Financial Management
Chapter 20 Review Questions
1. The 5 types of income that must be reported on an individual’s tax return are:
· Wages
· Salaries
· Tips
· Interest and Dividend Income
· Business income or loss from a sole proprietorship
2. Tax deductions are amounts deducted from adjusted gross income to determine taxable income; taxpayers should itemize their deductions if their total deductions exceed the standard deduction. Tax credits on the other hand, are deducted directly from taxes due. Credits deductible from income taxes include, but are not limited, credit for child and dependent care expenses, education credits, and foreign tax credit.
3. The major disadvantages of a sole proprietorship are:
· The sole proprietor has unlimited personal liability for the obligations of the business.
· Most non-taxable fringe benefits are severely limited or completely disallowed if they are for the benefit of the sole proprietor.
· The transfer of a portion of the ownership interest in a sole proprietorship requires a change to either a partnership or corporate form.
· The continuity of the business is not assured at the death of the owner.
· The sole proprietor is generally unable to raise a large amounts of capital.
4. The major disadvantage of a corporation are:
· Higher corporate tax rates – corporate tax rates may be higher than individual tax rates.
· Double taxation – corporate profits are taxed twice.
· The corporation cannot pass through to the owner’s favorable tax advantages, such as operating losses and tax credits, that might be more advantageous to the owners than to the corporation.
5. The disadvantage of individual unlimited liability can be overcome by incorporating; however, incorporation results in double taxation which can be avoided by filing as an S corporation or as a LLC and are limited to one type of stock and 100 or fewer stockholders.
6. Tax avoidance is the planning of a transaction to mitigate the impact of taxes or avoid the application of taxes completely; this is entirely legal and should be aggressively pursued. Tax evasion is the fraudulent denial or concealment of a current or future tax liability, such as under-reporting income or claiming unsubstantiated deductions.
7. Two limitations to S corporations are:
· Having 100 or fewer stockholders
· Having only one class...