IRS Enrolled Agent (Businesses) (SEE Part 2) Practice Questions & Study Guide

Free IRS Enrolled Agent (Businesses) (SEE Part 2) Practice Questions Preview

• Question 1

  Gerald operates a freelance graphic design business as a sole proprietor. During the tax year, he earned $85,000 in gross receipts and incurred $22,000 in ordinary business expenses. He also paid $6,500 in self-employment tax for the year. What is Gerald's adjusted gross income (AGI) from this business activity, assuming no other income or deductions?

  • A. $63,000
  • B. $59,750
  • C. $56,500
  • D. $63,000 minus the full $6,500 SE tax deduction

  Correct Answer: B

  Explanation:

  Option B ($59,750) is correct. Gerald's AGI reflects his net self-employment income reduced by the deductible portion of self-employment tax.

  Reason

  Gerald's net profit from self-employment is $85,000 gross receipts minus $22,000 business expenses = $63,000. Under IRC §164(f), a self-employed individual may deduct one-half of self-employment tax in arriving at AGI. One-half of $6,500 = $3,250. Therefore, AGI = $63,000 − $3,250 = $59,750. This deduction is an above-the-line adjustment taken on Schedule 1 of Form 1040, not on Schedule C itself.

  Why the other options are not as suitable

  • Option A ($63,000) is wrong because it ignores the IRC §164(f) deduction for one-half of self-employment tax, which is a required above-the-line AGI adjustment.
  • Option C ($56,500) is wrong because it deducts the full $6,500 SE tax from net profit rather than only the deductible half ($3,250), overstating the reduction.
  • Option D is wrong because it incorrectly frames the deduction as the 'full $6,500'; only one-half of SE tax ($3,250) is deductible under IRC §164(f), making '$63,000 minus the full $6,500' an incorrect computation.

  Citations

  • https://www.irs.gov/publications/p334
  • https://www.irs.gov/instructions/i1040gi

• Question 2

  Maria formed a single-member LLC (SMLLC) in her state but did not file any entity classification election with the IRS. How does the IRS classify her SMLLC for federal income tax purposes by default?

  • A. As a C corporation subject to corporate income tax rates
  • B. As a disregarded entity, with income and expenses reported on Schedule C of her Form 1040
  • C. As an S corporation eligible for pass-through taxation
  • D. As a partnership requiring a Form 1065 filing

  Correct Answer: B

  Explanation:

  Option B is correct. A single-member LLC that files no entity classification election is treated as a disregarded entity by default, and its income flows to Schedule C of the owner's Form 1040.

  Reason

  Under the IRS check-the-box regulations (Treas. Reg. §301.7701-3), a domestic single-member LLC is automatically classified as a disregarded entity unless it affirmatively elects otherwise on Form 8832. As a disregarded entity, the LLC is ignored for federal tax purposes and all income, deductions, and credits are reported directly on the owner's Schedule C (Form 1040), subject to self-employment tax on net earnings.

  Why the other options are not as suitable

  • Option A is wrong because a SMLLC is never automatically classified as a C corporation; corporate status requires an affirmative election on Form 8832.
  • Option C is wrong because S corporation status requires both a corporate election on Form 8832 AND a subsequent S election on Form 2553 — neither of which Maria filed.
  • Option D is wrong because partnership classification under Form 1065 requires at least two members; a single-member entity cannot be a partnership by default.

  Citations

  • https://www.irs.gov/businesses/small-businesses-self-employed/single-member-limited-liability-companies
  • https://www.ecfr.gov/current/title-26/chapter-I/subchapter-F/part-301/subject-group-ECFRd8c398ea7d44a02/section-301.7701-3

• Question 3

  Kevin is a sole proprietor who purchased a piece of equipment for $14,000 and placed it in service on July 1 of the current tax year. He elects to expense the full cost under Section 179. Kevin's net profit from the business before the Section 179 deduction is $9,500. What is the maximum amount Kevin can deduct under Section 179 in the current year, and what happens to any excess?

  • A. Kevin can deduct $14,000 and carry forward the $4,500 excess to future years
  • B. Kevin can deduct $9,500 and carry forward the $4,500 excess to future years
  • C. Kevin can deduct $14,000 in the current year with no carryforward
  • D. Kevin cannot elect Section 179 because the equipment was placed in service mid-year

  Correct Answer: B

  Explanation:

  Option B is correct. Section 179 deductions are limited to the taxpayer's net business taxable income, so Kevin can deduct only $9,500 in the current year and carry forward the $4,500 excess.

  Reason

  Under IRC §179(b)(3), the Section 179 deduction is limited to the aggregate taxable income derived from the active conduct of any trade or business during the year. Kevin's net profit before the §179 deduction is $9,500, which caps his current-year deduction at that amount. The $4,500 excess ($14,000 − $9,500) is not lost; it is carried forward to succeeding taxable years and treated as a §179 deduction in those years under IRC §179(b)(3)(B).

  Why the other options are not as suitable

  • Option A is wrong because it ignores the taxable income limitation of IRC §179(b)(3); a taxpayer cannot deduct more than net business taxable income in the current year even if the full §179 election is made.
  • Option C is wrong for the same reason — the full $14,000 cannot be deducted in one year when net profit is only $9,500; the income limitation caps the current-year deduction.
  • Option D is wrong because the mid-year placement date is irrelevant to §179 eligibility; unlike MACRS depreciation, §179 does not apply the half-year or mid-quarter convention to limit the election — the only relevant limitation is the taxable income cap and the annual dollar ceiling.

  Citations

  • https://www.irs.gov/publications/p946
  • https://www.irs.gov/instructions/i4562

• Question 4

  A single-member LLC owned by an individual has elected to be treated as a corporation for federal tax purposes by filing Form 8832. Which of the following statements is CORRECT regarding this election?

  • A. The LLC is now automatically treated as an S corporation and files Form 1120-S
  • B. The LLC is treated as a C corporation and files Form 1120; a separate S election on Form 2553 would be required to be treated as an S corporation
  • C. The LLC reverts to disregarded entity status after five years if no further action is taken
  • D. The Form 8832 election is only valid if the LLC has more than one employee

  Correct Answer: B

  Explanation:

  Option B is correct. Filing Form 8832 to elect corporate tax treatment makes the LLC a C corporation for federal tax purposes, and a separate Form 2553 must be filed to elect S corporation status.

  Reason

  When a single-member LLC files Form 8832 (Entity Classification Election), it elects to be treated as an association taxable as a corporation under the check-the-box regulations (Treas. Reg. § 301.7701-3). This default classification under Form 8832 results in C corporation status, requiring the entity to file Form 1120. To obtain S corporation treatment, the LLC must separately and timely file Form 2553 (Election by a Small Business Corporation), and it must meet all S corporation eligibility requirements under IRC § 1361.

  Why the other options are not as suitable

  • Option A is wrong because Form 8832 alone never automatically confers S corporation status — S corporation treatment requires a distinct and separate election via Form 2553, and the two elections are legally independent.
  • Option C is wrong because there is no five-year automatic reversion to disregarded entity status; once a Form 8832 corporate election is made, a 60-month restriction generally prevents re-election back to a prior classification without IRS consent under Treas. Reg. § 301.7701-3(c)(1)(iv).
  • Option D is wrong because the validity of a Form 8832 election has no requirement tied to the number of employees; eligibility is based on the entity being a domestic eligible entity, not its headcount.

  Citations

  • https://www.irs.gov/forms-pubs/about-form-8832
  • https://www.irs.gov/forms-pubs/about-form-2553

• Question 5

  Sandra operates a sole proprietorship and uses a home office exclusively and regularly for business. Her home has 2,000 square feet, and her office occupies 200 square feet. Her total home expenses for the year were $18,000 (mortgage interest and taxes are NOT included in this figure; this represents only utilities, insurance, and depreciation). Her net business profit before the home office deduction is $4,200. What is the allowable home office deduction using the regular method?

  • A. $1,800, limited to her net business profit of $4,200
  • B. $1,800, and she may carry forward the unused portion
  • C. $4,200, since the deduction is capped at net profit
  • D. $18,000, because all home expenses are deductible for a qualifying home office

  Correct Answer: A

  Explanation:

  Option A is correct. The allowable home office deduction is $1,800 (10% of $18,000), and because this amount does not exceed the net business profit of $4,200, the full $1,800 is deductible with no carryforward needed.

  Reason

  Under the regular method for the home office deduction (IRC § 280A), the deductible percentage equals the ratio of the office square footage to total home square footage — here, 200 ÷ 2,000 = 10%. Applying 10% to $18,000 of qualifying home expenses yields $1,800. IRC § 280A(c)(5) limits the home office deduction to the gross income derived from the business use of the home, reduced by business expenses allocable to the activity other than home office expenses. Because net profit ($4,200) exceeds the calculated deduction ($1,800), the full $1,800 is allowed, and no carryforward arises.

  Why the other options are not as suitable

  • Option B is wrong because a carryforward only arises when the calculated home office deduction exceeds the net income limitation; here $1,800 is less than $4,200, so the full amount is deducted currently and nothing is carried forward.
  • Option C is wrong because $4,200 would only be the deduction if the calculated percentage-based amount equaled or exceeded net profit — the deduction is the lesser of the calculated amount or net profit, which here is $1,800, not $4,200.
  • Option D is wrong because not all home expenses are deductible in full; only the business-use percentage of qualifying expenses is deductible, and the deduction is further subject to the net income cap under IRC § 280A(c)(5).

  Citations

  • https://www.irs.gov/publications/p587
  • https://www.irs.gov/taxtopics/tc509

• Question 6

  Which of the following accurately describes a key federal tax compliance difference between a sole proprietorship and a single-member LLC that has NOT made any entity classification election?

  • A. The sole proprietor reports income on Schedule C, while the single-member LLC owner must file a separate Form 1065
  • B. There is no federal tax compliance difference; both are treated as disregarded entities and report on Schedule C of Form 1040
  • C. The single-member LLC is subject to self-employment tax but a sole proprietor is not
  • D. The sole proprietor is subject to self-employment tax but the single-member LLC owner is not

  Correct Answer: B

  Explanation:

  Option B is correct. A sole proprietorship and a single-member LLC that has made no entity classification election are both treated as disregarded entities for federal tax purposes and both report business income and expenses on Schedule C of Form 1040.

  Reason

  Under Treas. Reg. § 301.7701-2(a), a single-member LLC that has not filed Form 8832 is classified as a disregarded entity — meaning it is ignored as a separate entity for federal income tax purposes and its activities are reported directly on the owner's return. Like a sole proprietorship, the single-member LLC owner reports business profit or loss on Schedule C (Form 1040) and computes self-employment tax on Schedule SE. There is therefore no material federal tax compliance difference between the two structures absent an affirmative classification election.

  Why the other options are not as suitable

  • Option A is wrong because a single-member LLC classified as a disregarded entity does not file Form 1065 — Form 1065 is the partnership return required for multi-member entities or LLCs that have elected partnership treatment, not for disregarded single-member LLCs.
  • Option C is wrong because both a sole proprietor and the owner of a disregarded single-member LLC are subject to self-employment tax on net earnings under IRC § 1401; the LLC's disregarded status does not eliminate or reduce SE tax obligations.
  • Option D is wrong because it inverts the actual rule — the single-member LLC owner of a disregarded entity is equally subject to self-employment tax as a sole proprietor; neither is exempt.

  Citations

  • https://www.irs.gov/businesses/small-businesses-self-employed/single-member-limited-liability-companies
  • https://www.irs.gov/forms-pubs/about-schedule-c-form-1040

• Question 7

  Thomas is a sole proprietor who started a new business on March 1. He incurred $6,000 in start-up costs before the business opened. Under IRC §195, if Thomas elects to deduct start-up costs, how much may he deduct in the first year (assuming his business is open for 10 months of the tax year)?

  • A. $5,000 immediately, with the remaining $1,000 amortized over 180 months beginning in March
  • B. $6,000 immediately, because total start-up costs do not exceed $50,000
  • C. $333 per month for 10 months, totaling $3,330 in the first year
  • D. $0, because start-up costs must be capitalized and cannot be deducted until the business is sold

  Correct Answer: A

  Explanation:

  Option A is correct. Under IRC §195, Thomas may deduct $5,000 of start-up costs immediately in the year the business begins, with the remaining $1,000 amortized ratably over 180 months starting from the month the business opened (March).

  Reason

  Under IRC §195(b)(1), a taxpayer who elects to deduct start-up expenditures may deduct up to $5,000 in the taxable year in which the active trade or business begins. Because Thomas's total start-up costs of $6,000 do not exceed the $50,000 phase-out threshold, the full $5,000 is immediately deductible. The remaining $1,000 ($6,000 − $5,000) must be amortized ratably over 180 months, beginning with the month the business commenced (March). For the first year, Thomas would also deduct 10/180 × $1,000 ≈ $55.56 of the amortized portion in addition to the $5,000, but the principal structure of the answer is the $5,000 immediate deduction plus amortization of the remainder starting in March.

  Why the other options are not as suitable

  • Option B is wrong because IRC §195 does not allow a full immediate deduction of all start-up costs simply because they are under $50,000; the $50,000 threshold only determines whether the $5,000 first-year allowance is reduced, not whether 100% can be expensed immediately.
  • Option C is wrong because the 180-month amortization schedule applies only to costs exceeding the $5,000 first-year deduction, not to the entire $6,000 balance; applying $333/month to the full amount ignores the §195(b)(1) immediate deduction allowance.
  • Option D is wrong because IRC §195 expressly permits an election to deduct and amortize start-up costs rather than requiring indefinite capitalization; costs are not locked in until a sale of the business.

  Citations

  • https://www.irs.gov/publications/p535
  • https://leginfo.legislature.ca.gov/faces/codes_displaySection.xhtml?lawCode=RTC§ionNum=17024.5

• Question 8

  Lisa owns a single-member LLC that is treated as a disregarded entity. She contributes appreciated property—a piece of equipment with a fair market value of $30,000 and an adjusted basis of $12,000—to the LLC. What is the federal income tax consequence of this contribution to Lisa at the time of the transfer?

  • A. Lisa recognizes a $18,000 capital gain because property has been transferred to a separate legal entity
  • B. Lisa recognizes no gain or loss because the LLC is disregarded for federal tax purposes and the transfer is treated as if she moved the asset to another pocket
  • C. Lisa recognizes ordinary income of $12,000 equal to the adjusted basis of the property
  • D. Lisa must file Form 8832 to avoid immediate gain recognition on the contribution

  Correct Answer: B

  Explanation:

  Option B is correct. Because Lisa's single-member LLC is a disregarded entity for federal tax purposes, the contribution of property to it is ignored—Lisa is simply moving an asset from one 'pocket' to another with no taxable event.

  Reason

  Under Treasury Regulation §301.7701-3, a single-member LLC that has not elected to be treated as a corporation is a disregarded entity—it does not exist as a separate taxpayer for federal income tax purposes. Consequently, a transfer of property from the sole member to the LLC is treated as a non-event for federal tax; the owner and the LLC are one and the same taxpayer. No gain or loss is recognized because there is no transfer between two distinct taxable persons. Lisa retains her original adjusted basis of $12,000 in the equipment, and the holding period is unchanged.

  Why the other options are not as suitable

  • Option A is wrong because gain recognition on a transfer to an entity requires the transferee to be a separate taxable person; since the SMLLC is disregarded, no such separate entity exists and no $18,000 gain arises.
  • Option C is wrong because there is no provision under federal tax law that triggers ordinary income equal to the adjusted basis of contributed property—this conflates basis concepts with income recognition rules that simply do not apply here.
  • Option D is wrong because Form 8832 is an entity classification election used to change a default classification (e.g., elect corporate treatment); it is not required to avoid gain recognition on a contribution to an already-disregarded SMLLC, and no such filing requirement exists in this scenario.

  Citations

  • https://www.irs.gov/businesses/small-businesses-self-employed/single-member-limited-liability-companies
  • https://www.ecfr.gov/current/title-26/chapter-I/subchapter-F/part-301/subject-group-ECFRf0d87f2a26f8be5/section-301.7701-3

• Question 9

  Alpha Partnership is a general partnership with two equal partners, Carlos and Diana. The partnership has the following items for the tax year: ordinary business income of $80,000, a long-term capital gain of $10,000, and a charitable contribution of $4,000. What amount should Carlos report on his individual return as his distributive share of ordinary business income?

  • A. $37,000
  • B. $40,000
  • C. $43,000
  • D. $45,000

  Correct Answer: B

  Explanation:

  Option B is correct. Carlos's distributive share of ordinary business income from Alpha Partnership is $40,000, which is exactly one-half of the $80,000 ordinary business income—separately stated items like the capital gain and charitable contribution are excluded from this figure.

  Reason

  Under IRC §702(a), a partnership must separately state items that could affect partners' tax liability differently depending on their individual circumstances, including long-term capital gains and charitable contributions. These items are reported separately on Schedule K and passed through to each partner on their Schedule K-1—they are never folded into ordinary business income. The $80,000 of ordinary business income is the only item allocated to ordinary income, and Carlos's 50% equal share is $40,000. The $10,000 capital gain and $4,000 charitable contribution are each reported separately on Carlos's K-1 as $5,000 and $2,000, respectively.

  Why the other options are not as suitable

  • Option A ($37,000) is wrong because it appears to subtract Carlos's $2,000 share of the charitable contribution from $40,000—but charitable contributions are separately stated items under IRC §702(a) and must never be netted against ordinary business income at the partnership level.
  • Option C ($43,000) is wrong because it appears to add Carlos's $5,000 share of the long-term capital gain to $40,000, incorrectly treating a separately stated capital gain item as ordinary business income.
  • Option D ($45,000) is wrong because it appears to add both the $5,000 capital gain share and subtract nothing (or add back the contribution), conflating all K-1 items into a single ordinary income figure in violation of the separate-statement rules of IRC §702(a).

  Citations

  • https://www.irs.gov/instructions/i1065sk1
  • https://www.irs.gov/pub/irs-pdf/i1065.pdf

• Question 10

  Brenda and Frank form a general partnership. Brenda contributes land with a fair market value of $120,000 and an adjusted basis of $70,000. Frank contributes cash of $120,000. Under the general rule of IRC §721, what is the tax consequence to Brenda at the time of contribution?

  • A. Brenda recognizes a $50,000 capital gain on the contribution.
  • B. Brenda recognizes no gain; her basis in the partnership interest is $70,000.
  • C. Brenda recognizes no gain; her basis in the partnership interest is $120,000.
  • D. Brenda recognizes $50,000 of ordinary income because the contribution is treated as a sale.

  Correct Answer: B

  Explanation:

  Option B is correct. Under IRC §721, no gain or loss is recognized when property is contributed to a partnership in exchange for a partnership interest, and the contributing partner's basis in the partnership interest equals the adjusted basis of the contributed property.

  Reason

  Under IRC §721(a), no gain or loss is recognized by a partner or the partnership upon the contribution of property in exchange for a partnership interest. Brenda's outside basis in her partnership interest is determined by IRC §722, which sets her basis equal to the adjusted basis of the contributed property ($70,000), not its fair market value. The $50,000 built-in gain (FMV of $120,000 minus adjusted basis of $70,000) is deferred, not eliminated, and will be tracked under IRC §704(c) to ensure that pre-contribution gain is eventually allocated back to Brenda when the partnership disposes of the land.

  Why the other options are not as suitable

  • Option A is wrong because IRC §721(a) explicitly provides nonrecognition treatment for contributions of property to a partnership in exchange for a partnership interest — no capital gain is triggered at the time of contribution.
  • Option C is wrong because IRC §722 pegs the partner's outside basis to the adjusted basis of contributed property ($70,000), not its fair market value ($120,000); using FMV would allow a permanent step-up in basis without recognition of the built-in gain.
  • Option D is wrong because the contribution of property to a partnership is not treated as a sale under the general rule of IRC §721, and no ordinary income arises; sale treatment under IRC §707(a)(2)(B) could apply only if disguised-sale rules are triggered, which require additional facts not present here.

  Citations

  • https://www.irs.gov/pub/irs-drop/rr-84-52.pdf
  • https://leginfo.legislature.ca.gov/faces/codes_displaySection.xhtml?lawCode=CORP§ionNum=15904.04