[smsingla]

I am stuck at these two questions from Wiley Text Book. I have two similar questions but explanation in the back of questions is very different for both of them. Its Module 20A Personal Financial Statements. Page 740. MCQ # 1 and 10. Please help me understand the difference. Thanks in advance 🙂

REG 81
BEC 74,65,78
FAR 79
AUD 85 DONE!!!

[Anonymous]

Hey smsingla, if you could post the questions and answers (even if not the explanations), that would really help us…many of us don't have the book or don't have it handy! I got rid of my books as soon as I could, because I was so ready to be done with it all, so I don't have my book to be able to reference the questions but would be glad to help…

[Anonymous]

Hey smsingla, if you could post the questions and answers (even if not the explanations), that would really help us…many of us don't have the book or don't have it handy! I got rid of my books as soon as I could, because I was so ready to be done with it all, so I don't have my book to be able to reference the questions but would be glad to help…

[smsingla]

MCQ#1 .

Green, a calendar-year taxpayer, is preparing a personal statement of financial condition as of April 30, year 2. Green’s year 1 income tax liability was paid in full on April 15, year 2. Green’s tax on income earned between January and April year 2 is estimated at $20,000. In addition, $40,000 is estimated for income tax on the differences between the estimated current values and current amounts of Green’s assets and liabilities and their tax bases at April 30, year 2. No withholdings or payments have been made towards the year 2 income tax liability. In Green’s April 30, year 2 statement of financial condition, what amount should be reported, between liabilities and net worth, as estimated income taxes?

a. $0

b. $20,000

c. $40,000

d. $60,000

10. Shea, a calendar-year taxpayer, is preparing a personal statement of financial condition as of April 30, year 2. Shea’s year 1 income tax liability was paid in full on April 15, year 2. Shea’s tax on income earned from January through April year 2 is estimated at $30,000. In addition, $25,000 is estimated for income tax on the differences between the estimated current values of Shea’s assets and the current amounts of liabilities and their tax bases at April 30, year 2. No withholdings or payments have been made towards the year 2 income tax liability. In Shea’s statement of financial condition at April 30, year 2, what is the total of the amount or amounts that should be reported for income taxes?

a. $0

b. $25,000

c. $30,000

d. $55,000

REG 81
BEC 74,65,78
FAR 79
AUD 85 DONE!!!

[smsingla]

MCQ#1 .

Green, a calendar-year taxpayer, is preparing a personal statement of financial condition as of April 30, year 2. Green’s year 1 income tax liability was paid in full on April 15, year 2. Green’s tax on income earned between January and April year 2 is estimated at $20,000. In addition, $40,000 is estimated for income tax on the differences between the estimated current values and current amounts of Green’s assets and liabilities and their tax bases at April 30, year 2. No withholdings or payments have been made towards the year 2 income tax liability. In Green’s April 30, year 2 statement of financial condition, what amount should be reported, between liabilities and net worth, as estimated income taxes?

a. $0

b. $20,000

c. $40,000

d. $60,000

10. Shea, a calendar-year taxpayer, is preparing a personal statement of financial condition as of April 30, year 2. Shea’s year 1 income tax liability was paid in full on April 15, year 2. Shea’s tax on income earned from January through April year 2 is estimated at $30,000. In addition, $25,000 is estimated for income tax on the differences between the estimated current values of Shea’s assets and the current amounts of liabilities and their tax bases at April 30, year 2. No withholdings or payments have been made towards the year 2 income tax liability. In Shea’s statement of financial condition at April 30, year 2, what is the total of the amount or amounts that should be reported for income taxes?

a. $0

b. $25,000

c. $30,000

d. $55,000

REG 81
BEC 74,65,78
FAR 79
AUD 85 DONE!!!

[smsingla]

Here are the explanations :

1. (c) Only the estimated amount of income taxes on the differences between the estimated current values and current amounts of assets and liabilities is presented between liabilities and net worth. Answer (a) is incorrect because the $40,000 estimated income taxes on the differences between the estimated current values and current amounts of assets and liabilities is presented between liabilities and net worth. Answer (b) is incorrect because the $20,000 current tax liability would be presented as a liability. Answer (d) is incorrect because the $20,000 current tax liability would be presented as a liability while the $40,000 amount would be presented between liabilities and net worth.

10. (d) A personal statement of financial condition presents estimated current values of assets and liabilities, estimated income taxes, and estimated net worth at a specified date. Income taxes payable should include unpaid income taxes for completed tax years, the estimated tax for the elapsed portion of the current year, and the estimated income tax on the difference between the current value of assets and the current amounts of liabilities and their respective tax bases. Thus, the amount to be reported on Shea’s statement of financial condition for income taxes is $55,000, equal to the sum of $30,000 tax on income earned from January through April and $25,000 estimated income tax on the difference between the current value and tax bases of assets and liabilities.

REG 81
BEC 74,65,78
FAR 79
AUD 85 DONE!!!

[smsingla]

Here are the explanations :

1. (c) Only the estimated amount of income taxes on the differences between the estimated current values and current amounts of assets and liabilities is presented between liabilities and net worth. Answer (a) is incorrect because the $40,000 estimated income taxes on the differences between the estimated current values and current amounts of assets and liabilities is presented between liabilities and net worth. Answer (b) is incorrect because the $20,000 current tax liability would be presented as a liability. Answer (d) is incorrect because the $20,000 current tax liability would be presented as a liability while the $40,000 amount would be presented between liabilities and net worth.

10. (d) A personal statement of financial condition presents estimated current values of assets and liabilities, estimated income taxes, and estimated net worth at a specified date. Income taxes payable should include unpaid income taxes for completed tax years, the estimated tax for the elapsed portion of the current year, and the estimated income tax on the difference between the current value of assets and the current amounts of liabilities and their respective tax bases. Thus, the amount to be reported on Shea’s statement of financial condition for income taxes is $55,000, equal to the sum of $30,000 tax on income earned from January through April and $25,000 estimated income tax on the difference between the current value and tax bases of assets and liabilities.

REG 81
BEC 74,65,78
FAR 79
AUD 85 DONE!!!

[Anonymous]

Well dang…seeing the questions now, I'm not sure I can help much anyway! lol. Wait…on a final read-through, I see the difference! The first one asks for estimated income taxes that go in a certain portion of the statement whereas the second one asks for the total of the amount or amounts that should be reported for income taxes. So, the taxes on earnings goes in one section, and the estimated taxes on the assets goes in another. The first question is asking for just that second section; the second question is asking for both together. Does that make sense?

[Anonymous]

Well dang…seeing the questions now, I'm not sure I can help much anyway! lol. Wait…on a final read-through, I see the difference! The first one asks for estimated income taxes that go in a certain portion of the statement whereas the second one asks for the total of the amount or amounts that should be reported for income taxes. So, the taxes on earnings goes in one section, and the estimated taxes on the assets goes in another. The first question is asking for just that second section; the second question is asking for both together. Does that make sense?

[smsingla]

Not really….lol 🙁

REG 81
BEC 74,65,78
FAR 79
AUD 85 DONE!!!

[smsingla]

Not really….lol 🙁

REG 81
BEC 74,65,78
FAR 79
AUD 85 DONE!!!

[Anonymous]

OK…let me try to explain better then. 🙂

I took FAR in early July. At that point, I had worked for 6+ months of the year. If I quit work that day and didn't sell any assets, work any jobs, etc., for the rest of the year, I would still have income for the year that was subject to federal income tax. Let's say that my taxable income at that point would have been $5,000 in the 10% tax bracket. That means that, if nothing had been withheld, I had a liability to the IRS to pay $500 in taxes. Even if I did nothing else to incur taxes, I still had that liability. So, in a financial statement, this $500 would go in the “Liabilities” section. This is the amount that matters for cash flow. If, like I said, I didn't work, buy, or sell for the rest of the year (and didn't have any living expenses etc), then if I only had $400 in the bank after my last paycheck, then I would be in trouble when it came time to pay the taxes, even if I had $1,000,000 worth of real estate…because the liability was due and without buying or selling anything, that real estate was useless to me!

However, if someone is wanting to see my total net worth, then they're interested in what happens if I buy or sell, too. Say I have that $1,000,000 worth of real estate. If after quitting my job in July, I proceeded to sell that real estate, that I would need to also account for the likely tax on the gains of that real estate. As of July when I quit and still own the real estate, I don't own the tax; however, if I were to liquidate my assets by selling it, then I would have gains tax on relevant gains. If I'd bought that $1,000,000 worth of real estate for $100,000, then I would have $900,000 subject to tax….so, after liquidation, I wouldn't have $1,000,000 more of cash in the bank, because I'd owe taxes out of that…say $90,000 in taxes. So, when it comes to a net worth calculation, they don't just want to know that you have $400 cash + $1,000,000 real estate – $500 current tax liability; they also want to know that in order to liquidate the $1,000,000 of real estate, you'll have a $90,000 tax bill.

Does the distinction between the two tax categories make sense – the liability incurred from actions already performed (working in this example), and the estimated future impact from actions not yet done but important to the calculations (like selling the real estate)?

If so, in the first question, they asked “What is the amount of estimated tax that should go between liabilities and net worth?” They're saying “We don't want the liability part, just the estimated part”, so that'd be the $90,000 in my example above – it's the tax expense that would be incurred if the items were liquidated, but that isn't due the following April 15th unless you do indeed take that action.

In the second question, they asked “What's the total amount of tax that should be on this financial statement?” Liabilities, estimates, etc., if you add it all up, liquidate everything this year, how big of a tax check will we be writing to the IRS on April 15th? (Technically the check on APril 15th would include penalties etc. if payments were not made through the year…but penalties are not taxes, so just pretend that they're writing one check for penalties and one for taxes, so that my check illustration holds true. 😉 ) So in this second question, they want to know about all taxes on the statement, not just the estimated ones…so it'd be $90,500 because it's both together instead of just one.

Did all of that ^ help any more?

[Anonymous]

OK…let me try to explain better then. 🙂

I took FAR in early July. At that point, I had worked for 6+ months of the year. If I quit work that day and didn't sell any assets, work any jobs, etc., for the rest of the year, I would still have income for the year that was subject to federal income tax. Let's say that my taxable income at that point would have been $5,000 in the 10% tax bracket. That means that, if nothing had been withheld, I had a liability to the IRS to pay $500 in taxes. Even if I did nothing else to incur taxes, I still had that liability. So, in a financial statement, this $500 would go in the “Liabilities” section. This is the amount that matters for cash flow. If, like I said, I didn't work, buy, or sell for the rest of the year (and didn't have any living expenses etc), then if I only had $400 in the bank after my last paycheck, then I would be in trouble when it came time to pay the taxes, even if I had $1,000,000 worth of real estate…because the liability was due and without buying or selling anything, that real estate was useless to me!

However, if someone is wanting to see my total net worth, then they're interested in what happens if I buy or sell, too. Say I have that $1,000,000 worth of real estate. If after quitting my job in July, I proceeded to sell that real estate, that I would need to also account for the likely tax on the gains of that real estate. As of July when I quit and still own the real estate, I don't own the tax; however, if I were to liquidate my assets by selling it, then I would have gains tax on relevant gains. If I'd bought that $1,000,000 worth of real estate for $100,000, then I would have $900,000 subject to tax….so, after liquidation, I wouldn't have $1,000,000 more of cash in the bank, because I'd owe taxes out of that…say $90,000 in taxes. So, when it comes to a net worth calculation, they don't just want to know that you have $400 cash + $1,000,000 real estate – $500 current tax liability; they also want to know that in order to liquidate the $1,000,000 of real estate, you'll have a $90,000 tax bill.

Does the distinction between the two tax categories make sense – the liability incurred from actions already performed (working in this example), and the estimated future impact from actions not yet done but important to the calculations (like selling the real estate)?

If so, in the first question, they asked “What is the amount of estimated tax that should go between liabilities and net worth?” They're saying “We don't want the liability part, just the estimated part”, so that'd be the $90,000 in my example above – it's the tax expense that would be incurred if the items were liquidated, but that isn't due the following April 15th unless you do indeed take that action.

In the second question, they asked “What's the total amount of tax that should be on this financial statement?” Liabilities, estimates, etc., if you add it all up, liquidate everything this year, how big of a tax check will we be writing to the IRS on April 15th? (Technically the check on APril 15th would include penalties etc. if payments were not made through the year…but penalties are not taxes, so just pretend that they're writing one check for penalties and one for taxes, so that my check illustration holds true. 😉 ) So in this second question, they want to know about all taxes on the statement, not just the estimated ones…so it'd be $90,500 because it's both together instead of just one.

Did all of that ^ help any more?

[Author]

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