Ask Jeff: REG “At Risk” Rules and Professional Responsibilities

05 Dec 2011

CPA Exam Study Tips

Each week I pick a question or two from the “Ask Jeff” mailbag. The author(s) of the questions will receive their choice of Wiley CPA Software or a NINJA ASSASSIN/ASSAULT study combo for a section of the CPA Exam.

The rest of the questions will be answered in the weekly CPA Reviewed Podcast.

Q: In my studying, I encountered question about “at risk” Passive income and “at risk” Passive income and losses limitation. I guess I am being thrown back by the phrase “at risk.” Can you enlighten me? – Troy

A: The IRS doesn't want taxpayers investing in businesses that they aren't actively involved in or plopping money down into a rental house and then taking a loss that offsets ordinary income. To combat this, they only allow passive losses to the extent of passive income (i.e. income you earned that you weren't ‘actively' involved in making…you just kind of left it alone and it was cranking out the cash).

Additionally, they impose further restrictions that limit deductibility (by the way, my spell checker doesn't like the word ‘deductibility'…WHAT? if it's not a real word, I am now declaring it as such) based on how much of your investment is “at risk”.

“At risk” means:

  1. Money you contributed
  2. Adjusted basis on property you contributed
  3. Money you borrowed for the investment and are personally liable and have pledged collateral for the loan


Q: I am concerned about how much Professional and Legal Responsibilities will be on Regulation for the CPA Exam. My review course went over some of it, but it seems like there could be more weight to it. – Christopher

A: “??Ethics, Professional, and Legal Responsibilities” constitute 15-19% of Regulation. It mostly pertains to topics that can get a CPA fined, sued, or thrown in the clink.

If you toss in Business Law (I tend to think of REG as Tax and Law/Ethics), you're looking at up to 40% of REG…definitely take Ethics/Law seriously or you will pay for it on exam day.

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