiums for an employee as a nontaxable fringe benefit, the employee
must include all disability benefits in gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-76
Chapter 05 - Gross Income and Exclusions
103. Samantha was ill for four months this year. Samantha missed work during this period,
but disability insurance paid $18,000 of disability pay to replace her missed salary. Samantha
shares the cost of the insurance with her employer. This year Samantha's employer paid
$2,200 in disability premiums for Samantha as a nontaxable fringe benefit and Samantha paid
the remaining $1,100 of premiums from her salary. What amount of the disability pay must
Samantha include in her gross income (rounded to the nearest whole dollar)?
A. $18,000
B. $12,000
C. $7,000
D. $1,100
E. Zero - none of the above disability pay is included in gross income
The portion of disability benefits that represents premium paid as a nontaxable fringe benefit
is included in gross income. The employer paid 2/3rds of the cost and so 2/3rds of the pay is
includible [$2,200/($2,200 + $1,100)] x $18,000 = $12,000. The remaining portion (1/3) of
the disability benefits is excluded from gross income because the premiums were paid by the
taxpayer.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
104. Acme published a story about Paul and as a result Paul sued Acme for damage to his
reputation, emotional distress, and punitive damages. Paul won an award of $20,000 for
damages, $5,500 for emotional distress, and $50,000 for punitive damages. What amount
must Paul include in his gross income?
A. $5,500
B. $20,000
C. $50,000
D. $70,000
E. All of the above benefits are included in gross income
The tax laws specify that only payments on account of a physical injury or physical sickness
are nontaxable. Damages taxpayers receive for emotional distress that are not associated with
a physical injury are taxable as are punitive damages and damages to reputation.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-77
Chapter 05 - Gross Income and Exclusions
Essay Questions
105. This year Ann has the following stock transactions. What amount is included in her gross
income if Ann paid a $200 selling commission for each sale?
$2,100. ATT: ($9,500 - $200) - $7,500 = $1,800. Dell ($13,000 - $200) - $12,500 = $300.
Feedback: The increase in value in the IBM stock is not yet realized.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
106. Blake is a limited partner in Kling-On Partners. This year Kling-On reported that Blake's
share of dividend income was $3,700 and his share of municipal interest was $2,750. Early
this year Blake found a bundle of $100 bills in the alley outside his apartment. When no one
claimed the money, the cash (a total of $2,400) was returned to Blake. Finally, Blake earned
salary of $42,000 but almost $6,500 was withheld for income taxes and FICA tax. Compute
Blake's realized income and gross income.
$3,700 + $2,750 + $2,400 + $42,000 = $50,850 realized - $2,750 = $48,100 gross income
Feedback: Realized income is $50,850 but gross income excludes municipal interest.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-78
Chapter 05 - Gross Income and Exclusions
107. Henry works part-time on auto repairs and restoration projects. This year Henry was paid
$5,400 for repairs he made to his neighbor's auto. Henry's neighbor promised to pay Henry
another $2,200 in cash next year. Henry's brother borrowed $4,100 in cash in December of
this year and gave him a negotiable promissory note for $4,300 due in three months with
interest. Henry sold the note in January for $3,500. Finally, Henry restored a car for the
football coach. The coach paid him with a pass to next year's football games. The pass is
worth $750. Compute Henry's gross income assuming that he uses the cash basis of
accounting.
$5,400 + $750 = $6,150
Feedback: Gross income includes all income unless specifically excluded or deferred and cash
basis taxpayers realize income when valuable property is received.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
108. Juan works as a landscaper for local businesses on weekends, and he often provides
services in exchange for property. This year Juan provided lawn-mowing services in exchange
for $1,275 of car repair services, $3,570 of groceries, and a certificate of deposit (C.D.) for
$4,050. The C.D. matures next year with interest. Finally, Juan received a gift card that can
only be applied for $850 of clothing at a local mall. Juan has only applied the gift card to
purchase $100 of clothing. Compute Juan's gross income assuming that he uses the cash basis
of accounting.
$1,275 + $3,570 + $4,050 + $850 = $9,745
Feedback: Gross income includes all income unless specifically excluded or deferred and cash
basis taxpayers realize income when valuable property is received.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Easy
5-79
Chapter 05 - Gross Income and Exclusions
109. This year Kelsi received a $1,900 refund of state income taxes that she paid last year.
Last year Kelsi claimed itemized deductions of $6,800 and this total included $2,800 of state
income taxes. How much of the refund, if any, must Kelsi include in gross income if the
standard deduction last year was $5,700?
$1,100
Feedback: The tax benefit is the lesser of the refund ($1,900) or the excess of the itemized
deductions above the standard deduction ($6,800-$5,700= $1,100). Hence, Kelsi must include
$1,100 of the $1,900 refund in gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Hard
110. In April of this year Victoria received a $1,400 refund of state income taxes that she paid
last year. Last year Victoria claimed itemized deductions of $8,290. Victoria's itemized
deductions included state income taxes paid of $3,750. How much of the refund, if any, must
Victoria include in gross income if the standard deduction last year was $5,700?
$1,400
Feedback: The tax benefit is the lesser of the refund ($1,400) or the excess of the itemized
deductions above the standard deduction ($8,290-$5,700= $2,590). Hence, Victoria must
include the entire $1,400 refund in gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
5-80
Chapter 05 - Gross Income and Exclusions
111. Aubrey and Justin divorced on June 30 of this year. Through June 30 Aubrey earned
$62,000 of salary, and Justin earned $45,000. For the year Aubrey reported a total salary of
$130,000, and Justin earned a total salary of $88,000. Aubrey and Justin live in a community
property state. How much of the income earned by Aubrey and Justin will Justin report on his
tax return for this year?
$96,500 = [1/2 x ($62,000 + $45,000)] + ($88,000 - $45,000) = $53,500 + $43,000
Feedback: Under community property systems, the income earned from services by one
spouse is treated as though it was earned equally by both spouses.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
112. Aubrey and Justin divorced on June 30 of this year. Through June 30 Aubrey earned
$62,000 of salary and Justin earned $45,000. For the year Aubrey reported a total salary of
$130,000 and Justin earned a total salary of $88,000. Aubrey and Justin live in a community
property state. How much of the income earned by Aubrey and Justin will Aubrey report on
her tax return for this year?
$121,500 = [1/2 x ($62,000 + $45,000)] + ($130,000 - $62,000) = $53,500 + $68,000
Feedback: Under community property systems, the income earned from services by one
spouse is treated as though it was earned equally by both spouses.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
5-81
Chapter 05 - Gross Income and Exclusions
113. Cyrus is a cash method taxpayer who reports on a calendar-year. Last year Cyrus
received salary of $88,000 and at year-end his employer announced that Cyrus would receive
an additional year-end bonus of $10,000 in cash and a new TV worth $2,000. Cyrus didn't
receive his bonus check until January of this year and the TV didn't arrive until March of this
year. Determine the amount Cyrus should include in his gross income for last year.
$88,000
Feedback: Under constructive receipt the bonus and the TV are not included in gross income
until the year received.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
114. Kathryn is employed by Acme and they have been very pleased with her performance
this year. In December Kathryn was granted an extra week off with pay (pay for the week
totaled $2,000). In addition, Kathryn was given tickets to a football bowl game worth $800
(Kathryn didn't use the tickets - she hates football). At year-end Kathryn was allowed to order
new office furniture and Acme told her to take the old office furniture home. The office
furniture was originally purchased for $7,000, but it was fully depreciated and only worth
about $1,000. Determine the amount Kathryn should include in her gross income.
$2,000 + $800 + $1,000 = $3,800
Feedback: Gross income includes the value of property received.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-01 Apply the concept of realization and explain when taxpayers recognize gross income.
Level of Difficulty: Medium
5-82
Chapter 05 - Gross Income and Exclusions
115. Charles purchased an annuity from an insurance company that promised to pay him
$20,000 per year for the next 12 years. Charles paid $180,000 for the annuity. How much of
the first $20,000 payment should Charles include in gross income?
$5,000
Feedback: A part of each payment represents a return of the original $180,000 investment and
the remainder ($60,000) is income. The original investment ($180,000) divided by the number
of years indicates that $15,000 of each payment is a return of capital so the remaining $5,000
is income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
116. This year Larry received the first payment from an annuity that promises to pay him
$3,000 per month for the rest of his life. The IRS tables indicate that given Larry's age, he
should expect to receive 310 monthly payments. The cost of the annuity to Larry was
$620,000. How much of the first $3,000 payment should Larry include in gross income?
$3,000 - [$620,000/310] = $1,000
Feedback: A part of each payment represents a return of the original $620,000 investment.
The return of capital is prorated over the expected payment period so that each $3,000
monthly payment is composed of $2,000 of return of capital ($620,000/310 payments) and
$1,000 of income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
5-83
Chapter 05 - Gross Income and Exclusions
117. Desai and Lucy divorced this year. Lucy has custody of their child, Andrea, and under
the divorce decree Desai pays Lucy $120,000 per year. The payments must be made in cash
and will cease if Lucy dies or remarries. The payments drop to $100,000 per year once
Andrea reaches the age of 18. How much of the payments should Lucy include in gross
income this year?
$100,000
Feedback: The constant payments qualify as "alimony" and should be included in Lucy's
gross income. The drop in payments is treated as child support because these payments cease
upon the happening of a specific contingency related to the child.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Easy
118. Terri and Mike are seeking a divorce. Terri and Mike own an art collection worth
$357,000 that would belong to Terri. Mike offered to make annual payments of cash to Terri
each year for five years if Terry allows Mike to take possession of the art collection. Mike
insists however, that the annual payments must cease in the event of Terri's death. What
amount of annual payment must Terri demand to make her indifferent after taxes between
taking possession of the ($357,000) art versus collecting the cash payments? Assume that
Terri has a marginal tax rate of 15 percent and Mike's tax rate is 35 percent and ignore the
time value of money.
$420,000 over 5 years results in annual payments of $84,000.
Feedback: The annual payments to Terri would be taxable alimony but the property division
would be tax-free. Terri wants to net $357,000 either nontaxable (property distribution) or
after-tax (alimony). To determine the total cash payments ($X), we simply solve the following
equation: $X (1 - 0.15 tax rate) = $357,000, which simplifies to X = $420,000 before-tax total
payments. If Mike pays $420,000 to Terri as alimony, he would save $147,000 ($420,000 x
35%) in taxes and thus, would only be paying $273,000 after taxes ($420,000 payments $147,000 tax savings) for an art collection worth $357,000.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Hard
5-84
Chapter 05 - Gross Income and Exclusions
119. J.Z. (single taxpayer) is retired and received $10,000 of Social Security benefits this
year. How much of the $10,000 Social Security benefits is taxable if his only other income
was $28,000 of pension income?
$4,000
Feedback: J.Z.'s modified AGI + 50 percent of his Social Security benefits equals $28,000 +
$5,000 (50% x $10,000) = $33,000. Thus, his taxable Social Security benefits are the lesser of
A) $5,000 (50 percent of his Social Security benefits) or B) 50 percent of [$28,000 modified
AGI + $5,000 (50% of Social Security benefits) - $25,000] =$4,000. Thus, his taxable Social
Security Benefits are $4,000.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-02 Understand the distinctions between the various sources of income; including income from services and property.
Level of Difficulty: Medium
120. Wendell is an executive with CFO Tires. At the beginning of this year the corporation
loaned Wendell $50,000 at an interest rate of one percent. Wendell would have paid interest
of $2,500 this year if the interest rate on the loan had been set at the prevailing Federal
interest rate. Wendell used the funds as a down payment on a vacation home and during the
year he paid $500 of interest to CFO. On December 31, CFO forgave the loan and remaining
interest. What amount of gross income does Wendell recognize from the loan this year?
$52,000
Feedback: Wendell must include $2,000 in gross income from the discounted interest rate he
received on the loan ($2,500 interest at Federal rate minus $500 he actually was required to
pay). Also, Wendell must include the $50,000 in gross income because the discharge of the
debt is additional compensation.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
5-85
Chapter 05 - Gross Income and Exclusions
121. Bobby and Sissy got married 2.5 years ago. Since that time, they have lived in Bobby's
home. Sissy sold her previous home three years ago and excluded her entire gain ($80,000) at
that time. Bobby and Sissy decided to move to a bigger home this year. As a result, they sold
Bobby's home for $500,000 (original cost $150,000). How much of the gain from the sale is
taxable?
$0.
Feedback: Because Bobby meets the ownership test, Bobby and Sissy meet the use test, and
Sissy did not claim her exclusion within the previous two years, they may exclude the entire
gain up to $500,000.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
122. Robert will be working overseas on a temporary assignment beginning on March 1 of
this year through January 31 of next year (347 total days, 306 this year). His salary is $11,000
per month while Robert is overseas, but only $9,200 per month otherwise. What is the
minimum amount of Robert's salary that he must include in gross income this year? (Round
your final answer to the nearest whole dollar amount.)
$50,517
Feedback: The maximum foreign earned income exclusion for the year is $92,900. Robert
will earn $18,400 during January and February and $110,000 during the remainder of the
year. Since he will be spending a total of more than 330 days abroad over a 12-month
consecutive period, he is eligible to exclude foreign earned income. However, he will be able
to claim only a partial exclusion based upon his time abroad this year [$92,900 full exclusion
x 306/365 (days in foreign country/days in year)] and thus he will report gross income of
$50,517 ($128,400 - 77,883).
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
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Chapter 05 - Gross Income and Exclusions
123. Simon was awarded a scholarship to attend State Law School from Gary Harris &
Associates, Attorneys at Law. The scholarship pays Simon's tuition ($7,000 per semester),
fees ($500 per semester), and a $4,500 per semester stipend to pay for food and housing. In
order to qualify for the stipend, Simon must work 10 hours per week at Gary Harris &
Associates during the term. How much of the scholarship is Simon required to include in
gross income?
$12,000 per semester
Feedback: The stipend is included in gross income because the terms of the scholarship
require Simon to perform services.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
124. This fall Angelina plans to attend college. To fund her tuition she cashed in Series EE
savings bonds with a redemption value of $24,000 and an original cost of $16,800. Angelina
plans on spending $7,200 of the proceeds to pay tuition. The redemption proceeds are
Angelina's only source of income. What amount of interest must Angelina include in gross
income this year?
$5,040
Feedback: Angelina has realized interest of $7,200 but she is only eligible to exclude 30
percent of the interest income because she is only using 30 percent of the proceeds for a
qualified purpose ($7,200/$24,000). Angelina is not required to phase-out the amount of the
exclusion because her modified gross income is below the threshold for the phase-out of the
exclusion.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
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Chapter 05 - Gross Income and Exclusions
125. Teresa was married on November 1 of this year and on that day received numerous gifts
from her extended family. Her grandfather presented Teresa with a check for $15,000; her
uncle gave Teresa 1,000 shares of Ford stock worth $10 per share (the uncle purchased the
shares for $25 each); and her aunt presented Teresa with $50,000 of corporate bonds (Teresa
received $1,500 of semiannual interest from the bonds on December 31 of this year). Finally,
Teresa's parents paid off $50,000 of her student loans debt including $2,000 of accrued
interest. What amount, if any, must Teresa include in gross income this year?
$500 (2 months of 6 months interest received)
Feedback: All of the gifts are excludible except for the interest that accrued on the corporate
bonds after the date of the transfer.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
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Chapter 05 - Gross Income and Exclusions
126. Andres has received the following benefits this year.
Besides these benefits Andres missed work for two months due to an illness. During his
illness Andres received $6,500 in sick pay from a disability insurance policy. Assume Andres
has disability insurance provided by his employer as a nontaxable fringe benefit. What
amount, if any, must Andres include in gross income this year?
$115,920 =$92,000 + $15,000 + $2,420 + $6,500
Feedback: The disability pay of $6,500 is included in gross income because the insurance
premiums were paid as a nontaxable fringe benefit.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
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Chapter 05 - Gross Income and Exclusions
127. This year Joseph joined the board of directors. Besides his director's fees, Joseph
received the following employee benefits:
The stock bonus consisted of 5,000 shares of Bell stock given to Joseph as compensation. At
the time of the transfer the stock was listed at $4 per share. What amounts, if any, should
Joseph include in gross income this year?
$239,000 = $204,000 + $20,000 + $15,000
Feedback: Joseph would report the value of the stock ($20,000) as compensation.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
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Chapter 05 - Gross Income and Exclusions
128. Caroline is retired and receives income from a number of sources. The interest payments
are from bonds that Caroline purchased over past years and a disability insurance policy that
Caroline purchased after her retirement. Calculate Caroline's gross income.
$12,350 = $5,400 + $2,300 + $1,900 + $2,750
Feedback: Caroline is not taxed on the disability payments because she purchased the
insurance. In addition, Caroline's gross income is clearly below the Social Security phase-in
threshold, so the Social Security benefits are also excluded.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Easy
129. Alex is 63 years old and retired. This year Alex won $212,200 in the state lottery. Alex
also received $20,000 from an annuity he purchased eight years ago. He purchased the
annuity, to be paid annually for 15 years, for $157,500. Alex received $10,000 in Social
Security benefits for the year. Calculate Alex's gross income.
$230,200 = $212,200 + $9,500 + $8,500
Feedback: The annuity return of capital is ($157,500/15) = $10,500 and the taxable portion is
$9,500. Given Alex's income, his Social Security benefits are 85 percent taxable (i.e., $10,000
x 85 percent).
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Medium
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Chapter 05 - Gross Income and Exclusions
130. Vincent is a writer. Last year he began researching a story in Ireland and he resided in
various Irish locations from July 1 of last year through June 30 of this year. While he was in
Ireland he earned $135,000 working for a publisher. He was only paid $25,000 for his
services last year but he received the remaining $110,000 for his services this year. In April of
this year Vincent received a $1,500 refund of the $3,600 in state income taxes his employer
withheld from his pay last year. Vincent claimed $6,500 in itemized deductions last year (the
standard deduction for a single filer was 5,700). Vincent wants to elect to use the foreignearned income exclusion to the extent he is eligible. Calculate Vincent's gross income for this
year. (Round your final answer to the nearest whole dollar amount.)
$64,732 = $110,000 - $46,068 + $800
Feedback: $92,900 x 181/365 = $46,068 maximum exclusion. The tax benefit is the lesser of
the refund ($1,500) or the excess of the itemized deductions above the standard deduction
($6,500-$5,700= $800). Hence, Vincent must include $800 of the $1,500 refund in gross
income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
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Chapter 05 - Gross Income and Exclusions
131. Lisa and Collin are married. Lisa works as an engineer and earns a salary of $116,000.
Collin works at a beauty salon and reported wages of $45,000. Lisa received $500 of interest
from corporate bonds and $250 of interest from a municipal bond. Lisa acquired these bonds
prior to her marriage to Collin. Collin's father passed away on April 14. He inherited cash of
$50,000 and his baseball card collection, valued at $2,000. As beneficiary of his father's life
insurance policy, Collin also received $150,000. The couple spent a weekend in Atlantic City
in November and came home with gambling winnings of $1,200. Collin was injured in an
accident at the salon. He was unable to work for a month, but during this time he received
$5,000 from disability insurance he purchased several years ago. Collin also received $2,000
in workman's compensation, and $1,500 from the salon for the emotional trauma he suffered
from the accident. Calculate Lisa and Collin's gross income for this year assuming they will
file married joint.
$162,700 = $116,000 + $45,000 + $500 + $1,200
Feedback: The municipal interest, inheritance and life insurance, disability pay, workman's
compensation, and damages are all excluded from gross income.
AACSB: Analytic
AICPA: BB Critical Thinking
Bloom's: Application
Learning Objective: 05-03 Apply basic income exclusion provisions to compute gross income.
Level of Difficulty: Hard
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