CPA TCP Entity tax compliance: practice questions with answers

Question 1

Wexford Quarries Corp. has NOL carryforwards of $260,000 from 2021 and $540,000 from 2023; none has been used. Its 2026 taxable income before any NOL deduction is $650,000. For losses arising in tax years beginning after 2017, the NOL deduction is limited to 80% of taxable income computed without the NOL deduction. What are Wexford's 2026 taxable income and the NOL carried to 2027?

1. A Taxable income $0; NOL carried to 2027 $150,000
2. B Taxable income $78,000; NOL carried to 2027 $228,000
3. C Taxable income $130,000; NOL carried to 2027 $150,000
4. D Taxable income $130,000; NOL carried to 2027 $280,000

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Answer: D. Both NOLs arose after 2017, so the aggregate deduction is limited to 80% of taxable income before the NOL deduction (IRC §172(a)(2)).

Limit = 80% x $650,000 = $520,000; NOLs available = $260,000 + $540,000 = $800,000

NOL deduction = $520,000 (the 2021 NOL first, then $260,000 of the 2023 NOL)

2026 taxable income = $650,000 - $520,000 = $130,000

NOL carried to 2027 = $800,000 - $520,000 = $280,000 (indefinite carryforward).

Question 2

Marlowe Textile Corp. had accumulated E&P of $120,000 on January 1, 2026, and a 2026 current E&P deficit of $80,000, which arose evenly during the year. On July 1, 2026, when exactly half of the deficit had accrued, it distributed $260,000 of cash to its sole shareholder, Ines Navarro, whose stock basis was $150,000. It made no other distributions. How is the distribution treated?

1. A Dividend $80,000; return of capital $150,000; capital gain $30,000
2. B Dividend $120,000; return of capital $140,000; capital gain $0
3. C Dividend $40,000; return of capital $150,000; capital gain $70,000
4. D Dividend $0; return of capital $150,000; capital gain $110,000

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Answer: A. When current E&P is a deficit and accumulated E&P is positive, the two are netted at the date of the distribution, prorating the deficit (Treas. Reg. §1.316-2(b)).

E&P available on July 1 = $120,000 - ($80,000 x 1/2) = $80,000 → dividend $80,000

Remaining $180,000: return of capital up to basis $150,000; excess $30,000 capital gain (IRC §301(c)).

Question 3

Merriweather Pumps Inc., a US corporation, received the following in 2026. Which item is foreign-source income?

1. A Interest on bonds issued by a US corporation that earns most of its income abroad
2. B A dividend from Merriweather's wholly owned Delaware subsidiary, whose operations are all in Brazil
3. C Royalties from a Canadian company for the right to use Merriweather's patent at a plant in Ohio
4. D Fees for engineering services that Merriweather employees performed in Chile for a US customer

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Answer: D. Source rules (IRC §861, §862):

- Interest: residence of the payer → US corporation's bonds = US source (§861(a)(1)).
- Dividends: domestic payer = US source (§861(a)(2)).
- Personal services: where performed (§861(a)(3), §862(a)(3)) → Chile = foreign source.
- Royalties: where the intangible is used (§861(a)(4)) → Ohio = US source.

Question 4

Juniper Row Partners is forming in 2026 with three partners and has not established a business purpose for any particular year. Rhoswen Corp. (40% of profits and capital) has a fiscal year ending June 30; Selwyn Corp. (35%) has a fiscal year ending October 31; and Tobias, an individual (25%), uses the calendar year. Which tax year must the partnership adopt?

1. A Year ending October 31
2. B Calendar year
3. C Either June 30 or October 31, as it elects
4. D Year ending June 30

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Answer: D. §706(b)(1)(B): (1) majority-interest year (partners with the same year owning more than 50%): none, the largest group is 40%. (2) Principal partners' year (all 5%-or-more partners with the same year): they all differ. (3) Least aggregate deferral (Reg. §1.706-1(b)(3)): for each candidate year, sum each partner's months of deferral x interest.

| Test year | Rhoswen (40%, June) | Selwyn (35%, Oct) | Tobias (25%, Dec) | Total |
|---|---|---|---|---|
| June 30 | 0 | 4 x 0.35 = 1.4 | 6 x 0.25 = 1.5 | 2.9 |
| October 31 | 8 x 0.40 = 3.2 | 0 | 2 x 0.25 = 0.5 | 3.7 |
| December 31 | 6 x 0.40 = 2.4 | 10 x 0.35 = 3.5 | 0 | 5.9 |

The June 30 year gives the least aggregate deferral.

Question 5

In March 2026 Hester Dunstable, age 71, transferred a $1,800,000 securities portfolio to a revocable living trust. She is the trustee while she is alive; at her death a bank becomes trustee and the assets pass to her three children. In 2026 the portfolio earned $54,000 of dividends, all reinvested by the trust. Which statement is correct?

1. A Hester reports the $54,000 of dividends herself, and the trust assets are included in her gross estate at her death.
2. B The trust is a complex trust, so it pays tax on the $54,000 it reinvested and is excluded from Hester's estate.
3. C The transfer is a completed gift of $1,800,000 that uses $57,000 of annual exclusions, one for each of her three children.
4. D The trust assets avoid probate and are therefore excluded from Hester's gross estate for federal estate tax purposes.

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Answer: A. A revocable trust is always a grantor trust while the grantor is alive (§676): the $54,000 of dividends is reported on Hester's own return. Because she can revoke it, the transfer is not a completed gift, so no annual exclusion is used and no Form 709 is required for the funding. At her death the assets are in her gross estate (§2038), and the trust becomes irrevocable. Its practical advantage is that the assets pass outside probate, which is a state-law benefit, not a federal estate tax saving.

Source: IRC §676 (power to revoke) and §2038 (revocable transfers); Reg. §25.2511-2 (incomplete gifts).

Question 6

Yewdale Watershed Alliance is a §501(c)(3) public charity that has not made the §501(h) election. Which activity is absolutely prohibited for it, whatever its size?

1. A Testifying before a state legislative committee on a clean-water bill, using under 2% of its annual budget
2. B Running a nonpartisan voter-registration drive in its county that does not favor any party or candidate
3. C Hosting a forum on water policy to which every qualified candidate for the county board is invited
4. D Printing a statement in its member newsletter endorsing one of the candidates for the county board

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Answer: D. §501(c)(3) contains two separate limits:
- Lobbying (influencing legislation) is allowed so long as it is not a substantial part of the organization's activities (or, if the §501(h) election is made, within the expenditure limits).
- Political campaign intervention, participating or intervening in any campaign on behalf of or in opposition to any candidate for public office, is an absolute prohibition. There is no de minimis amount.

An endorsement in the newsletter is campaign intervention and can cause loss of exemption and excise taxes under §4955. Nonpartisan voter registration and candidate forums open to all qualified candidates are permitted. Source: IRC §501(c)(3), §501(h), §4955.