ACCT 5318

Tax Research – Fall 2011

Mid-term Exam

Answer each of the following questions in a short paragraph. Note that you must answer the question definitively (i.e., yes the taxpayer can deduct the payment in question vs. he could only deduct the payment if …) and you must provide authoritative citations for your answers. Submit your answers electronically by Friday, November 11 (midnight).

1.Illessam, Inc. was fined $800,000 by the state environmental agency for violating the state’s Clean Water Act. The company’s founder met with the agency and agreed to spend $1 million to make upgrades in its manufacturing plant. In exchange, the state agreed to reduce the fine to $250,000. The company spent $300,000 in legal fees in the process of negotiating with the state. How much can Illessam, Inc. deduct on its 2004 income tax return with regard to these expenditures?

2.The Lightner Group is a partnership of three successful entrepreneurs who recently purchased a minor league baseball team to bring to Lubbock, Texas. The investors lost $600,000 from operations in their first year. Review of financial data from the league reveals that only 3 teams out of 42 minor league franchises turned a (small) accounting profit last year. Can the Lightner Group deduct its operating loss from the Lubbock baseball operations?

3.Cheryl signed a new contract this year with a professional women’s basketball team. She asked the team to transfer $1 million into an escrow account in her name to be withdrawn in equal installments over the next five years. The team agreed to this arrangement in lieu of paying her a signing bonus. When will the $1 million be taxable to Cheryl?

4.Steve is an usher at his church. Can he deduct commuting expenses for Sundays when he is assigned to usher for church services?

5.Bill and Penny live in Dallas. The city of Dallas played host to the 2004 Summer Olympics and hotel space was at a premium. A travel company contacted Bill and Penny and asked if they would be willing to go on vacation for two weeks during the Olympics and rent their house, which is very conveniently located near the Olympic stadium, to foreign visitors, as part of an Olympic package offered by the travel company to its European customers. The rent would be $25,000 ($12,500 per week). The travel company indicated that the rent would be tax free because the rental period would be less than 15 days. This sounded too good to be true, but the couple took the offer anyway. Now, of course, they have spent the money, and want to know whether the travel company was right – will the rental income be nontaxable?

6.KP Properties, Inc. owns a small shopping center. It rented space in the shopping center to a restaurant, the owners of which made substantial improvements to the property – installation of new flooring, wall coverings, a dropped ceiling, etc. The total cost of the improvements to the property was just over $125,000. Is this taxable to KP Properties?

7.Cheryl Wilson applied to join the audience of the Oprah Winfrey show earlier this year, and was selected. The audience consisted entirely of women who needed a car. As a surprise, Chevrolet, in conjunction with the Oprah Winfrey show, gave a $25,000 car to each woman in the audience. Cheryl was ecstatic, but is now concerned that the gift of the car will be included in her taxable income for purposes of the federal income tax. Must she include it in her income?

8.Joy Conover owns a duplex which she has held as rental property for the past three years. She originally purchased the property for $375,000 three years ago. This year, interest rates have risen considerably and the value of the duplex has fallen. She sold the property to her daughter, Cheryl, for $250,000. Can she claim a loss for tax purposes, and if so, how much?

9.James was imprisoned for 15 years for a crime he did not commit. Last year, DNA evidence demonstrated his innocence and he was released from prison. The state paid him $4 million as compensation for the years he spent behind bars. Can he exclude the payment from income as compensation for damages?

10.Clarice borrowed against her life insurance policy to pay medical expenses. When the total amount(s) borrowed reached the policy’s cash value, the insurance company terminated the contract. She received no money, but did not have to repay the loans. Does she have to report any income on her individual tax return in connection with the termination of the life insurance contract?