Free CPA REG (Taxation & Regulation) Federal Taxation of Entities Practice Questions
Federal taxation of entities on the CPA REG exam covers C corporation taxation, S corporation requirements and taxation, partnership allocations and distributions, LLC tax treatment, trust and estate taxation, and tax-exempt organization rules.
Sample Questions
Question 1
Easy
Under IRC Section 701, how is a partnership itself taxed on its income?
Solution
A is correct.
Under IRC Section 701, a partnership is not a taxable entity for federal income tax purposes. Instead, the partnership files an information return (Form 1065) and each partner reports their distributive share of partnership items of income, gain, loss, deduction, and credit on their individual tax return (Schedule K-1). This pass-through treatment is a fundamental characteristic of partnership taxation.
Under IRC Section 701, a partnership is not a taxable entity for federal income tax purposes. Instead, the partnership files an information return (Form 1065) and each partner reports their distributive share of partnership items of income, gain, loss, deduction, and credit on their individual tax return (Schedule K-1). This pass-through treatment is a fundamental characteristic of partnership taxation.
Question 2
Medium
How does a throwout rule differ from a throwback rule?
Solution
C is correct.
Both rules address "nowhere" sales — receipts the seller cannot be taxed on in the destination state. A throwback rule sources those sales back to the origin state by adding them to that state's sales-factor numerator. A throwout rule instead removes those sales from the denominator entirely, mechanically increasing the apportionment percentage in every state where the taxpayer is taxable. Both are state apportionment concepts; neither is federal.
Both rules address "nowhere" sales — receipts the seller cannot be taxed on in the destination state. A throwback rule sources those sales back to the origin state by adding them to that state's sales-factor numerator. A throwout rule instead removes those sales from the denominator entirely, mechanically increasing the apportionment percentage in every state where the taxpayer is taxable. Both are state apportionment concepts; neither is federal.
Question 3
Hard
A pass-through entity tax (PTET) regime is designed primarily to:
Solution
C is correct.
The PTET workaround responds to the federal $10,000 SALT cap on individual itemized deductions. By electing for the partnership or S corporation to pay state income tax at the entity level, the tax becomes a federal deduction at the entity level (reducing federal pass-through income to the owners) — sidestepping the cap that would have applied if the same tax had been paid by individuals. IRS Notice 2020-75 blessed this structure. The PTET does not replace federal Form 1065, change federal classification, or universally eliminate owner-level state filing obligations (most PTET states still require an individual return, often with a credit).
The PTET workaround responds to the federal $10,000 SALT cap on individual itemized deductions. By electing for the partnership or S corporation to pay state income tax at the entity level, the tax becomes a federal deduction at the entity level (reducing federal pass-through income to the owners) — sidestepping the cap that would have applied if the same tax had been paid by individuals. IRS Notice 2020-75 blessed this structure. The PTET does not replace federal Form 1065, change federal classification, or universally eliminate owner-level state filing obligations (most PTET states still require an individual return, often with a credit).