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CHAPTER 5—GROSS INCOME TRUE/FALSE 1. The economist’s definition of income is expressed mathematically as the sum of one’s consumption during a period plus the change in one’s net worth between the beginning and end of the period. Con- sumption and the change in net worth are measured using market values on an accrual basis. ANS: T PTS: 1 REF: p. 5-3 2. Economists recognize income once it has been realized: (1) the earnings process is complete, and (2) an exchange or transaction has taken place. ANS: F Accountants recognize income once it is realized. PTS: 1 REF: p. 5-5 3. As a general rule, all income is taxable unless you can locate authority to exclude it from gross in- come. ANS: T Income for tax purposes is construed to include any type of gain, benefit, profit, or other increase in wealth that has been realized and is not exempted by statute. PTS: 1 REF: p. 5-6 and § 61 4. MNO Corporation sued XYZ Incorporated for patent infringement and was awarded $100,000 dam- ages. The $100,000 is taxable. ANS: T The award is in lieu of income and is not a return of capital. PTS: 1 REF: p. 5-9 5. B was recently fired from her position as newscaster for NBS, a national television network. She sued the network for lost wages on the grounds that she was improperly fired. Ms. B won the case and was awarded $25,000. She must treat the $25,000 as taxable income. ANS: T The amount is taxable since it is simply a substitution for income, but see the discussion in Chapter 6 on this issue. PTS: 1 REF: Example 6 and p. 5-9 6. G was injured in a car wreck. He sued the driver of the other automobile and was awarded $10,000 for personal injury. In addition, he was awarded $3,000 as punitive damages. G must report $3,000 as in- come. ANS: T The damages awarded for personal physical injury are considered a nontaxable return of capital. In contrast, punitive damages are taxable except in a wrongful death action.
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PTS: 1 REF: p. 5-8 and § 104(a)(2) 7. Video Games Unlimited Inc. allows its game designers to use, without charge, company cars for their personal vacations. The employer’s motive for providing the cars is to ensure that these valuable assets (i.e., the employees) of the business are retained. Because this is a reasonable business purpose, the employees will recognize no income from their use of the cars. ANS: F The employee must show that personal use of the car satisfied a business purpose of the employer oth- er than to compensate the employee. PTS: 1 REF: p. 5-10 8. An S corporation is similar to a partnership in that shareholders, like partners, are not taxed on the in- come of the entity until it is distributed to them. ANS: F Partners and S shareholders report their proportionate share of the entity’s income in their tax year in which the entity’s year ends. Distributions have no effect on the amount of annual income the individu- al will report with respect to the entity. The income flows through to the partners or shareholders. PTS:
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This note was uploaded on 04/06/2011 for the course ECON 3332 taught by Professor Craig during the Spring '11 term at Rensselaer Polytechnic Institute.

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