Chapter 5 Practice Question Answers
1. Answer: A. Under a regressive tax system, all taxpayers are taxed at the same rate, no matter their income levels. The United States collects taxes under a progressive tax system, which increases the tax rate as taxpayers report higher income. All taxpayers are required to also calculate their taxes under the alternative minimum tax (AMT) system and pay whichever amount is larger. The transfer tax system refers to taxes levied on large amounts of wealth transferred between anyone other than spouses.
2. Answer: D. Dividends, which are the profits distributed to the shareholders of a qualified company, are considered dividend income and taxed at a preferential rate. Wages, income earned from one’s business, and bonuses paid by an employer are all considered ordinary income.
3. Answer: A. Commissions paid to purchase a security are added to an investment’s cost to arrive at its cost basis. The commission for selling a security is deducted from the sale price when calculating sale proceeds, so it does not affect the investment’s cost basis. Because the overall value of an investment is unchanged as a result of a stock split, neither a forward nor a reverse stock split has an impact on overall cost basis.
4. Answer: A. Taxpayers who have offset both their short-term and long-term capital gains with capital losses and still have a loss left over may apply up to $3,000 of the loss against their ordinary income. The unused portion can then be carried forward into future years.
5. Answer: C. The IRS does allow wash sales; it just places rules on how a wash sale affects the basis of the newly purchased security. Instead of allowing the investor to report the loss on the previously supported security, that loss must be added to the cost basis of the new security.
6. Answer: B. All taxpayers are required by law to calculate the taxes owed under both the traditional tax system and the AMT and pay the