CLA/CP Exam Business Organization Types 2 — Questions and Answers
Question 1: Which business entity type provides owners with limited liability protection while allowing profits and losses to pass directly to owners' personal tax returns without entity-level taxation?
- C corporation
- Limited liability company (LLC) (Correct answer)
- General partnership
- Sole proprietorship
Correct answer: Limited liability company (LLC)
An LLC combines limited liability protection with pass-through taxation, avoiding the double taxation that affects C corporations.
Question 2: A limited partnership (LP) must have at least:
- Two general partners and one limited partner
- One general partner and one limited partner (Correct answer)
- Two limited partners and no general partner
- One general partner only
Correct answer: One general partner and one limited partner
A limited partnership requires at least one general partner (with unlimited liability) and at least one limited partner (with limited liability).
Question 3: Which document governs the internal operations of a limited liability company?
- Articles of incorporation
- Operating agreement (Correct answer)
- Partnership agreement
- Corporate bylaws
Correct answer: Operating agreement
An LLC's operating agreement sets forth the rights, duties, and obligations of members and managers, governing internal operations.
Question 4: A shareholder in a C corporation who is also an employee receives compensation. How is that compensation taxed?
- Only at the corporate level
- Only at the shareholder's personal level
- At both the corporate level as a deduction and the shareholder's personal level as income (Correct answer)
- It is exempt from taxation as a pass-through item
Correct answer: At both the corporate level as a deduction and the shareholder's personal level as income
Compensation paid to a shareholder-employee is deducted by the corporation (reducing corporate tax) and is taxable income to the shareholder-employee.
Question 5: Which of the following is NOT a characteristic of a general partnership?
- Partners share management equally by default
- Each partner has unlimited personal liability
- The partnership files an informational tax return
- The partnership itself pays federal income taxes on profits (Correct answer)
Correct answer: The partnership itself pays federal income taxes on profits
A general partnership is a pass-through entity; the partnership itself does not pay federal income tax—profits and losses pass through to individual partners.
Question 6: A professional corporation (PC) is most commonly used by:
- Retail businesses seeking limited liability
- Licensed professionals such as doctors, lawyers, and accountants (Correct answer)
- Nonprofit charitable organizations
- Publicly traded companies with many shareholders
Correct answer: Licensed professionals such as doctors, lawyers, and accountants
Professional corporations are special corporate entities authorized for licensed professionals, allowing them to incorporate while complying with state licensing requirements.
Question 7: What is 'piercing the corporate veil'?
- A corporation registering to do business in a foreign state
- A court holding shareholders personally liable by disregarding the corporate entity (Correct answer)
- The process of converting a corporation to an LLC
- The merger of two corporations into a single entity
Correct answer: A court holding shareholders personally liable by disregarding the corporate entity
Piercing the corporate veil occurs when a court disregards the corporation's separate legal existence and holds shareholders personally liable, typically due to fraud or commingling of funds.
CLA/CP Exam Business Organization Types 2
Which business entity type provides owners with limited liability protection while allowing profits and losses to pass directly to owners' personal tax returns without entity-level taxation?