CTC Client Advisory & Consultation 2 — Questions and Answers
Question 1: A client asks whether they should structure a new business as an S corporation or a partnership. Which factor most strongly favors the S corporation?
- Self-employment tax savings on reasonable compensation (Correct answer)
- Unlimited number of shareholders allowed
- Ability to have multiple classes of stock
- Foreign investors are permitted as shareholders
Correct answer: Self-employment tax savings on reasonable compensation
S corporation shareholder-employees can reduce self-employment tax by paying reasonable salary and taking remaining profits as distributions not subject to SE tax.
Question 2: During a consultation, a client reveals they have unreported foreign bank accounts with balances exceeding $10,000. What is your primary advisory obligation?
- File amended returns only for open tax years
- Advise the client of FBAR filing requirements and potential penalties (Correct answer)
- Recommend the client close the accounts immediately
- Report the accounts directly to FinCEN on the client's behalf without delay
Correct answer: Advise the client of FBAR filing requirements and potential penalties
The advisor must inform the client of their FBAR (FinCEN Form 114) obligations and the significant civil and criminal penalties for non-compliance.
Question 3: A client received a CP2000 notice proposing additional tax. What is the most appropriate initial step in advising the client?
- Pay the proposed amount to stop interest accrual
- File an amended return agreeing to the changes
- Review the notice against the client's records to determine accuracy (Correct answer)
- Request a Collection Due Process hearing immediately
Correct answer: Review the notice against the client's records to determine accuracy
The first step is to verify whether the IRS's proposed changes are accurate by comparing the notice to the client's actual records and third-party information returns.
Question 4: A high-net-worth client wants to gift appreciated stock to their adult child. Which advisory point is most critical?
- The child will receive a stepped-up basis equal to fair market value at the date of gift
- The donor may owe gift tax if the gift exceeds the annual exclusion amount (Correct answer)
- The donee must pay income tax on the appreciation at the time of receipt
- Gifts of appreciated stock are always subject to the net investment income tax
Correct answer: The donor may owe gift tax if the gift exceeds the annual exclusion amount
Gifts exceeding the annual exclusion ($18,000 per donee in 2024) require filing Form 709, and gift tax may be owed if the donor's lifetime exemption is exhausted.
Question 5: A client asks whether they can deduct a home office used partly for personal purposes. What is the correct advisement?
- Any room used for business qualifies for a partial deduction
- The space must be used regularly and exclusively for business to qualify (Correct answer)
- The home office deduction is available only to employees, not the self-employed
- Personal use up to 14 days per year is permitted without losing the deduction
Correct answer: The space must be used regularly and exclusively for business to qualify
IRC §280A requires the home office space to be used both regularly and exclusively for business; any personal use disqualifies the deduction.
Question 6: A client is considering selling their principal residence where they have lived for 18 months. How should you advise them regarding the Section 121 exclusion?
- They qualify for the full $250,000/$500,000 exclusion
- They do not qualify because they haven't met the 2-year ownership and use test
- They qualify for a partial exclusion if the sale is due to a qualifying unforeseen circumstance (Correct answer)
- They must pay a 10% penalty on any gain since they have not met the holding period
Correct answer: They qualify for a partial exclusion if the sale is due to a qualifying unforeseen circumstance
Taxpayers who fail the 2-year test due to a change in employment, health, or unforeseen circumstances may claim a pro-rata partial exclusion under IRC §121(c).
Question 7: A client's C corporation has accumulated earnings of $350,000 with no documented business purpose. What risk should you communicate?
- Alternative Minimum Tax exposure on excess earnings
- Accumulated Earnings Tax under IRC §531 on amounts beyond reasonable business needs (Correct answer)
- Personal holding company tax if passive income exceeds 60% of adjusted ordinary gross income
- Constructive dividend treatment for all retained earnings
Correct answer: Accumulated Earnings Tax under IRC §531 on amounts beyond reasonable business needs
IRC §531 imposes a 20% accumulated earnings tax on C corporations that retain earnings beyond reasonable business needs without a documented justification.
CTC Client Advisory & Consultation 2
A client asks whether they should structure a new business as an S corporation or a partnership.
Which factor most strongly favors the S corporation?